Apple Q1 Preview: Has The iPhone Peaked?

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Apple (NASDAQ:AAPL) is scheduled to report its Q1 FY 2016 earnings on Tuesday, January 26th. It will likely be a closely watched affair, as investors try to gauge the future of the iPhone after a stellar fiscal 2015 that saw the company post record shipments amid full-year availability and pent up demand for its large-screen handsets, as well as sales in Greater China. However, Apple’s stock has declined by over 15% over the last three months, amid concerns that the latest iPhone 6S devices are not selling as strongly as expected, and also due to concerns about the slowing Chinese economy. Below, we take a look at the key metrics that we will be watching for Apple’s iPhone business when the company reports earnings Tuesday.

We have a $144 price estimate for Apple, which translates to a market cap of about $840 billion. Our estimate is significantly ahead of the current market price.

iPhone Sell Through, Channel Inventory

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While slowing growth in the global smartphone market and economic headwinds in China – currently the largest iPhone market – have made investors concerned about the future trajectory of iPhone sales, there have been some more negative cues over the last few weeks. For example, iPhone component suppliers such as Dialog Semiconductor and Jabil Circuit provided tepid guidance, indicating that demand for the iPhone 6S is lower than expected. The iPhone saw record shipments of 74.5 million units during Q1 FY 2015, and it will be interesting to see how the number trends this quarter. Now, while Apple had previously indicated that it expects iPhone shipments to increase  year-over-year for the holiday quarter, there is a possibility that the number could be fueled by dealer inventory growth rather than sell-throughs (purchases by end customers). This would imply that any potential reduction in demand will only reflect on Q2 numbers. We will be closely watching iPhone shipments, sell through as well as changes in channel inventory.

iPhone ASPs And Overall Gross Margins

iPhone ASPs have been trending higher ($670 in Q4’15, up 11% year-over-year), as Apple held on to its storage mix strategy (16 GB/64 GB), pushing more customers towards higher-capacity iPhone models, while also benefiting from the availability of the more expensive Plus models. [1] It appears likely that the number will hold up in Q1, since the company has guided overall gross margins of between 39% and 40% for the quarter (the highest guidance level in at least six quarters) and iPhone pricing is typically a big lever of Apple’s gross margins. Moreover, it is important to note that this guidance comes despite significant currency headwinds, particularly from China. While Apple didn’t provide gross margin numbers adjusted for currency, it noted that its revenue guidance would have been 700 basis points higher if not for FX headwinds. [2]

Take Rate For iPhone Upgrade Program

Apple’s  new equipment installment scheme for the iPhone, dubbed the iPhone Upgrade program, was launched along with the iPhone 6S last fall. The program helps to shorten the upgrade cycle for Apple’s most profitable product, by incentivizing customers to trade in their devices annually, while also bundling the high-margin Apple Care protection plan. (related: How Much Can The iPhone Upgrade Add To Apple’s EPS?) While it’s obviously early to gauge the success of the program, we will be looking for specific commentary from management or proof points on how customers are taking to the program.

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Notes:
  1. Q4 2015 Unaudited Summary Data, Apple []
  2. Apple Q4 2015 Earnings Press Release []