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.

Estimating iPad mini Cannibalization

Today there was a survey out from Cowan and Co that got written about in almost every blog. It is about the effect of iPad mini on iPad sales. Most quickly jumped to the obvious conclusion (in articles with catch headlines too) that iPad mini will go on to add significantly to Apple’s profit with “inconsequential” cannibalization of iPad.

Here is my representation of the survey results using the data from Cowan and Co and let me tell about the problems with this survey and hence the conclusions.

First this is a stated preference study measuring the attitude of the customer and not the actual behavior. It is well established in marketing research literature that stated preference surveys overestimate behavior at point of purchase.

Second the survey question was specific to iPad mini, asking them specifically if they would buy iPad mini in the next 18 months. They did not ask them about other tablets in their consideration set nor did they ask them if they planned to purchase Kindle Fire, Nexus or nook. That is too narrow, anchors them on single choice and ignores other possibilities. Had they asked, “Which tablet will you buy?” and reported percentage distribution of different tablets it would have been much better.

Third, they slice and dice the 24 samples who reported switching from another device to report cannibalization and conversion from other tablets. The number 24 is too small to make any meaningful estimate, especially when 8 report switching from iPad and 3 report switching from Fire. If these were accurate estimate then it also point to even smaller impact on Kindle and other tablets.

Fourth, a more significant problem with the question  ”What device will iPad mini replace?” is it is just plain wrong as respondents were not primed to compare price and value of each. One right way is to do a (choice based) conjoint analysis to find the respective share of different tablets – iPad, iPad mini, Fire, Nexus etc.

Fifth, let us take the 6.1% new buyers number at face value. You can interpret this as 6.1% of all those who would buy a tablet would choose iPad mini. That is, iPad mini is not bringing in many new buyers into the market. Had they asked what tablets would they buy this number would likely pale in comparison to others. So it is overreaching to say, “its low-price will bring in new customers”.

Netting it out, there is not enough validity in the data to make bold predictions about iPad mini. There are indeed many uncertainties and those are not considered let alone quantified by this study. What you have is someone’s wishful thinking supported with non-scientific sampling and analysis.

For the record. here is my statistical analysis on iPad mini numbers and incremental profit it would drive.

Apple Playing High Risk Game with iPad mini – Monte Carlo Analysis

It appears iPad mini (or whatever branding Apple comes up with for their 7″ tablet) is real. Apple did announce an event for October 23rd which is highly likely the iPad mini event.

I have written about the profit impact of the iPad mini and so did many others. (See my longer piece at GigaOm.)
Many take the approach

1. Apple will sell 10s of millions of iPad mini before Holidays
2. iPad mini is a market share game
3. There will be cannibalization but it is better to self-cannibalize
4. There will be so much new volume from lower price point of iPad mini that Apple will capture marker share
5. iPod Touch is a different product category and it will not be impacted by iPad Mini

My question has been centered around whether or not the new device will deliver incremental (net new). No one has done some real analysis to show what the impact is. Even my article stopped short of exact numbers. Articles by others (of course) are even worse, they expect us to believe on faith that Apple will do well with iPad mini.

Now there is some real answer, based on more rigorous analysis than just claims that self-cannibalization is better.

My analysis, using statistical modeling, shows Apple may end up selling 22-52 million iPad minis but is placing a high risk bet when it comes to profit. Let us start from the beginning.

As I did before for Pinterest revenue model I chose to do Monte Carlo analysis to find impact on Apple’s profits from iPad mini. This is a reliable tool to use when there are many variables and there is uncertainty in the result. It also helps to state the result as a probability distribution instead of absolute statements we see from some of the analysts.

The model starts with listing the different variables that feed into final result and their 90% confidence interval values. That is we list all the different variables and state the low and high values that we are 90% confident about (we are 90% confident the real value is between low and high and only 10% chance the real value is outside this range).

