The great 'iPhone 5C is a failure' freakout

To hear the iOSphere explain it, the iPhone 5c launched six months ago - is the worst Apple disappointment, disaster, dud, failure, fiasco, flop, and mistake since the Lisa PC, the Newton, Macintosh Portable, Powerbook Duo, the Copeland OS and seven other of Apple's biggest failures ...combined.

Yet according to one estimate [see charts below, "Revenues," by Horace Dediu of Asymco], in the first full quarter of the 5s/5c availability, the 5c seems to account for just under 20 percent of the estimated $32 billion in iPhone revenues for that period, or about $6 billion dollars. If iPhone 5c was a company, $6 billion in revenues would put it at about number 430 on the Fortune 500 list

Nearly all of these fiasco formulations are based on an almost complete absence of reliable data (or on unsubstantiated rumor) and on an almost willful misunderstanding and misinterpreting of comments by Apple executives. As we'll see, comments by Apple CEO Tim Cook at the January earnings call were almost universally misinterpreted as an admission that Apple had overestimated demand for the 5c. What he actually said was the Apple had under-estimated demand for the 5s.

The pricing for the 5c clearly positions it in the role of the year-old discounted iPhone models, creating a lower-priced alternative to each year's new flagship. But its polycarbonate packaging and its technology features blending hardware from iPhone 5 and 5s - proclaim it as a brand in its own right, the first extension, or segmentation of the iPhone.

What little evidence there is hints and no more -- that in this, the six month anniversary of the 5c's availability, Apple's strategy for the 5c is working. The 5c seems to doing roughly as well as the discounted older iPhone models have done in the past to create a less expensive iPhone option for buyers, especially for those who are less affluent than iPhone 5s buyers, and those coming to the iPhone for the first time. But until there's more data, the verdict on the 5c is still out. Even if the jury is all in.

Here's a sampling of the headlines from blogposts, commentary, analyses, and stories in the iOSphere on the alleged iPhone 5c "fiasco." [See related story "The iPhone 5c is a mistake, a failure, a disaster, a flop, a dud; The iOSphere speaks out, freaks out"]

Op-Ed: Apple's iPhone 5c Has Been A Mistake That Won't Be RepeatedThe iPhone 5c Turned Out To Be A DudWhat Went Wrong With the iPhone 5c?RIP, iPhone 5c: You're A FlopCook admits Apple blew the call on the iPhone 5cTim Cook admits iPhone 5c share lower than expected, says demand was 'different than we thought' ~~

"Extraordinary claims require extraordinary evidence," says Horace Dediu, an independent consultant and founder of Asymco, an "evolving experiment in collaborative and peer reviewed analysis" as the website phrases it. "The claim that a product is a flop in view of overall growth and rising pricing should be backed with some strong evidence."

Overall growth and rising average selling price is what Apple reported in January 2014: record iPhone unit sales and revenues. Executives said during the earnings call that Apple sold more iPhone 5s units than forecast. That was confirmed as the average selling price (ASP) for iPhone edged upward, pulled by the $100-higher price of the 5s compared to the 5c. Apple doesn't break down sales of its tablets and smartphones: it reports unit sales for "iPads" and for "iPhones."

The iOSphere commentariat almost universally misinterpreted Apple CEO Cook's comments during the earnings call as saying that Apple overestimated demand for the 5c and that its sales were disappointing. As we'll see, he said no such thing.

By contrast, based on Apple financials, other public information, and his own model, Asymco's Dediu has created four charts shown above that suggest the iOSphere is at least premature in its verdict about the 5c. "I'm not sure whether we have all that much evidence one way or another," Dediu says. "The data for one quarter (a launch quarter) is not very useful in assessing such a brand extension."

The "Pricing" chart confirms the upward tick in the ASP. But they also show in "Mix" (the relative number of iPhone models sold in a given quarter) and "Revenues" (for each iPhone model in each quarter) that the iPhone 5c in the Oct-Dec 2013 quarter performed roughly as well as the discounted iPhone 4S in Oct-Dec 2012, as the less expensive alternative to iPhone 5. "I don't have a crisp conclusion about the 5c because I don't know what the company expected exactly," he says. "The default (i.e. simplest) view is that they felt a 5c would be better than keeping the 5 [as a discounted model]."

