Apple: No Headphone Jack Means Opportunity For Beats

| About: Apple Inc. (AAPL)
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As has been expected, Bloomberg reported that AAPL will ditch the headphone jack on the iPhone 7.

This will create a hardware revolution in the headphone market, with the biggest driver being an expedited shift to Bluetooth headphones.

Perhaps not co coincidentally, the biggest winner of this transition might be AAPL, the owner of Bluetooth market leader Beats.

As has been expected, Bloomberg reported that Apple's (NASDAQ:AAPL) iPhone 7 will not have a headphone jack. Instead, owners will be forced to use either Lightning or Bluetooth connections for audio. This will create a hardware revolution in the headphone market that has already started, and the biggest driver should be an expedited shift to wireless headphones. Perhaps not so coincidentally, the biggest winner of this transition could be AAPL, the owner of Bluetooth market leader Beats.

The headphone jack seems to be a dying thing even beyond AAPL. While AAPL is ditching the headphone jack on the iPhone 7, Intel (NASDAQ:INTC) is attempting to expand USB-C's capability to be an audio connection as well, and that would imply future iterations of the Android will follow the iPhone and likewise ditch the headphone jack. With the two biggest smartphones heading down this route, most computers and tablets will likely follow suit, and the headphone jack may be a rarity within a few years.

The problem for consumers, though, is different connection ports. There are multiple different charging ports. That means that in the early stages of this hardware revolution, Lightning headphones won't work on any device with a micro-USB charging port, so alternate cable solutions won't work across multiple devices. The only cross-device solution, then, is Bluetooth. In our opinion, the ditching of the headphone jack on the iPhone 7 will rush a huge Bluetooth upgrade cycle in the back-half of this year.

Headphone companies seem to agree. According to Skullcandy's (NASDAQ:SKUL) chief commercial officer Sam Paschel:

"It's a big shift for us and for the consumer. We truly believe it's going to trigger a repurchasing cycle around headphones, with a very fast and very large shift to Bluetooth."

And these companies are quite excited about the opportunity that will arise from the shift, with Jaybird's CMO calling the shift "monumental for us."

Despite the headphone market's excitement about a large-scale Bluetooth shift, there currently remain some challenges to widespread Bluetooth adoption. Some still find Bluetooth headphone technology to be not quite there yet as hiccups in the charging and pairing process can often be quite annoying and untimely. Battery life is a recurring problem for users, and perhaps the biggest concern is that when wired headphones shift to wireless, they lose a considerable amount of sound quality despite costing a premium.

For many, it doesn't make sense to pay a premium to be wire-free. And even those who love the idea of ditching wires feel like Bluetooth technology is only half-finished. Across the board, though, critics have noted an uptick in sound quality and improved battery life, and it looks like that has been enough to already drive Bluetooth sales higher than wired sales.

While the no-headphone-jack era will create a shift, a more appropriate term might be an acceleration of what is already a changing market. Even with headphone jacks still being the norm, Bluetooth is already the high-growth darling of the headphone industry. For the first time in headphone history, Bluetooth headphones are outselling other kinds of headphones, accounting for 54% of dollar sales through the first half of 2016. Bluetooth dollar sales grew 42% YoY through 1H16, while the broader headphone market saw dollar sales grew a pedestrian 7%. While Bluetooth still owns only 17% unit share, 42% YoY growth and majority dollar sales are evidence that this fairly new technology is beginning to gain some serious traction. As technology improves to address some of the common concerns including battery life, pairing hassle, and sound quality, adoption should only accelerate with or without headphone jacks.

No headphone jacks, though, will likely rush Bluetooth adoption. Perhaps not so coincidentally, the leader of the Bluetooth market is AAPL-owned Beats. Together, Beats and second-place LG control around 65% of all Bluetooth dollar sales. Also perhaps not so coincidentally, Beats wireless headphones command a significant premium to their wired peers. Compared to their wired peers, the Powerbeats 2 Wireless sell for $50 more and the Beats Solo2 Wireless sell for $100 more.

A large-scale adoption of Bluetooth headphones isn't a guarantee as a result of the iPhone 7 headphone jack being removed. Considering the lack of current Lightning headphones in the market, though, Bluetooth seems to be the natural and most pervasive solution for consumers. Its cross-device adoption already is accelerating. Moreover, the relative newness of Lightning headphone tech will likely ensure quality hiccups in the first few months, only increasing the chances of a large-scale Bluetooth upgrade cycle.

Beats is ideally leveraged if such a quick and large-scale shift to Bluetooth happens later this year. As the iPhone 7 sells, so will Beats headphones, and AAPL should be able generate lots of revenue per phone. Even without a Bluetooth upgrade catalyst, we have already written on why now is the time to pile into AAPL. An additional potential Bluetooth catalyst just gives us more reason to be excited about the iPhone 7 launch.

Disclosure: I am/we are long AAPL, SKUL.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.