Apple Earnings Preview

Ben Vested

First I was going to do a bunch of tables and charts and then I was going to do some really cool finance voo-do all over it but then I found out Andy Zaky  already did a fine job on that.  Here.  I did do a couple of charts you will find below.

This will be more information than you require (hat tip Hodgman) but here it is anyway.  I follow Apple as a company because (within normal healthy adult limits) I love tech, Apples products, the way they go about their business and the fact that they are a large successful easy to follow company.  I invest in them because in addition to all of those things, their business and the engine that drives their earnings can be understood.  Look, GE is a great company but based on their published financial statements three PHD's with a Ouiji Board and a bag full of darts could not figure out what is going to happen next with the company.

Apple is simple by comparison.  iPod, iPad, iPhone, Mac, and other stuff.  Apple is unique in the hardware space in that they make coin...  Apple is making money in two industries populated by companies fighting to do their best impression of Eastern Airlines (commodity out of business).    Nokia by far the largest maker of mobile phones by unit sales is losing money.  Dell the largest US maker of PC's has a 3% profit margin.  Their relative performance in the stock market over the last 6 years tells the story.

Apple is a hardware company, and they win because they innovate.  They refuse to compete on price and over time have produced time and again products that customers are willing to pay a premium for.  Apples ability to grow in the future will be tied to this simple equation.

You can argue at the margins but something between 45-55% of the companies earnings this year will be derived from product classes that did not exist before June of 2007.  iPhone came out in June 2007 and will have something over 20 billion in revenue this year.  iPad just came out this year and already is lighting up the revenue meter it should represent ~8% of 2010 revenue.

Here are two charts that show both revenue growth AND the contribution to growth by product.
This is revenue growth in dollars broken out by product.

Note 2010 projections are from Andy's analysis, they are as likely to be right as any (a little optimistic)  I used Apples presentation for products because It shows how the growth in Macintosh has been driven almost exclusively by laptops over the last 5 years, the last 12 months being an exception.  I have written about this before but Apple OWNS the over 1,000 computer market.  During a time when Dell and Asus are fighting over fifty bucks for a netbook Apple has been able to get the average price per unit for desktops to go up.

Iphone is obviously experiencing explosive growth as is iPad.  What has been surprising about the iPhone is that three years after launch the iPhone has maintained a PPU of over 600 bucks.  Estimated margins on iPhone are 60% so as the product mix moves towards iPhone Apples overall margin continues to expand.

This chart is the same data presented as a percentage.  It is here that you can see the relative importance of new products as a percentage of earnings.  The three big growing categories iPhone, iPad and Other music and related services (read this as APP store).  This category is going to grow like Kudzu in July over the next few years.

Longer posts coming on the following

Apples Cash position.  Apple is piling up cash at a rate that will force it to change its current accumulate cash forever strategy or not.  Currently they have about 47 bucks a share in cash and short term securities.  It is a stupid amount of cash that management cannot with rational argument hold onto given that they have zero debt and are continuing to accumulate cash at a rate of OVER 1 billion a month.  More on this later.

What happens next.  Apple will not make any new product announcements today but as sure as Microsoft will announce products that they will never make, the NEW is coming and it will be Magical and Revolutionary from a profitability standpoint .

Risks.  Apple is now huge. a lot of the poor PR in the last year has had to do with this size.  Size is also an issue in that they are running up against the law of large numbers in terms of their ability to grow.  Exxon Mobil is the only US company with a larger Market Cap and in order to maintain its current growth rate would have to create 20 billion in revenue next year that it did not have this year.  I am not saying it won't happen just pointing out that it is a big number.  Life after Steve not a happy thought.  There are others... Margins.

More after the announcements tomorrow.

The author of this post is long Apple but makes no recommendation for purchasing equity positions in the company.  Your grown people make your own decisions.  The author has no holdings of Eastern Air, Dell, Nokia or Greek sovereign debt.

Apple Earnings Preview October 21st.

