Introduction

Note the "capitalization" of "anxiety" in the title. 😏

Panic is in the air. No, really! From a quick Google news search:

So yes, there's a palpable sense of something actually resembling "dread" from certain groups of Apple financial(s)-watchers, anyway.

And, to make things relatively simple, it's almost exclusively focused on Apple's $999 and up iPhone, because of course it is. "It's too expensive! It's too unpopular!"

As we wait until May 1 for actual numbers to indirectly support or refute that central narrative, let's see if we can't get a better handle on the fear by running a midpoint-ish-within-guidance FQ2 scenario...and taking a quick peek at analyst expectations for the fiscal quarter beyond.

In one well-worn disclaimer paragraph, we’ll be back to the familiar format:

(1) check guidance and analyst expectations for the to-be-reported quarter;

(2) take a entertainment-purposes-only look at FQ2 2018 with some quick, humble home game commentary on major revenue categories; and

(3) wrap up this series hardly anyone reads with a quick note on the quarter of most interest — the in-progress FQ3, the June quarter which seemingly has bulls on the edge and bears on the prowl.

(IMPORTANT NOTE: Please refer to this About + Disclaimer message from my old blog. You won’t ever find actionable investing/trading advice here, just a humble home gamer in his little corner of the Web trying to understand Apple and tech a bit better. As you know, no one has any clue what AAPL stock will do from day to day, quarter to quarter, year to year, even if earnings “seem good enough”. Performing your own due diligence is an absolute must.)

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Apple’s FQ2 2018 Guidance, Plus Wall Street’s Consensus [as of late April]

>>> Apple’s Guidance

Fun Fact: Apple is guiding to its first-ever quarter in the $60B range.

Here’s the FQ2 guidance from Apple:

• revenue between $60 billion and $62 billion

• gross margin between 38 percent and 38.5 percent

• operating expenses between $7.6 billion and $7.7 billion

• other income/(expense) of $300 million

• tax rate of approximately 15 percent

So, that's YOY revenue growth guided between 13.4% and 17.2%, comparing against the year-ago $52.9B number. As for net income, guided range is between $13.1B - $14.08B, versus $11.03B in FQ2 2017, representing growth of around 18.8% - 27.7%. Which would seem fairly solid for a company with the enormous profit base that Apple has. By the way, "normalize" for taxes under the old provisioned tax rate(~25%last year), and net income range would be around $11.55B - $12.43B...so on a like-for-like-esque basis, Apple is indeed implying that profitability will organically grow along with revenue, "despite" OpEx being guided to around $1.1B higher than the year-ago quarter.

Apple does have a shot at setting a new all-time-high in net income for any FQ2, the previous record being the iPhone 6-fueled $13.57B (higher tax rate than present, but also higher gross margin than FQ2 2018 guide, plus OpEx over $2B lower than FQ2 2018 guide).

Gross margin guidance is down "a bit" - call it 70 or so basis points at the guidance midpoint versus the prior year result of 38.9% - which is a little curious, given that tech companies have been reporting fairly strong tailwinds from ForEx - a welcome GAAP respite after multiple years of headwinds. Apple's gross margin caution could be attributable to

• iPhone cost structures (X in particular),

• unfavorable memory costs (Maestri's actual explanation in the previous conference call, aside from the usual "loss of [revenue] leverage" stuff),

• or some serious sandbagging by Maestri and company - we'll know soon enough.

Next, the Wall Street consensus for FQ2.

>>> The Wall Street Consensus (Apr. 27, 2018)

The Thomson Reuters consensus (32 analysts) as tabulated by Yahoo! Finance calls for FQ2 2018 revs of $60.98B, essentially the midpoint of management guidance - fairly sober, compared to most other quarters I can recall recently. That number, by the way, is a significant correction from around three months ago, pre-FQ1 2018 earnings release - when analysts somehow thought Apple could ring in revenues somewhere north of $65B (YOY revenue growth of over 25%!).

(For the record, I thought that "old" FQ2 2018 consensus was as high as the analysts must have been at the time they calculated their estimates, but I digress.)

Full-year FY 2018 expectations have also taken quite the dive since analysts got a dose of reality and/or AppleDoom in their morning coffee. In late January, the consensus was thinking around $272B in total FY18 revenue. Now, that number has been trimmed to around $261B, representing around 14% full-year revenue growth.

How has this "contagion of fear" spread to analysts' thoughts on Apple's FY 2019? Actually, it hasn't at all, not on a percentage basis. While three-months-ago Wall Street consensus was for a $280B fiscal year (an utterly staggering number), that was "only" 2.9% revenue growth year-on-year. Amusingly enough, Wall Street now thinks Apple's revenue growth rate will be better, at 3.7% (though of course, to a lower overall revenue total of nearly $271B).

