The day Apple released its iPhone revenue bomb
Some Apple watchers have complained almost since the launch of the iPhone that Wall Street doesn’t understand the device’s value to the company. Analysts consistently underestimate Apple’s revenue, these investors insist, because they fail to fully account for iPhone sales.
The problem has been festering for so long — and the gap has grown so large between Apple’s actual earnings and the Street’s grasp of those earnings — that Apple finally let the cat out of the bag Tuesday during its quarterly earnings call.
Measured by so-called generally accepted accounting principles (GAAP), the company earned $1.26 a share in 2008 Q4 on revenue of $7.9 billion. This is the form in which Apple (AAPL) has always reported its income.
But on Tuesday, for the first time, the company went one step further. CFO Peter Oppenheimer told analysts that when measured by actual revenue — counting the full value of every iPhone and Apple TV sold in the quarter — the company earned a good deal more: $2.69 per share on sales of $11.68 billion (see transcript here).
The consensus among analysts before the earnings call was that Apple’s revenue for the quarter would be about $8.05 billion. Some traders looked at $7.9 billion and thought Apple had fallen short of the Street’s target by $150 million. The smart ones looked at $11.682 billion and realized they’d underestimated Apple’s earnings by nearly $3.8 billion. They’re probably the reason Apple’s share price jumped 12% in after hours trading.
How could the analysts have been so wrong?
In the analysts’ defense, the accounting methods Apple uses aren’t easy to follow — even though Oppenheimer has spelled them out at almost every earnings call.
For reasons that have to do with being able to provide free upgrades over the life of the phone, Apple doesn’t book the full value of, say, a $199 iPhone the day it’s sold. Rather, its accountants spread that income out over 24 months, booking $8.29 in the first month, $8.29 the second month, and so on until the revenue from that iPhone has been fully accounted for. (Actually, the value of that iPhone is probably closer to $500, once AT&T has paid its share, but you get the idea.)
Given that Apple’s iPhone sales have been growing exponentially over the past 15 months and that each month’s iPhone revenue includes not just a share of the sales from that month, but a share of iPhone sales from each of the months that preceded it, you begin to see the dimensions of what one might call Apple’s iPhone revenue bomb.
“This is a pretty big deal,” Steve Jobs told analysts and journalists on Tuesday, as he made his first appearance at an Apple earnings call in 8 years to try to explain the iPhone’s so-called subscription accounting system.
“As long as our iPhone business was small relative to our Mac and music businesses, this didn’t really matter much. But this past quarter, as you heard, our iPhone business has grown to about $4.6 billion, or 39% of Apple’s total business, clearly too big for Apple management or investors to ignore.”
Oppenheimer and Jobs promised to provide adjusted revenue numbers — so-called non-GAAP revenue — every quarter going forward. But they didn’t provide any non-GAAP numbers from quarters past, making it difficult to gauge how fast Apple is actually growing.
That’s where Andy Zaky comes in. An amateur Apple watcher — and one of the blogger-analysts who humiliated the professionals in a Q4 earnings estimate smackdown earlier this week (see here) — Zaky stayed up all night Wednesday trying to reconstruct Apple’s actual earnings in quarters for which it didn’t provide non-GAAP data.
His results, published early Thursday on his blog Bullish Cross, and republished by AppleInsider and Seeking Alpha, show that Apple’s revenue actually grew 75% year-to-year last quarter, not the 27% that the company reported, while its real net income grew nearly 125%. The pros could learn a lot by studying his findings.
Zaky’s results are summarized in the chart below. To see how he arrived at his numbers, click here.
And how are Apple earnings going to affected in 24 months when they no longer include those pro-rated initial sales figures?
It should be plainly noted that this is not “special” accounting–it’s just accounting. They’re treating the iPhone like CAPX and amortizing value over its useful life (the two-year initial committment).
This is standard stuff in normal business. I don’t track stocks, but why are people amazed?
If you believe these analyst missed the non-gaap information and its relavance to Apple, you’re more gullable than I thought. These guys know the relavance but they could make more money ignoring the obvious and take the contrarian view with subscription accounting providing cover.