Last year, in the Fourth Quarter, Apple earned 904 million dollars on 6.2 billion in income with a Gross Margin of 33.6%. They are predicting 905 million in income on 7.8 billion in income with Gross Margins of less than 32%.  (and 30% for 2009)  It is arguable how much Apples Margins may be coming in  some but there is no question that Apple will be reporting some unbelievable numbers for this quarter.  Apple guided to 1.00 per share in the 4th quarter this year ( July-Sept 2008 ) 

Apple hit the cover off the ball this quarter.  iPhone sales are off the charts and even with the Kabuki accounting that delays recognition of income for the iPhone earnings.  This will be the first quarter iPhone sales contribute significantly to total earnings.  Macintosh sales continue to outpace the rest of the industry and laptop sales are now greater than desktops.  iPod sales growth had all but stopped last christmas but the introduction of the iPod Touch with all of the additional functionality that brings sales have continued to climb.

The Bear Case for Apple over the next 12 months:

The Dow is down 37% YTD and Apple is down over 50%.  Apple does not exist in a vacuum they sell expensive products to a broad market base.  If there is a recession (duh) Apple's Sales will be effected it is anyones guess as to how much.  iPhone (from the market perspective) is still an unknown quantity and sales and gross margins are still very much in question.  The Narrower margin guidance from Apple has the street thinking Apple will tank prices and begin to compete with price.  (eew)  Macintosh computers are growing but only in a segment of the market that is now saturated with Apple products.  In order to continue growing Apple will be forced to sell less expensive (sub $1,000) computers that will cannibalize sales of more expensive computers and  as a result narrow margins.

The Bull Case for Apple over the next 12 months

iPhone Sales are far beyond currently priced in expectations,  The Coolest Gizmo Ever will have 15-17 million in sales for 2008 and projections of 30 million (because they want to sell 50 million) for 2009  Perhaps as much as $4.00 per share in net income from iPhone ALONE!.  Mac mind share continues to grow and even if the economy dings the growth. It will continue to be faster than the industry.  iPod touch/iPhone app sales will continue to grow.  Traditional iPod sales will become a less important part of the business over the next year as the Touch takes over.

Apple will report close to 30 Billion in Current assets (approx $33 per share) is currently selling for ~$90 per share 17x trailing earnings and 15x forward earnings.

Links to Related financial analysis

iPhone Analysis

Forces narrowing Apple Margins

Touch Vs. Nintendo DS

Apple and the Economy

Writer is long Apple and will be watching the Red Sox tonight. Root for Tampa Bay or Dell, or IBM it is not up to me.  Capiche?!

Apple: a Berkshire Hathaway Company

Apple would be a great fit for Mr. Buffet.  And since he is on a buying spree...

Apple's stock closed Thursday at $100.10 a share a new 52 week low.  Their market cap is now less than 90 billion dollars soooo anyone wanna team up with Warren and  buy a computer company?  

You and your new business partner Warren Buffet can buy Apple Co. today for less than 100 Billion dollars.  Here is what you get... for the low low price of $90 billion dollars.  You get 4.5 billion in earnings (TT) growing at 25-35%. [maybe more!] and 27 Billion in current assets!

27 Billion!  

You and your buddy Warren will get Apple for 61 billion dollars (88-27)  which is effectively 13.5x trailing earnings.  Why?  you say are you and your partner Warren interested in this clearly suffering company (stock price down 50% YTD)?  

• Sustainable world wide growth (at a significant discount)
  
• Unsurpassed brand loyalty, 
  
• FAT margins (albeit narrower than historically)  
  
• Best in class products (Mobile computing, Computers, Music Players)
  

Apple has finance all of its amazing growth over the last 8 years from available cash flow, so has no debt and the best employees in silicon valley

Realistically a takeover of Apple would cost significantly more than the current stock price and it's not like the world is flush in takeover capital right now.  The point is that this is a crazy successful and strong company with huge prospects for the future.  What multiple would you pay for Dell's 3% margin, GM's millions in losses, the entire finance industry's mystery balance sheets?

Writer is long Apple and loves his mother.  You should love your mother but Apple is up to you.  Do not suppose that writer is suggesting other than loving your mother.  Your finance decisions are yours alone.

Apple and The Troubles

So I'm at the mall yesterday looking for a gift for my daughter who is turning 13. She wants an iPod capable speaker set up for her bedroom. (Madness I tell you).

