Apple signaled to Wall Street that the worst of the iPhone decline is behind it, as it reported another slump in smartphone sales on Tuesday.
The Cupertino-based company has come under pressure to prove that its flagship product can grow again after reporting a 15 per cent drop in iPhones sold in the three months to June. Overall revenues fell 15 per cent to $42.4bn, with net income down 27 per cent to $7.8bn.
Nonetheless, Luca Maestri, Apple’s chief financial officer, said that iPhone sales fell at a slower rate than they had done in March, which he said had “turned out to be the low point for our cycle”. Apple shares rose 5 per cent after-hours on the more positive outlook.
Follow Tim Bradshaw and Richard Waters as they report live reaction to the results and commentary from Tim Cook, Apple chief executive, and Mr Maestri on the conference call with analysts.
Wall Street seems to like the numbers and the confident tone.
Apple’s shares have crossed $100 after-hours, up around 5 per cent.
If it stays there by the market close tomorrow it will be the first time it has crossed that symbolic threshold since April’s slump.
Tim Cook has kicked off the Apple call. He says that the quarter was better than it had expected three months ago.
Initial sales show that the new iPhone SE, launched in March, is popular in both developed and emerging markets, with a greater than expected portion of sales going to customers who are new to iPhone. Supply of the SE has only just begun to meet demand.
Year to date iPhone sales to switchers from Android are greater than in any nine-month period.
Mr Cook is now talking about its Services business, where sales were up 19 per cent to $6bn in the quarter.
He expects that the Services business will be the size of a standalone Fortune 100 company in the next fiscal year.
Apple Watch is the best-selling smartwatch, he says, which is not really saying much.
Overall sales of the device were down year on year, a tough compare given its launch a year ago. But, he adds, “we are just getting started”.
Mr Cook is stressing the “long-term opportunity” in China – because the short-term doesn’t look so good.
Revenues in the latest quarter fell from the year before, he says, partly because of an inventory adjustment there. That compares with a a jump of 112 per cent the same time last year.
The economic slowdown in greater China is to blame, he says.
But to put it into perspective: the first three quarters in Apple’s fiscal year still brought $40bn in revenues from the country, up 55 per cent.
We are now revisiting June’s WWDC announcements. Interesting that Mr Cook is highlighting its progress in artificial intelligence, which is an area where Apple is seen as lagging behind the likes of Google and Facebook.
“We have focused our AI efforts on the features that best enhance the customer experience,” he said.
For example, machine learning enables Siri to understand words as well as the intent behind them, as well as recommending songs, apps and news. Machine learning is also used in Photos and Maps. All this is done while protecting privacy, he says, because AI processing is done on the phone rather than in the cloud.
Apple Pay is now live in nine markets. “Adoption outside the US has been explosive,” Mr Cook says, with half of transaction volume coming from non-US markets.
Now Luca Maestri, the CFO: iPhone channel inventory was reduced by 4m in the quarter, compared with only around 500,000 the year before.
He says this was part of the reason for the fall in average iPhone selling prices, to $595, so the company is expecting some recovery in the present quarter.
Services: The app store’s growth rate rose to 37 per cent, the fourth quarter in a row that its growth rate has accelerated, widening its lead over the rival Google Play.
Thanks to that (and the decline in iPhone, which he doesnt mention), services is up to 11 per cent of revenues, from 8 per cent a year ago.
A few hot takes from Wall Street analysts:
Drexel Hamilton says the quarter is “Apple’s revenge!”
Similar to the negative sentiment that engulfed Apple in late 2012 through the summer of 2013, the “gloom and doom” around Apple has resurfaced and picked up steam in 2016. Similar to the summer of 2013, we believe this summer will prove to be a bottoming process for Apple with our estimates pointing to a trough in the sales cycle and profit cycle in 3Q:FY16.
RBC Capital Markets:
Given investors were bracing for a miss and/or guide down, we think these results, specifically a more stable gross-margin line (despite strong iPhone SE traction), is driving the stock up 5 per cent after-hours.
We believe the guide implies the business is perhaps not as bad as expected. Our quick take on the guide is that it implies 43-45m iPhone units in the September quarter vs the Street at 43m and the buy side thinking of 41m.
Now Q&A: first question is about investments, following the $1bn investment in Didi Chuxing this quarter.
Mr Cook says the main use is to invest in products but “we’re constantly looking on the outside for great talent and great properties”.
On Didi, he concedes it was unusual, though not the first (Apple also invested in ARM and Akamai).
But he says it was a great financial investment, there are “things the companies can do together over time”, and Apple will learn more about the Chinese market.
Next, on gross margin guidance (37.5-38 per cent for the September quarter): it’s flat to slightly down, says Mr Maestri.
On the positive side there’s an increase from the rise in revenue and stronger mix, offset by product transition costs that are “typical this time of year for us.”
Mr Cook adds: commodity-wise, prices expected to decline.
