Apple Inc. 10-K Summary: Fiscal Year Ended September 25, 2004
Business Context and Reporting Period
This Annual Report covers the fiscal year ended September 25, 2004. Apple Computer, Inc. (Apple) designs, manufactures, and markets personal computers (Macintosh), portable digital music players (iPod), and related software, services, and peripherals. The company operates through four primary reportable segments: Americas, Europe, Japan, and Retail. The fiscal year was characterized by the successful expansion of the iPod product line, the introduction of the Power Mac G5 and iMac G5, and significant growth in the company's direct retail channel.
Key Financial Metrics
| Metric | Fiscal 2004 | Fiscal 2003 | Change |
|---|---|---|---|
| Net Sales | $8,279 million | $6,207 million | +33% |
| Gross Margin | $2,259 million (27.3%) | $1,708 million (27.5%) | -0.2 pts |
| Operating Income | $326 million | ($1) million | Significant Improvement |
| Net Income | $276 million | $69 million | +300% |
| Diluted EPS | $0.71 | $0.19 | +274% |
| Operating Cash Flow | $934 million | $289 million | +223% |
| Cash & Short-term Investments | $5,464 million | $4,566 million | +20% |
| Long-term Debt | $0 | $304 million | Retired |
Product Performance: iPod net sales grew 279% to $1.306 billion, accounting for 19% of total net sales. Macintosh unit sales increased 9% to 3.29 million units. The Retail segment net sales grew 91% to $1.185 billion, turning a profit of $39 million compared to a loss of $5 million in the prior year.
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased by $2.1 billion (33%) driven primarily by the iPod, strong portable computer sales (PowerBook and iBook), and the Retail segment.
- Profitability: The company returned to strong profitability with Net Income of $276 million, a significant increase from $69 million in 2003. Operating income improved from a loss of $1 million to $326 million.
- Debt Elimination: In February 2004, Apple retired $300 million of outstanding 6.5% unsecured notes, leaving the company with no long-term debt obligations.
- Product Mix Shift: Gross margin declined slightly to 27.3% due to a higher mix of lower-margin iPod and iBook sales, pricing actions on Power Mac G5 models, and higher warranty and freight costs.
- Segment Performance: The Americas segment grew 26%, Europe grew 37%, and Retail grew 91%. The Japan segment declined 3% in net sales, attributed to a shift of sales to the Retail segment and delayed upgrades by professional customers.
Guidance, Outlook, and Risks
Outlook: Management anticipates gross margins will remain under pressure in fiscal 2005 due to industry-wide price competition, particularly for the iPod. The company expects to continue incurring airfreight charges impacting margins in the first quarter of 2005. Capital expenditures for 2005 are projected at approximately $240 million, with $125 million allocated to Retail expansion.
Key Risks and Contingencies:
- Supply Chain Constraints: The company relies on single or limited sources for key components, specifically the PowerPC G5 processor from IBM. Manufacturing problems at IBM constrained shipments of Power Mac and iMac G5 products in the second half of 2004.
- Competition: Intense price competition in the PC market and emerging competition in the digital music player market pose risks to margins and market share.
- Legal Proceedings: The company is involved in various litigation, including patent infringement claims (e.g., Antor Media, Compression Labs) and class actions regarding iPod battery life and hard drive sizing. Management believes no single proceeding will have a material adverse effect, though outcomes are uncertain.
- Intellectual Property: Risks exist regarding the availability of third-party music content for the iTunes Music Store and the continued development of third-party software for the Mac OS platform.
Investor Verification Checklist
- Supply Chain Resilience: Verify the status of IBM's PowerPC G5 manufacturing yields and Apple's contingency plans for processor supply.
- Retail Economics: Monitor the profitability of new retail store openings and the sustainability of the $15.6 million annualized revenue per store metric.
- iPod Margins: Assess the impact of increasing competition on iPod gross margins and the company's ability to maintain pricing power.
- Software Ecosystem: Track the release schedule of key third-party applications (e.g., Quark XPress) for Mac OS X to ensure professional market adoption.
- Legal Exposure: Review the status of pending patent litigation and class action suits regarding product specifications.