Anyway, I wander into the Apple store and am greeted by 1 and then 2 and then a group of 3 helpful Apple employees, which leads me to look around and notice that I am one of maybe 3 customers in the store... AT LUNCHTIME. So my buddy and I stop at a local restaurant for lunch and overhear the waitresses talking... "This is even slower than yesterday".

Is it possible that all the shoppers went to Washington with John McCain yesterday?

Look we don't know where the economy is now, only after the fact to we have any clue what happend so I won't say recession or depression instead I will refer to our current economic situation as The Troubles. Cool huh, non committal but ominous.

Look, Apple is great, the iPhone is going to sell like hotcakes, maybe 40-50 million units next year alone. As of today (or by the end of year) The iPhone will be available in 72 countries!

Earnings will break records every quarter. Just not as fast as it would have been. Whatever was left of the US Economy has been ripped to shreds over the last couple of weeks. Apple does not exist in a vacuum sales will be negatively effected. How negatively effected is anyones guess but it is all but assured that sales will be off.

So, when Peter Openheimer stands up on October 21st (aprox) he will announce record earnings, unprecedented growth, and the stock will get killed on very conservative future earnings estimates (unless it doesn't). Mr. Oppenheimer will take several questions regarding the Troubles but will as he has in the past decline to comment on the economy or how much it plays into Apples earnings estimates going forward

Apple's earnings will be less that what they might have been but they are the best in class competitor in all the business segments they compete in (computers, handsets, music players) and will be the dominant player in these segments when the troubles are over in maybe 15 years (I know not funny)

Bet on the long term

Writer loves breakfast cereal and is long Apple. Eat whatever cereal you like but don't do it because this guy said so. Same with Apple.

Podcaster... GooMo (Android) is Calling

Yesterday Apple shut down the back door that Alex Sokirynsky was using to distribute Podcaster.  

Duh 

Podcaster duplicates iTunes Podcast distribution function.  This is a core feature of the iPhone/iTunes environment and one that Apple will not allow to be duplicated.  

Duh

There is no mystery here you could write/develop the coolest program in the world, if it duplicates core functionality of the existing iPhone it will be rejected.  Apple is not going to release a press release that says what it feels it has already communicated to developers and the developers have nothing to lose by bitching about big bad Apple.  Sokirynsky will take his resentment/skills to another platform, for which Apple may pay a price. 

Many respected voices in the intertubes have voiced the opinion that Podcaster does not duplicate any functionality of Apple Software.  Some of these voices distribute podcasts (that I like) so they may have a little bit of a blind spot.  Podcaster distributes podcasts wirelessly. 

Podcaster is a program that might have been used to stream podcasts directly from an iPhone/Touch wirelessly. Soon to be available on an Android phone near you.

 Related Tidbit

There were 88 new applications posted to iTunes last night. 3927 applications total 900 in the last two weeks!

App Store Blogstorm

So there is this kerfuffle regarding the App store.  On the one hand we have Gruber.  Defender of the liberal arts and on the other Mike Arrington of Tech Crunch defender of well gravity.

  

Gruber/Arrington make very different arguments so you would think that they could not both be right but they are.  The thing that makes this argument cool is that we are free to assign whatever motive we want to Apple since we have no way to know what really happened.

Gruber is right, Gruber is Always right (Daring Fireball.net )

It’d be different if Apple had published an explicit rule stating, for example, that podcasting apps are prohibited. But there is no such guideline. Podcaster seems to fully comply with Apple’s published guidelines, and yet it was rejected for violating a secret rule....

The point is not that Apple can’t reject apps arbitrarily. They can. Elsewhere in the SDK Agreement is a more or less wildcard clause that grants Apple the right to reject apps — and remove apps which were previously accepted — for whatever reasons it chooses. The point isn’t about what Apple can do but what they should do.

And they shouldn’t be doing this. 

Gruber gets hot about an issue once every couple of weeks and lets fly all of his substantial edumicated smoothyness.   Slick awsome and right.  He represents that part of us for the world as we would like it to be.  He is hopeful, but unyielding and ultimately willing to make a go/no go decision based on something that is a poor compromise.

