Highlights From Apple's Q4 Conference Call

Apple made their forecast for lowered fourth quarter estimates, but the stock got torunced in after hours trading down about 2 dollars. Steve Jobs even showed up for the conference call, a task he usually leaves to Fred Anderson, Appleis CFO. Together, they admitted the blame for Appleis missed earnings falls squarely in their laps.

Just the Facts

Apple posted a net profit of $170 million, or $0.47 per diluted share. However, with a $62 million in after-tax gains from the sale of 7.1 million shares of ARM Holdings plc (ARMHY) taken out, Apple made $0.30 per share and net profit of $108 million. These results compare to a net profit of $111 million, or $.31 per diluted share, in the year ago quarter. Revenues for the quarter were $1.87 billion, up 40 percent from a year ago (only 20%, excluding the capital gains) Gross margins were 25%, down from 28.7% in the year ago quarter. International sales accounted for 44% of the quarter’s revenues.

First Callis consensus was for Apple to earn $0.45 per share and $2.05 billion in revenue, until September 28 when Mr. Anderson warned shareholders to expect earnings to be closer to $0.31 per share.

Apple shipped 1,122,000 units during the quarter including over 570,000 iMac systems.

For the year, the Company generated revenues of $7.98 billion and net earnings of $786 million, or $2.18 per diluted share. These results compare to fiscal 1999 revenues of $6.1 billion and net earnings of $601 million, or $1.81 per diluted share.

Steve Jobs, Apple’s CEO said in a press release, “Our sell-through for September was way below plan, leaving us with an overhang of channel inventory. Rather than reducing it gradually over the next several quarters, we have decided to reduce it to a normal level by the end of this quarter. This will result in a second disappointing financial quarter, even though our sell-through sales should be moderately strong. Our plan is to be back on track for the January quarter, and we remain very excited about our products and programs for 2001.”

“In light of September’s disappointing sales and higher-than-planned ending channel inventories, we are resetting our revenue estimates for the December quarter to about $1.6 billion and are targeting a slight profit,” said Fred Anderson, Apple’s CFO. “We are also resetting our revenue target for fiscal year 2001 to the $7.5 to $8 billion range and our target for EPS to the $1.10 to $1.25 range.”

Apple is targeting gross margins in the 25-26% range with operating expenses running at about 20% revenue for 2001. The tax rate should be about 30%.

"The December quarter will be about returning the channel inventory situation to normal levels. That will cost us in terms of short term financial performance, but thatis what we need to do to clear to the decks as we enter the new calendar year," said Mr. Anderson.

The company plans to achieve unit and revenue growth of about 10% for the balance of 2001 and Mr. Anderson believes Apple will return, "to the aggregate profit level of the last 9 months of fiscal 2000."

Apple is tightening the belt on company spending and has a hiring freeze in place with the exception of a couple of new strategic initiatives. Apple has 11728 employees.

"Despite our disappointing quarter our balance sheet remain incredibly strong," said Mr. Anderson. "We increased our cash position by about $200 million in the quarter, finishing with over 4 billion in cash. At quarter end, we had an additional $800 million in investments, which means with our cash, plus investment, less debt was over $12.50 per diluted share."

Highlights From the Conference Call

Yesterdayis conference call seemed much too short. Clearly, the analysts were fishing for a strategic statement from Steve on the issues that perplex Appleis shareholders. Mr. Jobs was loathe to reveal more than necessary to placate their curiosity, but a few gems slipped out anyway.

When one analyst asked if Appleis shortfall could be a broader PC industry problem, it was refreshing to hear Fred Anderson step up to the plate, "...we have a management team here who feels accountable for missing our expectations and the last thing we want to do is point to the industry." He added, "Weire committed to working day and night to fix the things we control." Hinting that some issues like a slowing economy or the poor exchange rate on the weak euro may continue to drag on Mac sales.

Mr. Anderson said low Cube sales and accompanying low display sales accounted for $90 million of the $180 million revenue shortfall. Education sales were the second biggest drag on Appleis earnings, missing their target by about $60 million, largely due to weaker than expected iMac sales and to a lesser extent, iBooks sales.

The third problem according to Fred was a shift in Power Mac G4 sales towards the low-end processor configurations. Apple was close to expectations for total Power Mac G4 sales, but the high-end dual processor G4 sales fell short, dragging revenues lower by about $30 million and sinking Appleis profit margin.

Sale promotions and "the accrual of anticipated cancellation charges for downward revisions in forecasted component purchases for September and the December quarter", according to Mr. Anderson also helped push margins down to 25% from the forecast of 27.2%.

