Apple Inc. (AAPL) F4Q 2013 Earnings Conference Call October 28, 2013 5:00 PM ET
Tim Cook - CEO
Peter Oppenheimer - SVP, CFO
Luca Maestri - Vice President and Corporate Controller
Nancy Paxton - Senior Director, Investor Relations
Katy Huberty – Morgan Stanley & Co. LLC
Bill Shope - Goldman Sachs
Antonio Sacconaghi - Sanford C. Bernstein
Ben Reitzes - Barclays Capital
Gene Munster - Piper Jaffray
Shannon Cross - Cross Research
Steve Milunovich - UBS Securities
Mark Moskowitz - JPMorgan
Chris Whitmore - Deutsche Bank
Please standby, we are about to begin. Good day, everyone, and welcome to this Apple Incorporated Fourth Quarter Fiscal Year 2013 Earnings Release Conference Call. Today’s call is being recorded. At this time for opening remarks and introductions, I’d like to turn the call over to Nancy Paxton, Senior Director of Investor Relations. Please go ahead.
Thank you. Good afternoon, and thanks to everyone for joining us. Speaking first today are Apple’s CEO, Tim Cook; and CFO, Peter Oppenheimer and they will be joined by Vice President and Corporate Controller, Luca Maestri for Q&A session with analysts.
Please note that some of the information you’ll hear during our discussion today will consist of forward-looking statements, including without limitation, those regarding revenue, gross margins, operating expenses, other income and expense, stock-based compensation expense, taxes and future products. Actual results or trends could differ materially from our forecast.
For more information, please refer to the risk factors discussed in Apple’s Form 10-K for 2012, the Form 10-Q for the first three quarters of 2013 and the Form 8-K filed with the SEC today along with the associated press release. Apple assumes no obligation to update any forward-looking statements or information, which speak as of their respective dates.
I’d now like to turn the call over to Tim Cook for introductory remarks.
Thanks, Nancy. Good afternoon, everyone and thank you very much for joining us. We are eager to share with you the results of the final quarter of Apple’s fiscal 2013 with a strong finish to an amazing year and Peter will provide details about the September quarter shortly.
But first I’m happy to tell you that Apple’s business is stronger than ever. We are in a unique position of having world class hardware, software and service skills under one road, which enables us to provide an unparallel user experience to 100s of millions of customers. And working with our vibrant developer community, we’ve built a large and thriving ecosystem.
We are winning with our products in all the ways that are most important to us, in customer satisfaction, in product usage and in customer loyalty. Our relentless focus on providing innovation that enhances our customer’s lives is evident in extraordinary list of products that we’ve launched in just the last couple of months.
From the colorful iPhone 5c and forward thinking iPhone 5s to the powerful new iMac, MacBook Pro and Mac Pro to the stunning iPad Mini with Retina display and the dramatically thinner, lighter and more powerful iPad Air.
Thanks to a deep collaboration between our design and engineering teams. We also launched iOS 7 with a stunning new redesign, powerful new features and a great new service called iTunes Radio. We introduced OS X Mavericks bringing new core technologies for breakthrough power efficiency and performance to our Mac and we introduced next generation iLife and iWork apps for iOS and OS X. And we’re making all of this incredible software free because we want our customers to have access to the greatest new features. All of these are products that only Apple could have delivered and most companies would be proud to just have one of them.
Looking back, we’re very pleased with Apple’s many accomplishments during fiscal 2013. Our customers had an incredible response to our product line up, buying a 150 million iPhone, 71 million iPads and 16 million Macs across the fiscal year.
We expanded the breadth and depth of our ecosystem and we generated over $16 billion revenue from iTunes software and services. We also welcomed almost 400 million visitors to our retail stores and opened or remodeled 49 new stores and for the second year in a row we produced over $50 million in revenue per store.
We generated record total company revenue of $171 billion, earnings of $37 billion and operating cash flow of $54 billion. We paid over $8 billion in capital expenditures to both to our supply chain, expand our infrastructure and increased our retail footprint. We also completed 15 strategic acquisitions. That’s an average of one acquisition every three to four weeks.
We more than doubled the size of our capital return program to a $100 billion, including the largest share repurchase authorization in history and we become one of the largest dividend payers in the world.
In fact, we returned over $36 billion to shareholders to dividend and share repurchases in the last five quarters alone. We remain firmly committed to our objective of delivering attractive returns to shareholders through both our business performance and a return of capital. We review our capital program regularly and our orders engaged in the discussion of capital allocation on an ongoing basis.
