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The Americas, Europe, and Japan reportable segments exclude activities related to the Retail segment.
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The Americas segment includes both North and South America.
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The Europe segment includes European countries, as well as the Middle East and Africa.
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The Retail segment operates Apple-owned retail stores in the U.S., Canada, Japan, the U.K. and Italy.
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Each reportable operating segment provides similar hardware and software products and similar services to the same types of customers.
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The accounting policies are 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 Company’s 2007 Form 10-K.
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The Company evaluates the performance of its operating segments based on net sales and operating income.
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Net sales for geographic segments are generally based on the location of the customers, and net sales for the Retail segment are based on sales from the Company’s retail stores.
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Operating income for each segment includes net sales to third parties, related cost of sales, and operating expenses directly attributable to the segment.
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Advertising expenses are generally included in the geographic segment in which the expenditures are incurred.
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Operating income for each segment excludes other income and expense and certain expenses managed outside the operating segments.
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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.
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The Company does not include intercompany transfers between segments for management reporting purposes.
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Segment assets exclude corporate assets, such as cash, short-term and long-term investments, manufacturing facilities, miscellaneous corporate infrastructure, goodwill and other acquired intangible assets.
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Except for the Retail segment, capital asset purchases for long-lived assets are not reported to management by segment.
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Cash payments for capital asset purchases by the Retail segment were $75 million and $36 million during the first quarters of 2008 and 2007, respectively.
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From the establishment of the Retail segment in fiscal 2001 through the quarter ended March 31, 2007, Company management assessed the segment’s operating performance differently from the Company’s geographic operating segments because the Company’s Retail initiative was an unproven concept at inception.
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Having operated the Company’s Retail stores successfully for more than six years, management believes its Retail initiative is a proven concept that will continue to be an integral element of the Company’s distribution and marketing strategies.
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Additionally, the Company expects sales of iPhone by the Company’s geographic and Retail operating segments to continue to generate significant levels of deferred revenue and deferred cost of sales over time.
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In consideration of these factors, management has determined that beginning with the third quarter of 2007, aligning measurements for the performance of the Retail segment with those used for the Company’s geographic operating segments provides greater comparability with those segments and allows for a more meaningful assessment of the Retail segment’s operating results.
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The Company has reclassified prior period operating segment results to reflect these changes in the measurement of the operating results for the Retail segment, along with the corresponding offsetting impact to the Company’s other operating segments.
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For further discussion of this reclassification please refer to Note 9, “Segment Information and Geographic Data” in the Notes to Consolidated Financial Statements in the Company’s 2007 Form 10-K.
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The Company has certain 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.
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Because of their unique design elements, locations and size, these stores require substantially more investment than the Company’s more typical retail stores.
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The Company allocates certain operating expenses associated with its high-profile stores to corporate marketing expense to reflect the estimated Company-wide benefit.
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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.
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The Company had opened a total of nine high-profile stores as of December 29, 2007.
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Expenses allocated to corporate marketing resulting from the operations of high-profile stores were $11 million and $10 million in the first quarters of 2008 and 2007, respectively.
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Summary information by operating segment is as follows (in millions): (a) Other Segments consist of Asia-Pacific and FileMaker.
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A reconciliation of the Company’s segment operating income to the Condensed Consolidated Financial Statements is as follows (in millions): (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.
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Note 8 - 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.
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The Company recognized a total of $550,000 and $204,000 in expenses pursuant to the Reimbursement Agreement during the first quarter of 2008 and 2007, respectively.
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All expenses recognized pursuant to the Reimbursement Agreement have been included in selling, general, and administrative expenses in the Condensed Consolidated Statements of Operations.
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Item 2.
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Management’s 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.
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Forward-looking statements can be identified by words such as “anticipates,” “expects,” “believes,” “plans,” “predicts,” and similar terms.
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Forward-looking statements are not guarantees of future performance and the Company’s actual results may differ significantly from the results discussed in the forward-looking statements.
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Factors that might cause such differences include, but are not limited to, those discussed in Part II, Item 1A, “Risk Factors.” The following discussion should be read in conjunction with the Company’s 2007 Annual Report on Form 10-K (the “2007 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.
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All information presented herein is based on the Company’s fiscal calendar.