The latest round of disasterism was triggered in late January during the earnings conference call on Apple's Fiscal Q1 results, and has now become a well-established, incontestable meme. Here's a typical example. "Cook signaled a couple of things on the call," said Ezra Gottheil, an analyst with Technology Business Research, reported in a ComputerWorld story. "He essentially said, 'Oops, the 5c was a mistake.'"

Yet Cook neither said nor implied any such thing, as even a superficial review of the conference call transcript shows. Nearly all of his comments were taken out of context and misunderstood or misinterpreted, or both, by many bloggers, analysts, and commenters.~~

The 5c product and pricing plan

Before turning to the conference call, recall Apple's product and pricing strategy before the 5c. Apple created a three-tier price structure over time. Each year, a new flagship, high-margin phone is announced. One version of the previous year's model remains available at a $100 discount, with a two-year mobile contract. One version of the 2-year-old model is available free, with a two-year contract.

"In the early days of this strategy, it was a great way to continue to build up the iOS user base without having to compete in the lower margin feature phone space," pointed out Anand Lal Shimpi, in his AnandTech review of the iPhone 5c.

But the iPhone 5 was a much more expensive product to produce: it was the first iPhone with a 4-inch screen, it made use of in-cell touch display technology, premium construction, and other high-end features. It "quickly became a device that Apple would rather not discount," said Lal Shimpi. He sees the iPhone 5c as Apple's solution to this dilemma, allowing it to continue its three-phone product scheme and its long-standing business model of high-margin products.

The 5c adopts almost all of the iPhone 5 hardware features and innovations, including the in-cell touch, the display, the Lightning connector, rear-facing camera, and the A6 processor. But these are set in a plastic body instead of machined aluminum. The 5c also adopts some features found in the 5s, such as the front facing FaceTime camera, and the Wi-Fi, cellular and Bluetooth hardware. And it's a full-blown member of the Apple ecosystem, running iOS 7, the latest firmware. The approach let Apple leverage economies of scale, cut costs and offer the 5c at the price point it wanted, according to Lal Shimpi.

The 5c's pricing is the key to its purpose, he says: $99 with 16GB, $199 with 32GB, both with a two-year contract. As Lal Shimpi notes, that's exactly the price one would expect for a discounted iPhone 5.  "Anyone expecting the 5c to be Apple's solution for volume in China or somehow compete in the feature phone space will be disappointed," he says, as many indeed were. "At the same time, anyone who is familiar with Apple's business will know that a low cost volume play was never in the cards."~~

Tim Cook speaks, few listen

Cook's comments in the January earnings call were widely cited as evidence that the 5c  was at best a disappointment and at worst a disaster. In almost every case, he was misunderstood or misinterpreted or both.

Cook was asked by Toni Sacconaghi, of Sanford C. Bernstein to explain why Apple's smartphone growth isn't matching the growth rate of the overall market. Here's the nub of his question: "[W]hat is different about the smartphone market that is not allowing you to hold or gain unit share despite apparently having the best product? Do you propose to do anything differently going forward because I think it's great to have an aspiration to make the grade with the best products but I think that's in the spirit of ultimately growing at least in line or faster than the market and that doesn't appear to be happening?"

Cook's reply is quite lengthy, but there are two key parts. First, "If you look at what we did this year, we announced two iPhones for the first time rather than one and looking at last quarter, if you looked at our sell-throughs not the sell-in but the sell-through of what I will just call our entry phone or mid-phone [i.e. iPhone 5c] and our top part [high-end?] of the 5s. All of those grew year-over-year versus the phones that were in those categories previously."

Sell-in refers to a manufacturer's sales to a channel, for Apple this channel is carriers and retailers; sell-through refers to the sale made by the carrier or retailer to an end user. Sell-through is one of the many numbers Cook watches closely, as he mentions in a recent Wall Street Journal interview. "We always look at the underlying health of our businesses," he said. "And what I mean by that is we look at sell-through because that's what's most important to us. About 70% of our business is indirect, 30% is direct. In that 70%, we look at great detail of what's selling through. So when you look at the sell through, the iPhone [in Oct-Dec 2014 quarter] was actually higher than the sell-in so I care more about that."

