AAPL 4Q12 Estimate
Revenue: $36.2 billion (AAPL guidance: $34.0 billion/Consensus: $36.2 billion)
- I expect iPad and iPhone to represent approximately 69% of Apple’s quarterly revenue.
GM: 40.8% (AAPL guidance: 38.5%/Consensus: 40.4%)
- Apple’s margin will likely decline sequentially from 3Q12 due to the iPhone 5 and continued iPad 2 sales. A key question facing AAPL in the near-term is the margin run rate. In 2011, Apple reported a 40.5% gross margin, which increased to approximately 44% in 2012. Looking at 2013, I expect margins to decline a few hundred basis points to 42% related to the iPad mini and ongoing costs related to the iPhone’s new form factor.
EPS: $8.95 (AAPL guidance: $7.65/Consensus: $8.85)
- I expect Apple to report 27% yoy EPS growth. Interestingly, my $8.95 estimate is close to the Street’s $8.85 average, with 17 analysts projecting EPS higher than my $8.95. I attribute my low estimate to weaker iPhone sales, a lower iPhone average selling price (ASP), and a lower overall margin.
Product Unit Sales and Commentary
Macs: 5.5 million (12% yoy growth)
- Mac growth is slowing as tablets and smartphones satisfy many consumers’ computing needs. I expect double-digit growth in portables, driven by back-to-school purchases, to be partially offset by a modest decline in desktop sales due to stale models.
iPad: 18.4 million (65% yoy growth)
- I expect Apple to report record iPad sales for 4Q12. My iPad estimate assumes approximately 1.5 million iPads sold per week (including iPad 2 sales), which compares to the approximate 1.4 million weekly run rate last quarter. Supply/demand is in balance. Anecdotally, iPad 2 sales in education and business appear robust following the price cut, while lower component and manufacturing pricing should help limit drastic margin compression.
iPod: 6.1 million (8% yoy decline)
iPhone: 24.8 million (45% yoy growth)
- My estimate reflects 7 million iPhone 5 units and approximately 18 million iPhone 4S units (and to a lesser extent iPhone 4 and 3GS). Apple is currently suffering from a supply/demand imbalance for iPhone 5, which will limit sales in the near-term (including 1Q13). Other unknowns include the iPhone 4S sales run-rate prior to the iPhone 5 introduction and iPhone 4S popularity following the price drop. My 18 million iPhone 4S estimate reflects the impact from consumers delaying iPhone purchases ahead of the iPhone 5 release. I am including a declining ASP due to robust iPhone 4S sales following the price drop (an observation partially derived from Verizon’s earnings which showed strong non-iPhone 5 sales, which I attribute to the price drop).
When Apple releases earnings on October 25, investors will focus on product ASPs and margin. Publicized iPhone 5 supply shortages and iPad mini rumors should go a long way in explaining any moderate misses in iPhone and iPad unit sales, respectively. Nevertheless, any evidence of continued margin weakness and declining ASP in iPad and iPhone may push observers to reduce forward earnings, which have a high sensitivity to margins. A 100 basis point change in margin corresponds to a 3% change in Apple quarterly EPS.
iPad Invading Enterprise. Re: Urban Outfitters
Urban Outfitters, a clothing retailer with $2.5 billion in annual sales, held an analyst/investor day on September 27 and to say that iPad and Apple played a minor role would be an understatement. Management outlined how iPad is increasing customer satisfaction, in addition to improving Urban Outfitters’ efficiency and financial performance. I found the presentation quite revealing and helpful in trying to understand, straight from the source, one example of how iPad is invading enterprise.
All quotes are attributed to Calvin Hollinger (Chief Information Officer), unless noted otherwise.
Two years ago, we deployed iPad point-of-sale into all the stores. An iPad point-of-sale is pretty much — it looks like your iPhone. It has a little case around it. You can scan bar codes. You can swipe the credit card, and it does everything that a normal point-of-sale system does, except you can’t take cash obviously. We don’t have a debit device. You can’t take debit transactions, and you can’t take checks. But it does everything else that a point-of-sale device can do.
When we deployed it, again, two years ago, it was very well received by our customers. There’s a very personal interaction between a sales associate and the customer. It was well received by sales associates. They had fun having a customer sign their signature with their thumb. And it was especially well received by Frank Conforti, our CFO, because this device, fully loaded, fully installed, is about $500 and register is about $5,000. So it also made financial sense.
Not only are iPads improving customer satisfaction (which is an important piece of brick and mortar retailing), but Urban Outfitters is saving money by moving to mobile point of sale. What is a drawback? An iPad can’t physically hold cash. As more customers move away from cash and towards other forms of payments, this “drawback” will become less relevant and judging from how cash is handled in Apple stores (hidden cash drawers), a cash-paying customer can still have a carefree transaction with mobile point of sale.
And in fact, we told the stores, “Give us back your fixed register that we can refurbish and use somewhere else. Give us back one register, we’ll give you five of these devices.” I don’t have the exact numbers. John [ph], you can correct me. Between the brands, I think we’ll be sending about 1,100 of these devices for peak of this year.
Compared to the millions of iPads Apple sells each quarter, 1,100 iPads are drop in the bucket. However, more importantly, Urban Outfitters is planning on replacing every cash register with five iPads, expanding iPad’s usage and relevancy within each store.
Richard Hayne - Co-Founder, Chairman of the Board of Directors, CEO, and President:
Right now our store associates can better service our customers by selling merchandise from the web inventory using an iPad in stores. This is a very impactful thing that we have rolled out this year, and it’s been incredible for us. And vice versa, the web can now sell merchandise that’s from our stores, so customers can be shipped items from their local store, which is resulting in fewer broken sales in the web, better use of slow turn merchandise in the stores and faster delivery times for the customer. So all in all, a happier customer.
Helping customers while improving business fundamentals, all the while saving cash - hard to say no to that proposition. The ability to seamlessly sell web inventory in a physical store is a big deal as the retailer is able to save in inventory costs, while not losing a potential sale. Anecdotally, I have heard the ability to order different clothing sizes, colors, and styles from the web (after first trying on in-store) is a big deal.
The iPad is a very, very powerful device. So in addition to being a register, we can download a lot of content down to the stores, maybe training videos, maybe, Hey, this product sells or this product, the whole market buys it, all the reports, sales reports, a lot of information because it’s a very, very powerful device, and it’s very, very easy to use. A big screen, very, very intuitive.
That’s a lot of verys. Not only will Urban Outfitters use the iPad as a point of sale, but it will truly transform the way business is done at the brick and mortar retailer.
Now although this is a mobile device, iPad is a mobile device, we have to set up with the pilots to have it on a swivel arm, so it’s very clean. If it’s not in use, you can take the swivel arm and put the iPad away and you can use this as a packing space or maybe to display more items to sell, et cetera. And then from a customer’s point of view, here’s the customer, return the iPad to the customer, she’s confirming her shipping address. We could also use it to — well, and used to be, for example, a gift registry. A very, very powerful device.
Gift registry. Yet another use for iPad.
2 or 3 weeks ago, we placed our very last register order. We’re out the register business. Going forward, we had placed the orders. We’ve got some new stores coming up. But once we successfully make sure this iPad works in all the stores, all stores will be designed and equipped with iPod Touches and iPads. And Frank is, again, happy, because the iPad is $1,000 fully installed versus $5,000. But all our stores going forward will have iPads and iTouches.
