In an earlier article, Apple vs a Portfolio of Solid Brand Names, I addressed the issue of Apple (AAPL) as an overweight position in the portfolio of a retiree like myself. I concluded that the risk of such an overweight position was outweighed by the return as compare to a basket of major consumer stocks, from Procter and Gamble (PG), Coca Cola (KO), McDonalds (MCD), Nike (NKE) and Starbucks (SBUX).
In this article and the next, I want to consider the prospects for AAPL by itself, using recent performance to estimate the near-term (1-5yr) future stock price in a future that is very conservative, given Apple's current performance.
I had initially intended this to be a single article presenting only the quantitative estimates of future stock price. Those results, however, turned out to be so startling that I felt it necessary to present a serious review of Apple's current business just to demonstrate how conservative my projections of future performance are.
So here I will look at each element of Apple's current business, a technology-based consumer business whose simplicity makes it particularly attractive for analysis. A look into the future, and especially at a prediction of Apple's stock price, will be presented in Part 2.
iPhone: Currently the largest portion of Apple's business, 43% of its $108B revenues in 2011, iPhone unit sales grew 87% year-over-year, 2010-2011. The smart phone market itself is about one third of the total phone handset unit market and grew at about 75 % from 2010 to 2011. In that year Apple increased its share of that market from 16% to 19%. Samsung, the de facto standard bearer for the Android system of Google (GOOG) and with about the same market share as Apple, also gained market share while Research in Motion (RIMM) and Nokia NOK) lost substantial share.
Mac Computers: While iPads are in hot pursuit, Mac computers still accounted for Apple's second largest revenue share in 2011, at 20%. This represents year over year revenue growth of 24% in a personal computer market that saw very little (0.5%) unit growth in 2011. Apple's worldwide market share was only 5% of unit sales in 2011, so there is plenty of room for growth.
iPad: Not yet on the market 2 years, iPad accounted for 19% of Apple's revenues in 2011 with unit sales of 32 million. Apple owns an overwhelming market share in this exploding new category, which seems to be having a negative effect on overall PC sales, but if anything a growth effect ("halo effect") on Macs. The question today is whether Apple can retain anything like the 70% market share in the tablet category that it has held in MP3 players for a decade.
iPod: After a decade in the market, iPod penetration is past saturation in the US market, but still accounts for 7% of Apple revenues. The 42 million unit sales in 2011 were down from the high of 55 million in 2008, but the mix of higher-value iPod Touch partly offset the continuing revenue decline.
iTunes: Apple's digital music store is the largest retailer of music in the world and its sales accounted for 6% of Apple revenues in 2011. Apple owns a 66% market share of the digital download market, and digital downloads accounted for about 50% of the music market in 2011.
Except for Software and Peripherals (5% of 2011 revenues), the above list includes Apple's entire product lineup and, with the exception of the mature iPod line, each can be expected to contribute to growing revenues and earnings in 2012 and beyond.
Other Growth Drivers
In addition to the product lines themselves, there are other important but less direct contributors to Apple's performance, and these are described below.
Apple Retail Stores: The retail stores, a huge engine for sales of Apple products, are the highest grossing retail space in America on a square foot basis. Apple stores average $5,647 in sales per square foot, nearly twice the second place retailer, Tiffany's ($3,085/sq ft), and far ahead of the third place Coach stores ($1,824). As important as the sales are, Apple's Retail stores provide numerous other benefits, including:
- a showcase that introduces Macs to the public looking for iPads and iPhones
- the reassurance of free product technical support in the Genius Bar
- a "coolness" and "innovation" image building vehicle.
- High profile intro to Apple for consumers in new international markets
The Apple Ecosystem: Apple has assembled the most inter-operative set of products and functions in the convergence of computing, communications, and entertainment. Millions who started with iPod and iTunes have continued on to similar user experiences-style, functionality, support, etc.-- in iPhone and iPad and many of these have taken the further step out of PCs and into Macs.
Advantage of Scale: With Apple's recent growth, the company has displaced Hewlett Packard (HP) as the largest single buyer of electronic components in the world. With the slowdown in PC sales, Apple's leverage with component suppliers has increased steadily and has translated into net margins that have risen steadily to 27% in the trailing 12 months (TTM) ending Q1/2012. This component cost advantage has also enabled the company to enter the iPad space with not only the pioneering product, but also with aggressive pricing that has so far prevented inroads by virtually all competitors except, perhaps, for Amazon (AMZN).
Vast Emerging Markets: These include, of course, the Far East and Latin America; but also, within the US, the iPhone and Macs are making headway in the corporate and government markets, and Mac market share is growing with consumers as well.
Moore's Law: The functionality of electronic products improves at a monstrous pace, based on the phenomenal silicon performance curve known as Moore's law: namely, that every 18 months computing speed doubles and memory costs fall to one half. This means that in five years, for the same cost, you buy ten times the processing speed and ten times the memory -- and much greater functionality, as both product upgrades and innovative software make new functions possible. Apple has masterfully used Moore's law to drive the growth of iPhone and iPad revenues with regular product refresh cycles to take advantage of increased functionality. Moore's law also explains why the Macintosh computer, first introduced about 30 years ago, posted sales growth of 24% in the past 4 quarters.
Returning to the original intent of this review, I want to conclude with the obvious: Not only has Apple enjoyed spectacular growth in the past, but every element -- from its product lineup, to its retail presence, to its supplier leverage, to Moore's law -- suggests a continuation of very substantial revenue and earnings growth in the future.
Part 2 of this article will focus on how one such future would impact Apple's stock price.