So, really, the Wall Street FY19 "narrative" isn't much different than three months prior - FY18 is still looking to be the more financially fruitful year by far, growth-wise. The only "difference" is the amount of expected YOY growth for this fiscal year isn't impressing (Wall Street) very much.

Now we move on to my “entertainment purposes only” set of numbers for FQ2 2018. Given the very low visibility of overall iPhone demand, I decided to be fairly measured in my wild guess, as you'll soon see.

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The AAPL Tree “Reply Hazy, Try Again” Horseshoe Toss for Apple’s Reported FQ2 2018 Numbers

Just so we can have something to share laughs over later, I mean discuss 😅, here's my home gamer take on FQ2 2018, a.k.a. the March quarter:

As a Shiba Inu might say, "so bold. very midpoint. wow."

Hey. It IS about $150 million over the analyst consensus. And yes, since my intentionally bullish Apple thesis from FQ1 2018 was...a bit overbullish (1.1% too high on revs, 1.7% too high on net income), it's time to take stock (pun actually not intended) and adjust somewhat.

As usual, we’ll start with iPhone and end with Services. (Watch and Other Products will be “discussed” together, since Watch isn’t reported separately.)

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iPhone - Lost in Transition?

Last 17 fiscal quarters of year-over-year unit growth/decline, GAAP sell-in reporting basis (FQ1 2014 — FQ2 2018): 7%, 17%, 13%, 16%, 46%, 40%, 35%, 22%, 0.42%, -16%, -15%, -5%, +5%, -1%, +2%, +3%, -1%* (around +6% normalized)

Here's my updated thesis on iPhone, now that we're at the midpoint of the current generations' sales cycle (and now that I've had an iPhone 8 Regular for a few months).

In the eyes of the general consumer public anyway - and they're kind of Apple's lifeblood - iPhone X is Apple's truly new iPhone.

Meanwhile, iPhone 8, nice as it is, is a necessarily-slightly-awkward bridge to the much-needed new form factor for the "mainstream flagship" (?) rumored to be on the way this fall. "Necessarily", only because it shares the same basic form factor dating back to iPhone 6, and the same basic front screen.

Much has changed - A8 is A11, cameras are much improved, Qi wireless charging support/glass back, the Home button is solid-state, etc. - but there's no denying that iPhone 8, the pinnacle of the traditional iPhone paradigm, looks "the same as a late 2014 iPhone" from certain angles. And that's gonna hurt demand. A $699 (call it $700) starting price, albeit for 32GB worth of storage vs. the old 16GB/$649 entry-level pricing, won't help either. So:

• between a very familiar - too familiar? iPhone 8

• and a strikingly designed, plenty-fresh-enough-for-the-next-year-or-so, but expensive as heck $999/$1149 iPhone X,

Apple really is amidst one of the most uncomfortable iPhone transitions in the history of iPhone.

None of this is to say Apple handled it poorly to date, given the hard choices it made. On a normalized basis (14-week-to-13-week-compare for FQ1 2018), iPhone had a third consecutive unit growth quarter year-on-year. And ASP was mindblowing, at a few dollars shy of $800.

As for those feared iPhone X production problems? What iPhone X production problems? Turns out, Apple turned out an estimated 30 million or so iPhone X units in between the early November launch and the end of 2017, and actually ended the quarter in supply/demand balance.

Now, the #1 worry on Wall Street analysts' minds is whether iPhone demand (X and 8-series to a likely lesser degree) falls off a cliff after a decent start in FQ1.

Well...units and ASP will have a steep sequential drop, because it always happens between FQ1 to FQ2 in varying degrees. This time around, I decided to go with a slight reduction in unit growth sequentially - to around 6% - and to be conservative, I "assumed" a fairly significant sequential drop in ASP, about $66 worth. In case you were wondering, the last six FQ1-to-FQ2 sequential ASP drops have been, from 2012 through 2017: $11, $28, $41, $29 (iPhone 6 era), $49 (iPhone 6s era), and $40 (iPhone 7 era), so I think I'm being fairly reasonable here, if not a touch pessimistic.

Going forward (i.e., next iPhone product cycle), Apple's main challenge will be what to fill the $600-ish through $999 (or so) price band with, in terms of

• what really should be a new-form-factor iPhone 8-successor-class product,

• the price-reduced 2017 iPhone X (to what price exactly, who knows), and

• both the iPhone X's anticipated 2018 update (iPhone X2?) and its bigger sibling (iPhone X2 Plus?).

