$AAPL FQ4 2019 Earnings Preview + FQ1 2020 Sneak Peek: From Storm Clouds to *Fairly* Merry Holiday Season?
Considering how things looked the moment after Apple's January 2019 profit warning, "not bad" might be "good enough" for Wall Street (for now).
[Article Publication Date: October 28, 2019]
From the low $140s per share in January 2019 to an all-time-high in the 240s now? Who knew?
To those not following Apple's financials and/or the stock all that closely (and there's any number of totally legitimate reasons to have any number of other more important things to do, to be clear), this probably comes as a big surprise, considering the sharp downward skid from the 220s that started around last October. After all:
• iPhone revenues are down 15% in the first three fiscal quarters of FY19 compared to FQ1-FQ3 2018.
• Apple is all-but-certain to turn in a retrograde revenue year, down around 2-3% overall per analyst estimates.
• Meanwhile, that contentious trade war between the U.S. and China is far from settled.
How does all of that add up to all-time highs in anything other than anxiety, right? Not that I claim to have the answers, ever, but there are some possible explanations, all centered around that intangible-yet-profoundly-important investment metric of sentiment.
• iPhone revenues are down, but all other business lines are up in the fiscal year so far - even Ye Old Mac. Everything Except iPhone is expected to show revenue growth for FQ4 2019, as well.
• Not only is there an amusingly semi-ironic "realization" from Wall Street that Apple isn't as "dependent" on iPhone as it used to be, there's also a general sense that iPhone revenues have reached a bottom, and that the iPhone 11-series will perform better than the XR and XS in the coming 12-month sales cycle.
• Wearables continues to be a star performer for the company, providing a significant growth tailwind even as the revenue base approaches the scale of both iPad and Mac.
• Services have been augmented with Arcade, tv+, News+ and Card, only fueling overall Wall Street optimism about Apple's (high-margin) Services story.
• Tim Cook and Co. were caught incredibly flat-footed by FQ1 2019 weakness, but thereafter pulled off an admirable recovery, re-aligning investor expectations for the remainder of FY19, as well as exceeding them in FQ3 2019, and setting stronger-than-expected guidance for FQ4 2019, in spite of fierce foreign exchange headwinds (which impacted FQ3 revenue growth by 300 basis points, with a predicted $1B ForEx headwind for FQ4).
• Meanwhile, the #1 problem revenue geography for Apple in FY19 - Greater China - actually returned to revenue growth in FQ3 2019 (in constant currency terms), even as the trade wars raged on. While Apple did burn up a substantial amount of built-up goodwill with that earnings warning, so far, so good on corporate adjustments/business model execution since that point.
And so it is that Apple finds itself at a ttm P/E ratio of around 20 - very high compared to the past decade, and only ~15%lower than the rest of the S&P 500. Can Apple keep its blue-chip stock momentum going?
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 FQ4 2019 with some quick, humble home game commentary on major revenue categories; and
(3) wrap up my 25th (!) Apple earnings preview with a sneak preview of the quarter of greatest interest — the highly-anticipated, more-than-likely $80B-class "December quarter", a.k.a. FQ1 2020.
(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.)
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Apple’s FQ4 2019 Guidance, Plus the Wall Street Consensus
>>> Part One: Upside Surprise from Apple's Guidance
Here's Apple's guidance:
• revenue between $61 billion and $64 billion
• gross margin between 37.5 percent and 38.5 percent
• operating expenses between $8.7 billion and $8.8 billion
• other income/(expense) of $200 million
• tax rate of approximately 16.5 percent
For reference (thanks, Wayback Machine!), here's what Wall Street thought FQ4 2019 guidance would be on the day of FQ3 earnings:
Yep, the average Wall Street consensus turned out to be the low-end revenue guidance issued by management, which obviously cheered investors and catalyzed the continued share price rally (some context: upside surprise on guidance isn't particularly common with today's Apple).
Anyway, running the numbers, $61B - $64B in revenue per management guide results in a guided net income range of about $11.9B - $13.5B, compared to year-ago net income of $14.1B. Most of the GAAP shortfall results from $800M in guided YOY increase in OpEx (nothing new), followed by the ~250basis point increase in guided tax rate with a small dash of slightly lowered gross margin guidance YOY (related: the aforementioned $1B in guided ForEx headwind to revenue, which necessarily impacts gross margins). All things considered, it's difficult to find anything particularly concerning in the anticipated profit decrease - and it helps that overall profitability has always been an Apple strength, especially since the launch of iPhone.
Next, we check against Wall Street's expectations, using Yahoo! Finance as always (sourcing analyst data from Refinitv/the former Thomson Reuters "Financial & Risk" division).
