By Ken Cheng
Apple’s CFO stated forward guidance was $7.2B, inline with expectations, and EPS of “about $1”, while expectations are $1.10. Let me be clear, Oppenheimer stated clearly, “about $1”. He didn’t say one dollar and zero cents. He said, “about”. In other words, people are assuming he meant $1.00, when he said nothing of the sort.
Imagine, what else he said, forward guidance on GM was 33%. That’s almost exactly what this quarter’s GM was at 32.9%. While it’s indirect, there’s no reason why we can’t do a quick-and-dirty calculation on what EPS Apple is really expecting. Last quarter they had $7.5B in sales. Next quarter they expect 96% of that with $7.2B. Well, they just had $1.16 eps, and 96% of that is $1.11. Add a fraction for the GM difference between 32.9% and 33%, and you can see, Apple’s actual eps guidance is about $1.12, with analysts expecting $1.10.
In the conference call, you definitely get the impression that Oppenheimer does NOT want to do the math for you. He snippily answers the Bear Stearns analyst by essentially saying that. Here are the numbers, you can do the math. “Well, you’ll have to make your estimates but we sold 1.7 million phones during the quarter. We made the announcement on March 6th. You know what we sell the phones for and we recognize the revenue over 24 months.”
Additionally, the analysts didn’t know because Apple hadn’t announced it, so they couldn’t factor in that Apple was not going to factor in iPhone revs after March 6th until the Software ver 2 is delivered in late June. That’s going to cost about $100M if they sell another 1.7M iPhones. So, comparing apples to apples, you’d have to adjust Apple’s revenue number up $100M to $7.3B, to compare it to the analysts’ $7.2B.
The bottom line is once the analysts look carefully at what Oppenheimer said, they’d realize that Apple’s guidance exceeded analysts’ expectations. Adjusted revs were $7.3B to the analysts $7.2B and eps was $1.12 to the analysts’ $1.10. These are minor details, but the story in the media changes significantly when Apple’s actual guidance is a little higher than analysts’ expectations rather than 12% lower.
Perhaps, even more important than the above, I just read a comment from Shaw Wu, stating that Apple’s deferred revenues are difficult to understand! I read that at Phillip Elmer-Dewitt’s Fortune Magazine blog:
AAPL’s accounting treatment of iPhone and Apple TV revenue where hardware revenue is amortized over 2 years or 8 quarters remains somewhat confusing and is unprecedented.
Is that crazy or what? A commonly quoted analyst is STILL confused by Apple’s deferred revenues. In fact, all the analysts are still confused. How do I know? Because they all report Apple’s revenues, post-accounting change, directly against Apple’s revenues, pre-accounting change. That’s an apples to oranges comparison. Have you seen all the earnings news reports? Apple sales were $7.5B vs $5.3B last year. But, as I pointed out, the $5.3B was using the old accounting method with no deferred revs, while the $7.5B is the using the new accounting method with deferred revs.
Do people realize that the deferred revs are additional to the $7.5B, and not included in the $7.5B? I have run some rough estimates and I calculate Apple had about $8B in sales last quarter, but $500M was deferred. What if Apple had reported $8B in sales and not $7.5B? Don’t you think investors would have reacted differently?
The proper apples to apples way to have reported the revenue figures would have been something like, Apple had $7.5B in revenues, with an additional $500M deferred, compared to last year’s, $5.3B in revenues with nothing deferred. That’s apples to apples. The other way to look at it is to say, how would the numbers have looked if Apple hadn’t changed their accounting to include deferred revenues? In that case, you would have seen Oppenheimer say something like, Apple had $8.0B in revenues compared to $5.3B last year. Because the news media, quoting analysts did NOT report Apple’s revenue figures either way, then clearly none of the analysts are making apples to apples comparisons, and none of them, like Shaw Wu, understand how to properly account for the deferred revenues.
