New iPhone Launch: Big Choices Ahead for Apple, Inc.

Apple (AAPL 1.87%) enthusiasts have been trained for the past few years to anticipate new iPhones in the fall. As of last week, Apple watchers now have a specific date: Apple is expected to debut its next-generation iPhones on September 9.

How will Apple top its best-selling iPhone lineup ever? Source: Apple.

The rumor mill went to work months ago trying to figure out what to expect in the latest and greatest iPhones -- expected to be called the iPhone 6s and iPhone 6s Plus. Most observers expect that Apple will incorporate its "Force Touch" technology in the new iPhones. Hardware upgrades will likely include a higher-resolution camera, an increase from 1GB to 2GB of RAM, and a faster processor. Apple may also introduce a new "Rose Gold" color option.

But while the changes at the top of Apple's iPhone lineup have been widely discussed, it's much less clear how Apple will fill out the lower price tiers for the coming year. Apple's choices in this regard could have a big impact on the company's fiscal 2016 financial results.

No clear precedent
A few years ago, Apple had a clear formula for filling the lower-price tiers of its iPhone lineup. The 16GB version of the newest iPhone would be sold for $199 with a two-year contract in the U.S. (or $649 off-contract). The prior-year model would be $100 cheaper, while the model from two years earlier -- equipped with only 8GB of storage -- would be free with a two-year contract or $449 off-contract.

However, Apple broke this precedent two years ago. Instead of dropping the price of the iPhone 5 by $100 to take over the mid-tier price point, Apple instead introduced the iPhone 5c in that spot. The 5c was very similar to the iPhone 5 in terms of hardware specs, but had a plastic case, making it cheaper to manufacture.

Apple further complicated matters last year by adding the iPhone 6 Plus to the mix, priced at $299 with a two-year contract in the U.S. This widened the iPhone lineup from three devices to four.

The traditional approach
Apple has a lot of options for what to do with the lower portion of its iPhone pricing hierarchy. However, there are a few key variations that investors should watch out for.

A "traditional" approach would involve dropping the prices of the iPhone 5s, iPhone 6, and iPhone 6 Plus by $100 each. For people still using subsidized phone plans, the cost of the base-memory configurations would be the following:

This iPhone lineup would probably be ideal for maximizing unit sales. By dropping the prices of the extremely popular iPhone 6 and iPhone 6 Plus, Apple may be able to stimulate demand among more price-sensitive consumers.

The downside to this strategy is that the discounted iPhone 6 and iPhone 6 Plus might cannibalize the new iPhone models. That could hurt Apple's profit margin by shifting the iPhone sales mix away from the priciest models.

The minimalist update
At the opposite end of the spectrum, Apple could make minimal changes to its iPhone product lineup for the coming year. In this scenario, it would discontinue the iPhone 6 and iPhone 6 Plus rather than sell them at a discount. They would be replaced by the iPhone 6s and iPhone 6s Plus, while the smaller iPhone 5s and iPhone 5c would remain as value options at their current prices.

While this would be an unusual move for Apple, it wouldn't be totally unprecedented. In the fall of 2012, Apple discontinued the third-generation iPad, replacing it with a new version featuring a faster processor. But the iPad 2 stayed at its $399 starting price as the entry-level full-size iPad.

If Apple goes in this direction, this is what its iPhone lineup would look like next year:

This strategy would be much better for Apple's gross margin than the "traditional" approach. Since the iPhone 5c and iPhone 5s are already two years old, leaving them as the value options might push more people to opt for the pricier and more profitable iPhone 6s and iPhone 6s Plus.

On the flip side, the lack of compelling options at lower price points might drive some value-minded consumers to buy mid-range Android devices instead. Many analysts already doubt that Apple will post significant growth in iPhone sales next year, and adopting a margin-preservation strategy like this would probably make matters worse.

The "2013" strategy
A third noteworthy path that Apple could follow would be to use plastic as a differentiator, as it did in 2013. The only difference from the "traditional" approach is that the iPhone 6 and iPhone 6 Plus would be replaced with plastic-cased versions of themselves: perhaps called the iPhone 6c and iPhone 6c Plus.

That would create the following iPhone lineup:

This potential lineup might offer the best of both worlds. The iPhone 6c and iPhone 6c Plus would be roughly comparable to the iPhone 6 and iPhone 6 Plus, respectively, including Apple Pay functionality. They would still be good tools to attract more price-conscious consumers looking for large-screen phones, which could help boost Apple's sales.

At the same time, moving to a plastic casing would reduce manufacturing costs. That would mitigate the potential gross margin pressure caused by people trading down from the top-of-the-line iPhone models.

Which way will Apple go?
In addition to the three major scenarios laid out here, there are other possibilities for how Apple will tweak its iPhone lineup. For example, it could drop the price of the iPhone 6 but discontinue the iPhone 6 Plus, forcing people to pay up for a $299 iPhone 6s Plus if they want the largest screen size.

Alternatively, Apple could discontinue the iPhone 6 and iPhone 6 Plus (as in the second scenario) but introduce a new 4" phone as the iPhone 6c at the $99 on-contract price point. A 4" iPhone 6c with better specs than the iPhone 5s and Apple Pay functionality would probably sell better than leaving the iPhone 5s at its mid-range price.

I think Apple is likely to err on the side of driving unit sales growth at the expense of profit margin. CEO Tim Cook has repeatedly said that he doesn't worry about Apple cannibalizing its own products. As a result, I think that there will be some iPhone 6 version at the $99 price point, though whether there will be a price-reduced 5.5" phablet is less clear.

We will find out in just a few short weeks which way Apple decided to go. Its choices about the next iPhone lineup could have a big impact on Apple's revenue growth and profit margin in the coming year.