I remember how incredibly smug some Apple (AAPL) shareholders were during the monster run from $350 to $700. I can't tell you how many people claimed to own the shares at a $10 basis and had never sold a single share, and I still remember how much of a "sure bet" the company was in the eyes of investors. People thought that margins would never erode, market share would never be lost to evil copycat Samsung (GM:SSNLF) and their "cheap" plastic phones, and that the gravy train would continue for life. Well, the party's over, and it is time to move on. Apple is now a headline and options-driven large cap that has very little upside potential while at the same time presents plenty of downside risk. It's a great company and people love their products, but buying shares and holding them is unlikely to be a wise use of investment capital.
How Much Upside Do You Expect?
Apple makes its obscene profits from precisely three major things:
- High end PCs
As the first mover in the smartphone and tablet space as we know it today, Apple was able to enjoy a lack of meaningful competition, while at the same time established a brand and an ecosystem. Unfortunately, Google (GOOG) and its Android platform have provided an open platform for every device maker to use and customize to their heart's content. Further, in addition to a rich ecosystem of device partners, there is an equally fierce battle in the apps processor space which drives the major semiconductor firms to put out faster and lower power chips, and push for new software, to enable fundamentally new usage models in the handheld form factor.
Google's Android will light up the screens of a good portion of the tablets that get sold on the market over the next couple of years in emerging markets and to cost-conscious consumers. In the enterprise space, I am confident that Microsoft's (MSFT) Windows 8 based tablets, coupled with Intel's (INTC) latest chips, should provide a fast, flexible, and secure (remember the McAfee purchase?) environment for business users that want the flexibility of a PC and the form factor of a tablet. I also think that Windows 8 tablets can make a pretty decent splash on the consumer side of things, but it will remain to be seen just how much market share Microsoft/Intel can take.
Apple's iPad will continue to lose market share, and I believe that the iPhone, too, under threat from the likes of Samsung's Galaxy S IV and HTC's apparently smash hit "One" phone will continue to see share erosion. Even Nokia (NOK) and BlackBerry (BBRY) could do some damage here, especially given that Windows Phone is picking up steam and people seem to like the new BlackBerry.
Computers And Cell Phones Just Ain't High Margin Businesses
I remember back in 2007 or so, Mad Money's Jim Cramer did an interview in which he essentially remarked that he believed that the smartphone makers ought to "sit in a room and fix price" because cell phones just weren't exactly the most profitable devices. PCs, too, are mid to low single digit margin devices at best.
So why on Earth would anybody seriously believe that in the long run, Apple will continue to rake in margins well in excess of what others offer? While on the Mac side of things, I understand that the high-ish margins come from the premium product quality (and I think this is under threat as the PC ecosystem reinvigorates itself), but the iPhone isn't even a premium phone. The Galaxy S IV and the HTC One feature faster processors, more RAM, higher resolution screens, more storage, and all at an equal or lower cost than what an iPhone 5 has!
To make things even worse, Apple spends a lot of time and money developing its own custom processors which means that it now has to deal with all of the hassles of trying to secure capacity at one of the three major companies that can build its chips for it. Intel, the most reliable and technologically advanced chip manufacturer would never build an Apple-designed chip unless it were powered by Intel core IP. TSMC (TSM) is a company that is already at full capacity thanks to the fact that it builds chips for everybody who is anybody in the semiconductor world, and since it tries to treat its customers equally, I find it difficult to envision a situation where TSMC builds "special" capacity for Apple. And then of course, there is Samsung , who is Apple's direct competitor in the device space. Talk about a rock and a hard place!
The volume and the growth will come at low end price points...think $100 for a smartphone and $75 - $100 for an entry tablet, and as a result I believe that Apple would have a tough time maintaining current profitability at those price levels. The high end, then, becomes a slug fest for market share shifts, and as we are seeing with the HTC One, it takes only one good design from a previously "left for dead" company to totally change the prospects of said company. Conversely, the iPhone has gotten stale and isn't moving to the larger form factors that many want, so this means that the lavish market share numbers that Apple commands today at these high price points are at very significant risk indeed.
I like that Apple now has a real buyback program in place, and I further like the bumped up dividend, but we all know that these were put in place because a bunch of shareholders were pissed off that the stock didn't go to $1000 (or $1111, as some predicted) and Apple knew it had to do something. The buyback and dividend both serve to put a floor on the stock price, but I don't believe that they are meaningful upward catalysts. That is, while I doubt that anybody buying the stock today will see a 50% drop anytime soon, I don't expect a return to $500+ simply because Apple is buying back shares.
Apple has a moat, but it's not a particularly wide or deep one. Android is getting stronger each and every day, and Microsoft isn't sitting still with its Windows. I think that device makers, including Samsung, will face significant margin and ASP pressure, and I believe that Apple - having very little diversity in its product base - is particularly vulnerable to any such broad, secular mix shift towards cheaper phones that perhaps see a lengthening of their upgrade cycles as "good enough" becomes the mantra.
Apple is a well run business, and I don't really have any problem with Tim Cook, but at the end of the day, the options traders are the ones making the big bucks. Holding the common stock is likely to be an eternal exercise in frustration.