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Apple leaves profits on table for 'huge' iPad future

Can't think of single thing netbook does well

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Apple has great faith in the "very large" market opportunity for the iPad - so much so that it's allowing "very aggressive" pricing of the magical and revolutionary device to slice into its profit margins.

Speaking to reporters and analysts on a conference call announcing Cupertino's financial results for the quarter that ended in March, Apple CFO Peter Oppenheimer looked ahead to the current quarter, which began just before the launch of the iPad. For this, the company's third fiscal quarter, he expects gross margins (gross income divided by net sales, expressed as a percentage) to decline. In Apple's second quarter, gross margins were about 41.7 per cent, and Oppenheimer predicts they'll drop to about 36 per cent.

Why? Well, he says about 25 per cent of this expected gross margin decline will be "driven by the first quarter of iPad sales".

One analyst quickly did the math and suggested to Oppenhimer and COO Tim Cook that to make their figures work, either the iPad had "dramatically lower margins than the company average" or that sales of the iPad would be of "a bit more volume than many investors are thinking about."

Cook's answer was larded with Cupertinian marketingspeak. "When we priced iPad we priced it very aggressively in order to deliver tremendous value to our customers," he said. "And we think the market size for the iPad is very large, and we want to capitalize on our first-mover advantage."

He also hinted at the possibility that iPad margins might improve in the future, as had the profitability of other Apple releases. "As we've done in other products, although I'm not forecasting it, you can see that we have a good track record of riding down the cost curves with value engineering and volume manufacturing - or at least that's certainly been our experience with other products," he said.

"We have a great product. It's in great demand. We priced it extremely aggressively. And we did that because we believe there's a huge market for us, and certainly the initial results suggest that that's the case."

Another analyst suggested that the iPad might tempt customers who otherwise would be attracted to a netbook. Cook swung at that softball and knocked it deep into the cheap seats. "In terms of the iPad competing for customers who were considering a netbook, you know, I'm the wrong person to ask because to me it's a no-brainer. iPad, netbook - it's sort of a hundred to zero."

And he wasn't done there. "I can't think of a single thing the netbook does well. And iPad does so many things very, very well that I'm already personally addicted to mine and couldn't live without it."

That question, according to Cook, will be better answered after the iPad has been in the field for at least a quarter. "I think that it is a new category. Certainly it's early, but we really, really like what we see right now. We had what we thought were high hopes, and it has exceeded those."

So let's meet back here in three months to see if Cook's optimism is warranted, and if Oppenheimer's estimate of the iPad's influence on Apple's gross margins is justified. Finding out the contribution of Cupertino's "new category" to Apple's bottom line should be straightforward - Oppenheimer explained that the little fellow will have its own line item in Apple's future financial reports, much as the iPhone, desktop Macs, portable Macs, and iPods do today.

The iPad's performance will be hard to hide - although expect veritable cyclones of spin to justify its Q3 2010 numbers. ®

Bootnote

Surely some Apple shareholders who haven't received a dividend check since, oh, around the signing of the Magna Carta will be interested to learn that Apple's cash hoard totalled $41.7bn at the end of the just-completed quarter, up from $39.8bn at the end of the previous quarter.

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