Apple: Weaker Dollar Will Benefit Revenue Growth and Margins

Apple Inc. (nasd:AAPL) Rising gross margins stemming from increased recognition of deferred iPhone revenue has been a key factor in propelling Apple’s share price and EPS. I believe the next major tailwind will be increased revenue growth and higher margins arising from the falling U.S. Dollar.

In 2009, 46% of Apple’s total revenue came from overseas, up from 43% in FY08 and 41% in FY07. Including European Apple retail stores, revenue generated in Europe was roughly 30% of total revenue in FY09. International markets are a key source of Apple’s revenue and growth, and a declining dollar is beneficial for the firm. Apple’s performance for the past several quarters was challenged by headwinds from the strengthening USD. Going forward, Apple should benefit from the dollar’s decline. This will lift international revenue growth and boost margins. Alternatively, Apple could choose to lower prices abroad to stimulate product demand to drive volume. I believe many investors overlook the fact that Apple derives nearly half its revenue outside the U.S., thus don’t consider the considerable impact coming from a weaker USD.

The USD had been on a long-term weakening trend up until late 2008 when a string of financial institutions collapsed and panic ensued. This led to a massive influx into U.S. Treasuries, hence the USD. This caused a temporary rise in the USD as investors all over the world sought refuge in securities perceived to be the safest.

Around April/May 2009, money began shifting out of USD leading to the currency weakening. In effect, USD depreciation is a resumption of its previous long-term trend. However, this recent fall in the dollar comes with several new factors that support a long-term dollar decline.

1) Massive stimulus and bailouts

2) Budget deficits

3) Diversification away from USD

4) Weak dollar policy to boost exports and domestic manufacturing

I expect the dollar to continue its weakening trend and a return to levels pre-Fall 2008. From October to about May, the USD rose considerably, before starting its slide mid-year. Apple generally hedges against currency fluctuations usually 3 to 6 months out, therefore the rise in the USD late-2008 likely didn’t have much of an immediate impact. Eventually, the effect of the stronger dollar is felt as new hedges are set at less favorable exchange rates. Apple had warned on its earnings calls that a stronger USD would negatively impact gross margins, thus stated it a as factor for guiding GM lower.

However, cheaper components, higher iPhone revenue recognition, increased supply chain efficiencies, and foreign currency hedging more than offset the temporary rise in the USD. Apple mentioned in its 2009 10-K filing that the stronger USD did have a negative impact on revenue growth abroad for the full year. When hedges expire, Apple can either raise prices to offset the stronger USD or elect to accept lower ASPs in USD terms. Even though the USD began to fall back in April/May, it’s likely Apple has yet to feel the full benefit of the dollar’s decline due to currency hedges still in effect.

The tables below compare product pricing from Apple’s online store for France, U.K., Canada, Australia, and Japan at most recent exchange rates versus rates in early 2009 when the USD was at its highs. Some of the pricing includes VAT, so the price differential between U.S. product prices and Euro zone is overstated, but the focus here is the difference between most recent prices (weak dollar) versus prices when the dollar was stronger during late 2008 - early 2009. In Europe, where Apple receives nearly 30% of its total revenues, prices have risen more than 20% in USD terms. In general, that would equate to a 6% increase in overall ASPs.

A weaker dollar does imply higher product costs since Apple sources components and manufacturing outside the U.S., namely Asia. However, the negative impact of a weaker dollar in terms of product costs is much less than the benefit of higher ASPs in USD terms. This is because: 1) costs are a smaller percentage of overall selling price 2) Apple enters into long-term supply agreements and also has significant leverage over suppliers 3) China’s currency is fixed to the USD as it prefers a weak currency to support exports.

In summary, Apple faced currency headwinds for much of FY09 which I expect will turn into tailwinds for FY10. This factor hasn’t been mentioned much in the investment community. A weak dollar will boost ASPs (in USD terms), hence international revenue growth as well as lift gross margins. Apple could also choose to take advantage of the weakening dollar by cutting prices where it sees elastic demand. Therefore, I expect GM will continue to show strength aiding in the growth of Apple’s bottom line.

Disclosure: Long AAPL

Comments

[Julian Ivan...:]

Turley Muller .. as usuall leading the way most analysts fear to tread: towards insightful, well-informed, big-picture lateral-thinking analysis.

Is it any wonder Wall Street always gets Apple wrong and the independents get it right?

Nice piece Turley.

Nov 03 12:57 PM

[Shaftsinker:]

In the event of a continuing decline of the US dollar, the edge provided to other computer manufacturers and Microsoft will significantly outperform Apple.

The increased strength of the Euro and Yen relative to the US dollar will pale in comparison to the strength of the currencies of emerging economies, where Apple's presence is negligible and PCs dominate.

My point is a declining dollar will merely help Apple's competitors bridge the gap. While Apple may still lead the pack for other reasons, it will lag its competitors in the edge provided by a sinking USD.

