Apple reported record revenue of $54.5 billion and record quarterly profit of $13.1 billion and then its share price dropped 10 percent, falling as low as $452.35. What the hell is going on?
Some are predicting the demise of the most valuable company in the world. With a Market Cap of around $430 billion (at time of writing) compared to Exxon Mobile's $413.53 billion, how long will Apple be able to maintain its number one position?
Incidentally, that $430 billion is just over three times the size of Apple's growing cash reserves, now worth $137 billion. Add Apple's other assets and the company has almost $200 billion in assets. There aren't many countries, let alone companies, with that much money in the bank.
What this effectively means is that APPL is on sale right now.
- Apple has not just one but six multi-billion dollar product lines.
- Apple now has $137 billion of cash and cash equivalents which, added to its other assets, gives it almost $200 billion in assets.
- At a price-earnings ratio of under ten, Apple is insanely cheaper than Amazon, which sports an ridiculous P/E of 3,583, believe it or not. And cheaper than Microsoft, which at least is sane at about 15, and Google, with a slightly higher 23.
- Apple routinely beats its own projections, generating more revenue ($54B) in a quarter than Google generates in a year
- Is consistently, mind-numbingly profitable, yielding outsized profits that have fattened their cash hoard to $137 billion dollars
- Is unequaled in terms of having an R&D engine for creating new products that generate massive new revenue sources
- Has cracked the code to selling in China ($7B in most recent quarter; 60% year-over-year growth
Why is everyone talking like Apple is falling apart then?
Despite revealing its best ever results, the general consensus amongst the least Apple friendly reports is that the company missed the targets set by Wall Street.
Apple actually exceeded its own guidance. Back in October when Apple announced its fiscal fourth quarter results the company said that it expected to report about $52 billion in revenue (an increase of 12% from last year's $46.3 billion) and earnings of $11.75 per share for the October to December quarter.
Instead Apple posted record quarterly revenue of $54.5 billion which wasn’t far off the average estimates of analysts. Analysts expected sales of $54.7 billion, according to The Street's average.
Apple also recorded quarterly net profit of $13.1 billion, or $13.81 per diluted share. This is particularly good news in the light of a Bloomberg report that had been warning that Apple would to report a 2% drop in net income, reporting just $12.8 billion.
Perhaps rather than blame Apple for not meeting analyst expectations the finger should point to analysts who's predictions were so far off the mark. Fortune has evaluated and rated the analysts for their predictions.
It's in the margins
The other thing people were expecting was that Apple would report that its margins were down – the amount of money it was making in profit from the sales of each product.
Seeking Alpha outlines the gross margins and profit margins for the quarter compared to the past two years. As you can see it's down in both cases.
- Gross margin: Q1 2011 38.51%, Q1 2012 44.68%, Q1 2013 38.63%
- Profit margin: Q1 2011 22.45%, Q1 2012 28.20%, Q1 2013 23.99%
The reason everyone expected lower margins is that Apple warned that its Gross Margin (a measure of how efficiently a company turns sales into profits) for the December quarter would be lower than it has been when it announced the last set of financial results and again in its Form-10K. Apple CEO Tim Cook's said Apple "expects to experience decreases in its gross margin percentage in future periods, as compared to levels achieved during 2012".
Apple anticipated a gross margin of about 36% during the first quarter of 2013, this compares to a gross margin percentage in 2012 of 43.9%, and to 40.5% in 2011. As you can see from the data above, Apple managed a gross margin of 38.63%.
One reason for the decline in the share price following the results was that Apple isn't expecting margins to improve next quarter either: the company is forecasting gross margins between 37.5% and 38.5%.
Unit sales and cannibalization
The cannibalization of higher cost products by lower cost products is another concern.
Interestingly, if you look at the revenue per unit sold, it appears that the average revenue from the iPhone remains the same at $641 per unit (give or take a week), the iPad is less as $467 compared to $570 and Mac is slightly more at $1,359 compared to $1,260. So, one would imagine, there has been some cannibalization of the higher priced iPad.
This evidence of the iPad mini cannibalizing sales of the high-end iPad highlights one of the issues associated with the calls for Apple to start selling a budget iPhone. Apple will make less money from a lower cost device.
Another product that the iPad is cannibalizing is the Mac. Apple CEO Tim Cook acknowledged that the iPad mini is likely to cannibalize some iPad sales, and the iPad some Mac sales. "It is clear [the iPad] is already cannibalizing some," Cook said.
"There’s a tremendous amount (of) opportunity there. I’ve said for two or three years now that the tablet market will be larger than the PC market at some point. You can see by the growth in tablets and pressure on PCs that those lines are beginning to converge," he added.
"I see cannibalization as a huge opportunity for us. One, our base philosophy is to never fear cannibalization," he said during the conference call with analysts that followed the results announcement.
Not enough iPhones sold?
Another supposed reason for the decline in the value of APPL shares following the announcement was the observation that by selling 47,789,000 iPhones Apple had missed analyst targets of 50m iPhones.
In the run up to the results announcement there had been a lot of speculation about reduced demand for the iPhone. Uncharacteristically, Cook drew attention to these recent rumours during the conference call with analysts: "There have been lots of rumors about order cuts and so forth. Let me take a moment to make a comment on this,” he said, adding: "I would suggest it’s good to question the accuracy of any kind of rumour about build plans… Even if a particular data point were factual, it would be impossible to accurately interpret what the data point meant for our overall business because the supply chain is very complex."
An interesting point of note: Apple has seen immense successes thanks to the iPhone and more recently the iPad. A huge 60% of Apple's revenue comes from those products - neither of which existed six years ago. On an adjusted quarter basis, iPhone units grew at 37% and iPads grew at 60%, Horace Dediu tweeted.
What appears to be spooking investors is the competition and Samsung, who shipped 37 phones in a variety of sizes last year came up in questions. Cook's response to a question about how Apple's smartphone competitors are focusing on differentiating themselves with larger screen sizes was: "We put a lot of thinking into screen size and believe we picked the right one".
China in Apple's hand
The other area that Apple watchers are interested in is China, and other emerging markets including India. It is worth noting that Apple saw a massive 67% revenue growth in China in the Christmas quarter.
"In terms of geographic distribution, we saw highest growth in China, and it was into the triple digits," Cook during the conference call.
This means that China now accounts for more than half of European sales and more than one-third of American sales. According to the company, 61% of Apple's total revenue comes from overseas.
"It’s interesting to see how China is growing in importance for Apple so much so that they broke out their revenue [in its earnings release]," Gartner analyst Carolina Milanesi told Wired.
And yet the stock fell in after hours trading…
This isn't by any means an unusual occurance. In fact, it's common for Apple's share price to fall in after hours trading. Looking at the history of the APPL stock around results time for the past two years, you can see:
What about everyone else?
Unfortunately Apple's falling stock has impacted some of its suppliers around the world. Ibiden, which makes printed circuit boards for the iPhone, slid 5.7%, Foster Electric, Taiyo Yuden and Sharp slipped between 1% and 2.5%. And British chip designer ARM Holdings fell 1.9%.