Apple’s (NASDAQ: AAPL) earnings report last night was a roaring success… wasn’t it?
Tim Cook’s company beat expectations on earnings and revenue, and there’s decent demand for the iPhone 11. AAPL stock is up 2% in pre-market trading, set to open at a record high. The broader stock market is following suit with the S&P 500 punching into fresh territory this week.
But if you zoom out and look at the bigger picture, things aren’t quite what they seem. Here’s Apple’s earnings and revenue on a year-to-year basis.
- 2018: $266 billion revenue and $60 billion net income.
- 2019: $260 billion revenue and $55 billion net income.
As Morgan Creek Capital Management’s Mark Yusko pointed out, the trend if pretty obvious. Apple made less money across the board this year compared to last year. iPhone sales, specifically, are down 9%.
So, can someone who is better at math than me please explain this anomaly?
For full FY 2019, $AAPL generated $260B in sales w/ $55B in income, compared to $266B in sales and $60B in income for FY 2018
— Mark W. Yusko (@MarkYusko) October 31, 2019
You’d expect those numbers to be reflected in the stock price, but here’s the Apple stock chart over the last two years.
How APPL hit all-time high despite falling profits
There are two simple tricks at play here. Number one: lowering expectations. Number two: stock buybacks.
The first one is simple psychology. Apple spent the last quarter lowering expectations for earnings and revenue. Then, when they announce higher numbers, they can claim they ‘beat expectations,’ sending the stock higher.
The whole stock market is doing this right now. That’s why 80% of companies have “beaten expectations” this quarter, yet we quietly remain in an earnings recession.
The real culprit: Apple stock buybacks
Stock buybacks are what really distorts the numbers at Apple (and most every major public company).
In simple terms, Apple buys back its own shares from the market. A lot.
“Since 2012, Apple has been buying back shares at the extraordinary rate of $10 billion per quarter. A year ago, it picked up the pace to around $20 billion per quarter” – Apple Insider.
That pace isn’t slowing. In last night’s earnings call, Tim Cook said Apple bought back $18 million of shares in the trailing three months.
Why does this matter?
When Apple buys back stock, it leaves fewer outstanding shares on the open market. So Apple can pump up the ‘earnings per share’ metric.
If there are fewer shares on the market, earnings-per-share can go up, even when actual profit goes down. As CNN puts it:
Is the whole stock market propped up on share buybacks?
It’s not just Apple doing this. Analysts say share buybacks are reaching “dangerous levels.” Procter & Gamble pledged to increase buybacks by 60% this year. Wells Fargo also launched a giant buyback program.
The problem is, to execute these huge buybacks, companies need to dip into their cash reserves. So cash holdings are declining across Wall Street.
As CCN.com reported, the stock market would be an estimated 5% lower if companies didn’t pump up their stock with buybacks.
But with no sign of this practice slowing down, expect to see yet more record highs, even if company fundamentals decline.