1 10-Q d10q.htm FORM 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the quarterly period ended June 26, 2010
or
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the transition period from
to
.
Commission file number: 000-10030
APPLE INC.
(Exact name of Registrant as specified in its charter)
California
94-2404110
(State or other jurisdiction
of incorporation or organization)
(I.R.S. Employer Identification No.)
1 Infinite Loop
Cupertino, California
95014
(Address of principal executive offices)
(Zip Code)
Registrants telephone number, including area code: [phone]
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes x
No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every
Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of this chapter)
during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes x
No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a
smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company
in Rule 12b-2 of the Exchange Act.
Large accelerated filer
x
Accelerated filer
Non-accelerated filer
(Do not check if a smaller reporting company)
Smaller reporting company
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes
No x
913,562,880 shares of common stock issued and outstanding as of July 9, 2010
PART I. FINANCIAL INFORMATION
Item 1.
Financial Statements
APPLE INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
(In millions, except share amounts which are reflected in thousands and per share amounts)
Three Months Ended
June 26,
2010
Net sales
$ 15,700
Nine Months Ended
June 27,
2009
$
June 26,
2010
June 27,
2009
9,734
$ 44,882
$ 30,698
Cost of sales
9,564
5,751
26,710
18,581
Gross margin
6,136
3,983
18,172
12,117
464
341
1,288
975
Selling, general and administrative
1,438
1,010
3,946
3,086
Total operating expenses
1,902
1,351
5,234
4,061
Operating income
4,234
2,632
12,938
8,056
58
60
141
281
Income before provision for income taxes
4,292
2,692
13,079
8,337
Provision for income taxes
1,039
864
3,374
2,634
Operating expenses:
Research and development
Other income and expense
Net income
$
3,253
$
1,828
$
9,705
$
5,703
Earnings per common share:
Basic
$
3.57
$
2.05
$
10.69
$
6.40
Diluted
$
3.51
$
2.01
$
10.51
$
6.30
Shares used in computing earnings per share:
Basic
912,197
893,712
907,762
891,345
Diluted
927,361
909,160
923,341
904,549
See accompanying Notes to Condensed Consolidated Financial Statements.
2
APPLE INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
(In millions, except share amounts)
June 26,
2010
September 26,
2009
ASSETS:
Current assets:
Cash and cash equivalents
$
Short-term marketable securities
9,705
$
5,263
14,583
18,201
3,447
3,361
942
455
Deferred tax assets
1,216
1,135
Vendor non-trade receivables
2,952
1,696
Other current assets
3,188
1,444
Total current assets
36,033
31,555
Long-term marketable securities
21,551
10,528
3,990
2,954
Goodwill
714
206
Acquired intangible assets, net
318
247
2,119
2,011
Accounts receivable, less allowances of $52 in each period
Inventories
Property, plant and equipment, net
Other assets
Total assets
$
64,725
$
47,501
$
8,469
$
5,601
LIABILITIES AND SHAREHOLDERS EQUITY:
Current liabilities:
Accounts payable
Accrued expenses
4,452
3,852
Deferred revenue
2,691
2,053
15,612
11,506
Deferred revenue non-current
1,021
853
Other non-current liabilities
4,981
3,502
21,614
15,861
Common stock, no par value; 1,800,000,000 shares authorized; 913,482,347 and
899,805,500 shares issued and outstanding, respectively
10,133
8,210
Retained earnings
32,870
23,353
108
77
43,111
31,640
Total current liabilities
Total liabilities
Commitments and contingencies
Shareholders equity:
Accumulated other comprehensive income
Total shareholders equity
Total liabilities and shareholders equity
$
See accompanying Notes to Condensed Consolidated Financial Statements.
3
64,725
$
47,501
APPLE INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(In millions)
Nine Months Ended
June 26,
2010
June 27,
2009
$ 5,263
$ 11,875
9,705
5,703
Depreciation, amortization and accretion
698
531
Stock-based compensation expense
655
530
1,298
772
14
18
(79)
(264)
(487)
129
(1,256)
788
(944)
62
(71)
(602)
Cash and cash equivalents, beginning of the period
Operating activities:
Net income
Adjustments to reconcile net income to cash generated by operating activities:
Deferred income tax expense
Loss on disposition of property, plant and equipment
Changes in operating assets and liabilities:
Accounts receivable, net
Inventories
Vendor non-trade receivables
Other current assets
Other assets
Accounts payable
2,812
Deferred revenue
806
323
(239)
(293)
Other liabilities
Cash generated by operating activities
Investing activities:
12,912
(648)
7,049
Purchases of marketable securities
(41,318)
(34,69
6)
Proceeds from maturities of marketable securities
19,758
12,780
Proceeds from sales of marketable securities
14,048
9,117
Purchases of other long-term investments
(10)
Payments made in connection with business acquisitions, net of cash acquired
Payments for acquisition of property, plant and equipment
(61)
(615)
0
(1,245)
(685)
Payments for acquisition of intangible assets
(63)
(56)
Other
(26)
(62)
(9,471)
(13,66
3)
Cash used in investing activities
Financing activities:
Proceeds from issuance of common stock
733
288
Excess tax benefits from stock-based compensation
652
124
(384)
(68)
Taxes paid related to net share settlement of equity awards
Cash generated by financing activities
1,001
Increase/(decrease) in cash and cash equivalents
4,442
Cash and cash equivalents, end of the period
344
(6,270)
$ 9,705
$ 5,605
$ 2,657
$ 2,490
Supplemental cash flow disclosure:
Cash paid for income taxes, net
See accompanying Notes to Condensed Consolidated Financial Statements.
4
Apple Inc.
Notes to Condensed Consolidated Financial Statements (Unaudited)
Note 1 Summary of Significant Accounting Policies
Apple Inc. and its wholly-owned subsidiaries (collectively Apple or the Company) designs, manufactures, and markets
personal computers, mobile communication and consumer electronics devices, and portable digital music and video players
and sells a variety of related software, services, peripherals, networking solutions, and third-party digital content and
applications. The Company sells its products worldwide through its online stores, its retail stores, its direct sales force, and
third-party wholesalers, resellers and value-added resellers. In addition, the Company sells a variety of third-party Macintosh
(Mac), iPhone, iPad and iPod compatible products including application software, printers, storage devices, speakers,
headphones, and various other accessories and supplies through its online and retail stores. The Company sells to consumer,
small and mid-sized business, education, enterprise, government and creative customers.
Basis of Presentation and Preparation
The accompanying condensed consolidated financial statements include the accounts of the Company. Intercompany accounts
and transactions have been eliminated. The preparation of these condensed consolidated financial statements in conformity
with U.S. generally accepted accounting principles (GAAP) requires management to make estimates and assumptions that
affect the amounts reported in these condensed consolidated financial statements and accompanying notes. Actual results could
differ materially from those estimates. Certain prior year amounts in the condensed consolidated financial statements and notes
thereto have been reclassified to conform to the current periods presentation.
These condensed consolidated financial statements and accompanying notes should be read in conjunction with the Companys
annual consolidated financial statements and the notes thereto for the fiscal year ended September 26, 2009, included in its
Annual Report on Form 10-K, as amended (the 2009 Form 10-K). Unless otherwise stated, references to particular years or
quarters refer to the Companys fiscal years ended in September and the associated quarters of those fiscal years.
Retrospective Adoption of New Accounting Principles
In September 2009, the Financial Accounting Standards Board (FASB) amended the accounting standards related to revenue
recognition for arrangements with multiple deliverables and arrangements that include software elements (new accounting
principles). The new accounting principles permit prospective or retrospective adoption, and the Company elected
retrospective adoption during the first quarter of 2010.
Under the historical accounting principles, the Company was required to account for sales of both iPhone and Apple TV using
subscription accounting because the Company indicated it might from time-to-time provide future unspecified software
upgrades and features for those products free of charge. Under subscription accounting, revenue and associated product cost of
sales for iPhone and Apple TV were deferred at the time of sale and recognized on a straight-line basis over each products
estimated economic life. This resulted in the deferral of significant amounts of revenue and cost of sales related to iPhone and
Apple TV.
The new accounting principles impact the Companys accounting for all past and current sales of iPhone, iPad, Apple TV and
for sales of iPod touch beginning in June 2010. The new accounting principles require the Company to account for the sale of
these devices as two deliverables. The first deliverable is the hardware and software essential to the functionality of the
hardware device delivered at the time of sale, and the second deliverable is the right included with the purchase of these
devices to receive on a when-and-if-available basis, future unspecified software upgrades and features relating to the products
essential software. The new accounting principles result in the recognition of a substantial portion of the revenue and all
product costs from the sale of these devices at the time of their sale. Additionally, the Company is required to estimate a
standalone selling price for the unspecified software upgrade rights included with the sale of these devices and recognizes that
amount ratably over the 24-month estimated life of the related hardware device.
5
The Company had the option of adopting the new accounting principles on a prospective or retrospective basis. Prospective
adoption would have required the Company to apply the new accounting principles to sales beginning in fiscal year 2010
without reflecting the impact of the new accounting principles on iPhone and Apple TV sales made prior to September 2009.
Accordingly, the Companys financial results for the two years following adoption would have included the impact of
amortizing the significant amounts of deferred revenue and cost of sales related to historical iPhone and Apple TV sales. The
Company believes prospective adoption would have resulted in financial information that was not comparable between
financial periods because of the significant amount of past iPhone sales; therefore, the Company elected retrospective
adoption. Retrospective adoption required the Company to revise its previously issued financial statements as if the new
accounting principles had always been applied. The Company believes retrospective adoption provides the most comparable
and useful financial information for financial statement users, is more consistent with the information the Companys
management uses to evaluate its business, and better reflects the underlying economic performance of the Company.
Refer to the Explanatory Note and Note 2, Retrospective Adoption of New Accounting Principles in the 2009 Form 10-K
for additional information on the impact of adoption.
Earnings Per Common Share
Basic earnings per common share is computed by dividing income available to common shareholders by the weighted-average
number of shares of common stock outstanding during the period. Diluted earnings per common share is computed by dividing
income available to common shareholders by the weighted-average number of shares of common stock outstanding during the
period increased to include the number of additional shares of common stock that would have been outstanding if the
potentially dilutive securities had been issued. Potentially dilutive securities include outstanding options, shares to be
purchased under the employee stock purchase plan, and unvested restricted stock units (RSUs). The dilutive effect of
potentially dilutive securities is reflected in diluted earnings per common share by application of the treasury stock method.
Under the treasury stock method, an increase in the fair market value of the Companys common stock can result in a greater
dilutive effect from potentially dilutive securities.
The following table sets forth the computation of basic and diluted earnings per common share for the three- and nine-month
periods ended June 26, 2010 and June 27, 2009 (in thousands, except net income in millions and per share amounts):
Three Months Ended
June 26,
2010
Nine Months Ended
June 27,
2009
June 26,
2010
June 27,
2009
Numerator:
Net income
$
3,253
$
1,828
$
9,705
$
5,703
Denominator:
Weighted-average shares outstanding
912,197
Basic earnings per common share
$
891,345
15,448
15,579
13,204
927,361
Weighted-average shares diluted
907,762
15,164
Effect of dilutive securities
893,712
909,160
923,341
904,549
3.57
$
2.05
$
10.69
$
6.40
Diluted earnings per common share
$
3.51
$
2.01
$
10.51
$
6.30
Potentially dilutive securities representing approximately 220,000 and 10.5 million shares of common stock for the three
months ended June 26, 2010 and June 27, 2009, respectively, and 498,000 and 13.4 million shares of common stock for the
nine months ended June 26, 2010 and June 27, 2009, respectively, were excluded from the computation of diluted earnings per
common share for these periods because their effect would have been antidilutive.
Revenue Recognition
Net sales consist primarily of revenue from the sale of hardware, software, digital content and applications, peripherals, and
service and support contracts. The Company recognizes revenue when persuasive evidence of an
6
arrangement exists, delivery has occurred, the sales price is fixed or determinable, and collection is probable. Product is
considered delivered to the customer once it has been shipped and title and risk of loss have been transferred. For most of the
Companys product sales, these criteria are met at the time the product is shipped. For online sales to individuals, for some
sales to education customers in the U.S., and for certain other sales, the Company defers revenue until the customer receives
the product because the Company legally retains a portion of the risk of loss on these sales during transit. The Company
recognizes revenue from the sale of hardware products (e.g., Macs, iPhones, iPads, iPods and peripherals), software bundled
with hardware that is essential to the functionality of the hardware, and third-party digital content sold on the iTunes Store in
accordance with general revenue recognition accounting guidance. The Company recognizes revenue in accordance with
industry specific software accounting guidance for the following types of sales transactions: (i) standalone sales of software
products, (ii) sales of software upgrades and (iii) sales of software bundled with hardware not essential to the functionality of
the hardware.
Revenue from service and support contracts is deferred and recognized ratably over the service coverage periods. These
contracts typically include extended phone support, repair services, web-based support resources and diagnostic tools offered
under the Companys standard limited warranty.
The Company sells software and peripheral products obtained from other companies. The Company generally establishes its
own pricing and retains related inventory risk, is the primary obligor in sales transactions with its customers, and assumes the
credit risk for amounts billed to its customers. Accordingly, the Company generally recognizes revenue for the sale of products
obtained from other companies based on the gross amount billed.
The Company records reductions to revenue for estimated commitments related to price protection and for customer incentive
programs, including reseller and end-user rebates, and other sales programs and volume-based incentives. The estimated cost
of these programs is accrued as a reduction to revenue in the period the Company has sold the product and committed to a
plan. The Company also records reductions to revenue for expected future product returns based on the Companys historical
experience. Revenue is recorded net of taxes collected from customers that are remitted to governmental authorities, with the
collected taxes recorded as current liabilities until remitted to the relevant government authority.
Revenue Recognition for Arrangements with Multiple Deliverables
For multi-element arrangements that include tangible products that contain software that is essential to the tangible products
functionality and undelivered software elements that relate to the tangible products essential software, the Company allocates
revenue to all deliverables based on their relative selling prices. In such circumstances, the new accounting principles establish
a hierarchy to determine the selling price to be used for allocating revenue to deliverables as follows: (i) vendor-specific
objective evidence of fair value (VSOE), (ii) third-party evidence of selling price (TPE), and (iii) best estimate of the
selling price (ESP). VSOE generally exists only when the Company sells the deliverable separately and is the price actually
charged by the Company for that deliverable. ESPs reflect the Companys best estimates of what the selling prices of elements
would be if they were sold regularly on a stand-alone basis.
As described in more detail below, for all past and current sales of iPhone, iPad, Apple TV and for sales of iPod touch
beginning in June 2010, the Company has indicated it may from time-to-time provide future unspecified software upgrades and
features free of charge to customers. The Company has identified two deliverables in arrangements involving the sale of these
devices. The first deliverable is the hardware and software essential to the functionality of the hardware device delivered at the
time of sale. The second deliverable is the right included with the purchase of iPhone, iPad, iPod touch and Apple TV to
receive on a when-and-if-available basis, future unspecified software upgrades and features relating to the products essential
software. The Company has allocated revenue between these two deliverables using the relative selling price method. Because
the Company has neither VSOE nor TPE for the two deliverables, the allocation of revenue has been based on the Companys
ESPs. Amounts allocated to the delivered hardware and the related essential software are recognized at the time of sale
provided the other conditions for revenue recognition have been met. Amounts allocated to the unspecified software upgrade
rights are deferred and recognized on a straight-line basis over the 24-month estimated life of each of these devices. All
product cost of sales, including estimated warranty costs, are recognized at the time of sale. Costs for engineering and sales and
marketing are expensed as incurred.
7
The Companys process for determining its ESP for deliverables without VSOE or TPE considers multiple factors that may
vary depending upon the unique facts and circumstances related to each deliverable. The Company believes its customers,
particularly consumers, would be reluctant to buy unspecified software upgrade rights related to iPhone iPad, iPod touch and
Apple TV. This view is primarily based on the fact that upgrade rights do not obligate the Company to provide upgrades at a
particular time or at all, and do not specify to customers which upgrades or features will be delivered. Therefore, the Company
has concluded that if it were to sell upgrade rights on a standalone basis, including those rights associated with iPhone, iPad,
iPod touch and Apple TV, the selling price would be relatively low. Key factors considered by the Company in developing the
ESPs for these upgrade rights include prices charged by the Company for similar offerings, the Companys historical pricing
practices, the nature of the upgrade rights (e.g., unspecified and when-and-if-available), and the relative ESP of the upgrade
rights as compared to the total selling price of the product. The Company may also consider, when appropriate, the impact of
other products and services, including advertising services, on selling price assumptions when developing and reviewing its
ESPs for software upgrade rights and related deliverables. The Company may also consider additional factors as appropriate,
including the pricing of competitive alternatives if they exist, and product-specific business objectives.
Beginning in the third quarter of 2010 in conjunction with the announcement of iOS 4, the Companys ESPs for the software
upgrade rights included with iPhone, iPad and iPod touch reflect the positive financial impact expected by the Company as a
result of its planned implementation of a mobile advertising platform for these devices and the expectation of customers
regarding software that includes or supports an advertising component. iOS 4 supports iAd, the Companys new mobile
advertising platform, which will enable applications on iPhone, iPad and iPod touch to feature media-rich advertisements
within applications.
For all periods presented, the Companys ESP for the software upgrade right included with each Apple TV sold is $10. The
Companys ESP for the software upgrade right included with each iPhone sold through the Companys second quarter of 2010
was $25. Beginning in April 2010 in conjunction with the Companys announcement of iOS 4 for iPhone, the Company
lowered its ESP for the software upgrade right included with each iPhone to $10.
Beginning with initial sales of iPad in April 2010, the Company has also indicated it may from time-to-time provide future
unspecified software upgrades and features free of charge to iPad customers. The Companys ESP for the software upgrade
right included with the sale of each iPad is $10. In June 2010, the Company announced that certain previously sold iPod touch
models would receive an upgrade to iOS 4 free of charge and indicated iPod touch devices running on iOS 4 may from timeto-time receive future unspecified software upgrades and features free of charge. The Companys ESP for the software upgrade
right included with each iPod touch sold beginning in June 2010 is $5.
The Company accounts for multiple element arrangements that consist only of software or software-related products, including
the sale of upgrades to previously sold software, in accordance with industry specific accounting guidance for software and
software-related transactions. For such transactions, revenue on arrangements that include multiple elements is allocated to
each element based on the relative fair value of each element, and fair value is generally determined by VSOE. If the Company
cannot objectively determine the fair value of any undelivered element included in such multiple-element arrangements, the
Company defers revenue until all elements are delivered and services have been performed, or until fair value can objectively
be determined for any remaining undelivered elements. When the fair value of a delivered element has not been established,
but fair value exists for the undelivered elements, the Company uses the residual method to recognize revenue. Under the
residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is
allocated to the delivered elements and is recognized as revenue.
Except as described for iPhone, iPad, iPod touch and Apple TV, the Company generally does not offer specified or unspecified
upgrade rights to its customers in connection with software sales or the sale of extended warranty and support contracts. A
limited number of the Companys software products are available with maintenance agreements that grant customers rights to
unspecified future upgrades over the maintenance term on a when and if available basis. Revenue associated with such
maintenance is recognized ratably over the maintenance term.
Fair Value Measurements
During 2009, the Company adopted the FASBs new accounting standard on fair value measurements and disclosures for all
financial assets and liabilities. The new accounting principles defined fair value, provided a
8
framework for measuring fair value, and expanded the disclosures required for fair value measurements. During the first
quarter of 2010, the Company adopted the new fair value accounting principles for all non-financial assets and non-financial
liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis, which
did not have a material effect on the Companys financial condition or operating results.
Business Combinations
In December 2007, the FASB issued a new accounting standard for business combinations, which established principles and
requirements for how an acquirer is to recognize and measure in its financial statements the identifiable assets acquired, the
liabilities assumed, and any noncontrolling interest in the acquiree in a business combination. This new accounting standard
also established principles regarding how goodwill acquired in a business combination or a gain from a bargain purchase
should be recognized and measured, as well as providing guidelines on the disclosure requirements. In April 2009, the FASB
amended this new accounting standard to require that assets acquired and liabilities assumed in a business combination that
arise from contingencies be recognized at fair value, if the fair value can be determined during the measurement period. The
Company adopted the new business combination accounting standard in the first quarter of 2010 and applied these principles
to any business combinations completed in or after the first quarter of 2010. The adoption of the new business combination
accounting standard did not have a material effect on the Companys financial condition or operating results.
During the first nine months of 2010, the Company completed various business acquisitions for an aggregate cash
consideration, net of cash acquired, of $615 million, of which $508 million was allocated to goodwill and $101 million to
acquired intangible assets.
