With wireless carriers in the U.S. moving away from subsidized smartphone contracts and toward installment plans, it's getting harder for Apple (AAPL -1.00%) to hide the fact that a new iPhone will actually cost $649. When the company announced pricing for the new iPhone 6s and iPhone 6s Plus, it also announced a new option to pay for your iPhone in installments paid directly to Apple.
Apple's new iPhone Upgrade Program starts at $32.41 per month and includes two years of AppleCare+, the extended warranty Apple offers for all of its devices. After 12 payments, a user can go to the Apple Store and trade in an existing iPhone for a brand-new model. Let's look at how this will affect consumers and Apple.
While $32.41 per month for an iPhone is more expensive than what you can get from any of the major wireless carriers, there are a couple of benefits to going with Apple over a carrier.
First, the $32.41 includes an extended warranty. If you accidentally damage your phone, Apple will fix it or replace it for a $99 deductible. Similar insurance plans cost between $7 and $11 extra per month from the wireless carriers. That takes your typical $27.08-per-month installment plan for the low-end iPhone model, and pushes it above the price paid to Apple. One caveat is that insurance plans from carriers cover theft, whereas AppleCare+ does not.
The second benefit to the iPhone Upgrade Program is that it lets you upgrade your phone every 12 months. Apple will collect your phone, you'll carry no balance from the previous contract, and you'll start a new two-year installment plan with the new iPhone.
Comparable plans from Verizon (VZ -0.17%) and AT&T (T 1.27%) won't let you upgrade as often. Verizon requires subscribers to pay off 75% of their device's value before they're eligible to upgrade. On a 24-month installment plan, that would be 18 months.
Likewise, AT&T requires customers to wait 18 months to upgrade on its 24-month installment plan. However, AT&T offers a 20-month installment plan, which lets subscribers upgrade after 12 months. Its price: $32.50 per month. The same as Apple's plan.
Consumers interested in insuring their phone and upgrading every year are best off going with Apple's iPhone Upgrade Program.
Apple wins bigger
With terms enabling iPhone Upgrade Plan subscribers to upgrade once a year, Apple stands to increase the frequency on iPhone upgrades. As I mentioned, AT&T and Verizon typically allow upgrades after 18 months. Moreover, the ability to pay for equipment separately has extended the upgrade cycle beyond the typical two years Apple saw with the subsidy model.
Offering subscribers the option to upgrade every 12 months should mitigate the impact of the carriers' equipment installment plans.
While Apple won't collect the entire value of an iPhone upfront, the terms of the plan ensure that Apple will collect at least half the value of the iPhone before subscribers can upgrade. It can then refurbish and sell the old iPhones, which generally sell for more than half their retail price even after a year. That's another potential for additional revenue.
Additionally, Apple will be able to lock subscribers on the iPhone Upgrade Program into the Apple ecosystem. When you come to trade in your old iPhone, your only option is to buy another iPhone. With the carriers, subscribers can opt for a competitor's phone, which may be slightly newer considering the typical 18-month upgrade period at the two largest carriers.
Finally, Apple benefits from the sale of AppleCare+ included in the price of the installments. Apple increased the price for its insurance program with the release of the new iPhones from $99 to $129. That's high-margin revenue and the installment plans means Apple will sell more of it.
While Apple will have to cover the interest costs, its constantly growing pile of cash should ensure that it can handle the delayed cash flow from installment plans. That cash will also enable Apple to receive the best possible interest rates when it borrows due to the minimal credit risk, just as it's done in the bond markets.
Overall, the new iPhone Upgrade Program looks like a win-win for Apple and consumers.