The New MacBook Air Pricing – Not just the iOS UI is seeing flattening

Two years ago I presented you with the following analysis of MacBook Air pricing.

Macbookair from Iterative Path

In summary, there are two prominent choice dimensions – screen size and disk capacity. There are minor differences in CPU but the two dimensions Apple wanted customers to focus on were clear. I showed you why there was a 11″ MacBook Air in the pre-configured models.

One thing you would have noticed in the last line up was the multiple levels and gaps.

With yesterday’s announcement at WWDC there is a new much cleaner product lineup.

No more 8 possibilities with 4 holes but a complete 2×2 with no gaps. This is a result of two standardization decisions

1. No more 64GB model. With prices of SSD continuing to fall, Apple found they cannot maintain their price premium. Instead of keeping 64GB version and lowering ASP they simply moved to 128GB that protected their ASP and likely their gross margin (due to decrease in SSD costs)
2. Single CPU model – 1.3GHz, dual core Intel I5 processor. While this likely reduced the ASP because of elimination of $1599 model, they likely kept their margin because of lower marginal cost.  The $1599 model was likely losing volume anyway as it shoots past  13″ MacBook Pro that offers Retina display ($1499).
   Furthermore for those who wanted customization they do get to capture $150 in incremental revenue from CPU upgrades.

Another point you would have noticed in the previous line-up is both the 11″ models were priced below the lowest priced 13″ model. That is no longer true. Gone is the perfect price diagonal and in its place a zig-zag pattern.

This is because of the price premium they were able to charge for the 13″ over 11″. It dropped from $200-$300 to mere $100. And this is something they likely found using conjoint analysis (don’t believe those who say Apple does not do customer research).

The perfect price diagonal is now replaced with another simple pricing rule

- Move along X axis, price changes by $100
- Move along Y axis, price changes by $200

So not only is the iOS seeing design simplification (or flattening), their pricing is also going through simplification. Every model that is there now is there to serve a specific segment and not as a ploy to sell another model.

Compare this to MacBook Pro models (HDD models configured as 8GB RAM for comparison)

 

 

If I make a prediction for what is ahead for new MacBook Pro models, similar model flattening and simpler pricing.

 

How many iPad minis did Apple sell? 12.5 million

Faced with the choice between changing one’s mind and proving that there is no need to do so, almost everyone gets busy on the proof  – John Kenneth Galbraith

When Apple announced iPad mini I wrote in GigaOm,

At the high end, Apple could sell as many as 58 million (full year), but those chances are very very slim (1 percent). Considering all the possible scenarios, the expected value of volume is 40 million.

Apple released its Q1FY13 earnings today, let us estimate how many iPad minis Apple most likely sold. The iPad mini numbers are based on the Apple‘s report.

They sold a total of 22.8 million iPads (new iPad, iPad2 and iPad mini), compared to 14.03 million in the previous quarter (pre iPad mini). If you were to attribute all incremental volume to iPad mini it comes to 8.77 million. I could stop here and say my model is correct.

If you compare the Average Selling Price (ASP) between two periods, in Q4FY12 the iPad ASP (iPad and iPad2) was $508 but it dropped to $467 this quarter (Q1FY13).

So let us plug in these numbers into the model I recently built to estimate the number of iPad minis Apple sold. We find that the 8.77 million is actually the lower limit. With the assumptions I have made, Apple likely sold 12.5 million iPad minis (all editions combined).

Apple put on some impressive iPad mini numbers. Did it cannibalize its full priced iPad? You bet it did. Last quarter Apple sold about 9.84 million full size iPad. (Again see the model.) That number dropped to 7.42 million units, thanks to iPad mini. So a cannibalization of 2.42 million units  — that is 2.42 million people who would’ve chosen full size iPad chose iPad mini.

How did I do with my previous prediction of iPad mini numbers in my GigaOm article?

I predicted an annual expected volume (considering all possible scenarios) of 40 million. But Apple could end up selling at least 50 (4 times 12.5) million iPad minis in FY13.

What did my model say were the chances of selling 50 million (full year) units or more?

Mere 12%.

As Galbraith said I could get busy arguing that is still within my scenarios and I am still correct. Galbraith’s writings have influenced my thought process in many ways, I will note his warning and not get busy with my proof.

