AAPL Earnings and the Value of Rising Revenue

  • Posted: 30 May 2010 01:59 PM

    My latest missive at Eventide.

    Snippet: The release of the Apple iPad even at aggressive price points maintains relatively high gross margins while the pricing on the product is a competitive defense against potential competitor market intrusion. Though the Apple iPad may not deliver the average 40%+ gross margins Apple has recently experienced at the start, there are other factors positively impacting the iPad’s revenue profitability.

    In other words, there’s more to Apple’s earnings growth than high margins. The company is effectively holding the line relative to revenue in key expense areas.

         
  • Posted: 31 May 2010 01:55 PM #1

    What I’m suggesting in the blog post is even if the iPad has a lower than average gross margin, its contribution to operating income may be boosted by a reduction in certain expense segments relative to revenue from the boost of $2 billion or more in revenue from the iPad in the June quarter.

         
  • Posted: 01 June 2010 01:42 AM #2

    I’ll try this one more time…

    The huge boost to revenue from the iPad may push down operating expenses relative to revenue. The iPad leverages Apple’s existing assets from the retail stores to the iTunes franchise. This means it may cost less as a whole for Apple to support all of its products relative to revenue and each dollar of revenue will deliver more to the company’s bottom line.

         
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    Posted: 01 June 2010 02:08 AM #3

    That’s very true.  As long as Apple has adequate capacity built-in or ready to go to support any new products, that particular aspect of costs is significantly minimized.

    I actually don’t think analysts are looking all that closely at iPad’s possible downward effect on Apple’s gross margin this quarter.  Apple iPad’s entry-level price undercut the conventional wisdom by hundreds, and Apple has made no secret in the past that it won’t leave out price umbrellas for its competition.  Without subsidies, and given the new technologies and form factor, estimating the gross margins for iPad’s closest cousin products (iPhone/iPod touch), I think the analysts do understand, or will quickly understand, that iPad gross margin may not necessarily be in the 40% range.

    Oppenheimer will be sure to make clear, if gross margin is significantly under expectations, what contributed to the decline.  Just me, but I’m focusing on the incremental impact that iPad will have.  I see iPad as a bolted-on rocket to Apple’s spaceship—a fairly independent growth engine that won’t interfere much at all with Mac, iPhone or iPod.  As Apple makes more iPads it will repeat its legendary driving down of the cost curve, but even at launch I think iPad will contribute at least $400 million in net income this quarter.

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  • Posted: 01 June 2010 02:32 AM #4

    Mav - 01 June 2010 05:08 AM

    I see iPad as a bolted-on rocket to Apple’s spaceship—a fairly independent growth engine that won’t interfere much at all with Mac, iPhone or iPod.  As Apple makes more iPads it will repeat its legendary driving down of the cost curve, but even at launch I think iPad will contribute at least $400 million in net income this quarter.

    I’m intrigued by the reports of the iPad model sales mix and I expect margins to rise as larger drives and 3G capability are added. I’m interested in the sales of accessories, the momentum lift it might provide to iTunes revenue growth and the impact on overall operating costs relative to revenue.

         
  • Posted: 01 June 2010 03:28 AM #5

    Mav - 01 June 2010 05:08 AM

      As Apple makes more iPads it will repeat its legendary driving down of the cost curve, but even at launch I think iPad will contribute at least $400 million in net income this quarter.

    Yeah. I just ran some numbers. It may be between $500 and $600 million pre-tax from hardware device sales alone (at 3 million units). This device may deliver between $.38 and $.48 per share.

         
  • Posted: 01 June 2010 12:22 PM #6

    The above estimates in this thread seem to indicate a consensus building around an EPS of $0.15 per million iPad units vs. the overly-optimistic $0.25 EPS estimate of Huberty and others.

    Since we are now seeing current production estimates (and therefore eventual sales) of at least 5 million iPads/quarter, FYQ4 should see at least a $0.75 iPad EPS contribution, with FY11Q1 having perhaps a $1.00 EPS iPad contribution.