9
Note 2 Financial Instruments
Cash, Cash Equivalents and Marketable Securities
The following table summarizes the fair value of the Companys cash and available-for-sale securities held in its marketable
securities investment portfolio, recorded as cash, cash equivalents or short-term or long-term marketable securities as of
June 26, 2010 and September 26, 2009 (in millions):
June 26, 2010
Cash
$
September 26, 2009
1,926
$
1,139
Money market funds
1,707
1,608
U.S. Treasury securities
1,420
289
U.S. agency securities
3,011
273
21
0
460
572
1,095
1,381
Corporate securities
50
0
Municipal securities
15
1
Total cash equivalents
7,779
4,124
U.S. Treasury securities
2,241
2,843
U.S. agency securities
4,688
8,582
Non-U.S. government securities
1,091
219
769
1,142
Commercial paper
1,326
2,816
Corporate securities
4,211
2,466
Municipal securities
257
133
Non-U.S. government securities
Certificates of deposit and time deposits
Commercial paper
Certificates of deposit and time deposits
Total short-term marketable securities
14,583
18,201
U.S. Treasury securities
3,626
484
U.S. agency securities
2,819
2,252
Non-U.S. government securities
2,065
102
222
0
Corporate securities
11,450
7,320
Municipal securities
1,369
370
21,551
10,528
Certificates of deposit and time deposits
Total long-term marketable securities
Total cash, cash equivalents and marketable securities
$
10
45,839
$
33,992
The following tables summarize the Companys available-for-sale securities adjusted cost, gross unrealized gains, gross
unrealized losses and fair value by significant investment category as of June 26, 2010 and September 26, 2009 (in millions):
June 26, 2010
Adjusted
Cost
Money market funds
U.S. Treasury securities
$ 1,707
Unrealized
Gains
$
0
Unrealized
Losses
$
Fair
Value
0
$ 1,707
7,263
24
0
7,287
10,509
10
(1)
10,518
Non-U.S. government securities
3,164
14
(1)
3,177
Certificates of deposit and time deposits
1,451
0
0
1,451
Commercial paper
2,421
0
0
2,421
Corporate securities
15,683
59
(31)
15,711
Municipal securities
1,636
6
(1)
1,641
(34)
$ 43,913
U.S. agency securities
Total cash equivalents and marketable securities
$ 43,834
$
113
$
September 26, 2009
Adjusted
Cost
Money market funds
U.S. Treasury securities
$ 1,608
Unrealized
Gains
$
0
Unrealized
Losses
$
Fair
Value
0
$ 1,608
3,610
6
0
3,616
11,085
22
0
11,107
320
1
0
321
Certificates of deposit and time deposits
1,714
0
0
1,714
Commercial paper
4,197
0
0
4,197
Corporate securities
9,760
42
(16)
9,786
Municipal securities
502
2
0
U.S. agency securities
Non-U.S. government securities
504
Total cash equivalents and marketable securities
$ 32,796
$
73
$
(16)
$ 32,853
The Company had net unrealized gains on its investment portfolio of $79 million and $57 million as of June 26, 2010 and
September 26, 2009, respectively. The net unrealized gains as of June 26, 2010 and September 26, 2009 are related primarily
to long-term marketable securities. The Company may sell certain of its marketable securities prior to their stated maturities for
strategic purposes, in anticipation of credit deterioration, or for duration management. The Company recognized no significant
net gains or losses during the three- and nine-month periods ended June 26, 2010 and June 27, 2009 related to such sales.
11
The following tables show the gross unrealized losses and fair value for investments in an unrealized loss position as of
June 26, 2010 and September 26, 2009, aggregated by investment category and the length of time that individual securities
have been in a continuous loss position (in millions):
June 26, 2010
Less than 12 Months
Fair
Value
U.S. agency securities
Non-U.S. government securities
$ 1,882
12 Months or Greater
Unrealized
Losses
$
(1)
Fair
Value
$
Unrealized
Losses
0
897
(1)
Corporate securities
5,408
(27)
551
(1)
$
(30)
$
313
Unrealized
Losses
$ 1,882
0
0
$ 8,738
Fair
Value
0
313
Municipal securities
$
0
Total
Total
897
(1)
5,721
(31)
551
(1)
(4)
0
$
(4)
$ 9,051
$
$
(1)
(34)
September 26, 2009
Less than 12 Months
Fair
Value
12 Months or Greater
Unrealized
Losses
Fair
Value
Unrealized
Losses
Total
Fair
Value
Unrealized
Losses
Corporate securities
$ 1,667
$
(3)
$
719
$
(13)
$ 2,386
$
(16)
Total
$ 1,667
$
(3)
$
719
$
(13)
$ 2,386
$
(16)
The unrealized losses on the Companys marketable securities were caused primarily by changes in market interest rates or
widening credit spreads. The Company considers the declines in market value of its marketable securities investment portfolio
to be temporary in nature. The Company typically invests in highly-rated securities, and its policy generally limits the amount
of credit exposure to any one issuer. The Companys investment policy requires investments to be investment grade, primarily
rated single-A or better, with the objective of minimizing the potential risk of principal loss. Fair values were determined for
each individual security in the investment portfolio. When evaluating the investments for other-than-temporary impairment,
the Company reviews factors such as the length of time and extent to which fair value has been below cost basis, the financial
condition of the issuer and any changes thereto, and the Companys intent to sell, or whether it is more likely than not it will be
required to sell, the investment before recovery of the investments amortized cost basis. During the three- and nine-month
periods ended June 26, 2010 and June 27, 2009, the Company did not recognize any significant impairment charges on
outstanding securities. As of June 26, 2010, the Company does not consider any of its investments to be other-than-temporarily
impaired.
Derivative Financial Instruments
The Company uses derivatives to partially offset its business exposure to foreign currency exchange risk. The Company may
enter into foreign currency forward and option contracts to offset some of the foreign exchange risk of expected future cash
flows on certain forecasted revenue and cost of sales, of net investments in certain foreign subsidiaries, and on certain existing
assets and liabilities. To help protect gross margins from fluctuations in foreign currency exchange rates, certain of the
Companys subsidiaries whose functional currency is the U.S. dollar, hedge a portion of forecasted foreign currency revenue.
The Companys subsidiaries whose functional currency is not the U.S. dollar and who sell in local currencies, may hedge a
portion of forecasted inventory purchases not denominated in the subsidiaries functional currencies. The Company typically
hedges portions of its forecasted foreign currency exposure associated with revenue and inventory purchases for three to six
months. To help protect the net investment in a foreign operation from adverse changes in foreign currency exchange rates, the
Company may enter into foreign currency forward and option contracts to offset the changes in the carrying amounts of these
investments due to fluctuations in foreign currency exchange rates. The Company may also enter into foreign currency forward
and option contracts to partially offset the foreign currency exchange gains and losses generated by the re-measurement of
certain assets and liabilities denominated in non-functional currencies. However, the Company may choose not to hedge
certain foreign currency exchange exposures for a variety of reasons, including but not limited to immateriality, accounting
considerations and the prohibitive economic cost of hedging particular
12
exposures. There can be no assurance the hedges will offset more than a portion of the financial impact resulting from
movements in foreign currency exchange rates.
The Companys accounting policies for these instruments are based on whether the instruments are designated as hedge or
non-hedge instruments. The Company records all derivatives on the Condensed Consolidated Balance Sheets at fair value. The
effective portions of cash flow hedges are recorded in other comprehensive income until the hedged item is recognized in
earnings. The effective portions of net investment hedges are recorded in other comprehensive income as a part of the
cumulative translation adjustment. Derivatives that are not designated as hedging instruments and the ineffective portions of
cash flow hedges and net investment hedges are adjusted to fair value through earnings in other income and expense.
The Company had a net deferred gain associated with cash flow hedges of approximately $42 million and $1 million, net of
taxes, recorded in other comprehensive income as of June 26, 2010 and September 26, 2009, respectively. Other
comprehensive income associated with cash flow hedges of foreign currency revenue is recognized as a component of net sales
in the same period as the related revenue is recognized, and other comprehensive income related to cash flow hedges of
inventory purchases is recognized as a component of cost of sales in the same period as the related costs are recognized.
Substantially all of the Companys hedged transactions as of June 26, 2010 are expected to occur within six months.
Derivative instruments designated as cash flow hedges must be de-designated as hedges when it is probable the forecasted
hedged transaction will not occur in the initially identified time period or within a subsequent two month time period. Deferred
gains and losses in other comprehensive income associated with such derivative instruments are reclassified immediately into
earnings through other income and expense. Any subsequent changes in fair value of such derivative instruments also are
reflected in current earnings unless they are re-designated as hedges of other transactions. The Company did not recognize any
significant net gains or losses related to the loss of hedge designation on discontinued cash flow hedges during the three- and
nine-month periods ended June 26, 2010 and June 27, 2009, respectively.
The Company had an unrealized net loss on net investment hedges of $17 million and $2 million, net of taxes, included in the
cumulative translation adjustment account of accumulated other comprehensive income (AOCI) as of June 26, 2010 and
September 26, 2009, respectively. The ineffective portions and amounts excluded from the effectiveness test of net investment
hedges are recorded in current earnings in other income and expense.
The Company recognized in earnings a net gain on foreign currency forward and option contracts not designated as hedging
instruments of $25 million and $15 million during the three- and nine-month periods ended June 26, 2010, respectively, and a
net loss on foreign currency forward and option contracts not designated as hedging instruments of $34 million and a net gain
of $139 million during the three- and nine-month periods ended June 27, 2009, respectively.
The following table shows the notional principal and credit risk amounts of the Companys derivative instruments outstanding
as of June 26, 2010 and September 26, 2009 (in millions):
June 26, 2010
Notional
Principal
September 26, 2009
Credit Risk
Amounts
Notional
Principal
Credit Risk
Amounts
Instruments qualifying as accounting hedges:
Foreign exchange contracts
$ 10,321
$
216
$ 4,422
$
31
$ 6,078
$
22
$ 3,416
$
10
Instruments other than accounting hedges:
Foreign exchange contracts
The notional principal amounts for derivative instruments provide one measure of the transaction volume outstanding as of
June 26, 2010 and September 26, 2009, and do not represent the amount of the Companys exposure to credit or market loss.
The credit risk amounts represent the Companys gross exposure to potential
13
accounting loss on these transactions if all counterparties failed to perform according to the terms of the contract, based on
then-current currency exchange rates at each respective date. The Companys gross exposure on these transactions may be
further mitigated by collateral received from certain counterparties. The Companys exposure to credit loss and market risk
will vary over time as a function of currency exchange rates. Although the table above reflects the notional principal and credit
risk amounts of the Companys foreign exchange instruments, it does not reflect the gains or losses associated with the
exposures and transactions that the foreign exchange instruments are intended to hedge. The amounts ultimately realized upon
settlement of these financial instruments, together with the gains and losses on the underlying exposures, will depend on actual
market conditions during the remaining life of the instruments.
The Company generally enters into master netting arrangements, which reduce credit risk by permitting net settlement of
transactions with the same counterparty. To further limit credit risk, the Company generally enters into collateral security
arrangements that provide for collateral to be received when the net fair value of certain financial instruments exceeds
contractually established thresholds. The Company presents its derivative assets and derivative liabilities at their gross fair
values. As of June 26, 2010, the Company has received cash collateral related to the derivative instruments under its collateral
security arrangements of $73 million and recorded the offsetting balance as accrued expenses in the Condensed Consolidated
Balance Sheet. The Company did not record any significant amounts of cash collateral related to the derivative instruments
under its master netting arrangements as of September 26, 2009. The Company did not have any derivative instruments with
credit risk-related contingent features that would require it to post additional collateral as of June 26, 2010 or September 26,
2009.
The estimates of fair value are based on applicable and commonly used pricing models and prevailing financial market
information as of June 26, 2010 and September 26, 2009. Refer to Note 3, Fair Value Measurements of this Form 10-Q, for
additional information on the fair value measurements for all financial assets and liabilities, including derivative assets and
derivative liabilities, that are measured at fair value in the condensed consolidated financial statements on a recurring basis.
The following tables show the Companys derivative instruments measured at gross fair value as reflected in the Condensed
Consolidated Balance Sheets as of June 26, 2010 and September 26, 2009 (in millions):
June 26, 2010
Fair Value of
Derivatives
Designated
as Hedge
Instruments
Fair Value of
Derivatives
Not Designated
as Hedge
Instruments
Total
Fair Value
Derivative assets (a):
Foreign exchange contracts
$
184
$
22
$
206
$
160
$
24
$
184
Derivative liabilities (b):
Foreign exchange contracts
September 26, 2009
Fair Value of
Derivatives
Designated
as Hedge
Instruments
Fair Value of
Derivatives
Not Designated
as Hedge
Instruments
Total
Fair Value
Derivative assets (a):
Foreign exchange contracts
$
27
$
10
$
37
$
24
$
1
$
25
Derivative liabilities (b):
Foreign exchange contracts
(a) All derivative assets are recorded as other current assets in the Condensed Consolidated Balance Sheets.
(b) All derivative liabilities are recorded as accrued expenses in the Condensed Consolidated Balance Sheets.
14
The following tables show the pre-tax effect of the Companys derivative instruments designated as cash flow and net
investment hedges in the Condensed Consolidated Statements of Operations for the three- and nine-month periods ended
June 26, 2010 and June 27, 2009 (in millions):
Three Month Periods
Gains (Losses)
Recognized in OCI Effective Portion (a)
June 26,
2010
Gains (Losses) Recognized Ineffective
Portion and Amount Excluded from
Effectiveness Testing
Gains (Losses) Reclassified from AOCI
into Income - Effective Portion (a)
June 27,
2009
June 26,
2010
June 27,
2009
June 26,
2010
Location
June 27,
2009
Location
Cash flow
hedges:
Foreign
exchange
contracts
$
Foreign
exchange
contracts
118
$
(13) Net sales
(35)
$
(36) Cost of sales
78
$
1
(11)
Other income
and expense
$
(6) Other income
and expense
(46) $
(13)
(4)
(4)
0
1
Net investment
hedges:
Foreign
exchange
contracts
Total
(18)
$
65
(8) Other income
and expense
$
(57)
0
$
67
0
$
Other income
and expense
(5)
$
(50) $
16
Nine Month Periods
Gains (Losses)
Recognized in OCI Effective Portion (a)
June 26,
2010
June 27,
2009
Gains (Losses) Reclassified from AOCI
into Income - Effective Portion (a)
June 26,
June 27,
2010
2009
Location
Gains (Losses) Recognized Ineffective
Portion and Amount Excluded from
Effectiveness Testing
June 26,
June 27,
2010
2009
Location
Cash flow
hedges:
Foreign
exchange
contracts
Foreign
exchange
contracts
$
212
(67)
$
285
87
Net sales
Cost of sales
$
109
(29)
$
324
Other income
and expense
105
Other income
and expense
$
(69) $
(19)
(64)
(9)
Net investment
hedges:
Foreign
exchange
contracts
Total
(16)
$
129
(30) Other income
and expense
$
342
0
$
80
0
$
429
Other income
and expense
0
$
(88) $
3
(70)
(a) Refer to Note 6, Shareholders Equity and Stock-Based Compensation of this Form 10-Q, which summarizes the
activity in accumulated other comprehensive income related to derivatives.
15
Note 3 Fair Value Measurements
The Company defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date. When determining the fair value measurements for
assets and liabilities, which are required to be recorded at fair value, the Company considers the principal or most
advantageous market in which the Company would transact and the market-based risk measurements or assumptions that
market participants would use in pricing the asset or liability, such as inherent risk, transfer restrictions and credit risk.
The Company applies the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three
levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the
fair value measurement:
Level 1 Quoted prices in active markets for identical assets or liabilities.
Level 2 Observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for
identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by
observable market data for substantially the full term of the assets or liabilities.
Level 3 Inputs that are generally unobservable and typically reflect managements estimates of assumptions that market
participants would use in pricing the asset or liability.
The Companys valuation techniques used to measure the fair value of money market funds and certain marketable equity
securities were derived from quoted prices in active markets for identical assets or liabilities. The valuation techniques used to
measure the fair value of all other financial instruments, all of which have counterparties with high credit ratings, were valued
based on quoted market prices or model driven valuations using significant inputs derived from or corroborated by observable
market data.
16
Assets/Liabilities Measured at Fair Value on a Recurring Basis
The following tables present the Companys assets and liabilities measured at fair value on a recurring basis as of June 26,
2010 and September 26, 2009 (in millions):
June 26, 2010
Quoted Prices
in Active
Markets for
Identical
Instruments
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
(Level 1)
(Level 2)
(Level 3)
Total (a)
Assets:
Money market funds
$
1,707
$
0
$
0
$
1,707
U.S. Treasury securities
0
7,287
0
7,287
U.S. agency securities
0
10,518
0
10,518
Non-U.S. government securities
0
3,177
0
3,177
Certificates of deposit and time deposits
0
1,451
0
1,451
Commercial paper
0
2,421
0
2,421
Corporate securities
0
15,711
0
15,711
Municipal securities
0
1,641
0
1,641
Marketable equity securities
89
0
0
89
Foreign exchange contracts
0
206
0
206
Total assets measured at fair value
$
1,796
$
42,412
$
0
$
44,208
Foreign exchange contracts
$
0
$
184
$
0
$
184
Total liabilities measured at fair value
$
0
$
184
$
0
$
184
Liabilities:
17
September 26, 2009
Quoted Prices
in Active
Markets for
Identical
Instruments
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
(Level 1)
(Level 2)
(Level 3)
Total (a)
Assets:
Money market funds
$
1,608
$
0
$
0
$
1,608
U.S. Treasury securities
0
3,616
0
3,616
U.S. agency securities
0
11,107
0
11,107
Non-U.S. government securities
0
321
0
321
Certificates of deposit and time deposits
0
1,714
0
1,714
Commercial paper
0
4,197
0
4,197
Corporate securities
0
9,786
0
9,786
Municipal securities
0
504
0
504
Marketable equity securities
61
0
0
61
Foreign exchange contracts
0
37
0
37
Total assets measured at fair value
$
1,669
$
31,282
$
0
$
32,951
Foreign exchange contracts
$
0
$
25
$
0
$
25
Total liabilities measured at fair value
$
0
$
25
$
0
$
25
Liabilities:
(a) The total fair value amounts for assets and liabilities also represent the related carrying amounts.
The following tables summarize the Companys assets and liabilities measured at fair value on a recurring basis presented on
the Companys Condensed Consolidated Balance Sheets as of June 26, 2010 and September 26, 2009 (in millions):
June 26, 2010
Quoted Prices
in Active
Markets for
Identical
Instruments
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
(Level 1)
(Level 2)
(Level 3)
Total (a)
Assets:
Cash equivalents
$
1,707
$
6,072
$
0
$
7,779
Short-term marketable securities
0
14,583
0
14,583
Long-term marketable securities
0
21,551
0
21,551
Other current assets
0
206
0
206
89
0
0
89
Other assets
Total assets measured at fair value
$
1,796
$
42,412
$
0
$
44,208
Other current liabilities
$
0
$
184
$
0
$
184
Total liabilities measured at fair value
$
0
$
184
$
0
$
184
Liabilities:
18
September 26, 2009
Quoted Prices
in Active
Markets for
Identical
Instruments
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
(Level 1)
(Level 2)
(Level 3)
Total (a)
Assets:
Cash equivalents
$
1,608
$
2,516
$
0
$
4,124
Short-term marketable securities
0
18,201
0
18,201
Long-term marketable securities
0
10,528
0
10,528
Other current assets
0
37
0
37
61
0
0
61
Other assets
Total assets measured at fair value
$
1,669
$
31,282
$
0
$
32,951
Other current liabilities
$
0
$
25
$
0
$
25
Total liabilities measured at fair value
$
0
$
25
$
0
$
25
Liabilities:
(a) The total fair value amounts for assets and liabilities also represent the related carrying amounts.
Note 4 Condensed Consolidated Financial Statement Details
The following tables show the Companys condensed consolidated financial statement details as of June 26, 2010 and
September 26, 2009 (in millions):
Property, Plant and Equipment
June 26, 2010
Land and buildings
$
1,302
September 26, 2009
$
955
Machinery, equipment and internal-use software
2,898
1,932
133
115
Leasehold improvements
1,895
1,665
Gross property, plant and equipment
6,228
4,667
(2,238)
(1,713)
Office furniture and equipment
Accumulated depreciation and amortization
Net property, plant and equipment
$
3,990
$
2,954
Accrued Expenses
June 26, 2010
Accrued warranty and related costs
$
September 26, 2009
590
$
577
Accrued compensation and employee benefits
405
357
Deferred margin on component sales
511
225
Accrued marketing and distribution
365
359
56
430
2,525
1,904
Income taxes payable
Other current liabilities
Total accrued expenses
$
19
4,452
$
3,852
Non-Current Liabilities
June 26, 2010
Deferred tax liabilities
$
Other non-current liabilities
3,828
September 26, 2009
$
1,153
Total other non-current liabilities
$
4,981
2,216
1,286
$
3,502
Note 5 Income Taxes
As of June 26, 2010, the Company recorded gross unrecognized tax benefits of $879 million, of which $346 million, if
recognized, would affect the Companys effective tax rate. As of September 26, 2009, the total amount of gross unrecognized
tax benefits was $971 million, of which $307 million, if recognized, would affect the Companys effective tax rate. The
Companys total gross unrecognized tax benefits are classified as other non-current liabilities in the Condensed Consolidated
Balance Sheets. The Company had $217 million and $291 million of gross interest and penalties accrued as of June 26, 2010
and September 26, 2009, respectively, which are also classified as other non-current liabilities in the Condensed Consolidated
Balance Sheets.