It indeed appears I had started with some overly conservative numbers on iPad mini uptake based on the survey results I had used. Hence my model underestimated the iPad mini volumes considerably as iPad mini yearly volume could be 50-60 million units.

Model is only as good as the informed input we start with. After all we are paid to make better hypotheses and make informed assumptions.

 

 

 

 

Motley Fool Predicting Blowout Profit From iPad mini – But if you check their math

A blogger for Motley Fool is predicting  a blowout quarter for Apple. He writes,

Apple is asking shoppers to pay a 65% premium — which they are, gladly.

You can put me in that group.

Millions of consumers agree. By my math, the Mini probably brought in $2.2 billion in operating profit in fiscal Q1,

These are big claims. Note that he is predicting $2.2 billion profit from just one product line and that too operating profit not gross margin. Just as a refresher, gross margin is revenue less Cost of Goods Sold (COGS) for that product line. Operating profit is after R&D, sales & marketing and other operational expenses.

In the last quarter Apple made $11B in operating profit, so Motley Fool is predicting 20% increase over last quarter just due to iPad mini.

What is the basis for this? Well we know this blogger bought one and hence he believes millions did so as well. But after that we do not know how he did his math to show $2.2B as operating profit.

Well I did some math as well, about three months ago, and published my math, model and assumptions. In my last article in GigaOm I wrote (these are numbers for full year, not just Q1),

At the low end they could possibly lose $1.7 billion and at the high end they could make $2.5 billion in profit. But the chances of both these scenarios are just 1 percent. And so realistically, considering all possible scenarios, the expected value of profit is half a billion dollars—and that is gross profit, not including marketing and other costs associated with iPad mini.

From my more rigorous statistical modeling I predicted the best case scenario is $2.5 billion gross margin for the entire year and the chances of that happening are just 1%. So for Q1 numbers let us assume even distribution and divide my numbers by 4. That gives $125 million as expected profit and $625 million as 1% possibility.

How can Motley Fool predict such large numbers?

The first difference is I did statistical modeling that considered all possible scenarios and not just the best case scenario. If Motley Fool assumed,

“I bought it, so millions would buy”

Of course it would yield $2.2B but that fails to say how likely is such a scenario. Only in statistical modeling we can not only state an outcome but also state how likely is that scenario. (You heard of Nate Silver?)

Second difference is I took into account the negative effect of iPad mini on other product lines. That is iPad mini is not all additive, there is cannibalization. Using customer research data I included that effect (accounting for the uncertainty in the cannibalization rate) in computing net profit from iPad mini.

Finally I am not sure if Motley Food did any math at all. They say Apple would sell 20 million total iPad units (mini and maxi?). Since last quarter Apple sold 15.4 million iPads last quarter that would mean 4.6 million iPad mini (and by their assumption there was no cannibalization). So $2.2B in operating profit from mere 4.6 million units.

That is each unit contributed  $478 in operating profit. Really? Far more than the likely ASP of iPad mini and more than gross profit from iPad line. What kind of investment analysis or math is that? I hear this site gives investment advice, I wonder.

Lastly, I do stand by my model. Just wait a week more and plug in the numbers from Apple’s earnings report into this model and find out.

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Note: Some have pointed out in GigaOm comments section that I used too conservative a number for iPad per unit profit and that iSuppli had a different (higher) margin prediction. My mean was 32% with sigma of 4.6% while iSuppli says the numbers are 42%. Even if I adjusted my mean to use iSuppli numbers, my predicted BEST CASE (2% chance) gross profit will utmost go to $0.8B per quarter and not  $2.2B Motley Fool predicts.

Waging the right price war – The $65,000 Mistake

I believe “price war” may be a misnomer if both sides do not live to fight many rounds. We only see price battles or skirmishes that go for 1-2 rounds before one side throws in the towel or runs out of cash. There are two kinds of companies when it comes to price wars.

Category 1: There are just handful of companies that can wage incessant price war  by consistently keeping their prices low

Category 2: Even fewer that can withstand such low price attacks by their competitors.

Amazon.com and Walmart fall into the first category. Apple is in the second category.