Arrington:

The fact is that there are more than twelve million iPhones in people’s hands today, and another800,000 or so are likely sold each week. That is too much of an opportunity to pass up. Developers will complain, but ultimately they’ll play by whatever rules Apple demands. Even if those rules are ambiguous and subject to change regularly without notice.

Arrington is right, I mean he is seriously correct.  This is what will happen.  I like Arrington too, it's just that I don't want to agree with him.  He is drive, ambition, business everything I admire in someone that likely feeds his family.

The downside of Arrington's argument is that it means we live in that world that is not fair, where we don't necessarily like the choices we have at any given time.  There is this MBA/Machiavelli thing that while right is a little to grown up.  

(Daniel Dilger is involved in the argument too but besides being pedantic I don't think I like him and three ways are sooo confusing)

As an aside.  The App store continues to Explode with Apps.  Four Hundred have been added since last weeks iPod show (3405 current total). Including todays release of The Force Unleashed.  This is the first release on the App store by THQ and further evidence that the iPhone/iPod Touch are going to be taken VERY seriously as a gaming device.

Update:  Fake Steve Jobs Weighs in at his lucid best: Blow Blogstorm Blowww.

Apple Sucks less than Lehman and AIG

Apple was spanked yesterday (140.36 -8.58 (-5.76%) Sep 15 4:00pm ET) during a 500 point market sell off triggered by Lehman Brothers filing for Chapter 11 protection from creditors.   Fannie Mae and Freddie Mac two companies that together hold HALF of all home mortgages in the country were taken over by the government.  These are not good times.  And for those of you blissfully unaware of what is transpiring in financial markets know this.  If AIG, one of the worlds largest insurers, is forced out of business we will all be worse off.  Things are not good in the economy, this week has been one of the bleakest in the financial markets in the last hundred years (1929)

On the other hand

 

Apple has between 21-25 Billion dollars in the bank.  Mac sales growing 25-50%.   iPhone sales off the charts (as many as 12 million to date), and plans to buy a Mac hit an all time high.

 Apple is just fine selling overpriced, proprietary computers,  overpriced proprietary music players, and overpriced proprietary cell phones.  Be a believer in sustainable margins, sustainable market advantage, and remember cash is king.

Lost in the news today aside from half of Ohio not having electricity,  Citibank reiterated a buy on  Apple with a price target of $287!  You go Richard!  No one knows where stock prices are going but given Apples actual earnings and projected growth for the next year.  It would seem that the performance of Apple stock should suck less than the market at large for the next year.

If you buy this stock you must have money, can you share?  I make all this up.  Really.  If you take the word of anonymous, but deceivingly erudite bloggers including this one. You deserve what you get.  Do real research this is just fun.

iPhone Hangover: The unfair expectations of the CGE!

When you have invented the coolest gizmo ever (CGE), everything that follows is ...   well ...  not the CGE.

Every Apple announcement cannot be the iPhone, Get over it.

Yesterday Apple introduced slick sequels to their iPod line of products and updated iTunes. They told us ahead of time what the purpose of the event.   The event went off pretty much as planned.  YET everyone went home feeling empty and sad.  Apple will sell between 25-30 million of these things between now and christmas that is impressive.

The problem is that at MacWorld in 2007 Steve Jobs Apple  changed expectations about what comes out of cupertino forever.  Nothing (Never say never but really NOTHING) can be as exciting as the introduction of the iPhone/coolest gizmo EVER (CGE for short)   And no matter how much we rationally thing about what is going to happen today, we hold out in the back of our feeble little Apple loving minds the hope that something magical like that time... back in 07....CGE... NOOOoooo

It does not help that the last several of these events have been anti-climatic since virtually everything but the color of the product is know ahead of time.  The leaks are a factor of the crazy fast growing size of Apple and its "affiliates" and likely cannot be changed.. but it does remove some of the magic of the reveal.

It also does not help that we have 47 year old men showing us how to play video games, DUDE. Schiller might has well have been wearing a leisure suit for how cool this was.   Truthfully the segment felt like filler for something that was not there.

There are the unreasonable unthoughtful expectations like iPods for $100 bucks or cheerful John Dvoraks, but this is different.  No matter what you thought was going to happen today it just was a little empty.  

You cannot invent the iPhone every year.

