The good news for Apple Inc.'s (AAPL) stakeholders is that its FY 2013 fiscal period is finished. Apple's business operating performance momentum has slowed down relative to the heady growth rates it achieved from 1997 to 2012. Apple reported FY 2013 revenue of $170.9B and full year profit of $37B, or $39.75 EPS. Although Apple has generated a total return since it bottomed out in April, we believe that it is still a good value for investors. Apple announced that NTT DOCOMO began carrying its new iPhone 5S last month. Although Apple's Q1 2014 guidance calls for stable revenue year-over-year, its gross margin is expected to decline by 6% due to $900M in revenue deferrals from software and the increased proportion of sales from tablet computers and its new MacBook and iMac products, which carry lower gross margins than the iPhone. At least its total return has been within the S&P 500 since April 19th (the Friday before it released its results
Source: Morningstar Direct
The iPhone continues to be Apple's best-selling product. Revenue from the iPhone increased 17% to $19.5B on a year-over-year basis. Units sold increased by 26% to 33.8M, which was strong in light of the challenging macroeconomic environment as well as the success Apple enjoyed with its iPhone 4S product line last year. This certainly outshined the revenues and units sold by Nokia (NOK) and BlackBerry (BBRY), even though we previously wrote about how those companies have lower wholesale and retail costs associated with phones from those two vendors. While Apple's share price has certainly pulled back by 25% since its September 21st peak of $705.07, Apple's iPhone sales volumes are much stronger than what BBRY and Nokia have enjoyed at each firm's respective peak. We expect that the new iPhone 5S will enable Apple to recover consumer goodwill that was lost due to the poor perception of the iPhone 5.
Although share prices for Nokia and BBRY have generated rapid growth since the summer of 2012, Apple's iPhone sales volumes have still increased in the last quarter on a year-over-year basis unlike BBRY and Nokia. This was even though Nokia released two brand new flagship phones in the last 10 months. According to mobile carrier executives, the iPhone has lower churn than other smartphones sold by the carriers. Apple's iPhone sales through the big three U.S. carriers [AT&T (T), Verizon (VZ) and Sprint (S)] in the recent quarter eclipsed the number of BlackBerry smartphones sold worldwide, as well as the number of Nokia smartphone devices sold worldwide. But what Nokia Nation should be embarrassed about is that Apple's iPhone sales at AT&T as well as its iPhones sales at Verizon significantly exceeded Nokia's Lumia sales worldwide.
The iPad saw incremental volume growth however its revenues declined due to demand for the iPad Mini displacing demand for the traditional iPad model. On a year-over-year basis, iPads sold increased by 0.30% and revenues from the iPad decreased by 13%. Although Apple is facing competitive headwinds in the tablet computing space we believe that Apple is not going to squander its presence in the sector like BlackBerry did with the smartphone and Microsoft (MSFT) did with the smartphone operating system. Apple released its newest iPad tablet computing devices on October 22 and we previously discussed how we believe its new products will give Apple investors new hope and renewed growth prospects.
Source: Our previous report on Apple
Performance of the iPod and Mac product lines continues to be downbeat. Unit sales of the Mac Desktops and Portables declined by 7% and product revenue decreased by 15% versus the comparable quarter last year. We were especially disappointed in the Mac product line's performance because it had generated strong performance in FY 2012 versus Dell (DELL) and Hewlett-Packard (HPQ). Apple introduced the first Macintosh desktop computer 29 years ago this day and it refreshed its Mac product line in October 2013. IDC estimates that the global personal computer market contracted by 10% during the September quarter, which resulted in the Mac increasing its market share. AAPL ended the quarter with Mac channel inventory below its four to five-week target range. Highlights from the Mac product line include the following:
- Apple enjoyed strong year-over-year growth in sales of MacBook Air, which Apple updated in June.
- Apple launched its new MacBook Pro on October 22. The new MacBook Pro includes retina display featuring fourth generation Intel core processors, faster graphics, long rate battery life and a more affordable price.
- Apple launched Mavericks on October 22. Mavericks is the 10th major release of OS X with more than 200 new features. Mavericks brings iBooks and Maps to the Mac, includes the new version Safari, enhances multi-display support, introduces Finder Tabs and Tags and delivers core technologies for breakthrough power efficiency and performance and is now free.
