The Problem With Apple Is Apple

| About: Apple Inc. (AAPL)

Obviously, when people refer to a failure at Apple today, they could only be speaking of the decline of the company's shares over recent months. Apple's products remain staple gear for mobile telecommunications and computing in America. Yet, Apple (NASDAQ:AAPL) shares have fallen precipitously, down 35% now from their 52-week high reached in September 2012. So what gives?

Tech-bloggers, investment media pundits and the average Joe on the street will give you at least three different reasons why Apple shares have dropped, and all of them could be at least partly correct. One recently popular theory was that fear of a change to the capital gains tax rate pushed long-time holders of the stock with big paper gains at stake to take some profits in 2012. However, the stock is down 14% in 2013, which can't be explained by this theory. Another argument is that shareholders would benefit from an Apple stock split, because it would allow more people to buy round lots of AAPL shares. Still, there's also a case to be made against an Apple stock split. These things noted, more important questions are being asked today about Apple, starting with:

How long can Apple grow at its relatively high pace, especially given the company's size and market penetration?

Apple's earnings per share have managed about 71% growth per annum over the last five years, according to data at Yahoo Finance. That's an outstanding feat considering the company just reported record quarterly revenue of $54.5 billion, partly on the sale of 47.8 million iPhones. Because of its massive growth, AAPL is the most important stock trading today in terms of market capitalization (or market value), with a market cap of about $429 billion, ahead of once king of the hill, Exxon Mobil (NYSE:XOM), which is worth $413 billion. In other words, Apple is now a huge company booking humongous income.

The law of large numbers and logic dictate that growth must slow as Apple's market presence matures. Indeed, the analysts' consensus data at Yahoo Finance indicate expectations for a slower pace of growth over the next 5-years, this time for about 14% annually. The company's growth was of course fueled in the past by its disruptive technology. In the mobile phone segment, the company has eaten up chunks of market share and left rivals Blackberry (RIMM) (just renamed from Research in Motion), Nokia (NYSE:NOK), Palm (acquired by Hewlett-Packard (NYSE:HPQ)), and Motorola choking on its dust. Apple still has significant opportunity available to it in China and other emerging markets with its current product lines. But today it faces serious challenges globally from Google (NASDAQ:GOOG), Samsung (OTC:SSNLF), Microsoft (NASDAQ:MSFT) and maybe Blackberry again, which just introduced a new and exciting phone on Wednesday.

In Apple's tablet computing segment, the company's initiative with the iPad has been countered by rival (NASDAQ:AMZN) and its Kindle line, and almost every manufacturer of laptops and/or PCs either has a tablet or is developing one. The iPad may be top of its class, but it's also the most expensive product on the shelf and leaves a good portion of the market vulnerable. So now Apple will likely fight for the cheaper price-point territory, but that is at the cost of once fatter profit margins. It means a compromise on investment return for the company, but it's probably a critically necessary one for competitive reasons. Still, Moore's Law dictates that Apple will have to innovate or lose its hallowed ground to competitors who do so in their stead. Thus, the pace of innovation in technology dictates that Apple will have a tough time staying atop the hill, especially without its visionary, the technology icon and legend, Steve Jobs.

So some, including your author, believe the future for Apple will rely heavily on new product market entry. Specifically, an Apple television might be just what the doctor ordered for suffering AAPL shareholders. The argument the company has made in the past against it, including Jobs, is that it did not want to enter television until it could change the game similarly to how it did for mobile phones and the music industry. But as Apple works toward a prolific product, its lively rival Samsung is offering a smart television today. Apple's brand pull alone would almost immediately give it significant market share in the television market if it would put a product on the shelf, and it would very likely invigorate interest in its shares again.

So it would appear then that the problem with Apple is Apple. The company's success has helped it to grow to a point where it will either transition into a mature company, giving back a portion of returns to shareholders in dividends, and likely suffering future market share loss, or it will take new risks to enter new markets and potentially continue growth. Such risk taking could also entail acquisitions, which could prove to destroy capital rather than support ongoing growth. Yet, if it holds pat, nothing it has today is guaranteed to it tomorrow. Innovation is not solely owned by Apple, and just as it reinvented the industries it competes in, another company could do so again.

The challenge to Apple is to be as good as it has been in the past, but it has set a very high bar for itself. The company and the stock are at a crossroads, and operating decisions and execution will determine the path for each moving forward. Many companies succeed with a good idea or two, but very few are able to stay atop the hill. The good news for Apple shareholders is that the operating systems behind the gear have staying power, which buys it time. Because I believe the impetus of the nascent share decline will force the company into action on television, I believe an eventual turn higher is in store. When that happens investors will reminisce about the good times of the past, and the stock will also likely enjoy a revival. Thus, and given its valuation today with a P/E-to-growth rate of 0.7 despite the slower growth forecasted, I believe Apple has better days ahead of it. But, it will take a catalyst now, and I believe that must be the introduction of a smart television and/or a better break into China. Much of the selling in the stock should be exhausted, with perhaps another $50 at risk short-term. So long-term interests can begin to relax, but pressure should be intensified on the company. As for Apple's management team, they cannot afford to relax if they are to answer today's questions about the company's future, and give support to AAPL shares. New long interests might be wise to wait for the stock to settle and a new catalyst for growth to emerge. I think more speculative investors can begin to add stakes gradually now.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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