Pinduoduo and Others Are Discounting the iPhone — Apple's 11-Year Grip on the Phone Business, From Suppliers to Sales Channels, Is Starting to Slip

Letting the channel discount a phone a month or two after launch: Apple never used to do this

On December 19, 2018, Pinduoduo's homepage put up a banner for a limited-time iPhone sale. The iPhone XS Max was going for 8,399 yuan, and with a 300-yuan coupon anyone could claim, the real price was 8,099.

You didn't even have to send a group-buy link to Moments or a WeChat group. A phone that lists at 9,599 yuan was selling for 8,099, and it was an iPhone Apple had put on sale less than three months earlier. Nor was this a one-off promotion: the countdown clock on the page kept pressing you to order, but every hour a fresh countdown started. As of publication, the sale had run a full two weeks.

Slow shipping and the fear of knockoffs left the first buyers — people who had just spent several thousand yuan — uneasy. You can see it in comment sections consumed by "genuine," "invoice" and "registered on the official site." Those comments, in turn, pushed more people to order.

New iPhone launches have sometimes brought reports of prices in Huaqiangbei falling below the official one — last year's iPhone 8, for instance. But this was the first time an Apple-authorized channel had cut so deep. Apple used to control the iPhone's pricing tightly: a dealer who discounted a new model without permission lost its authorization.

The shop selling discounted iPhones on Pinduoduo, Yihao Wanjia, is the platform's top-selling phone store. It was the first to cut the iPhone XS Max by 1,000 yuan, less than a week after the phone went on sale. Its authorization certificate shows it is run behind the scenes by Tianyin Holdings, a phone distributor listed on the A-share market.

Financial filings show that Tianyin Holdings won Apple's authorization back in 2011, becoming an official distributor for the full product line. Since then it has sold iPhone, Huawei and Samsung phones mainly through its Tmall store, Nengliang Digital, and distributed to 80,000 offline shops.

It isn't just Pinduoduo. Suning.com, an online authorized dealer listed on Apple's own site, cut the iPhone XS Max by 1,000 yuan a month after launch and has since held a discount of at least 900. JD.com and Tmall cut less, but during Double 11 both handed out a coupon worth 600 yuan off an iPhone purchase of 999 yuan or more, free for the taking, and have kept coupons worth several hundred yuan available for long stretches since.

Nor is it only China. NTT Docomo, Japan's largest mobile carrier, has now cut the starting price of the iPhone XR on a two-year contract by 30%, from 39,528 yen (2,480 yuan) to 25,920 yen (1,600 yuan).

There is nothing odd about an electronics product going on sale a month after launch — unless the brand is Apple. Eleven years in, the iPhone sales channels Apple once policed so closely can no longer hold the price.

The iPhone never used to get cheaper. That was one reason people rushed to buy it on day one — and it made Apple's operations more efficient

Pinduoduo's reputation has been poor since it went public, but what matters about discounted new iPhones is not prestige. It is that the cuts came days after launch. That takes away the reason to rush out and buy an iPhone the moment it goes on sale.

For the past decade Apple rarely let a third-party channel discount a new iPhone within a month of launch. The first cut usually landed on Double 11 itself, used by retailers as a limited-time markdown or coupon giveaway to pull in traffic, with prices returning to normal once the event ended.

Refusing to discount brought Apple plenty of benefits. Consumers never had to worry that a phone's price would collapse right after launch, as it often did with HTC, Samsung and others. Apple's own practice was to cut the price of older models only when a new iPhone arrived, and only by about 30% — which usually meant waiting a full year.

Consumers came to trust the brand and got used to buying its products without thinking too hard about it. The iPhone's high price left the impression that it was always expensive, and the wish to be first, vanity and plain habit all pushed Apple users to buy on day one.

Not discounting also spared Apple from competing on price with retailers and carriers, letting it take the largest share of the profit as more and more sales moved to its own stores and website. At the same price, consumers preferred the official channel, where the product was guaranteed genuine.

"Buy early, enjoy it early; buy late, and there's still no discount." So people stayed up through the night to grab an iPhone the moment it launched, and the official order page was so crowded it stopped loading properly within minutes of going live. Smugglers and scalpers bid up new phones and resold them at a markup. Even China Unicom's Beijing arm was caught quietly adding 1,700 yuan to the price of the gold iPhone 5s on contract.

