Apple FQ3 2017 Home Game Earnings Preview + FQ4 Look-Ahead: iPad and Mac Renewed as iPhone Waits For 8

AAPL Tree
AAPL Tree
Jul 30, 2017 · 13 min read

[ADVANCE TL;DR WARNING: This post is around 3,000 words. If you’ve got insomnia, I’ve got the cure.]

Introduction

After what seemed like “forever” (in product cadence relativity terms, anyway), iPad and Mac were thoroughly refreshed in all of the categories that matter most, with availability in June. Unless there’s a very weak demand environment awaiting these two product categories over the next 12 months…

…which would be of obvious concern…

to me, it’s a fairly safe assumption is that iPad and Mac will be units and revenue tailwinds for Apple well into the holiday quarter (FQ1 2018), probably a bit beyond. Meaning nearly everything Apple offers from Apps to Watch (a strong-second-generation offering, after all) will “pull its own weight” for the foreseeable future. Services…we won’t have to worry about that for at least another three or four quarters. 🙄 (as in /sarcasm)

There is one rather giant exception, however. iPhone…is a category waiting for the fateful 8. Until then, it’s an anticipated year-on-year negative (or at minimum, a headwind) for Apple results until either the next-generation iPhone launch (depends on the initial supply and launch timing) expected around FQ4 2017, or, “provided the supply and demand are there”, FQ1 2018.

Overall, though? Getting back to the past, err, present, Apple is anticipated to have a (modest) rebound from its $42.4B revenue nadir in FQ3 2016 (a nadir many corporations would do [questionable things] for). But “does it really matter”, since Apple’s biggest corporate test since iPhone 6 probably won’t begin until the very end of the in-progress FQ4, if not later?

Hello, and welcome to my 17th consecutive (I know, right?) home game AAPL earnings preview, where I try to understand everyone’s favorite $200B-revenue-scale consumer tech company (unless you expand that definition to include Samsung) just that little bit better.

In two well-worn disclaimer-reminder paragraphs, we’ll be back to the current format (but condensed, since this is a nadir/waiting for iPhone quarter):

  • (1) check guidance and analyst expectations for the to-be-reported quarter;
  • (2) throw a entertainment-purposes-only horseshoe toss for FQ3 2017 with some 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 FQ4, which, since iPhone 5/FQ4 2012, has been “the new iPhone launch quarter”.

(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 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.)

Something that I think bears repeating each quarter: There’s a gulf of difference between Apple disappointing Wall Street (which they arguably are not doing at present, by the way) and Apple actually beginning to show signs of failure in an objective sense, whatever any hyperventilating members of the analyst/media/blogger class might tell you. Still, even the most ardent Apple bulls should (in my opinion) agree that a sudden patch of negative growth (even if now in the rear-view mirror) is one worth keeping in mind — and doing additional research about — to check against the ol’ investment/trading thesis.

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Apple’s FQ3 2017 Guidance, Plus Wall Street’s Consensus [as of July 28, 2017]

>>> Apple’s Guidance

Here’s the FQ3 guidance from Apple:

  • revenue between $43.5 billion and $45.5 billion
  • gross margin between 37.5 percent and 38.5 percent
  • operating expenses between $6.6 billion and $6.7 billion
  • other income/(expense) of $450 million
  • tax rate of 25.5 percent

Run the numbers, you get a net income range of about $7.50–8.47B. That compares to: $7.8B the prior year; $10.7B in FQ3 2015; $7.7B in FQ3 2014; and $6.9B in FQ3 2013. So, not counting the obvious 2015 outlier, the trend is actually…looking fairly decent as nadir quarters go, moreso when you note Apple’s OpEx of $3.8B back in FQ3 2013 and $6.0B in the year-ago quarter.

Revenue’s a similar, perhaps even more positive story. Going backwards in time (I’m not hearkening back to that YouTube link from earlier, promise…not 100% intentionally, anyway), FQ3 revenue was: $42.4B (FY16), $49.6B (FY15), $37.4B (FY14), $35.3B (FY13).

So. A decent chance Apple, if you “ignored” FY15, continues a trend of no-asterisks-necessary profit and sales growth. Not bad for a “bummer” quarter.

>>> The Wall Street Consensus

Wall Street remains fairly positive on Apple (by its standards), as it awaits iPhone 8 just like the rest of us. The past three months have seen Apple shares trading in a $145–155 range for the most part. There was a bit of June gloom, but now, we’re back right around $150.

