It has been nearly one month now that Apple's (AAPL) been in "correction" territory. Market permabears are heralding themselves as having predicted the downturn, though it's not hard to eventually be right if you keep saying the same thing over and over. Apple closed Friday at $566.71, near where it was prior to its earnings release. There are theories of why Apple is currently underperforming, but I'm not here to speculate on the present, but to help analyze the future. Apple has taken tremendous strides to creating long-term value for itself in attempts to secure its position as the most valuable company in the world.
As my followers know, I carry an objective view of Apple as a company. I don't just blindly support Apple solely because it's "Apple". In fact, back when Apple hit $644, I was one of the few to point to Apple's price vulnerability and possibility of it entering bubble territory and even warned against a possible steep drop in share price. Now, I'm writing this article in support of Apple, especially at its current valuation.
In the past month we've seen Apple's stock swinging from one extreme to another, and along with it, the psychosis of investors and analysts. I want to point out how terribly annoying it is how "analysts'" portrayal of a company's future directly correlates with a stock's corresponding market performance. For example, as Apple's stock was performing well, nearly every released article supported the stock's future valuation; however, as the company's stock tumbled, "analysts" began writing about the forthcoming doom of the very same company they were just praising. I'm not like these "analysts" and have created an analysis of what Apple's current market situation, in respect to what it's doing to grow earnings, but also what pressures pose a risk to the company.
Apple's Plans to Grow Profits
Apple has a very strategic business strategy to drive profits through its pipeline of products and services. Here's an outline of why Apple's stock price will still appreciate in the long term, despite recent downward pressures:
Many Apple bears attack Apple's weakness as solely being a hardware company; claiming that the next fad will wipe out Apple in a heartbeat. This would have been an enormous risk for Apple, had it not created its strong Apple ecosystem. With the introduction of the Apple "fad", we've seen Blackberry (RIMM) get wiped out of the marketplace, as it was quickly replaced by the much superior iPhone. Many critics are pointing to this vulnerability, which ultimately has nearly killed Blackberry, to Apple itself. It's true the Apple is primarily a hardware company, but it has created a very tightly knit ecosystem which drives customer loyalty; having only grown over the past years, despite large competitors like Google (GOOG), Microsoft (MSFT), and Samsung entering the market. Blackberry had no hedges in place against a competitors killing its business, but Apple's extremely strong customer loyalty, driven by its tightly knit ecosystem, will help Apple keep its current position as the most valuable company for the time being.
Carriers Continue To Want The iPhone
Perhaps most well known, T-Mobile (DT) has been praised by some as being one of the few phone carriers not carrying the iPhone; thus, not needing to absorb its high subsidy costs. Many analysts have pointed to this and began prophesying of other, larger, carriers like Verizon (VZ) and AT&T (T) cutting future subsidies to the iPhone. I wrote in two separate articles about why the iPhone is paramount to Verizon and AT&T, and also how the iPhone will revive Sprint (S). Earlier this year, not to my surprise, T-Mobile released its 4th quarter financial release, reporting a loss of 802,000 contracted subscribers during the holiday quarter; blaming much of the performance to the absence of the iPhone from its store shelves. T-Mobile executives have repeatedly stated publicly the negative impacts of not carrying the iPhone has done to their network. The first line of their 4th quarter report stated:
"Strong adjusted OIBDA and prepaid performance; contract business negatively impacted in the fourth quarter of 2011 by iPhone 4S launches by three nationwide competitors"
Consequently, they've made moves in releasing LTE technology, likely to accommodate the iPhone 5 being released this year.
Apple has taken strides in insourcing the services available on its product lines. Earlier this year, Google was caught for spying on Apple users through Safari, which utilizes the Google search engine. This type of behavioral data that Google has been collecting is priceless and could be devastating to Apple. Google immediately deleted the underlying code responsible for the data mining, but Apple realizes the risk of outsourcing services to its direct competitor Google, which is why I believe Apple will very quickly insource its own search engine to shield its users data from competitors. Apple also realizes the value in data-mining its consumers and clustering them into groups based on behavioral portfolios. Just last Friday, Apple began advertising that it's hiring a Data Mining Engineer. I do believe that data mining is an acceptable practice, as long as it's done responsibly, and definitely not in the shadows of how Google has done it.