>>> Part Two: Wall Street's Expectations
As of time of publication, Wall Street's expecting Apple - surprise, surprise - to deliver revenue results close to the top third of management's guidance range:
When the pros are net-bullish on Apple, they tend to take a certain number of steps away from the midpoint and towards the top-end guide. Nothing unusual here. Adjusting for management's $1B ForEx headwind year-on-year, analysts project non-GAAP revenue growth of around 150 basis points - nothing impressive in the abstract, but again, better than was feared at the beginning of the year.
Now for some entertainment - is the consensus possibly too "bearish", or am I about to go out on a serious limb here?
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The AAPL Tree Wild Guess at FQ4 2019 - a.k.a. "Did Your Humble Correspondent Learn Nothing from the Earnings Warning This Year?!"
I have a bad feeling my "estimate" will end up way too high. But it's no fun playing it safe all of the time, and you all know darn well that it's a worse-than-bad idea to treat a single word I type as "actionable".
So, here, we, go!
How does a revenue scenario that seems sober enough end up being this bullish? It's essentially all because of iPhone - and yes, I did do my level best to "bake in" the $1B in guided ForEx headwinds into this super-bullish overall estimate.
As usual, we’ll "overview" Apple's five revenue categories: iPhone, iPad, Mac, Services, and Wearables/Home/Accessories, using the reclassified FQ4 2018 numbers for comparison.
And a reminder about the bar charts below - 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.
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iPhone - A Question of Demand or Channel Inventory (Possibly Both?)
Somehow, a projection of around 3% iPhone revenue growth looks like quite the outlier, but that's the theme of FY19 I suppose.
>> The Revenue Estimate is Too Damn High!
Let's start off with why I'll probably be wrong on iPhone revenues, to the tune of $2-3B or so (maybe more! 😱).
• In FQ3 2019 - widely regarded as a quarter in which iPhone revenue trending improved - revenues still ended up down over 12% YOY.
• Apple has had most of FY19 to know that iPhone unit sales are significantly lower than FY18. And they make mention of the unit sales decline right in their 10-Q SEC filings!
• Why is that knowledge important? If you take the realist-to-pessimist point of view, this means iPhone, "at best", remains mired in demand downtrend for the foreseeable future, therefore channel inventory levels should likewise adjust to this new normal.
• Lower channel inventory levels don't have anything to do with sellthrough, the superior metric for assessing demand, but they do directly impact GAAP revenue. If Apple draws down channel inventory in anticipation of a more modest iPhone 11-series launch, that'll impact the FQ4 GAAP number.
• Finally, assuming Apple can meet launch demand for iPhones 11 and 11 Pro, reducing channel inventory for the new product further lowers iPhone GAAP line revenue, aside from any year-on-year unit sales decline compared to the iPhone XS-series.
>> ...or is there a small chance it's on the right track?
Now here's some reasons why I might end up right - or at least, why iPhone revenues may actually grow YOY. Sure, it's "contrarian", but it's fun to take the contrarian view now and then.
• Pretty much everyone from management to Wall Street sees the iPhone demand situation continuing to improve year-on-year, and I'll give you one guess as to why. Anyway, if iPhone had a similar YOY revenue percentage decline as FQ3 2019, total Apple revenue would likely end up at around $61B, the low end of Apple's guidance, and squarely within the realm of the most bearish pros. And yet, Apple dared to guide to a top-end number implying overall revenue growth ($64B) despite the aforementioned ForEx headwind. It was "unnecessary" given late-July Wall Street expectations, and yet Apple still had the confidence to guide as it did, barely six months removed from its earnings warning embarrassment.
• iPhone 11 and 11 Pro were both well-received by the global marketplace, given reports, as well as evidence of 11 Pro stockouts following the Sep. 20 launch. Of course, in iPhone 11's case, it certainly didn't hurt that Apple dropped prices by $50 for all SKUs, and added a second, ultrawide lens, finally bringing the mainstream flagship iPhone into the dual-camera era.
• Unlike last year, both iPhone 11 and 11 Pro lines shipped with a "plentiful" nine days to spare before the end of FQ4 2019. Only iPhone XS-series launched in the comparable year-ago timeframe; iPhone XR would not launch until late October.
• Also unlike last year, a "holdover" iPhone X-class device remains on sale - the iPhone XR, to complement the iPhone 8-series on the new "low end" of the iPhone pricing matrix. That will have a mitigating impact on channel inventory drawdown, vs. the exit of iPhone X at the same time last year. (I'd expect the mostly-no-longer-for-sale iPhone 7 and iPhone SE to be nominal contributors to revenue at most.)