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Unless otherwise stated, references in this report to particular years or quarters refer to the Company’s fiscal years ended in September and the associated quarters of those fiscal years.
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The Company assumes no obligation to revise or update any forward-looking statements for any reason, except as required by law.
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Available Information The Company’s 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.
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Such reports and other information filed by the Company with the SEC are available on the Company’s website at http://www.apple.com/investor when such reports are available on the SEC website.
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The public may read and copy any materials filed by the Company with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Room 1580, Washington, DC 20549.
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The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.
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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.
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The contents of these websites are not incorporated into this filing.
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Further, the Company’s references to the URLs for these websites are intended to be inactive textual references only.
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Executive Overview The Company designs, manufactures, and markets personal computers, portable digital music players, and mobile communication devices and sells a variety of related software, services, peripherals, and networking solutions.
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The Company’s products and services include the Mac® line of desktop and portable computers, the iPod® line of portable digital music players, iPhoneTM, Apple TV®, Xserve® and Xserve RAID, a portfolio of consumer and professional software applications, the Mac OS® X operating system, third-party digital content through the iTunes Store™, and a variety of accessory, service and support offerings.
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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.
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In addition, the Company sells a variety of third-party Mac, iPod and iPhone compatible products, including application software, printers, storage devices, speakers, headphones, and various other accessories and peripherals through its online and retail stores.
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The Company sells to education, consumer, creative professional, business, and government customers.
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A further description of the Company’s 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 Company’s 2007 Form 10-K.
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The Company is focused on providing innovative products and solutions to professional, consumer, and education customers that greatly enhance their evolving digital lifestyles.
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The product attributes that enable this enhanced functionality include high-quality user interfaces, the ability to run complex applications, access to relatively inexpensive storage, and the ability to connect easily to a wide variety of digital content, digital devices, and the Internet.
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The growing prevalence and complexity of digital content and digital devices such as iPods, iPhone, video and still cameras, televisions, and personal digital assistants require increasingly sophisticated and integrated software applications.
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The Company is the only participant in the personal computer and consumer electronics industries that controls the design and development of the entire personal computer, including the hardware, operating system, and sophisticated software applications, as well as the design and development of portable digital music players, mobile communication devices, and a variety of products and solutions for obtaining and enjoying digital content.
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The Company is therefore uniquely positioned to offer superior and well-integrated digital lifestyle products and solutions, which are further enhanced by the Company’s emphasis on ease-of-use and creative industrial designs.
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The Company participates in several highly competitive markets, including personal computers with its Mac line of computers, consumer electronics with its iPod product family of portable digital music players, and distribution of third-party digital content through its online iTunes Store.
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With the introduction of iPhone, the Company has also begun to compete with mobile communication device companies that have substantial experience and technological and financial resources.
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While the Company is widely recognized as a leading innovator in the personal computer and consumer electronics markets as well as a leader in the emerging market for distribution of digital content, these markets are highly competitive and subject to aggressive pricing.
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To remain competitive, the Company believes that increased investment in research and development (“R&D”) and marketing and advertising is necessary to maintain or expand its position in the markets where it competes.
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The Company’s R&D spending is focused on further developing its existing line of personal computers, operating systems, application software, and portable digital music players; developing new digital lifestyle consumer and professional software applications; and investing in new product areas such as iPhone and wireless technologies.
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The Company also believes increased investment in marketing and advertising programs is critical to increasing product and brand awareness.
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The Company utilizes a variety of direct and indirect distribution channels.
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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 only on Mac computers, and demonstrate the compatibility of the Mac with the Windows platform and networks.
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The Company further believes providing a high-quality sales and after-sales support experience is critical to attracting new and retaining existing customers.
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To ensure a high-quality buying experience for its products in which service and education are emphasized, the Company continues to expand and improve its distribution capabilities by opening its own retail stores in the U.S. and internationally.
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The Company had 204 stores open as of December 29, 2007.
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The Company also staffs selected third-party stores with the Company’s own employees to improve the buying experience through reseller channels.
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The Company has deployed Apple employees and contractors in reseller locations around the world including the U.S., Canada, Europe, Japan, Asia, Latin America and Australia.
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The Company also sells to customers directly through its online stores around the world, as well to government, education and enterprise customers through the Company’s direct sales force.