The Internal Revenue Service (the IRS) has completed its field audit of the Companys federal income tax returns for the
years 2004 through 2006 and proposed certain adjustments. The Company has contested certain of these adjustments through
the IRS Appeals Office. The IRS is currently examining the years 2007 through 2009. All IRS audit issues for years prior to
2004 have been resolved. During the third quarter of 2010, the Company reached a tax settlement with the IRS for the years
2002 through 2003. In connection with the settlement, the Company reduced its gross unrecognized tax benefits by $100
million and recognized a $52 million tax benefit in the third quarter of 2010.
Management believes that an adequate provision has been made for any adjustments that may result from tax examinations.
However, the outcome of tax audits cannot be predicted with certainty. If any issues addressed in the Companys tax audits are
resolved in a manner not consistent with managements expectations, the Company could be required to adjust its provision for
income tax in the period such resolution occurs. Although timing of the resolution and/or closure of audits is not certain, the
Company does not believe it is reasonably possible that its unrecognized tax benefits would materially change in the next
12 months.
Note 6 Shareholders Equity and Stock-Based Compensation
Preferred Stock
The Company has five million shares of authorized preferred stock, none of which is issued or outstanding. Under the terms of
the Companys Restated Articles of Incorporation, the Board of Directors is authorized to determine or alter the rights,
preferences, privileges and restrictions of the Companys authorized but unissued shares of preferred stock.
Comprehensive Income
Comprehensive income consists of two components, net income and other comprehensive income. Other comprehensive
income refers to revenue, expenses, gains, and losses that under GAAP are recorded as an element of shareholders equity but
are excluded from net income. The Companys other comprehensive income consists of foreign currency translation
adjustments from those subsidiaries not using the U.S. dollar as their functional currency, unrealized gains and losses on
marketable securities categorized as available-for-sale, and net deferred gains and losses on certain derivative instruments
accounted for as cash flow hedges.
20
The following table summarizes the components of total comprehensive income, net of taxes, during the three- and nine-month
periods ended June 26, 2010 and June 27 2009 (in millions):
Three Months Ended
Nine Months Ended
June 26,
2010
June 26,
2010
June 27,
2009
$ 3,253
Net income
June 27,
2009
$ 1,828
$ 9,705
$ 5,703
Other comprehensive income:
Change in unrecognized gains on derivative instruments
13
(27)
41
(33)
(54)
39
(43)
(68)
24
60
33
91
$ 3,236
$ 1,900
$ 9,736
$ 5,693
Change in foreign currency translation
Net change in unrealized gains/losses on marketable
securities
Total comprehensive income
The following table summarizes activity in other comprehensive income related to derivatives, net of taxes, held by the
Company during the three- and nine-month periods ended June 26, 2010 and June 27, 2009 (in millions):
Three Months Ended
June 26,
2010
Change in fair value of derivatives
$
Adjustment for net gains/losses realized and included in
net income
Change in unrecognized gains on derivative instruments
June 27,
2009
55
$
(42)
$
Nine Months Ended
June 26,
2010
(30)
$
3
13
$
June 27,
2009
91
$
(50)
(27)
$
224
(257)
41
$
(33)
The following table summarizes the components of accumulated other comprehensive income, net of taxes, as of June 26, 2010
and September 26, 2009 (in millions):
June 26, 2010
Net unrealized gains/losses on marketable securities
$
September 26, 2009
81
$
48
Net unrecognized gains on derivative instruments
42
(15)
Cumulative foreign currency translation
Accumulated other comprehensive income
$
1
28
108
$
77
Employee Benefit Plans
Rule 10b5-1 Trading Plans
During the third quarter of 2010, executive officers Timothy D. Cook, Ronald B. Johnson, Peter Oppenheimer, Mark
Papermaster, Philip W. Schiller and Bertrand Serlet had trading plans pursuant to Rule 10b5-1(c)(1) of the Securities Exchange
Act of 1934, as amended (the Exchange Act). A trading plan is a written document that pre-establishes the amounts, prices
and dates (or formula for determining the amounts, prices and dates) of future purchases or sales of the Companys stock
including the exercise and sale of employee stock options and shares acquired pursuant to the Companys employee stock
purchase plan and upon vesting of RSUs.
2003 Employee Stock Plan
The 2003 Employee Stock Plan (the 2003 Plan) is a shareholder approved plan that provides for broad-based equity grants to
employees, including executive officers. At the Companys 2010 annual meeting of shareholders, the 2003 Plan was amended
to (1) increase the number of shares of the Companys common stock that may be delivered pursuant to awards granted under
the 2003 Plan by an additional 36,000,000 shares and (2) extend the Companys authority to grant awards under the 2003 Plan
intended to qualify as performance-based awards within the meaning of Section 162(m) of the U.S. Internal Revenue Code
through the 2015 annual meeting of shareholders.
21
1997 Director Stock Plan
In August 1997, the Companys Board of Directors adopted a Director Stock Plan (the Director Plan) for non-employee
directors of the Company, which was approved by shareholders in 1998. At the Companys 2010 annual meeting of
shareholders, the Director Plan was amended to (1) permit the Company to grant awards of RSUs under the Director Plan,
(2) effective for grants awarded on or after February 25, 2010, replace the automatic initial and annual grants of stock options
under the Director Plan with automatic initial and annual grants of RSUs under the plan, (3) modify the Director Plans
existing share-counting provision so that RSUs granted are deducted from the shares available for grant under the Director
Plan utilizing a factor of two times the number of RSUs granted, and (4) extend the term of the Director Plan to November 9,
2019.
Restricted Stock Units
A summary of the Companys RSU activity and related information for the nine months ended June 26, 2010, is as follows (in
thousands, except per share amounts):
Number of
Shares
Balance at September 26, 2009
WeightedAverage
Grant Date
Fair Value
12,263
$ 122.52
Restricted stock units granted
4,920
$ 198.30
Restricted stock units vested
(4,456)
$ 117.77
(549)
Aggregate
Intrinsic
Value
$ 146.42
Restricted stock units cancelled
Balance at June 26, 2010
12,178
$ 153.80
$ 3,247,780
The fair value as of the vesting date of RSUs that vested was $353 million and $990 million for the three- and nine-month
periods ended June 26, 2010, respectively, and $98 million and $186 million for the three- and nine-month periods ended
June 27, 2009, respectively.
Stock Option Activity
A summary of the Companys stock option and RSU activity and related information for the nine months ended June 26, 2010,
is as follows (in thousands, except per share amounts and contractual term in years):
Outstanding Options
Shares
Available
for Grant
Number
of Shares
WeightedAverage
Exercise
Price
Balance at September 26, 2009
37,261
34,375
Additional shares authorized
36,000
0
$
0
Restricted stock units granted
(9,840)
0
$
0
(34)
34
Options granted
$ 81.17
$ 202.00
WeightedAverage
Remaining
Contractual
Term
Aggregate
Intrinsic
Value
Options assumed
0
Options cancelled
368
Restricted stock units cancelled
1,098
Options exercised
0
98
$ 11.99
(368)
$ 137.61
0
$
0
Exercisable at June 26, 2010
Expected to vest after June 26, 2010
22
23,699
$ 87.55
2.99
$ 4,245,660
$ 72.09
2.63
$ 3,590,214
5,167
64,853
$ 64.45
18,448
Balance at June 26, 2010
(10,440)
$ 141.88
4.25
$
644,939
Aggregate intrinsic value represents the value of the Companys closing stock price on the last trading day of the fiscal period
in excess of the weighted-average exercise price multiplied by the number of options outstanding or exercisable. The aggregate
intrinsic value excludes the effect of stock options that have a zero or negative intrinsic value. The total intrinsic value of
options at the time of exercise was $559 million and $1.6 billion for the three- and nine-month periods ended June 26, 2010,
respectively, and $218 million and $367 million for the three- and nine-month periods ended June 27, 2009, respectively.
RSUs granted are deducted from the shares available for grant under the Companys stock option plans utilizing a factor of two
times the number of RSUs granted. Similarly, RSUs cancelled are added back to the shares available for grant under the
Companys stock option plans utilizing a factor of two times the number of RSUs cancelled. Outstanding RSU balances are not
included in the outstanding options balances in the stock option activity table.
Stock-Based Compensation
Stock-based compensation cost for RSUs is measured based on the closing fair market value of the Companys common stock
on the date of grant. Stock-based compensation cost for stock options is estimated at the grant date based on each options fairvalue as calculated by the Black-Scholes Merton (BSM) option-pricing model. The BSM option-pricing model incorporates
various assumptions including expected volatility, expected life and interest rates. The expected volatility is based on the
historical volatility of the Companys common stock over the most recent period commensurate with the estimated expected
life of the Companys stock options and other relevant factors including implied volatility in market traded options on the
Companys common stock. The Company bases its expected life assumption on its historical experience and on the terms and
conditions of the stock awards it grants to employees. The Company recognizes stock-based compensation cost as expense
ratably on a straight-line basis over the requisite service period.
The weighted-average assumptions used for stock options granted do not apply to employee stock options assumed in
conjunction with business acquisitions during the three- and nine-month periods ended June 26, 2010. The weighted-average
fair value of stock options assumed during the three- and nine-month periods ended June 26, 2010 was $256.63 and $216.82,
respectively. The weighted-average assumptions used for the three- and nine-month periods ended June 26, 2010 and June 27,
2009, and the resulting estimates of weighted-average fair value per share of stock options granted and of employee stock
purchase plan rights (stock purchase rights) during those periods are as follows:
Three Months Ended
June 26,
2010
Nine Months Ended
June 27,
2009
Expected life - stock options
June 26,
2010
June 27,
2009
0 years
3.70%
3.71%
1.83%
0.19%
0.26%
0.64%
40.84%
36.30%
52.61%
57.64%
32.82%
55.23%
0%
Expected dividend yields
6 month
s
27.12%
Expected volatility - stock purchase rights
7 month
s
0%
Expected volatility - stock options
6 month
s
0.20%
Interest rate - stock purchase rights
3.7 years
0%
Interest rate - stock options
10 years
7 month
s
Expected life - stock purchase rights
9.6
years
0%
0%
0%
Weighted-average fair value of stock options granted during the
period
$
0
$
68.84
$ 108.58
$
39.83
Weighted-average fair value of stock purchase rights during the
period
$
46.82
$
24.92
$
$
29.38
23
41.98
The following table provides a summary of the stock-based compensation expense included in the Condensed Consolidated
Statements of Operations for the three- and nine-month periods ended June 26, 2010 and June 27, 2009 (in millions):
Three Months Ended
June 26,
2010
Cost of sales
$
$
June 27,
2009
28
$ 112
65
240
192
86
303
253
179
$ 655
$ 530
219
$
June 26,
2010
101
Selling, general and administrative
Total stock-based compensation expense
June 27,
2009
80
Research and development
38
Nine Months Ended
$
$
85
The income tax benefit related to stock-based compensation expense was $77 million and $238 million for the three- and ninemonth periods ended June 26, 2010, respectively, and was $67 million and $199 million for the three- and nine-month periods
ended June 27, 2009. As of June 26, 2010, the total unrecognized compensation cost related to outstanding stock options and
RSUs expected to vest was $1.8 billion, which the Company expects to recognize over a weighted-average period of 2.65
years.
Note 7 Commitments and Contingencies
Lease Commitments
The Company leases various equipment and facilities, including retail space, under noncancelable operating lease
arrangements. The Company does not currently utilize any other off-balance sheet financing arrangements. The major facility
leases are generally for terms of one to 20 years and generally provide renewal options for terms of one to five additional
years. Leases for retail space are for terms of five to 20 years, the majority of which are for ten years, and often contain multiyear renewal options. As of September 26, 2009, the Companys total future minimum lease payments under noncancelable
operating leases were $1.9 billion, of which $1.5 billion related to leases for retail space. During the nine months ended
June 26, 2010, total future minimum lease payments under noncancelable operating leases related to leases for retail space
increased $200 million to $1.7 billion.
Accrued Warranty and Indemnifications
The following table reconciles changes in the Companys accrued warranties and related costs for the three- and nine-month
periods ended June 26, 2010 and June 27, 2009 (in millions):
Three Months Ended
June 26,
2010
Beginning accrued warranty and related costs
Cost of warranty claims
Accruals for product warranties
Ending accrued warranty and related costs
$ 588
Nine Months Ended
June 27,
2009
$
637
June 26,
2010
June 27,
2009
$ 577
$ 671
(155)
(124)
(427)
(395)
157
65
440
302
578
$ 590
$ 578
$ 590
$
The Company generally does not indemnify its operating system and application software customers against legal claims that
the software infringes third-party intellectual property rights. Other agreements entered into by the Company sometimes
include indemnification provisions under which the Company could be subject to costs and/or damages in the event of an
infringement claim against the Company or an indemnified third-party. However, the Company has not been required to make
any significant payments resulting from such an infringement claim asserted against it or an indemnified third-party and, in the
opinion of management, does not have a potential liability related to unresolved infringement claims subject to indemnification
that would materially adversely affect its financial condition or operating results. Therefore, the Company did not record a
liability for indemnification costs as of either June 26, 2010 or September 26, 2009.
24
The Company has entered into indemnification agreements with its directors and executive officers. Under these agreements,
the Company has agreed to indemnify such individuals to the fullest extent permitted by law against liabilities that arise by
reason of their status as directors or officers and to advance expenses incurred by such individuals in connection with related
legal proceedings. It is not possible to determine the maximum potential amount of payments the Company could be required
to make under these agreements due to the limited history of prior indemnification claims and the unique facts and
circumstances involved in each claim. However, the Company maintains directors and officers liability insurance coverage to
reduce its exposure to such obligations, and payments made under these agreements historically have not materially adversely
affected the Companys financial condition or operating results.
Concentrations in the Available Sources of Supply of Materials and Product
Although most components essential to the Companys business are generally available from multiple sources, certain key
components including but not limited to microprocessors, enclosures, certain liquid crystal displays (LCDs), certain optical
drives and application-specific integrated circuits (ASICs) are currently obtained by the Company from single or limited
sources, which subjects the Company to significant supply and pricing risks. Many of these and other key components that are
available from multiple sources including but not limited to NAND flash memory, dynamic random access memory
(DRAM) and certain LCDs, are subject at times to industry-wide shortages and significant commodity pricing fluctuations.
In addition, the Company has entered into certain agreements for the supply of key components including but not limited to
microprocessors, NAND flash memory, DRAM and LCDs at favorable pricing, but there is no guarantee that the Company
will be able to extend or renew these agreements on similar favorable terms, or at all, upon expiration or otherwise obtain
favorable pricing in the future. Therefore, the Company remains subject to significant risks of supply shortages and/or price
increases that can materially adversely affect its financial condition and operating results.
The Company and other participants in the personal computer, mobile communication and consumer electronics industries also
compete for various components with other industries that have experienced increased demand for their products. In addition,
the Company uses some custom components that are not common to the rest of the personal computer, mobile communication
and consumer electronics industries, and new products introduced by the Company often utilize custom components available
from only one source until the Company has evaluated whether there is a need for, and subsequently qualifies, additional
suppliers. When a component or product uses new technologies, initial capacity constraints may exist until the suppliers yields
have matured or manufacturing capacity has increased. If the Companys supply of a key single-sourced component for a new
or existing product were delayed or constrained, if such components were available only at significantly higher prices, or if a
key manufacturing vendor delayed shipments of completed products to the Company, the Companys financial condition and
operating results could be materially adversely affected. The Companys business and financial performance could also be
adversely affected depending on the time required to obtain sufficient quantities from the original source, or to identify and
obtain sufficient quantities from an alternative source. Continued availability of these components at acceptable prices, or at
all, may be affected if those suppliers decided to concentrate on the production of common components instead of components
customized to meet the Companys requirements.
Significant portions of the Companys Macs, iPhones, iPads, iPods, logic boards and other assembled products are now
manufactured by outsourcing partners, primarily in various parts of Asia. A significant concentration of this outsourced
manufacturing is currently performed by only a few outsourcing partners of the Company, often in single locations. Certain of
these outsourcing partners are the sole-sourced supplier of components and manufacturing outsourcing for many of the
Companys key products including but not limited to final assembly of substantially all of the Companys Macs, iPhones,
iPads and iPods. Although the Company works closely with its outsourcing partners on manufacturing schedules, the
Companys operating results could be adversely affected if its outsourcing partners were unable to meet their production
commitments. The Companys purchase commitments typically cover its requirements for periods ranging from 30 to 150
days.
Contingencies
The Company is subject to certain other legal proceedings and claims that have arisen in the ordinary course of business and
have not been fully adjudicated, which are discussed in Part II, Item 1 of this Form 10-Q under the heading Legal
Proceedings. In the opinion of management, the Company does not have a potential liability related to any current legal
proceedings and claims that would individually or in the aggregate materially adversely affect its financial condition or
operating results. However, the results of legal proceedings cannot be predicted with certainty.
25
If the Company failed to prevail in any of these legal matters or if several of these legal matters were resolved against the
Company in the same reporting period, the operating results of a particular reporting period could be materially adversely
affected.
Production and marketing of products in certain states and countries may subject the Company to environmental, product
safety and other regulations including, in some instances, the requirement to provide customers the ability to return product at
the end of its useful life, and place responsibility for environmentally safe disposal or recycling with the Company. Such laws
and regulations have been passed in several jurisdictions in which the Company operates, including various countries within
Europe and Asia and certain states and provinces within North America. Although the Company does not anticipate any
material adverse effects in the future based on the nature of its operations and the thrust of such laws, there is no assurance that
such existing laws or future laws will not materially adversely affect the Companys financial condition or operating results.
Note 8 Segment Information and Geographic Data
The Company reports segment information based on the management approach. The management approach designates the
internal reporting used by management for making decisions and assessing performance as the source of the Companys
reportable segments.
The Company manages its business primarily on a geographic basis. Accordingly, the Company determined its operating and
reporting segments, which are generally based on the nature and location of its customers, to be the Americas, Europe, Japan,
Asia-Pacific and Retail operations. The Americas, Europe, Japan and Asia Pacific segments exclude activities related to the
Retail segment. The Americas segment includes both North and South America. The Europe segment includes European
countries, as well as the Middle East and Africa. The Asia-Pacific segment includes Australia and Asia, but does not include
Japan. The Retail segment operates Apple-owned retail stores in the U.S. and in international markets. Each reportable
operating segment provides similar hardware and software products and similar services to the same types of customers. The
accounting policies of the various segments are generally the same as those described in Note 1, Summary of Significant
Accounting Policies of this Form 10-Q and in the Notes to Consolidated Financial Statements in the Companys 2009 Form
10-K.
The Company evaluates the performance of its operating segments based on net sales and operating income. Net sales for
geographic segments are generally based on the location of customers, while Retail segment net sales are based on sales from
the Companys retail stores. Operating income for each segment includes net sales to third parties, related cost of sales and
operating expenses directly attributable to the segment. Advertising expenses are generally included in the geographic segment
in which the expenditures are incurred. Operating income for each segment excludes other income and expense and certain
expenses managed outside the operating segments. Costs excluded from segment operating income include various corporate
expenses, such as manufacturing costs and variances not included in standard costs, research and development, corporate
marketing expenses, stock-based compensation expense, income taxes, various nonrecurring charges, and other separately
managed general and administrative costs. The Company does not include intercompany transfers between segments for
management reporting purposes. Segment assets exclude corporate assets, such as cash, short-term and long-term investments,
manufacturing and corporate facilities, miscellaneous corporate infrastructure, goodwill and other acquired intangible assets.
Except for the Retail segment, capital asset purchases for long-lived assets are not reported to management by segment. Cash
payments for capital asset purchases by the Retail segment were $128 million and $276 million during the three- and ninemonth periods ended June 26, 2010, respectively, and $101 million and $202 million during the three- and nine-month periods
ended June 27, 2009.
The Company has certain retail stores that have been designed and built to serve as high-profile venues to promote brand
awareness and serve as vehicles for corporate sales and marketing activities. Because of their unique design elements, locations
and size, these stores require substantially more investment than the Companys more typical retail stores. The Company
allocates certain operating expenses associated with its high-profile stores to corporate marketing expense to reflect the
estimated Company-wide benefit. The allocation of these operating costs to corporate expense is based on the amount incurred
for a high-profile store in excess of that incurred by a more typical Company retail location. The Company had opened a total
of 12 high-profile stores as of June 26, 2010. Expenses allocated to corporate marketing resulting from the operations of highprofile stores were $18 million and
26
$54 million during the three- and nine-month periods ended June 26, 2010, respectively, and $17 million and $49 million
during the three- and nine-month periods ended June 27, 2009, respectively.
