Should Apple, Inc. Worry About Subsidy Cuts in China?

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Once upon a time, Apple investors were easily rattled by any headlines about carrier subsidy cuts. That made sense because most people still aren't willing to pay full sticker price for an iPhone, but at the same time subsidies played an important role in customer acquisition for carriers.

Well, one of Apple's newest prominent carriers is looking to reduce subsidy costs: China Mobile . Should Apple be worried?

Shifting to the mainstream
Bloomberg first reported last month that China Mobile was looking to reduce subsidies by $2 billion, following up again today with additional details on China Mobile's intentions to cut costs. Government agencies told the state-controlled carrier that it spent too much on subsidies and marketing for devices like the iPhone, among others.

The net result is that the cost for an iPhone 5s could end up doubling, while the iPhone 6 is still in the process of getting regulatory approvals before launching. China Mobile is shifting its focus away from the high-end and toward the mainstream, which inevitably could benefit local smartphone manufacturers like Xiaomi and Huawei, which offer more affordable smartphones.

What's different
Chinese carriers structure subsidies very differently than U.S. carriers do. U.S. consumers are used to paying less upfront in exchange for higher monthly bills, while in contrast Chinese consumers pay more upfront in exchange for lower monthly bills.

Under China Mobile's old structure for an iPhone 5s, consumers would pay 5,288 yuan (~$860) upfront but then receive monthly rebates of 194 yuan (~$32) for two years to offset the cost. Now the upfront cost will be 4,488 yuan (~$730) with the monthly rebate falling to 136 yuan (~$22). After everything is said and done, consumers end up paying nearly twice as much for the phone.

But since the upfront cost is lower and the added cost is spread over the course of two years, the overall impact to Apple's business is unclear, but could even potentially be positive if you consider the behavior of U.S. consumers. We do know that in the U.S., spreading out premiums over time has led to consumers becoming less price sensitive, which ends up shifting Apple's product mix toward higher-priced models.

Other considerations
Additionally, Apple has been making broad pushes in making its devices more affordable in emerging markets, with installment plans being its primary tool. The Mac maker launched installment plans in China in early 2013, partnering with third-party banks -- China Merchants Bank and ICBC -- to handle the financing. These plans do come at a cost, with interest rates that go as high as 10%, but offer lower upfront costs to customers.

Perhaps more importantly, Apple's entry into the phablet market represents an enormous opportunity for the company, since phablets are extremely popular in China. Phablets do cost more, but eager Chinese consumers are already buying iPhone 6 models for upwards of $3,000 in the grey market pending the official launch in mainland China. Of course, early adopters willing to pay exorbitant grey market prices may not be representative of the mainstream market.

China Mobile reducing subsidies isn't exactly good news, but it probably won't put a dent in Apple's business.

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The article Should Apple, Inc. Worry About Subsidy Cuts in China? originally appeared on

Evan Niu, CFA owns shares of Apple. The Motley Fool recommends Apple and China Mobile. The Motley Fool owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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