Beck Diefenbach | Reuters Apple Inc CEO Tim Cook discusses the iPhone 7 during an Apple media event in San Francisco, California, U.S. September 7, 2016.
Several reports have suggested Apple has been battling this problem, which might cause delays of the most high-end OLED iPhone model beyond the expected September launch time frame.
Apple's other expected iPhones, the iPhone 7s and iPhone 7s Plus, are still projected to offer fingerprint readers because they will have smaller industrial designs.
The tech giant has reportedly struggled to embed the fingerprint reader into the display of the iPhone. According to Hargreaves, who echoes earlier reports, Apple is now faced with either bailing on the fingerprint reader altogether, or to rely simply on facial recognition for unlocking the phone. This, Hargreaves argues, could cause costs to rise "above our current expectation, which could put F2018 gross margin at risk."
Apple's fingerprint reader, marketed as "Touch ID" is used for online purchases through the app store and to verify a user before making an Apple Pay purchase. That could be a problem.
"We do not believe facial recognition would be initially qualified as an acceptable verification method for Apple Pay," Hargreaves said. "While Apple could achieve this over time, the likelihood for an initial lack of Apple Pay could adversely affect demand.
Hargreaves said it seems "increasingly likely" that Apple will ditch the fingerprint reader to instead focus on getting the iPhone to market early. Trying to solve the problem could force Apple to push volume production to October or early November otherwise, Hargreaves said.
— Additional reporting by CNBC's Michael Bloom.