AAPL: High Priced, Cause it Feels So Nice


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The fashion focused Apple Watch will launch 4/24 with high prices and predictable functionality, yielding limited volumes, but reasonable revenues and excellent profits during the first year. The $349-$399 entry point is too high for most users, most of whom enjoyed carrier subsidies when buying their iPhones. The use case is hazy. So far, most of the apps simply save the user from pulling their phone out of their pocket – nice, but hardly killer. Still, the product is cool, and the 18k gold versions selling for up to $17K will find a hungry market amongst the celebrities and plutocrats that can afford them. We believe that fewer than 12M units will sell in the first year, but that the ASP could be $800 or more, yielding as much as $10B in revenues, with contribution margins above 50%. Still, with nearly $70B in EBITDA, even a $5B incremental boost doesn’t move the needle very much. We believe that the replacement rate on the Apple Watch will be long, so growth will depend on finding a killer app to drive a 2nd and 3rd wave of user adoption.

It’s exclusive. The $349 entry point is misleading. The larger version runs $50 more, and given that men’s watches outsell women’s watches 3:2 and the obvious benefits of a larger screen, we expect most buyers to want the more pricey model. Either way, it’s well above the subsidized cost of an iPhone and likely out of reach for many, particularly 75M+ who have sprung for an iPhone 6/6+ in the past 6 months. That buyers will need an appointment to try one on in an Apple Store is a further indication that unit volumes may not be as high as many are predicting.
No killer apps. Analysts are afraid to say it, for fear of repeating their folly on the iPad, but none of the apps revealed thus far seems to have potential to drive the Apple Watch to must-have status. Most merely save the user from pulling their iPhone out of their pocket – nice but hardly life changing. Others mimic the functionality of a $99 Fitbit or iPod – okay, but narrow in their appeal.
Nice first year revenues and profits. Price and functionality aside, the Apple Watch is cool and there are millions of fans out there waiting to buy. The clear fashion (and snob) appeal of the $549-$1099 stainless steel versions, and the $10K-$17K gold models, suggest that a reasonable part of revenues will come from the very high end, where, presumably, AAPL will make its highest margins. We expect 1st year sales of <10M units, but ASPs of >$800, yielding revenues of ~$8-10B. With a healthy markup on steel and gold, we expect contribution margins of 50%.
Can it grow? Users are unlikely to upgrade watches nearly as often as their iPhones. Unless killer apps emerge that drive new and compelling use cases, we believe that Apple Watch sales could quickly peak and deteriorate, adding to AAPL’s tough compares for FY16. In any case, even incremental EBITDA of ~$5B is most for a company already generating nearly $70B annually. We expect strong upside to the next 2-3 quarters, but remain skeptical for the longer term future.
For our full research notes, please visit our published research site.

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