Apple Earnings Call - Live Update

1:27 PT. - JS: Hi, everyone, and welcome to our live coverage of Apple’s Q2 financial results. I’m Macworld Editorial Director Jason Snell, and with me to cover this monetary extravaganza is Macworld Associate Editor Dan Moren. For the record, I’m wearing green today. Because green is the color… of money.

1:41 PT - JS: The results are out and we’ve got a news story about it. Apple’s analyst phone call begins at 2 p.m. Pacific.

1:53 PT - DM: We begin, as always, with the traditional piano elevator music. I believe this would be Bach’s Sonata in $7.51 billion. Bach, as you probably know, was renowned for his fondness for financial result conference calls.

1:55 PT - JS: While we’re waiting, let me give you a brief overview of the results. Mac unit sales were down over last quarter. Now, keep in mind that Apple’s first financial quarter is always its best, because it’s the quarter in which everyone buys iPods for the holidays, so most of the quarter-to-quarter measurements will be down this quarter. Macs obviously aren’t quite as big a stocking-stuffer gift, so the drop-off is less. This quarter ends a string of rising Mac sales that had gone on for the three previous quarters. However, the drop-off in sales was entirely due to the reduced sale of desktop Macs. Apple’s Laptop line had what I believe is its fourth consecutive record quarter in terms of units. The 1.43 million Mac laptops sold in the last quarter is the most Apple has ever sold.

1:57 PT - DM: We’ve been told that we’ll be getting underway shortly. Additional participants are supposedly being added to the call. You want to be early to get good seats.

1:58 PT - JS: In terms of overall revenue, Apple’s down from that humongous quarter last time, but if you remove the holiday quarters, the company’s upward revenue trend continues. In fact, this quarter’s revenue—$7.5 billion dollars—is more revenue than Apple made in the quarter encompassing the 2006 holiday season. It’s a small revenue quarter only by the massive standards of Apple’s $9.6B first quarter of this year.

2:00 PT - JS: Apple’s also shown a rebound when it comes to what the financial wizards call the ASP, or Average Sale Price, of iPods. Last year the number was dipping into the $160 range, but in the first quarter of this year it was $181, and for this quarter it was still $171. That suggests that iPod sales have skewed a bit higher-end lately—probably owing to increase sales of the iPod touch.

2:01 PT - DM: Here we go—no, false alarm. Still admitting more people. Popular this quarter, aren’t we? Whoops, someone left the speakerphone on for a second there. A fascinating insight into the lives of Apple’s financial personnel!

2:04 PT - DM: Alrighty, now we’re beginning for real. Here comes the open remarks from Nancy Paxton. As usual, we’ll be getting Peter Oppenheimer, Tim Cook, and the mysteriously silent treasurer Gary Wipfler. As usual, there are some “forward-looking” statements: we consider these “your mileage may vary” disclosures.

2:05 PT - DM: And now, heeeeeere’s Peter. As usual, Peter is very pleased to announce the best March quarter. $7.51 billion revenue, about $2 billion better than year again quarter. Operating margin better than expected at 17.5% because of better revenue. Earnings per share were $1.16. Here are some data points.

2:06 PT - DM: Revenue growth accelerated to 43% year over year, twice the 21% growth rate from March quarter last year. Healthy growth all over, international sales grew. 47%. Sales in retail were extremely song, growing 74% year over year. 33.7 million visitors, up 57% from YAQ. Retail stores sold to 50% new to the Mac customers, continuing to grow the platform. US education business grew 35% year over year, highest growth rate in any quarter in last 8 years.

2:07 PT - JS: Once again, the “more than 50% of the Mac sales in our retail stores were from people new to the Mac” claim is carted out. The mind boggles, but they keep saying it.

2:07 PT - DM: Mac products grew 59% year over year; 2.289 million Macs shipped, 51% growth over last March quarter. Sales of desktops grew 37% year over year, driven by strong demand for iMac, and Mac Pro. Sales of portables grew 61%: continued strong demand for MacBook and MacBook Pros, and successful launch of MacBook Air. Customers have responded well to breakthrough design of the Air and ultraportability. Ended quarter with 3-4 weeks of channel inventory.