Here’s an even more interesting thought. Remember the Xmas quarter? $9.6B in revenues. Shortly thereafter Apple’s stock tanks and drops from $201 to under $120. What if Apple had announced $10.5B in revenues? Would its stock have tanked as much? That $10.5B is what I calculate Apple’s actual sales were in the Xmas quarter, if you don’t defer iPhone and AppleTV revenues.
If you don’t believe me, read what Carl Howe of Blackfriars wrote back last June about Apple’s deferred revenues. He was not at all sure that analysts would understand the implications, and he was right. They haven’t.
[Thanks to MacDailyNews Reader “Ken Cheng” for this submission.]
MDN – the RSS feed to this is confused.
Ken have you assigned a gross margin to the deferred revenue?
For what it’s worth, the data point that most grabbed me was the rate of growth of the Mac business relative to the rest of the industry – 51% this year compared to last – a rate of growth 3.5X better than the PC industry.
I see this growth rate as indicative of a halo effect starting to play out that touches so many aspects of Apple’s business.
Given that, I took a swag at articulating the strategic pieces at play for Apple in a post lovingly called, ‘Holy Shit! Apple’s Halo Effect.’
HERE IS THE URL: http://thenetworkgarden.com/weblog/2008/04/holy-shit-apple.html
Check it out if interested.
Cheers,
Mark
In addition to the above link to the Fortune Magazine blog of Elmer-Dewitt’s where Shaw Wu states Apple’s Deferred Revenues befuddles him, there are some more links where similar sentiments are expressed, such as Elmer’s own confusion: “More than seven months have passed and nobody — not the analysts, not the investors, and certainly not Wall Street — has quite wrapped their mind around what this bookkeeping oddity means for Apple’s bottom line. That’s in part because it’s complicated, and in part because Apple hasn’t provided all the data you would need to fully assess its impact.” and “And to the dismay of Apple shareholders, the fact that these deferred earnings are piling up seems to have gone right over the heads of the institutional investors who have driven Apple shares down nearly 75 points since December.”
http://apple20.blogs.fortune.cnn.com/2008/02/11/deferred-earnings-apples-hidden-revenue-bonus/
A Bloomberg article where one befuddled analyst says: ““EPS significantly understates the value of the company,” said Daedalus’s Coleman. “We have to wait 24 months to track the full impact of a unit sale today on earnings per share.””
http://www.bloomberg.com/apps/news?pid=20601109&sid=aTTQICamfprA&refer=home
A Wired, Leander Kahney article, where he says: “It seems that until recently, most Wall Street stock analysts overlooked this hidden revenue. In the last month, 12 analysts raised their estimates to above $200, thanks to these new streams of steady cash flow, according to Bloomberg.
Apple’s average target price is now $210, and some, like Piper Jaffray analyst Gene Munster, estimate the stock will hit $250.
Blackfriars’ Howe says this is entirely realistic. “People are starting to realize Apple throws off money pretty rapidly,” he says. “Apple is quite a remarkable business. They’ve made it into a cash cow, and no one else can replicate it at the moment.”
By Howe’s estimates, each million iPhones sold adds $350 million to Apple’s annual earnings, and $2 to Apple’s target stock price. If Apple sells 10 million iPhones in 2008, that’s $3.5 billion in cash and an extra $20 on the stock price.
“And of course, the iPhone is only one — and currently the smallest — of Apple’s four lines of business,” writes Howe. “So unless Apple stumbles somewhere along the way, those $250 price goals that analysts are quoting aren’t ridiculous; they’re just based on revenue streams and deferred revenue that aren’t immediately obvious.””
http://www.wired.com/gadgets/mac/commentary/cultofmac/2007/11/cultofmac_1114
And, here’s where Carl talks about the impact he sees from Deferred Revenues: “Said another way, Apple’s deferred revenue accounting will reduce its reported earnings about a dollar a share in 2008. Apple investors should be careful to take deferred amounts into account when valuing Apple stock.”
http://blackfriarsinc.com/A07Q2B-Web/page-5.html
And, finally one more link where Carl mentions the fact that other analysts are slow to pick up on Deferred Revenues: “”
http://www.blackfriarsinc.com/blog/2007/11/analysts-starting-to-realize-apple-has
By Sept next year Apple will have the full 8 quarters of deferred revenue. That revenue then will be the moving average over the previous two years. Assuming an ASP of $300 and average quarterly sale of 2M iPhones that would be 2Mx$300 = $600M per quarter. Given that we do not really know the numbers particularly for AppleTV, the real revenue could be between 0.5 and $1B.