In his conference call reply, Cook says that iPhone 5s unit sales to end users grew compared to iPhone 5 sales to end users during the same period a year earlier the first full quarter after its launch. But he's also saying that the "mid-phone" iPhone 5c sales to end users grew faster than the previous phone that was in that same category, which means he's referring to the held-over, 16GB iPhone 4S. The 4S was discounted by $100 when the iPhone 5 was released in September 2012. To repeat: Cook said the sales to end users of the 5c were higher than the discounted 4S sales of a year ago.

Secondly, Cook goes on to talk about Apple's very strong growth in the quarter in overseas markets, many of them emerging markets, where the Conventional Wisdom had decreed that Apple faced stagnating growth because the high-end iPhone simply was too expensive. Then he turns to the North American market.~~

"We sold more 5ses than we projected...."

Cooks says Apple "did not do as well" in North America, where "our...business contracted somewhat year-to-year." There were two reasons, according to Cook. The one relevant to this discussion is Apple's sales projections for the quarter. "[I]f you look at the reason for this [contraction], one [reason] was that as we entered the quarter and forecasted our iPhone sales...we actually sold more iPhone 5ses than we projected," he said. "So, the mix was stronger to the 5s and it took us some amount of time in order to build the mix that customers were demanding."

Cook went on to say that a second reason for not doing as well in North America and therefore weighing down the overall results, was the decision by the main mobile carriers to be stricter about their smartphone upgrade policies fewer subscribers were allowed to upgrade.

So what is Cook saying? More people than expected ordered the 5s, and Apple had to scramble for most of the 12-week quarter to come up with enough units to "get...the iPhone 5s into proper supply." He is unmistakably clear: "we sold more iPhone 5ss than we projected. So, the mix was stronger to the 5s...."

Yet almost universally, Cook's comments were interpreted as saying, or meaning, something quite different: that Apple had over-estimated demand for the iPhone 5c and had, as a result, sold fewer units than projected. Apparently, a comment such as "the mix was stronger to the 5s" was interpreted to mean that "the mix to the 5C was weaker." But that's not necessarily the case.

Unfortunately, none of the analysts on the call specifically asked about the 5c sales projections or whether the 5c had been out of balance with regard to demand and supply during the quarter.

Getting the few facts available right

The iPhone 5c, released six months ago, was priced in keeping with Apple's past practice of discounting the previous year's model, when a new iPhone was announced. But this time, Apple had created not a hold-over, but a product in its own right: the main hardware components of the year-old iPhone 5, including screen size, display technology, and processor, combined with some features introduced in the high-end iPhone 5s.

Given all the misunderstanding, misinterpreting, suspect data, and sheer rumor that underlie the proclamations of doom [see sidebar], is there anything that suggests how the iPhone 5c is actually faring?

As noted,Cook revealed in the January earnings call that the phones in both "categories" the 5c entry phone or mid-phone and the high-end 5s had sold year-over-year more units than the previous phones in both those categories. He also said that Apple sold more 5s units "than we projected." But said nothing about the 5c projections.

Cook revealed another criteria for measuring iPhone 5c success. Later in the call, Brian Marshall, of ISI Group asked: "Can you help us think about how you guys view the iPhone new user growth out there in the marketplace versus simply a solid replacement cycle that the company has with its installed base?"~~

Cook: "We saw a significant new-to-iPhone number. It's not numbers that we throw out, but we particularly saw that on the 5c, which is what we wanted to see. So, it's clearly not just upgraders [from existing iPhones to one of the two new models]." One intended role of the iPhone 5c was to bring in first-time iPhone users and it did so in "significant" numbers, according to Cook.

One set of independent data supporting Cook is from the UK data analysis firm Kantar, as reported by Citeworld's Ron Miller, who is one of the relatively few who have argued that the 5c was succeeding or, at least, not failing.

"While 80 percent of 5s purchases came from people who previously owned an iPhone, Kantar reported that almost half of those buying iPhone 5cs were switching from Android phones, particularly from LG and Samsung...." Miller wrote. "Apple is also reaching a less affluent group with the 5c, with 42 percent of U.S. buyers reporting an income of less than $49,000. All of this data suggests that while iPhone sales overall have gone down in the UK and held flat in Europe, Apple is starting to capture some of the competition's market."