Summary information by operating segment for the three- and nine-month periods months ended June 26, 2010 and June 27,
2009 is as follows (in millions):
Three Months Ended
Nine Months Ended
June 26,
2010
June 27,
2009
June 26,
2010
June 27,
2009
Net sales
$ 6,227
$ 4,474
$ 17,312
$ 13,745
Operating income
$ 1,997
$ 1,610
$ 5,482
$ 4,783
Net sales
$ 4,160
$ 2,505
$ 13,234
$ 8,575
Operating income
$ 1,631
$
926
$ 5,457
$ 2,971
Net sales
$
910
$
560
$ 2,580
$ 1,645
Operating income
$
390
$
273
$ 1,185
$
Net sales
$ 1,825
$
703
$ 5,524
$ 2,118
Operating income
$
$
235
$ 2,553
$
Americas:
Europe:
Japan:
658
Asia-Pacific:
841
675
Retail:
Net sales
$ 2,578
$ 1,492
$ 6,232
$ 4,615
Operating income
$
$
$ 1,447
$ 1,113
593
387
A reconciliation of the Companys segment operating income to the condensed consolidated financial statements for the threeand nine-month periods ended June 26, 2010 and June 27, 2009 is as follows (in millions):
Three Months Ended
June 26,
2010
June 27,
2009
Nine Months Ended
June 26,
2010
June 27,
2009
Segment operating income
$ 5,452
$ 3,431
$ 16,124
$ 10,200
Stock-based compensation expense
(219)
(179)
(655)
(530)
Other corporate expenses, net (a)
(999)
(620)
(2,531)
(1,614)
Total operating income
$ 4,234
$ 2,632
$ 12,938
$ 8,056
(a) Other corporate expenses include research and development, corporate marketing expenses, manufacturing costs and
variances not included in standard costs, and other separately managed general and administrative expenses, including
certain corporate expenses associated with support of the Retail segment.
Note 9 Related Party Transactions and Certain Other Transactions
The Company entered into a Reimbursement Agreement with its CEO, Steve Jobs, for the reimbursement of expenses incurred
by Mr. Jobs in the operation of his private plane when used for Apple business. The Company recognized a total of $12,000
and $155,000 in expenses pursuant to the Reimbursement Agreement during the three- and nine-month periods ended June 26,
2010, respectively. The Company did not recognize any expenses pursuant to the Reimbursement Agreement during the three
months ended June 27, 2009 and recognized a total of $4,000 in expenses pursuant to the Reimbursement Agreement during
the nine months ended June 27, 2009. All expenses recognized pursuant to the Reimbursement Agreement have been included
in selling, general, and administrative expenses in the Condensed Consolidated Statements of Operations.
27
Item 2.
Managements Discussion and Analysis of Financial Condition and Results of Operations
This section and other parts of this Form 10-Q contain forward-looking statements that involve risks and uncertainties.
Forward-looking statements can be identified by words such as anticipates, expects, believes, plans, predicts,
and similar terms. Forward-looking statements are not guarantees of future performance and the Companys actual results
may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such differences
include, but are not limited to, those discussed in Part II, Item 1A, Risk Factors, which are incorporated herein by
reference. The following discussion should be read in conjunction with the Companys Annual Report on Form 10-K for the
year ended September 26, 2009, as amended (the 2009 Form 10-K) filed with the U.S. Securities and Exchange Commission
(SEC) and the Condensed Consolidated Financial Statements and notes thereto included elsewhere in this Form 10-Q. All
information presented herein is based on the Companys fiscal calendar. Unless otherwise stated, references in this report to
particular years or quarters refer to the Companys fiscal years ended in September and the associated quarters of those fiscal
years. The Company assumes no obligation to revise or update any forward-looking statements for any reason, except as
required by law.
Available Information
The Companys Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and
amendments to reports filed pursuant to Sections 13(a) and 15(d) of the Securities Exchange Act of 1934, as amended
(Exchange Act) are filed with the SEC. Such reports and other information filed by the Company with the SEC are available
on the Companys website at http://www.apple.com/investor when such reports are available on the SEC website. The public
may read and copy any materials filed by the Company with the SEC at the SECs Public Reference Room at 100 F Street, NE,
Room 1580, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by
calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy, and information
statements and other information regarding issuers that file electronically with the SEC at http://www.sec.gov. The contents of
these websites are not incorporated into this filing. Further, the Companys references to the URLs for these websites are
intended to be inactive textual references only.
Retrospective Adoption of New Accounting Principles
In September 2009, the Financial Accounting Standards Board (FASB) amended the accounting standards related to revenue
recognition for arrangements with multiple deliverables and arrangements that include software elements (new accounting
principles). The Company adopted the new accounting principles on a retrospective basis during the first quarter of 2010.
Under the historical accounting principles, the Company was required to account for sales of both iPhone and Apple TV
using subscription accounting because the Company indicated it might from time-to-time provide future unspecified software
upgrades and features for those products free of charge. Under subscription accounting, revenue and associated product cost of
sales for iPhone and Apple TV were deferred at the time of sale and recognized on a straight-line basis over each products
estimated economic life. This resulted in the deferral of significant amounts of revenue and cost of sales related to iPhone and
Apple TV.
The new accounting principles impact the Companys accounting for all past and current sales of iPhone, iPad, Apple TV
and for sales of iPod touch beginning in June 2010. The new accounting principles require the Company to account for the
sale of these devices as two deliverables. The first deliverable is the hardware and software essential to the functionality of the
hardware device delivered at the time of sale, and the second deliverable is the right included with the purchase of these
devices to receive on a when-and-if-available basis, future unspecified software upgrades and features relating to the products
essential software. The new accounting principles result in the recognition of a substantial portion of the revenue and all
product costs from the sale of these devices at the time of their sale. Additionally, the Company is required to estimate a
standalone selling price for the unspecified software upgrade rights included with the sale of these devices and recognizes that
amount ratably over the 24-month estimated life of the related hardware device.
Note 1, Summary of Significant Accounting Policies under the subheadings Basis of Presentation and Preparation and
Revenue Recognition of this Form 10-Q provides additional information on the Companys
28
change in accounting resulting from the adoption of the new accounting principles and the Companys revenue recognition
accounting policy.
Executive Overview
The Company designs, manufactures, and markets a range of personal computers, mobile communication and consumer
electronics devices, and portable digital music and video players and sells a variety of related software, services, peripherals,
and networking solutions, and third-party digital content and applications. The Companys products and services include the
Mac line of desktop and portable computers, iPhone , iPad, the iPod line of portable digital music and video players,
Apple TV, Xserve, a portfolio of consumer and professional software applications, the Mac OS X operating system, thirdparty digital content and applications through the iTunes Store , and a variety of accessory, service and support offerings. The
Company sells its products worldwide through its online stores, its retail stores, its direct sales force, cellular network carriers,
and third-party wholesalers, retailers, and value-added resellers. In addition, the Company sells a variety of third-party Mac,
iPhone, iPad and iPod compatible products, including application software, printers, storage devices, speakers, headphones,
and various other accessories and peripherals through its online and retail stores. The Company sells to consumer, small and
mid-sized business (SMB), education, enterprise, government, and creative markets. A further description of the Companys
products may be found below under the heading Products and Part II, Item 1A, Risk Factors, as well as in Part I, Item 1,
Business, of the Companys 2009 Form 10-K.
The Company is focused on providing innovative products and solutions to consumer, SMB, education, enterprise, government
and creative customers that greatly enhance their evolving digital lifestyles and work environments. The Companys overall
business strategy is to control the design and development of the hardware and software for all of its products, including
personal computers, mobile communications and consumer electronics devices. The Companys business strategy leverages its
unique ability to design and develop its own operating system, hardware, application software, and services to provide its
customers new products and solutions with superior ease-of-use, seamless integration, and innovative industrial design. The
Company believes continual investment in research and development is critical to the development and enhancement of
innovative products and technologies.
In conjunction with its strategy, the Company continues to build and host a robust platform for the discovery and delivery of
third-party digital content and applications through the iTunes Store. The Companys App Store and iBookstore allow
customers to browse, search for, and purchase third-party applications and books through either a Mac or Windows-based
computer or by wirelessly downloading directly to an iPhone, iPad or iPod touch. The Company also desires to support a
community for the development of third-party products that complement the Companys offerings through its developer
programs. The Company is therefore uniquely positioned to offer superior and well-integrated digital lifestyle and productivity
solutions.
The Company participates in several highly competitive markets, including personal computers with its Mac line of personal
computers; mobile communications and consumer electronics devices with its iPhone, iPad and iPod product families; and
through distribution of third-party digital content and applications with its online iTunes Store. While the Company is widely
recognized as a leading innovator in the personal computer, mobile communications and consumer electronics markets as well
as a leader in the market for distribution of digital content and applications, these markets are highly competitive and subject to
aggressive pricing. To remain competitive, the Company believes that increased investment in research and development and
marketing and advertising is necessary to maintain or expand its position in the markets where it competes. The Companys
research and development spending is focused on further developing its existing Mac line of personal computers; the Mac OS
X and iOS operating systems; application software for the Mac; iPhone, iPad and iPod and related software; development of
new digital lifestyle consumer and professional software applications; and investing in new product areas and technologies.
The Company also believes increased investment in marketing and advertising programs is critical to increasing product and
brand awareness.
The Company utilizes a variety of direct and indirect distribution channels. The Company believes that sales of its innovative
and differentiated products are enhanced by knowledgeable salespersons who can convey the value of the hardware, software,
and peripheral integration, demonstrate the unique digital lifestyle solutions that are available on its products, and demonstrate
the compatibility of the Mac with the Windows platform and networks. The Company further believes providing a high-quality
sales and after-sales support experience is critical to attracting new and retaining existing customers. To ensure a high-quality
buying experience for its products in which service and
29
education are emphasized, the Company continues to expand and improve its distribution capabilities by opening its own retail
stores in the U.S. and in international markets. The Company had 293 stores open as of June 26, 2010. The Company also sells
to customers directly through its online stores around the world and through its direct sales force.
The Company has also invested in programs to enhance reseller sales, including the Apple Sales Consultant Program, which
places Apple employees and contractors at selected third-party reseller locations, and the Apple Premium Reseller Program,
through which independently run businesses focus on the Apple platform and provide a high level of customer service and
product expertise. The Company believes providing direct contact with its targeted customers is an efficient way to
demonstrate the advantages of its products over those of its competitors.
Additionally, the Company has signed multi-year agreements with various cellular network carriers authorizing them to
distribute and provide cellular network services for iPhones. These agreements are generally not exclusive with a specific
carrier, except in the U.S., Germany and certain other countries. The Companys iPods are also sold through a significant
number of distribution points, including certain department stores, member-only warehouse stores, and large retail chains and
specialty retail stores.
Product Updates
In June 2010, the Company introduced the new iPhone 4, featuring an all-new design, FaceTime video calling, a new high
resolution Retina display, a 5 megapixel camera with LED flash and front facing camera, high definition video recording,
Apples A4 processor and a 3-axis gyroscope. iPhone 4 comes with iOS 4, the newest version of the Companys mobile
operating system, and is available in 16GB and 32GB models. iPhone 4 first became available in the U.S., France, Germany,
Japan and the U.K. on June 24, 2010 and is expected to be made available in other countries in the fourth quarter of 2010.
In June 2010, the Company launched iOS 4, which includes new features such as Multitasking that allows customers to move
between applications, Folders to organize and easily access applications, a unified Mail inbox, support for the iAd mobile
advertising platform, and the iBooks reader and iBookstore. iOS 4 became available for iPhone 3G, iPhone 3GS, iPhone 4,
and second and third generation iPod touch in June 2010, and is expected to be available for iPad in the fall of 2010. Certain
features of the iOS 4 software will not function on certain earlier iPhone and iPod touch models.
In June 2010, the Company announced its iAd mobile advertising network that was launched on July 1, 2010 on iPhone and
iPod touch devices running its iOS 4 software. iAd combines the appearance of TV advertising with the interactivity of
Internet advertising and will allow mobile device customers to engage with an ad without being removed from the applications
they are currently using.
In January 2010, the Company introduced iPad, a multi-purpose mobile device for browsing the web, reading and sending
email, viewing photos, watching videos, listening to music, playing games, reading e-books and more. iPad is based on the
Companys Multi-Touch technology, has a 9.7-inch LED-backlit display, is 0.5 inches thick and weighs 1.5 pounds. iPad is
available in two models, one with Wi-Fi connectivity and the other with both Wi-Fi and 3G connectivity. Both versions of iPad
became available in the U.S. in April 2010 and in nine additional countries in May 2010.
A detailed discussion of the Companys other products may be found in Part I, Item 2, Managements Discussion and
Analysis of Financial Condition and Results of Operations, of the Companys 2010 Form 10-Qs and in Part I, Item 1,
Business, of the Companys 2009 Form 10-K.
Critical Accounting Policies and Estimates
The preparation of financial statements and related disclosures in conformity with U.S. generally accepted accounting
principles (GAAP) and the Companys discussion and analysis of its financial condition and operating results require the
Companys management to make judgments, assumptions, and estimates that affect the amounts reported in its condensed
consolidated financial statements and accompanying notes. Note 1, Summary of Significant Accounting Policies of this
Form 10-Q and in the Notes to Consolidated Financial Statements in the Companys 2009 Form 10-K describes the significant
accounting policies and methods used in the preparation of the Companys condensed consolidated financial statements.
Management bases its estimates on historical experience
30
and on various other assumptions it believes to be reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates and such
differences may be material.
Management believes the Companys critical accounting policies and estimates are those related to revenue recognition,
valuation of marketable securities, allowance for doubtful accounts, inventory valuation and inventory purchase commitments,
warranty costs, income taxes, and legal and other contingencies. Management considers these policies critical because they are
both important to the portrayal of the Companys financial condition and operating results, and they require management to
make judgments and estimates about inherently uncertain matters. The Companys senior management has reviewed these
critical accounting policies and related disclosures with the Audit and Finance Committee of the Companys Board of
Directors.
Revenue Recognition
Net sales consist primarily of revenue from the sale of hardware, software, digital content and applications, peripherals, and
service and support contracts. The Company recognizes revenue when persuasive evidence of an arrangement exists, delivery
has occurred, the sales price is fixed or determinable, and collection is probable. Product is considered delivered to the
customer once it has been shipped and title and risk of loss have been transferred. For most of the Companys product sales,
these criteria are met at the time the product is shipped. For online sales to individuals, for some sales to education customers
in the U.S., and for certain other sales, the Company defers recognition of revenue until the customer receives the product
because the Company retains a portion of the risk of loss on these sales during transit. The Company recognizes revenue from
the sale of hardware products (e.g., Macs, iPhones, iPads, iPods and peripherals), software bundled with hardware that is
essential to the functionality of the hardware, and third-party digital content sold on the iTunes Store in accordance with
general revenue recognition accounting guidance. The Company recognizes revenue in accordance with industry specific
software accounting guidance for the following types of sales transactions: (i) standalone sales of software products, (ii) sales
of software upgrades and (iii) sales of software bundled with hardware not essential to the functionality of the hardware.
For multi-element arrangements that include tangible products containing software essential to the tangible products
functionality and undelivered software elements relating to the tangible products essential software, the Company allocates
revenue to all deliverables based on their relative selling prices. In such circumstances, the new accounting principles establish
a hierarchy to determine the selling price to be used for allocating revenue to deliverables as follows: (i) vendor-specific
objective evidence of fair value (VSOE), (ii) third-party evidence of selling price (TPE) and (iii) best estimate of the
selling price (ESP). VSOE generally exists only when the Company sells the deliverable separately and is the price actually
charged by the Company for that deliverable. ESPs reflect the Companys best estimates of what the selling prices of elements
would be if they were sold regularly on a stand-alone basis.
For all past and current sales of iPhone, iPad, Apple TV and for sales of iPod touch beginning in June 2010, the Company
indicated it might from time-to-time provide future unspecified software upgrades and features free of charge to customers.
The Company has identified two deliverables in arrangements involving the sale of these devices. The first deliverable is the
hardware and software essential to the functionality of the hardware device delivered at the time of sale. The second
deliverable is the right included with the purchase of iPhone, iPad, iPod touch and Apple TV to receive on a when-and-ifavailable basis, future unspecified software upgrades and features relating to the products essential software. The Company
has allocated revenue between these two deliverables using the relative selling price method. Because the Company has neither
VSOE nor TPE for the two deliverables, the allocation of revenue has been based on the Companys ESPs. Amounts allocated
to the delivered hardware and the related essential software are recognized at the time of sale provided the other conditions for
revenue recognition have been met. Amounts allocated to the unspecified software upgrade right are deferred and recognized
on a straight-line basis over the 24-month estimated life of each of these devices. All product cost of sales, including estimated
warranty costs, are recognized at the time of sale. Costs for engineering and sales and marketing are expensed as incurred. If
the estimated life of the hardware product should change, the future rate of amortization of the revenue allocated to the
software upgrade right will also change.
The Companys process for determining its ESP for deliverables without VSOE or TPE involves managements judgment. The
Companys process considers multiple factors that may vary depending upon the unique facts and
31
circumstances related to each deliverable. The Company believes its customers, particularly consumers, would be reluctant to
buy unspecified software upgrade rights related to iPhone, iPad, iPod touch and Apple TV. This view is primarily based on the
fact that upgrade rights do not obligate the Company to provide upgrades at a particular time or at all, and do not specify to
customers which upgrades or features will be delivered. Therefore, the Company has concluded if it were to sell upgrade rights
on a standalone basis, including those rights associated with iPhone, iPad, iPod touch and Apple TV, the selling price would be
relatively low. Key factors considered by the Company in developing the ESPs for these upgrade rights include prices charged
by the Company for similar offerings, the Companys historical pricing practices, the nature of the upgrade rights (e.g.,
unspecified and when-and-if-available), and the relative ESP of the upgrade rights as compared to the total selling price of the
product. The Company may also consider, when appropriate, the impact of other products and services, including advertising
services, on selling price assumptions when developing and reviewing its ESPs for software upgrade rights and related
deliverables. The Company may also consider additional factors as appropriate, including the pricing of competitive
alternatives if they exist, and product-specific business objectives. If the facts and circumstances underlying the factors
considered change or should future facts and circumstances lead the Company to consider additional factors, the Companys
ESP for software upgrades related to future sales for these devices could change in future periods.
Beginning in the third quarter of 2010 in conjunction with the announcement of iOS 4, the Companys ESPs for the software
upgrade rights included with iPhone, iPad and iPod touch reflect the positive financial impact expected by the Company as a
result of its planned implementation of a mobile advertising platform for these devices and the expectation of customers
regarding software that includes or supports an advertising component. iOS 4 supports iAd, the Companys new mobile
advertising platform, which will enable applications on iPhone, iPad and iPod touch to feature media-rich advertisements
within applications.
The Company records reductions to revenue for estimated commitments related to price protection and for customer incentive
programs, including reseller and end-user rebates, and other sales programs and volume-based incentives. For transactions
involving price protection, the Company recognizes revenue net of the estimated amount to be refunded, provided the refund
amount can be reasonably and reliably estimated and the other conditions for revenue recognition have been met. The
Companys policy requires that, if refunds cannot be reliably estimated, revenue is not recognized until reliable estimates can
be made or the price protection lapses. For customer incentive programs, the estimated cost of these programs is recognized at
the later of the date at which the Company has sold the product or the date at which the program is offered. The Company also
records reductions to revenue for expected future product returns based on the Companys historical experience. Future market
conditions and product transitions may require the Company to increase customer incentive programs and incur incremental
price protection obligations that could result in additional reductions to revenue at the time such programs are offered.
Additionally, certain customer incentive programs require management to estimate the number of customers who will actually
redeem the incentive. Managements estimates are based on historical experience and the specific terms and conditions of
particular incentive programs. If a greater than estimated proportion of customers redeem such incentives, the Company would
be required to record additional reductions to revenue, which would have a negative impact on the Companys results of
operations.
Valuation and Impairment of Marketable Securities
The Companys investments in available-for-sale securities are reported at fair value. Unrealized gains and losses related to
changes in the fair value of investments are included in accumulated other comprehensive income, net of tax, as reported in the
Companys Condensed Consolidated Balance Sheets. Changes in the fair value of investments impact the Companys net
income only when such investments are sold or an other-than-temporary impairment is recognized. Realized gains and losses
on the sale of securities are determined by specific identification of each securitys cost basis. The Company regularly reviews
its investment portfolio to determine if any investment is other-than-temporarily impaired due to changes in credit risk or other
potential valuation concerns, which would require the Company to record an impairment charge in the period any such
determination is made. In making this judgment, the Company evaluates, among other things, the duration and extent to which
the fair value of an investment is less than its cost, the financial condition of the issuer and any changes thereto, and the
Companys intent to sell, or whether it is more likely than not it will be required to sell, the investment before recovery of the
investments amortized cost basis. The Companys assessment on whether an investment is other-than-temporarily impaired or
not, could change in the future due to new developments or changes in assumptions related to any particular investment.
32
Allowance for Doubtful Accounts
The Company distributes its products through third-party distributors, cellular network carriers, and resellers and directly to
certain education, consumer, and enterprise customers. The Company generally does not require collateral from its customers;
however, the Company will require collateral in certain instances to limit credit risk. In addition, when possible the Company
does attempt to limit credit risk on trade receivables with credit insurance for certain customers in Latin America, Europe,
Asia, and Australia, or by requiring third-party financing, loans or leases to support credit exposure. These credit-financing
arrangements are directly between the third-party financing company and the end customer. As such, the Company generally
does not assume any recourse or credit-risk-sharing related to any of these arrangements. However, considerable trade
receivables that are not covered by collateral, third-party financing arrangements, or credit insurance are outstanding with the
Companys distribution and retail channel partners.
