If you are reading this you already know about Apple’s iPhone 6 launch. One thing you may not have noticed is there was a price increase. Even professional Apple product reviewers did not notice the product versioning change first. Usually Apple releases three versions of the product that are separated by the storage dimension. In the past it was 16GB, 32GB and 64GB. And the versions increase in price by the standard $100.

That changed with iPhone 6. A careful review of the versions will show you this

After looking at this you may wonder where is the said price increase. Read on.

There is no 32GB version. For $100 more instead of getting just 16GB more or 32GB for another $100 you now get lot more. Instead of 100% more for $100 more and 300% more for $200 (more than base version) you now get 300% more for $100 and a whopping 700% more $200 more than the base version.

However the fact that the base $199 version has stuck in 16GB has caused considerable heartburn to many. Many argue Apple should have offered the base version at 32GB instead of 16GB. Sure they could have and could have done so with no impact on profit. After all their flash costs are so low at the volumes they get.

Wouldn’t customers be delighted to get 32GB at $199 (contract price)? Yes. That is not the point. What Apple would say to these naysayers is, “we are offer far more value than before for $100 and $200 more than we did before”.

What Apple is doing is a simple case of price discrimination done right. It is an effective lever for them to get customers to self select themselves to the version that is most profitable to Apple.

Think of it this way. Let us say the 16GB, 32GB and 64GB versions of iPhone 5 are like 3rd class, 2nd class and 1st class service in a train car. In the early days of American railroads the operators did offer three classes, with the 3rd class at really affordable prices. But the operators wanted those who can pay higher prices to willingly do so. So they removed the roofs in 3rd class cars. People who can afford second class were no more tempted by cheap prices of 3rd class tickets.

In case of iPhone 6 Apple didn’t remove any roofs or cripple it. They decided to add free extras to 2nd and 1st class car passengers for the same money. You can choose to remain in 3rd class but you are not getting free drinks or umbrella.

A customer looking at the base version and the middle version will see lot more value for $100 than if they bought the 16GB version. Many who otherwise would not have chosen the middle 32GB version (had it been there) or chosen base 32GB version (if Apple heeded the advice of tech bloggers and offered it as base version) will pay $100 more.

That is the price increase I referred to before. That is customers will willingly give pay more and still get to keep more of their consumer surplus. So Apple will see an increase in its Average Selling Price (ASP).

What does this do to Apple’s bottom line?

Look at past four quarters of iPhone sales and ASPs.

Let us say the unit numbers stayed the same (likely will be higher given the unprecedented demand we are seeing). Let us assume a conservative rate of 25% to 30% of people will willingly choose the 64GB version. Let us give a high end cost of $16 for the additional 48GB storage. Just for this limited and conservative scenario the new Apple profit for the next four quarters look like this

That is close to $4B in new profit just by keeping the base version at 16GB.

Any questions?