Does Apple need to make a cheap iPhone?

"Apple needs to make a cheap iPhone" is the new "Apple needs to make a cheap netbook" and the wisdom now is likely as sound as it was then.

Once upon a time pundits proclaimed that Apple simply had to make a netbook, or low cost, low margin laptops from competitors would destroy them in the PC marketplace. More recently, they said Apple just had to make a discounted iPad or cheap, content-subsidized (in theory) tablets from Amazon would quickly overtake them. Today, and not for the first time, the call is coming for Apple to make a cheap pay-as-you-go iPhone to compete with the bargain basement Android offerings taking financially savaged parts of Europe by storm.

But Apple doesn't do cheap.

Under Steve Jobs and now Tim Cook, they never have. They've thought differently, changed the game, and somehow they've managed to survive.

Most north Americans and some western Europeans are far more familiar with the idea of a post-paid phone, if not the term itself. Basically, it means you get the phone up front, heavily subsidized, and in exchange agree to a long term service contract (2 years in the U.S., sometimes less in Europe, 3 years in Canada). You save roughly $400 on your new iPhone, but you're paying roughly $1000 a year for service, so the carrier makes their money back and then some.

In pre-paid markets, you typically pay full price for your phone up front, then pay-as-you-go for service, without any contract or long term commitment. Because you have to pay full price for the phone, however, without any subsidies to defer the cost, cheap phones end up being attractive to far more users. And Apple doesn't have an answer to the ultra low end, uber cheap, bargain basement $100 Android phones that are increasingly dominant in pre-paid markets.

Now Apple doesn't like to leave money on the table, but they love to leave "no money" on the table. They value saying "no" far more dearly than saying "yes".

So far they've said a resounding "no" to high volume, low margin markets.

The Wall Street Journal posited today that Apple's reliance on carrier subsidies were "a crutch" and offered this statement from John Lagerling, Google's director of Android partnerships:

"Our competitors are much more dependent on such subsidies. From a sustainability standpoint, if you have very expensive devices as the only ones available to access your ecosystem, then that can come with a pretty severe hangover in the long run."

Returning again to the theory that past behavior is sometimes the best indicator of future behavior, however, we can look at the aforementioned netbook market for precedent.

Apple's first answer to the netbook wasn't a crappy, creaky, barely usable Mac with a tiny screen and cramped keyboard. It was the MacBook Air. It was a premium product that two generations later became 11- and 13-inch marvels that, while 5 times (or more) the cost of a netbook, to this day has competitors struggling to match its quality and value at the same price point.

Apple's second answer to the netbook was also the iPad. Still a premium product but one that started at half the price of the Air and, while not doing everything a traditional laptop did, was carefully and precisely aimed at doing several important, mainstream tasks better than most laptops could. Certainly better than netbooks could.

Turns out it was a killer strategy. They divided and conquered. The MacBook Air has become a trend-setting laptop, owning a key part of a lucrative product position. And the iPad has become virtually its own product category. Neither are typically subsidized.

Compare the success Apple has had with either of the those products to the results competitors have seen from devalued, depressed, and demoralized netbook offerings, and it's hard to imagine any of those pundits are still in a position to pund (punditize?) let alone keeping punding (punditizing?).

While it's dangerous to draw parallels between the very different PC and mobile spaces, Apple's ability to earn tremendous amounts of profit while owning only a tiny percentage of the market should show how their priorities are aligned. (And is something other companies, like RIM, need to think about carefully if they consider attempting to be successful with small amounts of market share.)

Even when it appears like Apple is selling the iPhone "cheaply", they're really not. They're selling it with massive carrier subsidies. An iPhone 3GS is "free" on AT&T because AT&T is paying Apple hundreds of dollars for it, making it up over the course of the 2-year service plans customers agree to when they get the subsidized phone. An iPhone 4S is only $299 - $499 on contract. It's $49 to $849 off contract.

That's not cheap.

If it means Apple doesn't do as well as $100 off contract Android phones in pre-paid markets, right now it looks like they're fine with that. As fine as they were in not doing well in the $300 PC netbook market.

Apple doesn't have to do well in every market, it only has to do supremely well in the most valuable markets. Sometimes the best way to win is not to play every game.

And if Apple one day decides they do need to present an answer to Greece and Portugal, to emerging markets, and to carriers who balk at subsidizing a flagship Apple device, it probably won't be with a cheap iPhone. It will be to the cheap phone market what the iPad was to the cheap netbook market.

Something thought differently. A game changer.

Source: The Wall Street Journal