Next: it’s a tough smartphone market out there, why is Apple feeling a little more optimistic about the present quarter?
Mr Cook says there have been some “strong signals” from a number of markets, including Russia and India. He’s also encouraged by the switching rate from other phones.
Now a question about the fourth-quarter forecast: the large scale of the inventory draw-down in the latest quarter means the sell-through to customers was acutally $46bn – so why isn’t the guidance for the fourth quarter stronger than it is?
Mr Maestri, in response, says: be careful, the inventory draw-down wasn’t all about iPhone, there were other factors in there. Also, even with the inventory adjustments, the guidance is “in line” with what Apple normally does at this time of year. And the global economy is slowing down, which makes Apple a little more cautious.
Morgan Stanley asks Mr Cook about the iPhone upgrade rate, which many analysts see as slowing down. He responds with an admission that Apple was taken by surprise by the slower upgrade rate for the iPhone 6S:
“What we have seen on the upgrade rate is the iPhone upgrade rate for the 6S is very similar to the 5S. I guess in retrospect maybe that was a predictable thing, although we didn’t predict it in the beginning, it took us a little time to realise that.”
However, Mr Cook says that he is “very optimistic” about the future, given higher switching rates from Android, a large install base and the fact that smartphones are becoming “even more instrumental and important to people’s lives”. In addition, the iPhone SE is “opening the door to customers that we haven’t reached before”.
There was no specific answer there on how long customers are hanging on to their old iPhones, though.
Back to China: Apple’s faced some headwinds, with its book and movie stores offline. Mr Cook says the revenue was “less than $1m” in the time those stores were available in China, so it’s not significant from that point of view – though they are an important part of the overall service to customers, he adds.
Now on Apple Pay: Revenues are included in the services line and while the growth is “astronomical” the base is very small, says Mr Cook.
And a Pokemon question! It’s “incredible what’s happened there” says Mr Cook – The power of a developer being able to “press a button” and be available around the world.
It does show “the AR can be really great”, he says. “We’re high on AR for the long run… we’re investing, the number one thing is to make sure our products work well with other companies’ products”. He says that “chasing Pokemon” is a good example.
“I think AR can be huge. We’ll see if it will be the next platform – but AR can be huge.”
Didn’t it sound a bit like Mr Cook said Pokeman, there, instead of Pokemon? I guess the CEO of the world’s largest company doesn’t have a lot of time to play games…
You’re right, it was kind of Pacman-meets-Pikachu
Back to something more prosaic: the ASP decline. Surprising really it hasn’t had more attention on this call, given the scale of the decline, from $641 to $595.
Mr Maestri says it was due to the reduction of channel inventory of 4m high-end devices as well as foreign exchange effects. These two factors “are not going to repeat”, he says.
So was there cannibalisation from the new lower-priced SE? The device has only been in the market a few weeks, says Mr Maestri, though it is doing what it was meant to do: bring new customers to iPhone.
“We have not seen clear evidence of cannibalisation… of course there is always going to be some level… to us the much bigger opportunity is to bring more people into the iOS ecosystem.”
A question about how Apple sees the business of investing in its own TV content.
Mr Cook says that the introduction of Apple TV and TV OS last October should be seen as “building the foundation for what we believe can be a broader business over time”.
“I don’t want to be more precise than that but you shouldn’t look at what’s there today and think we’ve done what we want to do. We’ve built a foundation we can do something bigger off of.”
A pretty clear signal of its interest in Apple commissioning TV content, there.
And that was the last question for today.
Apple’s shares are now up almost 7 per cent after hours at $103.25.
Given Apple’s in uncharted waters – a forthcoming new iPhone that might be low on new-product sizzle – there was surprisingly little probing on the call about what this might all mean for the company.
Instead, it was both more short-term (relief that the SE seems to be going to plan and stemming the iPhone decline) and long-term (plenty from Mr Cook about the long-term potential of AI and China).
This overview just in from Patrick Moorhead, analyst at Moor Insights:
“Wall Street is very happy with Apple right now and that is primarily related to beating iPhone unit expectations. But units were down across the board on iPhone, iPad and Macs and that is concerning. Watch isn’t segmented out but are bundled into “Other Products”, indicating a sharp decline there, too. China was a major letdown..
Apple’s Q3 puts an immense amount of pressure on the next generation iPhone, iOS 10 and watchOS 3. Samsung and Huawei are absolutely getting more competitive and are narrowing the hardware gap and in some areas eclipsing it through further segmentation and better marketing. This reality needs to be balanced of course against Apple’s experience and brand.
I believe if watchOS 3 truly delivers an experience as it showed on stage at WWDC, this will bring in a second wave of new buyers for Watch that could be 10X the initial wave of early adopters. This could be really big for Apple and I believe is being under-estimated.”
There’s no question, though, what Wall Street will be fixated on for the rest of this year: whether there will be much of an upgrade cycle with this autumn’s model as the smartphone world waits for a much bigger bang in 2017.