Regardless of a fully installed iPad’s cost - ranging from $500 to $1000, the price pales in comparison to a cash register’s $5,000 price tag.
Similar stories and case studies of iPad being used in enterprise are occurring in a range of industries and companies as iPad’s disruptive capabilities are becoming more valuable. iPad’s invasion into enterprise is only getting started. A full transcript of management’s presentation can be found here.
Marketing a Smaller iPad
Marketing is an art, not a science. We were fortunate to see this art first-hand on January 27, 2010 as Apple unveiled the iPad. Technological and engineering marvels aside, Apple faced the daunting task of marketing a disruptive product that had to grow into its role of replacing the modern-day PC. Jump ahead 33 months and it appears Apple has had some initial success, selling 84 million iPads. Within weeks, the world will see Apple’s second test marketing iPad, but this time it will be a new form factor, a smaller iPad.
Marketing; Portraying the Product
The most important aspect of marketing is the product; the look, feel, and sound (fortunately iPad’s smell and taste aren’t a major factor in this discussion). Apple eloquently marketed the iPad as a sexy device that could do a few things extremely well, all the while feeling great in your hand. The consumer was left focusing on iPad’s strengths, and not its short-comings, or mysteries, such as if its weight becomes an issue after extended use. In subsequent years, Apple began the task of marketing the iPad as a device capable of content creation, in an effort to begin cementing its path to replacing the modern-day PC. When unveiling a smaller iPad (7.85-inch screen) in October, Apple will be given 60 minutes to tell a story; why a smaller iPad should exist.
Apple may take two paths:
1) Positioning a smaller iPad as a replacement to the current 9.7-inch iPad. Apple’s presentation will include all of the features a smaller iPad could do well, such as web surfing, content consumption and creation, but in a smaller form factor and at a lower price point. Consumers will have to decide between a small or large iPad.
2) Positioning a smaller iPad as a companion to the current 9.7-inch iPad. Apple’s story will include the few things a smaller iPad could do extremely well, such as content consumption, in a more convenient form factor for extended passive use, such as reading or watching movies. Consumers will understand the differences between a small and large iPad and come away from the event wanting both, not one or the other.
Apple will most likely choose the second path, positioning the smaller iPad as a companion device to the current iPad line-up, and in doing so will not only sell a lot of small iPads, but keep the large 9.7-inch iPad as the powerhouse in the tablet market.
The Tablet Story
On January 27, 2010, Apple could have unveiled an iPad with a 7-inch screen, or 8 inches, or maybe even 12 inches, but settled on 9.7 inches. Apple knew there would be plenty of television commercials marketing iPad, but the biggest marketing ploy would be the product itself, a device capable of eventually replacing the modern-day PC as the primary form of computing. Apple wanted (or needed) consumers to begin thinking of an iPad as a possible laptop replacement from the start. The “iPad as your new laptop” thought didn’t need to be completely formed on Day 1, or even by Year 3, but Apple needed to plant the seed on Day 1 and a 9.7-inch device was an easier sell than a smaller 7-inch device.
Fast forward a few years, and the tablet market is now flooded with smaller 7-inch tablets. Besides not being given an adequate reason for their existence, consumers are confused by these 7-inch tablets labeled as a “full tablet” despite failing in comparison to a laptop’s immense feature list.
So why should Apple introduce a smaller 7.85-inch tablet now? It is time because the 9.7-inch iPad is a success.
A Smaller iPad; Companion to the Current iPad
The iPad is now well established as a successful tablet and cornerstone to Apple’s product line-up. While many have fallen in love with iPad, the device does have some minor drawbacks, namely form factor for extended use and price. The device tends to feel heavy in hand after extended use, such as reading or movie watching, while the $499 entry price is still unattainable for a large swath of the population, including education and business, leaving wiggle room for competitors to try something at the bottom-end of the price ladder. Are these two factors (heavy form factor and price) enough for Apple to introduce a smaller iPad?
In October, Apple will address the space between an iPhone and a 9.7-inch iPad and most likely market a 7.85-inch iPad as a companion to the 9.7-inch iPad. Books, movies, TV shows, podcasts, and games will be shown as more enjoyable given a smaller iPad form factor. Apple will need to walk a delicate line though positioning a smaller iPad as the best way to consume content, as many will continue to enjoy content on their large iPads (as well as on their iPhones).
More importantly, Apple needs to portray a small iPad not as a 9.7-inch iPad replacement, but as an iPad companion. If consumers begin to think of a smaller 7 to 8 inch device-great at content consumption but not so great at other aspects-as an iPad replacement, the effort of positioning iPad as the disruptive force will be in jeopardy since wide-spread adoption would come under pressure and laptops would continue to appear superior to the average 7-inch tablet.
For those who would buy a smaller iPad due to price, proper marketing will position the smaller iPad as a gateway drug to a larger iPad. If a consumer enjoys content on a small iPad, the thought of not only consuming the same content, but also creating content on a larger iPad will only be enhanced.
Other Musings
Price. If given three $5 casino chips and told to guess the small iPad’s price, the $199, $249, and $299 squares would be occupied with a chip. If given one $15 casino chip, the $249 price point would be occupied. Not only is the product itself a form of marketing, but a device’s price can say a lot. Priced too low, a small iPad may have a hard time losing the “just a content consumption” tagline, while priced too high and the small iPad becomes an iPad competitor as consumers assume the two devices must be similar in compatibility. A $249 price point would be the best of both worlds; a device $150 less expensive than the entry-level iPad 2, but still more expensive than other 7-inch tablets.
Future iPads. One could replace any mention of “small iPad” in this piece with “larger iPad” and the same overall thesis would apply. A larger iPad (greater than 9.7 inches) for content creators (movie makers, artists, designers, etc.) would certainly make an interesting proposition.
iPod touch. The updated 5th generation iPod touch (and all of its amazing features) is sold for just $299, which could very well be more expensive than a 7.8-inch iPad. Apple is positioning the iPod touch as that powerful guard, awake all night, preventing any Trojan horse from causing havoc.
Product Quality. It says a lot that throughout this entire discussion, the idea of Apple selling a small iPad with superior quality and craftsmanship is simply assumed to occur. Anything else would be a disappointment. High expectations can be both a blessing and curse.
Amazon Phone
One of Amazon CEO Jeff Bezos’ answers from his recent AllThingsD interview stood out to me:
"[Amazon’s] approach is, if we have a good idea, and if it’s something we think customers would care about…then we don’t ask why do this, we ask why not do this? We have a high bar for doing those things. We don’t want to do me-too things. The people we’ve attracted over time to Amazon want to be pioneers. They want to be inventors. They want to do new things."
Sounds like Amazon will not only be entering the phone market, but also simultaneously inventing a new business model along the way. I have a feeling Walmart and Target executives will be reading technology blogs a little more closely these days.
AAPL 3Q12 Estimate
Revenue: $41.3 billion (AAPL guidance: $34.0 billion/Consensus: $37.4 billion)
- I expect iPad and iPhone to represent approximately 75% of Apple’s quarterly revenue.
GM: 45.5% (AAPL guidance: 41.5%/Consensus: 43.3%)
- Apple’s margin jumped to 47.4% last quarter, from 40.5% in 2011. Weaker iPhone sales should serve as a headwind for sequential quarterly GM expansion in 3Q12, although attractive component pricing will continue to provide support for yoy improvement (Apple reported 41.7% margin in 3Q11).