    And that is only early-stage product cycle—-wait till extensive global viral marketing really gets established!

         
  • Posted: 01 June 2010 02:05 PM #7

    Hannibal - 01 June 2010 03:22 PM

    The above estimates in this thread seem to indicate a consensus building around an EPS of $0.15 per million iPad units vs. the overly-optimistic $0.25 EPS estimate of Huberty and others.

    Since we are now seeing current production estimates (and therefore eventual sales) of at least 5 million iPads/quarter, FYQ4 should see at least a $0.75 iPad EPS contribution, with FY11Q1 having perhaps a $1.00 EPS iPad contribution.

    And that is only early-stage product cycle—-wait till extensive global viral marketing really gets established!

    I expect contributions to operating income from the iPad to grow as sales momentum increases. Please remember these estimates do not include the value of accessories sold via of Apple, revenue from Apple Care and MobileMe, iTunes revenue nor iAd service revenue to Apple.

         
  • Posted: 01 June 2010 03:51 PM #8

    When Fred Anderson was still CFO at the beginning of the iPod revenue ramp, a common refrain from him was Apple’s tremendous operating leverage.  Same size company, while revenues proceeded to double and triple.

    The iPad is the ultimate leveraged product, and probably had incredibly low device specific R&D expenses, and parts wise the iPad is leveraged to an extent that is impressive even for Apple.  A4 cpu is shared with next iPhone, iPod touch, motherboard chipset roughly shared with iPhone, iPod touch, 3G baseband shared with iPhone, OS shared with iPhone, iPod touch, and Mac OS X, touch screen supply chain shared with iPhone, iPod touch, Apple Stores, Manufacturing ramp team (they probably just live in Taiwan full time now!), heck even the launch schedule simply filled a Spring gap in Apple’s events calendar that used to be used for Software.

    Apple makes so few products, SKUs, and that is probably the key behind their legendary operating leverage.

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    Posted: 01 June 2010 04:52 PM #9

    Hannibal - 01 June 2010 03:22 PM

    The above estimates in this thread seem to indicate a consensus building around an EPS of $0.15 per million iPad units vs. the overly-optimistic $0.25 EPS estimate of Huberty and others.

    Look, the average is NOT THE BASE price!

    Again, I suspect the average selling price is closer to $700. Add in the almost universal purchase of the iLife and iWork for another $20, add in covers for 1/3rd of them at $40 and 1/4 with optional plugs for USB and VIDEO OUT. Toss in a few Applecare’s and the average selling price is now closer to $750 per unit.

    Not to mention the 30% take on the new owner buying 25 apps or more, and this begins to add up rapidly.

    That is what is being given short shrift, the nickle diming add-on’s that almost add in another $100 bucks per unit sold.

    AND THE BIGGIE….

    ... once you own ONE, everyone in your family suddenly needs one for themselves!

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  • Posted: 02 June 2010 08:29 AM #10

    Regarding rising incremental EPS contribution….

    1) GM will improve going forward as launch expenses subside, D/R builds, and warranty provision improves.
    2) GM will improve from volume increases—leverage of fixed production costs being spread across more units (incremental revenue).
    3) GM improves from supply chain efficiencies and learning, better material components etc. Stuff Tim Cook is a wizard at.
    4) Operating Margin increases (hence net margin and net income) as more iPad revenue dollars drop to the bottom line due to fixed R&D and SG&A expenses since those don’t increase with iPad volume.

    GM Guidance called for a 570bps decline sequentially, we all know that GM guidance is Apple’s favorite way to sandbag, but it is a significant difference. Thus, GM will likely come in slightly under 40%. Ignoring currency headwinds, GM should begin to take off again in subsequent quarters

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  • Posted: 02 June 2010 01:25 PM #11

    turleymuller - 02 June 2010 11:29 AM

    GM Guidance called for a 570bps decline sequentially, we all know that GM guidance is Apple’s favorite way to sandbag, but it is a significant difference. Thus, GM will likely come in slightly under 40%. Ignoring currency headwinds, GM should begin to take off again in subsequent quarters

    I’m not sure quite how to factor GM for the quarter. I expect a drop from the March performance but expect at least a partial mitigation from the relative drop in GS&A expenses.

