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Apple Warns of Lower Revenues, Blaming Slower Sales in China

For the first time since 2002, Apple has revised its guidance to investors, lowering revenue estimates for Q1 2019 to $84 billion, down from the early November projection of $89 to $93 billion. In an open letter to investors, CEO Tim Cook blamed the shortfall primarily on “economic deceleration,” particularly in the Greater China market, resulting in fewer sales of the iPhone, Mac, and iPad. The growth of Chinese GDP in the September 2018 quarter was the second lowest in the last 25 years, and Apple also believes that rising trade tensions with the United States have played a part in China’s economic slowdown. Despite the problems in China, Apple expects to set all-time revenue records in the United States, Canada, Germany, Italy, Spain, the Netherlands, and Korea.

While slower iPhone sales in China account for the lion’s share of Apple’s revenue woes, Cook acknowledged that iPhone upgrades weren’t as strong as Apple thought they would be in other markets too. He listed three causative factors, each of which is worth unpacking:

  • “Consumers adapting to a world with fewer carrier subsidies.” iPhones seemed cheaper several years ago, when it was standard (at least in the US) for people to buy carrier-subsidized iPhones in exchange for being locked into an expensive 2-year cellular plan. In 2014, for instance, you could pay $199 for an iPhone 6—a far cry from today’s $749 iPhone XR and vastly less than the $1449 top-of-the-line iPhone XS Max. Even though iPhone installment programs remain common, customers still see that one-time price tag, which was previously hidden. Plus, the iPhone installment payment comes on top of a cell plan rather than being bundled in—even if the amounts are comparable to cell plans of yesteryear, the iPhone’s share is more obvious.
  • “US dollar strength-related price increases.” Regardless of how people pay for iPhones, the list prices of recent models are notably higher. Apple has also raised prices on the Apple Watch, iPad Pro, and even accessories like the Apple Pencil and Smart Keyboard Folio. This claim about the strength of the US dollar implies that the increases may have been necessary to maintain gross margins on products that are also likely more expensive to build. Whatever the reason, higher prices will slow sales—lots of people have seen the stratospheric price tags on the new iPhones and decided to wait another year.
  • “Some customers taking advantage of significantly reduced pricing for iPhone battery replacements.” Let’s hope this is a case of unintended consequences. Starting with the iPhone 6, 6s, and SE, Apple silently reduced performance on iPhones with weak batteries to avoid unexpected shutdowns. When that change was discovered, the resulting hue and cry caused Apple to lower the price of battery replacements from $79 to $29 for all of 2018 (see “Apple Apologizes for iPhone Battery Issue, Drops Replacement Prices to $29,” 3 January 2018). The lower price caused many people to replace the batteries in older iPhones rather than upgrading, and the coverage educated many others about the utility and possibility of battery replacements. Had Apple played the iOS performance card differently, many more people might have upgraded.
  • iPhone size? The three previous items can be bundled into the general category of “Apple’s new iPhones aren’t enough better than what I have to justify the price.” Although Cook didn’t get into specifics, I believe Apple’s insistence on making iPhones ever larger has also reduced upgrades. Many people have complained to me about how they’re not upgrading from an iPhone 5s, iPhone 6, or iPhone SE mostly because the new models are so much larger.

As much as Apple’s reduced revenue guidance isn’t good news, Cook took pains to call out bright spots in the company’s financials. In particular, revenue outside the iPhone business grew by nearly 19% year-over-year, with all-time revenue records for the Services, Wearables, and Mac segments. The popularity of the Apple Watch Series 4 and the AirPods caused Wearables revenue to grow by almost 50% year-over-year, and Apple admitted to being unable to make enough of both to meet demand. Sales of the iPad Pro and the MacBook Air were also constrained due to supply problems.

So no, Apple is not doomed, although there will undoubtedly be pundits coming to that conclusion. The real question is what Apple can do to increase sales in China. In May 2017, analyst Ben Thompson of Stratechery pointed out in Apple’s China Problem that the most important layer of the smartphone stack in China is WeChat, not iOS, and by extension, any of Apple’s other services that support platform lock-in. Thompson says:

Connie Chan of Andreessen Horowitz tried to explain in 2015 just how integrated WeChat is into the daily lives of nearly 900 million Chinese, and that integration has only grown since then: every aspect of a typical Chinese person’s life, not just online but also off is conducted through a single app (and, to the extent other apps are used, they are often games promoted through WeChat).

There is nothing in any other country that is comparable, particularly the Facebook properties (Facebook, Messenger, and WhatsApp) to which WeChat is commonly compared. All of those are about communication or wasting time: WeChat is that, but it is also for reading news, for hailing taxis, for paying for lunch (try and pay with cash for lunch, and you’ll look like a luddite), for accessing government resources, for business. For all intents and purposes WeChat is your phone, and to a far greater extent in China than anywhere else, your phone is everything.

In other words, for people outside China, switching from an iPhone to an Android is non-trivial. You’d lose access to all your iOS apps, you wouldn’t be able to communicate as easily with friends using iMessage, you wouldn’t have Apple Pay or be able to use Apple Pay Cash, you wouldn’t be able to have an Apple Watch, you’d lose access to iCloud Photo Library, integration with your Mac would suffer, and so on. Android has alternatives for all these Apple ecosystem features, but switching to them would be painful.

For Chinese users who rely on WeChat, however, the iPhone is just another smartphone and has to compete every upgrade season on its hardware merits and perceived brand value against a crop of pretty good Chinese Android phones. That likely means that Apple’s every-other-year approach to major new iPhone releases may hurt it in China in off years such as this one.

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