Right now, as the world's largest company in terms of market cap ($526 billion), Apple (NASDAQ:AAPL) seems invincible. One table can fit all of Apple's products, but almost every single one of them is a blockbuster -- by any standard. Apple's stock price has been lingering in this range for a while without being able to break a new high, even after its Q2 2012 earnings beat estimates by more than 20%.
By almost any value metric, Apple stock appears cheap. If Apple were a smaller company with the same growth rate, it'd be at $1,000 already. So the question is: Why is the market so cautious on Apple? The simple answer goes back to the root of Apple's strength: It does not have many products, and each product weighs heavily on the company's valuation. With almost three-quarters of its revenue from iPhone and iPad, it is not an exaggeration to claim that Apple is a two-product company. Any failure in these two products, big or small, will leave a huge dent on the company's revenue. To cautious investors with a little bit of risk control in mind, this by itself is a huge, uncontrollable, random risk.
In this sense, one may argue that it doesn't take much to hurt Apple. Here are seven events, all of which could hurt Apple's stock price in a big way:
1. Wireless service providers (WSPs) collectively decrease iPhone subsidy
There is little doubt that iPhone is the most heavily subsidized smartphone in the United States. Based on my calculations, the average iPhone selling price is $647. In the U.S., iPhone 4S is available at AT&T (NYSE:T), Sprint (NYSE:S), and Verizon (NYSE:VZ) for $199 after subsidy. This means the WSPs are subsidizing $448 on each iPhone.
In the meantime, Nokia's (NYSE:NOK) unlocked Lumia 900 sells for $449, and AT&T sells it for $99 with contract, so the subsidy for Lumia 900 is about $350, almost $100 lower than iPhone. It is conceivable that a similar level of $350 subsidy applies to the top-line Android phones.
If the WSPs bring down iPhone subsidies to parity ($350), Apple would instantly lose $2-$3 billion in quarterly earnings if it still sells for $199 in the market. Is that plausible? Yes. Apple had a lot of bargaining power when AT&T was the only iPhone carrier, since iPhone was a major draw of customers for AT&T. It made sense for AT&T to sacrifice on device subsidy to enlarge market share. Right now, with all three major carriers selling iPhones, it has become a zero sum game. It simply does not make a lot of sense to subsidize iPhone more than other phones. If the three can act together, more or less implicitly (like airlines increasing ticket prices), it suddenly becomes a probability that the subsidy on iPhone will go down.
2. Window 8 is a huge success
It wouldn't surprise me if Microsoft's (NASDAQ:MSFT) Windows 8 becomes a major success in the market. All the recent reports and my personal experience with Windows 8 and Windows 7.5 Mango are both very positive. Over the past a couple of years both Apple and Google (NASDAQ:GOOG) have been growing their mobile platforms at the expense of Nokia and Research In Motion (RIMM), and a large share of Apple's growth is not from smartphone virgins but switchers from other smartphone manufacturers. Something similar would likely happen if Windows 8 does well in the market. While iPhone and Android may both grow at a steady pace, both will suffer from users switching to Windows 8 phones later this year.
Moreover, like Android, Windows 8 not only targets smartphones, it is also going to be a major platform for tablet computers. Major PC manufacturers HP (NYSE:HPQ), Dell (NASDAQ:DELL), Lenovo, Acer, and possibly Toshiba will all introduce their version of Windows 8 tablets. All of them will compete with the new iPad, which disappointed some people due to a lack of major updates from iPad 2.
3. No surprise in iPhone 5
Many Apple fans thought my wishlist for iPhone 5 is too lacking in creativity. But they failed to name a few appealing changes that can be considered even remotely revolutionary for consumers. If iPhone 5 does not bring enough amazing surprises, it will disappoint given the already elevated expectations.
4. Departure of major executives
With its stellar stock performance, Apple pays its top executives handsomely. However, high-ranked executives, engineers, and designs bar the top a few may still get lured away by other companies. Recently, J.C. Penny (NYSE:JCP) hired Apple's retail chief Ron Johnson. According to The New York Times, even Facebook (NASDAQ:FB) is interviewing Apple engineers.
The problem is less of Apple losing key people -- one might argue that Apple has enough of them. The more serious problem is with each hire competitors make from Apple, they know Apple better and their products are already at the same level as Apple products, with or without considering the so-called "ecosystem."
5. Lukewarm replacement sales
We have seen this happening to PCs, but I'm going to argue that the same thing will happen (and perhaps is already happening) to smartphones. As the product matures, the software and hardware see very few tangible improvements from the consumers' perspective. This makes it unnecessary to upgrade the products very often. It used to be the case that if you didn't upgrade your PC every five years, you'd have a problem running the new OS and applications. That's not the case any longer. The same applies to smartphones.
When iPhone users slow down in replacing their old devices, it will show on Apple's sales records. The only thing that prevents this from happening quickly on a large scale is that devices in the U.S. are heavily subsidized. They appear cheap enough and people upgrade the devices much more often than they would otherwise.
6. Global smartphone growth slows down
We are already witnessing this. It is not obvious because in many cases, we have seen people replacing BlackBerry and Symbian with iPhone or Android. In other words, the whole market is not growing very quickly, but Apple and Google have been eating RIM and Nokia's lunch.
Since both RIM and Symbian are at a pending death stage, their combined market share of slightly over 10% will be pretty much all taken over by the big three: Apple, Google, and Microsoft. By then, the low-hanging fruit in market share grabbing will be done. All three major platforms will experience more fierce fights. It will, slowly but surely, hurt Apple's pricing power in the market.
If Apple's recent quarterly earnings provide any good diagnostic information, we have indeed already seen a fair-sized slowdown of smartphone sales in the United States.
7. Chinese demand of iPhone unsustainable during the last quarter
The brightest spot in Apple's recent quarterly earnings report was iPhone sales in China during the quarter that included the Chinese New Year. That brings enough concerns for two reasons. First, it may not last long enough, since the Chinese New Year is like Christmas in the West, when gift sales go through the roof. It's going to be pretty difficult to replicate that level of success in the next quarter. Second, iPhone 5 is on the way. I find it very odd some Apple fans believe the expectation of iPhone 5's arrival will not dampen iPhone 4S sales in China. Are Chinese consumers more myopic and less forward looking? I hardly think so. The same type of expectation may cool down the Chinese market as much as they do in the United States.
If any of the above seven events happens over the next year, Apple's stock will take a fair-sized hit. Over the long run, the biggest threat for Apple is that smartphones have become a mature product and they are getting more and more commoditized every day. That kind of product life cycle shift is irreversible. Even the almighty genius Steve Jobs might not have been able to do much about it. The only way out is to find new product categories nobody else has imagined exist. iPad was a great example. Can Tim Cook make that happen soon? We shall see.