The launch-day scramble also eased inventory pressure on Apple's own channel and on third parties. Apple would estimate first-batch sales, order production from Foxconn to match, and ship fast, turning the phones in the warehouse into profit that paid for the next round of marketing, research and production.

Component costs, meanwhile, kept falling over time while Apple's retail price stayed put, widening the margin on every later sale.

The financial reports show it plainly: more than a third of each year's iPhone sales fall in the quarter right after a new model launches. In the fourth quarter of 2016, Apple sold 78.29 million iPhones, 36% of the full fiscal year (October 2016 to September 2017).

All of this rested on the iPhone's own competitiveness. Apple releases one round of new phones a year, so buyers rarely have to worry that something newer will arrive right after they pay and leave them feeling cheated.

Just as important, consumers knew that waiting a month or two would not get them a better price.

In retail, you seldom saw a new phone discounted soon after launch. When Tmall marked down the iPhone for Double 11 in 2016, the 5,388-yuan iPhone 7 came off by 600 yuan — but only if you caught one of a limited number of coupons and joined a deposit-deduction promotion. That was less a price cut than a marketing tool the e-commerce platform paid for itself.

Dealers always wanted to discount. Apple used to be able to stop them.

Sales channels wanted to cut prices far more badly, on the reasoning that a lower price brings volume, and volume brings more profit.

Say an iPhone lists at 10,000 yuan and a dealer buys it at 9,000. Sell three in a month and the dealer makes 3,000 yuan. Discount to 9,500 and sell 10 in the same month and the dealer makes 5,000.

In the past, they simply could not do it.

In 2015, Marco Tabini, editor-in-chief of the Apple magazine Macworld, summed up Apple's channel pricing strategy in two words: never discount.

The gap between Apple's suggested retail price and the price it charged dealers was very small. The exact figures are covered by non-disclosure agreements, but the difference ran to only a few percentage points. That made it hard for a dealer to cut the price and still make real money.

To keep dealers pushing its products, Apple offered extra rebates — on the condition that the dealer advertised Apple products and never advertised them below Apple's suggested retail price. This is known as the minimum advertised price, or MAP.

With iPhone sales growing steadily year after year up to 2015, dealers and carriers were in no position to refuse the price controls Apple wrote into its terms.

Dealers were also glad to push iPhones, which moved fast and kept inventory pressure down. In 2012 it took Apple an average of 3.26 days from building a device to selling it to a dealer, and the dealer, though it carried the stock, sold through quickly too.

Not following Apple's pricing came with a punishment. In February 2016, Suning.com lost its status as an authorized Apple online dealer, with no reason given. Analysts at the time thought the main cause was the 1,300 yuan Suning.com had knocked off the iPhone 6 during Double 11 in 2015.

Apple is not the only company in the world to work this way; firms selling all sorts of goods have done the same. But Apple is the only one that, in a phone business defined by ferocious competition and fast product cycles, could charge a premium, go a year after launch without cutting its own price, and stop its partners from cutting theirs.

Apple once preferred to eat the loss itself rather than let a new product's price fall in its first quarter. The lightly upgraded iPhone 6S and 6S Plus in 2015 did not repeat the previous generation's success, yet no large discount appeared in the three months after launch. As The Wall Street Journal put it at the time, Apple absorbed the cost of the excess inventory itself: first by cutting production, and only in the third quarter of 2016 starting to discount to clear stock.

On the July 2016 earnings call, Tim Cook said revenue would fall the following quarter as the company worked down inventory. Apple's chief financial officer, Luca Maestri, said the company would spend more than $2 billion in the third quarter of 2016 clearing iPhones backed up in the sales channel.

The first broad, deep loosening of new-iPhone channel prices came with the iPhone 8 last year.

During the Double 11 season two months after launch, JD.com and Tmall matched each other down seven times in a row on the iPhone 8, the deepest cut reaching 1,111 yuan. Suning and Vipshop lowered their prices too. But the iPhone 8 was not that year's headline product — the iPhone X was.

This year the cuts are deeper and come sooner, and even the top-end model has not been spared. Apple is no longer merely tolerating discounts; it has begun subsidizing the channel. The Wall Street Journal reported that a month after the iPhone XR went on sale, Apple started trying to subsidize Japanese telecom carriers so they would lower contract-plan prices and draw users in.

