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Apple's iPhone Is In Much Better Shape Than How It Is Being Portrayed

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Apple’s shares have regained all their post-December quarter results losses and are now trading above the $167.78 it closed on February 1, the day of the announcement. The stock went as low $150.24 on February 9 and finished at $172.43 on Friday, February 16. It appears that investors have digested that the iPhone results and outlook aren’t as bad as they appeared . (Note that I own Apple shares).

December quarter iPhone results

Apple reported that it sold 77.3 million iPhones during the holiday quarter, which was 1% lower than a year ago. However, the December 2016 quarter had 14 weeks so when iPhone sales are looked at on a weekly basis iPhone units increased 6% year over year.

iPhone revenue growth was even more impressive due to its average selling price, or ASP, increasing from $695 the previous December quarter to $796 in the December 2017 quarter. The reported revenue growth was 13%, but when adjusted for the extra week in 2016 revenue growth was 22%. Both Tim Cook and Luca Maestri, Apple’s CFO, made a point of this on the conference call.

Tim Cook said, “In Urban China and the U.S., the top five smartphones last quarter were all iPhones. And in Japan and the UK, six of the top seven were iPhones.” My take is that it is hard to ask for much more  than that .

iPhone channel inventory was higher than expected

Maestri tried to pull a bit of a fast one by changing how he described the iPhone’s channel inventory. Typically he calls out the difference from the previous September quarter, but this time he gave a delta to the inventory level a year ago. He said that there were less than 1 million in the channel compared to the previous December quarter. What this translates to is an increase of about 4 million units from the September 2017 quarter. This compares to a 3.3 million unit increase two years ago when the iPhone 6s was launched and 1.2 million for the iPhone 7.

After adjusting for 2016’s and 2017’s December quarter channel inventory changes and the 14 week quarter a year ago, the iPhone’s unit growth was 2%. Of all the numbers this was probably the most disappointing .

The large increase appropriately prompted a concern that there are too many units in the channel, and if it needs to be worked down over the next couple of quarters it will lower the number of reported iPhone sales. That occurred with the iPhone 6s two years ago as it saw channel inventory decreases of 450 thousand in the March 2016 quarter and just over 4 million in the June 2016 quarter. We won’t know if this scenario will play out with the iPhone 8 and X, but we can make some projections to see what the impact could be.

March quarter iPhone outlook

Apple’s March quarter revenue guidance is $60 to $62 billion. At $61 billion Apple should sell about 53 million iPhones, which would be a 4% year over year increase. This would be a bit lower than the December quarter’s reported unit growth of 6% but higher than the 2% channel inventory adjusted growth rate.

Higher ASPs than the previous year will again help the iPhone’s revenue. Over the past three years the iPhone’s ASP has decreased by 4%, 7% and 6%, respectively. Using an 8% drop to calculate the iPhone’s revenue it should be $39 billion, an increase of 17% year over year, a very good result. And it generates an EPS result that may surprise you.

Assuming that the iPhone’s channel inventory decreases by 2 million units, the iPhone’s sell-through will be 55 million. This would put the adjusted unit growth rate at 6%, higher than the December quarter’s 2%.

While an inventory adjusted revenue number isn’t reported, when you take all this into account the iPhone’s revenue would be $40.4 billion, an increase of 22% year over year.

Other iPhone info

Tim Cook said on the conference call “the iPhone X was the best-selling smartphone in the world in the December quarter according to Canalys, and it has been our top selling phone every week since it launched.”

Cook also called out that the active device install base has grown from 1 to 1.3 billion, a 30% increase in two years. In regard to a question about a lengthening iPhone replacement cycle he said, “the reliability of iPhone is fantastic. The second or the previously owned market has expanded in units over the years. And you see in many cases, carriers and retailers having very vibrant programs around trading in iPhone’s. And because iPhone has the largest residual rate on it, it acts as a buffer for the customer to buy a new one and it lines up with another customer somewhere else that is perfectly fine with having a previously owned iPhone.”

Cook essentially agreed that the iPhone’s replacement cycle has gotten longer. But that he is fine with that since the install base is more important to him as it drives Services revenue. I’m sure he would always like to sell more iPhones and get people to the latest technology. However, as long as users decide to stick with iPhones vs. switching to Android he knows that they will eventually buy another iPhone.