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Summary

  • Apple’s gross margins have been relatively stable since the September 2012 quarter excluding warranty accruals.
  • Gross margins ex-warranty accruals have been between 40.7% to 42% for six of the past seven quarters.
  • Even iPhone ASPs trending down have not materially decreased gross margins the past seven quarters.

To help analyze Apple's (NASDAQ:AAPL) gross margin and forecast going forward is it is helpful to remove the warranty accruals as they have fluctuated over a 210 basis point range the past seven quarters and have materially increased since fiscal 2012. An example on why this helps is to take a look at the March 2013 quarter when the company took an additional $414 million warranty accrual charge that negatively impacted gross margins by 95 basis points.

Note: Gross margins in this note are without warranty accruals except when noted.

Starting in 2009 Apple's gross margin has consistently been above 40%

Apple launched the first iPhone in 2007 and the company's gross margin was 34.9% that year. In fiscal 2009 the iPhone 3GS was launched, and iPhones were 16% of revenue for the year and gross margin was 40.5%. As iPhones became a higher percent of revenue gross margins moved up to 40.8% in fiscal 2010 (iPhones 39% of revenue), 42.0% in fiscal 2011 (iPhones at 43%) and peaked in fiscal 2012 at 45.6% (iPhones at 50%).

2007200820092010 F1Q 2011F2Q 2011F3Q 2011F4Q 20112011 F1Q 2012F2Q 2012F3Q 2012F4Q 20122012 F1Q 2013F2Q 2013F3Q 2013F4Q 20132013 F1Q 2014F2Q 2014
Gross margin34.0%34.3%39.4%39.4% 38.5%41.4%41.7%40.3%40.5% 44.7%47.4%42.8%40.0%43.9% 38.6%37.5%36.9%37.0%37.6% 37.9%39.3%
Warranty accruals0.9%2.5%1.1%1.4% 1.5%1.8%1.3%1.5%1.5% 1.8%1.2%0.9%1.6%1.7% 2.5%3.6%2.1%3.7%2.9% 3.6%2.7%
GM w/o accruals34.9%36.8%40.5%40.8% 40.0%43.2%43.0%41.8%42.0% 46.5%48.6%43.7%41.6%45.6% 41.1%41.1%39.0%40.7%40.5% 41.5%42.0%
Revenue growth24%35%27%58% 71%83%82%39%66% 73%59%23%27%45% 18%11%1%4%9% 6%5%
iPhone % of revenue1%6%16%39% 39%50%47%39%43% 52%57%45%46%50% 56%53%51%52%53% 56%57%
iPhone ASP $630 $645$660$654$643$651 $647$635$608$619$629 $642$613$581$577$607 $637$596

Source: Company reports

Even with iPhone ASPs trending down gross margins have held up

The iPhone's ASP (Average Selling Price) peaked in the March 2011 quarter at $660 when Verizon started carrying the iPhone. It fell slightly over the next four quarters to $635 in the March 2012 quarter then it took a step down to $608 in the June quarter when both China Telecom (NYSE:CHA) and Unicom (NYSE:CHU) both had a full quarter of selling the iPhone 4S.

During the March 2011 to March 2012 quarters Apple's gross margin increased from 43.2% to an all-time high of 48.6% even with the iPhone's ASP dropping. The ASP drop was offset with huge revenue growth ranging from a low of 39% year over year to 83% and iPhone revenue as a percent of total revenue increasing from 50% to 57%.

Over the next four quarters from March 2012 to March 2013 the company's gross margin declined significantly from 48.6% to 41.1% (down 750 basis points) but this was not as bad as the reported gross margin declining from 47.4% to 37.5% (down 990 basis points) since warranty accruals increased by 240 basis points between the quarters.

What I believe is important to notice is that from the September 2012 quarter to the most recent quarter is a rise in gross margins has actually occurred. While the driver of this is the iPhone going from 46% of revenue back up to 57% the ASPs have declined from $619 to $596 and total revenue growth has been under 6% the past four quarters.

Note also that while the iPhone's ASP did decrease from $637 in the December 2013 quarter to $596 in the March 2014 quarter the 6% sequential decline was not much more than the previous year's 4% ASP decline and was only down 3% year over year. It is important to see if this trend continues but it isn't much worse than last years seasonality (higher memory devices tend to be bought in the first quarter of a product's launch).

What does this all mean?

I think some of the critical takeaways are that the company is doing a very good job of managing gross margins as it introduces new products that cost more to build (larger screen iPhone 5, retina displays and fingerprint readers) and as it implements various pricing incentives overseas that are not negatively impacting margins.

The big question is will Apple be able to get a higher price for a larger screen iPhone 6? There are a number of articles being written that Apple is trying to negotiate at least a $50 if not $100 increase from the carriers for the iPhone 6. Gross margins did ratchet down with the iPhone 5 so if the company is not able to get a higher price than I would expect gross margins to drop.

Source: Deep Dive Into Apple's Gross Margins And What It Means Going Forward

Additional disclosure: Sand Hill Insights and Chuck Jones is not a registered investment advisor or broker/dealer. Readers are advised that the material contained herein should be used solely for informational purposes. Sand Hill Insights/Chuck Jones does not purport to tell or suggest which investment securities readers should buy or sell. Readers should conduct their own research and due diligence and obtain professional advice before making investment decision. Sand Hill Insights/Chuck Jones will not be liable for any loss or damage caused by information obtained in our materials. Readers are solely responsible for their own investment decisions.