Nov 03 02:31 PM

[thotdoc:]

I believe that Apple does not really compete with other PC makers; Apple provides a certain feel good to owners of its products. Everyone else sell machines that do things.

If that is correct, and I think it is, comparing Apple to other machinery makers is not really a comparison that will lead you to a good decision.


On Nov 03 02:31 PM Shaftsinker wrote:

> In the event of a continuing decline of the US dollar, the edge provided
> to other computer manufacturers and Microsoft will significantly
> outperform Apple.
>
> The increased strength of the Euro and Yen relative to the US dollar
> will pale in comparison to the strength of the currencies of emerging
> economies, where Apple's presence is negligible and PCs dominate.
>
>
> My point is a declining dollar will merely help Apple's competitors
> bridge the gap. While Apple may still lead the pack for other reasons,
> it will lag its competitors in the edge provided by a sinking USD.

Nov 03 02:41 PM

[Dr. Acula:]

"I believe the next major tailwind will be increased revenue growth and higher margins arising from the falling U.S. Dollar." - So Apple is going to get more dollars, but each dollar it gets will be worth less?

Nov 03 04:39 PM

[waf76:]

the falling dollar obviously helps all multinational companies which in turn should help the SP 500. ASP for Apple products overseas are much higher than they are here in the US. Also, Apple products tend to be higher priced than those PC lines....90% of computers that cost more than a thousand dollars are sold by Apple...so its not really a question of more sales, its more a question of higher ASP

Nov 03 04:43 PM

[dingding:]

The falling USD could be a two edged sword.
Since most of the components Apple uses in its products, and the products themselves are manufactured overseas, there will be cost pressures due to the falling dollar. Selling costs also increase in dollar terms. Raw material costs will probably rise in dollar terms as well, as dollar commodity prices rise. As the rest of the world economy improves relative to the US, there will be more competition for manufacturing resources and materials leading to upward cost pressure.
Of course, as already pointed out, the dollar earnings will be worth less when translated to other currencies.

Nov 03 06:31 PM

[StockMaster...:]

Just a thought on apple: look at what China is doing to ATVI and trying to kick their games out of the country. Who is to say China doesn't take offense to Apple being in what they consider their space in technology and let everyone either manufacture copies or kick them out altogether. Maybe that sounds crazy, but it is crazy what they are doing at the moment to ATVI. Just don't count on the revenue from China to go on forever for a product like this.

Nov 03 08:31 PM

[Turley Muller:]

Hello!
That's not the point! the point is that ASPs and GM will rise due to currency translation. Not competition. As other astute readers have opined, Apple doesn't compete with other PC firms on price because it offers a differentiated offering.


On Nov 03 02:31 PM Shaftsinker wrote:

> In the event of a continuing decline of the US dollar, the edge provided
> to other computer manufacturers and Microsoft will significantly
> outperform Apple.
>
> The increased strength of the Euro and Yen relative to the US dollar
> will pale in comparison to the strength of the currencies of emerging
> economies, where Apple's presence is negligible and PCs dominate.
>
>
> My point is a declining dollar will merely help Apple's competitors
> bridge the gap. While Apple may still lead the pack for other reasons,
> it will lag its competitors in the edge provided by a sinking USD.

Nov 04 01:21 AM

[Turley Muller:]

Exactly... You totally get it.... Apple doesn't compete on price, It's highly differentiated. It's the fact that currency translation will lead to earnings surprises, or if Apple cuts prices it will stimulate an replacement cycle among current users as well as enticing those pondering jumping the fence.


On Nov 03 02:41 PM thotdoc wrote:

> I believe that Apple does not really compete with other PC makers;
> Apple provides a certain feel good to owners of its products. Everyone
> else sell machines that do things.
>
> If that is correct, and I think it is, comparing Apple to other machinery
> makers is not really a comparison that will lead you to a good decision.
>

Nov 04 02:34 AM

[Turley Muller:]

How many Windows Mobile phones are being sold these days???


On Nov 03 02:31 PM Shaftsinker wrote:

> In the event of a continuing decline of the US dollar, the edge provided
> to other computer manufacturers and Microsoft will significantly
> outperform Apple.
>
> The increased strength of the Euro and Yen relative to the US dollar
> will pale in comparison to the strength of the currencies of emerging
> economies, where Apple's presence is negligible and PCs dominate.
>
>
> My point is a declining dollar will merely help Apple's competitors
> bridge the gap. While Apple may still lead the pack for other reasons,
> it will lag its competitors in the edge provided by a sinking USD.

Nov 04 02:36 AM

[Turley Muller:]

Thank you Sir, much appreciated


On Nov 03 12:57 PM Julian Ivan-Alexander wrote:

> Turley Muller .. as usuall leading the way most analysts fear to
> tread: towards insightful, well-informed, big-picture lateral-thinking
> analysis.
>
> Is it any wonder Wall Street always gets Apple wrong and the independents
> get it right?
>
> Nice piece Turley.

Nov 04 02:36 AM