The allowance for doubtful accounts is based on managements assessment of the ability to collect specific customer accounts
and includes consideration of the credit-worthiness and financial condition of those specific customers. The Company records
an allowance to reduce the specific receivables to the amount that it reasonably believes to be collectible. The Company also
records an allowance for all other trade receivables based on multiple factors, including historical experience with bad debts,
the general economic environment, the financial condition of the Companys distribution channels, and the aging of such
receivables. If there is a deterioration of a major customers financial condition, if the Company becomes aware of additional
information related to the credit-worthiness of a major customer, or if future actual default rates on trade receivables in general
differ from those currently anticipated, the Company may have to adjust its allowance for doubtful accounts, which would
affect its results of operations in the period the adjustments are made.
Inventory Valuation and Inventory Purchase Commitments
The Company must order components for its products and build inventory in advance of product shipments. The Company
records a write-down for inventories of components and products, including third-party products held for resale, which have
become obsolete or are in excess of anticipated demand or net realizable value. The Company performs a detailed review of
inventory each fiscal quarter that considers multiple factors including demand forecasts, product life cycle status, product
development plans, current sales levels, and component cost trends. The personal computer, mobile communications and
consumer electronics industries are subject to a rapid and unpredictable pace of product and component obsolescence and
demand changes. If future demand or market conditions for the Companys products are less favorable than forecasted or if
unforeseen technological changes negatively impact the utility of component inventory, the Company may be required to
record additional write-downs, which would negatively affect its results of operations in the period when the write-downs were
recorded.
The Company records accruals for estimated cancellation fees related to component orders that have been cancelled or are
expected to be cancelled. Consistent with industry practice, the Company acquires components through a combination of
purchase orders, supplier contracts, and open orders based on projected demand information. commitments These typically
cover the Companys requirements for periods ranging from 30 to 150 days. If there is an abrupt and substantial decline in
demand for one or more of the Companys products or an unanticipated change in technological requirements for any of the
Companys products, the Company may be required to record additional accruals for cancellation fees that would negatively
affect its results of operations in the period when the cancellation fees are identified and recorded.
Warranty Costs
The Company provides for the estimated cost of hardware and software warranties at the time the related revenue is recognized
based on historical and projected warranty claim rates, historical and projected cost-per-claim, and knowledge of specific
product failures that are outside of the Companys typical experience. Each quarter, the Company reevaluates its estimates to
assess the adequacy of its recorded warranty liabilities considering the size of the installed base of products subject to warranty
protection and adjusts the amounts as necessary. If actual product failure rates or repair costs differ from estimates, revisions to
the estimated warranty liability would be required and could materially affect the Companys results of operations.
The Company periodically provides updates to its applications and operating system software to maintain the softwares
compliance with specifications. The estimated cost to develop such updates is accounted for as warranty
33
cost that is recognized at the time related software revenue is recognized. Factors considered in determining appropriate
accruals related to such updates include the number of units delivered, the number of updates expected to occur, and the
historical cost and estimated future cost of the resources necessary to develop these updates.
Income Taxes
The Company records a tax provision for the anticipated tax consequences of the reported results of operations. In accordance
with GAAP, the provision for income taxes is computed using the asset and liability method, under which deferred tax assets
and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting
and tax bases of assets and liabilities, and for operating losses and tax credit carryforwards. Deferred tax assets and liabilities
are measured using the currently enacted tax rates that apply to taxable income in effect for the years in which those tax assets
are expected to be realized or settled. The Company records a valuation allowance to reduce deferred tax assets to the amount
that is believed more likely than not to be realized.
The Company recognizes and measures uncertain tax positions in accordance with GAAP, whereby the Company only
recognizes the tax benefit from an uncertain tax position if it is more likely than not that the tax position will be sustained on
examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial
statements from such positions are then measured based on the largest benefit that has a greater than 50% likelihood of being
realized upon ultimate settlement.
Management believes it is more likely than not that forecasted income, including income that may be generated as a result of
certain tax planning strategies, together with the tax effects of the deferred tax liabilities, will be sufficient to fully recover the
deferred tax assets. In the event that the Company determines all or part of the net deferred tax assets are not realizable in the
future, the Company will make an adjustment to the valuation allowance that would be charged to earnings in the period such
determination is made. In addition, the calculation of tax liabilities involves significant judgment in estimating the impact of
uncertainties in the application of GAAP and complex tax laws. Resolution of these uncertainties in a manner inconsistent with
managements expectations could have a material impact on the Companys financial condition and operating results.
Legal and Other Contingencies
As discussed in Part II, Item 1 of this Form 10-Q under the heading Legal Proceedings and in Note 7 Commitments and
Contingencies in Notes to Condensed Consolidated Financial Statements, the Company is subject to various legal proceedings
and claims that arise in the ordinary course of business. In accordance with GAAP, the Company records a liability when it is
probable that a loss has been incurred and the amount is reasonably estimable. There is significant judgment required in both
the probability determination and as to whether an exposure can be reasonably estimated. In managements opinion, the
Company does not have a potential liability related to any current legal proceedings and claims that would individually or in
the aggregate materially adversely affect its financial condition or operating results. However, the outcomes of legal
proceedings and claims brought against the Company are subject to significant uncertainty. Should the Company fail to prevail
in any of these legal matters or should several of these legal matters be resolved against the Company in the same reporting
period, the operating results of a particular reporting period could be materially adversely affected.
34
Net Sales
The following table summarizes net sales and Mac unit sales by operating segment and net sales and unit sales by product
during the three- and nine-month periods ended June 26, 2010 and June 27, 2009 (in millions, except unit sales in thousands
and per unit amounts):
Three Months Ended
June 26,
2010
June 27,
2009
$ 6,227
$ 4,474
4,160
Nine Months Ended
June 26,
2010
June 27,
2009
39%
$ 17,312
$ 13,745
26%
2,505
66%
13,234
8,575
54%
910
560
63%
2,580
1,645
57%
Asia-Pacific net sales
1,825
703
160%
5,524
2,118
161%
Retail net sales
2,578
1,492
73%
6,232
4,615
35%
Total net sales
$ 15,700
$ 9,734
61%
$ 44,882
$ 30,698
46%
1,358
1,147
18%
3,516
2,868
23%
Europe Mac unit sales
914
626
46%
2,881
2,079
39%
Japan Mac unit sales
129
108
19%
363
316
15%
Asia-Pacific Mac unit sales
394
230
71%
1,045
635
65%
Retail Mac unit sales
677
492
38%
1,972
1,445
36%
Total Mac unit sales
3,472
2,603
33%
9,777
7,343
33%
Desktops (a)
$ 1,301
$ 1,134
15%
$ 4,525
$ 3,235
40%
Portables (b)
3,098
2,220
40%
8,084
6,644
22%
Change
Change
Net Sales by Operating Segment:
Americas net sales
Europe net sales
Japan net sales
Unit Sales by Operating Segment:
Americas Mac unit sales
Net Sales by Product:
Total Mac net sales
4,399
3,354
31%
12,609
9,879
28%
iPod
1,545
1,492
4%
6,797
6,528
4%
Other music related products and services (c)
1,214
958
27%
3,705
3,018
23%
iPhone and related products and services (d)
5,334
3,060
74%
16,357
8,427
94%
iPad and related products and services (e)
2,166
0
N/M
2,166
0
N/M
Peripherals and other hardware (f)
396
340
16%
1,337
1,084
23%
Software, service and other sales (g)
646
530
22%
1,911
1,762
8%
$ 15,700
$ 9,734
61%
$ 44,882
$ 30,698
46%
Desktops (a)
1,004
849
18%
3,385
2,395
41%
Portables (b)
2,468
1,754
41%
6,392
4,948
29%
Total Mac unit sales
3,472
2,603
33%
9,777
7,343
33%
$ 1,267
$ 1,289
(2%)
$ 1,290
$ 1,345
(4%)
9,406
10,215
(8%)
41,261
43,955
(6%)
Total net sales
Unit Sales by Product:
Net sales per Mac unit sold (h)
iPod unit sales
Net sales per iPod unit sold (h)
$
164
$
146
12%
$
165
$
149
11%
iPhone unit sales
8,398
5,208
61%
25,887
13,364
94%
iPad unit sales
3,270
0
N/M
3,270
0
N/M
35
(a) Includes iMac, Mac mini, Mac Pro and Xserve product lines.
(b) Includes MacBook, MacBook Air and MacBook Pro product lines.
(c) Includes iTunes Store sales, iPod services, and Apple-branded and third-party iPod accessories.
(d) Derived from handset sales, carrier agreements, and Apple-branded and third-party iPhone accessories.
(e) Includes iPad sales and Apple-branded and third-party iPad accessories.
(f)
Includes sales of displays, wireless connectivity and networking solutions, and other hardware accessories.
(g) Includes sales of Apple-branded operating system, application software, third-party software, AppleCare, and Internet
services.
(h) Derived by dividing total product-related net sales by total product-related unit sales.
N/M = Not meaningful.
Net sales during the third quarter of 2010 and the first nine months of 2010 increased $6.0 billion or 61%, and $14.2 billion or
46%, respectively, compared to the same periods in 2009. Several factors contributed positively to this increase, including the
following:
Net sales of iPhone and related products and services were $5.3 billion and $16.4 billion in the third quarter and first
nine months of 2010, respectively, representing an increase of 74% and 94%, respectively, compared to the same
periods in 2009. Net sales of iPhone and related products and services accounted for 34% and 36% of the
Companys total net sales for the third quarter and first nine months of 2010, respectively. iPhone unit sales totaled
8.4 million and 25.9 million during the third quarter and first nine months of 2010, respectively, and increased 61%
and 94% during the third quarter and first nine months of 2010, respectively, compared to the same periods in 2009.
iPhone year-over-year growth was attributed primarily to expanded distribution with new international carriers and
resellers, continued growth across existing carriers, and strong overall demand for iPhones, especially in
international markets. iPhone revenue includes handset revenue recognized and revenue from sales of iPhone
accessories and carrier agreements.
Net sales of iPad and related products and services were $2.2 billion and unit sales of iPad were 3.3 million during
the third quarter of 2010. iPad was launched in the U.S. on April 3, 2010 and expanded to Australia, Canada, France,
Germany, Italy, Japan, Spain, Switzerland and the U.K. on May 28, 2010. The Company distributes iPad through its
direct channels, certain of its cellular network carriers distribution channels and certain third-party resellers. Net
sales of iPad and related products and services accounted for 14% and 5% of the Companys total net sales for the
third quarter and first nine months of 2010, respectively.
Mac net sales increased by $1.0 billion or 31% and $2.7 billion or 28% in the third quarter and first nine months of
2010, respectively, compared to the same periods in 2009. Mac unit sales increased by 33% in both the third quarter
and first nine months of 2010 compared to the same periods in 2009. Net sales of the Companys Macs accounted
for 28% of the Companys total net sales in both the third quarter and first nine months of 2010. During the third
quarter and first nine months of 2010, net sales of the Companys Mac portable systems increased by 40% and 22%,
respectively, primarily attributable to strong sales growth in MacBook and MacBook Pro. Net sales of the
Companys Mac desktop systems increased by 15% and 40% in the third quarter and first nine months of 2010,
respectively, driven by strong demand for iMac which was updated in October 2009.
Net sales of other music related products and services increased $256 million or 27% during the third quarter of
2010 and increased $687 million or 23% during the first nine months of 2010, compared to the same periods in 2009.
These increases were due primarily to increased net sales from the iTunes Store. During the third quarter and first
nine months of 2010, the iTunes store reported net sales of $1.0 billion and $3.0 billion, respectively. The Company
believes this continued growth is the result of heightened consumer interest in downloading third-party digital
content and applications, continued growth in its customer base of iPhone, iPad, and iPod customers, the expansion
of third-party audio and video content available for sale and rent via the iTunes Store, and the continued interest in
and growth of the iTunes App Store. The Company continues to expand its iTunes content and applications
offerings around the
36
world. Net sales of other music related products and services accounted for 8% of the Companys total net sales for
both the third quarter and first nine months of 2010.
Net sales of iPods increased $53 million or 4% during the third quarter of 2010, while iPod unit sales declined by 8%
during the third quarter of 2010 compared to the same periods in 2009. During the first nine months of 2010, net
sales of iPods increased $269 million or 4%, while iPod unit sales decreased by 6% compared to the same period in
2009. Net sales per iPod unit sold increased by 12% and 11% in the third quarter and first nine months of 2010,
respectively, compared to the same periods in 2009. The increase in net sales per iPod unit sold was driven primarily
by a shift in product mix toward iPod touch, which had strong growth in each of the Companys reportable
geographic segments. Net sales of iPods accounted for 10% and 15% of the Companys total net sales for the third
quarter and first nine months of 2010, respectively.
Segment Operating Performance
The Company manages its business primarily on a geographic basis. The Companys operating and reporting segments consist
of the Americas, Europe, Japan, Asia-Pacific and Retail operations. The Americas, Europe, Japan and Asia-Pacific reportable
segments do not include activities related to the Retail segment. The Americas segment includes both North and South
America. The Europe segment includes European countries as well as the Middle East and Africa. The Asia-Pacific segment
includes Australia and Asia, but does not include Japan. The Retail segment operates Apple-owned retail stores in the U.S. and
in international markets. Each reportable operating segment provides similar hardware and software products and similar
services to the same types of customers. Further information regarding the Companys operating segments may be found in
Note 8, Segment Information and Geographic Data in Notes to Condensed Consolidated Financial Statements of this Form
10-Q.
Americas
Net sales in the Americas during the third quarter of 2010 increased $1.8 billion or 39% compared to the third quarter of 2009.
This increase in net sales was attributable to strong demand for iPad, increased iPhone revenue primarily attributable to carrier
expansion and continued growth across existing carriers, strong sales of Mac portable systems, and higher sales of third-party
digital content and applications from the iTunes Store. Americas Mac net sales and unit sales increased 19% and 18%,
respectively, during the third quarter of 2010 compared to the third quarter of 2009, primarily due to strong demand for Mac
portable systems. The Americas segment represented 40% and 46% of the Companys total net sales in the third quarters of
2010 and 2009, respectively.
During the first nine months of 2010, net sales in the Americas segment increased $3.6 billion or 26% compared to the same
period in 2009. The primary contributors to this net sales growth were a significant year-over-year increase in iPhone revenue,
strong demand for iPad, higher sales of Macs, and increased sales of third-party digital content and applications from the
iTunes Store. The Americas segment represented approximately 39% and 45% of the Companys total net sales for the first
nine months of 2010 and 2009, respectively.
Europe
Net sales in Europe increased $1.7 billion or 66% during the third quarter of 2010 compared to the third quarter of 2009. The
growth in net sales was due mainly to the significant increase in iPhone revenue primarily attributable to country and carrier
expansion and continued growth across existing carriers, continued demand for Mac desktop and portable systems and strong
demand for iPad, partially offset by a stronger U.S. dollar. Europe Mac net sales and unit sales increased 43% and 46%,
respectively, during the third quarter of 2010 compared to the same period in 2009. The Europe segment represented 26% of
the Companys total net sales for both the third quarters of both 2010 and 2009.
For the first nine months of 2010, net sales in Europe increased $4.7 billion or 54% compared to the same period in 2009.
Similar to the growth in net sales during the third quarter of 2010, the increase in net sales during the first nine months of 2010
was attributable primarily to the significant year-over-year increase in iPhone revenue, higher sales of Mac desktop and
portable systems, and strong demand for iPad. Strong sales of third-party digital content and applications from the iTunes Store
also contributed to higher net sales during the first nine months of 2010 compared to the same period in 2009. The Europe
segment represented 29% and 28% of the Companys total net sales for the first nine months in 2010 and 2009, respectively.
37
Japan
Japans net sales increased $350 million or 63% during the third quarter of 2010 and increased $935 million or 57% during the
first nine months of 2010 compared to the same periods in 2009. The key contributors to Japans net sales growth for both the
third quarter and first nine months of 2010 were increased iPhone revenue, strong demand for iPad and strength in the Japanese
Yen relative to the U.S. dollar. Japan Mac net sales and unit sales grew by 12% and 19%, respectively, during the third quarter
of 2010 compared to the same period in 2009. Japan Mac unit sales increased by 15% and Mac net sales decreased by 1%
during the first nine months of 2010 compared to the same period in 2009, due primarily to lower average selling prices. The
Japan segment represented 6% of the Companys total net sales for the third quarters of both 2010 and 2009, and 6% and 5%
of the Companys total net sales in the first nine months of 2010 and 2009, respectively.
Asia-Pacific
Net sales in Asia Pacific increased $1.1 billion or 160% during the third quarter of 2010 and increased $3.4 billion or 161%
during the first nine months of 2010 compared to the same periods in 2009. The growth in Asia-Pacific net sales was due
mainly to the significant increase in iPhone revenue primarily attributable to country and carrier expansion and continued
growth across existing carriers, strong demand for Mac portable and desktop systems, and strength in the Australian dollar
relative to the U.S. dollar. Higher sales of iPod touch also contributed to the increase in net sales. The Asia Pacific segment
represented 12% of the Companys total net sales in both the third quarter of 2010 and the first nine months of 2010 and
represented 7% of the Companys total net sales in both the third quarter of 2009 and the first nine months of 2009.
Retail
Retail net sales increased $1.1 billion or 73% during the third quarter of 2010 compared to the third quarter of 2009, driven
primarily by strong demand for iPad, as well as increased sales of Mac portable systems and higher sales of Mac and iPadrelated accessories. Mac net sales and unit sales grew in the Retail segment by 29% and 38%, respectively, during the third
quarter of 2010 compared to the third quarter of 2009. The Company opened seven new Retail stores during the third quarter
of 2010, three of which were international stores, ending the quarter with 293 stores open as compared to 258 stores at the end
of the third quarter of 2009. With an average of 287 stores and 254 stores opened during the third quarter of 2010 and 2009,
respectively, average revenue per store increased to $9.0 million in the third quarter of 2010, compared to $5.9 million in the
third quarter of 2009. The Retail segment represented 16% and 15% of the Companys total net sales in the third quarter of
2010 and 2009, respectively.
Retail net sales grew $1.6 billion or 35% during the first nine months of 2010 compared to the same period in 2009 due
primarily to strong demand for iPad, continued increases in sales of Mac portable and desktop systems, and higher sales of
Mac and iPad-related accessories. Mac net sales and unit sales grew by 26% and 36%, respectively, during the first nine
months of 2010 compared to the same period in 2009. Average revenue per store was $22.0 million for the first nine months of
2010 based on an average of 283 stores, up from $18.3 million in the first nine months of 2009 based on an average of 252
stores. The Retail segment represented 14% and 15% of the Companys total net sales for the first nine months of 2010 and
2009, respectively.
The Retail segment reported operating income of $593 million during the third quarter of 2010 compared to operating income
of $387 million during the third quarter of 2009, and reported operating income of $1.4 billion during the first nine months of
2010 compared to $1.1 billion during the first nine months of 2009. The increase in Retail operating income year-over-year is
attributable to higher overall net sales and improved leverage of Retail operating expenses.
Expansion of the Retail segment has required and will continue to require a substantial investment in fixed assets and related
infrastructure, operating lease commitments, personnel, and other operating expenses. Capital asset purchases associated with
the Retail segment since its inception totaled $2.1 billion through the end of the third quarter of 2010. As of June 26, 2010, the
Retail segment had approximately 22,400 full-time equivalent employees and had outstanding lease commitments associated
with retail space and related facilities of $1.7 billion. The Company would incur substantial costs if it were to close multiple
retail stores and such costs could adversely affect the Companys financial condition and operating results.
38
Gross Margin
Gross margin for the three- and nine-month periods ended June 26, 2010 and June 27, 2009 was as follows (in millions, except
gross margin percentages):
Three Months Ended
June 26, 2010
Net sales
$
Cost of sales
Gross margin
Gross margin percentage
15,700
June 27, 2009
$
9,564
$
6,136
39.1%
Nine Months Ended
9,734
June 26, 2010
$
5,751
$
3,983
40.9%
44,882
June 27, 2009
$
26,710
$
18,172
40.5%
30,698
18,581
$
12,117
39.5%
The gross margin percentage in the third quarter of 2010 was 39.1% compared to 40.9% in the third quarter of 2009. This
decline in gross margin is primarily attributable to new and innovative products that have higher cost structures and deliver
greater value to customers, including iPad, partially offset by a more favorable sales mix towards products with higher gross
margins, including iPhone. The gross margin percentage for the first nine months of 2010 was 40.5% compared to 39.5% for
the first nine months of 2009. This increase in gross margin was largely driven by a higher mix of iPhone sales.
The Company expects its gross margin percentage to decrease in future periods compared to levels achieved during the first
nine months of 2010 and anticipates gross margin levels of about 35% in the fourth quarter of 2010. This expected decline is
largely due to flat or reduced average selling prices on new and innovative products that have higher cost structures and deliver
greater value to customers, a stronger U.S. dollar, both expected and potential future cost increases for key components, and to
a lesser extent, the impact in the fourth quarter of the recently announced program to provide iPhone 4 customers with a free
case.
