[Article Publication Date: April 28, 2019]
So, what happened during the March quarter?
Some big Services-related announcements wrapped up in a 90-minute-plus keynote (whether News+, TV+, Arcade, and/or Apple Card will be "successful" is of course another matter), but not before
• A somewhat unexpected (but welcome!) iMac announcement
• Some also-unexpected iPad announcements (iPad Pro rev. 2 10.5" is refreshed and renamed the iPad Air, iPad mini...lives?!), and
• A very-much-expected AirPods announcement (a refinement release, now with wireless case charging support).
What didn't happen?
• Revenue/profit growth. (As close to "certain" as it gets given management guidance).
• AirPower wireless charging mat. (Cancelled.)
• AAPL chart plummeting/stagnating, which is a bit of a surprise to me. Instead, the share price continued its recovery from the "New Year's Bummer" in the low $140s or so, ending the calendar quarter just shy of $190. And while it's not at the August 2018 all-time high of $233 and change, the stock is, for the moment, still hovering a bit over $200.
Perhaps Apple's typically-below-the-market-average valuation (using Ye Olde ttm P/E Ratio™, that is) keeps the stock "fairly valued", if nothing else.
New Services, iPads, iMacs and AirPods can only help over time, but for most of FQ2, Apple's business model was on "autopilot", as is usually the case this time of year.
The central question from FQ1 remains - will Greater China singlehandedly drag FQ2 2019 results "below expectations" - or will the March quarter (and June quarter guidance) end up "better than feared"?
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 2019 with some quick, humble home game commentary on major revenue categories; and
(3) wrap up this 24th in a consecutive quarterly series with a quick note on the quarter of greater interest — the in-progress FQ3 2019, which will benefit somewhat from the aforementioned multiple product refreshes.
(IMPORTANT NOTE: Please refer to this About + Disclaimer message from a while back. You won’t ever find actionable investing/trading advice here, just a bunch of paragraphs from a hobbyist blogger in my cozy corner of the Web trying to understand Apple/financials/tech a little bit better. No one has any clue what AAPL stock will do from day to day, quarter to quarter, year to year.. Performing your own due diligence and knowing your risk tolerance is an absolute must.)
Apple’s FQ2 2019 Guidance, Plus the Wall Street Consensus
>>> Part One: Apple’s Guidance
Here's Apple's guidance:
• revenue between $55 billion and $59 billion [note the broad $4B range of uncertainty - if memory serves, it's usually more like $2B for FQ2s]
• gross margin between 37 percent and 38 percent
• operating expenses between $8.5 billion and $8.6 billion
• other income/(expense) of $300 million
• tax rate of approximately 17 percent
Definitely not what Wall Street and Apple bulls were hoping for, to be sure. Here's the year-ago compare for reference:
• FQ2 2018: $61.1B revs, 38.3% GM, $7.5B OpEx, $13.8B net income, 14.5% tax rate
• FQ2 2019: Based on midpoint guidance of $57B revenue (
Where would $57B in revenue rank amongst the trailing eight years of FQ2 results? Third, but I think this chart (looking back to FQ2 2012, a few months before the start of the iPhone 5 launch) literally provides a clearer picture:
What "third place" won't show you on its own is the overall trend, which, even considering the FQ2 2015 (iPhone 6 mania) and FQ2 2018 (iPhone X's ridiculous impact on revenue) outliers, looks...quite steady, really.
If I had a top two financial metrics to keep track of, it'd be gross margins and OpEx. Will gross margins remain generally stable at around 37-39%? And what of OpEx, which was "a mere" $4.35B back in FQ2 2014? Is ~$10B/quarterreally a couple of years away, or is OpEx growth finally due for a "slowdown"?
>>> Part Two: Wall Street's Expectations
As of late April, Wall Street's actually looking for FQ2 2019 to be around 150 basis points worse on a revenue decline basis (-6.1% YOY) than the previous fiscal quarter (-4.5% YOY). It's to be expected, though. Here's the latest from Yahoo! Finance (sourcing analyst data from Refinitv/the former Thomson Reuters "Financial & Risk" division):
It's a familiar, but not-unbroken, pattern: Management sets a revenue guidance range, the professional analyst consensus ends up higher than the midpoint. Just a bit higher, in this case.
