Breaking Down Apple's Q3 2021 Results (AAPL Q3 FY 2021)

28 Oct 2021

Apple reported a rare mixed release with its fiscal fourth quarter earnings results on Thursday, after the closing bell.

Revenue of $83.36 billion (+29% YoY) missed the $84.84 billion consensus while earnings of $1.24 per share (+70% YoY) were in line with expectations.

While we never like to see a miss, the issue this time around is supply-based and it is not that surprising as the semiconductor supply constraints that impacted Apple’s ability to meet demand are well known. CEO Tim Cook cited this headwind during his prepared remarks, noting that by their estimate, the supply constraint and associated manufacturing disruptions impacted sales by $6 billion.

CEO Tim Cook commented on the release: “This year we launched our most powerful products ever, from M1-powered Macs to an iPhone 13 lineup that is setting a new standard for performance and empowering our customers to create and connect in new ways. We are infusing our values into everything we make — moving closer to our 2030 goal of being carbon neutral up and down our supply chain and across the lifecycle of our products, and ever advancing our mission to build a more equitable future.”

As a result of these disappointing numbers, shares of AAPL traded down ~4%. 

Services boost margins:

Taking a look at margins, which benefit from the growth in Services thanks to the segments higher margin profile, companywide gross margins came in at 42.2%, slightly ahead of the 42% consensus and representative of a 200bps YoY improvement.

• Driving that result was a 70.5% Services gross margin (+360bps YoY) and a 32.3% Products gross margin (+250bps YoY). Considering the stark difference in profitability profiles, it becomes clear why the growth in Services is so important.

• While Services represented 21.9% of sales, it represented 36.6% of operating income.

With the better margin profile, the recurring nature of the Services revenue means that investors put a higher value on the associated earnings stream, which is why we have seen the stocks valuation multiple expand in recent years alongside the growth in Services.

Segment Results

Starting with Products, segment sales of $65.083 billion (+30% YoY) missed expectations of $67.053 billion though do represent a September quarter record the company and again, this is where that $6 billion impact noted above was felt. Driving the segment results:

• iPhone: $38.868 billion missed expectations of $41.192 billion

• iPad: $8.252 billion outpaced expectations of $7.307 billion

• Mac: $9.178 billion missed expectations of $9.366 billion

• Wearables, Home and Accessories: $8.785 billion missed expectations of $9.283 billion

On the call, management noted that it was an all-time record quarter for Mac sales and a September quarter record for the iPhone, iPad and Wearables, Home and Accessories categories. Moreover, the team noted that “Around half of the customers purchasing Mac and iPad during the quarter were new to that product.”

Perhaps most importantly, management commented on the call that thanks to the strong sales performance and unmatched customer loyalty, Apple once again realized an all-time record on its installed base of active devices. That is a key comment because the installed base represents the gateway through which the company can sell its Services, and as noted above, Services growth is the key to improving profitability and sustaining the company’s valuation multiple.

On that note, Services sales, which don’t rely on semiconductor supplies were certainly the bright spot in the quarter, reached an all-time record at $18.277 billion (+25.6% YoY), well ahead of the $17.75 billion the street was looking for. Notably, the segment also saw record revenue in every geographic segment as well as “all-time records for Cloud Services, Music, Video, advertising, AppleCare, and Payment Services, and a September quarter record for the App Store.”

With these results, Apple has delivered a record $68 billion in Services record in FY2021, nearly three times the level seen just six years ago.

Speaking to some of the underlying drivers of Services growth, management called out that they are seeing increased customer engagement, with the number of paid accounts on Apple’s digital content stores growing double digits to a new all-time high. Furthermore, paid subscriptions continued to demonstrate robust growth with Apple now sporting over 745 million paid subscriptions across the services on its platform, a greater than 160 million in crease versus the year ago period and nearly five times the level seen less than five years ago.

Taking a look at some other financial metrics, Apple ended the quarter with a net cash position of $66 billion and on the call management reiterated the company’s goal of being “net cash neutral over time.” Apple returned $24 billion to shareholders in the quarter, with $20 billion coming via the repurchase of 137 million shares and $3.6 billion coming the form of dividend payments.

Guidance:

Looking ahead, management once again refrained from providing forward guidance, however, commented that they do “estimate the impact from supply constraints will be larger during the December quarter.” However, despite the supply-side headwind, management noted that demand remains strong and that they “expect to achieve very solid year-over-year revenue growth and to set a new revenue record during the December quarter.”

"For services, we expect our growth rate to decelerate from the September quarter but to remain strong.  We expect gross margin to be between 41.5% and 42.5%.  We expect OpEx to be between $12.4 billion and $12.6 billion. We expect OI&E to be around negative $50 million excluding any potential impact from the mark-to-market of minority investments and our tax rate to be around 16%.” 

Lastly, Apple’s Board of Directors declared a cash dividend of $0.22 per share of common stock payable on November 11, 2021, to shareholders of record as of November 8, 2021.

Takeaway: 

To summarize, the revenue miss means shares likely get dinged in the near-term, especially because the stock came into the print just a touch from all-time highs. The fact that it was due to supply constraints and not a lack of demand is important. This is a revenue delayed, not revenue loss, and will be understandable by the market. 

We will not be buying on this dip. We are lighter in the Apple position than we would like to be, but we would only change our cost basis if we can significantly improve it. That means we would only buy in the 130s.