Apple Inc. (AAPL): How Cheap Will The “Cheaper” iPhone Be?

As Apple Inc. (NASDAQ:AAPL)‘s growth has tapered off during the past several quarters, analysts have turned their attention to rumors of a “low-cost iPhone.” The smartphone industry still has tremendous growth ahead of it, but most of this growth will be in the low end of the market (phones that cost $200 or less unsubsidized). However, Apple Inc. (NASDAQ:AAPL)’s “entry-level” iPhone 4 sells for $449 unsubsidized in the U.S., which places it in the high-end smartphone category.

By contrast, Samsung (the clear leader in Google Inc (NASDAQ:GOOG)‘s Android ecosystem) has a strong position in high-end smartphones, but it also has a substantial presence in the low-end market. The growth of mid-range and low-end smartphones has driven an explosion in Android’s market penetration in the past few years. If Apple Inc. (NASDAQ:AAPL) wants to reignite growth, it will need to expand its reach beyond high-end smartphones.

There are many open questions about what Apple Inc. (NASDAQ:AAPL)’s low-cost iPhone might look like, but the big question for shareholders is how the release of a cheaper iPhone will affect Apple Inc. (NASDAQ:AAPL)’s earnings (and thus, its stock price). This, in turn, depends heavily on what Apple Inc. (NASDAQ:AAPL) decides to charge for the new iPhone. If the price is too low, it will have low margins and will also cannibalize sales of more expensive, higher-margin iPhones. On the other hand, if the price is too high, Apple won’t be able to gain much market share. I believe that Apple will err on the high side in terms of pricing, targeting the mid-range smartphone market with a $329 or $349 price point.

The background
Apple reportedly considered introducing a low-cost iPhone as early as 2009. However, rather than building a separate, cheaper iPhone, the company decided to use older iPhones as entry-level models. Nevertheless, by early 2013, most Apple-watchers expected the company to launch a new low-cost iPhone soon, perhaps as early as this year. On Thursday, leaked photos of what could be a prototype low-cost iPhone made their way around the Internet. According to the site that originally posted the photos, this new device will have a plastic case and will share many components with the iPhone 4 and iPhone 4S.

The iPhone 4S, Apple’s middle-tier offering. Photo: Apple.

According to a teardown analysis by IHS iSuppli, the total manufacturing cost of the iPhone 4S was $196 as of October 2011. That included the cost of all components and manufacturing, but not the cost of software, logistics, or patent licenses. Component prices have dropped since then, and Apple would save money by moving from an aluminum case back to plastic, as has been rumored. That said, CEO Tim Cook has adamantly stated that the company will not compromise product quality, so there is a limit to how low Apple’s production costs can go. It seems possible that Apple could reduce its all-in cost to $150 or $160, but probably not much lower than that.