Is Apple's profit growth sustainable, or is it being inflated by one-time items?

Partly. Net income of $601 million includes about $230 million in pre-tax gains from selling ARM Holdings shares, and the 11% effective tax rate was helped by reversing valuation allowances. Operating income before special charges rose 44% to $386 million, which reflects real operating improvement, but management expects gross margins to fall in fiscal 2000 and the tax rate to rise to about 25%, so reported earnings growth may slow.

How dependent is Apple on the iMac, and what are the risks?

The iMac drove the unit growth: about 1.8 million units sold in 1999 and roughly 52% of Macintosh unit sales. However, its lower price points reduced average revenue per system by 17%, so the product's success has come with pricing pressure. The company also relies on single or limited suppliers for key components, including PowerPC microprocessors from IBM and Motorola, and a G4 shortage already hurt Q4 sales.

What does Apple's balance sheet and financing position look like?

The balance sheet strengthened, with $3.226 billion in cash and short-term investments against $300 million of 6.5% unsecured notes due 2004, after most of the 6% convertible notes converted to equity. Shareholders' equity rose to $3.104 billion from $1.642 billion. However, management noted its non-investment-grade debt ratings could make short-term borrowing more expensive. A $100 million revolving credit facility from Bank of America was added as a backup.

What are the company's main risks heading into fiscal 2000?

Key risks include continued industry-wide price declines and margin pressure; dependence on the Mac OS platform, which holds a minority share of the PC market; the transition to Mac OS X, whose developer support and market acceptance are uncertain; reliance on Microsoft for Office and Internet Explorer support under a limited-term agreement; Year 2000 disruptions from third-party vendors; and exposure to Asian currency and economic weakness. Pending litigation, including a trademark challenge to the Mac OS 9 name, is not expected to be material.

Does Apple pay dividends, and how is it returning capital to shareholders?

Apple paid no cash dividends in fiscal 1999 or 1998 and plans to retain earnings for the foreseeable future. Capital return consists of a July 1999 authorization to repurchase up to $500 million of common stock, under which the company had bought back only 1.25 million shares for $75 million by fiscal year-end. Apple's Nasdaq stock rose from a fiscal 1999 low of $28.50 to a high of $80.13 in the fourth quarter.

AAPL 10-K FY1999 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed December 22, 1999. Cited figures are marked; the original filing is the authoritative source.

Apple's fiscal 1999 annual report (year ended September 25, 1999) shows a turnaround in profitability driven by volume.

Net sales rose 3% to $6.134 billion^a, while Macintosh unit sales jumped 25% to 3.448 million, led by the iMac, which sold about 1.8 million units (up 68%). Gross margin improved to 28% from 25%, and net income more than doubled to $601 million, or $3.61 per diluted share, versus $309 million, or $2.10, in fiscal 1998. Average revenue per Macintosh fell 17%, reflecting lower prices and a mix shift toward cheaper consumer models, so growth came from units rather than pricing.

Investors should weigh the quality of the earnings. Net income includes roughly $230 million^b in pre-tax gains from selling shares of ARM Holdings, and the effective tax rate was only 11% because of valuation allowance reversals. Management guided that gross margins will decline in fiscal 2000 as lower-priced consumer products grow in share, and that the tax rate will be about 25%.

Q4 1999 sales were hurt by a G4 processor shortage from Motorola and a Taiwan earthquake, which cut about $200 million^c from quarterly revenue. The balance sheet improved markedly. Cash, cash equivalents, and short-term investments reached $3.226 billion, up 40%, and about $661 million of convertible notes converted to equity, leaving only $300 million of long-term debt.

The company authorized a $500 million^d buyback and added a $100 million revolver, but it disclosed non-investment-grade debt ratings that could raise borrowing costs. The company also holds a large, volatile stake in Akamai valued at about $1.2 billion as of December 17, 1999.

02—Key points

Key Highlights

Net sales rose 3% to $6.134 billion, while Macintosh unit sales grew 25% to 3.448 million, driven by the iMac (about 1.8 million units, up 68%).
Gross margin expanded to 28% of net sales from 25% in fiscal 1998, supported by lower component costs, outsourced final assembly, and better inventory management.
Net income was $601 million ($3.61 diluted EPS) versus $309 million ($2.10) in fiscal 1998, but includes about $230 million in pre-tax gains from the sale of ARM Holdings shares.
Average revenue per Macintosh system fell 17% to $1,739 due to price cuts and a shift toward lower-priced iMac models, which made up 52% of unit sales.
Cash, cash equivalents, and short-term investments totaled $3.226 billion (up 40%), and long-term debt fell to $300 million after about $661 million of convertible notes converted to stock.
Management expects gross margins to decline in fiscal 2000 and projects an effective tax rate of about 25%; the company also authorized a $500 million stock repurchase program.
Q4 1999 sales were hit by Motorola G4 processor shortages and a Taiwan earthquake (roughly $200 million impact), and the company disclosed non-investment-grade debt ratings and a Mac OS 9 trademark lawsuit from Microware.

03—Questions

Frequently Asked Questions

Is Apple's profit growth sustainable, or is it being inflated by one-time items?
Partly. Net income of $601 million includes about $230 million in pre-tax gains from selling ARM Holdings shares, and the 11% effective tax rate was helped by reversing valuation allowances. Operating income before special charges rose 44% to $386 million, which reflects real operating improvement, but management expects gross margins to fall in fiscal 2000 and the tax rate to rise to about 25%, so reported earnings growth may slow.
How dependent is Apple on the iMac, and what are the risks?
The iMac drove the unit growth: about 1.8 million units sold in 1999 and roughly 52% of Macintosh unit sales. However, its lower price points reduced average revenue per system by 17%, so the product's success has come with pricing pressure. The company also relies on single or limited suppliers for key components, including PowerPC microprocessors from IBM and Motorola, and a G4 shortage already hurt Q4 sales.
What does Apple's balance sheet and financing position look like?
The balance sheet strengthened, with $3.226 billion in cash and short-term investments against $300 million of 6.5% unsecured notes due 2004, after most of the 6% convertible notes converted to equity. Shareholders' equity rose to $3.104 billion from $1.642 billion. However, management noted its non-investment-grade debt ratings could make short-term borrowing more expensive. A $100 million revolving credit facility from Bank of America was added as a backup.
What are the company's main risks heading into fiscal 2000?
Key risks include continued industry-wide price declines and margin pressure; dependence on the Mac OS platform, which holds a minority share of the PC market; the transition to Mac OS X, whose developer support and market acceptance are uncertain; reliance on Microsoft for Office and Internet Explorer support under a limited-term agreement; Year 2000 disruptions from third-party vendors; and exposure to Asian currency and economic weakness. Pending litigation, including a trademark challenge to the Mac OS 9 name, is not expected to be material.
Does Apple pay dividends, and how is it returning capital to shareholders?
Apple paid no cash dividends in fiscal 1999 or 1998 and plans to retain earnings for the foreseeable future. Capital return consists of a July 1999 authorization to repurchase up to $500 million of common stock, under which the company had bought back only 1.25 million shares for $75 million by fiscal year-end. Apple's Nasdaq stock rose from a fiscal 1999 low of $28.50 to a high of $80.13 in the fourth quarter.

04—Continue

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