SAN DIEGO – If you missed my column in the Weekend Wall Street Journal: From the "for what it's worth" file: For all of its terrific marketing, superb products and highflying stock, there's another side to the revival of Apple Computer (AAPL) that gets less airplay: Its lack of a certain type of disclosure.
With the exception of analyst Robert Renck, nobody seems to care. Renck, of the private research firm R. L. Renck & Co., may be the only analyst to rate Apple a "sell." Among the reasons: the sparse way in which it breaks out operating results of its segments. Renck, who prides himself on knowing his way around the dark alleys of financial statements, has a knack for questioning the status quo of Wall Street darlings. His earlier targets include McDonald's (MCD) , before investors realized how stale it had become, and CUC International, before it was acquired by - and became a major headache for - Cendant (CD).
While not predicting a similar fate for Apple, Renck believes the company's skimpy segment disclosure makes it a "have-faith, trust me" stock. As a result, he has warned his clients, Wall Street's bullish forecasts aren't without risk for this simple reason: Analysts can't get a true and complete picture of how Apple makes its money. "I don't think Apple is doing anything wrong other than their penchant for secrecy," he says.
Like much in accounting, rules for the way a company breaks out its different businesses in Securities and Exchange Commission filings are subject to interpretation and considerable debate. Apple has chosen to report segment results pretty much the way it always has: by breaking out operating profits by the regions in which it operates, not products, for which it only gives sales; it also breaks out the operating profits for its retail stores. That may have been fine when most of Apple's sales came from Macintosh computers, making a separate breakout for analytical purposes irrelevant, Renck says. But computer sales now trail sales of iPods, which as of the first six months of Apple's fiscal year accounted for 46 percent of total revenue.
Furthermore, in its SEC filings the company in recent years has changed its description to include "music products and services" as a separate part of its business organization. Renck, in one of his reports, is more direct: "Apple clearly has its feet in two separate and distinct business models, namely computer manufacturing and software creation and the consumer electronics industry."
Accounting standards, he adds, require that segments generating more than 10 percent of a company's revenue be broken out by several metrics, including sales, profit and assets. The iPod first passed that threshold in early 2004. Commenting on the issue, in a statement on current accounting and disclosure issues, the SEC staff has said it believes segment information should be broken out unless "separate reporting of segment information will not add significantly to an investor's understanding of an enterprise [because] its operating segments have characteristics so similar that they can be expected to have essentially the same future prospects." Renck goes so far as to say he believes Apple should do a separate breakout for computers, iPods, music-related products, peripherals and software and service. "Their business has changed and they should be doing it differently," he says. "Transparency is what everyone wants, and they don't want to be transparent."
Apple declined to explain why it doesn't provide more financial information on different business segments, saying it doesn't comment on analyst reports. Instead, it sent me a copy of what it believes is a critical passage from its 10-K, which goes into detail about how it "manages its business primarily on a geographic basis."
But even the company's fans appear to be growing impatient with Apple's hesitancy to disclose more. On a recent earnings conference call, several analysts specifically asked about the iPod's gross margin. Finance Chief Peter Oppenheimer responded to one, saying, "... Our competitors would just love to know what our specific gross margins are ... and we just don't want to help them."
While that is understandable, Renck doesn't believe it is necessarily right. "Without clarity," he argues, "analysts can't forecast with any degree, other than to rely on what management says."
That may be fine when business is booming; it is foolhardy, when it is not. And it won't always be for Apple.
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