EPS: $12.30 (AAPL guidance: $8.68/Consensus: $10.34)
- I expect Apple to report 58% yoy EPS growth.
Product Unit Sales and Commentary
Macs: 4.7 million (19% yoy growth)
- I expect Mac shipments to show continued strong yoy growth following updates to the laptop lineup at WWDC. Pent-up demand and early back-to-school purchases should help offset MacBook Pro with Retina display shortages.
iPad: 21.3 million (130% yoy growth)
- Apple will report record iPad sales for 3Q12. My iPad estimate assumes approximately 1.8 million iPads sold per week (including iPad 2 sales), which compares to the approximate 1.2 million weekly run rate during the last holiday quarter. Management commentary regarding continued iPad supply/demand imbalance bodes well for record iPad sales. Anecdotally, iPad 2 sales in education and business appear robust following the price cut, while lower component and manufacturing pricing should help to limit margin compression.
iPod: 6.6 million (13% yoy decline)
iPhone: 29.5 million (45% yoy growth)
- My estimate reflects an average 2.5 million weekly iPhone sales run rate. At the end of 2Q12, Apple reported 8.6 million iPhones in the channel inventory, a sequential increase of 2.6 million units. Backing out the inventory build, Apple reported an average 2.7 million weekly sales run rate last quarter. With supply/demand in balance and rumors of the new iPhone building, I expect the weekly sales run rate to decline into the fall.
When Apple releases earnings on July 24, iPad and iPhone sales, along with reported margin, will represent investor’s primary focal points. Apple’s prior commentary foreshadows a strong iPad quarter, surpassing the 15.3 million units sold in 1Q12. Any iPad sales number solidly above 17-19 million units will be looked at positively by the Street. With iPhone supply/demand having been in equilibrium for some time, Apple will not benefit from any significant inventory build this quarter, although carrier and country distribution expansion will result in solid yoy growth. Sell-side iPhone sales estimates have been set at somewhat realistic levels and one should not be surprised with sales between 25-30 million units, although iPhone sales estimates become somewhat irrelevant as we get closer to the new iPhone launch.
Microsoft’s Interesting Week
With WWDC winding down in San Francisco and chatter concerning next week’s Google I/O picking up, few would have expected this week to be dominated by Microsoft news. Late Monday evening, after the East Coast had largely gone to sleep, at an event that was oddly so secretive that the press was not made aware of the venue until a few hours prior to start time, Microsoft announced its revamped Surface tablet and I felt somewhat duped. A team of executives got on stage in Los Angeles and put on a scripted show, only I was led to think it was reality. Microsoft faces an uphill battle and while consumers are now talking about the company and Surface, I have little confidence that Microsoft’s ultimate destiny was altered this week.
Surface Event Lacked Direction and Message, but Microsoft Accomplished Goal
At Apple’s iPad unveiling in 2010, Steve carefully crafted his sales pitch to show why the iPad should exist and be worthy of consumer’s precious dollars (pundits still questioned iPad’s purpose for the weeks, months, and years following the event). On Monday, Microsoft lacked a similar sales pitch, instead relying on teleprompters, and hobbling through failed demos, in an attempt to show that the lights were still on in Redmond. Microsoft’s event actually reminded me of HP’s TouchPad event in early 2011, where HP showed a general lack of direction and enthusiasm for the device. Reading off of teleprompters can really kill the passion. It has been four days since the Surface was unveiled, and with more questions than answers, I think Microsoft’s primary goal was accomplished; being mentioned in tablet (and phone) discussions between WWDC and Google I/O.
The Big Question
The Surface discussion can be reduced to one question: Is the Surface a proof of concept device meant to spur OEMs into action or is the Surface a sign that Microsoft is entering the tablet hardware space in response to changing market dynamics? It is easier for one to assume that Microsoft intends for OEMs to remain in the game, announcing the Surface as a means to drum up support and give OEMs confidence that there is interest for devices running Windows. However, if MSFT is looking to change strategies and develop the entire Surface device alone, I will give Steve Ballmer a pat on the back as that is one daunting move given the sheer difficulty in manufacturing desirable hardware.
Prototyping
The lack of available Surface devices for journalists to play with (unattended) and horrid onstage demos leads to me think that the Surface is very far from a shippable state. While working prototypes are common place in Silicon Valley, it is incorrect to assume mass production is only a few short months away as the task of figuring out how to turn a prototype into a mass-produced product at a particular price point (not discussed by Microsoft) by a specific deadline (also not discussed by Microsoft) may end up being just as difficult as building the original prototype.
Hardware Delicacy
Tablet hardware is tricky. From my initial iPad 2 review: “After a few minutes of using iPad 2, I found myself forgetting that I was using iPad 2. My entire thought process was given to the app that I was using. While iPad looks and feels amazing, the iPad dissolves away when in use, exactly how Apple planned it. Remove the intermediary and let users interact directly with innovation. I don’t care what is or isn’t inside iPad 2, as long as iPad 2 has the ability to run the highest quality apps possible.” After 15 months, I am unsure if the iPad’s software or hardware is more intriguing. Apple, a company built on the seamless integration of software and hardware, spent years mastering the art of making iPads. Does Microsoft, a company built on software, have the capabilities of designing and producing an intriguing tablet offering in a few months? While some point to Xbox and Zune as examples of Microsoft’s hardware success, the world is now a different place with substantially higher barriers of entry for hardware makers. HP, a company built on hardware, was forced to manufacture the TouchPad with parts deemed unworthy of the iPad since Apple had procured all available resources through long-term contracts. Meanwhile, PC OEMs are seeing their sales decline as their designs are falling flat with changing consumer preferences. I enjoy iPad because the hardware melts away. Is Microsoft capable of beating Windows OEMs and produce tablet hardware that is truly revolutionary, but still let app interaction resonate? Daunting would be an understatement.
Expectations
Microsoft faces an uphill battle with tablets, regardless if they intend OEMs to help out or they go it alone. The most likely scenario is that Microsoft will try to have one’s cake and eat it too; bring the Surface to market while keeping OEMs in the loop about broadening the Windows mobile platform. Microsoft will likely face an increasing number of manufacturing difficulties leading to certain things being left out, or altered, in order to stay near competitive prices. I would look at HP TouchPad and RIMM PlayBook hardware and price points as goals that Microsoft will try to meet, let alone beat (the TouchPad and PlayBook failed in the marketplace). I expect subpar Surface hardware, wrong price points, and limited distribution to become major headwinds for Microsoft. In order to beat iPad 2’s $399 price point, the Surface needs to come in at least $100 lower given Apple’s superior brand – a price I don’t think Microsoft will be able to meet without reporting huge losses. Instead, Microsoft will talk up the increased functionality of Surface (to validate a higher price) and the message will go in one ear and out the other as consumers realize laptops already fill that spot of the market. The Surface’s software, which many have continued to give praise for, will probably be up to Microsoft’s standards, however hardware limitations may spoil the treat, and as the iPad demonstrates (along with every other tablet), hardware cannot be ignored, regardless of how great the software is. Microsoft faces an uphill battle. Arriving at the baseball game in the 4th inning can make winning the game somewhat of a challenge.
