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Apple
Q4 '01 - Take the Good with the Bad

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By Plato90s
October 18, 2001

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Apple has now announced a Q4 profit exceeding expectations, while turning in below-expectation revenues. The results are mixed, with great news such as 3-year high in gross margins combined with bad news like shrinking sale volume and elevated operating costs.

On the iMac front, there's little change. Volume has held steady at ~300k units and ~$290M for all of FY 2001. The various changes introduced such as the faster G3's, CD-RW, psychedelic patterns, etc... have almost no impact. The iMac can now be considered a fixture of the computing world, occupying its own niche. Without a dramatic re-design on the same scale as the new iBook, iMac sales are probably going nowhere.

On the iBook front, Apple has turned in results which has to be seen to be believed, shipping a record-breaking 251k iBooks in a single quarter. Just imagine what Apple would do next quarter!!

The answer: much lower iBook sales during Christmas season.

3 months ago, Fred Andersen was asked by analysts when they planned to book revenues for the massive iBook sales to schools, such as the 23k iBooks leased to Henrico School District. Now we know. Next quarter, Apple expects iBook sales to return to more "normal" levels, which is why revenue projections are down, even during Christmas season.

The news on the PowerBook has to be viewed in conjunction with the iBook to understand the substantial shortfall the PowerBook sales. At the same time iBook broke all time highs, the PowerBook managed to break all time lows, shipping only 56k units. There is no sign of the TiBook being phased out, and PowerBook sales have always held up to a certain level because professionals still need their tools.

Is the iBook undermining PowerBook sales? Unlikely, because both iBook and PowerBook were on sale together for 2 months in Q3, and PowerBook sales held up well.

A more likely explanation is that the economic downturn is hitting PowerBook sales very hard. In addition to the general recession, we know the advertising industry has been heavily hit. Ad-dependent companies like Yahoo! and AOL have already warned. Adobe has warned. This is the trickle down effect hitting Apple, and the next quarter is not likely to be much better. The fortunes of the advertising industry will help signal the recovery of PowerBook sales.

PowerMac sales, like iMac sales, are pretty much static at 248k units. Compare that to 262k for Q2, 225k for Q3, and it really says that PowerMac sales, like iMac sales, is stagnant. Given how badly PowerBook sales have tanked, holding the line on the PowerMac means that Apple's efforts to promote its video-editing solutions is paying dividends. Faster CPU's and new optical drives didn't do much for the iMac other than holding the line, and it's the same for the PowerMac.

To break out of this current level, Apple needs a stronger economy or a new killer application. iDVD and OS X aren't it, because neither have helped to spark a run-up in volume in the face of a weak economy.

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Compared to last quarter, Apple has actually performed a bit worse on a YoY basis. In Q3, Apple's unit/revenues were down 19% compared to 2000. In Q4, Apple is down 22%, a bigger YoY loss.

Despite the fact that Apple's gross margins is at a 3 year high of 30%, its operating expenses for 2001 are also at a 3 year high, averaging ~27% of sales compared to 21% in 2000.

The decreasing interest rates is reducing Apple's ability to generate interest income, dropping from $65M in Q1 to $40M in Q4. Next quarter, it'll be $35M.

Now, we have Apple rather coyly dangling the idea of a brand new non-Mac device to wow the audience. At the same time, revenue projections are extremely conservative, at $1.4B for Christmas. Given the continuous stream of revenue over-estimation coming from Apple over the last 12 months, we have to assume that even Apple doesn't expect its special surprise to help Q4's results.

The headline on CBS MarketWatch pretty much sums up the spin that financial media will put on Apple's results.

"Apple profit falls 61 percent"

That's the byline, the same one that Apple get slapped with 3 months ago. There's no reason to expect the stock market to react any differently than it did the last time.

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The question has been posed in the past on whether Apple's success in 1999 and 2000 is due to its own innovation or just the general economy. The answer appears to be that the economy had more to do with Apple's success than its design prowess.

In 1999/2000, Apple came out with the iMac, the iBook, the PowerMac G4, and iMovie.

In 2001, Apple came out with the new iBook, the Titanium PowerBook, and iTunes/iDVD.

I think it's fair to say that Apple's 2001 designs are at least as good as previous year's, but the results are wildly diverging. ~$8B in 2000, ~$5.5B in 2001. $786M in profits vs. $25M in losses.

In the face of this evidence, it's clear that Apple's strategy is simply to hold on as much of its market share as possible while it waits for the economy to recover. While dominant companies can blaze their own way, even in the face of a downturn, Apple doesn't have that luxury.

On the financial side, the most that investors can do is to hold on for the next earning announcement, when the albatross of "lower earning than last year" will no longer be hovering over Apple. The light at the end of the tunnel is there, but it won't be visible for a while.

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