Apple cashes in on iPhone, leaves ‘junk’ to others

  • Cupertino (CA) – The economy may be crumbling, but Apple steams ahead with 35% revenue growth in the third quarter, supported by strong iPhone sales and what seems to be an unstoppable Mac. Apple CEO Steve Jobs honored listeners to the Q3 (fiscal Q4) conference call with a surprise appearance and mentioned that he does not know “how this economic downturn will affect", but highlighted Apples current product line and its employees to battle a possible recession. He pointed to Apple’s $25 billion cash reserves and dismissed a Mac tablet and cheap $500 netbooks, since Apple won’t build a "piece of junk."
    iPhone 3G sales estimates have been making the rounds for several weeks, but know we know that the first full quarter of iPhone 3G sales was a successful one, surpassing most analysts’ estimates and substantially contributing to an overall successful quarter. Due to deferred revenues, however, the handset sales had little impact on the reported $7.9 billion revenue and $1.14 billion in net profit. In accordance with the subscription accounting treatment required by the GAAP, Apple recognizes revenue and cost of goods sold for iPhone and Apple TV over their economic lives currently estimated to be 24 months, unlike revenue and cost of goods for Macs and iPods which are recognized at the time of sale.

    This accounting principle results in the deferral of almost all of the iPhone and Apple TV revenue and cost of goods during the quarter in which these products are sold to the customer. The costs to develop future features and software, in addition to engineering, sales, marketing and warranty costs, are expensed as incurred. Eliminating the impact of subscription accounting, the so-called "adjusted sales" and "adjusted income" for the quarter were a stunning $11.68 billion and $2.44 billion, respectively.

    iPhone outsells Blackberry

    Apple sold 6.89 million iPhone units in the quarter (up from 1.12 million a year ago), which translates to sales of about around half a million per week and exceeds the 6.1 million first-gen iPhone units sold in the prior five quarters combined and 6.1 million RIM Blackberrys sold in the third quarter of this year. Apple is now the #3 mobile phone vendor in terms of revenue, followed by LG and Motorola, with Nokia and Samsung leading the pack. The App Store is now close to 200 million downloads (and should exceed that mark today) and sports more than 5500 applications available in 62 countries. Jobs said that "competitors are scrambling to copy the App Store, but it's not easy."

    Apple earned $806 million from the iPhone and Apple TV businesses (Jobs said the AppleTV will remain "just a hobby" in 2009) during we quarter. If we add the 2.4 million first-gen iPhones sold in the first half of 2008, total iPhone sales for 2008 are 9.29 million so far, just shy of Apple’s 10 million unit target for 2008. The deferred iPhone and Apple TV revenue was $5.8 billion, up from $3.8 billion. If we exclude the deferred revenue, the iPhone already represents 39% of Apple's total revenue.

    Apple recognizes iPhone sales at the time of purchase in its retail and online stores. Sales to carriers are recognized when the shipment leaves the factory docks. The handset was launched simultaneously on July 11 in 20 international markets, added 22 new countries on August 22, and 986 BestBuy retail stores on September 9, increasing the number of iPhone 3G distribution locations in the U.S. by almost 50%. The company plans to expand the availability of the iPhone to 70 territories by the end of the year.

    Read on the next page: The iPhone is the new iPod, Macs have momentum

    The iPhone is the new iPod

    Apple sold about 11 million iPods in the quarter, recording an 8% growth in shipments and 3% in sales. iPod sales growth is clearly decelerating and it is safe to say that there is now an iPod killer in reach: At 6.89 million units, the iPhone has close to two thirds the shipments of iPods. If this trend continues, the iPhone could easily replace the iPod as Apple’s most lucrative gadget in 2009. The music player market seems to be saturated and more people are wondering if they really need a new iPod if their mobile phone can play music.

    The iPhone seems to be a natural evolution of this market – and it plays in Apple’s favor: Apple has been struggling to increase average selling prices of iPods and has trouble lifting that value above the $160 mark. The iPhone has an average selling price that is more than three times higher than that of the iPod.

    Apple in fact is extremely well positioned for this transition since the iPhone is considered to be the best music player implementation in a mobile phone today. The iPhone has not reduced iPod unit sales yet, but it seems to be just a matter of time until that happens. However, consumers who want just a music player will not sign a 2-year service contract to get the iPhone, but are likely to go for the iPod touch which could later lead them to an iPhone.

    Macs have momentum

    Mac sales fell below the general 2.7 - 2.9 million estimate. The company sold 2.6 million Macs in the quarter (936,000 desktops and 1.68 million notebooks), up from 2.5 million in the previous quarter and 2.2 million a year ago, representing a 21% growth in units and 17% in revenue. Macs accounted for 45.9% of the total revenue reported for the quarter. In the first three fiscal quarters of the year, Mac unit sales tied the 7.1 million mark for all of fiscal 2007. Total Mac shipments for fiscal 2008 were 9.7 million units.

    Mac unit sales have been growing for several quarters now at twice to three times the speed of the rest of the market. Macbooks play a critical role, as Apple surpassed Dell in the education market with a unit share of 39% - and almost 50% in major universities.

    Steve Jobs described the iPhone as a player in the netbook category, but said it is not Apple's plan to market a "piece of junk" priced at $500. He believes that the economic downturn did not create the “cheap PC” segment, but noted that Apple has "interesting ideas" if this market segment should take off. The CEO dismissed analyst questions about a possible Mac tablet.

    Apple's chief operating officer Timothy Cook, which is believed to be a possible successor for Jobs, recently noted that the growing Mac momentum is based on better hardware, unique software, Windows compatibility thanks to BootCamp, almost 250 retail stores in eight countries that greet 400,000 visitors each day, Microsoft’s Vista blunder and Apple's marketing such as the Mac-vs.-PC ads. Although we do not know how much these ads actually impact Mac sales, they clearly helped to shape a generally negative Vista image. The latest round of commercials suggests that Microsoft's $300 million ad campaign is a waste of money.

    Steve Jobs also noted that Apple has about $25 billion in its bank account – and that such savings create "extraordinary opportunities" in tough times.
    Did we hear that Apple may go shopping? Giving the market cap levels of tech companies at this time, $25 billion could reach very far – especially when Sun has a current market cap of $3.6 billion, Nvidia $4.0 billion and AMD $2.4 billion. Adobe could also be an enticing idea at $14.7 billion.