         
  • Posted: 02 June 2010 01:58 PM #12

    From Tan: “Look, the average is NOT THE BASE price! Again, I suspect the average selling price is closer to $700. Add in the almost universal purchase of the iLife and iWork for another $20, add in covers for 1/3rd of them at $40 and 1/4 with optional plugs for USB and VIDEO OUT. Toss in a few Applecare?s and the average selling price is now closer to $750 per unit.”

    To get to the $0.15 EPS, I used $700 for iPad + associated purchases and applied the recent quarter’s average GM of 42%, even though many commentators—-including Turley Muller—-estimate the iPad GM this year to be considerably lower. I then applied the past quarter’s SG&A and tax rate to get EPS. This is a reasonable approach and using it one gets $0.15 EPS per million iPads. It’s a nice number given the 10-15 million iPads that will be sold this calendar year.

    [ Edited: 02 June 2010 02:35 PM by Hannibal ]      
  • Posted: 02 June 2010 02:17 PM #13

    Hannibal - 02 June 2010 04:58 PM

    From Tan: “Look, the average is NOT THE BASE price! Again, I suspect the average selling price is closer to $700. Add in the almost universal purchase of the iLife and iWork for another $20, add in covers for 1/3rd of them at $40 and 1/4 with optional plugs for USB and VIDEO OUT. Toss in a few Applecare?s and the average selling price is now closer to $750 per unit.”

    To get to the $0.15 EPS, I used $700 for iPad + associated purchases and applied the recent quarter’s average GM of 42%, even though many commentators—-including Turley Muller—-estimate the GM this year to be considerably lower. I then applied the past quarter’s SG&A and tax rate to get EPS. This is a reasonable approach and using it one gets $0.15 EPS per million iPads. It’s a nice number given the 10-15 million iPads that will be sold this calendar year.

    The March quarter’s tax rate was an anomaly. You’ll need to move the tax rate just a bit higher. Still, I think you’re pretty close to the mark before adding ancillary and constituent revenue.

         
  • Posted: 02 June 2010 03:33 PM #14

    DawnTreader - 02 June 2010 04:25 PM
    turleymuller - 02 June 2010 11:29 AM

    GM Guidance called for a 570bps decline sequentially, we all know that GM guidance is Apple’s favorite way to sandbag, but it is a significant difference. Thus, GM will likely come in slightly under 40%. Ignoring currency headwinds, GM should begin to take off again in subsequent quarters

    I’m not sure quite how to factor GM for the quarter. I expect a drop from the March performance but expect at least a partial mitigation from the relative drop in GS&A expenses.

    DT- Do you expect OpEx to decline this qtr? I assume you are referring to a drop as a percentage of revenue due to increased revenue volume. In absolute dollar terms, SG&A will be higher by 180M Q/Q according to Apple’s guidance. The one area that guidance has been reliable has been OpEx. ( It’s really no excuse for it not to be considering fixed nature of those costs).

    I am about to do some modeling and scenario analysis. I will pass along any findings.  grin

    TM

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  • Posted: 02 June 2010 05:42 PM #15

    turleymuller - 02 June 2010 06:33 PM

    DT- Do you expect OpEx to decline this qtr? I assume you are referring to a drop as a percentage of revenue due to increased revenue volume. In absolute dollar terms, SG&A will be higher by 180M Q/Q according to Apple’s guidance. The one area that guidance has been reliable has been OpEx. ( It’s really no excuse for it not to be considering fixed nature of those costs).

    I don’t expect OpEx to drop except in relation to revenue percent consumed. Obviously OpEx is influenced heavily by fixed cost components. We might all be a bit startled by how much of each iPad revenue dollar flows to the operating income line. This will be rather exciting to see, really.

    I’m going over numbers a bit more thoroughly this time around simply because of the staggering level of profit potential. I expect FQ3 to be excellent. I also expect FQ4 to be almost unreal.