According to an article appearing on Bloomberg.com, the marginal cost of manufacturing the 16-gigabyte Apple iPad is around $260. This includes $95 for the touch-screen display and $26.80 for the device’s processor. Flash memory accounts “… for $29.50 in costs on the 16-gigabyte model, $59 in the 32-gigabyte version and $118 in the 64-gigabyte model. The differences in flash memory costs “…push the cost of manufacturing the 32-gigabyte version of the iPad, which sells for $599, to $289.10. They boost the cost of the 64-gigabyte version, which sells for $699, to $348.10.”
Obviously, Apple has very healthy profit margins on these devices; roughly 48% for the 16-gigabyte iPad, 52% for the 32-gigabyte iPad, and 50% for the 64-gigabyte iPad. From this information, we can also infer the price elasticity of demand for these products. Price elasticity is a measure of the percentage change in quantity demanded associated with a one percent change in price.
From basic price theory, we know that marginal revenue MR = P(1 + 1/, where P is price and corresponds to the price elasticity of demand. We also know that the optimal output decision for a profit maximizing firm involves setting quantity such that marginal revenue is equal to marginal cost; i.e., MR = MC. Thurs, we can rewrite the marginal revenue equation in the following manner: MC = P(1 + 1/—> MC = P + P(1/ therefore, (MC – P)/P = (1/—> = P/(MC – P) Applying this equation to the various iPad models that are currently for sale, we find that
- the price elasticity of demand for the 16-gigabyte iPad is = P/(MC – P)
= 499/(260-499) = -2.09;
- the price elasticity of demand for the 32-gigabyte iPad is = P/(MC – P)
= 599/(289-599) = -1.93; and
- the price elasticity of demand for the 64-gigabyte iPad is = P/(MC – P)
= 699/(348-699) = -1.99;
Any number less than -1 for indicates that demand is relatively elastic. This implies that if Apple were to change prices from current levels, then the percentage change in quantity demanded would exceed the percentage change in price. In other words, if Apple dropped prices, revenue would increase because of a larger quantity response, and if Apple raised prices from current levels, then revenue would decrease due to a disproportionate decline in quantity demanded.
Putting this into perspective, the price elasticity of demand for the various flavors of the Apple iPad is greater in absolute terms than the price elasticity of demand for the Apple iPhone (see Dartmouth economist Robert Hansen’s blog entry from June 2009 entitled “Apple iPhone Price Elasticity” in which he calculates that the price elasticity of demand for the iPhone 3G S is -1.43). Also see “Apple iPad and the price elasticity equation”.