Siri's Been Busy
"Customers love [Siri]. It’s one of the most popular features of our most popular phone. But there’s more that it can do. And we have a lot of people working on this. And I think you’ll be really pleased with some of the things that you’ll see in the coming months…we’ve got some cool ideas about what Siri can do...[w]e’re doubling down on it.” - Tim Cook at D10
13 Days later:
Siri introduces WWDC
Siri learns sports
Siri learns restaurants
Siri learns movies
Siri learns how to launch apps
Siri learns more languages
Siri learns how to tweet
Siri learns how to Facebook
Siri learns how to help you on your iPad
Siri learns on how to accompany you in your car
Siri’s been busy.
AAPL 2Q12 Estimate
- I expect iPad and iPhone to represent approximately 75% of Apple’s quarterly revenue.
GM: 42.9% (AAPL guidance: 42%/Consensus: 42.7%)
- Apple’s margin jumped to 44.7% last quarter, from 40.5% in 2011. Continued strong iPhone sales should benefit overall GM in 2Q12, with attractive component pricing providing additional support.
EPS: $11.45 (AAPL guidance: $8.50/Consensus: $9.81)
- I expect Apple to report 79% yoy EPS growth, which is slightly less than the 83% yoy EPS growth observed in 2011.
Product Unit Sales and Commentary
Macs: 4.3 million (14% yoy growth)
- With no Mac updates during the quarter, I expect Mac shipments to show continued yoy growth, albeit at a slower pace than 1Q12. iPad cannibalization is also picking up as consumers bypass Macs for lower-priced iPads.
iPad: 12.0 million (155% yoy growth)
- Apple sold three million new iPads during opening weekend (includes pre-orders that shipped for the 12 days leading up to the March 16 launch, but not iPad 2 sales). My iPad estimate is primarily based on weekly sales run rates, using Apple’s new iPad opening weekend sales as a benchmark between slower iPad sales in January and February and the supply/demand imbalance at the end of March. Unlike last year’s iPad launch, Apple seemed to have a better handle with new iPad supply, as online shipment waits did not reach 2011 levels, even with a more extensive international rollout. My estimate assumes approximately 6 million new iPads sold during the last 3.5 weeks of March and an additional 6 million iPads sold in January, February, and the beginning of March.
iPod: 6.8 million (25% yoy decline)
- Representing only 2.7% of estimated 2Q12 revenue, the iPod is a footnote.
iPhone: 36.4 million (95% yoy growth)
- My estimate reflects an average 2.2 million weekly sales run rate and the addition of approximately 6 to 8 million iPhones into the distribution channel (approaching Apple’s desired 4 to 6 week range). For some perspective, Apple saw a 1.6 million weekly iPhone sales run rate during 2Q11 (pre-iPhone 4S). My 2Q12 estimate assumes 38% yoy growth in the weekly run rate, which I think is reasonable given the iPhone 4S and increased iPhone penetration at newer carriers (including Verizon and Sprint) and countries (China).
When Apple releases earnings on April 24, many will look at iPad and iPhone sales as an indicator for continued strong consumer demand. I suspect Apple may be allowed some breathing room on iPad sales given the supply/demand imbalance and trickiness surrounding a new product launch. Meanwhile, iPhone lacked any significant interferences during the quarter, with results dependent on demand, and to a lesser extent, the number of units added into the distribution channel.
Thoughts on the new iPad
Software and Hardware
Why has iPad been so successful? Intriguing software? Gorgeous hardware? After using iPad 2 for a year, my connection with the device has been formed by the seamless interaction between software and hardware. The iPad form factor seemingly disappears as I interact with iOS apps. Meanwhile, iPad competitors have focused on only one aspect of the software & hardware duplex; either shipping okay software (“okay” can be an overstatement) with mediocre hardware, or okay hardware (again, I am being generous) with buggy software. The new iPad’s improved hardware features, along with new apps, combine to form a package that can appear to be “magical” to the user.
Motorola RAZR Syndrome
One of the bigger risks Apple faces is the “Motorola RAZR Syndrome”, or reliance on your current success at the detriment of your future success. After three generations of iPads, it is clear that Apple understands its biggest competitor is Apple. The new iPad’s biggest competition will come from iPad 2, while the original iPad was iPad’s 2 biggest competitor. Even though the original iPad sold well, Apple continued to push the envelope with iPad 2, and now the same can be said with the new iPad. Cameras, a Retina display, faster guts, amazing software, improved battery life, and 4G LTE, all at the same $499 entry-level price point.
iPad 2 Price Drop
Although Apple devoted only a brief minute to iPad 2’s new $399 price, consumers will give the $100 price drop much more attention. For many, price remains king. While $399 is still a lot of money, consumers are starting to compare iPad to regular laptops, in which the $399 price tag doesn’t look nearly as steep. Similar to the iPhone 3GS and iPhone 4 being bought by former feature phone owners, the iPad 2 will continue to sell well as laptop owners look at iPad for the first time.
More iPads in the Wild?
Up to now the iPad had been looked at as largely an “inside the home” device, confined to the living or play room. With the original iPad not having any cameras, using an iPad at a social event, such as a family occasion, picnic, or concert, was questionable. Apple’s new video and picture software (and improved cameras) will give people a greater incentive to bring iPad to different gatherings and events. While iPad is still no where near as convenient to transport as iPhone, it is easier to transport than any other computing device. As more iPads find their way into the wild, a whole new marketing realm will kick in. While advertisements can be effective, seeing friends or family enjoy their iPad outside the confines of their home represents a brand new marketing angle.
Jony Ive and New Product Form Factors
The new iPad’s form factor has subtle differences from iPad 2 (the minor variances might even be hard for a normal consumer to see or feel). While Apple’s SVP of Industrial Design, Jony Ive, is intimately involved in any form factor change, no matter how minuscule, my gut tells me we might see some interesting new form factors for most, if not all, of Apple’s product lines over the next year. I think this is what Tim Cook hinted at at the end of the new iPad’s unveiling when he said, “Across the year, you’re going to see a lot more of this kind of innovation. We are just getting started.” What is the point of changing form factors that seemingly don’t need to be fixed? How much can you change a phone or tablet form factor? Apple doesn’t settle. New product form designs will focus on greater functionality and feasibility, all while keeping design at the forefront. Dimension barriers will be dismantled. A new round of product design and manufacturing innovation is on the horizon and Jony is guiding the ship.
Transferable Traits
A: Proof that the Apple Way is a transferable trait.
Q: What is Former Apple SVP Ron Johnson’s new JCP Sunday circular?
- Let the product do the talking
- Less is more
- Spend more timing looking ahead than behind
- Know when to place a big bet, and then go all in.
Not Everyone Copies Apple
"[Apple is] going to continue to make the best products in the world that delight our customers and make our employees incredibly proud of what they do."
- Tim Cook in his first email to Apple employees as Apple’s new CEO sent August 25, 2011
"The path [Sony] must take is clear: to drive the growth of our core electronics businesses - primarily digital imaging, smart mobile and game; to turn around the television business; and to accelerate the innovation that enables us to create new business domains."
- Kazuo Hirai in response to being appointed Sony’s new President and CEO on February 1, 2012
Apple: {best, world, delight, proud} vs. Sony: {growth, businesses, accelerate, domains}
Not everyone copies Apple.