At least one unnamed analyst has shown their alignment as True Bear, believing that Apple will miss conference call-issued forward guidance for the second time in a row (even though Apple didn't issue a warning this time around). Overall, though, I think the scatterplot and resulting average are more than reasonable following the FQ1 2019 downside surprise. With infrequent exceptions, keeping within Tim Cook's and Luca Maestri's guidance is a good idea.
We'll take a quick look at the June quarter consensus ($51.9B, calling for a 2.5% revenue decline YOY) near the end of this article.
Next, my “entertainment purposes only” estimates for FQ2 2019.
The AAPL Tree Wild Guess at FQ2 2019 - a.k.a. "How Awful Were iPhone Sales in Greater China?"
I have no idea, but I might as well Etch-A-Sketch a scenario out.
Quick reminder! Things are "complicated" a bit thanks to Apple's reclassification of small portions of hardware product revenue into Services. In FQ2 2018, that hardware contribution amount was $660M combined (or about 1.1% of total revenue). So, I'll follow new GAAP for this particular chart, and use the FY18 reclassified revenue subtotals as year-ago compares.
Far as I can tell, nothing about my FQ2 "estimate" looks particularly out of line. And yet, I ended up at around $58.1B, which is roughly $700M higher than the consensus. What's going on here? Let's find out.
As usual, we’ll "overview" Apple's five revenue categories: iPhone, iPad, Mac, Services, and Wearables/Home/Accessories, The Revenue Category Formerly Known as "Other Products".
For FQ1 2019, I introduced bar charts to display YOY revenue growth and/or decline over the past several years. Unfortunately, "new GAAP" growth/decline data is only available from FQ1 2019 onward, but as Apple's revenue reclassification data indicates, the reallocations don't have a particularly significant impact on overall growth trending, which is the main point of my infographics anyway.
iPhone - What Greater China Giveth, It Taketh Away?
One would think the fundamental storyline would be, more or less: Will an increased emphasis on iPhone trade-ins, and some ForEx-price-difference-absorption from Apple in particularly-depreciated foreign currencies (such as Turkey in FQ1 2019) help hold the line on worldwide iPhone revenue decline?
Perhaps the storyline is a little more regional, though, given the very, very weak results out of Greater China so far this fiscal year.
Given that, let's see what an "identical" Greater China rev geo decline result (in percentage terms) would do to FQ2 results. The theory might go a bit like this: Greater China was formerly a source of outsized success for Apple, particularly during iPhone 6's insane growth run. Shouldn't it remain an outsized anchor on results?
Here's a starting parameter to test that theory. -27%, which is Greater China's YOY revenue decline in FQ1 2019.
As applied to FQ1 2019's results, -27% YOY growth equated to a $4.8B drop in revenue, or 5.4% of FQ1 2018's revenue total. Since Apple's FQ1 2019 worldwide revenue decline was 4.5% YOY or about $4B (validating Tim Cook's earnings-warning comments that Greater China accounted for over 100% of Apple's revenue decline in FQ1 2019), that doesn't bode so well for the March quarter, does it?
Apply the same decline to FQ2 2019, and you end up with $3.5B in Greater China revenue shortfall. Assuming rest-of-world turns in similar growth/decline results, and you get around $2.9B-$3B in YOY worldwide revenue decline for the March quarter. (Your math may vary.)
Subtract that net decline figure from FQ2 2018 actual ($61.1B) and you end up with...well...around $58.1B or so. (No, I didn't know the number would turn out so close to my entertainment-purposes-only estimate in advance.)
Could this be too optimistic? After all, isn't the consensus over a half a billion dollars below that number? Looking at the data...I really don't think so.
First, in FQ1 2018, Greater China accounted for about 20% of Apple's worldwide revenue, and in FQ2 2018, that percentage was quite similar, at about 21%. Essentially, the same percentage of Greater China revenue underperformance won't have a significantly greater impact on Apple's worldwide numbers.
Second, yes it's a little anecdotal, but there haven't been many signs of Apple's Greater China iPhone business getting much worse in the March quarter. One report actually showed an improvement in iPhone unit sales for the month of January, albeit at the probable cost of less revenue per unit (due to price cuts). Of course, reports vary.
Third, while products such as iPhones have a certain seasonality cadence to them, Apple Services does not. In other words,
> even if Apple's iPhone business in Greater China fell, say, 30% in revenue for both FQ1 and FQ2 2019,
> as long as the remainder of the Greater China segment performed about the same,
> Greater China's Services revenue would end up lessening the overall revenue decline for FQ2 2019, due to Apple Services' higher share of total geographical segment revenue compared to December quarters, and iPhone's lower revenue in March quarters.
