- Introduction
In order to perform an annual report analysis we will choose Apple Inc. as our target company. Apple Inc. is an American based company, with headquarters in Cupertino, California. It designs and manufactures mobile communication and media devices, personal computers, digital music players, computer software, and various digital applications. Apple’s major brands and trademarks include iPhone, iPad, Mac, iPod, Apple TV, iTunes and iCloud.Company operates in all major geographical regions: North and South Americas, Europe, Japan and Asia-Pacific. Apple Inc. is a publicly traded company listed on the NASDAQ Stock Exchange. It was first incorporated on January 3, 1977 under AAPL symbol.
Our analysis is based on the Apple Inc. Annual Report (also known as Form 10-K) for the fiscal year ended September 30, 2012. The document was filed with the Securities and Exchange Commission onOctober 31, 2012. The report provides detailed information on company’s business and its operations, presents analysis of financial statements and risk factors throughout the year, and depicts the structure of corporate governance within the company. Annual report consists of four major parts. Part I describes company’s background and business strategy, defines company’s products and evaluates potential risk factors, which may affect company’s performance. Part II analyzes company’s performance for the accounting period, presents information on financial statements (Income Statement, Balance Sheet, Statement of Cash Flows and Statement of Changes in Equity), provides an opinion of an independent auditor, and gives the analysis of company’s control system. Part III gives the information regarding company’s governing structure and provides references on relating official documents. Part IV includes closing remarks, certifications, exhibits and financial statement schedules.
- Independent Auditors
According to the Annual Report, Ernst and Young, LLP conducted an audit of Apple Inc.’s financial statements and assessed the efficiency of company’s control procedures. Their conclusions are issued in the second part of the annual report. Representatives of Ernst and Young claim that they are responsible for issuing an opinion on Apple’s financial statements and control procedures. Company’s income statement, balance sheet, statement of cash flows and statement of shareholders’ equity were assessed in accordance with the standards of the Public Company Accounting Oversight Board. Independent auditors issued an unqualified opinion on Apple’s financial statements, which means that theypresent fairly, in all material respects, the consolidated financial position of Apple Inc. at September 29, 2012. No errors, irregularities or illegal actions were detected.
Independent auditors have also assessed Apple’s control procedures on the basis of COSO criteria. They have analyzed whether company’s policies and procedures are able to record all transactions which occurred during an accounting period fairly and adequately, in all material respects. They have also checked whether controls provide reasonable assurance that transactions were recorded in accord with generally accepted accounting principles. Finally, auditors assessed company’s ability to prevent and detect possible frauds, unauthorized acquisitions or illegal disposition of company’s assets, which might have a material effect on company’s financial statements. According to E&Y’s report, Apple Inc. maintained, in all material respects, effective control on financial reporting as of September 29, 2012. However, auditors noticed that control procedures not always may detect material misstatements. In addition, controls may become inadequate or obsolete, because of changes in regulating environment or other conditions.
- Assets and Liabilities
In order to analyze assets and liabilities of Apple Inc. one could refer to the consolidated Balance Sheet which is listed in the second part of the annual report.
According to the Balance Sheet, Apple’s assets have increased significantly since 2011 by almost $60 billion (more than 50%). This is primary due to increase in long-term marketable securities ($36 billion increase)and slight increase in accounts receivables and cash ($12 billion increase).
It could be seen that Apple’s profits have almost tripled for the past 3 years. Net income has surged from $14 billion in 2010 to almost $42 billion in 2012. As profits grow, Apple Inc. prefers to invest free cash in low-risk long-term marketable securities to ensure additional gains on investments. This explains why the investments in securities have risen dramatically for the past years. Tables show that Apple Inc. heavily invested in U.S. Treasury Securities ($13.9 billion), U.S. Agency Securities ($16.2 billion) and Corporate Securities ($39.4 billion). Net value of property, plant and Equipment has also doubled compared to 2011 figures. In 2012 Apple Inc. has completed several acquisitions of plants and property which resulted in increase of the balance account by $7.7 billion.
Current assets also have experienced a slight increase compared to the previous year. This could be attributed to the significant growth of sales compared to the previous year. In 2011, annual sales exceeded $108 billion, while in 2012 this figure reached $156.5 billion. Growth of sales is positively correlated with the growth of Cash and Cash Equivalents, receivables and inventory. We may observe this statistic from Apple’s balance sheet: Cash has increased by 9%, from $9.8 billion in 2011 to $10.8 billion in 2012, while accounts receivables have increased by more than 100%, from $5.4 billion in 2011 to $10.9 billion in 2012. The increase in inventories was not so dramatic, only by 2% compared to 2011 figures. Company manages its current assets and liabilities quite efficiently, which gives additional confidence to its financial statements. Current ratio in 2012 is estimated to be 1.5 (compared to 1.13 in 2011), which means that a company is able to cover its current debt without any difficulties.