Apple 1Q12 Preview: Tale of Two Products
Apple’s 1Q12 earnings report will boil down to two simple data points: iPhone and iPad sales. Guidance will take a back seat, as will margin expectations and management commentary. The market wants confirmation that iPhone and iPad demand is robust, especially after Apple’s disappointing 4Q11.
The magic numbers will be 31 and 13. If Apple sold more than 31 million iPhones and 13 million iPads, Apple will have met expectations (sky-high for iPhone and lukewarm for iPad). Whisper numbers (the numbers that analysts secretly discuss) probably stand somewhere near 34 million iPhones and 15 million iPads, but missing whisper numbers usually won’t lead to negative EPS estimate revisions.
In an attempt to put the last few weeks of heightened iPhone 1Q12 expectations (and reduced iPad expectations) within context, and using my 1Q12 estimates published on November 18, 2011, I would put 27 million iPhones and 12 million iPads as the minimal bar Apple has to jump over in order to avoid significant negative EPS revisions and price target cuts.
Incompetency
Research in Motion (RIMM) is in a death spiral. Consumers are moving away from the platform in droves, Blackberries have lost the “cool” factor, and RIMM management is unable to control Wall Street expectations. RIMM’s primary problem is incompetent management.
At first, it is difficult to believe that such a large company (at least in the eyes of Canada) could possibly have inept management. People assume if you are CEO of a company, you know what you are doing. How else would you get to the top position of a multi-billion dollar company?
Unfortunately, RIMM management is indeed inept and incompetent. RIMM understands its main problem; no one wants the current Blackberry phone line-up. Don’t be fooled by RIMM sales figures still in the millions of units. Quarterly sales are declining in absolute terms (in a market that is booming). A bad sign to say the least. However, RIMM doesn’t know the solution to its problem. According to RIMM, the solution is introducing new Blackberries. Take the Blackberry that everyone loved, and just give it incremental updates or speed bumps. Problem solved. You can see how this solution is inadequate and simply wrong. According to management, RIMM is facing hard times because Blackberry updates are delayed (It’s hard to recall a moment when RIMM management actually admitted things aren’t going well - a tell-tale sign that incompetency is running the show). Management is living in a fairy tale where iOS and Android aren’t the problem. Some may say that RIMM knows it has no viable solution to compete against iOS and Android. If true, I don’t see how the current management team and Board are still working for RIMM shareholders. It speaks volumes that not even activist shareholders want to get involved in RIMM…yet.
Making matters worse, RIMM is now unable to push out new Blackberries until the end of 2012. I assume RIMM employees are still going into the office each day and doing something. The question is what exactly are they doing?
How did RIMM get in this position? I suspect the timeline went something like this:
1) iPhone is introduced. 2007.
RIMM laughs it off and is confident that RIMM sales won’t be impacted. iPhone doesn’t have a physical keyboard. Who would want that?
2) Significant iPhone updates are introduced, including the app store. Android begins to take off (largely resembling iOS - apps and touch screens). 2008 and Early 2009
RIMM sales are still growing and RIMM’s stock price hits an all-time high in the middle of 2008. The subsequent global financial crisis hits RIMM’s stock price (along with every other company) masking some of the growing issues around the company.
3) iPhone and Android are exploding. Middle to Late 2009.
Up to this point, I really don’t think RIMM was too concerned with its prospects. Consumers (enterprise) were still addicted to Blackberries and its email capabilities and physical keyboards. Fundamental holes are forming though. ASPs are beginning to fall and RIMM is starting to lose grip of the high-end market. Channel fill is at all-time highs. Developed country growth is no longer increasing. Management’s solution is to focus on emerging markets. Problem solved.
4) iPhone 4. 2010.
The game has changed - again. RIMM has to see signs that things are not going well. iPhone blows past RIMM in sales. RIMM introduces its flawed Playbook. RIMM’s plan for phones? Updated Blackberries, of course. Research and development is caught flat-footed and asleep. RIMM has little to nothing in terms of alternatives beyond its signature Blackberry keyboards.
5) Current Day.
Playbook is a disaster. RIMM is in a death spiral. Incremental updates are now in disarray. iPhone and Android are eating up RIMM’s marketshare.
RIMM will make a classic business school case study. RIMM was a company that became a powerhouse for doing one thing really well (email) at a time when the smartphone market was a disaster and phones really weren’t too smart. Apple introduced the iPhone and everything changed. Even though many of RIMM’s metrics appeared healthy (subscriber growth, increasing sales) for a number of quarters post-iPhone, tumors were forming. Consumers were offered a better alternative and RIMM was unable to respond due to their inability (or lack of desire) to move beyond its core competency and lead the market into new innovation.
RIMM now faces a number of severe and multifaceted problems that could very well lead to the end of the company. I don’t think RIMM R&D is capable of innovating. RIMM has already lost the cool factor and chances are slim they will ever get it back. RIMM management seemingly never planned for the product after Blackberry. I don’t think its a stretch to think of it as Apple never planning for the day after the iPod. Sounds incomprehensible. Should companies that make such fatal errors, throwing innovation aside to instead milk current successes, deserve to survive? Even if RIMM does introduce a good phone in the future, consumers won’t care. If one thing is clear in consumer technology, it’s that momentum can be your friend (or in RIMM’s case, your enemy).
AAPL 1Q12 Estimate
I expect iPad and iPhone to represent nearly 70% of Apple’s quarterly revenue. My projected revenue is 38% higher than any previous quarter (closest was $28.6 billion revenue reported in 3Q11).
Apple’s margin in 2011 ranged from 38.5% to 41.7%. A higher iPhone mix during 1Q12 (including 3GS and 4 models) should benefit overall GM with component pricing remaining largely unchanged from previous quarters.
I expect Apple to report 63% yoy earnings growth.
Product Unit Sales and Commentary
Mac experienced 22% yoy growth in 2011 (34% growth in portables and 1% in desktops) and I expect similar growth during 1Q12 as consumers flock to the MacBook Air. Apple will continue to take market share from Windows (early stages of 5-10+ year trend). As the PC market struggles to grow (thanks in part to the proliferation of smartphones and iPad), I view long-term Mac growth near 10% as very respectable.
iPad supply/demand returned to equilibrium during 4Q11 with Apple reporting an average weekly sales rate of 925,000 iPads. My 14.7 million iPad estimate assumes an average 1.1 million iPad weekly (13 weeks) sales rate (higher than 4Q11 due primarily to holiday shopping). I am not forecasting any significant change to the iPad channel. While there have been many rumors and reports indicating softening iPad demand, I think some of that is the reduction of overly optimistic iPad expectations towards a more conservative consensus expectation. I think iPad will remain a top holiday gift. My 100% yoy growth does contain some conservatism when compared to 334% yoy iPad growth reported in 2011.
Continued strong iPod touch sales will partially offset the continued decline in Apple’s other iPod models. Apple refreshed the iPod line-up in 4Q11 and iPods do make great stocking stuffers, so my 15% yoy decline is slightly higher than the 20% and 27% yoy declines registered in 3Q11 and 4Q11, respectively.
iPhone 4S sales are off to a fast start with 4 million devices sold during opening weekend, a 1-2 week backlog on Apple’s online store (my iPhone 4S ordered from Apple took 15 days to arrive), and continued extended shipping waits at mobile carriers. It is clear that iPhone 4S supply/demand is not in equilibrium. iPhone 3GS (and iPhone 4) price reductions should also benefit 1Q12 sales. Apple’s largest iPhone quarter prior to 1Q12 was 20.3 million sold during 3Q11 (average of 1.7 million per week). My 28.4 million estimate reflects an average 2.2 million per week sales rate, but I admit that sales will be limited to Apple’s iPhone production levels. Another way to conceptualize my estimate: I am assuming 4 million iPhone 4S devices sold during opening weekend and then a subsequent 2 million units sold each following week (not out of the question given continued stockouts and the impact from 3GS and 4 models).