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To improve access to the iPod product family, the Company has significantly expanded the number of distribution points where iPods are sold.
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iPods can be purchased in certain department stores, member-only warehouse stores, large retail chains, and specialty retail stores, as well as through the channels for Mac distribution listed above.
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The Company began shipping iPhone in the U.S. during the third quarter of 2007 and in the U.K., Germany and France during the first quarter of 2008.
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AT&T Mobility LLC (“AT&T”), O2 Limited (“O2”), T-Mobile International AG & Co. KG (“T-Mobile”), and France Telecom (“Orange”) are the exclusive cellular network carriers for iPhone in the U.S., U.K., Germany, and France, respectively.
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iPhone is distributed through the Company and its exclusive cellular network carriers’ distribution channels.
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Products The Company offers a range of personal computing products including desktop and portable personal computers, related devices and peripherals, and various third-party hardware and software products.
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In addition, the Company offers software products including Mac OS X, the Company’s proprietary operating system software for the Mac; server software and related solutions; professional application software; and consumer, education and business oriented application software.
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Mac OS X Leopard is the sixth major release of Mac OS X and became available in October 2007.
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The Company also designs, develops and markets to Mac and Windows users its family of iPod digital music players and its iPhone mobile communication device, along with related accessories and services including the online distribution of third-party content through the Company’s iTunes Store.
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In January 2008, the Company announced MacBook® Air, an ultra-slim notebook computer that measures 0.16-inches at its thinnest point and 0.76-inches at its maximum height.
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The MacBook Air includes a 13.3-inch LED-backlit widescreen display, a full-size and backlit keyboard, a built-in iSight® video camera, a trackpad with Multi-TouchTM gesture support, and AirPort Extreme® 802.11n Wi-Fi networking.
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In January 2008, the Company also announced iTunes® Movie Rentals, an online movie rental service that allows customers to rent movies from the iTunes Store.
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Rented movies can be watched on Macs, Windows-based computers, all current generation video-enabled iPods, iPhone and through Apple TV.
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A detailed discussion of the Company’s other products may be found in Part I, Item 1, “Business,” of the Company’s 2007 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 and the Company’s discussion and analysis of its financial condition and operating results require the Company’s management to make judgments, assumptions, and estimates that affect the amounts reported in its Condensed Consolidated Financial Statements and accompanying notes.
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Note 1, “Summary of Significant Accounting Policies” of this Form 10-Q and in the Notes to Consolidated Financial Statements in the Company’s 2007 Form 10-K describes the significant accounting policies and methods used in the preparation of the Company’s Condensed Consolidated Financial Statements.
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Management bases its estimates on historical experience 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.
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Actual results may differ from these estimates and such differences may be material.
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Management believes the Company’s critical accounting policies and estimates are those related to revenue recognition, allowance for doubtful accounts, inventory valuation and inventory purchase commitments, warranty costs, stock-based compensation, income taxes, and legal and other contingencies.
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Management considers these critical policies because they are both important to the portrayal of the Company’s financial condition and operating results, and they require management to make judgments and estimates about inherently uncertain matters.
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The Company’s senior management has reviewed these critical accounting policies and related disclosures with the Audit and Finance Committee of the Company’s Board of Directors.
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Revenue Recognition Net sales consist primarily of revenue from the sale of hardware, software, music products, digital content, peripherals, and service and support contracts.
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The Company recognizes revenue for software products (operating system software and applications software), or any product that is considered to be software-related in accordance with the guidance in Emerging Issues Task Force (“EITF”) No.
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03-5, Applicability of AICPA Statement of Position 97-2 to Non-software Deliverables in an Arrangement Containing More-Than-Incidental Software, (e.g., Mac computers, iPod portable digital music players and iPhone) pursuant to American Institute of Certified Public Accountants (“AICPA”) Statement of Position (“SOP”) No.
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97-2, Software Revenue Recognition, as amended.
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For products that are not software or software-related, (e.g., digital content sold on the iTunes Store and certain Mac, iPod and iPhone supplies and accessories) the Company recognizes revenue pursuant to SEC Staff Accounting Bulletin (“SAB”) No.
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104, Revenue Recognition.
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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.
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