Apple Preview: Outsized Demand Wrestles With Undersized Supply
Apple’s September quarter results and commentary around the December quarter will likely follow a well-traveled narrative of demand outpacing supply, but with a twist. The twist is that unlike many companies, it’s a function of time before Apple wins the sale. In other words, today’s supply pains will eventually equate to 2022 sales gains. We believe investors will leave the September quarter results with a belief that the step up in demand is sustainable, driven by the accelerating digital transformation for the foreseeable future.
The Big Picture
It’s clear that growth will slow next year, as it will for almost all big tech. For Apple, we believe FY22 revenue growth will likely end up in the mid to high single digits compared to the Street, which is looking for 4% growth. If Apple continues to modestly exceed expectations over the next year, we believe shares of AAPL will continue to appreciate. If the next year plays out inline with our expectations, we believe shares of Apple can reach $200 in the next one to two years, based on applying a 28x multiple to EPS of $7 in 2023 (the Street is around $6).
We believe that 7-9% top-line growth is sustainable for a few years until Apple launches into new product categories like AR, wearables, wellness, and automation (maybe vehicles). At that point, growth will step up again putting investors’ growth sustainability questions to rest, at least for a few more years.
Tight supply impact on September
For the September quarter we expect 1-2% upside to consensus estimates of $85B in revenue. Based on commentary from Apple’s last earnings call and our tracking of lead times, we believe the supply constraints along with recent power conservation measures in China reduced sales in the quarter by about 5%. As a reminder, a 5% reduction in supply equates to 4-5 days increased lead times from historical levels across all products, a trend we have observed throughout the September quarter.
Tight supply impact on December
Apple does not give formal guidance, opting instead to give commentary on trends in the business. For the June quarter outlook, the company gave expectations supply challenges would have a negative $3.0-$4.0B impact on iPad and Mac supply. In the end, the actual impact was slightly below expectations, coming in at $2.5B.
- For the September quarter, the language around the supply environment worsened, with the company noting the impact for the September quarter will be greater than the June quarter for iPhone and iPad. We interpret this to be $4B headwind. The only difference is in September the constraints primarily impact iPhone and iPad.
- For December, we believe the supply chain has further tightened and therefore believe the company will suggest a 5-7% headwind for December. This would imply about a $6.0-$8.0B headwind.
Putting it together, we believe expectations for December revenue will settle in around $115B, compared to current Street estimates of $118B.
Expectations by segment for September
- Revenue: Loup at $86.4B (up 34% y/y), slightly ahead of the Street at $85.0B. Keep in mind the strong y/y revenue growth is aided by the shift in timing of the iPhone release.
- EPS: Loup at $1.30 (up 77% y/y), slightly ahead of the Street at $1.24.
- iPhone revenue: Loup at $42.0B (up 59% y/y), ahead of the Street at $41.2B. Our estimate of 59% growth gets about a 30% benefit from the shift in timing of the latest iPhone release. Adjusting for the timing of the iPhone, we believe overall iPhone sales would have been up about 25% y/y.
- Mac: Loup at $9.9B (up 10% y/y), above the Street at $9.1B.
- iPad: Loup at $7.3B (up 8% y/y), ahead of the Street at $7.2B.
- Wearables, Home and Accessories: Loup at $9.7B (up 24% y/y), ahead of the Street at $9.4B.
- Services: Loup at $17.5B (up 20% y/y), essentially inline with the Street at $17.7B.
- Gross margin: Loup at 42.5%, ahead of the Street at 41.0%.
Outlook for December
- Revenue: Loup at $115.2B, vs. Street at $118.7B
- iPhone: Loup at $62.9B (down 5% y/y) vs. the Street at $68.1B.
- Mac: Loup at $9.4B (down 8% y/y) vs. Street at $9.2B.
- iPad: Loup at $9.0B (down 7% y/y) vs. Street at $8.9B
- Wearables, Home and Accessories: Loup at $15.6B (down 20% y/y) vs. Street at $14.2B
- Services: $18.3B (up 16% y/y) vs. Street at $18.6B
- Gross margin: Loup at 38.8%, essentially inline with the Street.
App Store Policy Changes Will Continue
In mid-September Judge Gonzalez Rogers weighed in on the Apple v. Epic trial. Apple won 9 of the 10 counts, with the loss related to steering. In hindsight, Apple anticipated the same outcome, and proactively made changes to App Store policies around steering in the month leading up to the September decision. The central topic related to App Store policies is the commission rates.
While commissions were not directly addressed in the suit, indirectly they were the central topic. The ruling allows Apple to maintain its current 30% commission for larger developers and 15% for smaller ones. While the court decision is a win for Apple, we believe the free hand of the market will determine the App Store’s long-term commission rates. History shows Apple is willing to change. In 2016, Apple reduced its commission for the 2nd year of subscriptions to 15% from 30%. In 2020, the commission for smaller developers was reduced to 15% from 30%.
Expected Change: It’s unclear how commission rates play out. Apple has until mid-December to build a framework to allow developers to steer. In 2022, we expect developers will be in data gathering mode to determine the most favorable approach. On one hand, if the developer steers customers to pay outside of iOS, costs will decline because commissions are no longer paid. That said, costs will not go to zero, given there’s an expense to maintaining a payments platform. Additionally paying customer conversion will go down given the extra payment steps. Humans are of course lazy, and transacting within iOS is easiest. The math for the large developer will most likely come down to a 80% breakeven hurdle. If conversion rates are above 80%, the developer will likely continue to steer. If conversion falls below 80%, they’ll likely transact inside of iOS. If the large developers have the brand to drive greater than 80% conversion, Apple may consider lowering the 30% take rate to win them back. In the end, I believe it’s unlikely we see any commission rate changes over the next five years. If I’m wrong, we see a floor of the large developer commissions at 15%.