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April 20th, 2000

[10:30 AM] Detailed Analysis Of Apple's 2nd Quarter Earnings
by Wes George

A brief analysis of Apple's fiscal 2nd quarter earnings announcement reveals a company firing on all cylinders and a management team executing at the highest level of perfection in perhaps all of Apple's long history.

One analyst still in shock over Apple's amazing recovery from being left for dead only a few years ago to a market leader today exclaimed on CNBC that Apple is now a "bellwether" for the new economy.

Here's the highlights from yesterday's conference call that surely delighted both analysts and shareholders alike.

For the first half of fiscal 2000 Apple generated unit growth of 37% and revenue growth of 32%.

In the second quarter Apple shipped 1,043,000 units, representing a 26% increase over the prior year. Revenue increased 27% to $1.945 billion and earnings growth excluding non-recurring items was 72%.

45% of the iMac buyers were new to the Mac platform.

The iMac continued to attract new customers to the platform. The most recent market surveys show that 28% of iMac buyers in the 2nd quarter were buying their first computer, while 17% were Wintel switchers.

Apple's CFO Fred Anderson pointed out: "We had a very strong quarter as far as professional products. Apple shipped 100,000 PowerBooks and 350,000 PowerMac G4 systems."

International sales accounted for 51% of Apple's revenues, achieving strong year over year unit growth in each of Apple's major markets. Europe was especially strong with 36% growth. Units sold in the Americas grew by 28%, while Japan and Asia Pacific grew 12% and 13% respectively.

Average revenue per system increase to $1820 from $1673 driven by the strong demand for professional products and thus a higher mix ratio of G4s to iMacs.

Gross margins increased to 28.2% due to lower freight costs, richer product mix and lower DRAM costs. DRAM pricing has come down significantly from last quarter and is now about where it was last summer. A repeat of last year's component shortage and price hike problems are not expected this year.

Total operating expenses declined sequentially by $30 million to $379 million reflecting a normal seasonal downshift in advertising and promotion spending. Employee head count increased to 10,624 at quarter end from 9,536 in the December quarter, primarily due to an increase in temporary manufacturing workers. (Note: Apple is currently hiring like gang busters in all their sales departments.)

Apple ended the quarter with less than one day of inventory and 44 days of sales outstanding and receivable. This is a double edge sword. One day of inventory is good, but 44 days of outstanding sales is too long, indicating that Apple is close to edge when it comes to meeting demand in a timely fashion. Apple is perhaps being too conservative in ramping up those factories!

The tax rate moved up slightly. Due to higher than planned sales of shares of Arm Holdings plc The average tax rate for fiscal 2000 is expected to be close to 26%. Apple recognized an after tax gain of $73 million dollars on the sale of 1.5 million shares of ARMHY, this contributed $0.40 to diluted EPS. As of the end of the quarter Apple still owns 9.4 million shares of Arm. Note that Apple did not sell any shares of Akamai, the Internet broadband acceleration company, perhaps indicating where Apple's future business direction is heading.

Apple finished the quarter with cash on hand at $3.6 billion, down just slightly from the previous quarter.

During the quarter Apple made acquisitions and strategic investments totaling $224 million. $200 million of which was the Earthlink investment.

Capital expenditures during the quarter were $27 million.

Apple choose not to repurchase any AAPL shares during the quarter. According Fred Anderson, "Our philosophy remains to weight stock buy back decisions against other strategic investment opportunities. Of the $500 million originally authorized for stock repurchase $384 million remain." This means that Apple's stock has been rising with no prodding along by management.

The Apple Earthlink relationship is tracking towards the higher end of $25 to $35 million incremental calendar year gross profit range.

The Apple board has approved a 2 for 1 stock split for shareholders of record on May 19th, subject to shareholders approving an increase in authorized shares at the annual meeting on April 20th.

And finally Fred Anderson mused about the company's prospects for the rest of the year, "Apple continues to target strong year over year unit and revenue growth. Similar to last year's pattern we expect our fiscal third quarter revenue to be about even with this quarters' level but we expect strong year over year revenue growth, we also expect gross margins and operating expenses to be up slightly compared to the second fiscal quarter. The tax rate should remain close to 26% for the rest of the year."

The Mac Observer Spin: Apple has retained the minds and hearts of the professional user community by demonstrating the company's continued commitment to the high end with the powerful G4 and PowerBook lines. This quarter's numbers should sooth the fear of many long time Macheads who felt the company had gone to far towards the consumer market while leaving the pro users in a lurch. Meanwhile the iMac continues to move new consumers to the Mac platform.

A shareholder couldn't ask for more, but some questions remain. The most puzzling is why unit sales growth slowed in Japan after soaring over 90% last year? The Japanese are famous for their fad driven buying habits, one might have hoped the iMac "fad" would have persisted longer. There may be some seasonal distortion to account for the weakness.

We hope Apple's management isn't missing any opportunity to leverage the timeliness of their product line-up in their quest to control operating expenses by not advertising or ramping up production as heavily as they might.

The company is sitting on $3.6 billion in cash with a revenue growth rate of 32%. Apple's management need not be as cautious as they were a year ago about capital spending to secure a future of market dominance.


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