The foregoing statements regarding the Companys expected gross margin percentage are forward-looking and could differ
from anticipated levels because of several factors, including but not limited to certain of those set forth below in Part II,
Item 1A, Risk Factors under the subheading Future operating results depend upon the Companys ability to obtain key
components including but not limited to microprocessors, NAND flash memory, DRAM and LCDs at favorable prices and in
sufficient quantities, which is incorporated herein by reference. There can be no assurance that targeted gross margin
percentage levels will be achieved. In general, gross margins and margins on individual products will remain under downward
pressure due to a variety of factors, including continued industry wide global product pricing pressures, increased competition,
compressed product life cycles, product transitions and expected increases in the cost of key components including but not
limited to microprocessors, NAND flash memory, dynamic random access memory (DRAM) and liquid crystal displays
(LCDs), as well as potential increases in the costs of outside manufacturing services and a potential shift in the Companys
sales mix towards products with lower gross margins. In response to these competitive pressures, the Company expects it will
continue to take product pricing actions, which would adversely affect gross margins. Gross margins could also be affected by
the Companys ability to manage product quality and warranty costs effectively and to stimulate demand for certain of its
products. Due to the Companys significant international operations, financial results can be significantly affected in the shortterm by fluctuations in exchange rates.
39
Operating Expenses
Operating expenses for the three- and nine-month periods ended June 26, 2010 and June 27, 2009 were as follows (in millions,
except for percentages):
Three Months Ended
June 26, 2010
Research and development
$
Percentage of net sales
Selling, general, and administrative
Percentage of net sales
464
June 27, 2009
$
3.0%
$
1,438
9.2%
Nine Months Ended
341
June 26, 2010
$
3.5%
$
1,010
10.4%
1,288
June 27, 2009
$
2.9%
$
3,946
8.8%
975
3.2%
$
3,086
10.1%
Research and Development (R&D)
Expenditures for R&D increased 36% or $123 million to $464 million during the third quarter of 2010 compared to the same
period in 2009, and increased 32% or $313 million to $1.3 billion during the first nine months of 2010 compared to the same
period in 2009. These increases were due primarily to an increase in headcount in the current year to support expanded R&D
activities. In addition, $19 million and $64 million of software development costs were capitalized related to Mac OS X
Version 10.6 Snow Leopard and excluded from R&D expense during the three- and nine-month periods ended June 27, 2009,
respectively, while no software development costs were capitalized during the three- and nine-month periods ended June 26,
2010. The Company continues to believe that focused investments in R&D are critical to its future growth and competitive
position in the marketplace and are directly related to timely development of new and enhanced products that are central to the
Companys core business strategy. As such, the Company expects to continue to invest in R&D to remain competitive.
Selling, General, and Administrative (SG&A)
SG&A expenditures increased $428 million or 42% to $1.4 billion during the third quarter of 2010 compared to the same
period in 2009, and increased $860 million or 28% to $3.9 billion during the first nine months of 2010 compared to the same
period in 2009. These increases were due primarily to the Companys continued expansion of its Retail segment, higher
spending on marketing and advertising, higher stock-based compensation expenses, and increased variable costs associated
with the overall growth of the Companys net sales.
Other Income and Expense
Total other income and expense decreased $2 million or 3% to $58 million during third quarter of 2010 compared to the same
period of 2009, and decreased $140 million or 50% to $141 million during the first nine months of 2010 compared to the same
period in 2009. The overall decrease in other income and expense is primarily attributable to the decline in interest rates on a
year-over-year basis, partially offset by the Companys higher cash, cash equivalents and marketable securities balances. The
weighted-average interest rate earned by the Company on its cash, cash equivalents and marketable securities decreased to
0.76% in the third quarter of 2010 from 1.11% in the third quarter of 2009. During the third quarter and first nine months of
2010 and 2009, the Company had no debt outstanding and accordingly did not incur any related interest expense.
The Companys investment portfolio had gross unrealized gains of $113 million and $73 million as of June 26, 2010 and
September 26, 2009, respectively, which were partially offset by gross unrealized losses of $34 million and $16 million as of
June 26, 2010 and September 26, 2009, respectively. As of June 26, 2010 and September 26, 2009, the gross unrealized gains
related primarily to long-term marketable securities and the gross unrealized losses on the Companys marketable securities
were caused primarily by changes in market interest rates or widening credit spreads.
The Company considers the declines in market value of its marketable securities investment portfolio to be temporary in
nature. The Company does not have the intent to sell, nor is it more likely than not the Company will be required to sell, any
investment before recovery of its amortized cost basis. Accordingly, no significant declines in fair value were recognized in the
Companys Condensed Statements of Operations during the three- and nine-month periods ended June 26, 2010 and June 27,
2009. The Company may sell its marketable securities prior to their stated maturities for strategic purposes, in anticipation of
credit deterioration, or for duration management. The
40
Company recognized no significant net gains or losses during the three- and nine-month periods ended June 26, 2010 and
June 27, 2009 related to such sales.
Provision for Income Taxes
The Companys effective tax rates for the three- and nine-month periods ended June 26, 2010 were approximately 24% and
26%, respectively, compared to approximately 32% for both the three- and nine-month periods ended June 26, 2009. The
Companys effective rates for both periods differ from the statutory federal income tax rate of 35% due primarily to certain
undistributed foreign earnings for which no U.S. taxes are provided because such earnings are intended to be indefinitely
reinvested outside the U.S. The lower effective tax rate during the third quarter of 2010 as compared to the same quarter in
2009 is due primarily to an increase in foreign earnings on which U.S. income taxes have not been provided as such earnings
are intended to be indefinitely reinvested outside the U.S.
The Internal Revenue Service (the IRS) has completed its field audit of the Companys federal income tax returns for the
years 2004 through 2006 and proposed certain adjustments. The Company has contested certain of these adjustments through
the IRS Appeals Office. The IRS is currently examining the years 2007 through 2009. All IRS audit issues for years prior to
2004 have been resolved. During the third quarter of 2010, the Company reached a tax settlement with the IRS for the years
2002 through 2003. In addition, the Company is subject to audits by state, local, and foreign tax authorities. Management
believes that adequate provision has been made for any adjustments that may result from tax examinations. However, the
outcome of tax audits cannot be predicted with certainty. If any issues addressed in the Companys tax audits are resolved in a
manner not consistent with managements expectations, the Company could be required to adjust its provision for income
taxes in the period such resolution occurs.
Liquidity and Capital Resources
The following table presents selected financial information and statistics as of June 26, 2010 and September 26, 2009 (in
millions):
June 26, 2010
September 26, 2009
Cash, cash equivalents and marketable securities
$
45,839
$
33,992
Accounts receivable, net
$
3,447
$
3,361
Inventory
$
942
$
455
Working capital
$
20,421
$
20,049
As of June 26, 2010, the Company had $45.8 billion in cash, cash equivalents and marketable securities, an increase of $11.8
billion from September 26, 2009. The principal component of this net increase was the cash generated by operating activities
of $12.9 billion, which was partially offset by payments for acquisition of property, plant and equipment of $1.2 billion and
payments made in connection with business acquisitions, net of cash acquired, of $615 million.
The Companys marketable securities investment portfolio is invested primarily in highly rated securities with a minimum
rating of single-A. As of June 26, 2010 and September 26, 2009, $27.1 billion and $17.4 billion, respectively, of the
Companys cash, cash equivalents and marketable securities were held by foreign subsidiaries and are generally based in U.S.
dollar-denominated holdings. The Company believes its existing balances of cash, cash equivalents and marketable securities
will be sufficient to satisfy its working capital needs, capital asset purchases, outstanding commitments, and other liquidity
requirements associated with its existing operations over the next 12 months.
Capital Assets
The Companys capital expenditures were $1.6 billion during the first nine months of 2010, consisting of approximately $280
million for Retail store facilities and $1.3 billion for other capital expenditures. The Companys actual cash payments for these
capital expenditures during the first nine months of 2010 were $1.2 billion.
The Company anticipates utilizing approximately $2.5 billion for capital expenditures during 2010, including approximately
$400 million for Retail store facilities and approximately $2.1 billion for product tooling and manufacturing process
equipment, real estate acquisitions, and corporate facilities and infrastructure, including information systems enhancements.
41
Historically the Company has opened between 25 and 50 new retail stores per year. During 2010, the Company expects to
open a number of new stores near the upper end of this range, over half of which are expected to be located outside of the U.S.
Off-Balance Sheet Arrangements and Contractual Obligations
The Company has not entered into any transactions with unconsolidated entities whereby the Company has financial
guarantees, subordinated retained interests, derivative instruments or other contingent arrangements that expose the Company
to material continuing risks, contingent liabilities, or any other obligation under a variable interest in an unconsolidated entity
that provides financing, liquidity, market risk or credit risk support to the Company.
Lease Commitments
As of September 26, 2009, the Company had total outstanding commitments on noncancelable operating leases of $1.9 billion,
$1.5 billion of which are related to the lease of retail space and related facilities. The Companys major facility leases are
generally for terms of one to 20 years and generally provide renewal options for terms of one to five additional years. Leases
for retail space are for terms of five to 20 years, the majority of which are for ten years, and often contain multi-year renewal
options. Total outstanding commitments on noncancelable operating leases related to the lease of retail space increased to $1.7
billion as of June 26, 2010.
Purchase Commitments with Contract Manufacturers and Component Suppliers
The Company utilizes several contract manufacturers to manufacture sub-assemblies for the Companys products and to
perform final assembly and test of finished products. These contract manufacturers acquire components and build product
based on demand information supplied by the Company, which typically covers periods ranging from 30 to 150 days. The
Company also obtains individual components for its products from a wide variety of individual suppliers. Consistent with
industry practice, the Company acquires components through a combination of purchase orders, supplier contracts, and open
orders based on projected demand information. Such purchase commitments typically cover the Companys forecasted
component and manufacturing requirements for periods ranging from 30 to 150 days. As of June 26, 2010, the Company had
outstanding off-balance sheet third-party manufacturing commitments and component purchase commitments of $6.2 billion.
The Company has entered into prepaid long-term supply agreements to secure the supply of certain inventory components. As
of June 26, 2010, the Company had a total of $991 million of inventory component prepayments outstanding, which $161
million is classified as other current assets and $830 million is classified as other assets in the Condensed Consolidated
Balance Sheets. The Company had a total of $1.2 billion of inventory component prepayments outstanding as of September 26,
2009, of which $309 million was classified as other current assets and $844 million was classified as other assets in the
Condensed Consolidated Balance Sheets.
Other Obligations
Other outstanding obligations were $256 million as of June 26, 2010, primarily related to advertising, research and
development, Internet and telecommunications services, and other obligations.
As of June 26, 2010, the Company had gross unrecognized tax benefits of $879 million and an additional $217 million for
gross interest and penalties classified as non-current liabilities in the Condensed Consolidated Balance Sheet. At this time, the
Company is unable to make a reasonably reliable estimate of the timing of payments in individual years due to uncertainties in
the timing of tax audit outcomes.
Indemnifications
The Company generally does not indemnify its operating system and application software customers against legal claims that
the software infringes third-party intellectual property rights. Other agreements entered into by the Company sometimes
include indemnification provisions under which the Company could be subject to costs and/or damages in the event of an
infringement claim against the Company or an indemnified third-party. However, the Company has not been required to make
any significant payments resulting from such an infringement claim asserted against it or an indemnified third-party and, in the
opinion of management, does not have a liability related to unresolved infringement claims subject to indemnification that
would materially adversely affect its financial condition or operating results. Therefore, the Company did not record a liability
for indemnification costs as of either June 26, 2010 or September 26, 2009.
42
The Company has entered into indemnification agreements with its directors and executive officers. Under these agreements,
the Company has agreed to indemnify such individuals to the fullest extent permitted by law against liabilities that arise by
reason of their status as directors or officers and to advance expenses incurred by such individuals in connection with related
legal proceedings. It is not possible to determine the maximum potential amount of payments the Company could be required
to make under these agreements due to the limited history of prior indemnification claims and the unique facts and
circumstances involved in each claim. However, the Company maintains directors and officers liability insurance coverage to
reduce its exposure to such obligations, and payments made under these agreements historically have not materially adversely
affected the Companys financial condition or operating results.
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
The Companys market risk profile has not changed significantly during the first nine months of 2010.
Interest Rate and Foreign Currency Risk Management
The Company regularly reviews its foreign exchange forward and option positions, both on a stand-alone basis and in
conjunction with its underlying foreign currency and interest rate related exposures. However, given the effective horizons of
the Companys risk management activities and the anticipatory nature of the exposures, there can be no assurance the hedges
will offset more than a portion of the financial impact resulting from movements in either foreign exchange or interest rates. In
addition, the timing of the accounting for recognition of gains and losses related to mark-to-market instruments for any given
period may not coincide with the timing of gains and losses related to the underlying economic exposures and, therefore, may
adversely affect the Companys financial condition and operating results.
Interest Rate Risk
While the Company is exposed to interest rate fluctuations in many of the worlds leading industrialized countries, the
Companys interest income and expense is most sensitive to fluctuations in the general level of U.S. interest rates. As such,
changes in U.S. interest rates affect the interest earned on the Companys cash, cash equivalents and marketable securities, the
fair value of those investments, as well as costs associated with foreign currency hedges.
The Companys investment policy and strategy are focused on preservation of capital and supporting the liquidity requirements
of the Company. A portion of the Companys cash is managed by external managers within the guidelines of the Companys
investment policy and to objective market benchmarks. The Companys internal portfolio is benchmarked against external
manager performance.
The Companys exposure to market risk for changes in interest rates relates primarily to the Companys investment portfolio.
The Company typically invests in highly rated securities and its policy generally limits the amount of credit exposure to any
one issuer. The Companys investment policy requires investments to be investment grade, primarily rated single-A or better
with the objective of minimizing the potential risk of principal loss. All highly liquid investments with initial maturities of
three months or less at the date of purchase are classified as cash equivalents. The Company classifies its marketable securities
as either short-term or long-term based on each instruments underlying contractual maturity date. All short-term marketable
securities have maturities less than 12 months, while all long-term marketable securities have maturities greater than 12
months. The Company may sell its investments prior to their stated maturities for strategic purposes, in anticipation of credit
deterioration, or for duration management. The Company recognized no significant net gains or losses during the three- and
nine-month periods ended June 26, 2010 and June 27, 2009 related to such sales.
Foreign Currency Risk
In general, the Company is a net receiver of currencies other than the U.S. dollar. Accordingly, changes in exchange rates, and
in particular a strengthening of the U.S. dollar, will negatively affect the Companys net sales and gross margins as expressed
in U.S. dollars. There is also a risk that the Company will have to adjust local currency product pricing due to competitive
pressures when there has been significant volatility in foreign currency exchange rates.
The Company may enter into foreign currency forward and option contracts with financial institutions to protect against
foreign exchange risks associated with certain existing assets and liabilities, certain firmly committed transactions, forecasted
future cash flows, and net investments in foreign subsidiaries. Generally, the Companys
43
practice is to hedge a majority of its material foreign exchange exposures, typically for three to six months. However, the
Company may choose not to hedge certain foreign exchange exposures for a variety of reasons, including but not limited to
immateriality, accounting considerations and the prohibitive economic cost of hedging particular exposures.
Item 4.
Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Based on an evaluation under the supervision and with the participation of the Companys management, the Companys
principal executive officer and principal financial officer have concluded that the Companys disclosure controls and
procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (Exchange
Act) were effective as of June 26, 2010 to ensure that information required to be disclosed by the Company in reports that it
files or submits under the Exchange Act is (i) recorded, processed, summarized and reported within the time periods specified
in the Securities and Exchange Commission rules and forms and (ii) accumulated and communicated to the Companys
management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions
regarding required disclosure.
Changes in Internal Control Over Financial Reporting
There were no changes in the Companys internal control over financial reporting during the third quarter of 2010, which were
identified in connection with managements evaluation required by paragraph (d) of Rules 13a-15 and 15d-15 under the
Exchange Act, that have materially affected, or are reasonably likely to materially affect, the Companys internal control over
financial reporting.
PART II. OTHER INFORMATION
Item 1.
Legal Proceedings
As of June 26, 2010, the end of the quarterly period covered by this report, the Company was subject to the various legal
proceedings and claims discussed below, as well as certain other legal proceedings and claims that have not been fully resolved
and that have arisen in the ordinary course of business. In the opinion of management, the Company does not have a potential
liability related to any current legal proceeding or claim that would individually or in the aggregate materially adversely affect
its financial condition or operating results. However, the results of legal proceedings cannot be predicted with certainty. Should
the Company fail to prevail in any of these legal matters or should several of these legal matters be resolved against the
Company in the same reporting period, the operating results of a particular reporting period could be materially adversely
affected. The Company settled certain matters during the third quarter of 2010 that did not individually or in the aggregate
have a material impact on the Companys financial condition and results of operations.
Branning et al. v. Apple Computer, Inc.
Plaintiffs originally filed this purported class action against the Company in San Francisco County Superior Court on
February 17, 2005 on behalf of putative classes of consumers and resellers. The case was transferred to Santa Clara Superior
Court in May 2005. In general, the consumer plaintiffs allege that the Company shorted the coverage provided under its
warranties and AppleCare Protection Plan extended service contracts and sold plaintiffs used products that were represented to
be new. In general, the reseller plaintiffs allege that the Company damaged their businesses by opening the Apple retail stores
and making misrepresentations in connection with doing so. The complaint seeks unspecified damages and other relief. On
October 28, 2009, the Court granted the consumer plaintiffs motion to certify a class relating to their shorting claims, but
denied class certification as to their used as new claims. The Company filed a motion to decertify the consumer class, which
was heard on July 14, 2010. The reseller plaintiffs have also filed a motion to certify a class of Apple specialist resellers, which
is set for hearing on September 28, 2010. This case is currently pending.
Harvey v. Apple Inc.
Plaintiff filed this action against the Company on August 6, 2007, in the United States District Court for the Eastern District of
Texas alleging infringement by the Company of U.S. Patent Nos. 6,753,671 and 6,762,584. The complaint seeks unspecified
damages and other relief. On October 8, 2009, the case was transferred to the Northern District of California. The parties
reached a settlement and the case has been dismissed.
44
In re Apple & ATTM Antitrust Litigation
This is a purported class action filed against the Company and AT&T Mobility in the United States District Court for the
Northern District of California. The Consolidated Complaint alleges that the Company and AT&T Mobility violated the
federal antitrust laws by monopolizing and/or attempting to monopolize the aftermarket for voice and data services for the
iPhone and that the Company monopolized and/or attempted to monopolize the aftermarket for software applications for
iPhones. The Consolidated Complaint also alleges that Apple violated numerous laws by intentionally bricking (rendering
inoperable) iPhones through the release of iPhone software update 1.1.1. On July 8, 2010, the Court granted Apples motion
for summary judgment on all of plaintiffs claims related to the alleged bricking of iPhones. In the same July 8, 2010 order the
Court granted in part plaintiffs motion for class certification, certifying a class related to plaintiffs antitrust claims. This case
is currently pending.
Mediostream, Inc. v. Acer America Corp. et al.
Plaintiff filed this action against the Company, Acer America Corp., Dell, Inc. and Gateway, Inc. on August 28, 2007, in the
United States District Court for the Eastern District of Texas alleging infringement of U.S. Patent No. 7,009,655. Plaintiff
seeks unspecified damages and other relief. This case is currently pending.
Nokia Corporation v. Apple Inc.; Apple Inc. v. Nokia Corporation
Nokia Corporation (Nokia) and the Company have asserted multiple claims against one another in lawsuits pending in the
United States District Courts for the Districts of Delaware and Wisconsin, and in the International Trade Commission. These
cases include claims and counterclaims by Nokia and the Company of patent infringement related to iPhones, iPods, iPads and
Apple computers, and Nokias mobile computing devices. Nokia alleges that certain of its asserted patents are essential to one
or more of the GSM, UMTS and 802.11 wireless communications standards, and acknowledges its commitment to license
them on fair, reasonable, and non-discriminatory (FRAND) terms and conditions. Nokia seeks unspecified FRAND
compensation, damages and other declaratory and injunctive relief in these pending District Court actions as well as an
exclusion order from the ITC. The Company also has asserted claims and counterclaims for declaratory judgments of noninfringement and invalidity of Nokias asserted patents as well as for breach of contract, promissory estoppel and antitrust
violations.
Saito Shigeru Kenchiku Kenkyusho (Shigeru Saito Architecture Institute) v. iPod; Apple Japan Inc. v. Shigeru Saito
Architecture Institute
Plaintiff Saito filed a petition against the Company in the Japan Customs Office in Tokyo on January 23, 2007, alleging
infringement by the Company of Japanese Patent No. 3,852,854. The petition sought an order barring the importation into
Japan of fifth generation iPods and second generation iPod nanos. The Customs Office rejected the petition to bar importation
and dismissed plaintiffs case.
