Apple’s Earnings Pivot: It’s The Ecosystem, Not The Phone

It’s all about the ecosystem, not the iPhones. If there was one takeaway from the earnings call yesterday (Jan. 29) with Apple CEO Tim Cook, that would be it.

Apple entered this earnings season under a level of scrutiny and pressure to which the top-tier tech firm is wholly unaccustomed. In an early January letter to shareholders, Cook sought to brace investors for a miss on revenue targets that it set for the holiday quarter — pushed by macro conditions in the Chinese market, and weaker-than-expected iPhone revenues, he said.

Twenty-four hours before the much-anticipated earnings were announced, reports began to circulate about a FaceTime glitch that made it possible for iPhone users to listen in on those they were calling via FaceTime, even on unanswered calls. Apple has since disabled the buggy feature, and a fix is expected by the end of the week, but it wasn’t the headline the company wanted going into such a high-pressure earnings release.

Apple didn’t necessarily need a great performance, but — as Morgan Stanley Equity Research Analyst Katy Huberty said in a note released pre-earnings — it had to put in a “better-than-expected performance” to quell a disquieted market. More or less, Apple managed to pull that off, though it was certainly not a great one: Apple reported a 5 percent decline in overall revenue, and a 15 percent decline in iPhone revenue during the holiday quarter.

It was better than analysts were expecting, though. Earnings per share came in at $4.18, slightly edging out the $4.17 forecast. In addition, revenue nudged a slight beat — $84.3 billion versus a forecast of $83.97 billion. However, iPhone revenue was a miss, with $51.98 billion as opposed to the $52.67 billion that was expected — though all of Apple’s other devices came out ahead of or in line with analysts’ predictions. Services were also a beat, bringing in $10.9 billion versus the $10.87 billion forecast.

Cook had much to say about the services category in his post-release debrief with investors — and on what he described as the underlying depth and strength of Apple’s ecosystem of 1.4 billion installed devices at the start of 2019, a 100 million device increase from the start of 2018.

He said that Apple device owners — fueled by things like the battery replacement program — are “holding on to their iPhones longer than they have in the past,” which is depressing iPhone revenue. Yet, that massive and growing installed base of users is “fueling our fast-growing services business,” he noted.

Services is the catch-all category that covers the App Store, Apple Pay, Apple Music and the Apple Cloud. Cook said Apple Music now claims 50 million paid subscribers, and that the App Store set records on Christmas Day and throughout Christmas week. On New Year’s Day alone, Cook told investors, the App Store captured $322 million in revenue.

Cook touted the accomplishments of Apple Pay, which reported some 1.8 billion transactions during the holiday quarter, twice the volume it saw a year ago. He also pointed out Apple Pay’s recent expansion into Target and Taco Bell, as well as its continuing international growth, most recently in Germany, Belgium and Kazakhstan.

“Shoppers around the world love Apple Pay, and it has increasingly become an indispensable part of consumers’ daily lives,” Cook noted in his call with analysts.

All in all, services revenue has grown from around $8 billion in 2010 to over $41 billion in 2018. That revenue is not entirely led and dominated by the App Store, as some have speculated. Though he did not offer a specific breakdown, Cook noted that the largest individual category contributed less than 30 percent to the services’ revenue — and that the newer services are experiencing “tremendous growth.”

Cook pointed to the continuing growth of the Apple Watch as well, and its expanding use as a healthcare management tool, once again noting that it was becoming an “indispensable tool” for users worldwide.

Furthermore, he offered additional insight on China — beyond what was written in the early January letter. Cook noted that, though Chinese growth was down by $4.8 billion (a result of what he repeatedly referred to as “macro-economic conditions”), Apple remains bullish on China, broadly speaking. Apple’s developer base in that country is 2.2 million strong, with wearable sales up 50 percent, and the total active installed base in-nation continues to grow, even as iPhone sales have slowed down.

On the whole, investors liked — or were, at least, relieved by — Apple’s earnings release, and stocks jumped 6 percent on the announcement.

“The issue for those who hate Apple? Sorry, guys. No more new ammunition,” said Jim Cramer, host of “Mad Money,” after the iPhone maker’s report.

Still, some aren’t so convinced that Apple has made the case that its ecosystem — growing though it is — has the power to do the iPhone’s heavy lifting.

“Apple hasn’t earned the right to be considered the everything-but-the-iPhone company. It needs to show that add-on products and services can continue to go up, now that new iPhone sales are going in reverse,” Bloomberg noted.

That will be a tall order for Apple, particularly if “macro-economic conditions” continue to break against the company. However, Cook was (as ever) positive about Apple’s fortunes going forward, and excited for “upcoming innovations” to be announced later in the year.