Apple: Underestimating iPhone SE's U.S. Potential

| About: Apple Inc. (AAPL)
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CIRP claims iPhone install base was 110 million at the end of 2015.

Firm projects just 4-6 million will purchase the SE.

Does this research have a critical flaw?

Late last year, I discussed how one research firm noted that Apple's (NASDAQ:AAPL) iPhone install base had topped 100 million in the US. While this was nearly double the number from just two years earlier, the company still looked to have a tremendous opportunity ahead. With the latest research in, CIRP has now made a bold claim about the iPhone SE that I believe is a bit too bearish.

Earlier this month, research firm CIRP detailed that the iPhone install base was up to 110 million units in the US. This shows continued growth in the iOS platform, given that a year earlier, the figure was less than 80 million. In the chart below, you can see how CIRP breaks down the install base by iPhone model.

Source: CIRP via "110 million" article linked above

One of my key arguments for being very bullish on the iPhone SE was the device's ability to drive sales of those looking to upgrade. CIRP claims that slightly more than a quarter of the install base, roughly 29 million units, were the 5s and older model phones, those that hadn't jumped to a larger screen. That led the firm to this statement about the iPhone SE:

The analysis indicates the limited opportunity for Apple to sell the smaller iPhone SE in the US. Very few of the 81 million consumers that already own a larger iPhone 6 or 6 Plus, or 6s or 6s Plus, are likely to trade down to the smaller iPhone SE.

A significant number of the 29 million consumers that currently own an older iPhone will also want to trade up to the larger phones. Our data suggests in the past year, 85-90% of consumers that replaced an older 4-inch screen iPhone upgraded to the new, larger iPhone models - the 6, 6 Plus, 6s, or 6s Plus. So, we expect perhaps 3-4 million, or 10-15% of the 29 million US 4-inch iPhone base, to purchase the new iPhone SE.

While this seems perfectly logical, this type of analysis could easily have a fatal flaw. When you are talking about those 4-inch consumers who upgraded in the past year, the 85-90%, most did not have a 4-inch model to really upgrade to. The 5s was still on the market, and it still is at some carriers. If you had a 5s already, you probably weren't likely to buy another given how outdated the device was, so you essentially were forced to upgrade to a larger screen. After the 6s line came out, the reduction in price on the 6 line also made the 6 a better overall deal than the 5s.

Now the situation is much different because the SE is on the market, although you may have to wait a few weeks if you want one. The SE is a tremendous upgrade from the 5s, featuring a much better processor, Apple Pay, significant camera upgrade, etc. The SE also comes at a very attractive price point, seen in the chart below. In fact, on Sprint's (NYSE:S) network, you can lease an iPhone 5c for $15 a month or an iPhone SE for $16.67 a month. That's a no-brainer.

Source: Sprint iPhone pricing

This is why I believe CIRP is underestimating the potential demand for the SE. If we say 20% of their 29 million upgrade to the SE, that's 5.8 million units, more than the roughly 3-4 million they were looking for. The number could be even higher given the fact that the SE was a bit cheaper than most were expecting. By a similar thought process, their Android switching and first-time buyer numbers could be wrong. I think Apple's opportunity is more in the 8-10 million range in the US, which would seem logical if you look at analyst estimates for the SE and proportion Apple's share of revenues coming from the US.

The moral of the story is something I stated earlier this month: we really shouldn't jump to conclusions so early. You can't say a product has failed based on a few days worth of data. Here, it seems foolish to say that a certain percentage will upgrade based on past data, when that past data didn't have a legitimate comparable product to upgrade to. People with older iPhones in the last year weren't going to upgrade to the 5s in larger numbers, and there were a fair amount waiting for the new 4-inch model. In the end, I think the CIRP data will be proven wrong, and the SE will do quite well in the US (and around the globe).

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