Apple Japan, Inc. filed a Declaratory Judgment action against Saito on February 6, 2007, in the Tokyo District Court, seeking a
declaration that the 854 patent is invalid and not infringed. Saito filed a Counter Complaint for infringement seeking damages.
These cases are currently pending.
The Apple iPod iTunes Antitrust Litigation (formerly Charoensak v. Apple Computer, Inc. and Tucker v. Apple Computer,
Inc.); Somers v. Apple Inc.
The first-listed action is a consolidated case filed in the United States District Court for the Northern District of California
combining two cases previously pending under the names Charoensak v. Apple Computer Inc. (formerly Slattery v. Apple
Computer Inc., filed on January 3, 2005) and Tucker v. Apple Computer, Inc. (filed on July 21, 2006). A Consolidated
Complaint was filed on April 17, 2007 on behalf of a purported class of direct purchasers of iPods and iTunes Store content,
alleging various claims including alleged unlawful tying of music and video purchased on the iTunes Store with the purchase
of iPods and unlawful acquisition or maintenance of monopoly market power. The Court granted partial certification of
plaintiffs monopolization claims and subsequently de-certified these claims. The Court also dismissed plaintiffs tying claims.
Plaintiffs subsequently filed an Amended Consolidated Complaint seeking unspecified damages and other relief pursuant to
2 of the Sherman Act (15 U.S.C. 2), California Business & Professions Code 16700 et seq. (the Cartwright Act),
California Business & Professions Code 17200 (unfair competition), the California Consumer Legal Remedies Act and
California monopolization law, and preserving for appeal the dismissed tying claims. The Court dismissed all claims in the
Amended Consolidated Complaint other than the Sherman Act 2 and California Business & Professions Code 17200
claims. This case is currently pending.
A related complaint, Somers v. Apple Inc., was filed on December 31, 2007, in the United States District Court for the
Northern District of California on behalf of a purported class of indirect purchasers, alleging various claims including alleged
unlawful tying of
45
music and videos purchased on the iTunes Store with the purchase of iPods and vice versa and unlawful acquisition or
maintenance of monopoly market power under 1 and 2 of the Sherman Act, the Cartwright Act, California Business &
Professions Code 17200 (unfair competition), the California Consumer Legal Remedies Act and California monopolization
law. Plaintiff subsequently filed an Amended Complaint on behalf of purported classes of indirect iPod purchasers and direct
purchasers of music from the iTunes Store, seeking unspecified damages and other relief pursuant to Sherman Act 2 and
California Business & Professions Code 17200, and preserving for appeal the dismissed tying claims, claims for the
overcharge of the iPod, and claims under the Cartwright Act, Consumers Legal Remedies Act, and common law
monopolization. This case is currently pending.
Tse v. Apple Computer, Inc. et al.
Plaintiff filed this action against the Company and other defendants on August 5, 2005, in the United States District Court for
the District of Maryland alleging infringement of U.S. Patent No. 6,665,797. The complaint seeks unspecified damages and
other relief. The action was subsequently transferred to the Northern District of California. The case is currently stayed
pending the outcome of the U.S. Patent and Trademark Office reexamination of the asserted patent.
Vitt v. Apple Computer, Inc.
Plaintiff filed this purported class action on November 7, 2006, in the United States District Court for the Central District of
California on behalf of a purported nationwide class of all purchasers of the iBook G4 alleging that the computers logic board
fails at an abnormally high rate. The complaint alleges violations of California Business & Professions Code 17200 (unfair
competition) and California Business & Professions Code 17500 (false advertising). The complaint seeks unspecified
damages and other relief. On May 21, 2010, the Court granted the Companys motion to dismiss the case with prejudice. This
case is currently on appeal.
Vogel et al. v. Jobs et al.
On August 24, 2006, plaintiffs filed a purported shareholder class action in the United States District Court for the Northern
District of California against the Company and certain current and former officers and directors, alleging improper backdating
of stock option grants to maximize certain defendants profits, failing to properly account for those grants and issuing false
financial statements. On June 27, 2008, plaintiffs filed another, similar purported shareholder class action in the United States
District Court for the Northern District of California. Plaintiffs First Amended Consolidated Complaint, filed on March 22,
2010, asserts claims for unspecified damages against the Company and certain current and former officers and directors under
the federal securities laws on behalf of a purported class of shareholders. These cases have been consolidated and are currently
pending.
Item 1A.
Risk Factors
Because of the following factors, as well as other factors affecting the Companys financial condition and operating results,
past financial performance should not be considered to be a reliable indicator of future performance, and investors should not
use historical trends to anticipate results or trends in future periods.
Economic conditions could materially adversely affect the Company.
The Companys operations and performance depend significantly on worldwide economic conditions. Uncertainty about
current global economic conditions poses a risk as consumers and businesses may continue to postpone spending in response
to tighter credit, unemployment, negative financial news and/or declines in income or asset values, which could have a material
negative effect on demand for the Companys products and services. Demand also could differ materially from the Companys
expectations since the Company generally raises prices on goods and services sold outside the U.S. to offset the effect of a
strengthening of the U.S. dollar. Other factors that could influence demand include increases in fuel and other energy costs,
conditions in the real estate and mortgage markets, labor and healthcare costs, access to credit, consumer confidence, and other
macroeconomic factors affecting consumer spending behavior. These and other economic factors could materially adversely
affect demand for the Companys products and services and on the Companys financial condition and operating results.
In the event of renewed financial turmoil affecting the banking system and financial markets, additional consolidation of the
financial services industry, or significant financial service institution failures, there could be a new or incremental tightening in
the credit markets, low liquidity, and extreme volatility in fixed income, credit, currency, and equity markets. In addition, the
risk remains that there could be a number of follow-on effects from the credit crisis on the Companys business, including the
insolvency of key suppliers or their inability to obtain
46
credit to finance development and/or manufacture products resulting in product delays; inability of customers, including
channel partners, to obtain credit to finance purchases of the Companys products and/or customer, including channel partner,
insolvencies; and failure of derivative counterparties and other financial institutions negatively impacting the Companys
treasury operations. Other income and expense also could vary materially from expectations depending on gains or
losses realized on the sale or exchange of financial instruments; impairment charges resulting from revaluations of debt and
equity securities and other investments; interest rates; cash balances; and changes in fair value of derivative
instruments. Increased volatility in the financial markets and overall economic uncertainty would increase the risk of the actual
amounts realized in the future on the Companys financial instruments differing significantly from the fair values currently
assigned to them.
Uncertainty about current global economic conditions could also continue to increase the volatility of the Companys stock
price.
Global markets for personal computers, mobile communication devices, digital music and video devices, and related
peripherals and services are highly competitive and subject to rapid technological change. If the Company is unable to
compete effectively in these markets, its financial condition and operating results could be materially adversely affected.
The Company competes in highly competitive global markets characterized by aggressive price cutting, with resulting
downward pressure on gross margins, frequent introduction of new products, short product life cycles, evolving industry
standards, continual improvement in product price/performance characteristics, rapid adoption of technological and product
advancements by competitors, and price sensitivity on the part of consumers.
The Companys ability to compete successfully depends heavily on its ability to ensure a continuing and timely introduction of
innovative new products and technologies to the marketplace. The Company believes it is unique in that it designs and
develops nearly the entire solution for its personal computers, mobile communication devices, and consumer electronics,
including the hardware, operating system, numerous software applications, and related services. As a result, the Company must
make significant investments in research and development and as such, the Company currently holds a significant number of
patents and copyrights and has registered and/or has applied to register numerous patents, trademarks and service marks. By
contrast, many of the Companys competitors seek to compete primarily through aggressive pricing and very low cost
structures. If the Company is unable to continue to develop and sell innovative new products with attractive margins or if other
companies infringe on the Companys intellectual property, the Companys ability to maintain a competitive advantage could
be negatively affected and its financial condition and operating results could be materially adversely affected.
In the market for personal computers and peripherals, the Company faces a significant number of competitors, many of which
have broader product lines, lower priced products, and larger installed customer bases. Consolidation in this market has
resulted in larger and potentially stronger competitors. Price competition has been particularly intense as competitors selling
Windows-based personal computers have aggressively cut prices and lowered product margins. The Company also faces
increased competition in key market segments, including consumer, SMB, education, enterprise, government and creative
markets. An increasing number of Internet devices that include software applications and are smaller and simpler than
traditional personal computers compete for market share with the Companys existing products.
The Company is currently the only authorized maker of hardware using the Mac OS. The Mac OS has a minority market share
in the personal computer market, which is dominated by computer makers using competing operating systems, most notably
Windows. The Companys financial condition and operating results depend substantially on the Companys ability to
continually improve the Mac platform to maintain functional and design advantages. Use of unauthorized copies of the Mac
OS on other companies hardware products may result in decreased demand for the Companys hardware products, and could
materially adversely affect the Companys financial condition and operating results.
The Company is currently focused on certain mobile communication devices and consumer electronic devices and third-party
digital content and applications distribution. The Company faces substantial competition from companies that have significant
technical, marketing, distribution and other resources, as well as established hardware, software and digital content supplier
relationships. The Company also competes with illegitimate ways to obtain third-party
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digital content and applications. The Company has only recently entered the mobile communications market, and many of its
competitors in the mobile communications market have significantly greater experience, product breadth and distribution
channels than the Company. Because some current and potential competitors have substantial resources and experience and a
lower cost structure, they may be able to provide such products and services at little or no profit or even at a loss. The
Company also expects competition to intensify as competitors attempt to imitate the Companys approach to providing these
components seamlessly within their individual offerings or work collaboratively to offer integrated solutions.
The Company currently receives subsidies from its exclusive and non-exclusive carriers providing cellular network service for
iPhone. There is no assurance that such subsidies will be continued at all or in the same amounts upon renewal of the
Companys agreements with these carriers or in agreements the Company enters into with new carriers.
There can be no assurance the Company will be able to continue to provide products and services that compete effectively.
To remain competitive and stimulate customer demand, the Company must successfully manage frequent product introductions
and transitions.
Due to the highly volatile and competitive nature of the personal computer, mobile communication and consumer electronics
industries, the Company must continually introduce new products, services and technologies, enhance existing products and
services, and effectively stimulate customer demand for new and upgraded products. The success of new product introductions
depends on a number of factors including but not limited to timely and successful product development, market acceptance, the
Companys ability to manage the risks associated with new products and production ramp issues, the availability of application
software for new products, the effective management of purchase commitments and inventory levels in line with anticipated
product demand, the availability of products in appropriate quantities and costs to meet anticipated demand, and the risk that
new products may have quality or other defects in the early stages of introduction. Accordingly, the Company cannot
determine in advance the ultimate effect of new product introductions and transitions on its financial condition and operating
results.
The Company faces substantial inventory and other asset risk.
The Company records a write-down for product and component inventories that have become obsolete or exceed anticipated
demand or net realizable value and accrues necessary cancellation fee reserves for orders of excess products and components.
The Company also reviews its long-lived assets for impairment whenever events or changed circumstances indicate the
carrying amount of an asset may not be recoverable. If the Company determines that impairment has occurred, it records a
write-down equal to the amount by which the carrying value of the assets exceeds its fair market value. Although the Company
believes its inventory and other asset related provisions are currently adequate, no assurance can be given that, given the rapid
and unpredictable pace of product obsolescence in the personal computer, mobile communications, and consumer electronics
industries, the Company will not incur additional inventory or asset related charges. Such charges have, and could, materially
adversely affect the Companys financial condition and operating results.
The Company must order components for its products and build inventory in advance of product announcements and
shipments. Consistent with industry practice, components are normally acquired through a combination of purchase orders,
supplier contracts, open orders and, where appropriate, prepayments, in each case based on projected demand. Such purchase
commitments typically cover forecasted component and manufacturing requirements for 30 to 150 days. Because the
Companys markets are volatile, competitive and subject to rapid technology and price changes, there is a risk the Company
will forecast incorrectly and order or produce excess or insufficient inventories of components or products. The Companys
financial condition and operating results have been in the past and could be in the future materially adversely affected by the
Companys ability to manage its inventory levels and respond to short-term shifts in customer demand patterns.
Future operating results depend upon the Companys ability to obtain key components including but not limited to
microprocessors, NAND flash memory, DRAM and LCDs at favorable prices and in sufficient quantities.
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Because the Company currently obtains certain key components including but not limited to microprocessors, enclosures,
certain LCDs, certain optical drives, and application-specific integrated circuits (ASICs), from single or limited sources, the
Company is subject to significant supply and pricing risks. Many of these and other key components that are available from
multiple sources including but not limited to NAND flash memory, DRAM and certain LCDs, are subject at times to industrywide shortages and significant commodity pricing fluctuations. The Company has entered into certain agreements for the
supply of key components including but not limited to microprocessors, NAND flash memory, DRAM and LCDs at favorable
pricing, but there is no guarantee that the Company will be able to extend or renew these agreements on similar favorable
terms, or at all, upon expiration or otherwise obtain favorable pricing in the future. The follow-on effects from the credit crisis
on the Companys key suppliers, referred to in Economic conditions could materially adversely affect the Company above,
which is incorporated herein by reference, also could affect the Companys ability to obtain key components . Therefore, the
Company remains subject to significant risks of supply shortages and/or price increases that could materially adversely affect
the Companys financial condition and operating results. The Company expects to experience decreases in its gross margin
percentage in future periods, as compared to levels achieved during the first nine months of 2010, largely due to flat or reduced
average selling prices on new and innovative products that have higher cost structures and deliver greater value to customers, a
stronger U.S. dollar, and both expected and potential future cost increases for key components. For additional information refer
to Part I, Item 2, Managements Discussion and Analysis of Financial Condition and Results of Operations, under the
subheading Gross Margin, which is incorporated herein by reference.
The Company and other participants in the personal computer, mobile communication and consumer electronics industries
compete for various components with other industries that have experienced increased demand for their products. The
Company uses some custom components that are not common to the rest of the personal computer, mobile communication and
consumer electronics industries. The Companys new products often utilize custom components available from only one
source until the Company has evaluated whether there is a need for, and subsequently qualifies, additional suppliers. When a
component or product uses new technologies, initial capacity constraints may exist until the suppliers yields have matured or
manufacturing capacity has increased. Continued availability of these components at acceptable prices, or at all, may be
affected if those suppliers decided to concentrate on the production of common components instead of components customized
to meet the Companys requirements. If the supply of a key single-sourced component for a new or existing product were
delayed or constrained, if such components were available only at significantly higher prices, or if a key manufacturing vendor
delayed shipments of completed products to the Company, the Companys financial condition and operating results could be
materially adversely affected.
The Company depends on component and product manufacturing and logistical services provided by third parties, many of
whom are located outside of the U.S.
Most of the Companys components and products are manufactured in whole or in part by a few third-party manufacturers.
Many of these manufacturers are located outside of the U.S., and are concentrated in several general locations. The Company
has also outsourced much of its transportation and logistics management. While these arrangements may lower operating costs,
they also reduce the Companys direct control over production and distribution. It is uncertain what effect such diminished
control will have on the quality or quantity of products or services, or the Companys flexibility to respond to changing
conditions. In addition, the Company relies on third-party manufacturers to adhere to the Companys supplier code of conduct.
Although arrangements with such manufacturers may contain provisions for warranty expense reimbursement, the Company
may remain responsible to the consumer for warranty service in the event of product defects. Any unanticipated product defect
or warranty liability, whether pursuant to arrangements with contract manufacturers or otherwise, could materially adversely
affect the Companys reputation, financial condition and operating results.
Final assembly of the Companys products is currently performed in the Companys manufacturing facility in Ireland, and by
external vendors in California, Texas, China, the Czech Republic and Korea. Currently, the supply and manufacture of many
critical components is performed by sole-sourced third-party vendors in the U.S., China, Germany, Ireland, Israel, Japan,
Korea, Malaysia, the Netherlands, the Philippines, Taiwan, Thailand and Singapore. Sole-sourced third-party vendors in China
perform final assembly of substantially all of the Companys Mac products, iPhones, iPads and iPods. If manufacturing or
logistics in these locations is disrupted for any reason, including but not limited to, natural disasters, information technology
system failures, military actions or economic,
49
business, labor, environmental, public health, or political issues, the Companys financial condition and operating results could
be materially adversely affected.
The Company relies on third-party digital content and applications, which may not be available to the Company on
commercially reasonable terms or at all.
The Company contracts with certain third parties to offer their digital content and applications through the Companys iTunes
Store. The Company pays substantial fees to obtain the rights to audio, video and other digital content. The Companys
licensing arrangements with these third parties are short-term and do not guarantee the continuation or renewal of these
arrangements on reasonable terms, if at all. Some third-party content providers currently or in the future may offer competing
products and services, and could take action to make it more difficult or impossible for the Company to license their content in
the future. Other content owners, providers or distributors may seek to limit the Companys access to, or increase the total cost
of, such content. If the Company is unable to continue to offer a wide variety of content at reasonable prices with acceptable
usage rules, or continue to expand its geographic reach, the Companys financial condition and operating results may be
materially adversely affected.
Many third-party content providers require that the Company provide certain digital rights management (DRM) and other
security solutions. If these requirements change, the Company may have to develop or license new technology to provide these
solutions. There is no assurance the Company will be able to develop or license such solutions at a reasonable cost and in a
timely manner. In addition, certain countries have passed or may propose legislation that would force the Company to license
its DRM, which could lessen the protection of content and subject it to piracy and also could affect arrangements with the
Companys content providers.
The Company relies on access to third-party patents and intellectual property, and the Companys future results could be
materially adversely affected if it is alleged or found to have infringed intellectual property rights.
Many of the Companys products are designed to include third-party intellectual property, and in the future the Company may
need to seek or renew licenses relating to various aspects of its products and business methods. Although the Company
believes that, based on past experience and industry practice, such licenses generally could be obtained on reasonable terms,
there is no assurance that the necessary licenses would be available on acceptable terms or at all.
Because of technological changes in the global personal computer, mobile communication and consumer electronics industries,
current extensive patent coverage, and the rapid issuance of new patents, it is possible that certain components of the
Companys products and business methods may unknowingly infringe the patents or other intellectual property rights of third
parties. From time to time, the Company has been notified that it may be infringing such rights. Regardless of merit,
responding to such claims can consume significant time and expense. At present, the Company is vigorously defending a
number of patent infringement cases, and several pending claims are in various stages of evaluation. In certain cases, the
Company may consider the desirability of entering into licensing agreements, although no assurance can be given that such
licenses can be obtained on acceptable terms or that litigation will not occur. If the Company is found to be infringing such
rights, it may be required to pay substantial damages. If there is a temporary or permanent injunction prohibiting the Company
from marketing or selling certain products or a successful claim of infringement against the Company requires it to pay
royalties to a third party, the Companys financial condition and operating results could be materially adversely affected,
regardless of whether it can develop non-infringing technology. While in managements opinion the Company does not have a
potential liability for damages or royalties from any known current legal proceedings or claims related to the infringement of
patent or other intellectual property rights that would individually or in the aggregate materially adversely affect its financial
condition and operating results, the results of such legal proceedings cannot be predicted with certainty. Should the Company
fail to prevail in any of the matters related to infringement of patent or other intellectual property rights of others or should
several of these matters be resolved against the Company in the same reporting period, the Companys financial condition and
operating results could be materially adversely affected.
With the introduction of iPhones and 3G enabled iPads, the Company has begun to compete with mobile communication
device companies that hold significant patent portfolios. Regardless of the scope or validity of such patents or the merits of
any potential patent claims by competitors, the Company may have to engage in protracted litigation, enter into
50
expensive agreements or settlements and/or modify its products. Any of these events could have a material adverse impact on
the Companys financial condition and operating results.
The Companys future performance depends on support from third-party software developers. If third-party software
applications and services cease to be developed and maintained for the Companys products, customers may choose not to buy
the Companys products.
The Company believes decisions by customers to purchase its hardware products, including its Macs, iPhones, iPads and
iPods, are often based to a certain extent on the availability of third-party software applications and services. There is no
assurance that third-party developers will continue to develop and maintain applications and services for the Companys
products on a timely basis or at all, and discontinuance or delay of these applications and services could materially adversely
affect the Companys financial condition and operating results.
With respect to its Mac products, the Company believes the availability of third-party software applications and services
depends in part on the developers perception and analysis of the relative benefits of developing, maintaining, and upgrading
such software for the Companys products compared to Windows-based products. This analysis may be based on factors such
as the perceived strength of the Company and its products, the anticipated revenue that may be generated, continued
acceptance by customers of Mac OS X, and the costs of developing such applications and services. If the Companys minority
share of the global personal computer market causes developers to question the Companys prospects, developers could be less
inclined to develop or upgrade software for the Companys products and more inclined to devote their resources to developing
and upgrading software for the larger Windows market. The Companys development of its own software applications and
services may also negatively affect the decisions of third-party developers, such as Microsoft, Adobe and Google, to develop,
maintain, and upgrade similar or competitive software and services for the Companys products. Since October 2007, Mac OS
X has included a feature that enables Intel-based Mac systems to run Microsoft Windows operating systems. This feature may
deter developers from creating software applications for Mac OS X if such applications are already available for the Windows
platform.