Is the consensus impliedly right to stick closer to the midpoint of FQ2 guidance, even though that also strongly implies that Greater China's underperformance intensified in that quarter? We'll know very soon.
In the meantime? Going forward, Apple might receive a little iPhone demand uplift from a perhaps-unexpected source - yep, the Chinese government itself. Despite the continuing trade tensions with the U.S., in April, China apparently lowered the VAT for smartphones such as iPhones. It's reportedly a modest 3% decrease, but every bit helps.
Next up - iPad.
iPad - The Return to Growth (Likely) Continues
As you can see from the above trend chart, iPad was a chronic underachiever until fairly recently. iPad took so long to slowly recover from the absurd hypergrowth trajectory of 2H FY10 - 1H FY13 that it utterly failed to chip in any revenue growth during Apple's insane FY 2015. Ouch.
The bizarre silver lining to this negative growth patch? iPad has had plenty of time to find rock bottom in unit sales and revenue alike - and it's the best kind of "rock bottom" a product line could ever hope for.
Put differently, iPad experienced a multi-year cooling-off in demand, but the installed base has continued to increase over time. Thus, it's not a question of iPad's very future (yet, heh) - it's a question of when iPad was going to find the right combination of features, form factor, and price to get the product on a growth trajectory again (at least in revenue terms).
And by that set of considerations, iPad looks set to maintain positive momentum, given the most capable product lineup ever. iPad Pros feature the first new design language since iPad mini in 2012, with Tim Cook reporting customer sat numbers as high as 100% for the Pros.
Moving to the midrange, iPad Pro 10.5 was renamed the iPad Air, given new A12 life and Apple Pencil 1 support for a considerably-better-than-last-year starting price of $499. (In mid-2017, the iPad Pro 10.5 started at $649...and stayed there until its March 2019 refresh.)
iPad mini - freakin' iPad mini! - found a new purpose in life, and was also outfitted with the thoroughly modern A12 processing powerhouse and Apple Pencil 1 support, a quantum leap in capability from the A8 it was saddled with for around three years. Suddenly, $399 and up doesn't look so bad at all, even though the (admittedly just-fine and still plenty compact) form factor is going on seven years old.
iPad A10 (the old iPad Air) is left to carry on for now, but at an average age of around 10.5 months during FQ2 2019, it's hardly the oldest iPad to collect dust on store shelves. And unlike the zombie iPad 2, it's still a very capable device carrying a decent $329+ price tag. Sure, a speed bump would be nice, but I can't see iPad A10, all on its own, stopping the entire category's positive growth trend at this point in time.
Given that, I think a projected halving of iPad's revenue growth rate on a sequential basis (from FQ1 2019's 17% to my FQ2 2019 estimate of 8.5%) is quite possibly too conservative.
Next, a quick look at Mac.
Mac - MacBook Keyboards Make Some See Red, But the Near-Term Trend Remains Green
I know, I know. Those blasted butterfly keyboards!
Do I think people are just complaining too much? No, although the hyperbole from some corners might be running a tad high.
I do think there's real, justified frustration out there. However, Apple hasn't exactly fallen on its proverbial sword over the keyboards, either. And it's not like Apple's modus operandi is to Maintain Silence At All Costs™.
I'd argue the 2018 iPhone battery replacement program (remember iPhone 6 Throttlegate?) is a pretty strong counterargument to that. And so is Apple's Grand Apology to Pro Users about Mac Pro Gen 2 being a product development dead-end, with the companion Grand Promise of a more modular Mac Pro Gen 3 in 2019 and even a New Apple Standalone Display!
Long story short, it could well be that Apple's butterfly keyboard, found in every shipping MacBook today if memory serves, fails at a rate higher than Apple expectations or historical comparable averages. (Which would merit an eventual repair extension program to keep customers relatively happy.) However, there's a gulf of difference between a keyboard that's more problematic than it should be, and a keyboard with Galaxy Fold-like fatal flaws, or causes so much angst and anger that Apple feels compelled to respond publicly.
Filter out the noise, and look to the data. If the keyboards were really that pervasively bad, it'd have to show up strongly in the financials at some point, right? After all, the butterfly keyboard has been in MacBook Pros since 2016. And they now feature in the second-lease-on-life MacBook Air, which used to be Apple's volume leader. Yet, Apple managed line revenue growth of about 9% in FQ1 2019. And Apple managed an entire year of revenue growth in FY17, when the most problematic (first-gen) butterfly keyboards had their first full year of sales via the MacBook Pro + (allegedly-not-so-loved) Touch Bar lineup.
