We had already been treated to a preview of Apple's financial earnings report for Q1'19 back on January 2, when the company issued its first profits warning since 2002. The bad news had already had time to settle, and for the market corrections to happen. But what was really interesting is that the iPhone sales drop happened at what was otherwise a strong quarter. Another thing that was noteworthy is that Apple CEO Tim Cook is finally ready to acknowledge that iPhone pricing may have played a part in the decline.
Outside of the iPhone, Q1'19 was a strong quarter for Apple. According to Apple, revenues from "Mac and Wearables, Home and Accessories also reached all-time highs, growing 9 percent and 33 percent, respectively, and revenue from iPad grew 17 percent." That's a staggeringly strong quarter.
At the same time, its Services business hit an all-time high of $10.9 billion, an increase of 19 percent compared to the year-ago quarter.
Earnings per share (EPS) also hit an all-time record of $4.18.
But one rotten apple can ruin an entire barrel of sweet, sweet fruits. And that rotten apple in this instance was the iPhone.
Revenue from the iPhone fell 15 percent compared to the year-ago quarter.
However, despite that, the global active installed base of iPhones also hit of 1.4 billion in the first quarter.
So where did the quarter go wrong?
In his introductory remarks for the earnings call, Cook had this to say:
So, what's behind this? It's important to understand what's going on from the customer perspective at the point of purchase. We believe that it's the sum of several factors. First, foreign exchange. The relative strength of the U.S. dollar has made our products more expensive in many parts of the world.
Second, subsidies. For various reasons, iPhone subsidies are becoming increasingly less common. In Japan, for example, iPhone purchases were traditionally subsidized by carriers and bundled with service contracts. Competitive promotional activity frequently increase the amount of subsidy during key periods. Today, local regulations have significantly restricted those subsidies as well as related competition. As a result, we estimate that less than half of iPhones sold in Japan in Q1 of this year were subsidized compared to about three quarters a year ago and that the total value of those subsidies had come down as well.
Third, our battery replacement program. For millions of customers, we made it inexpensive and efficient to replace the battery and hold onto their existing iPhones a bit longer.
Now this struck me. Nowhere did he mention a softening in the Chinese market. In fact, in his opening statement, he only had good things to say about China, pointing out that revenue from China grew over the year. However, Apple CFO Luca Maestri had no problem pointing the finger at the Chinese market:
On a geographic basis, most of the decline from last year came from Greater China and other emerging markets with difficult macro and foreign exchange conditions affected our results.
But the really interesting information came in an exchange between Cook and analyst Steve Milunovich.
Some have the perception that you priced the new products, the new iPhones too high, what have you learned about price elasticity? And do you feel that perhaps you pushed the envelope a little bit too far and might have to bring that down in the future?
Steve, this is Tim. If you look at what we did this past year, we priced the iPhone Xs in the U.S. the same as we priced the iPhone X a year ago. The iPhone Xs Max, which was new, was $100 more than the Xs. And then we priced the XR right in the middle of where the entry iPhone 8 and entry iPhone 8 Plus have been priced. So, it's actually a pretty small difference in the United States compared to last year.
However, the foreign exchange issue that Luca spoke of in the call, and made that difference or amplified that difference in international markets, in particular, the emerging markets, which tended to move much more significantly versus the dollar.
And so what we have done in January and in some locations and some products is essentially absorbed part or all of the foreign currency move as compared to last year and therefore get close or perhaps right on the local price from a year ago. So, yes, I do think that price is a factor. I think part of it is that the FX piece.
And then secondly in some markets as I had talked about in my prepared remarks, the subsidy is probably the bigger of the issues in the developed markets. I had mentioned Japan, but also even in this country even though the subsidy has gone away for a period of time. If you're a customer that your last purchase was a 6s or 6 or in some cases even a 7, you may have paid $199 for – and now in an unbundled world it's obviously much more than that. And so we are working through those and we've got a number of actions to address that including the trade-in and the installment payments, which I had mentioned as well.
There are a lot of factors here around price sensitivity. An acknowledgement that the newer iPhones were more expensive, that foreign exchange issues played a part, and that the withdrawal of subsidies in some territories resulted in some level of sticker shock for buyers.
But there's also this realization: "So, yes, I do think that price is a factor."
Cook did go on to give this bit of insight in response to another question:
"To give you more color I would say that, the XR is our most popular model and it's followed by Xs Max and then the Xs."
So the most popular iPhone is the cheapest, with the most expensive in second place. That's an interesting split, because it means that Apple is faced with the task of cutting prices in some territories, while not devaluing the iPhone in countries where sales are still strong.
That could be quite a challenge.
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