With Apple (NASDAQ:AAPL) set to report Q1FY13 earnings on January 23, the average analyst EPS estimate sits at just $13.34, which would represent the first year over year earnings decline since the launch of the iPod. It is true that last year's Q1 had an extra week, but the expected earnings growth is tepid even after adjusting for that factor. The (relatively) low earnings expectations can be explained in part by gross margin concerns, but the consensus estimate for revenue growth of only 18% also plays a major role.
While Apple has a number of product lines, the iPhone is by far the most important to the company's financials. In last year's Q1, the iPhone and related products/accessories accounted for 53% of Apple's revenue. Moreover, since the iPhone has much higher gross margins than Apple's corporate average, it produces 60%-70% of Apple's profits. I believe that analysts are significantly underestimating the likely Q1 iPhone sales level. Every quarter, Philip Elmer-DeWitt (of Fortune.com) helpfully compiles analyst estimates for a variety of Apple performance metrics. Of the 32 Wall Street analysts who sent in unit estimates, the average estimate for Q1 is 47.6 million units. Indeed, 26 of those 32 estimates were clustered between 45 and 50 million units. However, recent data lead me to expect approximately 53 million Q1 iPhone unit shipments. At an ASP of over $600, this gap goes a long way to explaining Wall Street estimates for relatively slow revenue growth and sinking earnings.
Last week, U.S. telecom firms AT&T (NYSE:T) and Verizon (NYSE:VZ) provided very useful data on smartphone sales. On January 8, AT&T announced record smartphone sales of over 10 million units in the quarter, with iPhone (and Android) unit sales setting new records. Analysts at Trefis have pointed out that approximately 80% of holiday quarter smartphone activations at AT&T tend to be iPhones. I assume that the iPhone may have lost some market share at AT&T, due to its high market saturation there, but that AT&T's activations are slightly higher than 10 million. Therefore my estimate of AT&T iPhone sales is 8 million units.
Trefis extrapolates from the AT&T data to an estimate of 47 million iPhone sales, based on AT&T's 17% share of total iPhone sales in FY12. However, the rest of the iPhone market is growing substantially faster than AT&T. In large part, this is because AT&T had a monopoly on the iPhone within the U.S. until early 2011. As AT&T iPhone users come off contract, some are switching to competitors Verizon and Sprint (NYSE:S).
This trend can be seen clearly in Verizon's smartphone activation report. On January 8, Verizon announced that it had activated 9.8 million new smartphones, with a higher mix of iPhones. This represents approximately 27% growth over the prior year period figure of 7.7 million. During Q4 last year, Verizon activated 4.3 million iPhones (56% of the total). Given Verizon's statement that Apple's share grew this year, I am estimating a 60% share for the iPhone, which implies 5.9 million units were sold. I believe that could prove to be a conservative estimate. The iPhone achieved its highest-ever U.S. market share in the September-November period, but its share at AT&T probably remained stable or shrunk somewhat (simply because it has been so high in the past). The iPhone's overall gains must have been driven by strong share increases at other carriers, of which Verizon is the largest.
Sprint has not released any information on December quarter phone sales yet. In the same quarter last year, the company sold 1.8 million iPhones. I believe that Sprint will report iPhone sales growth even higher than Verizon's 35%-40%. Like Verizon, Sprint is gaining iPhone share as AT&T subscribers coming off contract now have the option to get an iPhone at a different carrier. Moreover, Sprint did not introduce the iPhone until the middle of October last year, whereas it had a full quarter of iPhone sales this year. As a result, I project 2.7 million iPhones sold at Sprint.
All told, the 3 largest U.S. carriers probably sold 16.6 million iPhones. Based on last year's ratio of U.S. carrier sales to total Q1 shipments, Apple would have shipped slightly more than 45 million units this year. However, there are two major factors that should push the number of total shipments higher.
First, the iPhone 4S launched in mid-October of 2011, and strong demand kept channel inventories low throughout the quarter. With the iPhone 5 launching several weeks earlier (and with stronger demand for older models), Apple was probably able to increase channel inventory this quarter. Based on a sell-through rate of 3.5 million iPhones per week (roughly 45 million per quarter), Apple's target range of 4-6 weeks of iPhone channel inventory would work out to 14-21 million units. However, Apple reported having only 9.1 million units in the channel at the end of Q4FY12. Given that most retail outlets and the Apple online store seem to have all models/colors/memory configurations available for the iPhone now, it seems likely that Apple is close to the target inventory level. I think that iPhone channel inventory may have grown by 3-4 million units last quarter, while channel inventory grew by only 200,000 units in the prior year period.
Second, the iPhone 5 had a faster global rollout than the 4S. Most importantly, the iPhone 5 launched in China on Dec. 14, whereas the 4S launched in Jan. 2012. Additionally, the iPhone was only sold by one Chinese carrier (China Unicom (NYSE:CHU)) in Q1FY12, whereas it is now sold by China Telecom (NYSE:CHA) as well. Apple announced that it sold more than 2 million iPhone 5 units in the first three days of availability in China. In the remaining 2 weeks of the quarter, Apple could easily have sold another 2-4 million, given that China is Apple's second largest market. On the other hand, some analysts believe that sales have been lackluster in Europe. Nevertheless, the faster international rollout and strong China sales offset by European weakness should lead to another 4-5 million international sales beyond the "normal" growth predicted by U.S. sales data.
Preliminary data released by AT&T and Verizon allows a fair degree of confidence that December quarter iPhone sales at the top three U.S. carriers were around 16.6 million units (+/- 5%). Moreover, iPhone availability now seems to be fairly good (at least in the U.S.) which implies that channel inventory grew during the quarter. Lastly, Apple's China sales probably showed tremendous year-over-year growth. Apple added China Telecom as a carrier partner during 2012, growing its addressable market, and the company launched the iPhone 5 in China during the quarter. By contrast, Apple did not launch the iPhone 4S in China during the comparable period last year. All of these factors point towards iPhone unit shipments of approximately 53 million. This level of sales would add approximately $3.5 billion of incremental revenue and $1.50 of incremental EPS beyond the analyst consensus.
Disclosure: I am long AAPL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.