We have solicited feedback on our capital return program from shareholders in the past. We greatly appreciated their suggestions and we will actively seek their input again this year. As we’ve in the past, the Board and the Management team will consider a wide range of issues and be thoughtful and deliberate and we will announce any changes to our current program in the first part of the new calendar year.
We are off to a great start in fiscal year ’14. We continue to be very confident in Apple’s future and we see significant opportunities ahead of us and both current product categories and new ones. We are participating in large and growing markets. Today smartphone penetration of the global handset market is only a little over 50%.
The smartphone category is expected to grow significantly in the next few years from about 1 billion units per year this year to over 1.7 billion in 2017. And the tablet market is growing at an even faster way from about 225 billion units this year to over 400 million in 2017. We are continuing to invest in R&D and distribution, we’re expanding our geographic coverage and we’re building upon a phenomenal, but still very young retail store presence.
We are also proud to be a force for good in the world beyond our products, whether its improving working conditions of the environment, standing up for human rights, helping eliminate AIDS or reinventing education, Apple is making substantial contributions to society.
I would like to thank all of our customers and our long-term shareholders for their loyalty and I’d also like to thank Apple’s many talented employees who have worked tirelessly to bring us this far and who are passionately focused on making great products that enrich people’s lives.
I’d now turn the call over to Peter to discuss the details of the most recent quarter. Peter?
Thank you, Tim.
We are pleased to report the results of the final quarter of Apple’s fiscal year ’13 with record four quarter iPhone sales, driving our highest September quarter revenue ever.
Revenue for the quarter was $37.5 billion, up $1.5 billion or 4% from the year-ago quarter, and slightly above the high end of the guidance range. Gross margin was 37% at the high end of our guidance range, and operating margin was $10 billion, representing 26.8% of revenue. Net income was $7.5 billion translating to diluted earnings per share of $8.26.
As for the details of the quarter, I would like to begin with iPhone. We sold 33.8 million iPhones compared to 26.9 million in the year-ago quarter, an increase of 6.9 million or 26% and a new September quarter record. iPhone sales were ahead of our expectations and grew stronger year-over-year in each of our geographic segments.
We were particularly pleased with growth in a number of developing markets with unit sales up sharply year-over-year in Latin America, the Middle East, Russia and India. We were also very happy to add NTT Docomo to our carrier line up in Japan, a country where demand to iPhone has been especially strong.
iPhone sales remain very robust in the U.S with comScore estimating that Apple was the leading smartphone manufacture with a 40.7% smartphone subscribership for the three months ending in August. And among North American customers polled by ChangeWave late last month, we plan to purchase the smartphone with a 90 days, 63% indicated they plan to purchase an iPhone.
We exited the quarter with about 14.3 million total iPhones in channel inventory, which represented a sequential increase of 3.3 million from the June quarter and placed us at the low end of our target range of 4 to 6 weeks of iPhone channel inventory on a look forward basis.
Customers are loving their iPhones. Based on the most recently published research, ChangeWave measured a 96% customer satisfaction rate among iPhone users and Kantar measured a 92% customer loyalty rate, significantly higher than the competition. And we believe that a great customer experience translates to much higher usage. In fact, Experian reported that iPhone users spend an average of 53% more time each day on their phone than android phone users.
iPhone continues to be a key productivity tool for organizations around the world. 85 apps from the app store has well above -- as well as those custom built for internal use. In fact, nearly 35,000 companies representing millions of employees worldwide are building custom apps that address specific workflow improvements with their iPhones and iPad users.
In the U.S., over 14,000 employees of Johnson Controls are using iPhones for work. The company has created in-house apps that have enhanced field technician service delivery and customer communications. In China, AVIC International, a unit of Aviation Industry Corporation of China has equipped 27,000 employees with iPhones to access internally developed apps for office, administrative documentation, approval processes in key business intelligent systems.
Turning to iPad, we sold 14.1 million iPads during the quarter compared to 14 million in the year-ago quarter. iPad sales exceeded our expectations in the September quarter as we approach our new product introductions. We experienced robust year-over-year sales growth in Japan, Russia, the Middle East and we were pleased with strong back-to-school demand for iPad in the U.S. and Canada. iPad sell-through was roughly equal to sell-in, so we exited the quarter with about 4.1 million units of iPad channel inventory within our target range of four to six weeks on a look-back basis.
