Apple’s iPhone Installment Plans: Good For Customers, Great For Apple

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Apple (NASDAQ:AAPL) launched a range of new products – including a larger-screen iPad, an overhauled Apple TV and updated iPhones – at its recent media event. While the new hardware received most of the attention, the company’s more understated announcement – that it was entering the equipment installment plan space with its iPhone Upgrade Program – was actually the most interesting and possibly the most impactful. In this note, we take a look at the details of the new program and how it could benefit Apple’s iPhone business.

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How Does The Plan Stack Up With Carrier Offerings? 

With the iPhone Upgrade Program, customers can buy an unlocked iPhone and pay for the device over a 24-month period. After every 12 months, customers will be eligible to trade in for a new iPhone, as long as they extend their agreements for another 24 months. Customers can also hold on to their devices for the entire 24-month period and own the device at the end of it, if they so choose. For example, the latest 16 GB iPhone 6S will be offered at $32.41/month. [1] So how does the plan stack up with offerings from the two largest U.S. wireless carriers?

iPhone Plans1

While Apple’s program is more expensive ($32.41 vs $27/month) compared to AT&T (NYSE:T) and Verizon’s (NYSE:VZ) offerings for a 24-month installment term, it does have some advantages. Firstly, it provides customers with AppleCare+ device protection (a $129 value), while also allowing customers to trade in for the latest iPhones every 12 months. In comparison, AT&T requires customers to wait 18 months for an upgrade with its 24 month installment agreement plan, while Verizon requires customers to pay off their devices entirely before upgrading. Now, AT&T does have a 12-month upgrade option, on its 20-month installment schemes, priced at about $32.50/month (comparable to Apple’s plan) but Apple’s plan could be more attractive to frequent upgraders due to the extended warranty advantage. To sum up, customers who don’t intend to upgrade their devices frequently or who don’t see value in extended-warranty programs would still be better off with the options provided by carriers. On the hand, Apple’s plans look like a good deal for customers who want to have latest iPhones every year.

A Lucrative Way To Sell More iPhones

Apple is promoting the new installment plans as “the best way to own iPhone” and looking at it from Apple’s perspective, it could also quite possibly be the most lucrative way for Apple to sell an iPhone. Although Apple hasn’t revealed the accounting treatment for these plans, it is possible that it will stick to its regular iPhone revenue recognition criteria, since it is working with Citizens Financial Group to provide financing for the devices. Now, these plans help Apple in three broad ways.

Firstly, they help to shorten the upgrade cycle for the iPhone, since customers who sign up for the plan are likely to trade in devices annually, effectively yielding higher shipments over time for Apple. On average, wireless customers in the U.S. hold on to devices for close to two years, but this cycle may get longer going forward, as carriers move away from their subsidies (and typical two-year contracts). With these new plans, Apple should effectively mitigate these effects.

Second, it helps Apple keep customers latched on to the iPhone ecosystem, while allowing it better control over the customer relationship. For example, customers who opt for installment plans from carriers have the option of upgrading to any device of their choice when they become eligible for it, but customers on the iPhone Upgrade Program will have to upgrade to another iPhone. Moreover, Apple would have better control over the customer relationship and buying experience, since iPhones would be sold through its retail stores and staff, rather than by the wireless carriers.

Thirdly, the option is also likely to bode well for Apple’s margins, since it effectively bundles the AppleCare+ service plan, which is presumably a high-margin offering. For instance, as indicated in the above table, over two years, total plan payments would amount to about $778 – which translates into $649 for the iPhone and $129 for AppleCare and potential interest costs. There’s also an incremental upside to be realized from selling the refurbished phones that customers may turn in each year.

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Notes:
  1. iPhone Upgrade Program, Apple []