Unsurprisingly, increase in Liabilities and Shareholders’ Equity was primary driven by surge in retained earnings. The corresponding account has increased by 61%, from $62.2 billion in 2011 to $101.2 billion in 2012. Accounts payable demonstrated an increase of 44%, from $14.6 billion in 2011 to $21.2 billion in 2012. Non-current liabilities have also increased by quite a significant amount of 65%, from $10.1 billion in 2011 to $16.7 billion in 2012. In addition, in March 2012 Apple Inc.authorized a program to repurchase up to $10 billion of the Company’s common stock beginning in 2013. In 2012 it has increased its number of shares outstanding by additional 10,000, and increased the Common Stock account to $16.4 billion. This happened primary due to increase of benefits from share-based compensation ($1.74 billion) and tax benefit from equity awards ($1.15 billion).
According to the annual report, Apple’s accounts payable are comprised of debt obligations to outsourcing partners, which manufacture sub-assemblies for company’s products. Company also purchases various components through a combination of purchase orders, supplier contracts, and open orders. Accounts payable tend to increase together with sales, so the increase of 44% sounds justified.
Company claims that other non-current liabilities are comprised of deferred tax liabilities of $13.8 billion andgross unrecognized tax benefits and the related gross interest and penalties ($2.8 billion). We may also claim that Apple Inc. successfully manages its debt, as debt-to-equity ratio is considerably small – 0.49 (0.52 in 2011).
- Stock
The report claims that as of October 19, 2012, Apple Inc. had 940.7 million shares of common stock issued and outstanding. Overall, 1.8 billion of shares were authorized. In addition, Apple Inc. has 5 million shares of authorized preferred stock, none of which is issued or outstanding. Managers of Apple Inc. argue that there were 27,696 shareholders as of October 19, 2012. Company claims that company’s stock has over performed the market for the last 5 years. It states, that $100 invested in 2007 in S&P 500, S&P Computer Hardware and Dow Jones US TechnologyComposite Indexes would grant the return of $105, $214 and $127 respectively, while $100 invested in Apple Inc. would have given the return of $437. Market Capitalization has been growing steadily, from $82 billion in January 2009 to $658 billion in September 2012.
It should be noticed that during current accounting period Apple Inc. has decided to pay out dividends for the first time in its history. $2.65 per share was paid to shareholders during the fourth quarter of 2012. Board of Directors also claims that it expects to pay dividends in the future.
- Operating Activities
Net sales have been growing considerably for the last 3 years for Apple Inc. All geographic regions demonstrate significant increase in the volume of sales, as well as in number of particular products sold. American net sales increased by 50% to 57.5 billion, Europe sales increased by 30% to $36.3 billion, Japan and Asia Pacific net sales increased by 58% to $43.8 billion. Retail segment have also demonstrated a 33% increase, adding additional $18.8 billion to net sales. Annual sales for 2012 fiscal year estimated to be $156.5 billion, compared to $65.2 billion in 2010.
More than 50% of sales are represented by iPhone and related products, while iPad and related products represent another 21%. Other 29% are the sales of desktop and portable iMacs, iPods and software.Last year Apple Inc. sold 125 million units of iPhone products (73% increase compared to 2011), 58.3 million units of iPad products (80% increase) and 18.5 million of Mac products. iPod products is the only segment which demonstrated a slight drop in the amount of sales by 17% to 35.1 million units due to general decline and contraction of the digital music player market.
Apple Inc. identifies several reasons for significant increase in sales. Firstly, growing sales reflect the strong demand for iPhone products. The launch of iPhone 4S in the first quarter, iPhone 5 in the fourth quarter and continuing demand for iPhone4 and iPhone 3GS resulted in surging sales for the iPhone products. In addition, agreements with new carriers and resellers helped to improve the distribution chain and attract additional customers. Secondly, consumers positively react to the introduction of new iPad products. Increasing demand was met by the introduction of the newiPad 3 in March 2012, which was positively accepted by general public. In addition, average iPad selling price decreased, as product mix shifted towards lower priced products. Moreover, the company expected to introduce the lighter and cheaper version of an iPad – iPad Mini in the first quarter of 2013. Expanded distribution with new resellers has also contributed to the growth of the iPad sales. Thirdly, the growth of net sales was also driven by the increased demand for software and application products. iTunes Store and Apple Store sales demonstrated a serious climb by 18%. Software sales are being pulled up by the iPhone, iPad and Mac sales and create a synergetic effect. Finally, Apple Inc. has invested heavily in the development of the retail stores and distribution channels. In 2012 Apple Inc. opened 33 new retail stores, 28 of which were outside of United States. As of September 2012, there were 390 retail stores (250 in the U.S. and 140 outside the U.S.) in the world. All in all, the increasing demand for company’s products, improved distribution chain and new contract agreements with carriers and resellers contributed to the skyrocketing of Apple’s sales in 2012.
