Apple changed the world with the iPhone, but did you know they struggled with their margins?

Today we dig into that story and how they fixed it.

Lots to learn that can be applied to your business!

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How Apple transformed their Gross Margins (and you can too)

When Apple released the iPhone on June 29, 2007, it not only changed Apple’s history… it ​changed the history of the world​.

Touch screen phones, previously seen a gimmick and not workable, suddenly because all that anyone wanted. It forced other businesses to immediately pivot and even caused a few to go out of business. The previously unstoppables Nokia and Blackberry have struggled ever since.

Despite this, I think it’s easy to forget the impact this new technology had on Apple itself.

In 2006, they had $19.32 billion in revenue and by 2009 that had more than doubled ($42.91 billion). By 2012, that number had increased to $156.51 billion, an insane 8.1x growth in just 6 years. That comes out to a 135% ANNUAL growth rate!

 

The dominance of Apple, and the iPhone, seemed inevitable and in some sense still does.

But as the years have gone on, increases in the price of the device have caused some to balk and either purchase something else or slow down replacing old devices.

Despite this increase in revenue, everything was not so rosy.

Between 2007 and 2013, their gross margins had decreased from over 40% to below 35%.

 

For a company of its size, that large a decrease in just a few years time is extremely concerning.

While still highly profitable (and making more money than they did before), the downward pressure on their profits was real.

For the next 3 years, they were able to increase them again, bringing them closer to 40%, but never to the previous heights.

Then, in 2021 and beyond, their gross margins increased again to finally go back over 40%.

So, how did they address their gross margin problem?

Let’s dig in.

Reduced the cost of the product

Between the 2020 and 2022 annual reports, revenue grew by 14.55% and cost only grew by 10.61%. They don’t break out specifics, so it’s hard to tell exactly what drive this margin change. But we do know one thing: the ​iPhone is roughly 50% of it’s revenue​.

With such a large difference between the increases, if no change in iPhone costs, you’d have to have a greater than 15% reduction in other costs to account for that difference.

Since it’s unlikely a business at that scale decreases prices that quickly, the 3.94% decrease of cost in relation to revenue had to come, in part (or whole), from a decrease in cost of the iPhone.

Expanded their core product offering

For years, Apply only offered one phone. In 2013 they slightly expanded the line, offering an iPhone 5s and 5c. The c had less features and was lower priced.

In 2014, they took a step up and created the “Plus” line. This was a larger screen with slightly better features and cost $100 more than the base model.

This allowed them to capture both the high and low end of the market.

Based on their margin struggles, I’d assume the high-end product also had higher margins.

But margins stayed the same. So they had to do more.

Added ancillary (high-margin) products

The next phase they entered was the “accessories” phase of the business where they introduced the Apple Watch (2015) and AirPods (2016).

Both items allowed them to sell more to CURRENT customer, whereas iPhone growth is based on current customers reupping and new customers coming into the ecosystem.

 

By adding these items, they likely increased the LTV (lifetime customer value) and margin, as lower-priced accessories are usually sold at higher margins.

Introduced a new revenue stream

Despite all these changes, margins stayed steady. As the phone wars heated up, the pressure to keep the upgrades coming made it harder and harder to capture additional margin on their phones.

So, in 2019 they started offering Apple TV+, a new streaming service positioned to compete with the Netflix of the world.

At the same time they released even more services:

• Apple Arcade
• Apple News+
• Apple Card

 

They were entering a new era of services and it had the potential to change their business.

Today, services are almost 20% of total revenue. In the future, this number is likely to be bigger.

After 4 years of flat gross margins, Q1 of 2021 saw gross margins increase by over 1%.

In a business Apple’s size, that represents over $41 million in additional Gross Margins annually.

Since that point, Gross Margins have increased another 3.5%!

Gross Margins rose from an average of 38.5% between 2016 to 2020 to 43.45% in the Q2 of 2023.

 

And that, my friends, is how you transform the business.

In the last 5 years, by increasing margins from 38.5% to 43.45%, they’ve extracted $51.41 billion in additional gross profits.

But this is just the beginning…

And the next 5 might be even crazier…

If Apple holds margins study but continues to increase their services revenue, they could see even more uplift in margins.

With Services Gross Margins at 71.75% (compared to 36.28% for products), let’s assume the growth of Services accelerates and Product slightly slows:

• Service grows at 20%
• Product grows at 10%

In 5 years, Gross Margins are still up 2.17%, or 6.9% over their 2016-2020 average.

 

If you’re a business owner, Apple has put on a masterclass on how to increase your margins, and as a result, your profits:

1. Control costs of goods
2. Create tiered offerings to serve more customers (new iPhone)
3. Offer ancillary, higher margin, products (Watch & AirPods)
4. Introduce new product or service offerings (Apple TV+)

Did this give you any ideas? If so, reach out on social media and let me know what you're cooking up.