Apple's (NASDAQ:AAPL) iconic retail stores have some of the best sales metrics in the industry.
However, as retail has become a bigger percentage of the company's sales mix, the segment's lower margins have dragged corporate profit margins lower - a dynamic I highlighted back in February.
The challenge of decelerating earnings growth lies more in the nature of thin retail margins than Apple's merchandising prowess.
Apple's stores are wildly successful at generating sales growth and much less successful in creating profit growth.
The retail segment has set benchmarks for sales per square foot and per employee and Apple fans will be quick to point out stores continue to generate impressive foot traffic.
As a result, retail sales hit an all-time high of $6.4 billion in the important calendar Q4, increasing 5% and producing operating income of $1.6 billion. However, the $1.6 billion in operating income was $300 million less than the prior year, despite the sales growth.
The drop off in profit was tied to segment margins of 24.2%, down from 30.2% the prior year. And, this pressured company-wide margins to 38.6%, down from 44.7%. In turn, the company posted flat year-over-year earnings per share growth.
Unfortunately, sales strength and profit erosion continued again last quarter
Retail sales were up 19% year-over-year to $5.2 billion in calendar Q1. But, that lagged the 38% year-over-year jump notched in the same quarter of 2012.
And while the year-over-year growth was strong, it only produced operating income of $1.1 billion, which was down from $1.2 billion a year ago.
Importantly, segment operating income dropped to 20% of sales in the quarter, down from 27% of sales last year - even as revenue improved.
The weak performance put downward pressure on company-wide gross margin, which fell to 37.5% from 47.4% in the year-ago quarter.
Apple's retail conundrum appears balancing profits and customer service
Early on in his tenure, Mr. Browett was dealt a tough hand as negative press swirled surrounding retail store pay.
Those reports sparked a wave of pay hikes last summer for front line staff, hikes Mr. Browett tried to offset by cutting shifts in stores.
Ultimately, the culture clash resulted in Mr. Browett's departure last fall, after only 6 months on the job. But, even with Mr. Browett out, Apple seems committed to Mr. Browett's cost cutting ways.
Last quarter, Apple reduced its retail staff by 2100 workers, or 5%, despite operating more stores. This brought the number of employees per store back to levels last seen in 2009.
With Apple opting not to replace Mr. Browett - yet - CEO Tim Cook moved finance veteran Jim Bean over to help get a grip on costs.
The move, while necessary in order to tourniquet the expense growth, continues Apple's migration away from leaders steeped in merchandising, toward those with a pedigree in bean-counting.
This shift seems to speak more toward the tendency to placate analysts and investors, which ultimately may stem the stock's slide.
However, the focus on stabilizing the unit's margins does run the risk of alienating customers. Especially if headcount reductions impact service levels at the stores.
Either way, Apple remains committed to building more stores, with 30 slated to open this year.
Those stores will help add sales growth this year, offsetting the absence of a spring product launch.
But whether Apple can find the right mix between payroll and service levels to stabilize margins remains a question mark.