Questions can be addressed to me through twitter.
iPhone Accounted for Nearly 40% of U.S. Smartphone Sales in 3Q11
Nielsen’s third quarter survey of mobile users seemed to reaffirm what many have been saying; Android continues to grab more smartphone market share, with 43% U.S. share compared to iPhone’s 28%. This morning, I thought a little bit more about Nielsen’s data and something just didn’t seem right.
Since I follow AT&T’s and Verizon’s quarterly earnings, I recalled how AT&T’s most recent report indicated iPhone accounted for approximately 60% of AT&T’s smartphone sales. How was it possible that iPhone has less than 30% overall smartphone share in the U.S., while iPhone share at AT&T (the carrier with the highest smartphone penetration rate) is over 60%? After collecting a few more data points and running with conservative assumptions, I estimate that iPhone accounted for close to 40% of U.S. smartphones sold during 3Q11.
How Many Smartphones Were Sold in the U.S. During 3Q11?
One of my goals in this analysis was to rely on as little estimation as possible. In order to accomplish this, I was interested in only iPhone share (the rest of the mobile pie can be figured out at a later time). Fortunately, both AT&T and Verizon supply concrete iPhone and total smartphone sales data. During 3Q11, AT&T sold 4.8 million smartphones, of which 2.7 million were iPhones (56%). Meanwhile, Verizon sold 5.6 million smartphones, of which 2 million where iPhones (36%). Combined, iPhone accounted for 45% of smartphones sold at AT&T and Verizon during 3Q. What about Sprint and T-Mobile? Neither provide concrete smartphone sales data, primarily because they pail in comparison to larger competitors, AT&T and Verizon. Sprint indicated 8% of its 28 million postpaid ‘Sprint brand on CDMA’ subscriber base upgraded during 3Q, of which 80% were smart phone upgrades, which would lead to approximately 1.75 million smartphones sold during the quarter. With T-Mobile being much smaller than Sprint, I peg smartphone sales closer to 1 million. I assume that no unlocked iPhones made their way over to Sprint or T-Mobile during the quarter, which isn’t the case as T-Mobile recently indicated 1 million iPhones were are on their network (for comparison, T-Mobile has 10 million phones on its 3G/4G network).
iPhone’s Share of U.S. Smartphones Sales
Running with conservative estimates and adding up sales at the four largest U.S. carriers, approximately 13.1 million smartphones were sold during the quarter, of which 4.7 million, or 36%, were iPhones. Adding the impact from unlocked iPhones, and the share would be even higher. Remaining U.S. mobile carriers are too small to change the calculations one way or another.
iPhone Sales Were Down 16% in 3Q
iPhone 3Q sales trends are even more striking when considering total iPhone sales were down 16% sequentially during the quarter (I estimate the U.S. market saw a steeper decline of 20%+). iPhone sales were 17.1 million during 3Q, compared to 20.3 million in 2Q and 18.9 million in 1Q. Many consumers held off on smartphone purchases, or upgrades, since rumors of an updated iPhone were in the marketplace for a number of weeks (if not months).
Total iPhone Market Share
Nielsen’s market share data appears to show share of current smartphone usage, which I think is faulty and error-prone (one could make the argument that Nielsen is in fact just looking at 3Q sales data, however my previous calculations would prove otherwise). How does one measure how many phones are currently in use? Is Nielsen adding all of its prior quarterly shipment data to reach current market share usage? Such a method would lead to inconclusive data as it is unclear how many phones are still in use or have since been discarded. As an example, I bought an iPhone 3GS in 2009 and it has since been discarded to a pseudo iPod Touch. Since it is tough to estimate iPhone’s current overall usage share, one could instead look at big picture themes. According to Nielsen, iPhone has 28% share and it is reasonable to assume that iPhone’s share has improved with iPhone at Verizon. Is it possible that iPhone had less than 28% U.S. smartphone usage share in 2010 when iPhone accounted for over 60% of AT&T smartphone sales? I have my doubts.
What Is Going On?
My primary theory for why Nielsen’s market share data is wrong, or at least misleading, is that some OEMs have altered Android to such a degree that many “Android-powered” phones are actually better classified as feature phones - great for text messaging, but lacking mobile browsers or apps. Nielsen is then unable to distinguish Android-powered feature phones from smartphones and simply assumes any Android-powered phone must be a smartphone. Alternatively, AT&T and Verizon data is pretty straight forward with no confusion between feature phones and smartphones. I don’t think the shipped vs. sold argument is as relevant for mobile phones because the sales numbers being thrown around are much higher than that of the much smaller tablet market.
Looking Ahead
iPhone 4S sales are off to a fast start. Upcoming sales data points that I will be looking for will come from Apple, AT&T, Verizon, and Sprint. Until Nielsen, and other market survey companies, reveal where they are getting their data and how it is being calculated, I don’t think it should be relied on for investment or app development decisions.
Dissecting an Apple Bear
From my AAPL 4Q11 recap posted last night:
"Earnings misses are not the end of the world. They can be healthy, serving as a foundation for further gains. Misses act as a reset for increasingly lofty expectations. Problems arise though when people look for answers to an earnings miss and are quick to make incorrect assumptions…. Apple bears are getting louder. People are wondering. People are asking.”
It wasn’t too hard to find an Apple bear (or a “trader” with provocative thought questions as they often want to be thought of) with a good list of questions for AAPL shareholders. Today it’s courtesy of Doug Kass writing for the Street. I think his questions are a good summary of the main bearish arguments that are being floated against Apple.
(my comments in bold).
Kass: If I were an Apple shareholder, I would be asking myself the following eight questions this morning (I don’t have the answers, and I didn’t have the foresight to buy the shares at lower levels!):
- Valuation is rarely a market catalyst. Who doesn’t know that Apple’s valuation, excluding its cash position, appears inexpensive?
Since when was Apple’s valuation looked at as a catalyst for the shares? I actually have Apple’s P/E multiple declining through 2013. If you ask me; iPhone, iPad, iOS, and Apple management & culture isn’t too shabby of a catalyst list.
- In reading the analysts’ earnings post mortem and explanation of why the company missed on the bottom line, why is it only now so obvious to analysts that Apple has been impacted by iPhone purchase deferrals ahead of the introduction of the iPhone 4S? Why wasn’t that included in analysts’ estimates?
My post from last night pretty much answers this question. We still don’t know how people buy phones.
- In my few decades of investing experience, when companies cite the impact of weather, seasonality or product transitions (as was the case with Apple) as reasons for a profit miss, it is usually a sign of a company’s maturing (sales and earnings) growth cycle. Have we seen a peak in growth rates at Apple, and beyond the quarter catch-up, might we begin to see decelerating growth at Apple in 2012-2014?
If Apple actually missed its guidance, this question would make a lot more sense.
- Size matters. Should investors be surprised that, with annual revenue having risen (fiscal 2011 September year just completed) to over $108 billion, sales and profit growth will become more difficult going forward? Fiscal 2014 sales are projected to approach $200 billion. Have the outlook and expectations for Apple grown too optimistic?
