Since Apple announced its iPhone upgrade program earlier this month, analysts have been excitedly talking about what that program might mean for Apple. Most agree that it should reduce the time between upgrades because it enables iPhone users to get the newest model every year by paying a monthly fee.
Potential tailwinds for Apple’s program
This eliminates the need to be subject to mobile carriers that only allow upgrades every other year and also means they don’t have to pay a huge price up front when they upgrade. However, RBC Capital Markets analysts see another possible benefit as being derived from the new iPhone upgrade program. They believe it could boost share gains for Apple in the smartphone market. They also list a few other potential benefits for Apple from the program.
For example, analyst Amit Daryanani and his team thinks the stickiness for Apple’s devices will shift away from customers’ mobile carriers and over to Apple. Further, they said the program will require carriers to become more aggressive in their pricing and cut the iPhone total cost of ownership, which should boost the iPhone install base. Here’s a look at the current installment options for the 64GB iPhone 6S:
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They also see positive financial impacts for Apple, although the magnitude of these impacts depends on details the company has not yet officially reveals. And finally, they also agree with the general consensus that the upgrade cycle on the iPhone will be reduced. They currently estimate it at about 26 months, compared to about 22 months two years ago.
What we know about the iPhone upgrade program
Apple still has yet to release all the details for its upgrade program, but what we do know is that consumers pay for their iPhones in 24 installments, with Citizens Bank providing the financing for that. If they want to upgrade halfway through, they can choose to do so but must begin a new 24-month installment plan. Apple hasn’t said if there will be a fee to do this.
The plan does include AppleCare+, and buyers receive an unlocked phone they can take to any carrier. The RBC team suggests that, in theory, this suggests that consumers could even switch carriers every month.
What Apple hasn’t said yet
Apple has not said if there will be any charges for activation or how it will recognize the revenue from purchases of iPhone upgrade plans. We also don’t know anything about amortization related to the program, the salvage value of the old phones that are traded in, or what Apple will do with the used phone. It seems likely that the company would resell it in some manner (either directly or to a third party which would sell to a customer) because there’s still a lot of residual value left in used iPhones.
Daryanani and his team expect Apple to prove more financial details about the program on the fourth quarter earnings call.
Apple could run the program like a lease
Apple is starting the program out at $32 per month:
Daryanani and team believe there are two possibilities for the financial side of things. The first option is set up like a lease. The RBC Capital team believes that in this scenario, the total gross margin profile for the iPhone will improve if Apple treats it like a lease. They assume an average selling price of $700, a gross margin of 50% 24-month amortization of the iPhone, and an annual decline of $200 in value for each iPhone.
With this setup, they believe Apple will inflate gross margins for the iPhone to nearly 55%, which is 500 basis points higher than their current estimate of 50%.
Straight sale also possible
The other possibility is a straight sale setup. The RBC team thinks it’s possible that Apple will sell the phones directly with a repurchase agreement a year into the plan because Citizens Bank is the only financing partner for it. If this ends up being the way Apple handles the program, they think the company will agree to buy back used iPhones at prices that are less than it costs to refurbish them. That would enable the company to see a “modest additional gross profit” on the program.
In this scenario, the RBC team sees a 53% gross margin, which is about 300 basis points higher than their 50% estimate.
They have an Outperform rating and $150 per share price target on Apple. As of this writing, shares of Apple were down 0.18% at $116.07 per share.
All charts in this article are courtesy RBC Capital Markets.