We've also seen Apple buying out mapping companies like Poly9, Placebase, and, most recently, C3 in attempts to insource more of its services; especially away from Google. Apple definitely has the infrastructure, capital, and resources to support insourcing something as complex as mapping, and also many other services (possibly even providing data plans).
Apple TV Release
The Apple rumor mill has really gone crazy on the Apple TV. I touted the possibility of a future Apple TV in my previous articles, especially since it falls so perfectly in line with the Apple ecosystem. Just last week, Terry Gou, the chief of Foxconn, confirmed the future release of an Apple TV; however, they have not yet begun development, so its release may be towards the end of this year, or during 2013. The Apple TV will likely work on Apple's cloud technology, synchronizing directly to your iTunes. What makes the Apple TV a true threat to content distributors like Hulu and Netflix (NFLX), and also to TV manufacturers, like Samsung, is the process used in channel subscription. As I, and other analysts believe, the traditional subscription service of paying a large fee for 100's of channels will be eliminated. Instead, you can pay for only the channels that you want, allowing you to tailor your subscriptions directly to your preferences. Not only is this an innovative approach, but it's something that should have been done a long time ago,
iPhone Product Line Refresh
The iPhone is by far Apple's biggest profit driver. Whereas competitors may only skim a few percent from each phone sale, Apple margins about 75% profit per iPhone sale. The iPhone 4s has done tremendously well globally and has helped push Apple to becoming the world's most valuable company. The iPhone 5's release is coming this year and, in my analysis, by October 17th. I suspect that it will have a much more advanced form of Siri along with a revolutionized phone. It needs to be a truly stellar iPhone, especially with the intense competition from competitors like Microsoft and Google desperately trying to gain market share.
We will experience a slowdown in iPhone 4s sales as consumers wait for the iPhone 5 release before upgrading; I know that I, and my entire family, will be waiting for the new release before upgrading our phones. Though we will see a relatively slower growth in iPhone 4s sales until the product line refresh, the iPad's intense global demand will help drive profits until then.
I'm very excited to view the financial results for Apple's 2012 4th quarter because I anticipate mind-boggling sales figures, driven up by strategic global distribution channels and rapidly growing global demand.
iPad 2: The Kindle Killer
Prior to Apple decreasing the iPad 2's price point, I argued that Apple had to compete against cheaper tablets like the Kindle. Though Apple did not release an iPad mini, they did drop the iPad 2's price to reclaim lost market share against the cheaper Android and Kindle tablets. The results of doing so have been absolutely devastating to Amazon's Kindle.
During the holiday season, Amazon shipped 4.8 million Kindles, which sent analysts into a frenzy for Amazon (AMZN), and against Apple. Apple quickly realized this threat and, with its very strategic play, quickly reclaimed control. Market research firm IDC says that Amazon's Kindle shipments dropped to merely 750,000 last quarter; a significant drop from 4.8 million units in the previous quarter. Most of the decline in shipments resulted from an already oversaturated distribution pipeline of the Kindle, which has rolled over into the following quarter. During the 4th quarter of 2011, Apple had a 57% market share and now is back up to an impressive 68%.
The iPad 2's new price point has tapped into new markets previously untouched. Schools, businesses, and more price sensitive consumers are able to afford the $399 for an iPad 2, whereas they previously couldn't at the $499 price point.
