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September 18, 2013

Apple's hefty memory markup puts margins ahead of market share

SAN FRANCISCO — Buying memory to store more photos, videos and applications on a smartphone costs most consumers about $50. For Apple customers, it costs four times more than that.

The discrepancy is what consumers will find again in stores starting Sept. 20, when the world's most-valuable company begins selling its new iPhone 5s and 5c. While a 5s with 16 gigabytes of memory will cost $199 with a wireless contract, that jumps to $399 for 64 gigabytes of memory. The 5c also ranges in price depending on the amount of memory.

Apple is charging up to $200 for more memory in an iPhone even though the component has plummeted in cost since 2009. Flash costs about 60 cents per gigabyte today, down 71 percent from $2.10 per gigabyte four years ago, according to IHS iSuppli. The premium fee for memory illustrates how Apple is choosing to maintain its industry-leading profit margins over cheaper pricing for a broader audience — even if that means giving up market share to rivals.

"Apple has never followed the trend in passing along the savings," said Michael Yang, an analyst at IHS iSuppli, who researches the memory-chip business. "As long as Apple can make people pay, it will stay on this track."

The strategy is now under scrutiny from investors and analysts, who question why the Cupertino, Calif.-based company hasn't cut prices to make its products more affordable, especially as it grapples with slowing sales growth.

Investors have sent Apple's stock down 8 percent since the Sept. 10 event when the new iPhones were unveiled, partly over concerns about how high the company is pricing the gadgets. The lower-cost iPhone 5c is more than $700 in China without a wireless contract, which investors said may be too expensive for many customers there.

Natalie Kerris, a spokeswoman for Apple, declined to comment.

Flash-memory chips are semiconductors that retain data even when the power is switched off. They are used for storing music, videos and other program files. The market for the chips, dominated by Samsung Electronics Co., grew after Apple began using the parts for iPod music players, sending prices up. Costs have declined as output has increased and new production technology has lowered manufacturing expenses.

Unlike other companies such as Samsung and LG Electronics, Apple doesn't allow customers to swap out memory cards from their smartphones if they need more space. A 64-gigabyte memory card costs as little as $50 from Amazon.com and other websites.

"They can't put in upgradeable storage because they make so much money on the markup to 64 gigabyte," said Kyle Wiens, an analyst at IFixit, which performs analysis of the components within consumer electronics.

Apple's premium pricing extends to other products. An iPad with 128 gigabytes of memory costs $799, $300 more than a 16- gigabyte model.

Apple also prices a charger at $40 in its retail stores, even though it costs about $1.40 to make, according to iSuppli. Upgrading a Mac Pro desktop computer's graphics by buying a Radeon Pro 5870 card costs $449 if bought from Apple, while almost identical cards for personal computers cost about $200.

Apple has long charged more than the market rate for memory in iPhones, which are its flagship product. Yet there are growing signs customers may not be enthusiastic about paying up.

Apple's share of the $280 billion smartphone market has dropped as Samsung and others offer a wider variety of prices and designs for phones. The iPhone accounted for 13.2 percent of global smartphone shipments last quarter, compared to 17 percent a year earlier, according to researcher IDC. IPhone sales have trailed the total smartphone market for the past two quarters.

Apple is balancing high prices against market share, said Greg Sterling, an analyst at Opus Research. As a highly-regarded brand, Apple risks harming the cachet of owning one of its gadgets if it lowers the price, he said.

"They are walking a tightrope because they want to be a premium brand, but they don't want to be shut out of or marginalized like they were in the PC market when they priced themselves out of the mainstream," he said.

From the iPhone's average selling price of about $600, Apple turns about 50 percent into profit, according to Brian Marshall, an analyst at ISI Group. That has helped the company's gross margin, which stood at 37 percent last quarter compared to Samsung's 30 percent, Dell Inc.'s 18.5 percent and Hewlett- Packard Co.'s 23 percent, according to data compiled by Bloomberg.

In total, Apple collected 53 percent of the global profit in the smartphone industry in the second quarter, according to Canaccord Genuity, an investment research firm.

Some consumers said they feel locked in by Apple's high pricing for memory. John Whalen, the Kennebunkport, Maine-based founder of Cider Mill Press Book Publishers, said he buys Apple gadgets with the most memory so he always has plenty of room for his content — yet he doesn't like to pay up for what is an increasingly cheap component.

"I haven't been pleased with their exceptionally high pricing for quite some time," he said.

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