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Drilling Down into Apple's 3Q Print

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Apple (AAPL - Free Report) reported relatively encouraging numbers in the third quarter, despite all the pressures that the whole world continues to see as a backlash from COVID, including the lockdowns in China, supply chain issues, the effect of inflation on consumers, the Ukraine war that had Russia shut down, as well as the increased economic uncertainty overall.

Of course, things could have been better. It would, for instance, have been nice to have China open all the time. But the fact that Apple achieved what it did despite all these headwinds just goes to show the strength of its innovation engine and the brand loyalty it continues to enjoy.

Its strategy of continuing to grow the installed base even as it continues to expand its services is solid, and is paying off big time for the company. As a result, Apple was able to grow its Services revenue 12.1% from a year ago (although it was down 1.1% sequentially). Services sales missed analyst estimates by less than a percentage point in the last quarter.

Product sales have posted double-digit sequential declines in the last two quarters. But because of seasonality that impacts most of its product lines, year-on-year comparisons are more appropriate, at least in case of product sales.

iPhones still top the list of Apple products, up nearly 3% from last June. More importantly, they topped analyst estimates by 4.4% (close to the +4.5% average surprise in the last five quarters). Management has said that there were a record number of switchers in the last quarter, which grew double-digits.

Macs were down 10% from a year ago, missing analyst estimates by 15% (average surprise was +3.4% in the last five quarters).

iPads dropped about 2% but beat analyst estimates by 2.5% (average surprise in the last five quarters was +4.4%).

Wearables etc. declined around 8%.

Overall, product sales declined by less than a percentage point on a year-on-year basis, but were 2.2% better than what analysts were expecting. The average surprise in the last five quarters was around +3.8%.

The biggest disappointment was in China and Japan, which together make up about 24% of sales. China alone contributed over 17%, declining just 1% despite the shutdowns. It was however 3.9% short of analyst estimates.

Japan was down nearly 16%, missing analyst estimates by 12.6%.

Europe grew 1.8% despite Russia but analysts expected more. Sales were about a percentage point short of estimates.

Strength in the last quarter was driven by the Americas and the Rest of Asia regions, both of which grew and also beat analyst estimates.

The Americas grew 4.5% and beat estimates by 4.6%. The Rest of Asia grew 14% and beat estimates by 9.7%.

The Product gross margin shrank 152 basis points (bps) year over year, while the Services gross margin expanded 169 bps. Business was impacted by supply chain challenges and foreign exchange headwinds.

Analysts are strongly upbeat about Apple’s fiscal fourth quarter and are looking for growth across all product lines except iPads, as well as in Services. The strength is expected to be broad-based across geographies.

Apple shares carry a Zacks Rank #3 (Hold) but could be up for an upgrade given its recent performance and outlook. Technology stocks with a Zacks Rank #1 (Strong Buy) recommendation that you may be also consider are Axcelis Technologies, Inc. (ACLS - Free Report) , Arco Platform Ltd. (ARCE - Free Report) , Badger Meter, Inc. (BMI - Free Report) and Cadence Design Systems, Inc. (CDNS - Free Report) .

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