One could argue that Mac minis and the newly refreshed consumer iMac line could "hide" the "Butterfly Keyboardgate" problem to some extent, but I'm not so sure, since MacBook Air/Pro revenues dominate the product category. We'll see if anyone with the ability to get an answer out of Apple (about comparative keyboard failure/problem rates) makes the effort between now and the end of the June quarter.
Next, we move on to Apple's most vibrant business lines: Services, and then Wearables/Home/Accessories.
Services - Fields of Green
Apple's Services to date (Apple Music, apps, iCloud, etc.) have served it well.
With Apple Card, Arcade, News+ and tv+ ...not too far around the bend.
For now, Apple still looks very likely to meet its goal of growing the Services business to ~$50B(or surprisingly close to The Walt Disney Company's total worldwide annual revenue) by the end of FY 2020.
Disney's revenue run-rate looks to be ~$60Band climbing steadily.
But Apple's Services business, at an estimated $45B+ run-rate for FY19 (with an insane-yet-seemingly-typical-for-the-business-type 63% gross margin to boot), is not far behind, and will continue to gain ground for as long as the business line can maintain an overall growth rate of around 10% or better for the foreseeable future.
As usual, we'll wrap up the revenue category section of this article with Apple's current growth leader (by percentage), Wearables/Home/Accessories.
Wearables/Home/Accessories - Series 4 Should Continue to Shine, AirPods Rev. 2 Should Chip in, but as for Everything Else...
Wearables is on an absolute tear.
Everything else? Well, no one knows for certain, but I have a fairly educated guess, in my humble opinion. (Spoilers: Home and Accessories are treading water, at best.)
And really, that's about it for now. AirPods rev. 2...probably?...will help grow AirPods revenue year-on-year, since AirPods were nearly one year old at the beginning of FY18, and nearly two years old at the end of FY18. Watch Series 4 is clearly a winner, and will continue to boost Apple's anticipated bummer of a FY19 year.
(I sincerely hope Apple's wearables revenue hints continue this upcoming earnings call.)
Oh, before I forget: A quick moment to commemorate the lovely, but failed dream of the AirPower charging mat. It was a power/thermal management bridge too far, I suppose.
Finally, we conclude with a few thoughts on FQ3 2019...the June quarter during which Apple's business is predicted to start turning around.
FQ3 2019 Quick Look - As Simple as "iPhone Subtracts Less, Everything Else Adds Proportionally More"?
Reposting that Refinitv/Yahoo! Finance analyst consensus screenshot for convenience:
Keeping it simple (enough overthinking for one article, right?), we have the Wall Street consensus thinking that revenue decline will slow sequentially to around 2.6%. Here's one way to assess their thinking in YOY terms:
>> iPhone Business - about the same as FQ1
>> iPad Business - continues positive trajectory on the strength of lots of new product (about the same as FQ1, possibly a bit better)
>> Mac business - also positive, although less so
>> Services, W/H/A - generally same growth rates as we've seen recently
Turn those into approximate YOY revenue growth/decline percentages and then compare against FQ3 2018 for a quick financial litmus test:
>> iPhone @ -15% growth from $29.5B new GAAP: -$4.4B YOY
>> iPad @ +12% growth from $4.6B: +$550M YOY
>> Mac @ +3% growth: +$158M YOY
>> Services @ +15% growth: +$1.5B YOY
>> W/H/A @ +30% growth: +1.1B YOY
Net it all out, and we get about $1.1B in revenue shortfall vs. FQ3 2018, or -1.9% revenue growth YOY. Wall Street is about 70 basis points (or about $370M) more bearish than the "reference baseline" I just sketched out, which really isn't a big difference when you consider the (anticipated) iPhone weakness that has got be weighing on professional analysts' collective minds.
Could be better, absolutely. After all, "everyone" was thinking Apple would have full-year revenue growth for FY19.
However, with the continued help of Apple's non-iPhone business lines, the FY19 "down year" might just be more light snowfall and less Battle of Winterfell.
This concludes my 24th (yes, really!) consecutive Apple Inc. quarterly earnings preview. Hope it helped your thought process on the company's financials, 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 Apr. 30 earnings event!