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Apple Boosts Profit Push

The company is lifting margins with its iPhone and revamped iPod line.



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appears poised to solidify its reputation as today's growth stock par excellence as it finds new ways of boosting its profit margins.

For two of its hottest products, the iPhone and revamped iPod nano, Apple has taken the economic upper hand over component suppliers and partners, adding even more heft to its already eye-popping profitability.

The company has cut 18.5% from the cost of hardware in its new 4-gigabyte nano by using new parts, according to data tracker iSuppli. Apple now pays about $58.85 for the device's innards, says iSuppli, and charges $149 for the finished product, which went on sale shortly after its

Sept. 5 debut.

The new iPod nano comes with a wider screen and dramatically improved picture quality for viewing videos, but it costs as much as the older model.

Even so, Apple is still exceeding its tradition of charging twice the cost of the underlying hardware, says iSuppli.

"Apple does a good job of making their old products obsolete while adding enough new features so that people feel good about upgrading to the latest version of their products," says Kirk Kim, a portfolio manager at Transamerica. "And they do it in a way that gives you more for the same price."

Transamerica holds almost 5.5 million Apple shares, according to its latest securities filing.

The new pricing power has also translated to the 8-gigabyte nano, which costs $199. According to iSuppli, the bill of materials totals $82.85, about 17% less than half the cost of the device.

iSuppli expects Apple to sell almost 55 million of all iPod models in 2007, an increase of 18%. Wider profit margins will help offset the trend toward purchases of lower-priced units that had lowered the average selling price of iPods in recent quarters.

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By most estimates, it looks as if the iPhone will be a success this quarter. The company hit the 1-million-unit sale mark weeks ahead of schedule, and it

spurred even more demand by cutting the cost of the device.

Since the iPhone shares components with the new iPod touch, early indications suggest that the company has negotiated lower costs for components by ordering much larger shipments, says Transamerica's Kim. This could prop up margins despite the price cut.

But the economics of the iPhone are somewhat murky because of the fees that Apple charges


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. Apple gets a one-time "bounty" on each device sold, and it also receives a share of the service charges. This adds to the device's profitability and gives Apple's cash flow a boost through a recurring income stream.

But Apple only books a portion of iPhone sales each quarter. By spreading the total sale over a 24-month period, Apple dampens the effect that iPhone sales have on its quarterly results.

"I don't think anyone has a clear sense of what margin structure

on the iPhone will be like," says Darren Chervitz, director of research for the $102 million Jacob Internet fund, which owns Apple shares.

The uncertainty can cause investors' valuations and expectations to vary widely, setting Apple up either to exceed or to miss estimates by a wide margin.

"I think there will be fair amount of volatility in the stock price and that the near-term risk is to the downside," said Chervitz.

Shares of Apple were recently up $1.29, or 0.9%, to $142.21.