Apple Inc. Finally Catches Up With iPhone SE Demand

By Markets Fool.com

Image source: Apple.

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Back in March, Apple (NASDAQ: AAPL) unveiled the iPhone SE. The SE, for those of you unfamiliar with the product, is essentially the guts of an iPhone 6s in the shell of the older iPhone 5s. It starts at $399 for the model with 16 gigabytes of flash storage and goes to $499 for the model with 64 gigabytes of flash storage.

According to Apple CEO Tim Cook, demand for the iPhone SE was greater than supply throughout the third quarter. The good news, though, is that Cook says the company was "able to achieve supply/demand balance as [Apple] entered the September quarter."

Let's take a closer look at what else Apple's management had to say about the iPhone SE and what the future of this product category may hold.

Going where no iPhone has gone before

Cook seemed upbeat about the iPhone SE, noting that the device is "opening the door to customers that [Apple wasn't] reaching before." This is presumably in reference to the lower price of the device.

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On top of that, though, Cook says that the iPhone SE probably helped to convince those potential customers that wanted new iPhones but wanted it in a 4-inch form factor to finally pull the trigger on the iPhone SE.

Worldwide popularity; bringing on lots of "new to iPhone" customers

According to Cook, the iPhone SE's popularity isn't limited to specific regions; he says that it's proving to be "popular in both developed and emerging markets."

Additionally, the executive said that the "percentage of iPhone SE sales going to customers who are new to iPhone is greater than [Apple has] seen in the first weeks of availability for other iPhones launched in the last several years."

Given that Apple is placing an increased emphasis around opening up additional revenue streams tied to the iPhone installed base, the success of the iPhone SE in growing the installed base certainly seems like a long-term positive for the company.

How are iPhone SE's gross profit margins?

The introduction of the iPhone SE was expected to negatively impact the company's iPhone average selling prices and, according to CFO Luca Maestri, it did just that.

"The rollout of our new entry-level iPhone SE concurrent with the channel reduction of more than 4 million higher-end iPhones resulted in a lower-than-usual iPhone [average selling price] of $595," Maestri told investors.

However, even though the iPhone SE serves as a drag on iPhone average selling prices, it doesn't appear to have too much of an impact on the company's gross profit margin percentage.

"From a gross margin perspective, [iPhone SE] is slightly dilutive to company margins, but the impact is not particularly large," Maestri explained.

It looks like Apple did a good job with the cost structure of the iPhone SE relative to its selling price.

What's next for small iPhone?

I get the impression that Apple management is surprised by both the initial performance of the iPhone SE in the marketplace and by the types of customers it's reaching.

The iPhone SE seems to have been mainly targeted at those customers either unwilling or unable to pay a "premium" price for the company's premium flagship iPhones.

Cook's commentary around the form factor driving users simply interested in sticking with small iPhones to finally upgrade appears to indicate that even Apple is surprised that there are non-trivial numbers of iPhone customers uninterested in moving to larger-screen devices.

I wouldn't be surprised if management is considering bifurcating its small iPhone lineup going forward. It can continue to offer cost-optimized small form factor phones like today's iPhone SE, and it could also release more premium "mini" variants of its flagship phones at higher price points for customers unwilling to go big but willing to pay more.

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Ashraf Eassa has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: long January 2018 $90 calls on Apple and short January 2018 $95 calls on 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.