With respect to iPhone, iPad and iPod touch, the Company relies on the continued availability and development of compelling
and innovative software applications. Unlike third-party software applications for Mac products, the software applications for
the iPhone, iPad and iPod touch platforms are distributed through a single distribution channel, the App Store. The absence of
multiple distribution channels, which are available for competing platforms, may limit the availability and acceptance of thirdparty applications by the Companys customers, thereby causing developers to curtail significantly, or stop, development for
the Companys platforms. In addition, iPhone, iPad and iPod touch are subject to rapid technological change, and, if third-party
developers are unable to keep up with this pace of change, third-party applications might not successfully operate and may
result in dissatisfied customers. Further, if the Company develops its own software applications and services, such
development may negatively affect the decisions of third-party developers to develop, maintain, and upgrade similar or
competitive applications for the iPhone, iPad and iPod touch platforms. As with applications for the Companys Mac products,
the availability and development of these applications also depend on developers perceptions and analysis of the relative
benefits of developing software for the Companys products rather than its competitors products, including devices that use
competing platforms. If developers focus their efforts on these competing platforms, the availability and quality of applications
for the Companys devices may suffer.
The Companys future operating performance depends on the performance of distributors, carriers and other resellers.
The Company distributes its products through wholesalers, resellers, national and regional retailers, value-added resellers, and
cataloguers, many of whom distribute products from competing manufacturers. The Company also sells many of its products
and resells third-party products in most of its major markets directly to customers, certain education customers, cellular
network carriers distribution channels and certain resellers through its online and retail stores.
Many resellers operate on narrow operating margins and have been negatively affected in the past by weak economic
conditions. Some resellers have perceived the expansion of the Companys direct sales as conflicting with their business
interests as distributors and resellers of the Companys products. Such a perception could discourage
51
resellers from investing resources in the distribution and sale of the Companys products or lead them to limit or cease
distribution of those products. The Companys financial condition and operating results could be materially adversely affected
if the financial condition of these resellers weakens, if resellers stopped distributing the Companys products, or if uncertainty
regarding demand for the Companys products caused resellers to reduce their ordering and marketing of the Companys
products. The Company has invested and will continue to invest in programs to enhance reseller sales, including staffing
selected resellers stores with Company employees and contractors and improving product placement displays. These programs
could require a substantial investment while providing no assurance of return or incremental revenue.
The Companys retail business has required and will continue to require a substantial investment and commitment of
resources and is subject to numerous risks and uncertainties.
Through June 26, 2010, the Company had opened 293 retail stores. The Companys retail stores have required substantial fixed
investment in equipment and leasehold improvements, information systems, inventory and personnel. The Company also has
entered into substantial operating lease commitments for retail space with terms ranging from five to 20 years, the majority of
which are for ten years. Certain stores have been designed and built to serve as high-profile venues to promote brand
awareness and serve as vehicles for corporate sales and marketing activities. Because of their unique design elements, locations
and size, these stores require substantially more investment than the Companys more typical retail stores. Due to the high
fixed cost structure associated with the Retail segment, a decline in sales or the closure or poor performance of individual or
multiple stores could result in significant lease termination costs, write-offs of equipment and leasehold improvements, and
severance costs that could materially adversely affect the Companys financial condition and operating results.
Many factors unique to retail operations, some of which are beyond the Companys control, pose risks and uncertainties that
could materially adversely affect the Companys financial condition and operating results. These risks and uncertainties
include, among other things, macro-economic factors that could have a negative effect on general retail activity, as well as the
Companys inability to manage costs associated with store construction and operation, inability to sell third-party products at
adequate margins, failure to manage relationships with existing retail channel partners, more challenging environment in
managing retail operations outside the U.S., costs associated with unanticipated fluctuations in the value of retail inventory,
and inability to obtain and renew leases in quality retail locations at a reasonable cost.
Investment in new business strategies and initiatives could disrupt the Companys ongoing business and present risks not
originally contemplated.
The Company has invested, and in the future may invest, in new business strategies or acquisitions. Such endeavors may
involve significant risks and uncertainties, including distraction of management from current operations, insufficient revenue
to offset liabilities assumed and expenses associated with the strategy, inadequate return of capital, and unidentified issues not
discovered in the Companys due diligence. Because these new ventures are inherently risky, no assurance can be given that
such strategies and initiatives will be successful and will not materially adversely affect the Companys financial condition and
operating results.
The Companys products and services experience quality problems from time to time that can result in decreased sales and
operating margin.
The Company sells highly complex hardware and software products and services that can contain defects in design and
manufacture. Sophisticated operating system software and applications, such as those sold by the Company, often contain
bugs that can unexpectedly interfere with the softwares intended operation. Defects may also occur in components and
products the Company purchases from third parties. There can be no assurance the Company will be able to detect and fix all
defects in the hardware, software and services it sells. Failure to do so could result in lost revenue, harm to reputation, and
significant warranty and other expenses, and could have a material adverse impact on the Companys financial condition and
operating results.
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In certain countries, including the U.S., the Company relies on a single cellular network carrier to provide service for iPhone.
In the U.S., Germany and certain other countries, the Company has contracted with a single carrier to provide cellular network
services for iPhone on an exclusive basis. If these exclusive carriers cannot successfully compete with other carriers in their
markets on any basis, including but not limited to the quality and coverage of wireless voice and data services, performance
and timely build-out of advanced wireless networks, and pricing and other terms or conditions of customer contracts, or if
these exclusive carriers fail to promote iPhone aggressively or favor other handsets in their promotion and sales activities or
service plans, sales may be materially adversely affected.
The Company is subject to risks associated with laws, regulations and industry-imposed standards related to mobile
communications devices.
Laws and regulations related to mobile communications devices in the many jurisdictions in which the Company operates are
extensive and subject to change. Such changes, which could include but are not limited to restrictions on production,
manufacture, distribution, and use of the device, locking the device to a carriers network, or mandating the use of the device
on more than one carriers network, could materially adversely affect the Companys financial condition and operating results.
Mobile communication devices, such as iPhones and 3G enabled iPads, are subject to certification and regulation by
governmental and standardization bodies, as well as by cellular network carriers for use on their networks. These certification
processes are extensive and time consuming, and could result in additional testing requirements, product modifications or
delays in product shipment dates, which could materially adversely affect the Companys financial condition and operating
results.
The Companys success depends largely on the continued service and availability of key personnel.
Much of the Companys future success depends on the continued availability and service of key personnel, including its CEO,
its executive team and highly skilled employees in technical, marketing and staff positions. Experienced personnel in the
technology industry are in high demand and competition for their talents is intense, especially in the Silicon Valley, where
most of the Companys key personnel are located. There can be no assurance that the Company will continue to attract and
retain key personnel.
In addition, the Company has relied on equity awards in the form of stock options and restricted stock units as one means for
recruiting and retaining highly skilled talent. Significant adverse volatility in the Companys stock price could result in a stock
options exercise price exceeding the underlying stocks market value or a significant deterioration in the value of restricted
stock units granted, thus lessening the effectiveness of stock-based awards for retaining employees.
Political events, war, terrorism, public health issues, natural disasters and other circumstances could materially adversely
affect the Company.
War, terrorism, geopolitical uncertainties, public health issues, and other business interruptions have caused and could cause
damage or disruption to international commerce and the global economy, and thus could have a strong negative effect on the
Company, its suppliers, logistics providers, manufacturing vendors and customers, including channel partners. The Companys
business operations are subject to interruption by natural disasters, fire, power shortages, terrorist attacks, and other hostile
acts, labor disputes, public health issues, and other events beyond its control. Such events could decrease demand for the
Companys products, make it difficult or impossible for the Company to make and deliver products to its customers, including
channel partners, or to receive components from its suppliers, and create delays and inefficiencies in the Companys supply
chain. Should major public health issues, including pandemics, arise, the Company could be negatively affected by more
stringent employee travel restrictions, additional limitations in freight services, governmental actions limiting the movement of
products between regions, delays in production ramps of new products, and disruptions in the operations of the Companys
manufacturing vendors and component suppliers. The majority of the Companys research and development activities, its
corporate headquarters, information technology systems, and other critical business operations, including certain component
suppliers and manufacturing vendors, are located near major seismic faults. Because
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the Company does not carry earthquake insurance for direct quake-related losses and significant recovery time could be
required to resume operations, the Companys financial condition and operating results could be materially adversely affected
in the event of a major earthquake.
The Company may be subject to information technology system failures, network disruptions and breaches in data security.
Information technology system failures, network disruptions and breaches of data security caused by such factors, including
but not limited to, earthquakes, fire, theft, fraud, malicious attack or other causes could disrupt the Companys operations by
causing delays or cancellation of customer, including channel partner, orders, negatively affecting the Companys online,
iTunes, MobileMe and retail offerings and services, impeding the manufacture or shipment of products, processing
transactions and reporting financial results, resulting in the unintentional disclosure of customer or Company information, or
damage to the Companys reputation. While management has taken steps to address these concerns by implementing
sophisticated network security and internal control measures, there can be no assurance that a system failure or loss or data
security breach will not materially adversely affect the Companys financial condition and operating results.
The Company expects its quarterly revenue and operating results to fluctuate for a variety of reasons.
The Companys profit margins vary among its products and its distribution channels. The Companys software, accessories,
and service and support contracts generally have higher gross margins than certain of the Companys other products. Gross
margins on the Companys hardware products vary across product lines and can change over time as a result of product
transitions, pricing and configuration changes, and component, warranty, and other cost fluctuations. The Companys direct
sales generally have higher associated gross margins than its indirect sales through its channel partners. In addition, the
Companys gross margin and operating margin percentages, as well as overall profitability, may be materially adversely
impacted as a result of a shift in product, geographic or channel mix, new products, component cost increases, strengthening
U.S. dollar, or price competition. The Company has typically experienced greater net sales in the first and fourth fiscal quarters
compared to the second and third fiscal quarters due to seasonal demand related to the holiday season and the beginning of the
school year, respectively. Furthermore, the Company sells more products from time-to-time during the third month of a quarter
than it does during either of the first two months. Developments late in a quarter, such as lower-than-anticipated demand for
the Companys products, issues with new product introductions, an internal systems failure, or failure of one of the Companys
key logistics, components supply, or manufacturing partners, could have a material adverse impact on the Companys financial
condition and operating results.
The Companys stock price continues to be volatile.
The Companys stock has at times experienced substantial price volatility due to a number of factors, including but not limited
to variations between its actual and anticipated financial results, announcements by the Company and its competitors, and
uncertainty about current global economic conditions. The stock market as a whole also has experienced extreme price and
volume fluctuations that have affected the market price of many technology companies in ways that may have been unrelated
to these companies operating performance. Furthermore, the Company believes its stock price reflects high future growth and
profitability expectations. If the Company fails to meet these expectations its stock price may significantly decline.
The Companys business is subject to the risks of international operations.
The Company derives a significant portion of its revenue and earnings from its international operations. Compliance with U.S.
and foreign laws and regulations that apply to the Companys international operations, including without limitation import and
export requirements, the Foreign Corrupt Practices Act, tax laws (including U.S. taxes on foreign subsidiaries), foreign
exchange controls and cash repatriation restrictions, data privacy requirements, labor laws, and anti-competition regulations,
increases the costs of doing business in foreign jurisdictions, and such costs may rise in the future as a result of changes in
these laws and regulations or in their interpretation. Furthermore, the Company has implemented policies and procedures
designed to ensure compliance with these laws and regulations, but there can be no assurance that the Companys employees,
contractors, or agents will not violate such laws and
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regulations or the Companys policies. Any such violations could individually or in the aggregate materially adversely affect
the Companys financial condition or operating results.
The Companys financial condition and operating results also could be significantly affected by other risks associated with
international activities, including but not limited to, economic and labor conditions, political instability, and changes in the
value of the U.S. dollar versus local currencies. Margins on sales of the Companys products in foreign countries, and on sales
of products that include components obtained from foreign suppliers, could be materially adversely affected by foreign
currency exchange rate fluctuations and by international trade regulations, including duties, tariffs and antidumping penalties.
The Companys primary exposure to movements in foreign currency exchange rates relate to non-U.S. dollar denominated
sales in Europe, Japan, Australia, Canada and certain parts of Asia, as well as non-U.S. dollar denominated operating expenses
incurred throughout the world. Weakening of foreign currencies relative to the U.S. dollar will adversely affect the U.S. dollar
value of the Companys foreign currency-denominated sales and earnings, and generally will lead the Company to raise
international pricing, potentially reducing demand for the Companys products. In some circumstances, due to competition or
other reasons, the Company may decide not to raise local prices to the full extent of the dollars strengthening, or at all, which
would adversely affect the U.S. dollar value of the Companys foreign currency denominated sales and earnings. Conversely, a
strengthening of foreign currencies, while generally beneficial to the Companys foreign currency-denominated sales and
earnings, could cause the Company to reduce international pricing, thereby limiting the benefit. Additionally, strengthening of
foreign currencies may also increase the Companys cost of product components denominated in those currencies, thus
adversely affecting gross margins.
The Company has used derivative instruments, such as foreign currency forward and option contracts, to hedge certain
exposures to fluctuations in foreign currency exchange rates. The use of such hedging activities may not offset any or more
than a portion of the adverse financial effects of unfavorable movements in foreign exchange rates over the limited time the
hedges are in place.
The Company is exposed to credit risk and fluctuations in the market values of its investment portfolio.
Although the Company has not recognized any material losses on its cash, cash equivalents and marketable securities, any
significant future declines in their market values could materially adversely affect the Companys financial condition and
operating results. Given the global nature of its business, the Company has investments both domestically and internationally.
Additionally, the Companys overall investment portfolio has concentrations in the financial sector, which has been negatively
impacted by adverse market liquidity conditions in the recent past. Credit ratings and pricing of these investments can be
negatively impacted by liquidity, credit deterioration or losses, financial results, or other factors. As a result, the value or
liquidity of the Companys cash, cash equivalents and marketable securities could decline and result in a material impairment,
which could materially adversely affect the Companys financial condition and operating results.
The Company is exposed to credit risk on its trade accounts receivable, vendor non-trade receivables and prepayments related
to long-term supply agreements. This risk is heightened during periods when economic conditions worsen.
A substantial majority of the Companys outstanding trade receivables are not covered by collateral or credit insurance. The
Company also has unsecured vendor non-trade receivables resulting from purchases of components by contract manufacturers
and other vendors that manufacture sub-assemblies or assemble final products for the Company. In addition, the Company has
made prepayments associated with long-term supply agreements to secure supply of certain inventory components. While the
Company has procedures to monitor and limit exposure to credit risk on its trade and vendor non-trade receivables as well as
long-term prepayments, there can be no assurance such procedures will effectively limit its credit risk and avoid losses, which
could materially adversely affect the Companys financial condition and operating results.
55
The matters relating to the Companys past stock option practices and its restatement of consolidated financial statements may
result in additional litigation.
The Companys investigation into its past stock option practices and its restatement of prior financial statements in the Annual
Report on Form 10-K for the year ended September 30, 2006 gave rise to litigation and government investigations. As
described in Part II, Item 1, Legal Proceedings, several derivative and class action complaints regarding stock options were
filed against the Company and current and former officers and directors. These actions have been dismissed following a
comprehensive settlement. Two former officers of the Company were also named as defendants in an SEC enforcement action,
which has been settled.
No assurance can be given that additional actions will not be filed against the Company and current and former officers and
directors as a result of past stock option practices. If such actions are filed and result in adverse findings, the remedies could
materially adversely affect the Companys financial condition and operating results.
Unfavorable results of legal proceedings could materially adversely affect the Company.
The Company is subject to various legal proceedings and claims that have arisen out of the ordinary conduct of its business and
are not yet resolved and additional claims may arise in the future. Results of legal proceedings cannot be predicted with
certainty. Regardless of merit, litigation may be both time-consuming and disruptive to the Companys operations and cause
significant expense and diversion of management attention. In recognition of these considerations, the Company may enter into
material settlements. Should the Company fail to prevail in certain matters, or should several of these matters be resolved
against the Company in the same reporting period, the Company may be faced with significant monetary damages or injunctive
relief against it that would materially adversely affect a portion of its business and might materially affect the Companys
financial condition and operating results.
The Company is subject to risks associated with laws and regulations related to health, safety and environmental protection.
The Companys products and services, and the production and distribution of those goods and services, are subject to a variety
of laws and regulations. These may require the Company to offer customers the ability to return a product at the end of its
useful life and place responsibility for environmentally safe disposal or recycling with the Company. Such laws and
regulations have been passed in several jurisdictions in which the Company operates, including various countries within
Europe and Asia and certain states and provinces within North America. Although the Company does not anticipate any
material adverse effects based on the nature of its operations and the focus of such laws, there is no assurance such existing
laws or future laws will not materially adversely affect the Companys financial condition and operating results.
Changes in the Companys tax rates, the adoption of new U.S. or international tax legislation or exposure to additional tax
liabilities could affect its future results.
The Company is subject to taxes in the United States and numerous foreign jurisdictions. The Companys future effective tax
rates could be affected by changes in the mix of earnings in countries with differing statutory tax rates, changes in the
valuation of deferred tax assets and liabilities, or changes in tax laws or their interpretation. In addition, the current
administration and Congress have recently announced proposals for new U.S. tax legislation that, if adopted, could adversely
affect the Companys tax rate. Any of these changes could have a material adverse affect on the Companys profitability. The
Company is also subject to the continual examination of its income tax returns by the Internal Revenue Service and other tax
authorities. The Company regularly assesses the likelihood of adverse outcomes resulting from these examinations to
determine the adequacy of its provision for taxes. There can be no assurance that the outcomes from these examinations will
not materially adversely affect the Companys financial condition and operating results.
The Company is subject to risks associated with the availability and coverage of insurance.
For certain risks, the Company does not maintain insurance coverage because of cost and/or availability. Because the Company
retains some portion of its insurable risks, and in some cases self-insures completely, unforeseen or
56
catastrophic losses in excess of insured limits could materially adversely affect the Companys financial condition and
operating results.
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3.
Defaults Upon Senior Securities
None.
Item 5.
Other Information
None.
57
Item 6.
Exhibits
(a) Index to Exhibits
Incorporated by
Reference
Exhibit
Number
Exhibit Description
Form
Filing Date/
Period End
Date
3.1
Restated Articles of Incorporation, filed with the Secretary of State of the State of
California on July 10, 2009.
10-Q
6/27/09
3.2
By-Laws of the Registrant, as amended through May 27, 2009.
8-K
6/2/09
4.1
Form of Stock Certificate of the Registrant.
10-Q
12/30/06
10.1*
Employee Stock Purchase Plan, as amended through March 8, 2010.
10-Q
3/27/10
10.2*
Form of Indemnification Agreement between the Registrant and each director and
executive officer of the Registrant.
10-Q
6/27/09
10.3*
1997 Employee Stock Option Plan, as amended through October 19, 2001.
10-K
9/28/02
10.4*
1997 Director Stock Plan, as amended through February 25, 2010.
8-K
3/1/10
10.5*
2003 Employee Stock Plan, as amended through February 25, 2010.
8-K
3/1/10
10.6*
Reimbursement Agreement dated as of May 25, 2001 by and between the Registrant
and Steven P. Jobs.
10-Q
6/29/02
10.7*
Form of Option Agreements.
10-K
9/24/05
10.8*
Form of Restricted Stock Unit Award Agreement effective as of August 28, 2007.
10-K
9/29/07
10.9*
Form of Restricted Stock Unit Award Agreement effective as of November 11,
2008.
10-Q
12/27/08
10.10*
Transition Agreement and Settlement Agreement and Release dated as of November
3, 2008 by and between the Registrant and Anthony Fadell.
10-Q
12/27/08
14.1
Business Conduct Policy of the Registrant dated February 2009.
31.1**
Rule 13a-14(a) / 15d-14(a) Certification of Chief Executive Officer.
31.2**
Rule 13a-14(a) / 15d-14(a) Certification of Chief Financial Officer.
32.1***
Section 1350 Certifications of Chief Executive Officer and Chief Financial Officer.
101.INS****
XBRL Instance Document
101.SCH****
XBRL Taxonomy Extension Schema Document
101.CAL****
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF****
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB****
XBRL Taxonomy Extension Label Linkbase Document
101.PRE****
XBRL Taxonomy Extension Presentation Linkbase Document
*
Indicates management contract or compensatory plan or arrangement.
**
Filed herewith.
***
Furnished herewith.
58
10-Q
3/28/09
**** Pursuant to applicable securities laws and regulations, the Company is deemed to have complied with the reporting
obligation relating to the submission of interactive data files in such exhibits and is not subject to liability under any
anti-fraud provisions of the federal securities laws as long as the Company has made a good faith attempt to comply with
the submission requirements and promptly amends the interactive data files after becoming aware that the interactive
data files fails to comply with the submission requirements. Users of this data are advised that, pursuant to Rule 406T,
these interactive data files are deemed not filed and otherwise are not subject to liability.
59
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
July 21, 2010
APPLE INC.
By: /s/ Peter Oppenheimer
Peter Oppenheimer
Senior Vice President,
Chief Financial Officer
60