I'm quite convinced that Apple both did not price iPhone X lightly, and that it isn't comfortable keeping iPhone X-class technology starting at $999. [FN-1]

Apple's ability to drive down the cost curve of its most ambitious and feature-packed iPhone (platform) yet will be put to the ultimate test between now and Fall 2018. And while I seriously doubt Apple's future hangs in the balance, the stability/"shorter-term growth trend" of its financials, as well as its stock price over the next 12-18 months or so, very likely does. I mean...$1100-ish entry-level iPhone X2 Plus? Let's not start there, if we can avoid it.

Next up - iPad.

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iPad

Last 17 fiscal quarters of year-over-year unit growth/decline: +14%, -16%, -8%, -13%, -18%, -23%, -18%, -20%, -25%, -19%, -9%, -6%, -22%, -13%, +15%, +11%, +1%* (around +7% normalized)

iPad, in very quiet fashion, turned in the best YOY unit growth performance of Apple's core hardware trifecta, and also had decent revenue growth of around 13% or so on a normalized basis. For a product category once mired in severe doubt, it's had itself a nice recovery. And while we won't be seeing a 26 million unit quarter anytime soon (hello, FQ1 2013!), I think it's safe to say iPad's settled into a decent market niche, good for reasonably close to $20B per fiscal year (and growing) barring some new reversal of fortune. And iPad A10 will certainly help units, though not ASP...going forward. The $329-and-up tablet (non-education price) wasn't available until just two days after the March quarter ended.

iPad Pros seem to be on a good trajectory, and I don't see how Apple messes up the inevitable Summer 2018 (or so I assume) updates, as bolstered by further iPad-friendly iOS 12 updates (or so I assume 😆) in Fall 2018. They will have to "work a little harder" to lift the iPad line, however, on account of iPad mini going from growth hero to...essentially nothingness in the space of five years and change. Considering iPad didn't exactly enjoy blockbuster growth in the December quarter despite the Pro refreshes from June 2017, it might well be that 4% iPad unit growth for FQ2 is too optimistic.

But with iPhone being so dominant in Apple's financials, guesses in this revenue category really are "just" a rounding error in context.

Now, a quick look at Mac.

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Mac

Last 17 fiscal quarters of year-over-year unit growth/decline: 19%, 5%, 13%, 21%, 14%, 10%, 9%, 3%, -4%, -12%, -11%, -14%, +7%, +4%, +1%, +10%, -5%* (around +1% normalized)

Mac was...kind of just there in FQ1, financially speaking. About 1% growth in units and revenues beats nothing, but it's also very close to no growth at all.

Why? Well, the broader PC industry environment certainly didn't seem to help. Gartner calculated a -2% YOY growth rate for PCs in CQ4 2017 - and that's after overestimating Apple's quarterly shipments by around 300k units. (IDC missed on Apple's CQ4 2017 shipments by over 600k units, so I won't be including their perspective this time around.)

iMacs and the new Pro variant seemed relatively well-received, but aside from the continued lack of Mac Pro (due 2019 or so), clues to Apple's slowed momentum might be found in the core of Apple's Mac lineup - MacBooks.

Could it be that the still-fairly-new MacBook Pro design needs something more than a Touch Bar, or a keyboard some users vocally dislike on account of keys not working?

Is Intel itself partly to blame, given its shocking inability to transition from the 14nm lithography node?

Customers really like(d) the price/portability blend of MacBook Air, but it is a desperately old form factor and screen, dating back to...whoa...was it really late 2010? It's not that the ultraportable MacBook 12" is bad by any means, but the processor is undeniably slower, the screen a bit smaller (if sharper), and...well...USB-C may still be a little too future-forward (and there's still only one USB-C port, to the Air's twin USB 3 ports).

Basically, the longer Apple doesn't have a reasonably modern $999-ish MacBook in its lineup (it's $1299 and up for both MacBook 12" and the entry-level MacBook Pro), the longer Mac results may actually end up languishing, relatively speaking. And yeah, in the meantime, maybe Apple really should work a little harder on that keyboard.

Next up, Apple Watch and Other Products.

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Apple Watch and Other Products

Last 11 fiscal quarters of year-over-year unit growth/decline IN REVENUE (FQ3 2015 — FQ1 2018): 49%, 61%, 62%, 30%, -16%, -22%, -8%, +31%, +23%, +36%, and...+36%* (+42% or so normalized)

Two consecutive quarters of 36% GAAP YOY revenue growth. Not bad, eh?

Apple Watch, AirPods, the usual Beats and other accessories, maybe a small side of Apple TV units. Yep, they've compensated for the long-term implosion of iPod and iPod touch sales...and then some. Maybe my 35% YOY growth "estimate" for the category isn't too far-fetched, then?

