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Signs of stress, but iPhone still delivers for Apple

iPhone sales were lower than Wall Street had expected, and the iPad suffered its worst quarter for four years, but Apple’s Teflon effect persisted, with strong fiscal Q4 performance on several key indicators.

Chinese sales, gross margin and average selling price were all up, at a time when these are pressure points for most device makers, and indicated the wisdom of Apple’s repeated decision to resist investor pressure to move towards the budget market. There are rumors, as usual, that a low cost iPhone will join the family in 2016 (powered by an Intel modem), but given Apple’s ability to keep turning in record shipments, it seems unlikely that will really fall into the budget category.

In its fiscal fourth quarter, which ended on September 26, Apple sold 48m iPhones, which was up 22% on the year-ago figure but below analyst forecasts. The device generated sales of $32.2bn, over 55% of total revenues of $58.01bn, up 27% year-on-year. The reliance on a single device family is a concern, especially as new categories like the Apple Watch, designed to reduce that dependence and inject new growth, are performing modestly. Apple did not break out Watch sales, but analysts estimate it sold 3.8m units in the quarter. Apple just said shipments were “up sequentially and ahead of expectations”.

For now, though, the trusty smartphone is delivering the goods. “The iPhone dominates the results, but it’s doing good enough to deliver growth for the company,” Walt Piecyk, an analyst at BTIG, told clients. “The concern was growth would be ending.”

Despite the intensifying competition and slowing growth in smartphones, the iPhone remains somewhat immune to the trends. The handset’s average selling price was up by over $60, to $659, in the quarter, thanks largely to the larger-screened 6s model – and even though Apple is increasingly dependent on budget-conscious emerging markets, especially China, to gain market share. Apple managed to increase its gross margin to 39.9%, above its guidance, though it said that margin would shrink somewhat in the current quarter, to between 38.5% and 39.5%.

Overall net income was up 31% to $11.1bn with earnings per share above Wall Street forecasts at $1.96. The company had $205.7bn in cash and investments on its balance sheet at the end of the quarter. For the full fiscal year, net income was up 35% to $53.4bn on sales of $233.7bn.

Apple CEO Tim Cook was careful to reassure shareholders that the holiday quarter – the key barometer of a consumer electronics firm’s fortunes and the first full quarter of iPhone 6 and 6s sales – would not disappoint. The firm is predicting sales between $75.5bn and $77.5bn, which would beat last year’s record number, though not repeating the 30% year-on-year growth figure that it achieved in the 2014 December quarter. As Apple’s revenues grow, clearly it gets harder to keep turning in high percentage growth. As Alex Gauna of JMP Securities put it: “The law of large numbers is working against them as they get bigger. It gets harder to show growth.” Wall Street expects Apple’s sales growth levels to drop to around 10% in 2016-2017, rather than the 20% range it has managed this year.

CFO Luca Maestri said that the strong dollar had weighed on results and forecasts. Apple calculates that the effect of currency exchange rates reduced its revenue growth by six percentage points, and this will rise to eight percentage points in the current quarter.

However, Maestri was upbeat, saying in an interview: “When you look at the type of revenue growth we had throughout 2015, it’s difficult to repeat those types of numbers, but given our size we feel very good about our prospects for the future.” Cook listed some of the reasons for that optimism, including a high rate of upgrades to the new iPhone models and of defections from Android, plus continued growth in China.

Cook told the Wall Street Journal: “We’re seeing a higher rate of switchers than previous iPhone cycles. And regarding China, he told the paper: “There are more people moving to the middle class in China than I’ve ever seen before or could ever imagine. The size of the market and the love of the smartphone, in particular the iPhone, is incredible.” Overall Greater China revenue was $12.5bn in the quarter, almost twice the year-ago figure, and Cook expects this to be Apple’s biggest market, overtaking the US, in the future. “I wouldn’t know there are any economic issues in China,” he commented.

Despite the resilience of the iPhone, and the Mac (whose sales rose 3.4% to a record 5.7m units), Apple still needs another killer device to take the pressure off its handset, which must eventually feel the cold winds of market saturation and rising competition. The iPad was supposed to be that device, but its day in the sun was a short one.

While still a leader in the tablet segment, that form factor has not achieved the dominance once predicted for it, and is sharing the post-PC market with ultrathin laptops, phablets, hybrids and others (Apple nodded to this fragmentation by introducing the iPad Pro, a direct rival to Microsoft’s Surface tablet-with-keyboard). The Pro may deliver some recovery in future, but in Q415, iPad shipments were down 20% to their lowest level for four years, 9.88m units – the seventh consecutive quarter of sales decline.

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