Apple Profit Slides Amid Robust iPad Sales

Profits at Apple have fallen for the first time in a decade, prompting the inclusion of a couple of unusual financial terms in its second quarter earnings call: “earnings decline” and “debt market.”

There is also little doubt that Apple’s stock price has been hit hard since last September, but Wall Street was braced for a drop of 19 percent in profits at Apple in this quarter, so when it only revealed a 18 percent profit decline to $9.5 billion (£6.2bn), the markets did not take undue fright.

Strong Sales

Revenues meanwhile remained buoyant, and rose a healthy 11 percent to $43.6 billion (£28.6bn) in the second quarter, compared to $39.2 billion (£25.7bn) a year ago.

The revenue increase was sparked by strong sales of 37.4 million iPhones – up 7 percent year over year – as well as 19.5 million iPads, up 65 percent year over year.

The stock price closed at $406 (£266) on 23 April. It had reached a high of $702.10 (£460) on 19 September, 2012; but since then the price has dropped 42 percent in seven months.

In stating Apple’s financial outlook for its Q3 ending in June, Chief Financial Officer Peter Oppenheimer said the company sees revenue ranging from $33.5 billion (£22bn) to $35.5 billion (£23.3bn), with gross margins expected to be 36 percent to 37 percent.

Oppenheimer also said that Apple believes “incorporating debt into our capital structure will provide benefits.”

Pleasing Investors

Apple meanwhile continues to fuel speculation that the company eventually wants to go private, after it announced an aggressive plan that more than doubles the size of the capital-returns program to a total of $100 billion (£65.6bn) by the end of calendar year 2015. This will mostly be in the form of share repurchases, CEO Tim Cook said.

Cook explained that the company’s board of directors has authorised a share-buyback program increase of up to $60 billion (£39bn).

“This is the largest share buyback authorisation of any company in history,” Cook said. “We are very confident in Apple’s future and believe strongly in this program. To facilitate our program, we will access the debt markets.”

In answering a question during the conference call about his take on the Mac-versus-PC market, in which Apple outsold competitors by only a slim margin, Cook was candid.

“I think the reason we were down last quarter (down 2 percent in the personal computer sector) was that the market for PCs is incredibly weak,” Cook said. “In the meantime, we sold almost 20 million iPads, and it’s certainly true that some of those iPads cannibalised some Macs, but I personally don’t think it was a huge number.

“Probably the larger thing, at least for the PC side, is that people are extending their upgrade cycles. That said, I don’t think this market is a dead market or a bad market by any means. I think it has a lot of life to it. We’re going to continue to innovate in it. We believe that the huge growth in tablets may end up benefiting the Mac,” Cook said.

Cook said in his prepared remarks that “our teams are hard at work at some amazing new hardware, software and services that we can’t wait to introduce this fall and throughout 2014.

“Apple has many distinct and unique advantages as the only company in the industry with skills in hardware and software services. We’ve got a lot more surprises in the works,” Cook said.

Analyst View

Industry observers were quick to comment on Apple results, which beat both financial analysts’ estimates and its own guidance.

“In some ways, beating guidance was the worst thing Apple could have done, after it had said last quarter that it would provide more realistic guidance and aim to hit rather than beat it,” said Jan Dawson, chief telecoms analyst at Ovum.

“A large part of the problem with Apple’s share price is that it has trained analysts to expect two things: ever-increasing revenues and profits, and that it will beat its own guidance consistently. This quarter illustrated that expecting revenues and margins to continue to grow is unrealistic, but also undermined its promise to provide more realistic guidance. While beating guidance is a positive thing in its own right, it is likely to lead to continued overheated estimates from analysts, which is not in Apple’s longer-term interest.”

And Dawson also pointed to another potentially worrying development for Apple’s management team.

“Average selling prices for iPhones and iPads both fell, which suggests that much of the growth has come from lower-priced models like the iPhones 4 and 4S, and the iPad Mini. That’s a sign of things to come, as Apple has to pursue secondary markets for both of these products as primary markets become saturated, and that in turn will have an impact on margins,” he said.

“More broadly, Apple saw good strength in the Mac line,” said Ovum’s Dawson. “At a time when other PC makers are really struggling with falling sales, Apple maintained consistent sales year on year, and increased average selling prices significantly due to the launch of the Retina Display MacBook models.”

And Dawson also offered his take on Apple’s decision to return more cash to shareholders.

“Lastly, the plan to return more cash to shareholders is clearly a response to the poor performance of the share price, which Tim Cook said on the call was enormously frustrating to the leadership of Apple,” said Dawson. “Unfortunately, it is unlikely to solve the underlying problem with the share price, which is more due to scepticism among analysts that Apple can continue to deliver strong growth without new products to complement sales of iPhones and iPads.”

“As iPad and iPhone shipments, and especially revenues, grow more slowly, it needs new products to continue to deliver the sort of overall revenue growth it has historically produced, and it is not yet clear what those new products will be,” Dawson concluded.

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Originally published on eWeek.