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Summary:

The Apple rumor mill has been abuzz lately with talk of an iPad Mini release. Rags Srinivasan tries to get inside the mind of Apple’s strategy team to divine the impact this device would have on Apple’s bottom line.

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The Apple rumor mill never stops. Lately, people have been chattering about the supposedly imminent iPad Mini. Speculating about Apple’s next product release may be fun, but analyzing the impact such a device would have on Apple’s bottom line is even more interesting. Let’s try to get into the minds of Apple’s strategy team, albeit without the advantage of data they have, to make a call on the iPad Mini.

There are three steps to this process: The whys, what and what-ifs, and the final decision.

Why would Apple even consider an iPad Mini? The simple answer is profit. The question is whether this is about incremental profits or a defensive strategy to retain current profits that are under threat. Based on Apple’s history in the past 10 years, it is more likely about adding yet another billion dollar product line. Reviews of Nexus 7 aside, it alone cannot warrant a defensive move by the 800-pound gorilla.

And yes, “billion dollar” is the key phrase here considering the multiple investment opportunities available to Apple and the impact of the product line on its earnings per share. Apple’s machinery is set up to make the most when it sells millions of units of a product. Anything less than that is not the best use of their investment and marketing resources. The opportunity cost is huge.

There are three “C”s at play here: customer, competition and cannibalization.

Customer

Apple would likely consider targeting the following three customer segments:

  • Low-end customers who never considered a tablet — even the Fire and new Nexus — because they do not see value in them. Even if this is a big enough segment, by definition these are the low-value customers, not the high-margin rabid fans that Apple is used to. Going after this means competing only on price, which is anathema to Apple’s strategy.
  • Fire and Nexus customers, since this group of consumers stood up and identified themselves as a target segment for a low-end tablet. A customer survey by 451 Research found that only eight percent of those who were surveyed stated a preference for Kindle. Even if Nexus 7 doubles this by bringing in new customers, Apple’s share cannot be more than 50 percent of this segment. Apple has 62 percent market share and 90 percent profit share of the tablet market. Is another seven percent share at a very low profit attractive?
  • Existing iPad customers. In this case, Apple would position the iPad Mini as yet another device these customers should buy, in addition to their iPhone and iPad. If you consider how its current products are positioned, this is not far-fetched. Products such as the MacBook Air, iPod Shuffle and Nano are positioned for different purposes so that the same customer buys them all. Although this is the hardest strategy to execute, this is also the most profitable thing to do, as it meets the company’s goal of driving new profits. The question is, can Apple’s marketing pull it off?

Competition

The competitors here are the low-end volume players who sell devices at or below cost in the hope of driving future revenue from content and other sales. If Apple is the price setter in the premium tablet category, Amazon is the price setter in the low end. Entering this segment would mean becoming the price taker or making an effort to become a price setter with a different price point.

By design, Apple has never been a price taker. In any market, the price setter gets to control its  own profit while a price taker is at the mercy of market forces. Trying to become a price setter when there already is one requires Apple to either go low or just a bit higher. Either way, Amazon has set the price anchoring. The most likely scenario is a $299 price point for the iPad Mini.

Cannibalization

A $299 iPad is a threat to multiple product lines.

  •  iPad: In my earlier post, I outlined the effect of the $399 iPad2 on Apple’s profits and how 18 percent of the sales were iPad2s, without any increase in the total number of units sold. The iPad Mini will have a far bigger impact on current customers. This is because the iPad Mini will pack considerable value, so customers will see a higher consumer surplus due to its lower price point. (See here for a discussion of price discrimination and consumer surplus.) The iPad has an average selling price of $590 and gross margin of 47 percent. Even if the iPad Mini makes the same margin, for every iPad customer who trades down, Apple must bring in one more iPad Mini customer.
  • iPod Touch: In the presence of an iPad Mini, the iPod Touch would become the asymmetrically dominated alternative (the decoy option like the MacBook Pro scenario). Granted, it is not truly dominated since it provides portability, but you could argue that its size is its weakness. Although the Kindle Fire has not threatened the iPod Touch yet, an iPad Mini definitely would. Maybe Apple is willing to cannibalize the iPod Touch, replacing it with the new smaller iPad. That would mean no real profit upside from the iPad Mini.
  • iPhone: The crown jewel. It is harder for most to see how a smaller tablet could threaten the iPhone. Consider this in the context of total cost of ownership of an iPhone over two years: At $100 per month for mobile service fees and at $199 for the device, it costs $2,500. Mobile service providers are moving towards just one bundle of voice and data at $100 per month. If there were a $299 4G iPad Mini, some may consider a regular phone for occasional talking and the iPad Mini with $40 data fee as an iPhone replacement. Although no one would consider such a swap with a Kindle Fire 3G or Nexus 3G, an iPad is a different situation. The loss to Apple is considerable since it gets the full device price from the service providers. For every iPhone customer who chooses this swap, Apple must add four iPad mini customers.