- In late September, Apple updated iMac with fourth generation Intel quad-core processors, new graphics, next generation Wi-Fi and faster PCIe flash storage options.
The iPod is also a bit dated when you consider its capabilities versus the iPad and iPhone and it shows as unit sales declined by 35% and product revenues declined by 30% Year-over-Year. So far, the updated iPod products Apple released in October 2012 have not helped this product line get its groove back. We do not see Apple giving up on the iPod considering it has a 70% market share in the U.S. for MP3 players as of March. The iPod continued to be the top selling MP3 player in most countries Apple's management tracks based on the latest data published by GFK. We also believe that it is a great tool to preserve the strong growth rates achieved by the iTunes product. The iTunes and related software and services generated $4.3B in revenue during the quarter, up from $3.5B in the prior year period.
Source: Apple's Most Recent Quarterly Report
On a geographic basis, all the regions saw stable or positive revenue growth except the Asia Pacific region. Apple Europe's revenue only declined by 0.22% year-over-year even though Europe is still ailing from the sovereign debt crisis. Apple broke out its Greater China results from its Asian Pacific region and Greater China (Hong Kong, Taiwan and Communist China) generated 5.64% year-over-year revenue growth in Q4 2013 after generating 67.4% YoY growth in Q1 2013. If only China Mobile (CHL) and Apple can come to a sales agreement like Nokia did, Apple would be unstoppable in China.
Source: Apple's Most Recent Quarterly Report
FY 2013 Cash Flows from Operations were $53.7B and capital investments including acquisitions were $8.2B, resulting in free cash flows of $45.5B for the year. Apple opened eight new stores, remodeled two existing stores and ended the quarter with 416 retail locations. About 39% of its retail store base (162 stores) is outside the U.S. Apple expects to open about 30 new stores in total in fiscal 2014 (two-thirds of which will be outside the U.S.) and to complete at least 20 store remodels. With an average of 411 stores open in the March quarter, average revenue per store was $10.9M, compared to $11.1M in the year ago quarter. Retail segment income was $709M. Apple hosted 99M visitors to its stores during the quarter compared to 94M in the year-ago quarter. Based on Ron Johnson's struggles at J.C. Penney (JCP), we reiterate that he should realize that he never should have left Apple Retail and we think that Ron Johnson should have resigned gracefully from JCP and begged for his old job back running Apple Retail before Apple hired Angela Ahrendts from Burberry (OTCPK:BBRYF) to serve as the new boss of Apple Retail.
Sources: Apple's Most Recent Earnings Call
Apple also has $146.8B in cash and marketable securities ($111.3B attributed to overseas entities) representing 30.5% of Apple's Market cap. Apple initiated a $2.65/share dividend payment in August 2012, which was its first dividend in 17 years and it increased the dividend by 15% to $3.05/share in May. Apple began its $10B share repurchase program in FY 2013, it increased its share repurchase authorization to $60B in April and it repurchased $22.9B worth of its shares. Apple was originally planning to return $45B in cash to shareholders from 2013-2015 and we were mollified that Apple boosted that figure to $100B in order to establish a firmer floor on its share price.
Source: Morningstar Direct
In conclusion, while we are never happy to see companies in our portfolio miss revenue estimates and to give downbeat forecasts, we believe that investors should not count Apple out. Apple's stakeholders are relieved that its nightmare FY 2013 fiscal year is over. We believe that those few investors who have been short Apple and long Nokia or BBRY should wind up that trade because Apple's shares have been through the worst that the market could throw at it. Apple has made a number of recent missteps however; it has taken steps to fix the problems in order to avoid suffering the fate of BlackBerry. Here are the reasons why we believe that this provides investors a solid buying opportunity:
- Apple is trading at a price that is 25% lower than its prior year peak
- We expect Apple to resume its EPS growth in FY 2014 and to grow by 11% from 2014 to 2018.
- Apple's Forward FY 2014 PE of 12.1X represents a PEG of 1.1X based on our projected 11% EPS growth
- Apple's Q4 2013 EPS of $8.26 exceeded the analyst consensus of estimates of $7.89
- Apple's forecasted FY 2014 EPS of $43.85 increased by 1.8% over the last 90 days and its Q1 2014 EPS of $14.08 increased by 2.8% over the last 90 days