As of July 28, 2017, the Thomson Reuters consensus as tabulated by Yahoo! Finance calls for revs of $44.89B, vs. Apple’s top-end guide of $45.5B.

How does that compare to around three months ago, before the benefit of Apple’s guidance? Back then, Wall Street was looking at a $45.57B FQ3 — so they’ve adjusted their expectations downward by close to $700M in revenue (and down one nickel on the EPS side).

Also of note, Wall Street’s cooled down its overall FY17 growth expectation…previously calling for a 6% rev increase YOY, now down 140 basis points to 4.6%.

However, the consensus caught a raging, disproportionate case of bullishness for FY18, with the “old” YOY rev increase projected at 8.4%, now…uh…13.3%. Or $255.51B, which would be around $22B higher than Apple’s all-time, dizzyingly high (never-even-close-to-achieved-by-any-other-consumer-tech-centric-company) record annual revenue of $233.7B.

Quarter-trillion dollars next fiscal year, no sweat. Ooooooookay.

I got nothing. Wall Street, am I right?

It’s very early, subject to change, and the full-fiscal-year revenue number, moving target that it is, isn’t likely to drive the stock in my humble opinion. But I thought you might find it interesting for sentiment/WS numbers/future reference purposes, so there you go.

Now we move on to my “entertainment purposes only” complete wild guess for FQ3 2017.

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The AAPL Tree “Cracked Crystal Ball” Horseshoe Toss for Apple’s Reported FQ3 2017 Numbers

In the interest of saving words, we’re skipping over the previous-quarter-actual-versus-“estimated” retrospective I sometimes do. The one-sentence version: I was 4.4% high on iPhone units, 8% low on iPad units, $80 low on Mac ASP (but probably not alone), and everything else (iPhone/iPad ASP, Mac units, Other Products revs, Services is kinda hard to mess up for now) was…all right I guess.

Here’s my “taking a stand in the safety of the midpoint, as bold as vanilla ice cream 🤣” guess for FQ2 2017, presented without pretense or claim of expertise as always, followed by a “sense” of my overall “thinking” behind the (big air quotes) “estimates”.

Around $200M under the analyst consensus? Why? What has gotten into this home gamer?

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

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iPhone

Last 14 fiscal quarters of year-over-year unit growth/decline, GAAP sell-in reporting basis (FQ1 2014 — FQ3 2017): 7%, 17%, 13%, 16%, 46%, 40%, 35%, 22%, 0.42%, -16%, -15%, -5%, +5%, -1%

I’ve wild-guessed an iPhone unit drop of a little over 5% year-on-year — given iPhone’s massive revenue contribution, that’s the principal source of the relative bearishness of my FQ3 “estimate”.

However, considering that $200M in revenue is around “300,000 iPhones worth of difference” (which in turn is around 0.75% of the FQ3 2016 iPhone unit sales number), you’ll also notice where Wall Street likely is on iPhone. Which is to say, almost as “bearish” (air quotes) on iPhone as I am, for this FQ3.

My “reasons” and Wall Street’s reasons may differ. For me, it’s not that I’m super-down on iPhone 7. I’m quite happy with the 7 I have, and could, if necessary, keep it until the New 2018 iPhone. One can’t ignore, however, that iPhone 7 has not moved the unit sales needle in any significant way vs. iPhone 6S. Similar form factor probably has something to do with this, and Apple very likely knows it. My pet theory? Since Apple tries to be conservative in the arenas of inventory and financial reporting, it’ll be doing a little extra channel inventory drawdown just in case. I don’t mean to imply this to be a primary motivation of Apple’s, by the way. Wall Street does pay attention to iPhone sellthrough, as it will throughout the next flagship iPhone sales cycle. Expect analysts to be particularly interested in how iPhone fares in Greater China throughout CQ4 2017 through CQ2 2018 or so.

As for ASP? Well, in the prior quarter, iPhone ASP remained fairly high, at about $655. I don’t think it’ll drop anywhere near $600 for FQ3 — I put in a $635 ASP estimate out of conservatism. Additionally, Apple is likely reducing high-end iPhone channel inventory for future channel fill of the next iPhone, further pressuring ASP.

Next up, iPad.

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iPad

Last 14 fiscal quarters of year-over-year unit growth/decline: 14%, -16%, -8%, -13%, -18%, -23%, -18%, -20%, -25%, -19%, -9%, -6%, -22%, -13%,

Thirteen straight quarters of year-over-year iPad unit declines (though this is not the case for line revenues).