"A price cut within a month of a new phone's launch is rare — not just for Apple, but for other smartphone makers as well," a Japanese carrier manager in charge of sales told a Nikkei reporter.

Apple once used one outstanding product to hold the whole phone industry's profit in its own hand. Now that profit is starting to move away.

Phones are a vast business, and for more than 20 years the competition has been brutal: many manufacturers, few sales channels. The industry's profits used to sit mainly with its biggest channel, the carriers.

In December 2006, for instance, Nokia held 36% of the phone market, with a market value of $112.9 billion and annual profit of $5.41 billion — more than all its rivals combined. In the same period China Mobile, whose user base was only a third the size of Nokia's, was worth $254 billion and earned a net profit of $15.8 billion, three times Nokia's. Verizon in the United States was worth $147.8 billion and earned $6.19 billion; NTT Docomo, Japan's largest carrier, made $2.13 billion that year.

Users bought a contract phone from a carrier, then went on paying for all sorts of so-called value-added services and games. In the end the profit stayed with the channel.

From 2007 on, Apple took all of it back.

It began by outsourcing production rather than building factories, saving the capital. Foxconn hired the workers, built the plants and took the government subsidies to make iPhones, and got less than 0.5% of an iPhone's retail price.

Last year CICC took an iPhone X apart and worked out its production cost at about $417, of which assembly accounted for just $4.2 — that is where Foxconn and the other contract manufacturers make their money.

Apple and its dealers took the remaining $582 of gross profit on the $999 retail price. Which means the combined revenue that every company supplying parts earned from one iPhone X was still less than the gross profit Apple and its dealers made.

Half-year reports show net profit of just 440 million yuan at Lens Technology, 167 million at Desay Battery, 223 million at Sunwoda and 430 million at Goertek. Apple's net profit for the first half of 2018 was 260 billion yuan; the net profits of every Chinese Apple supplier added together did not amount to Apple's small change.

While squeezing suppliers and contract manufacturers, Apple collected its own receivables within 28 days but took more than 100 days to pay raw-material suppliers and assembly plants. Working that gap in payment terms and cash cycles, Apple could run its business on other people's money and keep a large cash balance.

Dealers had it no easier. Beyond the price controls above, Apple's way into nearly every important market was to sign an exclusive two- or three-year deal with a single local carrier. To get the best subsidy and promotion terms out of the talks, Apple usually picked not the biggest carrier but the second biggest: AT&T in the United States and China Unicom in China were both No. 2 at the time.

Every one of those carriers gave Apple huge subsidies.

China Unicom, for one, signed an agreement with Apple in 2008 to sell the iPhone so it could fight China Mobile. It did pull large numbers of users away from China Mobile, at the cost of a steep drop in net profit. Unicom's handset subsidies were 3.172 billion yuan in 2010 and nearly doubled to 5.79 billion in 2011. The iPhone was the model it subsidized most.

At the same time, Apple took away the carriers' power to sell software, games and even ringtones. In 2017 alone the App Store brought in $38.5 billion, of which Apple kept more than $10 billion — essentially all of it profit.

A decade on, Apple's market value touched $1.0125 trillion while China Mobile's had shrunk to $196 billion, even though China Mobile's user base is not much smaller than the global iPhone user base.

All of it followed from the iPhone being good enough that users had to have one — good enough that they would buy it somewhere else, or even change carriers, to get it. However monopolistic carriers become, every country still has three or four of them. However monopolistic e-commerce becomes, China still has Alibaba, JD.com and Pinduoduo. But there is only one Apple. When nothing else can satisfy a consumer's craving for an iPhone, Apple has absolute control.

That absolute control over the industry rests on Apple persuading enough consumers, every year, to keep replacing their phones — and to replace them only with iPhones. As we wrote in our year-end coverage, users are still using iPhones, but they have less and less reason to move to the newest one.

Once Apple has to lean on the channel, the balance of power starts to move. Users are in no hurry to buy the newest iPhone; Apple can no longer keep its sales channels from discounting; that makes users even less inclined to buy a new iPhone right away. It is a loop.

Eleven years on, the absolute control Apple built on the iPhone is failing, and its relationship with sales channels is starting to look like that of any other phone maker.

To take the channel back, Apple has to make people want a new iPhone on day one again — through the product, through services, or by some other means.

But given where the whole phone business has stalled today, that looks hard.

Cover image: Unsplash