Apple, Inc.'s Huge Profit Margin -- Evidence of Sustainable Pricing Power?

By Markets Fool.com

Apple's first-fiscal quarter of 2014 couldn't have gone any better. The company crushed all expectations. While there were a number of impressive numbers from the release, one of the most intriguing metrics was Apple's gross profit margin. The higher-than-expected figure joins an ongoing story about Apple's monstrous level of profitability, vouching for the company's pricing power and economies of scale.

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How Apple's gross profit margin crushed it
Not only did Apple's gross profit margin come in higher than expected in Q1, but it came in above Apple's entire guidance range for the metric. When Apple reported Q4 results, it guided for a gross profit margin in the range of 37.5 to 38.5 percent. But on Tuesday, Apple reported actual Q1 gross profit margin of 39.5% -- 150 basis points above Apple's high-end of its guidance window.

Even more impressive than the amount by which Apple outperformed its own guidance for gross profit margin is the year-over-year comparison for the metric. Despite launching the iPhone 5s and 5c almost on the exact same day in the year-ago quarter, Apple's Q1 gross profit margin jumped from 37.9% in fiscal 2014 to 39.5% in fiscal 2015.

What drove the awesome performance behind Apple's gross profit margin? While a number of factors likely played a role in the gain, Apple's huge iPhone sales during the quarter are undoubtedly central to the company's big gain in profitability. As the company's most profitable business segment, soaring iPhone sales is good for Apple's profitability. iPhone unit sales soared 46%, and iPhone average selling price jumped from $637 to $687. The result was iPhone sales swelling to 68.6% of revenue, up from 56% of revenue in the year-ago quarter.

Are high profit margins sustainable after all?
The good quarter for Apple's gross profit margin metric joins a string of year-over-year gains in the important metric that began the second quarter of 2014, following a long period of negative year-over-year comparisons that had investors worrying whether or not the tech giant could sustain its high levels of profitability as cheap smartphones flooded the market.

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In a chart, Apple's profitability story looks like this.

Data for chart retrieved from SEC filings for quarters shown. Chart source: Author.

As it turns out, cheap smartphones weren't Apple's doom after all.

Obviously positive comparisons for gross profit margin are not sustainable forever. Indeed, Apple is guiding for a gross profit margin midpoint of 37.5% in Q2, a figure 40 basis points lower than its year-ago gross margin. And with Apple achieving such a high level of profitability in recent quarters, year-over-year comparisons going forward are going to be tough.

But the important takeaway is that Apple's gross profit margins are clearly not on the decline, as some Apple critics argued they were in 2012 and 2013. Apple's loyal customer base, pricing power, and economies of scale may be more sustainable than the market imagined. And if this is the case, it begs the question: Should Apple really be trading at just 16.1 times earnings?

The article Apple, Inc.'s Huge Profit Margin -- Evidence of Sustainable Pricing Power? originally appeared on Fool.com.

Daniel Sparks owns shares of Apple. The Motley Fool recommends Apple. The Motley Fool owns shares of 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.