Aside from that three-quarter line revenue decline anomaly you see above, Other Products as a revenue category has done very well for Apple since inception. Back in FQ1 2015, Other Products brought in around $2.7B in revenue. Three years later, that quarterly revenue total doubled to almost $5.5B...and without a single HomePod to help! 😂 Other Products turned in $10B in revenue for Apple in FY15, and if Apple can continue growing line revenue at around its current rate, it's not hard to imagine Apple ringing up safely over $15B worth of Other Products sales in FY18 (vs. about $12.9B in sales for FY17), assuming the continued development of and positive reception to Apple Watch, maybe a new version of AirPods, and a few dozen HomePod sales. Heh.

In short: Services isn't the only source of financial good cheer in Cupertino.

On that note...

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Services

Last 17 fiscal quarters of year-over-year line revenue growth: 19%, 11%, 12%, 8%, 9%, 9%, 12%, 10%, 26%, 20%, 19%, 24%, 18%, 18%, 23%, 34%* (more like 26% for FQ4 2017 after one-time adjustment), 18%* (around 24% or so normalized)

[Tim Cook calls Services on his iPhone.]

"Hi, Services! How are ya? Keep up the good work, and keep being that role model for the rest of the family!"

"Still on track for around $50B in sales by FY 2020 or so? Great! Take care Services, talk to you next quarter!"

[Tim Cook ends the call.]

Finally, we conclude with a sneak peek at the "dreaded" FQ3 2018.

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FQ3 2018 - So, How Scared Should We Be?

Reposting that Thomson Reuters/Yahoo! Finance analyst consensus screenshot for convenience:

At first glance, I really don't see what the problem is. The Street is "calling for" revenue growth very similar to FQ2 2018 - both numbers round to 15%. In numerical terms, a $52B quarter is expected - which would be almost $2.5B higher than the previous all-time June quarter record of $49.6B, set during the, yep, iPhone 6 bonanza year.

While their FQ4 2018 consensus estimate isn't currently available (it's a moving target for Wall Street, anyway), it's clear that the general sense among the professional analyst community is for growth rates to remain more-or-less stable for the remainder of FY 2018. Granted, it's not a 100% apples-to-apples comparison on account of more analysts in the full-year FY18 survey, but it looks like analysts are calling for a September quarter of somewhere around $60B - a definitive all-time high for any fiscal fourth quarter (previous record: FQ4 2017's $52.6B result).

And as I mentioned in the first third or so of this post, analysts are calling for a higher FY19 rate of YOY revenue growth than they were three months prior, albeit from a $10B-or-so smaller FY18 revenue base.

So maybe what we're really feeling in the air tonight isn't present panic, but instead a strange kind of "anticipatory panic".

What on Earth do I mean by this?

Apple shares are down 6% or so on the year and down almost $20 from their March peak, yes,

• but they're still up close to 40% from the beginning of 2017,

• and up nearly 70% compared to the beginning of 2016.

In my humble, entertainment-purposes-only opinion, this shows that sentiment is much more standing-on-pins-and-needles than it is massive-look-out-below-fire-sale-sell-off.

Bears appear primed to pounce, and analysts may well have downgrades and gloomy estimate revisions and grumblings about Apple's failed business execution ready to send to clients and the financial media alike...but everyone seems to be waiting anXiously on results and guidance before fully embracing the atmosphere of iPhone panic.

We needn't hold our collective metaphorical breath for very much longer.[FN-2]

This concludes my 20th (🎉) consecutive Apple Inc. earnings preview. Hope you didn’t mind reading, and it sure would be great if you felt it worthy of a weekend/evenings-eve share, like or retweet! See you all online for the May 1 earnings day!

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Footnotes:

[1] Here's a particularly revealing excerpt from the CNBC interview linked above. Tim Cook, regarding iPhone X and iPhone 8-series: "We always would like to have as few products and as simple choices as possible. But in this particular case, Josh [Lipton, the interviewer], we knew that not everyone was going to want to be on the leading edge of the technologies, nor everyone was going to spend $1,000. And so, we wanted to create some incredible phones that had the latest technologies in them."

[2] Bonus event to look forward to - that Apple cash update. As you know, Apple has $160B in net cash to spend into neutrality, as it were. It will easily generate $50B in usable net cash per year over the next three fiscal years, given net income and cash flow trends. With greatly in excess of $200B (if not $250B) in "disposable" cash to deploy over the next three years, net of a generous allowance for the usual CapEx, opportunistic acquisitions of talent, company and/or technology, R&D, etc., how much of that will be reflected in Apple's revised share repurchase authorization - which currently stands at $176.1B of $210B authorized to be spent by March 2019?