In fact if the two players know that the other has the will, reserve and wherewithal to keep up the fight without ever letting up they most likely will choose not to enter price war in the first place. This is very much like nuclear deterrent  — mutually assured destruction.

BestBuy does not fall in either of the categories but was tempted to take on Wal-Mart with its iPhone 5 pricing. The result? BestBuy lost $65,000 in a single day.

Let alone the price war dynamics this is simply the wrong fight to pick. A tactical blunder.

First the product is not yours and the customer has many alternatives. Most are willing to pay full price at Apple stores. Customers do not think where they buy is important when it comes to iPhone (a qualifier is some insist they buy only after standing in line in front of Apple stores).

Second Walmart did not cut the price uniformly across all stores and did not make available unlimited quantities. Agreeing to match the price on such promotional tactic is simply wrong. It appears smart deal-seekers, instead of running from one Walmart store to another, simply walked into to neighborhood BestBuy and asked for the low price match. How convenient.

Finally, the low price was not attached to any other product sales and not designed as a loss leader that would help maximize customer margin.

And the result? Deal-seekers walked in, probably for the first time in many months, bought the $127 iPhone 5 and walked out without buying anything else. That is the $65,000 loss in a day.

Other readings:

See here for Waging Effective Price Wars.

See here for Effective Pricing

 

 

Price Setters and Price Takers Revisited

Let us recap.

If you can set the price and defend it against competition you are a price setter. Premium price or bargain price does not matter. As long as you can defend it because of your product’s (perceived) differentiation (among your target segment) or because of your cost advantage you are a price setter.

If your pricing is a reaction to an existing competitor then you are a price taker.

In the tablet space, big or mini, Apple and Amazon are price setters but Google is a price taker.

In my September article in GigaOm I analyzed the profit implications of iPad mini for Apple. Making a case against $199 lower-end iPad mini I wrote this about price setting:

If Apple is the price setter in the premium tablet category, Amazon is the price setter in the low end. Entering this segment would mean becoming the price taker or making an effort to become a price setter with a different price point.

By design, Apple has never been a price taker. In any market, the price setter gets to control its  own profit while a price taker is at the mercy of market forces. Trying to become a price setter when there already is one requires Apple to either go low or just a bit higher. Either way, Amazon has set the price anchoring. The most likely scenario is a $299 price point for the iPad Mini.

The real pricing came in at $329. In other words Apple chose not to be player in the low end market because it realized Amazon as the unshakeable price setter in that category and chose a segment where it can be the price setter.

Price Setters will thrive and go on to create significant value over long term.

Price Takers will be relegated to the footnotes of history.

The iPad mini Price Premium

A common analytical method in pricing is Conjoint Analysis. While this has evolved into far more sophisticated methods, at its core Conjoint Analysis is about finding how much utility different customers assign to different “features/aspects” of a product. If you know the utilities you can find how to price different product versions.

Here is a quick tutorial if you want to know more.

In the case of tablets you can think of iPad and Fire to be a collection of  features (or benefits) that customers assign perceived utilities. So when you add up the utility assignment for each feature you get the total utility.

Total Utility from Tablet = Fudge Factor +
Price Point ($199, $329)+
Utility from physical features (screen, wifi, etc) +
Utility from Brand +
Utility from Ecosystem

A few days ago Amazon ran a message on its main page comparing Kindle Fire and iPad mini, feature by feature.

The message essentially says Kindle Fire at $199 price point offers better features (by extension better utility) than iPad mini at $329 price point.

Likely true. But the point to note is the utility value from features is neither absolute nor intrinsic. It is perceived utility and it differs from segment to segment. Furthermore there are the “Fudge Factor” – the unknowns, Brand premium and Ecosystem Premium.

Apple likely found a sizeable segment – different from Amazon’s target segment – that assigns lot more value to Apple’s Brand and Ecosystem than they do for Amazon’s Brand and Ecosystem and hence is willing to pay $130 more for iPad mini. (Technically it is $95 more if you consider Fire without “Special Offers” and add price of Fire charger).

Amazon’s comparison is valid. But if the customer segments and their value allocation is not the same, then it does not matter that Fire packs better features at lower price. That is likely why Amazon decided to pull the Ad?