Apple's selloff this week has many investors questioning whether the growth in Apple (AAPL) is over. Revenue last quarter was only up 23%, compared to growth in fiscal Q1 and Q2 of 73% and 59% respectively. Sales of iPhones disappointed at 26mm, but that still represented 28% growth year over year, not a bad result really. Given economic deterioration in Europe coupled with sidelined buyers waiting for the iPhone 5, I would characterize this growth as solid on an absolute basis.
The problem obviously is the law of large numbers. Growth has to slow, it is finally showing up in the numbers and it will continue to. However, I will argue here why growth still appears solid for Apple even looking out to 2014, based solely on continued Smartphone penetration worldwide alone.
The chart below aptly illustrates Smartphone sales over the past 4 years, and forecasted growth from IDC through 2015. I interpolated 2013 and 2014, but shouldn't really make a difference. These are worldwide figures. (data in millions of smartphones).
Apple's market share worldwide has continued to increase, capturing RIMM and Nokia share.
Let's breakdown the first chart and look at percentage growth of Smartphone units per year:
The slowing of the Smartphone industry is apparent here and will bring Apple's growth rates back to reality. But still, 39% and 18% growth in 2012 and 2013 are still quite impressive. And who wouldn't be happy with 12% growth in 2015?
Taking 20% market share for Apple, and assuming it remains steady through 2015, let's calculate what Apple's revenue and earnings look like over the next 2-3 years.
iPhone unit sales at Apple should look something like this:
To be fair, Apple sold 72mm iPhones in 2011 compared to 76 on the chart above. While the numbers are off somewhat, all we really want to capture is the incremental unit sales numbers going forward, which this exercise does nicely.
Using an average selling price of $625/phone implies revenue and EPS of the following:
For 2012, I get $44.37 in EPS for the calendar year compared to the Street at $49.00. Given that trailing twelve month (TTM) EPS is $42.54, these numbers obviously are conservative.
For 2013, growth in Smartphones alone should drive EPS to at least $48 per share. If we throw in additional growth from the iPad, a new iPad mini, and an Apple TV perhaps, it seems quite doable that the company can generate EPS near the mid 50's, or at least in that ballpark. Don't forget too that as the installed user base grows, app purchases and music sales also grow.
Also, it's possible and seemingly highly likely that market share will continue to grow. China Mobile is the big wildcard here. Every report I have read suggests that the next gen iPhone will function on China Mobile's TD-SCDMA 3G network. With over 650mm subscribers, simply capturing 10% of those users adds an astonishing 65mm in unit sales to the total. iOS6 supposedly speaks and understands Mandarin and Cantonese, a huge plus.
Assuming it takes 3 years to ramp up to that level, that is over 20mm phones per year, or $3-4 in additional EPS.
From what we know, Smartphone growth alone for Apple will still imply pretty solid EPS growth figures for 2012 and 2013. Growth will obviously continue to slow, but with the stock trading at 10x my conservative 2012 CY estimates, the market seems to be suggesting that growth will not only slow down, but stop entirely! The S&P currently trades at 13x 2012 CY estimates, 30% higher than Apple. But S&P EPS growth is forecasted at around 4-6%, compared to 27% for Apple this year.
Note that in calculating these figures, I factored in the cash per share on the balance sheet, subtracting it from the current stock price. I cannot fathom why any investor, anywhere, would EVER ignore net cash balances on a company's books. If you had $100BB in your bank account, would you ignore it when calculating your own net worth?
Below are some conservative assumptions about Apple's valuation, based on 2013 CY EPS figures. I used a range of earnings from $48.30 to $52.50 per share. Note that the Street is at $55 for CY 2013 approximately, so my high end case is lower than Wall Street estimates.
My downside case is my conservative $48.30 EPS figure and equates to a negative 12% return on the stock over the next 12 to 18 months. I think something really has to go wrong here to see a 7x P/E multiple.
The upside is quite attractive. A target of $720 to $855 seems reasonable as long as Apple maintains its iPhone market share, gets a little growth from other new products, and trades to at a slightly better multiple. However, none of these multiples is as high as that of the S&P today. The upside cases yield returns on the stock from 25% to 49%. I still like the risk reward.
As a side note, I left out the cash per share generated from the last 6 months of 2012 in this table. You could assume that it relates to either repatriation taxes, conservatism, acquisitions, whatever. Including that would add roughly $20 more in per share at least. A 35% repatriation tax rate on $87BB in international cash would mean $30 less per share in cash net to a US stockholder, so we are within $10 give or take.
I wrote one prior article about Apple here, after a similar EPS "miss" back in the Fall of 2011. The selloff then was 6%, and provided a good entry point on the stock in the high $300s.
Disclosure: I am long AAPL.