Apple (AAPL – Free Apple Stock Report) shares are getting bid up, recovering back into the $160s, on the heels of the tech behemoth's earnings report for the first quarter of fiscal 2019 (year ends September 28th). Results for the period were roughly in line with the early January preannouncement, when the company warned that sales would fall short of initial expectations because of challenging operating conditions in China and softer demand for new, high-priced iPhones. But guidance for the March interim, calling for revenues of $57 billion at the midpoint, was better than what many money managers were anticipating, suggesting that Apple may be moving past the worst of its rough patch.
Looking more closely at the fiscal first quarter, share net came in at $4.18, a penny ahead of Wall Street's revised consensus view, but well below the $4.70 estimate we published at the time of our full-page December review. Revenues declined 5% year over year, to $84.3 billion. Weakness in China, as we have suggested, was the main reason for the disappointing showing. In fact, revenue from that emerging market, most notably from iPhone sales, came in around $5 billion lower than it had been a year earlier. (Total sales in the Greater China region were down roughly 25% on a year-over-year basis.) And China may remain a trouble spot in the short run, particularly if the high-stakes trade dispute between the U.S. and China persists.
iPhone revenue, meanwhile, down 15% during the December quarter, is also slowing a bit as customers hold on to their devices longer before opting to replace them. This has many bears suggesting that the global smartphone market has reached a saturation point. Apple maintains a massive installed base of smartphones and other products, however, and a healthy upgrade cycle should resume once the company fine-tunes its pricing strategy and rolls out more budget-friendly products. One criticism of the latest smartphones, namely the iPhone X and XS series, is that many retail at hefty price points in excess of $1,000. And prices can be even higher in emerging geographies because of the strong U.S. dollar.
In the meantime, the most exciting part of Apple's business these days is its services segment, where revenue jumped 19% in the quarter, to a record $10.9 billion. This division, including services from the Apple Pay digital wallet to iCloud storage, should remain a major growth catalyst through the balance of fiscal 2019 and beyond. And this ought to be good news for the bottom line, since the services gross margin (of over 60%) is much higher than the margins typically recorded from iPhone and other hardware sales.
All in all, it was not a great quarter from Apple, but the longer-term fundamentals remain solid, in our view. Indeed, the situation in China should gradually improve, the company should be able to leverage its massive base of installed products, and margins should widen as the services unit is further emphasized. These factors make us think that healthy earnings growth will resume before too long, likely as we head into fiscal 2020. (For now, we are reducing our fiscal 2019 share-net call from $13.65 to $11.40.) Too, the Dow component still looks very attractive from a valuation standpoint, particularly when factoring in Apple's giant cash hoard. This implies that patient investors would do well to accumulate the stock at these levels.
About the Company: Apple Inc. is one of the world’s largest makers of PCs and peripheral and consumer products, such as the iPod digital music player, the iPad tablet, the iPhone smartphone, and the Apple Watch, for sale primarily to the business, creative, education, government, and consumer markets. It also sells operating systems, utilities, languages, developer tools, and database software.
- Justin Hellman