I am going to assume contribution margin from iPad is $225 (given its 40%-50% margin numbers stated by iSuppli and others). All volume numbers are for the full year. The trade-down numbers and the “steal” numbers come from a recent market research on iPad mini preference. Steal here means how many of current nook/Kindle/nexus customers will switch to iPad mini. New sales is the number of new customers entering the market because of iPad mini. Current iPad volume numbers are based on Apple’s past four earnings reports.

It is easy to see that

Total iPad mini sales = Trade-down volume + Steal +New sales

Profit from iPad mini = iPad Mini margin X Total iPad mini sales

Lost profit from Trade-down = iPad Margin X Trade-down volume

Net new profit = Profit from iPad mini  - Lost profit from Trade-down

Note that I ignored the effect on other products both iPod Touch and iPhone.

Running the model for 1600 iterations yields some stunning results.

First the total iPad mini volume numbers. These are huge. It is almost certain that Apple will sell at least 14 million units per year. There is 95% probability that they will sell somewhere between 22 million and 52 million iPad mini.  And considering all possible scenarios the expected volume is 35 million units. These kind of numbers blow out the ramp up curves we have seen with any of the electronics products.

Such numbers will bring smile to those who chase market share and will delight analysts who recommend chasing market shares. But what does that do to Apple’s profit?

Here is the big surprise. Despite huge volumes, profit estimates show Apple is playing a high risk game with iPad mini.

First there is a 47% chance Apple will lose money (not including fixed costs, just the marginal costs, so the real impact can be worse).

At its worst, there is 1% chance that Apple could see $2.2B drop in its gross profit. It does not get much better, there is 15% chance Apple could see $1 B drop in its profit.

At the other end there is only 1% chance they could make $2.3B additional profit and only 13% chance they could see $1B additional profit.

Considering all possible scenarios, the expected net new profit from iPad mini is just $97 million a year.

That is not a big enough considering other R&D and marketing expenses (fixed costs).

There you have it. Apple will likely sell 34 million units in the first year but runs the risk of seeing no impact or worse significant impact on its profit.

Analysts betting on Apple stocks, thinking iPad mini will a few dollars to their EPS, take note. iPad mini is a high risk game for Apple despite assured high volumes.

Second Degree Price Discrimination and iPad Mini

There are enough news media reports, may be they all came from the  same source, about the imminent iPad Mini (a smaller and cheaper version of iPad to compete against Kindle Fire and Nexus). AllThingsD is convinced Apple has ordered 8-10 million units.

First there were “confirmed rumors” about invites going out on October 10th. Now they have retreated to another “confirmed rumor” about October 23rd event.

It is possible all these sources are true and Apple will go on to release a iPad Mini. But I find it still difficult to see a scenario where the lower priced iPad Mini can deliver incremental (net new) profit.

An analyst on CNBC said,

It could be big for investors, said Sterne Agee’s Shaw Wu.

“Like other products, lower price points tend to drive sales. An iPad Mini we think would likely drive incremental iPad buyers,” Wu said in a phone interview with TheStreet. “There’s going to be some cannibalism of iPad sales, but we think it makes a lot of sense.”

I am not sure if Wu followed Apple’s pricing strategy so far. Besides he seems to miss the point that lower price points also kill profits. Apple, however, never chased market share. Shaw Wu is not alone on this, there are many stock analysts and others who seem to think “some cannibalism is not bad”.

Exactly how bad is the cannibalism? Well for starters it is not about sales volume or revenue, it is about profits. Contribution margin on iPad is 42%-50%. That is, $210 to $250.  Given that we are hearing (from analysts) either $199 or $299 price point for iPad mini and that we know from Amazon that they are selling KIndle Fire at cost, it is highly likely contribution margin from iPad mini is in the range $10-$100.

I cannot see a scenario Apple selling anything at cost.

