Why the iPhone is so valuable to Apple
Published: 22 Oct 2008 13:08 BST
The huge success of the iPhone has forced Apple and its financial watchers to re-evaluate the value of the company.
Saying that Apple's iPhone business "had become too big to ignore," Apple chief executive Steve Jobs made a rare appearance on the company's earnings conference call earlier on Tuesday to explain just how much money the iPhone is dumping into Apple's coffers.
For the first time, the company used supplemental financial details to give some colour on the contribution the iPhone could be making to Apple's bottom line if iPhone sales were handled like Mac sales, and the numbers are astonishing.
The iPhone now accounts for 39 percent of Apple's business, having generated $4.6bn in revenue on sales of 6.9 million units during the quarter. (Apple TV revenue is included in that figure, but iPhone sales account for the vast majority.) Those numbers, however, are not included as part of Apple's official quarterly results because of the way the company chooses to account for the sale of each iPhone; Apple reported just $806m (£500m) in iPhone and Apple TV revenue for its fourth quarter in accordance with GAAP (generally accepted accounting principles).
Crunching the numbers
Apple uses a subscription-based accounting method to recognise the revenue from the sale of an iPhone or an Apple TV unit.
For example, in January 2007 when Apple decided to charge certain MacBook customers $1.99 to unlock the faster Wi-Fi chip hidden inside their notebooks, it wasn't because the company was short on cash. It had to charge in order to satisfy accounting rules that require a company to establish a value for future upgrades if a decision was made to recognise all the revenue from the sale of a product at the time it was purchased.
To avoid the same situation with its brand-new iPhone customers, Apple announced shortly after the launch of the product that all iPhone revenue would be recorded over a 24-month period, allowing the company to ship software upgrades to the iPhone for free. Note that for whatever reason, it doesn't apply that treatment to its Mac or iPod product lines, meaning Apple has to charge iPod Touch owners a fee for the same upgrades iPhone owners receive.
The problem with this accounting treatment is that it pushes most of the revenue associated with the sale of an iPhone out into the future, making it difficult for investors to determine just how much revenue and profit is being generated by the sale of a particular unit until long after that unit has been sold. In addition, Apple has to recognise engineering and marketing costs associated with the sale of those iPhones in the quarter in which they occurred, not over the 24-month period.
Starting on Tuesday, however, Apple decided to share the data on its iPhone business in a new way.
Apple revealed the numbers it uses internally to measure the performance of the iPhone business for the first time on Tuesday. Imagine Apple treated the iPhone like it did the Mac: it would have recorded an additional $3.8bn in revenue and an additional $1.3bn in net income during the company's fourth fiscal quarter.
Total iPhone revenue of $4.6bn would have represented 39 percent of Apple's overall adjusted revenue of $11.7bn, and would have ranked it third among all mobile-phone vendors as measured by revenue after just 15 months on the market, according to the company. "If this isn't stunning, I don't know what is," Jobs said.
A few words of caution are necessary regarding the use of supplemental results to evaluate a company. Apple posted a lengthy disclosure on the numbers in its press release, warning among other things that "these non-GAAP financial measures may be unique to the company, as they may be different from non-GAAP financial measure used by other companies. As such, this presentation of non-GAAP financial measures may not enhance the comparability of the company's results to the results of other companies". (Although Jobs did just that in ranking Apple third among all mobile-phone vendors as measured by revenue).
Lucrative hobby
Regardless of how Apple decides to account for iPhone revenue, it's still real revenue, and it provides cash for the company to invest in iPhone engineers (such as the former PA Semi team, for example), market the iPhone, and work on software enhancements to the product.
It allows us to make imperfect estimates on just how much Apple is receiving in subsidies on each iPhone 3G; $4.6bn in revenue divided by 6.9 million units equals $666.67 per iPhone. That's a little high, since some portion of that revenue has to be attached to Apple TV sales, but even making the unlikely assumption that Apple sold $500m worth of a product it calls a "hobby" during the fourth quarter puts the average cost of an iPhone 3G at $594.20.
It also underscores the fact that Apple has completed its transformation from a computer company into a consumer electronics company, the only computer company of its generation to successfully pull off that transition. They all tried, but no traditional PC company has managed to shift the bulk of its business from low-margin PCs to high-margin consumer electronics: the iPhone now represents 39 percent of Apple's revenue using the supplemental metrics, while the Mac accounts for 30 percent.
The iPhone isn't just the third leg of Apple's business that Jobs promised it would become back in January 2007, when he introduced the device and changed the name of the company from Apple Computer to Apple Inc. It's now the single largest contributor to Apple's bottom line.
Credit: Why the iPhone is now Apple's most important product from CNET News.com
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