I wont be until after the 1Q09 that iphone will exceed ipod or desk tops in revenue (gaap basis) that analyst will all of a sudden get religion on the iphone. Right now they can just ignor the fact that cash from iphone will swell Apples coffers to over $45billion by 4Q09. At which time they’ll all get religion again acting as though they were surprized.
Another thing, as the mature ipod geographies move from ipods to iphones, the cash flow and earnings will only accellerate possibly even beyond my predictions.
Thirdly, Apple will in 2009 release a microprocessor for the mobile platforms that will drastically reduce power consumption, integration cost and boost GM for the ipod and iphone. I expect to see a subsidized iphone at below $100 with power managment equivalent or better than ipods today. I conclude that with this platform and the content distribution of itunes, Apple will sell 130 million iphones annually which will cause cash generation rates to jump to over $8 billion per quarter making Apple the most successful technology company on the plant earth.
Finally, given my optimistic predictions, let me go further and say that this is a good time to buy Sandisk. If Apple were to triple its iphone sells, this would mean that nand consumption will sky rock as other handset makers will be forced to keep up. The current pathetic 1GB of nand releaed by the latest iphone competition is laughable. Apple median memory capacity for the iphone is 12GB and the competition is at a pethatic 1GB. These idiots are either arrogant or stupid.
Prophet of boom,
And then one day, the masses woke up. Stunned by their own ignorance.
“we sold the good with the bad”
“we panicked when we should have analyzed”
“in the spirit of margin call, we sold all”
But realizing that people still wanted to eat, travel, communicate, and compute, life went on.
People were reallocated from inefficient businesses and industries to those with greater efficiencies.
Well managed companies emerged stronger than before.
And owners of the well managed businesses were rewarded for their foresight and equity.
As they said during the French revolution, “when everyone around you is losing their head, it’s a good time to keep yours”.
(and if they are selling their spare head for an attractive price, perhaps you should buy it…for two heads are better than one…especially when they are undervalued)
“Great analysis. This changes everything in WS’s eyes. Apple is now worth about $1 more per share in the real world than it was a day ago”
That’s not quite correct. What Apple is ‘worth’ is some multiple of earnings (even in today’s depressed environment, they’re trading at 18.3 times earnings). AND, that’s annual earnings, not quarterly. So if Apple’s real earnings are $1 per quarter higher than estimates, that’s $4 per year - meaning that their stock is undervalued by $73 per share.
Nice job pointing out the REAL Apple story - and especially to Zaky for doing the grunt work the hacks miss consistently.
“Analysts consistently underestimate Apple’s revenue, these investors insist, because they fail to fully account for iPhone sales” - THAT’s the essence of the entire Apple story now. Focus more on factual data than the “reality distortion field” rumor mongering perpetuated by most of the web blogs (Eric, Scott Moritz, Cramer and, occasionally, here) Apple is in the midst of a major redesign of the computer - and possibly corporate - landscape. Look beyond the numbers and see the cultural phenomenon happening.
How do the analysts like Huberty, Socconaghi and Wu ever keep their jobs? Isn’t there someone in those firms alert to these appalling performances?
Since seeing the numbers on Tuesday I have been waiting for the explosion of news about the non-Gaap number.
A $20bn revenue company releases a new product that becomes 39% of its business in little more than one year is something every business person, journalist, analyst and business school should be pretty darn focussed on.
So why aren’t they???? That is the question.
The so call Analyst should had understand that since day one. I can’t believe that they needed an accounting 101 course to understand it while little investors could understand it. look into the MacObserver AFb board. We had discussion about this since they one, this “special” accounting was announced.
Still they (I’m sure well paid analyst) needed to have the maths done for them.
No wonder our financial system is in crisis….
Jobs said iPhone is a $4.6B business, having sold 6.892M iPhones. That tells us that the ASP of each iPhone is closer to $667 than the $500 mentioned by ped in his article. Which means Apple is getting a subsidy from its carriers of approximately $400-$450 per phone (depending on the ratio of 8GB to 16GB iPhones).