The “good news” for Apple is, with iPad A9 at the low-end and refreshed iPad 12.9 and new-screen iPad 10.5 on the higher end, plus iOS 11, the era of relentless unit declines might be coming to an end.

I’m guessing it probably will, potential lack of new iPad mini aside. It just may take until iPad Pros’ first full quarter of availability. I decided to err on the side of channel inventory drawdown of old iPad Pro stock to make way for the new iPad Pros in June. At the same time, though, we didn’t hear any reports of either iPad Pro being all that supply-constrained…which might be partly because iOS 11, with all of its productivity-unlocking features, won’t be out until Fall. With iPhone, you get the latest iOS with the latest flagship. This is no longer the case with iPad (which actually isn’t new, as iPad started life “lagging” the latest iOS by a few weeks or so).

Anyway, I scribbled in a -7% YOY growth rate, which is still second-lowest compared to the historical YOY downtrends noted above. As for ASP? With iPad mini going the way of iPod, and iPad Pro starting at $649 and up, a sequential increase seems very likely to me given the current mix. I went with $475. Lower than the $490 for FQ3 2016, but I’m being conservative given the product transition. You never know if iPad ASP will actually see $500 again in the next couple of fiscal quarters, though!

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Mac

Last 14 fiscal quarters of year-over-year unit growth/decline: 19%, 5%, 13%, 21%, 14%, 10%, 9%, 3%, -4%, -12%, -11%, -14%, +7%, +4%

One “tepidly received” MacBook Pro redesign ended up single-handedly dragging Mac out of a four-quarter unit sales doldrum. Oh, and spiked ASP to a industry-defying $1392 in the prior quarter.

Now, the other Macs that matter — MacBook 12 and iMac — received solid updates announced at WWDC, with the interesting $4999+ iMac Pro workstation a few months around the corner.

Oh, and that tepidly received MacBook Pro? It just got speed-bumped, less than a year into this form factor’s life cycle. Took me by surprise, that’s for sure — and I’m happy Apple took that step. So, all in all, things look pretty good for Mac the next few quarters, no problem.

Why did I go with a relatively modest 2.9% unit growth rate, then?

https://twitter.com/AAPLTree/status/885365878564429824

Regarding Gartner and IDC, I believe both use “standard” (read: sell-in) sales metrics to arrive at their unit estimates. And with the entire core Mac lineup turned over in June, I can certainly see why Apple would adjust channel inventory to accommodate the new MacBook 12s, MacBook Pros, and iMacs hitting the market.

Meanwhile, Mac ASP should take care of itself just fine for the next little while, given the price ranges of all the refreshed product. I’ve gone with a $1450 ASP for FQ3, which, well…would be the highest it’s been since at least FY 2011.

Not too shabby for a PC line over 30 years old, huh?

We now move on to Apple Watch and Other Products.

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Watch and Other Products

Last 8 fiscal quarters of year-over-year unit growth/decline (FQ3 2015 — FQ4 2016): 49%, 61%, 62%, 30%, -16%, -22%, -8%, +31%

Ah, Other Products. Such a pain to figure out.

Now, I did get pretty close to actual last quarter. I wild-guessed $2.9B in category revenue, with actual coming in at $2.87B.

Watch Series 1 and 2 seem to be plugging along just fine, while AirPods are…um…still ridiculously backordered by the same 6 week ship time. (I’m gonna assume that through this supply/demand imbalance, Apple has found a way to increase AirPods production rate quarter after quarter.)

All of those other accessories? Not a clue. And HomePod is still not ready for launch. Anyway, since Watch (new/refreshed as of mid-September/late FQ4 2016) and AirPods, the revenue heavy hitters of this category, clearly drove good year-on-year growth for FQ2, I assumed this would be repeatable for FQ3, and scribbled in a rev growth rate of around 22%. We’ll see how that horseshoe toss holds up.

Next, Services.

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Services

Last 14 fiscal quarters of year-over-year unit growth: 19%, 11%, 12%, 8%, 9%, 9%, 12%, 10%, 26%, 20%, 19%, 24%, 18%, 18%

The march of Services towards Fortune 100 company territory continues, and I wouldn’t expect anything wildly different this quarter, either. So I’m guessing 17% YOY rev growth from this “not-really-seasonal” category, since the iOS installed base still seems to be growing same as ever.

