The iPhone 6: No Need To Reinvent The Wheel

Jul.31.14 | About: Apple Inc. (AAPL)

Summary

The iPhone has emerged as the primary gateway into the Apple ecosystem.

Apple brand power alone may carry iPhone 6 sales.

Apple can leverage its cash haul and capital return program to automatically generate EPS growth -- without a revolutionary iPhone 6 launch.

Like clockwork, the technology commentariat has mobilized to draft mockups of the Apple (NASDAQ: AAPL) iPhone 6. Apple watchers mostly agree that the iPhone 6 launch will reflect the consumption shift towards larger phones. Bulls, of course, may take solace in the idea that revolutionary product out of Apple is not necessary to appease Wall Street. Apple shareholders will realize alpha returns above the broader market, if the iPhone 6 launch proves to be anything but a total disaster. Apple's staggering cash haul manifests as a built-in put, or price floor, in shares.

Apple iPhone Locus of Control

2009

2010

2011

2012

2013

Apple Revenue

$42.9B

$65.2B

$108.2B

$156.5B

$170.9B

iPhone Revenue

$13.0B

$25.2B

$46.0B

$78.7B

$91.3B

iPhone Unit Sales

20.7M

40.0M

72.3M

125.0M

150.3M

iPhone Revenue Per Unit Sold

$628.00

$630.00

$636.24

$629.60

$607.45

iPhone Percentage of Apple Revenue

30.3%

38.7%

42.5%

50.3%

53.4%

Click to enlarge

Apple closed out its latest 2013 fiscal year having sold 150.3 million iPhone units for $91.3 billion in revenue. In all, the $91.3 billion in iPhone revenue generated 53.4% of Apple's $170.9 billion in total net sales last fiscal year. Apple has historically expanded markets, while also cannibalizing its own product. For 2013, the iPod accounted for $4.4 billion in revenue, or 2.6% of total net sales. In 2009, the iPod generated $8.1 billion in revenue, or 22.1% of total net sales at Apple. Be advised that Apple iTunes, software, and services sales have remained at roughly 10% of sales for several years. Apple loyalists, or fanboys, have refused to exit this vertically integrated product line.

The iPhone has emerged as the ultimate locus of control for Apple's revolutionary computing, telecommunications, and computing ecosystem. For 2013, consumers spent $607.45 on the iPhone, on a per unit basis. This statistic did decline somewhat through Q3 2014, when the iPhone segment posted $561.06 in per unit sales. As such, the average smartphone buyer was in the market for a 16GB iPhone 5S handset, which retails for $649.00. Going forward, Apple may sell 175 million iPhone units, at an average price of $650.00, for $113.5 billion in 2014 revenue. The uptick in sales will arrive largely due to heightened demand for the iPhone 6 immediately prior to the Holiday Season.

Apple watchers have speculated that the iPhone 6 launch will branch off into two separate 4.7-inch and 5.5-inch handsets. Online magazines Pocket Lint and Tech Radar have both identified the 5.7-inch screen Samsung Galaxy Note 3 as the best phablet now on the market. The term phablet takes its name from the combination of traditional smartphone and tablet functionality within one machine. For the sake of comparison, the Apple iPad Mini features a 7.9-inch screen. The iPhone 6, as powered by the A8 chip, will set up another wave of excitement at Apple, and more than make up for any marginal declines in iPad sales. BGR has already made the claim that the A8 system-on-chip will reach 2GHz clock frequency, as the fastest processor out of Apple, yet.

The Mobile Market

On July 2, 2014, research firm comScore published its May 2014 U.S. Smartphone Subscriber Market Share report. Be advised that the title of the report was somewhat misleading, as the information actually presented averages of data collected between the March and May 2014 quarter. Like many things tech, the mobile market may be defined by its "winner-take-all" structure. Taken together, the Google (NASDAQ: GOOG) (NASDAQ:GOOGL) Android (52.1% share) - Apple iOS (41.9% share) operating system duopoly combined to dominate 94% of the U.S. smartphone subscriber market through this latest quarter. On the handset side of the ledger, Apple was also identified as the leading original equipment manufacturer, with its 41.9% share of the market.

Successive reports out of International Data Corporation (IDC) have also presented a similar "winner-take-all" dynamic within the tablet market. IDC listed Apple as the top tablet vendor, in terms of units sold, through calendar Q1 2014. That quarter, Apple sold 16.4 million iPad units, which also calculated out to a 32.5% share of the tablet market. Again, the reports out of both comScore and IDC may confirm the idea that Apple has built out the premier mobile ecosystem. Mobile, of course, has emerged as a gateway for digital content sales. As a standalone entity, National Retail Federation, ranked Apple Stores / iTunes as the 15th largest retailer in America, with $26.6 billion in 2013 U.S. retail sales.

Heading into 2014, Forbes ranked Apple as the world's most powerful brand, at $104.3 billion in value. For the sake of comparison, Forbes estimated the second-place Microsoft (NASDAQ: MSFT) brand to be valued at a mere $56.7 billion. Wall Street analysts would include Apple brand equity as a part of intangible assets and goodwill, while billionaire investor Warren Buffett may opine that Apple operates from behind the presence of a formidable moat. In effect, the iPhone has expanded upon the Nike (NYSE: NKE) Air Jordan playbook page. Consumers will clamor for each edition of the iPhone, simply to remain part of the in crowd.

The Bottom Line

As of June 28, 2014, Apple listed out $164.5 billion in cash and securities above a mere $101.6 billion in total liabilities on the balance sheet. Apple liabilities did include $11.5 billion in deferred revenue, which will ultimately fall off the balance sheet and transition over to the income statement. In theory, Apple may then be left with $60 billion in cash and securities, after paying off financial liabilities and taxes due upon the repatriation of earnings.

On a per share basis, Apple liquidity would break down further to $10. Apple stock did close out the July 18, 2014 trading session at $98.38. The Apple business model would therefore be trading for a mere 12.5 times current earnings, after backing out the liquidity position, and assuming that the company is en route to compiling $7 in 2014 earnings per share.

Last year, billionaire investor Carl Icahn reasoned that an aggressive buyback program out of Cupertino would automatically translate into strong earnings per share growth. Apple did expand its share repurchase authorization from $60 billion to $90 billion, after public pressure from Carl Icahn and a host of other institutional investors. Apple would retire 900 million shares, after spending $90 billion to buy back stock at an average price of $100. The buyback plan would then lower the outstanding share count from 6 million to 5.1 million shares outstanding.

The capital return program would immediately take EPS from $5.72 to $7.26, for an automatic 21.2% increase in earnings, without any real improvement in business performance. As such, it is far from necessary for engineers to reinvent the wheel - with the iPhone 6. Apple shares deserve a buy rating.

Disclosure: The author is long AAPL, NKE. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.