Where does the truth lie - bearish, slightly bullish, or neutral? We'll know soon.
Next up - iPad.
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iPad - Will There Be an "iPad Pro Pause"?
As a bonus, we get to ask the same question twice in a row - for the recently-ended FQ4, and the in-progress holiday quarter.
This isn't a situation where iPad is particularly long in the tooth, overall. The iPad Pros, having launched in Oct. 30, 2018, are "younger" than their June 2017-launch predecessors, plus, they're still the only new-look iPads since late 2012.
Apple's FY18 saw only a single "new" iPad launch - the budget iPad A10. Ouch. In comparison FY19 saw (besides the iPad Pros):
• iPad mini A12, $399+ US (you could almost call it "iPad mini SE")
• iPad Air 10.5, also with an A12, $499+ (you could almost call that the old iPad Pro 10.5, but not quite)
• "just iPad", the iPad A10 now with Apple's Smart Connector for accessories, a screen size boost to 10.2 inches, and a few millimeters added to height and width to support a full-sized keyboard ($329+)
So it's not a big surprise that with all the new product, iPad saw three-quarter YOY line revenue growth of 15% (although the growth rate decelerated to +8% for FQ3 2019).
It might surprise you to know, though, that Apple attributes this revenue growth "primarily to higher net sales of iPad Pro" [FQ3 2019 10-Q, pg. 26]
And iPad Pro isn't on a 12-month cadence the way iPhone is - the interval between generations (not counting iPad Pro 9.7) was about 19 months from first generation to second generation, and then about another 16 months from second generation to the current generation.
It'll be interesting to assess the impact on overall iPad demand (particularly during the seasonally-boosted holiday quarter) while we all await Apple's first refresh of the new iPad Pro design.
Next, a quick look at Mac.
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Mac - Still Steady
I think the verdict is in. MacBook keyboards are not exactly loved by Mac owners...then again, they're also not exactly the "epic fail" some tech pundits are making it out to be.
Sorry, I don't feel the need to throw out any links, you all already know what's out there. Besides, I have more relevant data (arguably).
Trailing-two-year revenue data would definitely be able to capture longer-term trending (read: consumer reception to those @#$%-ing keyboards), since they were first equipped to the Touch Bar-era MacBook Pros over three years ago, right?
Mac is a mature business, beyond question. Contrary to certain tech narratives, however, it's a mature business that's still quite healthy, "in spite of"
- no touch/detachable/dual-screens,
- meh keyboards,
- somewhat aging mainline MacBook Pro designs (albeit speed-bumped in mid-2019),
- definitely aging iMac designs (also speed-bumped in March 2019)
- does-this-even-have-a-future MacBook 12,
- you're-gonna-update-this-someday-right iMac Pro (no seriously, it launched in December 2017),
- and the not-yet-launched Mac Pro Gen 3 (niche, but every little bit helps).
Oh, and did I mention Intel, which might start shipping somewhat-cooler-running 10nm CPUs suitable for Macs in 2020, which would finally allow the PC industry to start exploring new form factors in earnest? (Never mind that Apple may ship 5nm A-chips in iPhones in 2020.)
All told, looks like Apple's "Truck Computing" line is still well-positioned heading into the new decade.
Next, we move on to Apple's all-star business lines: Services, and then Wearables/Home/Accessories.
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Services - The "Walled Garden" Adds New Attractions
As the revenue base builds, Business Physics™ (or so I theorize) make it more difficult to grow at the same percentages as before.
So...in the incremental-revenue sense, Apple Arcade, tv+, News+ and Card should help a bit with that...over time.
What's fascinating is Apple's "better-than-expected", downright aggressive pricing on Arcade and tv+.
For Arcade, Apple's proven that it's hardly averse to giving its "premium" customers good value for money (note what Apple doesn't have to do with Arcade and tv+ vs. Music and News - content licensing). For the price of a single "AAA" PC game release, Apple will soon let you play around 100 games at a time - without a persistent Internet connection - across iPhone, iPad, Apple TV (say hello to Apple's new gaming console initiative, by the way), even Mac. And Apple will happily support the gold-standard PS4 and Xbox controllers. In my humble, biased opinion, I think Arcade will easily bring in the most paying subscribers between it, News+ and tv+.
tv+ is even more interesting. Not only has Apple priced tv+ intelligently vs. the competition @ $4.99/mo. (given the lack of content library and wanting to give tv+ the best long-term adoption chance possible), it's also not going to make a single dollar in "incremental" revenue from most tv+ subscribers for at least a year! Very savvy move for Apple to bundle a free family-share 12-month subscription - even if you buy a humble Apple TV or iPod touch. Even if it's absolutely necessary, it's still smart (and far beyond general expectations).
