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No, Apple Inc. Shouldn't Cut iPhone Prices

By Ashraf Eassa – Feb 2, 2016 at 8:30AM

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A race to the bottom would be disastrous for the iDevice maker.

In a recent article published in Seeking Alpha, contributor Mark Hibben offers his perspective on how Apple (AAPL -1.51%) CEO Tim Cook can "turn Apple around."

In the article, Hibben suggests that Apple should compete on price in a bid to gain further market segment share and grow its installed base. He justifies this by arguing -- and I find this truly shocking -- that Apple doesn't need to capture 94% of the industry's smartphone profits.

Here's why Apple management should not heed this advice.

Competing on price is a fool's errand ...
By competing on price, Apple immediately reduces its gross profit margin per device. Although this might lead to enough incremental unit sales to recover the lost per-unit revenue and ultimately gross profit dollars, this is by no means guaranteed.

Further, if Apple cuts prices, there is nothing stopping Apple's competition from doing the exact same thing. In this case, the smartphone market -- even the premium portion that has been so good to Apple -- becomes a race to the bottom.

In races to the bottom, it's tough for anybody to actually make any money. Eventually the strongest players survive/consolidate with the weaker vendors simply driven out of business, but by this point consumers become so addicted to cheap that even in a consolidated environment, vendors find themselves unable to get customers to pay more.

It can get ugly really, really quickly.

Competing on value? Totally different story
Although I believe that trying to compete on price is a poor long-term strategy for Apple (especially when it is able to continue to gain share at record-setting device average selling prices), I am totally for Apple trying to compete on value.

Value usually comes in the form of new hardware technologies and software that can leverage that hardware to deliver fundamentally new and better experiences. Think things like new versions of iOS, 3D Touch, Touch ID, more advanced cameras, more sophisticated processors, and so on.

At appropriate scale, adding these features isn't going to add a whole lot to the bill of materials of the device (especially if these features are software-based). However, such features -- especially implemented right from both a hardware and software perspective -- require very significant investment in research and development.

As long as Apple can suck up the majority of the industry's profits, other vendors simply won't have the ability to invest in the research and development required to truly compete with Apple over the long term.

Keep delivering value and customers will keep on upgrading
I believe that as long as Apple is able to continue to deliver real innovations in future iPhones, then it should be able to both continue to gain share at the high end of the market (although not nearly as quickly as it did with the launch of the iPhone 6/6 Plus).

And, even if the high end of the smartphone market slows down significantly, staying flat or growing at, perhaps, a low-single digit clip from here on out, that's not at all a bad business for Apple.

Ashraf Eassa has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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