By Tatyana Shumsky 

Apple Inc. this month sparked confusion and frustration among analysts and investors trying to decipher the performance of the company's services business, fanning lingering concerns about transparency at one of the world's most closely watched companies.

The problem wasn't the math. Instead, analysts say, it was with a seemingly backward sequence of financial disclosures from Apple, and a perceived lack of transparency that led to erroneous forecasts by some analysts who cover the company.

The confusion centered on Apple's application of new revenue-accounting rules, which the company had disclosed but not in a way that stuck with many analysts. And it had to do with the growth of Apple's services business, which the company has pointed to as evidence of the health of its business.

The services segment, which includes app-store sales, mobile payments and streaming-music subscriptions, is being closely watched by analysts as the number of iPhones the company sells stagnates. It is expected to account for about 60% of Apple's revenue growth over the next five years, according to Morgan Stanley.

The mix-up started Jan 2, when Apple shared a sneak peek of its first-quarter services business's performance in a letter to shareholders, projecting that it generated about $10.8 billion in revenue. That estimate was above analyst expectations.

The letter, however, left out an important detail: Its services revenue was calculated using new revenue-recognition rules, which were put in place by standard-setters to add uniformity to how and when companies record revenues for goods and services.

Some analysts assumed Apple's letter was applying the old accounting standard, which would have put the figure closer to $10.2 billion, which was below analyst expectations.

A couple of days later, when the company posted on its website a breakdown of how the new accounting rules would have affected its prior-year's quarterly revenue, the services business's accounting picture became more clear.

"The letter figure, which looked like a $300 million beat, now looks like a $300 million miss," said Jeffrey Kvaal, an analyst at Nomura Group's Instinet research division.

Apple Chief Financial Officer Luca Maestri didn't respond to messages seeking comment. An Apple spokesman declined to comment.

Companies often disclose changes to their accounting techniques, and they regularly remind investors of those changes. The goal is to give investors a clear understanding of how the company calculates its financial performance.

Apple, for its part, telegraphed the change. During the company's November earnings call, Mr. Maestri said Apple would begin reporting under the new standard starting with the first quarter of fiscal 2019. The disclosure also was part of the company's 2018 annual report.

Some analysts remembered that disclosure. Those who did should have incorporated it into their calculations, said Tim Arcuri, an analyst at UBS. Still, he said, calculating the comparable 2018 quarterly revenue figures "was total guess work."

A reminder of the accounting change in Apple's letter would have been helpful, if not expected, analysts said.

Toni Sacconaghi, an analyst at investment manager AllianceBernstein, said he contacted Apple after its shareholder letter came out. He wanted to confirm that the quoted figures were under the new accounting, and he requested comparable calculations from the year-ago quarter. When Apple declined, Mr. Sacconaghi said, he was forced to make an estimate.

In a Jan. 3 note to investors, he estimated that the accounting change bolstered Apple's first quarter services net sales by $700 million. Then came the calls from clients.

Investors who hadn't noticed the accounting rule change questioned why Mr. Sacconaghi marked down the $10.8 billion figure to $10.1 billion. "There was a lot of confusion, he said. "We did have investors calling us saying, 'why did you write what you wrote?'"

As analysts came up with their own estimates, it led to a range of predictions. Some said the services business grew 28% in the first quarter from a year earlier. Others said the growth rate was closer to 18%. A few revised or updated notes to investors after Apple spelled out the new accounting approach.

Investors will learn the full impact of the new accounting rules when Apple files its first-quarter earnings report for fiscal 2019 on Jan. 29.

The difference between Apple's services figures under the two accounting treatments might seem like pocket change in the broader context of the company, which is worth more than $700 billion. But many are watching the tech giant for clues about the health of the global economy. And perceptions about transparency can affect a company's value.

Apple in November roiled markets when it said it would stop reporting unit-sales figures. It spooked investors again this month when it slashed its quarterly revenue guidance for the first time in 15 years.

The service business confusion didn't help, said Daniel Ives, managing director at Wedbush Securities who follows Apple. "When transparency is reduced, the multiple gets reduced," he said. "Whether its Apple or any other stock."

--Tripp Mickle contributed to this article.

Write to Tatyana Shumsky at tatyana.shumsky@wsj.com

 

(END) Dow Jones Newswires

January 16, 2019 14:21 ET (19:21 GMT)

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