Visible Alpha Technology

Apple (NASDAQ: AAPL) reported earnings for fiscal Q4 2023 after the market close on Thursday, November 2, 2023. After the earnings release and looking ahead to Q1 and FY 2024, what are the questions we are focusing on?

1. What happened with iPhone sales and what does the outlook look like?

Apple’s fiscal Q4 2023 total company revenues came in right in line with consensus at $89.5 billion. Drilling down into the revenues, Services outperformed and iPhone was in line, but Mac, Wearable, and iPad were disappointing.

The company highlighted again that the opportunity in India continues. However, it is unclear how big this market can be for Apple/iPhone. While India may not generate the same volume of revenues as China’s estimated $69 billion, it may still increase penetration and make a meaningful contribution to revenue over the next few years. This market may begin to break away from other emerging markets as penetration increases. The company noted strength overall in many emerging markets.

Coming into earnings, analysts were expecting the company to guide Q1 2024 to be up 5% for iPhone revenues. However, Apple guided below expectations to flat year-over-year when adjusted for FX (2pts) and an extra week (7pts).

There has been increasing bearish sentiment on the iPhone outlook. The current iPhone estimates for FY 2024 revenues and units have come down since August, driven by projected lower growth assumptions in core markets and foreign exchange. However, as of November 3, the range of unit estimates still skewed to the high end, with unit expectations ranging from 72 million to 85 million for Q1 2024 and consensus settling at 76 million units.

Figure 1: Expectations for FY 2024

Source: Visible Alpha consensus (November 3, 2023)

New Question: How will the iPhone do this holiday season and how might that color the outlook for the rest of the year?

2. How did the Services segment perform and what is next for this segment?

Services outperformed expectations by nearly $1 billion, coming in at $22.3 billion, and given the much higher gross margin (71%), this segment was able to offset a meaningful decline in operating income.

For Q1 2024, Services are expected to deliver $23.1 billion, up 11% year over year, driven by cloud, music, and ads. For FY 2024, analysts currently forecast Services revenue to jump 11% to $95 billion, and another $20 billion to $115 billion by the end of FY 2026.

Cloud: For FY 2024, Apple is projected to generate nearly $10 billion in cloud sales. Based on color from Q4 earnings, growth in cloud looks poised to continue.

Apple Pay: For FY 2024, analysts, on average, are projecting $3 billion in sales.

Margins: Services currently generate a 71% gross margin, nearly double the 36% for the Products segment, and could shift Apple toward higher profitability. The company’s total operating profit is expected to grow 5% year over year in FY 2024 to $120 billion, driven by an increase in mix toward Services.

Growth: Apple’s significant installed base of 2 billion devices, with nearly 1 billion estimated to be iPhone, may be a great platform for growing ads, cloud, payments, and other content revenues (like music, games and TV). It is worth noting that Apple has been relatively quiet about Generative AI and we wonder if an announcement may emerge in this segment in FY 2024.

New question: What could drive higher-than-expected Services revenue in Q1 and FY 2024?

3. What did Apple’s performance in China reveal?

In Q4, Greater China generated $15 billion in revenues, but this was $1.3 billion below projections. While CEO Tim Cook noted his optimism for the China market, questions linger about the company’s performance in this market. There is some debate about what the region will deliver for sell-through units in FY 2024 and beyond.

Competition is likely to weigh on Apple in the China market, as sales are expected to drop 13% year-over-year to $20.8 billion in Q1. For FY 2024, analysts project China to deliver $69.4 billion in revenues, down 4% from 2023 levels. For FY 2024, expectations have declined 10% from $76.6 billion back in the spring. The verdict is still out on how China will perform in FY 2024 and beyond. Currently, analysts expect China to hit $72 billion by the end of FY 2025, flat with FY 2023.

New question: Will China sales resume a growth trajectory?

Figure 2: Apple’s key financial items

Source: Visible Alpha consensus (November 3, 2023)

Alphabet Inc. (NASDAQ: GOOGL) reported earnings for Q3 2023 after the market close on Tuesday, October 24, 2023. What happened during the release and earnings call, and what’s next?

What happened in Q3?

Alphabet Inc. (NASDAQ: GOOGL) reported earnings a bit below expectations for Q3 2023 after the market close on Tuesday, October 24, 2023, driving the stock down after the release. Alphabet’s core business of Search and YouTube delivered revenues 1.5% ahead of expectations. However, the Cloud and Network search businesses together were -3% below expectations. In particular, the Cloud business appeared to lose share in the quarter and AI efforts seem to be behind competitors, which likely contributed to higher-than-expected costs.

More concerning, the operating profit margin of 27.8% for Alphabet overall came in 70 basis points below expectations, driven by a combination of higher-than-expected losses in other businesses and a cloud margin nearly 200 basis points below estimates. Coming into the quarter, analysts were expecting Alphabet to maintain the same 5% margin it achieved in Q2 for the cloud business, and the level of losses for the other bets and unallocated segments to remain around $2 billion. In Q3, however, the cloud margin dipped to 3% and the other bets and unallocated losses jumped 42% quarter-over-quarter to $2.9 billion.

Question: Will Google Cloud margin improve in Q4 or stay around 3%?

