Can Apple Inc.'s iPad Business Overcome Market Headwinds?

Global tablet sales worldwide are looking weak. Will Apple buck the trend when it reports earnings on Tuesday?

Jul 19, 2014 at 10:00AM

There is a lot of uncertainty going into Apple's (NASDAQ:AAPL) third fiscal quarter earnings release on Tuesday about how its iPad business will perform. While the company is still the clear leader in global tablet sales, the overall tablet market's weak second calendar quarter has some analysts worried that Apple's iPad business may have declined on a year-over-year basis. On the other hand, a number of analysts expect Apple to buck the trend of the broader tablet segment.

Ipad Air Your Verse Tv Ad

iPad Air, pictured in Apple's Your Verse TV ad. Image source: Apple.

The expectations
Thanks to Fortune's Philip Elmer-DeWitt, who assembles analyst estimates going into every earnings report, we can get an idea of how many iPad units analysts are expecting Apple to sell in Q3. The consensus estimate? About 14.4 million units. That figure is down slightly from the year-ago iPad sales of 14.6 million units. Notably, however, the consensus estimate is based on a wide range of guesses, from as little as 12.3 million to as high as 16 million.

A decline for Apple's iPad business wouldn't be a new storyline for the company. In fact, such a nominal decline would be a huge sequential improvement in year-over-year growth rates. In Apple's second quarter, iPad unit sales declined by 16%, year over year.

Ipad Air Ipad Mini

iPad Air and iPad Mini. Image source: Apple.

Looking beyond Apple, weakness in tablet sales is a problem other manufactuers share. In the first calendar quarter (or Apple's second fiscal quarter), NPD DisplaySearch estimates that global tablet unit sales declined on a year-over-year basis for the first time. Worldwide tablet shipments in Q1 were 56 million units, down from 59 million, the company says.

What's causing the weakness in global tablet sales? NPD says that the cause is mostly due to declining demand for small tablets, or those measuring between 7 and 7.9 inches. The decline in demand for smaller tablets comes as customers in emerging markets turn to phablets, or smartphones with displays measured at 5.5 inches or larger, which are cannibalizing smaller tablet sales.

But Apple's dominance in tablets -- especially in the subcategory of larger tablets measuring around 9 to 10 inches -- could help Apple buck this broader trend. While Apple doesn't break down its iPad sales by size, it has been estimated that iPad Mini sales account for just one quarter of Apple's total tablet sales.

Ipad Air Your Verse

iPad Air, pictured in Apple's Your Verse TV ad. Image source: Apple.

That said, last quarter's weakness in Apple's iPad sales suggests the company may not be exempt from the broader tablet market challenges. And Samsung's pre-earnings guidance filed on July 8, which said its tablet sales declined, suggests the broad tablet market weakness is continuing into the second calendar quarter.

The importance of Apple's iPad business
Apple's tablet segment is incredibly important to Apple's business and the stock. Why?

Ipad Air

iPad Air. Image source: Apple.

First of all, the iPad business is Apple's second largest. In the company's most recent quarter, iPad sales accounted for about 17% of revenue. While iPad sales trail distantly behind the 57% of revenue that iPhones account for, Apple's tablet business is well ahead of Apple's Mac business, at 12% of revenue. The iPad segment's performance, therefore, undoubtedly has an influence on Apple's business results.

Second, Apple's iPad business could still have considerable growth ahead, providing potential upside for both the business and the stock. Consider, for instance, that the iPad has sold twice as many units as the iPhone in the same time period since its launch. And, broadly, market predictions like NPD DisplaySearch still expect the category to grow in the coming years. NPD DisplaySearch expects annual shipments to grow to more than 400 million by 2018, up from an estimated 285 million this year.

It's too difficult to tell whether Apple will be able to go against the grain of weakening tablet sales. Investors should look at the figures Apple reports in its third quarter when it releases results on Tuesday, as well as listen to comments from management in the conference call, to get a better idea of how Apple's iPad business is faring.

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Daniel Sparks owns shares of Apple. The Motley Fool recommends and owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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