Is he suggesting to buy smaller companies with weaker fundamentals because they have a smaller market capitalization?
- A 3 million unit shortfall in iPhone sales and slightly weaker iPad numbers (11.1 million vs. consensus of 11.6 million, but there were estimates for 13 million units!) resulted in the profit miss. Are investors overestimating the short-term growth prospects for the overall tablet market? And what about the weakening trend in iPod unit sales (down 27% year over year) that signal a secular decline in the product category? Doesn’t this place more pressure on the success of future new products?
His iPad question, addressed in my piece last night, contains some validity, however, its funny that these same people will then tout how other tablets - without an Apple logo - will do just fine. If the tablet market is not as big as initially thought (11 million iPads/quarter doesn’t seem too small to me), that doesn’t just spell trouble for Apple, it will mean Amazon, Google, and any other player looking to actually gain a footing in tablets will have a tough time.
- Apple’s corporate and product success are well known. Are these success too well known as manifested in a near unanimity of bullishness on the part of Wall Street’s sell side?
Is he suggesting to buy a company with more corporate and product failures because less people will be bullish on the stock?
- The ownership of Apple shares is broad, and institutional sentiment toward the company appears to be approaching a positive extreme. One could argue that the long side in Apple is crowded. Doesn’t everyone own the stock? Who will be the next investor in Apple’s shares that will catapult the valuation and shares toward the next and higher level)?
I thought everyone who wanted to own Apple already owned shares back at $250? Institutional owners aren’t allowed to add to their positions?
- Most recognize that Steve Jobs has already thought about and has contributed to another few years of new product innovation. But will the miss last night revive the issue whether the remarkable disruptive innovation instituted by Jobs (in the past) can be continued into the future after his imprint is removed?
Would this question have been asked if analysts’ expectations weren’t high and Apple instead blew consensus numbers out of the park?
Doug Kass did a good job at asking the obvious bearish questions, from a traders’ perspective. There is a bear argument to be made for every company (including Apple), but Kass’s arguments are largely irrelevant, focused on short-term stock movements. The actual long-term Apple bear argument centers around the scenario where Apple products become stale (see RIMM) and people begin to move away from iOS, iPhones and iPads. Additional Apple problems would center around conflict within Apple’s management team post Steve Jobs or post Tim Cook.
The best part about this post is I am only writing it - answering these bearish AAPL questions - because Apple is executing on all cylinders.
Final Thoughts on Apple's 4Q11
iPhone. We Still Don’t Know How People Buy Phones.
While everyone has been quick to blame unrealistic expectations for Apple’s 4Q11 “miss”, I think the rare earnings disappointment was partially due to a lack of understanding on how iPhone demand fluctuates and how people buy phones. Apple just became a much harder company to model.
It is incorrect to say that analysts never considered people waiting to buy iPhones ahead of a rumored iPhone refresh. Almost every analyst note published in the past three months mentioned an iPhone refresh and the tendency for pent-up demand to build as consumers wait on iPhone purchases. Apple management forewarned the same scenario on Apple’s 3Q11 earnings call. People were expecting it. Even my analysis was based on the idea that a slowdown in iPhone 4 sales in countries that typically get the new iPhone on launch would be offset by continued strong iPhone 4 sales in countries where the new iPhone would take months to reach. That didn’t happen.
Instead, the world pretty much stopped buying iPhones in September. I don’t think it’s much of an exaggeration to say that iPhone sales almost came to a screeching halt towards the end of September. Apple specifically mentioned that sales slowed further in the second half of the quarter. Running rough calculations, I estimate iPhone sales may have been tracking down 20-40% yoy in the U.S. towards the end of September. Pretty remarkable. I wonder if Apple retail stores saw this noticeable decline in demand? Analysts underestimated how many people were aware of iPhone rumors and were waiting to buy. Apple was surprised too, with both Tim Cook and Peter Oppenheimer mentioning “rumors” as one cause for weak iPhone sales. Anecdotally, I talked with quite a few BlackBerry and Android users over the summer, all of whom were well aware of a new iPhone coming out sometime in the fall. I assumed there were other people still buying iPhones.
The iPhone miss (and let me be clear, the iPhone number was pretty negative at only 21% yoy growth) came as a huge surprise with analysts and the investment community thinking the iPhone demand cycle had become independent of product transitions. We thought that sequential quarterly iPhone growth is the new normal, regardless of how a new iPhone impacts deferred sales. Apple’s significant 3Q11 iPhone beat cemented the idea of sequential quarterly growth. Ironically, many analysts thought the new iPhone was going to be unveiled at WWDC and had modeled for declining iPhone sales in 3Q11 due to deferred sales (people waiting). Instead, Apple beat everyone’s iPhone estimate by a mile as iPhone rumors really didn’t grow until August. Independent Apple analysts (including myself) concluded it would be unlikely that Apple would report a sequential quarterly decline in iPhone shipments in 4Q, which meant Apple would sell more than 20.3 million iPhones (their 3Q11 total). We weren’t necessary making a call on growth assumptions, or at least I wasn’t. Some analysts did get it right. Goldman Sachs modeled 16.9 million iPhones – essentially spot on. Still wondering why Goldman was picked first for Apple’s earnings Q&A?
I don’t think our iPhone expectations were overly optimistic though as our previous demand forecasts have now shifted to 1Q12. Our annual iPhone sales estimates remain largely unchanged. Instead, our timing was wrong. I think iPhone’s increasing demand complexity was the main culprit for the iPhone miss. Even Apple management thought they would sell more iPhones in 4Q11.* We still don’t understand how consumers buy phones. For many, buying a phone is categorized as “the big purchase” even though the actual cost of the phone is spread over 2 years. A $110 monthly cell phone bill 17 months from now is not as important as the difference between a free subsidized phone and a $199 subsidized phone today. People wait to buy phones until their contract is up and - this is key - they are willing to wait after their contract is up to take advantage of the carrier’s subsidy and buy a phone that they really want, even if it means holding off on a new cellphone for an extra 4 or 5 months. This trend will only grow as smart phones flourish.
Reports of record iPhone 4 sales over opening weekend (including positive commentary from AT&T, Verizon, and Sprint) are evidence that iPhone demand is back. Going forward, analysts should model a slowdown in iPhone sales during product transitions. If a new iPhone is rumored for October 2012, one should assume people will stop buying iPhones in September. Seems obvious now, but many got it wrong. In addition, a new form factor will also lead to difficultly in meeting initial supply, which could hurt early sales.
iPad. The Wild West.
Apple sold 11.1 million iPads in 4Q11. I expected 11.7 million and I had originally expected 11.1 million, so iPad is performing near my expectations. Unfortunately, many independent analysts have been running with extremely aggressive iPad expectations. I do think these expectations need to come down. Apple noted iPad supply and demand is now in balance. Apple sold every iPad that consumers desired; 11.1 million/quarter. I still get nervous with iPad because it is such a young product. What if demand really isn’t as good as we think? It doesn’t mean the product is a failure, instead maybe people just haven’t yet become comfortable with tablet computing. Sales fluctuations will occur and people need to plan for it. I found it interesting that Tim Cook made the claim that iPad could turn out to be larger than the PC market. In the past, Apple’s remarks were more vague and general. Apple wants to set the tone for iPad. This is the bet. This is the future.