2:09 PT - DM: Music accounted for 36% of revenue. 10,644,000 iPod sales. 1% up year over year, 8% revenue up and higher ASPs in every geographic segment, due to iPod touch. Beleive intro intro of software development kit will broaden interest even further. Shuffle sales were down in March quarter, but sales up following price reduction in February. Apple continues to maintain its objective of high market share in the US and to gain share outside the U.S. Share of the U.S. MP3 market was 73%, according to latest data. Outside US, grew share in every market. Began and ended quarter within target range of 4-6 weeks of channel inventory.

2:10 PT - DM: Sales from iTunes very strong in quarter, becoming largest retailer in US and beating Wal-Mart. Over 85% of US share of legally purchased music. Movie rental service well-received, and just begun selling TV shows in Germany. Will continue selling videos internationally.

2:11 PT - JS: What, iTunes is selling TV shows in Germany? Get Hasselhoff on the line, now!

2:11 PT - DM: Pleased with iPhone sales: 1.7 million in March quarter and expanded to include Austria and Ireland. Total sales recognized was $378 million. Total deferred revenue was $1.93 billion at end of March quarter. Compared to $1.44 billion in Dec. quarter. Developer response to iPhone SDK is “tremendous.” Over 200,000 developers have signed up and downloaded kit. Interest in iPhone enterprise is good: over 400 higher ed, and more than 1/3 of Fortune 500 companies. Because of free update, will delay revenue between announcement of new features until the features are available to customers.

2:13 PT - DM: Let’s discuss Apple retail, with 74% growth to $1.45 billion. 458,000 Macs sold, 67% increase year over year. Opened four stores, to end with 208. With an average of 205 stores, $7.1 million in average revenue, compared to $4.8 million in the year ago quarter. Primary objective in store is getting more out of the Mac, so 580,000 one-hour personal training sessions in the quarter. Planning first stores in Australia, China, and Switzerland. 45 stores to open in FY 2008.

2:14 PT - DM: Total gross margin was 32.9%, due to favorable commodity environment, weaker dollar, and higher revenue. $112 million in stock-based compensation. Tax rate slightly lower due to higher foreign earning, but expect 31% rate for second half of FY 2008.

2:15 PT - DM: $1 billion in cash in quarter, for $19 billion. In first half of FY 2008, generated $4 billion in cash. Looking ahead to next quarter, they anticipate revenue of $7.2 billion, approx 33% growth over prior June quarter. Expect gross margins about 33%, $20 million related to stock-based compensation. Generate earnings per share of about $1.

2:16 PT - JS: Interesting that they’re anticipating $7.2B revenue for the third quarter. In the past two years the third quarter has had more revenue than the second quarter. My initial response to the target of a slight drop in revenue for sequential quarters is that Apple is being really conservative. Maybe it’s the economy? If things go like they have the past two years, Apple’s third quarter would be better than its second./p>

2:16 PT - DM: 51% Mac sales increase is strongest sales in almost two decades, and about 2.5x market growth. Excited about iPhone SDK in June. Continue to be excited about new products in pipeline.

2:17 PT - DM: Phew. Enough numbers for you? Here comes the slightly less dense Q&A section.

2:17 PT - DM: Lehman Brothers: 32.9% was good gross margin, but a little color?

Cook: Commodity pricing in both DRAM and NAND flash market hit historically low level during March quarter. Expect pricing in current quarter to remain favorable, folding that into guidance. LCD is near supply/demand balance, stable pricing. Hard drive, optical drives, and other in balance. Expect historical pricing trends to be followed.

Lehman: Anything go against you in the quarter?

Oppenheimer: As we commented in last quarter, we expected gross margin to decline by 2.7% and exceeded guidance, only reduced by 1.8%. Better than expected results primarily due to favorable commodity environment, higher revenue, and weaker dollar. Sequential decline from Q1 primarily due to Leopard entering second quarter of sales. Change in OS accounted for 80% of sequential decline; also affected by shuffle price change; and international price reductions from changing economy. Higher mix of iTunes with lower gross margin, and decline from holiday quarter, as expected. Somewhat offset by favorable component pricing, ahead of guidance.