Interest in iPad remains incredibly strong. In an August survey by ChangeWave, consumers who intend to purchase tablets within 90 days, 55% indicated they find the purchase of iPads more than four times the rate of the next most popular alternative. And of those who already own iPads, the survey measured a 99% customer satisfaction rate. The momentum of iOS devices in enterprise also remains incredibly strong.
In its latest Mobility Index Report, Good Technology indicated that the iOS platform accounted for 95% of enterprise mobile app activations and 72% of all mobile device activations in the September quarter while iPad accounted for 90% of total tablet activations. Companies around the world are using iPads with custom apps to reinvent their legacy business processes; improving efficiencies across organizations and job sections.
For example, direct store delivery reps at Dr Pepper Snapple Group uses iPads to facilitate communications and streamline the product delivery process. East Japan Railway personnel use iPad Minis to stay informed about schedule changes and access conductor manual. And Swedish manufacturer SKS uses a custom iPad app to calculate the life of their ball bearing products saving 10 to 15 minutes per calculation for every engineer several times per day.
Schools around the world continue to adopt iPad to transform teaching and learning in the classroom. In the U.K. the number of iPads sold to K-12 schools has more than doubled year-over-year and in Latin America; over 70,000 iPads are being used by systemic learner students [ph] across 800 schools to improve their learning experience.
Here in the U.S., school districts continue to rollout large iPad initiatives to students. The Coachella Valley School District in California is currently distributing over 19,000 iPads to its entire student body. In South Carolina every one of the Horry County School District's 10,000 middle school students will receive an iPad this year. These broad deployments are in part driven by the great educational content available on iPad and we're pleased to report that iBooks textbooks are now available across the U.S., U.K. and Australian national high school curricula.
Last week we were thrilled to introduce new iPads featuring the A7 chip with 64-bit desktop-class architecture, ultrafast wireless and expanded LTE connectivity. The new iPad Air features a beautiful retina display in an elegant unit body design that is 20% thinner and 28% lighter than the fourth generation iPad and the iPad Mini with retina display packs all the pixels of the iPad Air into its stunning 7.9 inch display and runs over 475,000 iPad apps available in the app store.
Turning to Mac, sales with 4.6 million Macs were above our expectations, which is a 7% decline from the year-ago quarter. IDC estimates that the global personal computer market contracted by 10% during the September quarter indicating that Macs continues to gain share just as they have with 29 of the last 30 quarters. We were especially pleased with strong year-over-year growth in sales of MacBook Air which we updated in June. In late September we updated iMac with fourth generation Intel quad-core processors, new graphics, next generation Wi-Fi and faster PCIe flash storage options.
Last week we launched new versions of MacBook Pro with retina display featuring fourth generation Intel core processors, faster graphics, long rate battery life and a more affordable price. Also last week we launched Mavericks, the 10th major release of OS X with more than 200 new features. Mavericks brings iBooks and Maps to the Mac, includes the new version Safari, enhances multi-display support, introduces Finder Tabs and Tags and delivers core technologies for breakthrough power efficiency and performance and is now free. We ended the quarter with Mac channel inventory that was just below our four to five week target range.
We continue to be very pleased with the growth of iTunes software and services in the strength of the Apple ecosystem. Our iTunes Stores generated record billings of $4.4 billion in the September quarter thanks to continued strong growth in sales of apps. The quarter's iTunes billings translated quarterly iTunes revenue $2.4 billion, up 15% from the year-ago quarter. The strong iTunes sales combined with other software and service revenue resulted in total quarterly revenue 4.3 billion from iTunes software and services, an increase of 22% year-over-year.
Cumulative app downloads have reached 60 billion and our app developers have now earned 13 billion from sales to the App Store, half of which they've earned in the last year. We had a tremendously successful launch of iOS 7 last month with hundreds of millions of downloads in the first few days alone, making it the fastest software upgrade ever. Last week we reported nearly two-thirds of iOS devices were already running iOS 7; that significantly high being the percentage of users running the latest versions of other mobile operating systems. This rapid transition in the latest version of iOS not only means that more customers are having the most advanced experience possible but it also enables developers to offer their latest app innovations to hundreds of billions of users in a single software release.
iOS offers something now for everyone with its great new design and features such as control center, AirDrop and iTunes Radio. In fact the number of unique listeners who have tried iTunes Radio is now 20 million and growing. iOS 7 also includes significant features that make iPhones and iPads more secure in users to manage in corporate environments, offering new ways to configure and deploy devices at scale.