So for each unit of $499 iPad cannibalized, Apple has to sell 2 to 25 iPad minis. If we assume average, that is 13.5 iPad Mini for every iPad sales lost. Is that doable? Let us look at recent market research numbers on customer preference for iPad in the presence of cheaper iPad mini (second degree price discrimination)

35% of iPad owners surveyed by deal aggregator TechBargains.com say they’d trade in their old model for the smaller tablet

However, only 18% of all respondents in the TechBargains survey say they want the new gadget,

These are not good numbers. Presence of lower priced iPad, packed with value, will cause more than one third of current iPad customers to trade down. This can be compensated only if the 18% of the total addressable market for iPad mini (those who will not buy $499 iPad) is greater than 35% of iPad market.

One way for Apple to reduce the magnitude of this trade down is to what railways did in the past with their third class cars. For railways there was a big market of low price travelers (and they had excess capacity). They wanted to attract these low price travelers but did not want to lose the high contribution margin from those second class (or first class) travellers trading down to cheaper third class.  So to ensure those who can afford will continue to choose the second or first class the railways removed roof from their third class cars.

Apple could do something similar and cripple their iPad mini such that only the most cost sensitive segment will self-select to this version while the higher willingness to pay segment will continue to prefer the full iPad. But that is complicated by the presence of really good alternatives at these lower price points.

Even for those who would buy an iPad mini, there are many options at the $199-$299 price points.

The $199 price point is crowded with feature rich tablets and there are two others delivering great value at $269 and $299 price point. Not to mention the $399 iPad2 which offers better value than a $299 iPad mini.  Apple cannot cripple its iPad mini and expect to win against these value packed alternatives.

The cannibalization does not end with just iPad. It also extends to iPad Touch.

At $199 and $299 price points Apple will compete with its other product line – iPod Touch. Since the 7″-8″ tablet will deliver lot more value than iPod Touch for the same price more will switch from these high contribution margin units.

Considering Apple’s practice of effective pricing (note the fact that they did not introduce a $199 new iPod Touch) and effective use of product versions at multiple different price points I do not see Apple entering this field. Even if they did, it is only 10-30% chance this new product will result in net new profits.

 

Just because there is a gap in product line

Recently I wrote an analysis on the implications of rumored  iPad mini on Apple’s profits. The best case scenario, one that will result in another billion profit, is the one where Apple successfully positions iPad mini as yet another device we need between iPhone and iPad. This may sound like a recent piece in The Onion,

Any other scenario is fraught with risk of cannibalization, not just to its iPad but to its iPhone and iPod Touch products as well.

Recently there was another article that looked at price points of iPod and iPhone product lines and made a prediction about iPad mini. The premise is based on Apple CEO’s comment about price umbrella,

“one thing we’ll make sure is that we don’t leave a price umbrella for people” in the tablet space.

The chart we see on the left is simply a representation of Apple’s current price points using bar-chart. From the iPhone and iPod examples it asks us to make a leap of faith about iPad.

Strategy is not about nicely completed artificial triangles. Absence of iPad in the lower price points does not point to a gap but Apple’s choice for profit share and not market share.

If filling the gaps in the price points is the driver then you we should have several sub $500 laptops and desktops from Apple. Just open the flyer from Fry’s and count the number of laptops available in the $400-$700 range and compare that to the price of MacBook and Macbook Pro laptops. Shouldn’t Apple be worried about yielding that market to others?

This is not to say there will not be a iPad Mini but pointing out that the case being made for iPad mini lacks any kind of rigor or evidence.

The gaps in the price points says nothing about the segmentation or the demand.  Nor does it say what happens to demand for current products when a newer cheaper one comes along.

If one is going to use charts to make a case for iPad mini, it will look something like this

This is the representation of the demand for iPad and iPad mini. We do not have data on how these demand curves look like. May be Apple has this information. What this chart tells us is the impact of the demand for $499  iPad when there is a $299 iPad mini. As long as the profit from iPad min sales exceeds the lost profit from cannibalization of other products, Apple will introduce iPad mini. Not because they do not like gaps in someone’s bar-chart.