The good thing for Apple is that it smoothes out seasonality. Plus I guess that can bank the cash, earn interest and delay paying taxes.
Apple is a cash cow and not many people realize this yet.
That’s what happens when you post something on a Friday afternoon, nobody notices!
Anyway, in the interest of full disclosure, I own 1600 shs of Apple.
Another clueless analyst at RBS shows he doesn’t understand Deferred Revenues:
So, on Seeking Alpha, I saw a little more on the RBS analyst upgrade, http://seekingalpha.com/article/75696-two-analysts-who-are-liking-apple-now
He expects 24 million iPhones sold in ’09, and yet, he sees earnings of $5.40 this year, and $6.50 next. That’s only 20% eps growth. Doesn’t he realize that Apple is Deferring revenues of the iPhone, and that the full effect of iPhone revenues, thus won’t be felt until FY09? Where’s the effect then?
The fact is, these analysts have NOT modeled in iPhone Deferred Revs properly. If by 09 Apple is fully feeling the effect of iPhone revs, then we should see it in earnings.
Let’s try to calculate the eps effect should be by then. Let’s say by FY09, you average the deferred revs of FY07 and FY08, and get about 12 million iPhones, on an annualized basis. At $400 per unit, that’s $4.8B in annual revs, and about $1.7B in Gross Income, or about $820M in Net Income, or about $0.93 a share.
So, 93 cents of his $1.10 eps growth is coming from iPhones? No, that $1.10 is coming from Macs and stores and iPods, etc. He hasn’t even factored in the iPhone deferred revenues.
Honestly, I can’t say it more than I already have, but people are going to be surprised by Apple earnings, when the full effect of Deferred Revs are incorporated. If the analysts don’t get it, then I doubt the average shareholder does.
Well, that is why the get the BIG BUCKS you know.
{ /sarcasm }
How does one become a FINANCIAL EXPERT and write for the public when simple things like DEFERRED revenue streams throw them all for a loop?
Has the business school educational model failed THAT BADLY?
Sheesh, this is accounting 101 for goodness sake.
As there are no amortized costs involved I would say that Apple’s deferred revenue is pure profit going forward. Deferred sales, as they come to the books, are mixed into the calculations, hiding the fact that they are actually pure profits that are not recognized when they should, at the date realized.
I like this section.
Is this the only section for apple investors to learn about the stock? Do you have an investors section on your site.
PS. I like the T shirts
I feel vindicated. FINALLY, Steve talks about how deferred revenues are affecting the analysts’ ability to calculate Apple’s true performance.
They are now reporting numbers GAAP and non-GAAP, so people can understand Apple’s true sales and profits.
Look at the numbers here:
http://www.apple.com/pr/library/2008/10/21results.html
Instead of $7.9B in sales, they ACTUALLY did $11.7B!!!
Instead of $1.26 per share in earnings, they ACTUALLY did $2.69!!!
Wow! What I was asking for, a true comparison to last year.
Nice Job Ken. Looks like we have one of those opportunities where the markets are not efficient and we can benefit from that dislocation and the information you have provided.
Saw your post on Google finance too. Very nice.
Thanks for the good work.
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if you haven’t aready, also see:
http://www.appleinsider.com/articles/08/10/23/apples_real_earnings_grew_a_staggering_124_6_in_q4.html
Apple’s “real” earnings grew a staggering 124.6% in Q4