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Why are Apple’s margins shrinking? It’s all about the iPhone

Apple Gross Margins

One big reason Apple’s share prices have crashed over the past few months has been the perception that the company’s period of remarkable growth has ended and that it has now become a typical slow-growing tech behemoth. The best evidence of this has been the significant decline of Apple’s gross margins, which peaked at close to 50% in late 2011 but have now shrunk to 37.5% in the company’s most recent quarter. The big questions, of course, are why have Apple’s gross margins been shrinking and does the company have any hope of returning to its 2011 glory days?

Asymco’s Horace Dediu has crunched some numbers and found that Apple’s margins are more or less directly tied to the sales performance of its popular iPhone. Dediu notes that the iPhone has been a “uniquely profitable product” that regularly hauls in gross margins of 50% or greater for the company. So it stands to reason that if the iPhone’s gross margins start to slump, then the rest of the company’s margins will sink as well.

Interestingly, Dediu finds that the iPhone’s average selling price (ASP) has remained constant in the low-to-mid $600 range while the iPad’s ASP has fallen more dramatically over the past year from $531 to $449. The big difference, Dediu says, is that the cost of iPhone components has increased by around 29% over the past year, which has helped cut iPhone gross margins from 58% to 48%. In fact, Apple cites the cost of components in its earnings report as a reason for reduced margins and says that it benefited from “a more favorable foreign currency environment, and historically low costs” in early 2012.

Putting all this together, it’s easy to see why many investors have decided that Apple’s heyday of sky-high growth is over, especially since the flood of low-cost smartphones in emerging markets will likely force the company to produce a cheaper iPhone that it can sell in China, Brazil and India that will also further cut into Apple’s margins. There’s also the fact that Apple has had difficulty finding a suitable replacement for longtime component supplier Samsung, which has transformed from a trusted partner into a hated rival over the past couple of years, thus causing the company’s supply chain some high-profile hiccups.

So it looks as though worries about Apple’s slowing growth do have justification. The iPhone seems like a once-in-a-generation product that helped Apple become the world’s most valuable tech company, but it now faces brutal competition from the likes of Samsung and a horde of other Android vendors. Unless Apple has another revolutionary product up its sleeve, its chances of producing gross margins close to 50% seem very slim indeed.

Prior to joining BGR as News Editor, Brad Reed spent five years covering the wireless industry for Network World. His first smartphone was a BlackBerry but he has since become a loyal Android user.