New device management capabilities include control sharing of documents and attachments, App Store license management, wireless managed app setup and streamline mobile device management and enrollment. In terms of security, iOS 7 offers enterprise single sign-on, default third party app data protection and per app VPNs automatically connect stored corporate apps to the network without the need for users to change complicated settings.
I'd now like to turn to the Apple retail stores. The revenue for the quarter was 4.5 billion, up 6% from the year-ago quarter. The storage produced very strong iPhone sales with unit growth of 36% per store per week compared to the September quarter last year. W completed the remodels of two stores and opened eight new stores during the quarter ending with a total of 416 stores including 162 outside the United States. We are projecting a total of approximately 30 new store openings in fiscal year '14, about two-thirds of which will be outside U.S.
We also plan to remodel about 20 stores over the course of fiscal year '14. With an average of 411 stores opened in the September quarter, average revenue per store was 10.9 million compared to 11.2 million in the year-ago quarter. Retail segment income was 709 million. We hosted 99 million visitors to stores during the quarter which translates to 18,500 visitors per store per week. Operating expenses were 3.8 billion and included 467 million in stock-based compensation expense. OI&E was 113 million and the tax rate for the quarter was 25.9%.
Turning to our cash, we ended the quarter with 146.8 billion in cash plus short term and long term marketable securities, a sequential increase of $100 million from the June quarter. Our domestic cash was 35.5 billion at the end of the September quarter, a sequential decline of 5.2 billion largely attributable to our share repurchase activity. $111.3 billion or 76% of our total cash was offshore at the end of the September quarter, and cash flow from operations was $9.9 billion.
We paid $2.8 billion in dividends in the quarter and we executed an additional $5 billion in repurchases up 10.4 million shares of Apple stock during the quarter. This brings us to a cumulative total of $36 billion in payments for dividends and share repurchases over the last five quarters of which share buybacks were $23 billion. This has resulted in cumulative retirement of almost 47 million shares and represents 5% of the total shares outstanding prior to the launch of our repurchase program. More than 44 million of these shares have been retired in the past two quarters alone.
Finally given that our capital return program must be funded from domestic cash, and as a result of our payments to date, the cash that we can net domestically and return to shareholders to stop accumulating. In fact we give return to shareholders who invested essentially all of the increase in available net cash generated since the beginning of our capital return program in 2012. Our Board of Directors has declared a dividend of $3.05 for common share payable on November 14, 2013 to shareholders of record as in the close of this on November 11, 2013.
Now, as we move ahead into the December quarter, I would like to review our outlook which includes the types of forward-looking information that Nancy referred to in the beginning of the call. First, I was to explain a bit about revenue deferrals. We believe that our software and services play a tremendous role in delivering an overall experience that our customers have come to know and love. Over the last few years we have added significantly to the offering that we provide our customers a no incremental charge from operating system upgrade rights to non-software services such as Siri and iCloud.
So, iLife and iWork has become as essential for the user experience as mail, messages and calendar. So we’re now making iPhoto, iMovie, Pages, Numbers and Keynotes available as free downloads to customers who purchase new iOS devices and we’re also making Mavericks and future OS X upgrades as well as iLife and iWork free to our Mac customers. As a result of the traditional rights and features we are deferring a greater portion of the sale of each iOS device in Mac sold. We anticipate that the additional deferral per device sold coupled with our sequentially greater unit volume expectations in the December quarter will result in about a $900 million sequential increase in the net amount of revenue deferred for software upgrade rights and non-software services.
In total we expect revenue to be between $55 billion and $58 billion compared to $54.5 billion in the year ago quarter. We expect gross margins to be between 36.5% and 37.5% reflecting approximately a $105 million related to stock-based compensation expense. We expect OpEx to be between $4.4 billion and $4.5 billion including about $585 million related to stock-based compensation expense. We expect OI&E to be about $200 million and we expect the tax rate to be about 26.25%.
In closing, we are very pleased with the results of the final quarter of our fiscal year ’13. We enter fiscal year ’14 with an incredible lineup of products including our imaging in iPhone’s and iPad’s. We remain committed to delivering great innovative products and services that delight our customers and enhance their lives, and we’re very confident in our new product pipelines.
With that, I’d like to open the call to questions.
Thank you, Peter. And we ask that you limit yourself to one question and one follow-up. Operator, may we have the first question please?
Earnings Call Part 2: