Apple reported earnings for the first three months of 2017 that fell just a bit short of Wall Street’s expectations, but most in the investment community is already looking ahead to the next big iPhone introduction in the fall.
For the company’s second fiscal quarter, revenue rose 5% to $52.9 billion, fed largely by the sale of 50.8 million iPhones. But Wall Street analysts were expecting $53 billion of revenue and sales of about 52 million iPhones. Earnings per share of $2.10 beat the average analyst estimate of $2.02, however. Apple shares, which have already gained 27% so far this year, lost less than 1% in midday trading on Wednesday.
Simona Jankowski at Goldman Sachs may have summed up the view of most analysts in her report on the quarter. “All-in, we view the quarter as a non-event, with the market likely to look through a near- term iPhone ‘pause’ in anticipation of the iPhone 8 product cycle,” she wrote.
The Goldman analyst also said she is looking for Apple to do larger acquisitions, particularly to bolster its service revenue by buying a major entertainment company.
“We would like to see Apple put its strong balance sheet to work to drive its content strategy,” Jankowski wrote. “Further, M&A could accelerate progress toward management’s goal of doubling its Services revenues in the next four years.”
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In the same camp, UBS analyst Steven Milunovich summed up the situation as “one more quarter before show time” because Apple’s next quarter won’t have the new iPhone son sale yet, either. “The fact that Apple is gaining share everywhere but China and the ecosystem is growing bode well for the future,” he added.
There were a few areas of concern beyond just waiting for the next hit phone, however. Toni Sacconaghi at Bernstein Research worried about Apple’s recent lawsuit against Qualcomm. Apple has stopped paying royalties to Qualcomm for wireless technologies included in the iPhone while the dispute over just how those fees should be calculated is ongoing.
“While the risk is likely low, we worry that (Qualcomm) could choose to retaliate versus Apple going forward, either by withholding (or significantly increasing price) on sales of its modems, or by potentially seeking an injunction against Apple—either of which could dramatically undermine iPhone sales,” Sacconaghi wrote.
And if Qualcomm (QCOM) does take drastic action and cuts off supplies, Apple (AAPL) has few good options because alternative manufacturers like Intel (INTC) don’t have products that meet all of Apple’s needs, he said. So a cut off would “create massive disruption for Apple as we approach its potentially biggest product introduction ever,” Sacconaghi writes. “Yes, the odds of QCOM retaliation may be small, but the potential impact would be huge.”
Another concern is that one of Apple’s strongest growth areas—the services revenue it collects on everything from music sales to online storage fees—could actually be less profitable than it appears. Ronan de Renesse, practice leader for consumer technology at Ovum, said only the fees Apple collects from developers fro selling apps actually has a strong profit margin. Media sales do not, according to de Renesse.
“Apple makes most of its profits in services from developers on the App Store, not directly from consumers,” he wrote. “It is unlikely that Apple will successfully bring the kind of margins it applies to its hardware to consumer services and content. Driving net income from services and content sales is extremely difficult—Netflix profit margins are in single digits and Spotify was still reporting losses at this time last year.”
Apple experienced yet another quarter of shrinking sales in China, as revenue decreased by 14% from the same period a year ago. But amid the overall drop, Apple said it had record sales of its more expensive 7 Plus model in the country. That is a sign that Chinese consumers will be able to jump on the new iPhone models coming later this year, according to Morgan Stanley analyst Katy Huberty.
Revenue in China continues to decline but is largely attributed to delays ahead of a iPhone new form factor, weak demand from Hong Kong tourism, and weak demand at lower end iPhone price points, which a discounted iPhone 7 Plus this fall may address,” Huberty wrote. “We continue to believe that a combination of a growing base of aged iPhones and exciting new technology, including OLED displays, 3D sensors and wireless/fast charging will drive an iPhone supercycle that is still underappreciated by the market.”
