The iPhone 6: From Louis Vuitton to Chanel

Yves Carcelle, who, in the words of the New York Times “transformed Louis Vuitton from a staid French maker of handbags and travel trunks into one of the world’s most recognizable luxury brands” died over the weekend. I have a short note in today’s Daily Update (members only) that compared Louis Viutton to Apple:

LVMH broadly and Louis Vuitton specifically democratized luxury with a clear focus on the (upper) middle class. It’s the same market Apple targets, with much the same value proposition: luxury quality at accessible prices. To be sure, the comparison isn’t perfect; LV bags are both more expensive than, say, an iPhone, yet also not even close to being the best in their category, and many people believe that LV has overly expanded – and thus diluted – its brand. Of course that is always a concern for Apple as well.

It’s the second point – how LV’s position in the market differs from Apple’s – that is particularly worth exploring when it comes to next week’s iPhone announcement.

Last year all of the talk running up to the iPhone announcement was about the iPhone 5C and how much it might cost. In Thinking About iPhone Pricing, I argued that the price would be on the high side of expectations:

The fact the 5C needs to be sold in both subsidized and unsubsidized markets makes the pricing tricky; in subsidized markets, Apple is currently receiving a subsidy of around $450 on the iPhone 5. It wouldn’t make sense to unilaterally lower that – after all, it’s not like the carriers are going to lower iPhone service bills. This sets a floor of $450 for the unsubsidized 5C ($0 with contract). This also lets Apple dump the 4S, with its 3.5″ screen, 30-pin connector, and lack of LTE.

$0, though, is problematic from a branding perspective. While a new phone, heavily advertised (unlike the old iPhone 4) and sold for $0 would likely move an incredible number of units, it would also create consumer expectations around $0 and associate Apple with “cheap.” I would imagine Apple is very hesitant to go there. $99 makes more sense. (This point on branding applies to the unsubsidized cost as well; in Asia, in particular, the iPhone’s biggest selling point is brand prestige, not apps or user experience. Apple will be happy to err on the side of more expensive.)

This final point about the iPhone’s positioning in Asia was a reference to the idea of a Veblen good. From Wikipedia:

A Veblen good is a member of a group of commodities whose demand is proportional to their price; an apparent contradiction of the law of demand. A Veblen good is often also a positional good.

The Veblen effect is named after economist Thorstein Veblen, who first identified the concepts of conspicuous consumption and status-seeking in 1899.

Conspicuous consumption and status-seeking are major drivers of the Asian market in particular, and are why Asians make up over 50% of the luxury market by nationality.1 In the case of handbags, you absolutely are saying something with your selection: a Louis Vuitton bag is many people’s first luxury purchase, and shows you have some means; a Chanel bag, on the other hand, signifies you are at least upper middle class, maybe even rich. At the top of the heap, though, is Hermès: sport a Birkin bag and there is no question as to your status. A whole host of other brands – Prada, Céline, Balenciaga, and many more – say similar things about not just your status but also your taste and the kind of person you wish to be. And, not surprisingly, the most desirable brands are also the most expensive. Handbags are Veblen goods.

The question for Apple is whether the iPhone is a Veblen good as well:

  • There is no question that the market for smartphone has bifurcated. There is a high end with a stable average selling price of around $650; the iPhone has a significant majority here, but there are also phones from Samsung, HTC, LG, and others. The rest of the market competes primarily on price, and very good Android smartphones can be had for prices approaching $100. The middle of the market, meanwhile, is supported primarily by $0 subsidized phones and, to a lesser degree, demand for older iPhones.
    The smartphone market has bifurcated between the high and low end. The low end is motivated primarily by price.
    The smartphone market has bifurcated between the high and low end. The low end is motivated primarily by price.
  • On the high end (say, $450 and up), the evidence actually suggests that people strongly prefer higher prices. Consider the 5S’s success relative to the 5C, or the fact that Samsung and HTC still launch their flagship phones at $650. Now, to be fair, there are two countervailing factors at play:

    • The more expensive iPhone is better, so this is an apples and oranges comparison
    • The prices of all these phones are influenced by the subsidy structure of the U.S. market in particular

    That aside, just as I argued last year that Apple didn’t really know the price elasticity of the iPhone, they don’t really know just how much people are willing to pay to have the best possible model. It’s at least worth finding out just how much the market can bear.

    For a normal good, the quantity increases as the price decreases. A Veblen good, though, curves in the opposite direction.
    For a normal good, the quantity increases as the price decreases. A Veblen good, though, curves in the opposite direction.

And so, in a very long and roundabout way, we have arrived at what I think is the more interesting of the two rumored iPhone models: the 5.5″ iPhone 6. I believe the phone does exist (some don’t) for no other reason than Apple would have planted a leak if it didn’t; they surely know how devastating its absence would be in certain segments of Asia in particular.

Make no mistake: there are a good number of people who will buy the 5.5″ iPhone because they truly want a big phone; moreover, these customers are probably more likely than any other group to have switched to Android simply for screen size. I think this phone will steal customers back from Android and really hurt Samsung.

However, I also think that this phone will cost $100 more ($750 to start), and that it will in some small ways be superior to the 4.7″ iPhone. And, the reason for that premium will be because the 5.5″ phone will be a Veblen good. It will be the phone to have for anyone who cares to demonstrate just how well-off they are, especially in Asia – the Chanel to the 4.7″ Louis Vuitton (Vertu can keep the Hermès folks).

There is one more fact that makes this strategy compelling: your average Chanel bag is $4,000 (compared to LV’s $2,500 or so). That is more than 5x the price I’m predicting for the 5.5″ iPhone. As I’ve noted previously absolute numbers matter just as much if not more than percentages, and the truth is paying $750 for the best is incredibly accessible relative to just about any other luxury good in the world. Sure, lots of folks even in China may not afford Chanel, but anyone who can afford even a Longchamp bag can buy the best iPhone. It’s a rather nice trick Apple has pulled: being accessible and the best of breed all at the same time.2

I expect the rest of the phone lineup to fall into place behind the 5.5″ flagship:

  • The 4.7″ iPhone will take the 5S’s place at the $650 price point ($199 subsidized). I suspect it will have the same processor, RAM, and camera as the big iPhone; Apple will market it as being completely the same except for the screen (I suspect John Gruber is right that the 5.5″ will have a 3x display, while the 4.7″ will have only 2x)
  • The 5S will move down a notch into the current 5C slot and be sold for $550 ($99 subsidized)
  • The 5C will be the low end with a price of $450 ($0 subsidized)
  • The 4S will probably stick around in select markets like India and China for $350, but Apple is probably waiting for the 5C to move down one more notch before they really push this price point

This is an incredibly compelling lineup from a shareholder perspective:

  • More people are on the new form-factor upgrade cycle than on the ‘S’ upgrade cycle
  • New screen sizes are a very tangible reason to upgrade for those who have kept their phones longer than average
  • Selling the top-end phone for $100 more will be a big boost to both the average selling price and to margins.

This last point is Apple’s final answer to those still holding out hope for a truly inexpensive iPhone. Apple could:

  • Sell a $300 phone with a $100 margin (and likely cannibalize a higher-end model with bigger margins), or…
  • Substituted a $750 phone for a $650 phone for the same $100 margin addition3

It’s a bit like how the iPhone cannibalized the iPod: by being more expensive and higher margin. Nice business if you can get it!

(Later this week: wearables and payments)

  1. Figures are from this presentation by Bain; note that Asia as a geography is only about 33% of the market. Most of the difference is accounted for by Asian tourists traveling to Europe in particular 

  2. Don’t pay any attention to stats about the average wage in China; the country is both huge and has massive income disparity, which means there are a huge number of people who can afford whatever Apple deigns to charge. More here  

  3. Minus the additional cost of the superior components, of course