Tremendous Global Demand
Prior to Apple's Q2 earnings release, I calculated Apple's earnings, within 98% accuracy. I was optimistic then about Apple's global growth, but was still blown away from what I saw in their financial release:
- Sales in Europe increased 46.13% Q/Q (keep in mind Europe is still in deep economic turmoil)
- Sales in Japan increased 91.13% Q/Q (even after recovering from the disastrous tsunami in 2011)
- Sales in Asia-Pacific increased 114% Q/Q (amid a quickly deteriorating real estate market in China)
- Sales in retail stores increased 37.9% Q/Q
Apple has increased its global distribution channels and has rapidly expanded its exposure in the global economy. Although Apple is a relatively new market entrant in Asia, it has quickly grown its market presence at an astonishing rate. Although I foresee a continued global economic slowdown, I see Apple as crushing its competitors and continuing on route to hitting a $1 trillion market cap.
Apple is, by all means, an outstanding company from any perspective. Its fundamentals are extremely strong, earnings growth should continue in the double-digits for years to come, and market demand consistently outpaces demand. It's a company that, in my opinion, is currently undervalued and has much growth potential; however, I do foresee risks which can create stock price volatility in the short term.
iPad Trademark Dispute
There has been an ongoing dispute between Apple and Proview regarding the "iPad" trademark. Proview claims that Apple is infringing on its trademarked name, while Apple counters that it has already bought the rights to the name. Essentially, what happened is this: Apple did buy the trademarked titled, but through a British shell company for about ~$55000. Now Proview alleges that Apple purchased the trademark through fraud and has pushed to block iPad shipments into, out of, China.
Apple tried settling for $16 million, to which Proview declined and countered with $400 million. I don't see Proview being able to win the $400 million claim and believe that it will settle for significantly less. In an interesting twist of events, Proview's creditor, Fubon Insurance, pushed for the liquidation of Proview. I believe this serious external pressure will force Proview for settle for much less, if anything at all. In another positive event, Proview's case against Apple in America was thrown out in a Californian court last week.
iPod Antitrust Case
This case has been ongoing since 2005, but has gained steam just recently. It's an antitrust case against Apple, brought on by Harmony, in response to alleged anti-competitive behavior on Apple's part. Harmony claims that Apple purposely updated its iTunes to end users' ability to drag and drop music downloaded from Harmony to iTunes. Monetary claims haven't been discussed yet and the outcome of this case is still unclear.
Securing Content For The Apple TV
With all the Success Apple had in winning over the music industry, we expected it to have the same unwavering support from television content providers; however, it has been a tough road so far for Apple. With extreme competition from content distributors, like Hulu and Netflix, the balance of power has shifted from content distributors to content owners. Consequently, this shift in leverage has made it very difficult for Apple to penetrate this market and, when it does, it may come at a steep price.
The iPhone is, by far, the most subsidized phone in the market, and rightfully so. Mobile carriers are trying to increase their profitability by advertising other phones which don't require such heavy subsidies, like the Windows and Android phones. Analysts have been touting the possibility of subsidy cuts to the iPhone, but I countered through a sequential game-theory approach of why carriers cannot cut their subsidies of the iPhone. Essentially, none of the major carriers will be willing to face the massive subscription losses to their competitors by unsubsidizing the iPhone.
In what has become the most royal pissing of all time, Apple and Samsung's litigation have spanned beyond 30 cases across 10 countries now. One of the most recent cases, filed in South Korea, allege that Apple is infringing on three utility patents belonging to Samsung. Most recently, though, in another case, Apple claims that Samsung has actively engaged in destroying "vast quantities of relevant evidence" which could prove that Samsung purposely infringed on Apple's iPhone patents. Overall, it's unclear whose going to win what, especially with the ongoing patent infringement cases piling up. In the end, Apple and Samsung will probably have to each other royalties for certain patent usages.
Apple has remained an innovative company which creates products that people want. Their designs are intuitive, innovative, and, most importantly, highly demanded. Apple is currently a golden company which has extremely strong fundamentals with very strong growth for the next few years; however, with all angels, there's the possibility of falling. Apple has very real threats which are facing it right now; ranging from competition, to litigation to maintaining consumer demand. I believe that Apple has done a remarkable job in mitigating some of its serious risks and will, at least for the next few years, sustain rapid market growth, retain market share, and expand its product lines.