If Kantar's data is correct, it shows that Apple understands its prospective new users those targeted with the 5c -- better than the iOSphere does. After the 5c was announced in September 2013, another meme was quickly established: the $100 difference between the 5c and 5s was "minimal," sort of like a rounding error, and buyers would opt for the 5s because it offers a higher value it's worth it. For some buyers, this is, indeed, the calculation they would make. But this kernel of truth is often universalized and couched in strikingly condescending terms.

The 5c "sort of fills the low-end option for Apple's iPhone lineup, and it certainly provides a good option for teenagers (parents buying for teens, really), but even moderately discerning customers know it's better to stretch into the iPhone 5s than buy the iPhone 5c," says Chris Maxcer, writing in January for TechNewsWorld. http://www.technewsworld.com/story/79885.html "It seems silly to buy the older generation processor at relatively similar carrier-subsidized price points. The difference between US$199 with a two-year contract and $99 with a two-year contract for a device that I'll hold every single day for two years is minimal. If I were in the market during this cycle, the 5s would be the smarter buy."

[Maxcer's comment is reminiscent of one by critic Pauline Kael, referencing the late former U.S. president, Richard Nixon: "I live in a rather special world. I only know one person who voted for Nixon. Where they are I don't know. They're outside my ken. But sometimes when I'm in a theater I can feel them." Just replace "voted for Nixon" with "bought an iPhone 5c."]~~

It would be a smarter buy...for a male Internet blogger who thinks that $99 and $199 are "relatively similar." To stick with Maxcer's example, for a parents buying smartphones for two teens, selecting the iPhone 5s would add $200 to the total price tag, or $400 if the parents were included. In the real world, $200 matters for lots of people. For lots of people, $100 matters. That's because they're "hiring" the iPhone for a different job than Maxcer is.

Obviously, the "retail" price of the phone is only one part of the calculation a buyer makes. The main recurring cost is the monthly cellular data plan that goes with a subsidized smartphone purchase. Since the release of the iPhone 5, there have been changes in data plan pricing, the data buckets, and in financing. For example, T-Mobile lets you sign up for the 5c today with no money down, paying $23 a month for 24 months for the phone, with its cheapest data plan at $50 month for 500MB of data. AT&T offers the 5c for $100; its cheapest data plan starts at $60 for 300MB of data.

The 5c is also available at its full, unsubsidized price on services like Walmart's Straight Talk: the 16GB 5c is priced currently at $549; the Straight Talk Unlimited 30-Day Service Card offers "unlimited" high speed data for the first 2.5GB of data, with text, talk, and Web access. (After 2.5GB, you get unlimited data at 2G speeds.)

It's not clear how these changes have affected buyer's perceptions of and decisions about the 5c vs the 5s. For the Oct-Dec 2013 period, the 5c was the No. 3 and sometimes the No. 2 choice each month on all four major mobile carriers in the U.S. The 5s was No.1 and Samsung Galaxy S4 was usually No. 2.

The fact that 5c buyers are different from Maxcer is suggested in additional data from Kantar, part of a Feb. 24, 2014 report on smartphones in Europe, "Android edges toward 70% in Europe." The company noted two demographic trends in iPhone buyers. "There is a stark gender divide between 5c and 5s buyers in Britain 74% of 5c buyers are female versus just 36% for the 5s. There are also clear differences in how each device is used. 5s users are more engaged with their device, particularly for data-heavy functions such as watching mobile TV or downloading music."

A single study is not conclusive. But it's at least suggestive, and bearing further study, that a very different group of buyers is choosing the 5c compared to the 5s.

How is the iPhone 5c actually selling?

Apart from Cook's comments in the conference call, there is no definitive data. But there are some surveys and studies, which have varying degrees of rigor, that suggest that it's selling at least as well as the 4S did in its role as the less expensive iPhone.

