Apple's Biggest Threat - Declining Prices Of Computing Devices

Jun.29.14 | About: Apple Inc. (AAPL)

Summary

It's a long-standing trend for computing devices to become cheaper over time.

For Apple, the declining price of technology will present significant headwinds for profit growth.

Introduction of new products are crucial to fuel profit growth in the future.

I am long AAPL, but that does not mean that I believe Apple is a perfect company. Here, I am going to discuss what I believe to be the biggest threat to the company in the long term - the declining price of computing technology.

The Fall in the Price of Computing Technology

It is a long-standing trend for technology equipment to become more affordable over time.

Click to enlarge

Back in the 1984, the original Macintosh had a price tag of $2,495. It was chunky, slow, with only 128kb RAM, and it didn't even have a hard drive. Today, Apple has the much faster and sleeker looking iMac for sale for $1,099. The iMac is more than two times cheaper in nominal terms, and adjusted for inflation, $2,495 in 1984 is worth a hefty $5,713 in 2014. So in real terms, the Macintosh has become more than five times cheaper over the course of 30 years.

And it's not just the Macintosh, computer-related technology and equipment have all been become cheaper over time.

From the above graph, we can see that Price Index for computers has dropped dramatically over time. As the index is not adjusted for quality, it may have overstated the downward movement in computing technology prices. Nevertheless, this graph is helpful in our visualization of the declining cost of computer-related devices.

Here's another piece of data that showcases the persistent drop in the price of PCs (source link here):

In recent years, PCs have seen declines in prices consistently across different brands. And Apple is no exception to this. (Remember how much cheaper the Macbook Air, Retina Macbook, and iMac have become in the past few years?)

Other than PCs, tablets and smartphones are also expected to follow a similar downward movement in prices.

(source: Apple Press Release)

The iPad has seen declines in ASP ever since its inception. Recently, I noticed the basic WiFi iPad Air going on unprecedented massive "flash sales" on eBay for $400 for multiple sessions (e.g.: here, here, here), which provides some evidence that Apple is having difficulties in maintaining the current price on the product.

Smartphones are predicted to fare very much the same as tablets and PCs:

In the IDC forecast, iPhones are expected to drop ~$50 in ASP by 2018. Based on the graph, to keep margins constant, Apple will have to sell ~8% more units of iPhone to maintain its profits on iPhone (assume a current ASP of $650). Assuming a modest profit growth of 3% annually on iPhones, Apple would have to sell ~25% more iPhones by 2018 than it is selling currently.

What does this mean for Apple?

In the foreseeable future, PCs, tablets, and smartphones are expected to decline steadily in price. For Apple, this presents significant headwinds for profit growth. In my view, Apple cannot rely on existing products alone to drive profit growth. Any meaningful growth to its bottom line will likely come from the introduction of new product categories (iWatch, a new television product, etc.). As an equity owner of AAPL, I do not doubt the company's ability to innovate. But at the same time, I also acknowledged that Apple does have its fair share of problems.

In light of the introduction of the new iPhone 6, the iPhablet, and the iWatch, I believe that there are still short-term catalysts ahead for the stock, so I am long the stock over the short term. But as for the long term, there are much more uncertainties. Until I can get a better glimpse of Apple's new products, I cannot say with conviction that I am bullish on the stock over a long horizon.

Disclosure: The author is long AAPL. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.