(Editor’s Note: This post originally appeared on Medium, Twitter co-founder Biz Stone and Evan Williams’ new publishing platform.)
Usually during Apple’s quarterly earnings calls, you have to read between the lines to guess what Apple’s really thinking. On Tuesday, all you had to do was read the actual lines, because Cupertino was remarkably candid for a change: there was no way that the Apple of 2013 could match the numbers of the Apple of 2012, but “new product categories” — like the iWatch — were going to blow the roof off the house in 2014. In the meantime, Apple needs investors to be patient… and they’re not above paying them off to make it happen.
It was an unusual conference call in many respects for Apple. CEO Tim Cook uncharacteristically spent the first few minutes of the call hand-wringing and setting up Apple’s earnings results defensively, saying things like: “Our revenues grew about $13 billion in the first half of this fiscal year. Even though that’s like adding the total first-half revenue of five Fortune 500 companies, our average weekly growth slowed to 19 percent, and our gross margins are closer to the levels of a few years ago.” Touchy!
Despite this, though, Apple’s earnings were actually pretty good, and actually beat both Apple’s own guidance and the Wall Street consensus, although not by nearly as much as in previous years.
But Apple’s juggernaut, while still formidable, has clearly slowed. The iPad is what is now driving most of Apple’s growth. Except for a 40% leap in iPad sales from a year ago, Apple’s product sales are all either slowing (iPhone sales grew just 6.5% in Q2 year-over-year, compared to 88% year-over-year growth in Q2 2012), stagnating (Mac sales didn’t grow at all year-over-year), or withering (iPod sales are down almost 37%). Apple’s also getting worse at converting revenue into profits: this is the second quarter in a row that Apple has made less profit on more revenue than it did a year ago.
Apple’s explanation for this is pretty simple. “Last year, our business benefited from both high growth demand for products, and a corresponding growth in channel inventories, along with a richer mix of higher gross margin products, a more favorable foreign currency environment, and historically low costs,” said Cook.
In other words, 2012 was simply too great a year to beat, a miracle year for Apple in which the stars aligned and the fates smiled upon the company. Manufacturing costs were at an all time low; the dollar went farther overseas; and Apple’s last-gen products were cheaper for them to make than the mind-bogglingly sophisticated iDevices of today.
Whether you believe that explanation or not, Wall Street investors buy stocks in faith of future growth… and Apple’s numbers this quarter and last have showed that Apple’s growth is slowing. Which is why Apple made a number of very atypical moves this earnings call.
First of all, Apple started throwing money at investors. Apple more than doubled its share buyback program to $60 billion, the largest buyback authorization in history. In addition, Apple raised its dividend by 15% from $2.65 to $3.05, paying stockholders a larger percentage of profits per share than they were getting before. That’s pretty good, equating to about a 3 percent dividend yield at the current stock prices; to put it in perspective, the average yield for the 20 largest dividend-paying companies in the United States is only a little higher, at 3.1%.
Even more unusual is that Apple openly signalled to investors what to expect from the company’s product pipeline in 2013 and 2014.
“Our teams are hard at work on some amazing new hardware, software, and services that we can’t wait to introduce this fall and throughout 2014,” said Tim Cook. “We continue to be very confident in our future product plans.”
That’s unambiguous: “Don’t get your hopes up for the next couple quarters.” Apple’s Q3 is not going to be buoyed up by a surprise WWDC product launch in June. There might be an incremental Mac spec bump or two, or a new accessory announced, but the earliest anyone will see new iPhones, iPads and iPods is in September, and it won’t be until the first financial quarter of 2014 (October through December) that we’ll start seeing a major change in Apple’s results.
That “2014’ stands out, though. In fact, later in the call, Tim Cook reiterated that 2014 was going to be a banner year for Apple. “I’m just saying we’ve got some really great stuff coming in the fall and across all of 2014.” (Emphasis mine.) That means 2014 won’t be like 2013, with all of its new products bundled up in autumn: Cook expects year-round product updates in 2014. But what will they be? What does Apple have in store next year?
That’s the other big reveal of the earnings call. Tim Cook straight out said new product categories are coming sooner rather than later.
“We will continue to focus on the long term, and we remain very optimistic about our future. We’re participating in large and growing markets. We see great opportunities in front of us, particularly given the long-term prospects of the smartphone and tablet markets, the strength of our incredible ecosystem which we plan to continue to augment with services, our plans for expanded distribution, and the potential of exciting new product categories.” (Again, emphasis mine).
To Apple, the Mac, the MacBook, the iPad, the iPhone and the iPod are all product categories; the iPad mini and iPod touch are product models. So Tim Cook’s not talking about just releasing a new iPhone or iPad here. He’s talking about Apple releasing an entirely new product in 2014. Maybe more than one. Note the plural.
The best bet right now on what Apple has planned next is the iWatch, which Jony Ive and a team of over 100 engineers are reportedly working on in Cupertino’s design labs. The perpetually rumored iTV looks like a less safe bet, given Apple’s total inability to negotiate a deal with content carriers rightfully twitchy of having Cupertino do to them what they did to the telecom and music industries, plus the complete vertical integration of TV making competitors, namely Samsung.
So what does Apple have planned for the fall? In addition to likely prospects such as a slimmer, streamlined fifth-gen iPad and an iPad mini with Retina display, the big question mark is what Apple intends to do about the iPhone.
iPhone growth has considerably slowed, and it has less to do with the iPhone 5 being in any way disappointing than it has to do with the fact that Apple has saturated the market with so many iPhones that anyone who can afford one probably already has one. Apple needs a true budget iPhone.
Tim Cook himself alluded to this fact during yesterday’s earnings call. “IDC estimates that the smartphone market will double between 2012 and 2016 to an incredible 1.4 billion units annually,” he noted. What Cook didn’t point out is that the majority of that growth is going to happen in the emerging third-world market, selling smartphones to people who have never owned one before. In China alone — a country quickly becoming one of Apple’s most important — there are over a billion people without smartphones. Addressing just a fraction of that market would lead to extreme iPhone growth.
Apple’s next challenge is to figure out a way to bring a premium smartphone experience to less affluent and third-world customers. All signs point to Infinite Loop working at just that. Two years ago, Cook said that he wanted Apple to be “for everyone” and “not just for the rich.” It appears that 2013 could be the year that promise is finally fulfilled, if only because it could be the only thing that jumpstarts explosive iPhone growth again.
The truth is that this quarter was just fine for Apple. In the eyes of Wall Street, though, Apple isn’t competing with other companies anymore: it’s competing with the Apple of 2012, the Apple of 2011, and so on. 2013 for Apple is, in the words of Topeka Capital’s Brian White, a “year to forget.”
By that metric, competing with a time-shifted doppelganger of itself from the past, Apple can’t win. So Apple has gone to unprecedented lengths to keep investor faith this quarter, including openly discussing future product release dates and entire new “product categories,” and paying investors off with increased dividends and massive stock buyback options.
The payoff for all of this isn’t going to land until financial year 2014, but it’s clear that when it does, Apple will have debuted its first entirely new product category since Steve Jobs died in 2011: possibly the iWatch, maybe the iTV, or perhaps something entirely different. Either way, though, Tim Cook says it’s coming, and for Apple fans and investors alike, that’s something to look forward to.
If 2013 is a year to forget, then Apple’s latest earnings call has promised that 2014 will be a year to remember. But the next two quarters are likely to be a rough ride for everyone.