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FQ4 2017, the Quarter Where Apple Usually “Turns the Corner”

Analysts have “made it easy” for us in terms of “iPhone launch quarter” expectations, setting a nice, clean 5% YOY rev growth estimate for the in-progress FQ4. And so I’ll keep it simple to save on words too, though you can always leave a comment or continue the discussion on Twitter.

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

Can new iPads, new Macs, and Other Products ALL manage 5% year-on-year revenue gains? I’d say all are capable of that, sure! And Services? Heh, for now? Easssily.

And we’re done!

Oh…except for one more thing…iPhone 7S/8/8 Superdeluxe. The rumored bordering-on-cynical update (the hypothetical 7S) straight on through the $1200+ “technology for the few+few willing to pay that much” OLED iPhone with all kinds of whiz-bang gadgetry Apple can’t produce in volume, so they’ll…err…make it up on price.

I have opinions on this iPhone stratification thing I keep hearing about over and over again, year after year. But I’ll keep them out of this discussion. There don’t appear to be any credible rumors pointing to a new iPhone NOT shipping near the end of FQ4, as has been the case since iPhone 5. So for those of us focusing on the financial side of things, it boils down to something like this:

  • Will iPhone 8 or whatever they call the next iPhone update(s) be compelling enough to drive a 12-month cycle of increased unit demand (which Apple should be expected to more-or-less meet, early-stage production ramps aside)?
  • Will Apple be able to (contract) manufacture enough of those new iPhone units, for FQ4 2017 and the absolutely critical FQ1 + FQ2 2018?
  • Bonus, related question for the so-called mental backburner, if you like: Assuming Apple does have an iPhone that the market craves in year-over-year growth potential terms, and it suffers from an AirPods-esque inability to meet demand, will iPhone demand be somewhat insulated from, or ultimately subject to, the “demand decay” inherent in any new product that inevitably creeps, day by day, week by week, towards the consumer-anticipated refresh cadence point? (One might say “demand decay” due to very poor supply would be an extremely generous explanation as to why Google’s Pixel was a unit sales disaster, if its contract manufacturer HTC’s tanking financials are anything to go by.)

Just a couple of random thoughts on demand and supply. One would think a “snazzy enough” design would help a great deal towards meeting the “5% YOY unit growth” benchmark for FQ4, at the very least. Mostly-bezel is the trend, but Apple certainly has the UI, UX and design chops to make the current smartphone paradigm into something a cut above the rest.

Apple Chipworks hasn’t failed us yet, so I don’t see why the A11 SoC or coprocessor chips would. And Touch ID? It should remain in hardware form, I think, and consumers will (educated wild guess) be fine with it moving to the side of the iPhone. Throw in iOS 11 and some new and/or improved sensing technologies plus Apple’s set-your-calendar-to-it advancements in camera tech, and we’re good to go, right?

Which could make the true question one of supply. Again, I have my own opinion on this, backed by, well, years of iPhone production ramp history. They’re a bigger, stronger, more efficient company than ever — their manufacturing innovation should be able to keep up with whatever technologies and processes comprise the next iPhone flagship(s). But I’ll let the launch — and most importantly, the upcoming guidance — speak for itself.

To wrap up on that note, it wouldn’t surprise me if Apple’s top-end revenue guide winds up below the Wall Street analyst expectation as of now. It happens regularly, it just happened for FQ3 and I believe FQ2, so that’s not the big deal. What might be a big deal, though, is if Apple’s top-end guide is less than, say, low/mid-$48B. After all, ex-iPhone revenue should be a nice tailwind for FQ4. Then again, if Tim or Luca mention a channel inventory adjustment for iPhone as being the primary culprit for a lower-than-expected number? It’ll probably be shrugged off, since…well…why adjust too far in advance of that new iPhone, right?

Also worth watching? The guidance range itself: A $2B range for FQ4 2015 and FQ4 2016, but $3B for FQ4 2014. As a (partial) reflection of production ramp and demand uncertainty for iPhone 8, it’ll be fascinating to see what Apple indirectly hints at this Tuesday in “product transition” euphemisms, since any media invites probably won’t be sent out for several weeks.

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This concludes my 17th 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 August 1 earnings day!

AAPL Tree

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AAPL Tree

Home game AAPL+tech comment/blog since ($)55, clear-eyed w/o pretense, TL;DR. Bad puns always free. Shift-⌘-4. iOS Apple News channel name remains the same.

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