In December 2013, Kantar reported that the 5s was outselling the 5c by a 3:1 ratio in Britain. But by late February 2014, the ratio had improved to 2:1, according to the report cited above. To restate that: at its "worst," one of every four new iPhones sold in Britain 25 percent was an iPhone 5c. By the end of the study period, that had risen to one in three -- 33 percent.

But the ratio can change because both variables change sales of the 5s might have fallen, or 5c sales rose, or both. This dataset by itself doesn't reveal that inner dynamic.

In January 2014, Consumer Intelligence Research Partners  published its estimates of how the 5c sold in that quarter compared to the 4S in the year-ago quarter after the release of the iPhone 5. This seems to be one of the very few attempts so far made to compare Apple's apples with...apples.

The CIRP study was based on a survey of just 500 U.S. Apple customers that purchased an iPhone, iPad, or Mac in the U.S. from October to December 2013, according to a summary that appeared on WallStreetCheatSheet

First, let's look at CIRP's data on the performance of iPhone 4S, after the launch of iPhone 5 in September 2012. "Following the October-December 2012 quarter, the iPhone 5 accounted for 50 percent of total sales while the then-mid-priced iPhone 4S accounted to 32 percent of sales," CheatSheet summarized. "Rounding it out, the iPhone 4 took 18 percent of sales in the year-ago quarter." That means the lower-priced iPhones in late 2012 the 4S and 4 accounted for 50 percent of all iPhones sold during that quarter.

What about the iPhone 5c? "[CIRP] reported that the iPhone 5s accounted for 59 percent of total iPhone sales in the quarter, while the iPhone 5c accounted for 27 percent of total sales," according to CheatSheet. "The remaining 14 percent of total iPhone sales was attributed to that of the legacy iPhone 4S." That means "lower-priced" iPhones the 5c and 4S accounted for 41 percent of all iPhones sold during that quarter.

If CIRP's results are representative, it shows that the 5c performed almost as well as the 4S a year ago. Granted, the same data can be interpreted and has been -- as saying "the 5c is not performing as well as the 4S."  But keep in mind what Cook said: "...if you looked at our sell-throughs not the sell-in but the sell-through of what I will just call our entry phone or mid-phone and our top part of the 5s: All of those grew year-over-year versus the phones that were in those categories previously."

The CIRP data shows a decline in the 2-year-old model sales, from 18 to 14 percent. Could that indicate the 5c is attracting some of these most cost-conscious buyers? There's no way to know at this point.

Dediu's estimates and modeling in the accompanying chart show a similar, potential dynamic. "Potential" because these charts only have data from September 2013 (the end of Apple's fiscal quarter/year) and the Oct-Dec 2013 quarter, the first full quarter of iPhone 5c and 5s sales. Apple's current quarter ends this month and its results will be announced in April.

Look at the "Mix" and "Revenues" charts. The last two "bars" at the right, represent calendar Q3 and Q4 of 2013. "Mix" shows the estimate of the percentage of different iPhones sold in each quarter. The style of the charts make precise numbers hard to calculate. Eyeballing and guestimating, the 5c in its first full quarter of availability seems to be about 23 percent of unit sales, with the 4S and 4 being another 3 to 5 percent. That mix seems quite close to the comparable mix in Q4 2012 in the first full quarter of the iPhone 5 availability. Then, the 4S and 4 together were about 25 to 26 percent of the mix.

That pattern is reflected in the "Revenues" chart, which shows Dediu's estimate that the iPhone 5c accounted for roughly $6 billion of the $32 billion in iPhone revenues for the quarter, with the 4s and 4 adding roughly another $3 billion. As noted at the outset, if the iPhone 5c was a business, it would already have landed on the Fortune 500 list. By comparison, in the second quarter of iPhone 5 availability (Oct-Dec 2012), the 4S and 4 seem to have accounted for just over $8 billion.

Again, these numbers are imperfect and incomplete. And it's impossible from these to predict, let alone know, how the iPhone 5c will fare in the current or future quarters. But they do at least suggest that, so far, the 5c is fulfilling the roles that Apple, apparently, created it for. There is no indication of disaster, failure, or flop.

John Cox covers wireless networking and mobile computing for Network World.Twitter: http://twitter.com/johnwcoxnwwEmail: john_cox@nww.com

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