While reading through Apple's (AAPL) 10-K I was confronted with a rather lengthy risk section. I was tempted to skim over it, but I realized that much conviction around Apple comes from the unknown future of this once beaten down company. I decided to delve into the risk section, find bits and pieces of information that interested me and analyze them. Anything italicized in this article is from the risk section in the 2011 Apple 10-K (pdf).
Global economic conditions could materially adversely affect the Company.
While this risk is true for many companies, Apple is reaping large benefits from international sales and trends. In the last 4th quarter Japan, China and the Asia Pacific were responsible for many of the new iPhone sales (China selling a 5x increase from last year). Apple has 112 international stores compared to 245 in the US. Should international sales fail to offset a weak quarter at home, the stock may suffer. If Apple takes advantage of the growing oversees market and has favorable conditions it will continue to be a major source of revenue.
Global markets for the Company's products and services are highly competitive and subject to rapid technological change.
For years the fear of Steve Jobs' death frightened countless investors away from Apple. Without the vision, creativity, and brilliance of one of the greatest CEOs of all time the company could have lost its competitive edge. Technology companies are dependent on their ability to innovate consistently and often. Since his passing, we have not seen any major new products from Apple. Working in web-design, many of my colleagues were disappointed with the latest iPad showing. It did not have the innovation and significance of previous releases, and it wasn't the same without Steve. While the company may be doing well in the immediate aftermath of his death, it is yet to seen if this maturing company can maintain its creative edge. The 10-K says it best: "If the Company is unable to continue to develop and sell innovative new products with attractive margins or if other companies infringe on the Company's intellectual property, the Company's ability to maintain a competitive advantage could be negatively affected and its financial condition and operating results could be materially adversely affected."
Future operating results depend upon the Company's ability to obtain components in sufficient quantities.
While reading this section a sentence caught my eye: "The Company expects to experience decreases in its gross margin percentage in future periods, as compared to levels achieved during 2011, largely due to a higher mix of new and innovative products with flat or reduced pricing that have higher cost structures and deliver greater value to customers, and potential future component cost and other cost increases." This is inevitable in a maturing company, as margins tend to plateau around hopefully high levels. Analysts are stabilizing their margin predictions going out to the end of the decade as well. I do not see this necessarily as bad, only another sign that Apple is maturing (not to be confused with matured).
The Company's future performance depends in part on support from third-party software developers.
Apple's Mac products do not play as large a role in Apple's current growth compared to its other devices. Mac currently has a little over 10% of the market share. Something in the 10-K helped me look at the competition between the PC and the Mac in another way: "If the Company's minority share of the global personal computer market causes developers to question the Company's prospects, developers could be less inclined to develop or upgrade software for the Company's products and more inclined to devote their resources to developing and upgrading software for the larger Windows market."
My life began with a Tandy 2000 when I was 3 years old and I have been on computers ever since. A few years ago, when PCs were running Vista and problems were abound I might be caught saying that Macs were the way to go. Now, with Windows 7 and PCs selling at very low prices, the benefits of a Mac is considerably less. My workplace demands Mac use, but it is more of an overpriced luxury item than a necessity. While I always feel Apple will be able to keep top quality software engineers on their team, I am not so confident in Macs themselves. They have a strong niche role, but it may take more time for them to catch on in the main stream.
10-Ks are written to consider a doomsday scenario and must be understood in context. I try to look for little things that may help me better analyze a part of the company with the hope of making a smarter investment decision.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