Q4 and Beyond

Looking ahead, the revenue growth from the Cloud business is expected to be an outsized chunk of Alphabet’s total revenue growth for FY 2024, meaning it is growing at a much faster 20-25% pace than the 10% expected year-over-year growth for Alphabet’s core Search and YouTube revenue streams. While Cloud revenues are expected to hit $40 billion in FY 2024 and almost $50 billion by FY 2025, profitability remains a looming concern.

Analysts were initially projecting the Cloud business to generate a 5% margin in Q4, but this estimate has ticked down to 4.4% since the release. For FY 2024, analysts are expecting Cloud revenues to grow to $40 billion, up 23% year-over-year, and operating income to more than double from an expected $1.3 billion in FY 2023 to $2.7 billion. Analysts project a strong 6.6% operating profit margin in the Cloud business in FY 2024 and for this margin to jump to 13% by the end of FY 2026, which may be aggressive given the Cloud margin performance in Q3 and lower expectations into Q4 2023.

Question: Will Vertex AI help to drive share gains and margin expansion going forward?

In addition, the other bets revenues are expected to remain just over $1 billion, but losses are expected to decrease around $2.5 billion year-over-year in FY 2024. Losses for these line items are projected to be over $11.5 billion in FY 2023 and to decline to $9 billion in FY 2024 and $8 billion in FY 2025. Given the performance this quarter, questions remain about how Alphabet may reduce these losses.

While the company has a strong cash position of $120 billion, CapEx is projected to increase $12 billion from an expected $31 billion in FY 2023 to $43 billion in FY 2026. In order to catch up to competitors in the AI space, further investments and CapEx may be required.

Question: Will Alphabet be able to rein in these losses, while still innovating and maintaining its strong cash position in 2024?

Figure 1: Alphabet’s Key Financial Items

Source: Visible Alpha consensus (October 27, 2023)

Meta Platforms, Inc. (NASDAQ: META) will report Q3 2023 results on Wednesday, October 25, 2023. Here are the key numbers that we’re watching.

Figure 1: Meta Platforms – consensus expectations for Q3, past earnings surprises, revisions, and CAGR

Source: Visible Alpha consensus (October 23, 2023). “Previous Surprises” indicate the direction that specific line items beat or missed. “Consensus Revisions” show the trajectory of line items from a given date.

Meta Q3 Earnings Preview

According to Visible Alpha consensus, total revenues expected for Q3 have come up from the beginning of the year, from $29.7 billion to $33.5 billion, driven by an increase in expectations for Meta’s Family of Apps.

In addition, Q3 expectations for operating income have increased significantly from $5.8 billion at the beginning of the year to $11.6 billion ahead of Q3 earnings, driven by both better profitability in the Family of Apps and smaller losses for Reality Labs. Expectations increased by 50% for the Family of Apps’ income from operations, taking the consensus number from $10.1 billion to $15.5 billion into Q3. However, there is a significant range of analyst estimates into Q3 for this business, from $11.8 billion to $17.4 billion.

The stock has been a big outperformer this year, up more than 150% year to date. Coming out of the META Connect 2023 event, the company’s new products and features have increased focus around the potential to increase the revenue generated per DAU (daily active user), especially outside the U.S. What new information will come out of the Q3 release that could potentially maintain the positive momentum?

Figure 2: Meta consensus estimates

Source: Visible Alpha consensus (October 23, 2023). Stock price data courtesy of FactSet. Meta stock price is as of the market close on October 20, 2023.

Microsoft Corporation (NASDAQ: MSFT) will report Q1 2024 results on Tuesday, October 24, 2023, after the market close. Here are the key numbers that we’re watching.

Figure 1: Microsoft – consensus expectations for Q1 2024, past earnings surprises, consensus revisions, and CAGR

Source: Visible Alpha consensus (October 19, 2023). “Previous Surprises” indicate the direction that specific line items beat or missed. “Consensus Revisions” show the trajectory of line items from a given date.

Microsoft Q1 2024 Earnings Preview

According to Visible Alpha consensus, total revenues expected for Q1 have remained around $54.5 billion since April, driven by resilience in its core business segments. We are closely watching what the company will say about the outlook for AI and Copilot, as Microsoft’s FY 2024 CapEx numbers have continued to increase steadily since January. According to consensus projections, CapEx estimates have climbed over $10 billion from $29.3 billion to $39.5 billion in FY 2024, up 3x from FY 2019 and ahead of both Meta’s (NASDAQ: META) and Alphabet’s (NASDAQ: GOOGL) estimated CapEx levels.

In particular, the Intelligent Cloud segment, which makes up over 40% of total revenues, is projected to remain solid, with consensus estimates around $102 billion for FY2024, driven by Azure. The profitability of this segment is a source of debate among analysts and may explain some of the stock’s recent sluggish performance. Currently, the FYQ1 consensus of 12 analysts for the Intelligent Cloud business’s operating profit margin is 44%, but ranges from 40% to 46%, suggesting this segment may deliver a surprise in the Q1 release.

Microsoft stock has traded down -5.9% since the July earnings release, but is up 37.6% from January 1, 2023. Could the Q3 release provide a positive catalyst to get the stock back on an outperformance path?

Figure 2: Microsoft – consensus revenues, operating income, EPS, and stock performance

Source: Visible Alpha consensus (October 19, 2023). Stock price data courtesy of FactSet. Microsoft stock price is as of the market close on October 18, 2023.