Squishy Margins: Apple Lower Margins Explained

Apple announced a their last earnings conference call  that they expect Gross Margins to be lower at the company for this quarter and into next year.  Here is a list of Margin squeezing forces that may be squeezing Apples margins.  

No one release, product, or strategy is the culprit here.  Do the MATH  a 2% narrowing of Apples gross margin will translate into almost a billion dollars a year in lower earnings (thats why we care)  That is more money than many new products will do in sales.

iPhone Accounting.  

Apple is accruing the income from iPhones over 24 months.  The expense created to enable the development, manufacture and sale of that phone is written off in the quarter it occurred in.  Apples manufacturing partner is currently rumored to be manufacturing 800,000 phones a WEEK.  The expense for this will show up in the next 90 days.  The income will not be completely realized until September of 2010.

Retail Sales Mac/iPhone

Mac sales are growing like crazy, much faster than the industry.  In order to maintain that growth, Apple has partnered with additional retailers, most notably Best Buy to sell their products.  For recent history Apple products have been sold primarily directly by Apple. 

Broad market competition

The larger Apple gets, the more price sensitive their next marginal customer is... Apple will be lowering their prices on iPods, Macs, iPhones in order to get them into more peoples hands because as has been shown is that if you buy one Apple product you  are MUCH more likely to buy another.

Product X

Product exists as does product Y and Z .  These products will have narrow gross margins on release but I think it is a red herring hiding as the product BY IT SELF will not be large enough a force to lower the margins as Apple has indicated.  All of these forces together are conspiring to lower the margins.

More to come

Manic iPhone owners crave. . . Peace?

By virtue of the fact that Apple has recently added the ability to sort applications in the App Store by "Popularity" it is now possible to know the following ironic factoid.

The top two most popular applications that require more than zero dollars for purchase for the ADD addled owners of the, in touch all the time in all places and conditions iPhone, are ... Wait for it

Ambient Noise generators...

Namaste  Ambience #73 overall, and Asleep #93 overall  as Fake Steve would say we honor the place where your quiet and our manic gizmoness become one...

Apple Everywhere… Margins, Growth and Pervasive Appleness

In the 4th quarter last year Apple earned 904 million dollars on 6.2 billion in income with a Gross Margin of 33.6%. They are predicting 905 million in income on 7.8 billion in income with Gross Margins of less than 32%.  (and 30% for 2009)  Apples Margins may be coming in but they are going to earn more than a 1.00 per share in the 4th quarter this year ( July-Sept 2008 )

Apple has freaked out all the analysts by changing the “Code” they use for what their earnings predictions mean.  Apple is a large multinational company with a large range of products and  sales in 100 countries (yea I made that up) predicting how many for how much and at what cost is a crap shoot at best.  So the “Code” becomes a way for the analysts to come up with a nice safe prediction (safe because it will be close to all of the other predictions.  It is hard to get fired/sued if you have the same prediction as everyone else) that will also be safely leapfrogged by actual results.  

That said Apple has made it clear that they are changing the game in the coming quarters and Gross Margin is expected to suffer as a result.  I have written before Hereand Here about some of the forces at work narrowing margins for Apple.  Apple is not introducing A (meaning one) product that is going to narrow margins.  They have a long range plan to take over the world Grow their business. 

Apple everywhere is a strategic, systematic broadening of Apples scope while simultaneously increasing the barriers to entry for their competitors.

More and lower priced computers, more and higher priced computers more and lower priced phones, mobile computing devices …. Apple is going to meet the market where they are and spend a little less time enticing the market over to them.  How long until the retail price of an iPhone hits $50 bucks? (subsidy still FAT)

RBC today predicted sales of 3 million Macintosh computers in the quarter.  Why not.  The back to school market has shown huge growth (50% Plus over the last couple years) and Apple increased their annual back to school iPod offer to include not a $150 nano but a $300 iPod Touch.  Narrower margins…

Hard to say what comes in the short term but I suspect more computing options for less than $1,000.  Some very competitively priced portables, and more iPhone and iPod options.  The name of the game is Network externalities and Apple knows if you have any one of their products the chances of your taking a chance on another one go up exponentially (yea I made that up too but it goes up a lot)