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Apple Covering Up Hardware Numbers, and for Good Reason

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Apple (AAPL - Free Report) produced a good quarter wherein both revenue and earnings came ahead of the Zacks Consensus Estimate while growing strong double digits. The guidance was also in line with our expectations. But shares tanked following the announcement and continue to decline, despite Jim Cramer jumping to Apple’s defense.

The main culprit is the company’s decision to stop reporting unit numbers for iPhone, iPad and Macs that have anyway been declining for a while. Investors and analysts alike fear that the decision is fueled by a desire to hide substantial unit declines that won’t be offset by the markup in prices.

The fear is not unfounded. Apple may want to project itself as a services company and want to direct investor attention to the services story and also, how it is a great place for customer satisfaction and security.

But it’s a little hard to sell that story when the services business contributed just 16% of revenue -- yes even if that 16% represents a 27% increase from last year after one-time items, and even if that growth rate was substantially higher than the rest of the business. While it’s also true that other players like Amazon (AMZN - Free Report) and Alphabet’s (GOOGL - Free Report) Google don’t display hardware numbers, unlike Apple, hardware makes up a miniscule part of their business.

So how to think about Apple’s decision?

Quite simply, Apple is entering a phase where its products are so overpriced that new buyers will be harder to find than before. Especially since the markets where they could come from have weaker currencies (China is a sort of exception, but trade war tensions are an overhang there).

So increasingly, most of its sales will come from its captive user base that considers the task of transferring boatloads of their personal data to less secure competing services a really daunting task. And then, they will want them to last longer. This trend has started playing out already because the minimal changes in new versions just aren’t enough to convince many to upgrade.

So when Apple says that unit sales are less indicative of the strength in its business that is probably the truth.

But in that case, what are its plans for milking the folks already hooked?

Apple says it recorded “new all-time revenue records for the App Store, cloud services, AppleCare, Apple Music and Apple Pay.”

Moreover, it saw “exceptional performance at Apple Pay, which is by far the number one mobile contactless payment service worldwide. Transaction volume tripled year-over-year. And to put that into perspective, Apple Pay generated significantly more transactions than even PayPal Mobile, with over 4 times the growth rate.”

While News didn’t make it to the list of services Apple mentions here, the New York Times recently reported that Apple news has around 90 million voracious readers, generating a million page views per story. So it is in a pretty good position to start offering a service from a bundle of providers.

Apple says it has 330 million paid subscriptions across its ecosystem.

There’s also tremendous scope is the enterprise segment where its partnership with IBM (IBM - Free Report) is going very well. To quote from the meeting with investors, “over 450 airlines and 47 of the top 50 around the world have adopted iOS” and “9 of the top 10 global retailers use iOS devices” and “240 large customers have signed MobileFirst for iOS deals.” Also, since launching IBM Watson services for Core ML and the IBM Cloud Developer Console for Apple, it has added over 60 new customers across a broad cross section of industries.

Conclusion

Apple is in a transition phase. So quarter to quarter numbers, especially on unit sales of its hardware business won’t be exciting. On the other hand, it’s important to remember that despite those variations, the business isn’t actually weakening.

While we won’t be able to take part in the dizzying excitement of plotting and projecting its quarterly unit numbers and hyperventilating on the varying pitfalls of a changing business model (which is the obvious thing here), we can take heart from the fact that we will know both product and service revenue quarter to quarter. And we can take the scintillating ride to the height of its services success because it will tell us more and more on that.

That’s why Apple shares carry a Zacks Rank #2 (Buy). See the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.   

 

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