The Internet search giant recently introduced its own 7″ tablet, the Nexus 7, to reinvigorate the Android tablet market and give Apple (AAPL) some much-needed competition. Following the launch, Bloomberg as well as the WSJ ran reports that fueled speculation that the iPad mini may be on its way before the end of the year.
Moreover, the timing of these reports makes us even more skeptical this time around. The speculation is not entirely unfounded though. Amazon’s launch of a $199 Kindle Fire last year showed that there is a market for these devices as long as they are priced attractively. The company sold almost 4 million Kindle Fire units to end customers during the holiday season. Introduced at the same price but with better hardware specs, the Nexus 7 got the market more excited about the prospects of smaller and more affordable tablets. Rumors suggest that the Nexus 7 tablet could begin shipping as early as this week.
With the second iteration of the Fire also around the corner, many believe that Apple is threatened by the imminent proliferation of 7-inch Android tablets and would want to wrest control of the only market it has a lion’s share of. While that logic seems sound, it really isn’t that simple.
The Kindle Fire, as teardown reports suggest, is being sold at a loss. The margins on Google’s Nexus 7, which has better specs than the Fire, would, at best, be razor thin. Taking that into consideration and accounting for Apple’s stronger supply chain as well, we had analyzed earlier how Apple would have to take a big margin hit to come out with the iPad mini at a similar price. (See Debunking iPad Mini Rumors Part I and Debunking iPad Mini Rumors – Part II) The only reason why Apple would really go after this segment would be the market share gain.
However, going after market share isn’t really the biggest driver for Apple’s mobile business as the iPhone has shown. In the many businesses that contribute to Apple’s value, the company has mostly steered away from playing the volume game – preferring instead to have a niche market while cornering most of the industry profits. In the mobile phone business (which contributes more than half of Apple’s value), its global market share is in single digits, but it takes up more than three-fourths of the industry profits because of its high margins.
Moreover, taking a margin hit would make sense if the tablet market was mature and competition was eating into Apple’s market share (considering that Apple created the tablet market, initial market share loss is inevitable) (See Apple Doesn’t Need To Enter The Low-Cost Smaller Tablet Market).
Further, Amazon and Google make their money from other sources such as ads and selling content such as e-books, respectively, which are driven by hardware sales, while Apple is a hardware company. So, going into a price war with Amazon/Google doesn’t make business sense and could spell doom for Apple.
Also, a smaller tablet could cannibalize the sales of the iPad at a time when the tablet market is growing and the iPad sales are also climbing steeply. Cannibalizing one’s own sales makes sense when competitors are eating away at its meaningful market share. Right now, we see the 7″ tablets are targeting price-sensitive consumers who would have probably never bought the more expensive iPad anyway. However, the entry of the Kindle Fire and now the Nexus 7 has lowered the cost barrier and will pave the way for new customers entering the tablet market. This will serve to whet consumer appetite for tablets and may even make customers shift to a costlier tablet such as the iPad for their future purchases.
Still, if Apple were to consider introducing the iPad mini, we believe the best way to extract any value would be to develop a low-end version of the iPad mini without the Retina display, price it around $299, and maintain respectable margins. This would add about 5% more value to Apple’s value, taking our price estimate to about $735. (see Debunking iPad Mini Rumors – Part III)