Operating expenses came in at $380 million, slightly lower than the anticipated $390 million.

Looking ahead: One more weak Quarter

Apple essential ended the September quarter with about 8 weeks worth of inventory still in the sales channel, thus it will take several weeks to clear some of this inventory before Apple can even start to rack up new sales and new revenues for the December quarter. Mr. Anderson is targeting the more normal level of 5 weeks of inventory in the channel by the end of the December quarter.

As part of managementis plan to reduce inventory in the channel to normal levels Apple is dramatically lowering revenue forecast for the Christmas quarter to $1.6 billion, while gross margins will continue south to about 22%, due to an anticipated slowdown in sales of high-end pro products.

Operating expenses will rise about $10 million as Apple increases advertising for the holiday season.

"As result", Mr. Anderson warned, "We are targeting only a slight profit in the quarter"

As for the problems in education sales, Mr. Anderson said he and other members of the management team performed an in-depth review of the details of last quarter — what went wrong and what could have been done better. Apple is in the process of adding new leadership to education sales who will work hard to repair the problems. "The entire executive management team, including Steve, is now involved in supporting our getting back on track in education," he said.

Tim Cook, Appleis senior VP of operations, along with his normal duties, is temporarily acting as VP of worldwide sales in place of Mitch Mandich who recently retired.

Oddly, when asked about the usual proud reporting of the percentage of new users adopting the Mac platform through iMac sales, the Apple team didnit have those numbers available. Steve Jobs guessed it was in the high twenty percentile.

Mr. Jobs and Mr. Anderson both droned on about how great iMovie is and how it symbolizes all that Apple stands for. It puts industrial strength video editing tools in the hands of ordinary people at prices unheard of and with the user friendliness Apple is famous for. Mr. Anderson called the iMovie a grand slam driving sales of iMacs. He also said that iMovie, along with the AirPort system, is driving some formerly all Wintel school systems to actually adopt the Mac platform.

But the real news from Mr. Jobs is that Apple has two more "iMovie-like software products" coming out soon. Steve refused to give any clues as to what the new applications might be. This confirms what Steve Jobs said in July at MacWorld about Apple having more killer apps in the pipe line.

Steve Jobs also said Apple has a new product lineup coming in 2001, but wouldnit go into detail, except to confidently note that Apple "will have a very competitive product lineup." Steve Jobs commented that Appleis future product lineup is the best heid ever seen in his career.

When asked how Apple is dealing with the perceived MHz gap. Mr. Jobs was quick to point out G4 chips are as fast as Pentiums, but due to the publicis habit of considering MHz ratings an accurate measure of computer speed, "we are working closely with Motorola and expect, in the next 6 month, to be able to ship some higher MHz versions of Power Mac G4s. Itis not a matter of Mooreis law, itis just designing products to give us higher MHz," Mr. Jobs said.

Steve Jobs noted that Apple has an active Mac installed base of about 22 million macs. Since Apple has shipped 13 million Macs in the last 4 fiscal years, 9 million users have yet to upgrade. And thatis a conservative estimate, since the average upgrade cycle for PCs is closer to 2 years, so some portion of those 13 million later model Macs are ready for an upgrade too.

"We do not see a saturation problem," said Mr. Jobs. "We just have to keep making great products that our customers love. If we havenit hit it right on the mark with the G4 Cube we will just keep working on it till we do, icause we are pretty dog gone persistent."

When asked if Apple is planning an Internet device of some type, Steve Jobs naturally refused to comment.

As for OS X things are looking great according to the Steve. Apple has sold more than 60,000 copies of the public beta so far and another 500 sell each day at the Apple Store. Mr. Jobs estimates that many times that number of Mac users have loaded the uber-OS on their Macs. Apple has received 45,000 feedback submissions from OS X beta users and the response is "overwhelming positive."

As for third-party software developers, Steve notes all the major software makers are onboard and working hard to meet their deadlines for carbonizing their applications. He noted that Apple has 150 workers on its developer relations team helping third parties port to the new Mac OS. Meanwhile, a large number of smaller developers are jumping on the OS X bandwagon, Steve said one website following Mac OS Xis development links to 180 different application for Mac OS X, but no one asked Steve for the URL.

Steve Jobs believes from his contacts with Microsoft that MS Office will be carbonized by summer of 2001 and that only a few "stragglers" will still be racing to port to OS X by late fall of next year with the bulk of carbonized apps coming available in the spring and summer.

Further indepth analysis will follow in Mondayis Apple Trader Column

The conference call is available for playback via QuickTime at Appleis website.

For other stories regarding Appleis stock activity, visit our newly updated Apple Stock Watch Special Report.