I think the real problem is the Financial Accounting Standards Board rules for computer companies. Such companies are continuously improving their software to remain competitive. Whether a computer company charges its older customers for the upgraded software or gives it away is a minor tactical decision that should not turn financial reports on their head.
It’s time to acknowledge that what once was considered a “reality distortion” has in fact become “reality” itself.
The iPhone is changing everything right before our eyes, reality is indeed distorting into something that Jobs & team envisioned years ago.
Perhaps it’s time to merge back INTO the reality distortion field, Philip. The numbers are going to be VERY nice there in a few years… when the iPhone bomb makes it’s way INTO the GAAP earnings instead of being hidden.
Thompson
Some Apple watches have complained almost since the launch of the iPhone that Wall Street doesn’t understand the device’s value to the company. Analysts consistently underestimate Apple’s revenue, these investors insist, because they fail to fully account for iPhone sales.
The so called analysts could also be part of the Cramer robots dispensing misinformation…
http://www.deepcapture.com/category/1-the-players/
The Pro’s either did not know, so they are incompetent, or they did know and in that case they are manipulative. Either case, the pro’s are more amateurish than Andy or the rest of us Apple Watchers.
Mom and Pop investors out there unfortunately, are not well informed and have not educated themselves before investing in tech. I know someone who thinks Apple makes Windows and Microsoft makes “Lynx”, his word for “Linux”. Yet he has a huge position, comparatively speaking, in Apple.
Analysts also suffer from similar ignorance. Some compare Apple to RIMM strictly as a “cell” phone company. Most do not understand the iPhone is a platform, not a phone. Most forget Apple makes OS and sells Mac’s or choose to ignore that side. Even more forget that Apple, even with the current surge, still owns a tiny slice of the OS, hardware and smart phone market. So tiny that if it does things right, it can only grow its business for the next five years.
If amateurs like us can easily calculate all these and read the beans correctly, why do Wall Street types like Toni-S and Shaw-W continue to flop? One wonders……
Wow! Now that is true investigative reporting! Well done article and great research by Zacky.
People really hate Apple. We see it on the blogs all the time. it actually makes sense since the other 90% of the world doesn’t want to hear that they are worthless! SJ repeated the word BEST 12 times during the conference call. There is no doubt that Apple is the most successful Tech company out there…they are the best! But they really need to change their attitude! This bad-boyfriend game is really beginning to backfire on them.
P.S - Google is playing the opposite game.
Bill, why investigate and/or terminate those guys? After all, everyone knows that the REAL job of stock analysts/stock brokers is to make fortune tellers look good!
Great analysis. This changes everything in WS’s eyes. Apple is now worth about $1 more per share in the real world than it was a day ago and tiny bit less than half of what it was worth ten months ago. There must really be something to the Reality Distortion Field theory. Apple is truly the black hole of greatly performing stocks. So much money goes into the company and it never comes out for investors.
Decent article - Now, spell checker and proof reader, please:
“Some Apple watches have complained”
“but you yet the idea”
“months that proceeded it”
“net income grew nearly nearly 125%”
ex ped: What would I do without you?
Great article Phillip!
This info needs to get out to retail investors; I believe the pros have understood this and just ‘forgot’ to tell ‘the rest of us’!
Thanks for your ‘balance and fair’ report.
These so-called analysts (e.g., Huberty, Toni S) need to be investigated and/or terminated.
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Silicon Valley veterans like to joke that Steve Jobs must be surrounded by a reality distortion field; if you get too close to him, you start to believe what he's saying. Thanks to the success of the iPod, the launch of the iPhone and the renewed interest in the Mac, Apple has made believers out of millions of customers - and made a lot of investors rich. But Philip Elmer-DeWitt believes that an ounce of skepticism never hurts when writing about the company. He should know. He's been covering Apple - and watching Steve Jobs operate - since 1982, first for Time Magazine, then for Business 2.0, and now for Fortune.
The non-GAAP numbers are fantastic. The problem is for Apple to continue growing or even matching thse numbers they will have to match the Iphone sales in the coming quarters as well as kep their high margin on the iphone. This is going to be extremely difficult becuase of a variety of factors like the current economy, etc as well as competition from Google/Android, Rimm, Nokia/Symbian, etc.