Could be a lot, could be a little. It’s complicated.
Put aside for the moment Apple’s re-accounting of Product and Services revenue that has totally messed up everybody’s year-over-year comparisons. More on that below.
Using the old numbers, revenue from Apple services has been growing at a healthy clip. We know from Tim Cook’s Jan. 2 letter that Services in the December quarter generated more than $10.8 billion in revenue, up 27% year over year. Putting that in context, Services revenue grew…
- 23% in fiscal 2017
- 24% in fiscal 2018
- 27% in fiscal Q1 2019
Still sticking with the old accounting method, two analyst surveys have Apple’s March quarter Services growth slowing in Q2 2019.
- Visible Alpha: $11.22 billion (up 18.1%)
- Apple 3.0: $11.28 billion (up 21.3%)
By comparison, that revenue grew 31% in the same quarter last year.
A weakening of Services growth is not a good look for Apple. Not now, not with iPhone sales growth stalled. But it gets worse. (Warning: This is the complicated part.)
According to a schedule Apple released last November:
Starting in 2019, in connection with the adoption of the new revenue accounting standard, Apple will classify the amortization of the deferred value of Maps, Siri and free iCloud services, which are bundled in the sales price of iPhone, iPad, Mac and certain other products, in Services net sales. Historically, Apple classified the amortization of these amounts in Product net sales consistent with its management reporting framework. As a result, the 2018 net sales information has been reclassified to conform to the 2019 presentation. [Click here for Apple’s spreadsheet of revised net sales.]
Measured against the reclassified Services revenue for Q2 2018, the two consensus estimates yield even lower growth:
- Visible Alpha: 13.9%
- Apple 3.0: 14.6%
My take: Unless the Street has already taken these changes into account, which I doubt, this is not going to be well-received.
Below: The estimates of the 15 analysts that I have on record, pros in blue, indies in green. (Corrections appreciated.)
Click to enlarge.
“Measured against the reclassified Services revenue for Q2 2018, the two consensus estimates yield even lower growth…My take: Unless the Street has already taken these changes into account, which I doubt, this is not going to be well-received.”
I’m not so sure. If the two pieces of data are broken out, as you have done, then it shouldn’t matter. You’d have to look at the combination of many past year’s data from both sets to see the pattern that was exposed.
It’s kind of like looking at low margin elements and high margin elements that yield a collective margin. You’d expect the collective margin to be appreciably lower than the high margin elements….
Non-issue. “Historical” Services growth did not, and will not, slow. It is growing as before. “Reported” Services growth appears to have slowed, but that is an optical illusion created by the assimilation of amortized costs into the sector.
WS will understand this, the media (being idiots) will not.
Because the media are idiots I expect a lot of negative spin from the usual suspects. That is, we will get negative spin until people review (and modify their spreadsheets) Apple’s restatement of FY2018 that shows the effect of the changes on last year’s results. In restating last year’s results Apple has kindly provided us with a YoY comparison TODAY, and not a year from now.
A side effect that is left handily beneficial to repoerted Products nargins, it that without the amortized expense from Maps, et al, margins will appear to increase.
Further flat unit sales of Macs, iPads and iPhones will stabilize the amortized cost of Maps, etc., causing that amortization expense to become a smaller and smaller element (as a percentage) of reported Services revenue.
I think this accounting redefinition of the characterization of revenue/expense streams is brilliant and very well timed to beneficially exploit flattening of product unit sales.
Those non-software services (maps) costs aren’t amortized. They are expensed as incurred, and most likely are reported in R&D expense which is not included in gross margins. The revenue is what is being amortized. Almost 10 bucks per iPhone for the non-software services is deferred at time of sale and then recognized over 24 months. Appears Apple increased the length of time after 2Q18 though.
You have about 700M coming off the balance sheet each quarter recognized in Services revenue at 100% margin. iPhone margins will be a little lower, since it’s now being diverted. However, the effect on Services margins will be much much greater since it is only a fraction of iPhone revenue.
Thanks for the reminder Turley. I had forgotten that Apple does not capitalize any of the costs of R&D.
I was heading down a rabbit until you put me on the straight and narrow.
the decision to transfer revenue (not costs) is still brilliant as Apple is trying to get WS to pay attention to Services revenue and margins as the future of Apple’s growth engine.
There is some correlation between the sales of new devices and Services revenue activity. Services revenue includes iCloud storage subscriptions and AppleCare revenue. The research I’ve seen suggests although pre-owned iPhone sales are growing at double-digit rates, services attachment is lower on average among acquirers of pre-owned devices than among consumers who acquire new devices. This makes sense.
At this time, unit sales across all of Apple’s major device lines (iPhones, Macs and iPads) are in a no-growth to slow-growth phase. While components of the Services revenue segment will deliver strong growth regardless of the pace of new device sales, there is nonetheless some correlation between the two.
Tim Cook has said new services will be delivered this year and the sales cycles of Apple’s major device lines are not uniform. It is challenging at best to value Apple as an enterprise or assign values to Apple’s device lines and Services and Other Products revenue segments when looking at numbers on a year-over-year basis or without taking into account the different product update cycles, currency exchange factors and the pace of domestic and global economic growth.
My point is, I won’t be alarmed if Services revenue growth when measured by percentage growth lags the prior year’s performance inclusive of the recent reallocation of revenue. Only one of the fifteen analysts listed above expects Service revenue growth year-over-year in the March quarter, when computed using the reallocated numbers, to be less than $1 billion.
In my view, Apple’s growth is best measured over multi-year periods and not on a year-over-year basis. Compounded annual growth rates will yield more useful numbers than year-over-year comparisons.
Jeff Williams and Kevin Lynch seem to be taking Apple Health into a Services model. Imagine a day where Apple has 3% of the world, or about 200,000,000 people, subscribing to a $9.99 monthly service that allows you instant access to your medical records, as well a health “scorecard” making sure that your activity and diet are catered to combatting that which ails you and/or illnesses you may be hereditarily prone to. That’s where I see the most opportunity in Services. Movies and music are the tip of the iceberg.
From all Hese posts rega.ding future Apple growth rates I find myself asking a fundamental question: in what year did Apple fail to introduce a new revenue stream?
I can’t think of one that doesn’t predate the iPhone. My point is, the iPhone is a platform onto which Apple can attach new revenue streams. Calendar 2019 will be no different. We may not be able to envisage what that new stream will look like (let alone value it), but it’s coming.
This whole concept of “slowing growth” is totally not helpful. A decrease in acceleration is being treated as braking. That is not what is happening at all. And the use of percentage of growth is also not helpful being QoQ (horrible for such a cyclical company as Apple) or YoY (still pretty inept)).
Below, I present a very basic, mechanical thought exercise.
In year zero, I make $100k in sales. The next year, I sell $10k more. The year after that, $11k more, then $12k more, etc., etc., … My total rate of sales is increasing by more and more on an absolute scale.
It doesn’t “scale” well as a text-based cut and paste, but even though I am still selling more each year – and a greater amount more each year – it still grows less as a percentage each year, simply because, the bigger the divisor, the smaller the quotient.
(I’ll send PED the spreadsheet, not that it’s all that exciting, but it might be possible for him to format it nicely.
Sales Grwth Percent Growth vs year zero
100 1
110 10 0.1 1.1
121 11 0.1 1.21
133 12 0.099173554 1.33
146 13 0.097744361 1.46
160 14 0.095890411 1.6
175 15 0.09375 1.75
191 16 0.091428571 1.91
208 17 0.089005236 2.08
226 18 0.086538462 2.26
I’m late to this thread, but I’m interested in how Apple assigns a value to Siri, Maps, and free iCloud.