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Apple weathers ratings cuts

Financial ratings fall after Apple reports a first-quarter loss of $120 million, but Apple stock slips no farther.

Despite a ratings cut today by several brokerage firms after the company announced a six-month delay in its profitabilty plans and a higher loss than expected, shares of Apple (AAPL) held relatively steady.

CS First Boston widened its 1997 loss forecast to $2 a share from $1.75 and maintained its hold recommendation for the embattled computer maker.

Meanwhile, Lehman Brothers cut its rating to neutral from outperform.

Apple, which announced its first quarter loss after the market's close, was down 1/2 point in morning trading from its close of 17-1/8 a share yesterday.

Confirming earlier predictions of lackluster performance due to sluggish Performa sales, Apple yesterday reported a first-quarter net loss of $120 million, throwing off the company's goal of achieving sustained profits by March.

Apple is not expected to see black ink on its financial statements until September, when its fourth quarter begins, according to Fred Anderson, chief financial officer. The company reported a net loss of 96 cents a share for the quarter ending December 27, compared with a net loss of $69 million, or 56 cents a share, a year earlier.

Standard & Poor's yesterday lowered the credit rating on Apple's corporate and its senior debt to single-B from single-B-plus. And the rating on its subordinated debt to triple-C-plus from single-B-minus.

The ratings downgrade accounts for the challenges the computer maker faces from lowering its operating costs to restoring revenue growth. The downgrade of the debt will make it harder for Apple to find interested investors to buy its notes. The ratings downgrade accounts for the challenges the computer maker faces due to lowering its operating costs to restore revenue growth. The downgrade of the debt will make it harder for Apple to find interested investors to buy its notes.

Apple also plans to take a $300 million one-time charge for its acquisition of Next Software in the current quarter. It will amortize the remaining $100 million it agreed to pay for the company over the course of five to seven years. This charge, along with its operating loss and any other downturn in sales, will eat away at Apple's $1.8 billion cash position, analysts said.

Revenues for the first quarter fell 33 percent to $2.1 billion, compared with $3.15 billion a year ago. Apple, which released the figures after the stock market's close, saw its shares fall to 17-1/4, down 5/8 of a point from yesterday.

Just as CEO Gilbert Amelio had predicted in a surprising preliminary estimate January 3, the company attributed today's news to an unexpected slowdown of Performa sales during the critical holiday season. That earlier announcement, only a few days before the Macworld Expo conference began, sent Apple's stock into a steep decline.

At that time, Apple had estimated that its operating loss would range from $100 million to $150 million for the quarter, or 80 cents to $1.20 a share.

Analysts, expecting a 4-cent loss before Apple's preliminary release of its first quarter operating losses, later revised their estimates downward to a loss of 75 cents.

Today's report, by far the worst financial news from Apple since its staggering $740 million quarterly loss in February of last year, reflects the company's declining market share and its prolonged absence of a new operating system. That system, a hybrid to be developed with new merger partner Next, is now scheduled to reach the market in 1998.

Driving down the quarterly performance were U.S. Performa sales, which came in 35 percent below Apple's business plan even though unit shipments were higher than the previous quarter, Anderson said. The company's marketing department is currently studying the issues to determine why consumers stayed away from Apple.

The report was particularly disappointing because the company had appeared more competitive than ever with the introduction of some new Performas, which were to rival Intel-based systems in performance and price. Yet it was the consumer systems that suffered the poorest sales, dragging Apple's revenues down with them.

Its aggressive price-cutting took other tolls as Apple saw its first-quarter gross margins decline to 19 percent for the quarter, down from 22 percent in the fourth quarter.

"Aggressive price-cutting is not the cure for Apple," said John Rossi, an analyst with Robertson Stephens. "There's been so many stories in the press that focus on Apple's bloodletting that many consumers who don't tune into the ups and downs of the company may be concerned they're buying an obsolete computer if they buy a Macintosh."

He added the company should consider focusing on markets where there's a strong demand for its products, such as the high-end corporate and professional market, which also carry higher profit margins.

"Apple has to carve out a Mercedes Benz image," Rossi said.

Meanwhile, Pieter Hartsook, vice president of market research and analysis for Apple, in a recent interview with CNET said: "I suspect that it wasn't just Apple that had problems, but Apple was hit a bit more substantially [than other PC vendors]."

"Concern about the company's viability was significant factor in consumer decisions. But all of the PC vendors have issues--on the Windows side, the anticipation of MMX [multimedia processors from Intel]--that had a negative effect on sales," he noted.

Aside from negative perceptions of the company, some industry analysts think that Apple actually had the lower-cost systems that people wanted but simply didn't have enough of them to sell. Sales of the Power Mac, for example, rose 15 percent over the previous quarter, and customers were flocking to the stores to make a purchase but finding them in short supply.

Under its revised outlook, which now accounts for $1 billion less in annual revenues, Anderson said the company will take restructuring steps to return to profitability by the fourth quarter.

A restructuring plan has yet to be determined, but Anderson said the cost-cutting benefits will be small in the current quarter, "meaningful in the third quarter," and, by the fourth quarter, most of them will have been realized.

Analysts, however, have previously questioned how a Apple will cut $1 billion of expenses from its operations during the fiscal year without cutting into the muscle of the company.

With the acquisition of Next Software and its NextStep operating system, Apple has taken a major step to address the limitations of its Macintosh operating system. Industry observers praise Next's technology--which includes a development environment that runs on Windows and Sun's Solaris operating systems--as user-friendly, industrial-strong, and time-tested--the latter being a big reason Apple went with Next instead of the exciting but green Be OS.

It remains to be seen, however, if Apple can combine Next technologies with its own popular tools, especially QuickTime, into a powerful new Mac OS--code-named Rhapsody--that competes with Windows in corporations, multimedia studios, schools, and homes.

The current System 7 Mac OS, which Amelio has likened to an overloaded twin-propeller airplane, will continue to evolve despite its lack of memory protection, which means it can't keep one application from crashing the entire system. Apple executives don't want to burn the approximately 26 million Mac users out there while they develop Rhapsody for a early 1998 general release.

Apple faces the challenge of convincing developers and end users that System 7 is a viable commercial platform while encouraging as much migration as possible to Rhapsody. At the heart of that strategy is a compatibility feature in Rhapsody that by mid-1998 will allow Rhapsody to run System 7 and most System 7 apps in a separate software environment or "box."

Reporters Alex Lash and Jim Davis contributed to this story.