Cannibalizing your own products is better than competitors devouring them, but that is nothing more than a cliché. No cannibalization is good. And there is no need for Apple to cannibalize itself, as there is no competitive threat in the near term.

What is Apple’s final decision going to be? Anyway you look at it, the iPad Mini poses a significant risk to Apple’s profits while not adding new profits. Unless they have data that shows the demand for a third device between the iPhone and iPad, and Apple’s marketing can pull it off, it is highly unlikely that an iPad Mini would have a positive impact on Apple’s profits.

Rags Srinivasan is a management professional who specializes in product strategy and strategic marketing. He is currently working on big data products. He blogs at Iterative Path and tweets at @rags.

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  1. Daniel Horowitz Sunday, July 22, 2012

    Perhaps they will make a 7 inch tablet simply because it is useful to people.

    1. I’m sure Apple wants to make products that are useful to people. However they must also be profitable for Apple. If a 7 inch tablet will accomplish both of those objectives, it will be brought to market. If not, it won’t.

  2. Dave Girouard Sunday, July 22, 2012

    You’re skipping over the main issue. Apple makes 47% GM on iPad. Google doesn’t make anything near that on Nexus 7. If Apple wants to achieve price parity with Google, it has to surrender a lot of margin in what might eventually be the high volume segment of the market. Also it’s likely the most price sensitive segment as well

    1. Dave
      I thought that is part of my argument – choosing not to compete in price sensitive segment.

  3. fabianschonholz Sunday, July 22, 2012

    You are better cannibalizing your own revenue that letting your competition do it. So .. to not do it because of cannibalization is a non-starter discussion.

  4. Peter Hartley Sunday, July 22, 2012

    I think you are forgetting the ladies. My wife likes the iPad but it is too large and heavy for her purse. She would buy an iPad mini in a heartbeat. There are probably lots like her.

    1. Jennifer @ The Bawdy Book Blog Peter Hartley Wednesday, July 25, 2012

      This is me. I have an iPad, but it’s cumbersome to cart around. I also have two Nooks. I would not think twice about throwing down money for a smaller version of my iPad so I can read on the go. I’d be first in line.

  5. Jordan Ravka Sunday, July 22, 2012

    This is the most reasonable argument against the iPad Mini I have heard. But I would add…

    1. I am sure similar arguments were made against the various lower cost iPod products, but their higher end models endured

    2. They can cheaply convert (rather than shut down) the 3gs production line for iPad Mini as they share the same dpi

    3. As an iPad user, I must admit I crave a smaller and lighter version for when I am reading in bed, vacations, etc. I know it sounds elitist, lets not be shocked if houses eventually have tablets in every room similar to televisions.

    4. Mommy and Daddy can buy a cheaper version for their kids

  6. Cannibalizing your own market for a short term period…to prevent another from establishing a strong foothold…is considered part of the art of war. That said…there a lot of assumptions that a Mini iPad would automatically cement the 7 inch market.

    First off..it’s rumored 7.8″ size may defeat the purpose of being far more manageable than the full sized tablet. Secondly, compromises made to reach the market price point that would assure its success….may in fact prevent its success. Finally, the value of tablet specific apps won’t carry quite the same premium as a full size tablet…either in impact or price value. Defending your territory is a lot harder…that carving out new ones.

  7. Cannibalizing your own market for a short term period…to prevent another from establishing a strong foothold…is considered part of the art of war. That said…there a lot of assumptions that a Mini iPad would automatically cement the 7 inch market.

    First off..it’s rumored 7.8″ size may defeat the purpose of being far more manageable than the full sized tablet. Secondly, compromises made to reach the market price point that would assure its success….may in fact prevent its success. Finally, the value of tablet specific apps won’t carry quite the same premium as a full size tablet…either in impact or price value. Defending your territory is a lot harder…that carving out new ones.

    1. Why do you post the same material twice under two different names? What are you trying to accomplish?

  8. Ryan Chavis Sunday, July 22, 2012

    I think the iPad mini will create another untapped line of revenue for the company and will be a profitable move. If they do I sure hope iBackFlip makes a iPad carrying solution for it!

  9. Sorry Rags,

    But Apple is FEARLESS when it comes to cannibalizing its own products. Otherwise, there would be no iPhone, iPad, or Macbook Air.

  10. One area you are not considering is business adoption. Here is a link to NCR’s new iPad pos system. http://www.ncr.com/products-and-services/pos-solutions/ncr-silver. Imagine how many small business owners who are forced to buy $15,000-30,000 systems to track sales could use this system. Up front cost for 2 registers and a server for a restaurant is the low end above. The upfront on the ipad system is probably 1/10 to 1/20th of the money. You can follow the links above. Other expenses that can be reduced are CC security, Backup, virus and network protection. This is the idea that can start the cloud as a real entity rather than a tech fantasy land. Imagine always having a picture to answer questions if there is any issue. Portable, secure and state of the art database backend, with an easy user interface that includes sales reports from multiple locations. I am simply talking about one opportunity. In the comments here there are at least 2 or 3 other businesses that will be disrupted.

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