2:21 PT - DM: Lehman: In terms of iPhone, less availability towards end of quarter. Anything to give us confidence that can grow segment sequentially? Shortages?

2:21 PT - DM: Cook: We’re confident on hitting 10 million units for the year. In terms of shortages; we expected it to decline more on sequential basis than it did; beat our expectations, so started to decline in supply. US stores are experiencing more stock outs, and believe more phones being bought there with intention of unlocking, which remains a significant number.

2:22 PT - DM: Lehman: Can’t clarify that number?

2:22 PT - DM: Cook: Very difficult to come up with a good estimate at present. We believe it’s a proxy for the worldwide demand of the phone. Hoping to help by rolling out to rest of world.

2:23 PT - JS: Let’s deconstruct the fact that Apple remains “confident” on hitting its goal of shipping 10 million iPhones this year. A lot has been made of this, but it’s not unreasonable at all. This quarter, the first of calendar year 2008, Apple sold 1.7 million iPhones. Let’s assume relatively slow growth next quarter, from 1.7 to 1.9 million. For the third quarter, let’s assume that additional international roll-outs and the release of a new iPhone model drives some more sales, to 2.5 million. And for the holiday quarter, let’s estimate a doubling of the prior quarter to 5 million, which happened last year, owing to holiday sales. That’s more than 11 million right there. Very, very doable.

2:23 PT - DM: STN Midwest: Channel questions. Direct vs indirect mix? Any update on expansion to Best Buy?

2:23 PT - DM: Oppenheimer: Direct sales were 53%, up from 49% in YAQ.

Cook: Little over 400 stores in Best Buy. Aim to be at 600 in the summer. Rollout going extremely well.

Lehman: On education: delineate between students and institutions?

Cook: Up 35%. Both institutional and individual were strong. Now in big K-12 quarter; back to school more of higher education quarter. 35% is highest growth rate in Ed in 8 years (good for Ed!). Recently learned that surprased Dell last year in portables in education.

2:25 PT - DM: RBC Capital: Qualify the reasons for delay of revenue recognition for iPhone? Also, how to relay that into iPhone numbers?

Oppenheimer: We’re doing this because we announced specific new features that will be included in iPhone 2.0 software that we we plan to provide for free to customers who purchased after March 6th announcement. Delay revenue recognition between March 6th and date of delivery for software. Once software delivered, will resume revenue recognition and begin to recognize iPhone revenue on a go-forward basis (doesn’t impact phones before March 6th or payments for carriers). [Does this mean iPhone 2.0 will not be free to those who bought before March 6th, or am I unclear?]

RBC Capital: Discuss importance of 3G and timing of pending products on how it weighs into the 10 million at current momentum?

Cook: Confident with hitting the 10 million. If part of that is more geography, we are confident we can roll out more places in Europe and Asia this year.

2:28 PT - JS: An interesting accounting decision that is over my head, I admit, since I Am Not An Accountant. But basically Apple’s not going to count its revenue for iPhone hardware sales from the day the company announced the iPhone 2.0 software until it’s released in June. What that seems to mean is that iPhone revenue is a bit lower this quarter than it would otherwise be, because most of a month wasn’t counted. But presumably the iPhone 2.0 software will ship in June as promised, at which point the dam will break and the third-quarter number should include all of the pent-up revenue, plus the stuff left over from this quarter.

RBC Capital: Does that include unlocked phone percentage?

Cook: Unit number includes locked and unlocked phones.

RBC Capital: Economic headwinds? Any comments.

Oppenheimer: We’re going to leave economic commentary to others. We’re focused on managing our business, which performed exceptionally well in March quarter, based on outstanding, innovative business. Revenue in US grew 40%, twice last year’s March growth rate of 20%, and faster than December quarter growth. Traffic in stores up, and we only have 200 stores. Very confident in business and strategy (this is all Peter’s usual boilerplate).

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