Apple Had Five Ways to Fuel Earnings. Only One Still Works

(Bloomberg Opinion) -- If it weren’t for that darn trade war, Apple Inc. might just have squeaked through. In the three years or so since it became clear that global smartphone sales were slowing, Chief Executive Officer Tim Cook has deployed five key strategies to maintain earnings growth. After Wednesday’s cut to the sales outlook, it’s clear that only one has unquestionably succeeded.

Higher iPhone Prices

As unit sales slowed, Apple has kept revenue ticking up by boosting the iPhone’s average sales price. It hit a staggering $793 in the three months through September, up from $618 a year earlier. Unfortunately, that seems also to have made it particularly vulnerable to economic weakness, most obviously in China. Consumers with a perfectly serviceable iPhone 8 are less likely to want to spend as much as $1,449 on a top-of-the-range iPhone XS Max.

Services

Apple’s services have been the brightest spot of the past few years, averaging 26 percent annual growth since 2014. But the $2.4 billion jump in revenue that the division enjoyed in the holiday quarter was nowhere near enough to offset the overall sales miss of as much as $9 billion. The offerings, which include music streaming, the App Store and iCloud, still represent less than a quarter of iPhone sales. And it’s become harder to make money from these in China, which has banned several products and hundreds of third party apps.

It’s also unclear whether Apple gets the same revenue from traffic acquisition payments in China that it does elsewhere. Alphabet Inc. pays Apple up to $9 billion a year to make Google the default search engine in the iPhone’s Safari web browser, but it doesn’t operate in China.

India

Cook has long talked up India as Apple’s next great source of growth. Back in 2016, he told investors that it was “where China was maybe seven to 10 years ago.” On that basis, sales in India should be growing at 80 percent to 90 percent a year, as they did in China in 2011 and 2012. Yet revenue from the subcontinent was flat in the fourth fiscal quarter. Cook has struggled to convince Indian consumers to spend hundreds of dollars on older hardware when rivals such as Samsung Electronics Co. and Xiaomi Corp. offer newer handsets for less money.

New Technologies

Apple’s research and development spending has more than doubled since 2014. So far, it has little to show for it. The innovations added to the iPhone, such as Face ID and faster chips, are now failing to attract enough new customers. The Apple Watch, while improving, generates less than a tenth of the revenue of the iPhone, and the health and fitness ecosystem that was supposed to develop around it has yet to materialize in any significant way. Efforts to develop a self-driving car have faltered. Smart glasses remain the great new product hope, but it could be some time before that market is mature enough to ease the earnings burden on the iPhone.

Buybacks

First-quarter gross profit is set to decline for the first time in 15 years, based on the revised guidance. Yet Apple is still likely to increase earnings per share, not least because of its buyback program. The company’s vast cash pile has helped it return some $239 billion to shareholders through stock repurchases, in turn reducing the number of shares outstanding by almost 30 percent. That has turbocharged EPS expansion, which almost doubled in the same period.

Financially, Apple continues to be a well-managed company. It is generating returns for shareholders in spite of operational missteps. But once again, it’s fair to question Cook’s ability to steer Apple successfully out of the iPhone era.

To contact the editor responsible for this story: Jennifer Ryan at jryan13@bloomberg.net

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Alex Webb is a Bloomberg Opinion columnist covering Europe's technology, media and communications industries. He previously covered Apple and other technology companies for Bloomberg News in San Francisco.

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