The big picture: Apple’s June quarter results are evidence that the Apple story is moving away from a focus on the iPhone toward a more predictable Services-driven business that returns $25B in capital to investors each quarter. These results support our Apple as a Service thesis, which has the potential to move shares dramatically higher as investors get more comfortable with the theme.

• Apple reported Jun-18 quarter results in line with or better than expectations.
• 41.3M iPhones were essentially in line with the Street at 41.8M. Factoring in the 3.5M unit channel drawdown, iPhone units would have been north of 44M.
• The Services segment grew 31% y/y (28% excluding one-time benefit from litigation) vs expectations of 26%, further evidence of the power of Apple’s ecosystem.
• Apple returned ~$25B to investors, suggesting the company is on track to retire 25% of shares in the next 3 years on the way to becoming net cash neutral.
• See our updated Apple model here.

Here’s how the June quarter results impacted our Apple as a Service thesis:

Moving to a stable iPhone business

Supportive: iPhone units grew at 1% (adjusting for channel fill growth would have been 9%). Excluding the impact of the channel fill, this marks the 8th quarter of stability for the iPhone business. iPhone stability is important because it gives investors confidence to value a hardware business like a software business.

Services

Supportive: Services grew 31% y/y, better than the Street’s expectation of 26%. Further, 31% y/y growth in each of the past 2 quarters is measurably ahead of the 23% y/y growth of Services in FY17. Apple’s Services business now accounts for 18% of overall revenue. There are 2 benefits to Services: predictability and profitability.

We estimate Services gross margin to be close to 60%. Tim Cook commented that Apple now has over 300M paid subscribers (up from 270M last quarter) and that Apple Music (50M subs) is leading the market in North America and Japan. Each segment of the Services business (App Store, Music, iTunes, iCloud, Apple Pay, Apple Care) reached record levels in the June quarter. In other words, we’re seeing sustainable growth in Services.

Capital return

Supportive: Apple returned ~$25B to investors this quarter through dividends and share buybacks. This supports a 3-year timeline to net cash neutral and the retirement of 25% of outstanding shares. CFO Luca Maestri said on the call that Apple’s current net cash position is $129B and repeated their intent to become net cash neutral “over time.” We believe Apple will be net cash neutral in 3 years, ahead of current investor thinking (5+ years).

New Products

Unchanged: Comments around optionality to the Apple story, which we believe includes original video content, AR wearables, personal health, and autonomy, were not material. Tim Cook reiterated their excitement about working with Oprah and other top-tier talent but said they were not ready to talk about a timeline. We continue to expect the first shows to arrive mid-2019. While nothing measurable was said regarding AR, AI, or Autonomy, those themes continue to represent incremental upside to Apple’s growth.

Disclaimer: We actively write about the themes in which we invest: virtual reality, augmented reality, artificial intelligence, and robotics. From time to time, we will write about companies that are in our portfolio. Content on this site including opinions on specific themes in technology, market estimates, and estimates and commentary regarding publicly traded or private companies is not intended for use in making investment decisions. We hold no obligation to update any of our projections. We express no warranties about any estimates or opinions we make.