Mac. Steady as She Goes.
Apple’s forgotten child (at least in many investor’s eyes) continues to do well, taking market share from Windows with both hands. Strong 37% yoy growth in portables (thank you Macbook Air) speaks well of Apple’s growing brand in the traditional PC market. Yet compared to iPad and iPhone, Mac’s influence is just too small to impact earnings to any large degree.
iPod. Out to Pasture.
Declining iPod sales are now normal and to be expected. In fact, iPod declines are accelerating. Sure, the “newer” iPods might change this trend a bit in the near term, but when excluding iPod Touch, the iPod is only a fraction of its former self.
Guidance. Strong.
Apple’s 1Q12 guidance was very strong, near current consensus (which is very rare). Management indicated they will sell a record number of iPhones and iPads during the holiday quarter (not that shocking). Since Apple “missed” earnings, analysts will be more conservative with their forward expectations, unsure of how much cushion Apple built into its guidance. Many analysts were already running with conservative assumptions so the 4Q11 “miss” should not weigh much on forward EPS estimates.
Thoughts on Apple. Quarterly Results Rarely Matter For Superior Management Teams
Earnings misses are not the end of the world. They can be healthy, serving as a foundation for further gains. Misses act as a reset for increasingly lofty expectations. Problems arise though when people look for answers to an earnings miss and are quick to make incorrect assumptions. A prime example is Apple’s retail store trends. Same store sales were down approximately 10% (which means that your local Apple store reported 10% less revenue, on average, this past quarter vs. last year – a pretty sizable decline). Well, hello, iPhone sales were miserable. With an ASP of over $600 and a concentration of Apple retail stores in the U.S., a slowdown in iPhone sales (maybe as much as 30-40% in September in the U.S.) will have an impact on total retail store revenue. It doesn’t take a genius to figure that out.
Apple will get penalized in the near-term because of its earnings “miss”. People will remain more cautious on iPhone and iPad growth. Expectations are being reduced (especially among the independents). Apple bears are getting louder. People are wondering. People are asking. Earlier this week, the biggest question was how high the stock would gap up after earnings. Now people are thinking of the “what ifs”, what if people stop buying iPhones, what if iPad sales slow down. While such questions might seem silly to think given the technicalities of Apple’s “miss”, its nevertheless happening.
Good companies sometimes have “bad” earnings reports (who would have thought 50% EPS growth would be considered bad). In such circumstances, time is your friend. For long-term investors, quarterly results shouldn’t even matter much, instead attention should be given to the current management team and its ability to innovate.
*UPDATE: Thanks to @adamthompson32 for pointing out that Apple actually said 4Q11 iPhone sales were better than expected. Tim Cook: “And as we have predicted…(iPhone) sell-through decline did occur in the quarter, but not nearly to the extent that we thought and therefore, we significantly beat our guidance.”
AAPL 4Q11 Earnings Cheat Sheet
AAPL Orchard Estimates (change from previous estimate in italics)
Revenue: $32.6 billion (up $600 million) (guidance: $25.0 billion/consensus: $29.0 billion)
GM: 40.5% (down 40 basis points) (guidance: 38.0%/consensus 39.6%).
EPS: $8.55 (up $0.10) (guidance: $5.50/consensus: $7.16).
Product Unit Sales Estimates
Macs: 4.8 million (up 100,000)
iPad: 11.8 million (up 700,000)
iPod: 7.2 million (unchanged)
iPhone: 23.3 million (unchanged)
I remain confident in my initial quarterly estimates, published July 26, making only modest tweaks to a few variables. I raised my iPad sales estimate 700,000 units to reflect a higher production yield. I am maintaining my iPhone sales estimate (which I initially thought was too high) as the iPhone 4S is pushed out to 1Q12 and iPhone 4 supply draw-down did not occur to any major extent in 4Q.
Things to look for:
iPad Sales. Apple may provide an iPad sales update at next week’s iPhone event. Apple was successful in increasing iPad production in 3Q11 and many will look for continued gains in 4Q11. While my estimate calls for 11.8 million iPads, Street consensus may actually be slightly higher. I think iPad sales greater than 10 million will be deemed okay by the Street, while more than 13 million iPads will be considered strong.
iPhone Sales. With the iPhone 4S launch pushed out to 1Q12, I don’t think we will see too much of a drop-off in iPhone 4 demand, especially considering iPhone 4 was recently brought to new carriers and countries. Apple may still get a pass if iPhone sales are on the weak side as analysts will simply blame iPhone 4S ramifications such as pent-up demand. iPhone sales greater than 20 million will be deemed good, while more than 25 million will be considered strong. iPhone 4S launch weekend sales figures may also be shared on the call (although it is just as possible that the iPhone launch will occur after October 18 or Apple will choose to not disclose initial sales).
Guidance. Similar to previous quarters, investors will look for Apple’s 1Q12 guidance for evidence of any economic impact or weaker iPad/iPhone production plans. Unfortunately, management’s conservative nature will make it very difficult to reach solid conclusions. My initial 1Q12 EPS estimate is $10.00 (Street consensus is $8.83) on $39.7 billion of revenue. I would consider EPS guidance around $7.00, with revenue in high $20s billion, as solid.
Two other scenarios may occur: 1) Apple may announce extra conservative EPS guidance due to economic concerns or 2) iPhone supply concerns related to the iPhone 4S launch. I think extra conservative EPS guidance would be something like $5.50, which compares to Apple’s reported $6.43 in 1Q11 (one could make the argument that Apple will put guidance at least above last year’s $6.43 EPS).
If Apple delivers a blow out 4Q11 quarter, chances are good Apple may run with extra conservative 1Q12 guidance as analysts won’t necessarily increase 1Q12 estimates, but would still maintain Apple target prices due to the 4Q11 beat. Accordingly, expectations wouldn’t be raised too high and Apple will be in a good position for another solid holiday quarter.
Thoughts on Facebook F8
1) Replacing the World Wide Web. Facebook is focused on replacing large swaths of the web. We got to see Facebook’s plan for sharing media, and I suspect we will hear Facebook’s take on other web functions, such as commerce, search, and utility, in the future.
2) Facebook Hates Privacy. Privacy remains Facebook’s major roadblock as web-replacement initiatives don’t look as appealing if Facebook users flock to high privacy safeguards. Although society has grown more comfortable with sharing information on the web; users’ ability and willingness to share will only strengthen Facebook’s intentions.
3) An Alternative. Facebook is presenting an alternative to Apple’s app model in terms of how users access and use third-party content. By no means is Facebook’s app model guaranteed to succeed, but it is clear that Apple’s native app model will have some form of competition. Apple has made an effort to point out the billions of dollars in app revenue returned to developers and I think Apple will reinforce this point, arguing app innovation should continue to flock to the iOS platform because developers actually get paid.
4) Changing Landscape. We are in the beginning stages of a changing tech landscape where the hardware battle will be won by economies of scale and uniformity, while the software battle is won by seamless integration between the social network and third-party content. Apple is in a prime position to reap competitive advantages from its manufacturing and supply chain economics of scale, while iPhone and iPad popularity may soon result in 100s of millions of iDevices in the wild. Meanwhile, I believe Facebook has already won the social network race and will now work on increasing and improving third-party content utilization. Apple and Facebook are in prime position to control the tech landscape.