On Friday, Citi analysts released an update to their estimates for first-quarter iPhone sales cutting their initial forecast by 5 million units. But more telling was the fact they reduced their initial iPhone XS Max forecast by a whopping 48% citing a weak outlook.
The news saw shares of Apple Inc. (AAPL, Financial) drop by nearly 1.5% from the daily high to close the day at about $156 per share. The company’s market value has dropped by more than 30% since racing past the $1 trillion market cap to hit an all-time high (post-split) of about $232 per share in October 2018.
Some of the company’s landslide plunge in stock price could be attributed to a slowdown in iPhone sales. Reports also suggest that the company’s recent change in reporting policy when it revealed it will no longer be reporting unit sales for iPhones and iPads has an impact on transparency, which at times can be misinterpreted. However, it would be wrong to discount the level of impact caused by the general market sentiment, which has been extremely bearish during the fourth quarter of 2018.
Since stocks peaked in early October 2018 following an impressive third quarter performance, most, especially tech stocks have been on a downward spiral. This paints a contrasting picture when compared to the same period in 2017.
Shares of Alphabet Inc. (GOOG, Financial) (GOOGL, Financial) dropped by nearly 20% between Oct. 1 and Dec. 24, 2018 while Amazon.com Inc. (AMZN, Financial) stock price plunged by 33% during the same period. Facebook Inc. (FB, Financial) and Netflix Inc. (NFLX, Financial), which make up the rest of the FAANG stocks weren’t spared too. They both shelled out 23% and 38% of their market value during the same period.
As such, it is correct to infer that there is more to Apple’s stock price plunge than a case of declining iPhone unit sales and the subsequent change in reporting policy.
But that does not mean that a slowdown in iPhone sales won’t affect the company’s top line. In simple terms, this could easily imply a decline of at least $4 billion worth of iPhone sales in the first quarter of the fiscal year 2019 working with an average selling price (ASP) of about $800 as per the fiscal year 2018 estimates.
However, Apple’s decision to stop reporting unit sales for its market-leading products could explain why investors should not be reading too much into the company’s slowing growth in unit sales.
The company has been gradually diversifying its business to adapt it to new market trends where technology companies are relying more on subscription-based revenues than product sales. One great example of a company that has been reaping the benefits of introducing a subscription-based business model to its customers is the computing software giant, Microsoft Corporation (MSFT, Financial), which has witnessed more stable revenue growth since launching Office 365 alongside its cloud services. Netflix and Amazon have also witnessed rapid business growth because of this model.
Over the last few years, Apple has launched Apple Music, Apple Pay, AppleCare, and cloud services. And together with the App Store, the company set new all-time revenue records for the service provision units in Q4. This shows that there is significant progress made in the new direction.
Furthermore, one of the reasons why new iPhone unit sales have been declining in recent quarters is because some iPhone owners have not been upgrading to newer iPhones as frequently as before. So, it is not a case of switching to another smartphone type from a competing manufacturer. This means that even though there are fewer new iPhone owners, the overall number of iPhone owners continues to grow.
Therefore, there are more people using the company’s services, which explains why revenues from Apple Music, Apple Pay, AppleCare, and cloud services hit record highs in the most recent quarter.
As such, investors should be focusing more on the company’s overall top line and net income rather than individual unit sales for iPhones and iPads, because Apple is making significant milestones as it continues to adapt its business to a subscription model.
In summary, Apple is making good progress in growing service revenue that could become its most important growth catalyst in a few years. However, the smartphone business is currently still the main revenue generator and unit sales declines will eventually begin to affect the overall revenue growth. But for now, there is nothing much to read into the iPhone production cuts because the services segment seems to be covering for that well.
Disclosure: I have no positions in the stocks mentioned in this article.