As usual, we'll wrap up the revenue category section of this article with Apple's current growth leader (by percentage), Wearables/Home/Accessories.
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Wearables/Home/Accessories - It Probably Won't Be 50%+ Wearables Growth For Much Longer, But It'll Still Be Plenty Good Enough
Apple's top-performing revenue category by percentage growth even had an assist from the laggard Home/Accessories lines in FQ3 2019. What's not to like?
Series 5 adds a surprise always-on-display (battery life impact TBD, but you can always turn the feature off), while Series 3 remains on the market and drops to a previously-unthinkable $199 for the GPS version. Plenty of momentum going forward I think, though of course Wall Street would hardly be satisfied with low double-digit growth for Wearables.
AirPods rev. 2 seem to be doing fine, and as of Oct. 28, AirPods Pro, with active noise cancellation, silicone ear tips (did I just hear some cheers from the AirPods audience?) and Apple's latest audio tech for $249, will probably do nicely in its the higher-end wireless audio (earbud-type) market segment.
Hard to see Apple not having a great FQ4 and holiday season with the new Wearables lineup (which includes Beats).
Finally, we conclude with a few thoughts on FQ1 2020. It's "probably" going to be an $80B-class quarter, but should we be thinking $85B, or even higher?
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FQ1 2020 Quick Look - Your Annual Reminder that iPhone (Still) Sets the Tone
Reposting that Refinitv/Yahoo! Finance analyst consensus screenshot for convenience:
As of Oct. 25, the "consensus" (from $77.5B all the way up to almost $91B) calls for Apple to turn in a $86.8B holiday quarter. 3% better than last year (up $2.5B YOY), but about 1.7% lower than FQ1 2018.
Considering management's current tone, along with the fact that this would mark only the third time Apple has ever minted a $80B-class fiscal quarter (fourth highest revenue number ever: $78.35B, FQ1 2017), this seems like an entirely reasonable number. And it'll probably be at least decently well-received, considering the tumult of January 2019. But let's run a really quick double-check first.
Here's one way to assess Wall Street's thinking in YOY terms (assuming a backdrop of addition ForEx headwinds vs. FQ1 2019), ending with iPhone:
>> iPad business - flat revenue growth as increased unit sales from not-iPad Pros cancel out diminishing demand from "aging" iPad Pros vs. the prior holiday quarter
>> Mac business - flat-to-slightly-positive revenue growth, "fresh enough" Mac lineup, impacted by lack of iMac Pro refresh, will receive a modest-yet-noticeable boost from pent-up demand for the the "We Really Do Love Pro Minitower Users, Take Us Back!" Mac Pro Gen 3 (don't forget, the base $6000 Mac Pro is the ASP equivalent of several Macs)
>> Services, W/H/A - somewhat lower growth rates than we've seen in FY19, due to the Business Physics phenomenon, although the Accessories part of W/H/A is a bit of a wildcard on account of the $5000+ Pro Display XDR
>> iPhone business - flat-to-slightly-negative revenue growth. While iPhone 11 and 11 Pro both appear to be solidly in demand despite the lack of 5G, best to play it safe, as Apple management undoubtedly is also thinking following the fiasco that was FQ1 2019. So, we'll presume Apple management is being extra-careful on demand forecasting and is adjusting channel inventory accordingly. Additionally, holiday quarter iPhone 11 demand vs. iPhone XR demand in FQ1 2019 will be reduced to a degree on account of "pulled-ahead" sales, given that iPhone 11 launched in Sep. 20, 2019 (just before the end of FQ4 2019), while iPhone XR launched in late October 2018 (well into FQ1 2019).
Turn those notes (not necessarily what I personally think, just trying to "think like a Wall Street analyst" here) into approximate YOY revenue growth/decline percentages and then compare against FQ1 2019 for a quick financial litmus test:
>> iPad @ +0% growth
>> Mac @ +1% growth: +$74M YOY
>> Services @ +12% growth: +$1.3B YOY
>> W/H/A @ +23% growth: approx. +1.7B YOY
>> iPhone @ -1% growth: -$520M YOY
Well, whaddaya know? That's just about the same $2.5B in net revenue increase YOY that Wall Street's thinking! (I absolutely didn't know the math would turn out that way beforehand, honest! 😇)
That just leaves us one question: How will Tim and Luca meet, exceed, or...underwhelm these expectations in their forthcoming FQ1 2020 guidance?
This concludes my 25th (yes, really!) 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 Oct. 30 earnings event!