For more information on company’s operational performance we will refer to the Consolidated Income Statement in the second part of the report. Apple Inc. uses a multiple-step income statement, which means that expenses are subtracted multiple times in order to provide a clear understanding of gross profit, operating profit and net profit. Income statement contains consolidated information about company’s sales, costs and other income and expenses. Cost of sales in 2012 was $87.8 billion, which resulted in gross profit of $68.6 billion. Gross margin for the accounting period equaled 43.9%, compared to 40.5% and 39.4% for the years 2011 and 2010 respectively. Increasing gross margin might be attributed to the fact that Apple Inc. has experienced surge in iPhone sales, which have comparatively lower cost structure. In addition, general economic decline resulted in drop of commodity prices and other product costs, which contributed to the increase in the gross margin. On the other hand, Apple’s managers foresee that gross margin would decrease in future periods, partially because of the introduction of new products with flat pricing and higher cost structure, and because of the strengthening of the US dollar.
Operating expenses increased by almost 30% compared to 2011. Selling, General and Administrative expenses increasedto $10 billion in 2012, compared to $7.5 billion in 2011. This increase is explained by the expansion of retail segment and opening of new retail stores. Managers claim that spending on professional services, marketing and advertising programs have also increased. Advertising expense equaled $1 billion in 2012, compared to $691 million in 2010. Apple Inc. continues to invest funds in R&D. Research and Development expenses increased by 39% compared to 2011, to $3.3 billion. Company believes that investment into R&D is vital for future growth and ability to remain competitive in a given market. Nonetheless, increase in operating expenses did not offset the increase in net sales. As a result, operating margin for the year 2012 was 35%, compared to 31% in 2011. This could be attributed to the economies of scale and increase of gross margin.
Other income increased by almost 25% compared to 2011 to $1.08 billion. As Apple continues to invest heavily into long term marketable securities, dividends and returns on these securities continue to grow. This figure was partially offset by higher premium expenses on foreign exchange contracts ($566 million expense in total). Total net other income was $522, $415 and $155 billion for 2012, 2011 and 2010, respectively.
Overall, Apple Inc. has experienced a significant increase of 60% in net income compared to 2011. In 2012, it had $41.7 billion of income after taxes (effective tax rate for 2012 was 25.2%).If global demand for high-tech products as iPhone and iPad continues to rise, and apple would manage to keep in pace with the competition, and produce new products, which deliver greater value, it is possible that the positive trend in net income may be prolonged. However, Apple Inc. is dependable on its suppliers and outsourcing partners, which produce sub-assemblies and other components. Management claims that company’s operating results could be adversely affected if its outsourcing partners were unable to meet their production commitments. In addition, operating results might be affected if the company fails to meet the uprising demand for new products, because of initial capacity constraints, which often occur when the new technology is introduced.
- Cash Flow Statement
In order to analyze Apple’s cash position we will refer to the Consolidated Cash Flow Statement, located in the second part of the report. Cash flow from operating activities is formed using indirect method, while Cash Flow from Financing and Investing activities are prepared using direct method.
CFO demonstrates stable increase from year to year. As Apple continues to grow its net sales, cash from operations continues to increase. However, accounts receivable grew by $7 billion in 2012, which means that Apple has to control the collection of receivables in order to maintain credible cash position. Overall, cash provided by operation activities equaled $50.8 billion in 2012 (35% increase compared to 2011).
CFF statement provides us with the information on Apple’s financial activities. In 2012 Apple has issued additional common stock for $665 million and paid dividends in the amount of $2.5 billion
Overall, we may see that Apple generated $50.8 billion from operating activities, used $48.2 billion in investing activities, and used $1.6 billion in financing activities. Total cash available did not increase significantly through the year, and equaled $10.7 billion in the end of 2012. This may be due to the fact that Apple tries to manage its cash as effective as possible. Cash of $10 billion is enough for the company to maintain effective operating performance. All cash which exceeds this amount, becomes invested primary into low-risk marketable securities to provide effective return on free funds.
Works Cited
Brealey, R. A., Myers, S. C., & Marcus, A. J. (2001).Fundamentals of Corporate Finance.Third Edition.The McGraw-Hill.
U.S. Securities and Exchange Commission. (2012). Form 10-K. Commission file number 000-10030. Retrieved from http://investor.apple.com/secfiling.cfm?filingID=1193125-12-444068
Apple Inc. Share Price (AAPL). (2013). Retrieved from http://finance.yahoo.com/q?s=AAPL
