Since Apple (NASDAQ:AAPL) is the largest company by market capitalization and garners a tremendous amount of publicity, which is overall great free advertising for the company, the recent decline in its stock from $702 on September 19 to $610 last Friday (about a 13% decline) has ratcheted up the nervousness on the shares (it is up about $20 on Monday).
Buy the rumor, sell the news, and some funds have been bleeding the stock into the market
The decline in the shares has happened for multiple reasons. These include:
- The strong run from $570 in late July to $702 in mid-September, up 23%
- The shares are also up over 50% this year
- Initial iPhone sales of 5 million vs. the Street projecting at least 6 million and up to 10 million
- Continued supply constraints, which have incrementally lowered expectations for the December quarter
- Technical or stock chart traders seeing a "Heads and Shoulder" pattern and the price breaking below the 50 day moving average.
- Over the past three weeks, it appears that some large holders have been using any stock strength to incrementally sell shares.
Keep in mind that if the stock had been split 10 for 1 that the price move from $70 to $61 would not appear as dramatic, but would be exactly the same change in value.
Apple iPhone demand very strong, continues to take market share
While estimating any company's quarterly results is tricky given all the potential variables, Apple's September quarter is even more difficult due to the launch of the iPhone 5 late in the quarter and its supply constraints.
comScore tracks U.S. smartphone market shares on a three month rolling average. Over the past eleven months, Apple has increased its share from 28.1% to 34.3% for a total market share gain of 6.3%. As you can see, Samsung has also increased its share with its total gain of 6.2% to 52.6%. The biggest loser is RIMM, down 8.9% in market share. Microsoft has fallen below 4%. Nokia doesn't even warrant its own line item, but keep in mind that Nokia is stronger internationally than in the U.S.
Note that Apple's share continued to increase in the July and August timeframes, even with the publicity of the upcoming iPhone announcement. comScore should announce its September numbers in early November, which I believe will show continued market share gains for Apple due to the iPhone 5.
While one usually likes the company one invests in to be the market share leader, I don't expect that Apple will ever be it. The company's business model is to create high-end products that sell at premium prices. While multiple analysts will say that Apple has to come down in pricing (which it has done with the iPhone 4 selling for $0 and the 4S for $99, although they still require a substantial subsidy from the carriers), I don't expect them to. Overall I don't think Apple needs to be everything to all people, and I don't think they will change these stripes even with Steve Jobs not being there.
Lead times remain elongated
It appears that the combination of very strong demand along with production ramping and manufacturing challenges have led to continued long lead times.
One thought to keep in mind is how manufacturing companies ramp production. Their goal, if at all possible, is to get to a steady number of units being built (impossible to achieve but it is the goal). They start off with a few units, then hundreds, then thousands, then tens of thousands, then hundreds of thousands in the case of the iPhone. They of course do this to work out the kinks in the manufacturing lines and move down the learning curve to decrease their costs.
Getting to the five million that were sold in the first weekend, I suspect, was a tremendous effort and was the accumulation of weeks of building up inventory. Once that inventory was exhausted, Apple's suppliers probably continued to ramp production and from all accounts the iPhone 5 is a very difficult product to assemble. Combine this with tremendous worldwide demand, and lead times remain long.
I have been tracking iPhone 5 lead times for all the countries that Apple has retail stores in along with the three major U.S. carriers (Verizon, AT&T and Sprint) since the launch.
- The lead times for all of Apple's stores worldwide (except Hong Kong and Japan which are reservation only) have been 3 to 4 weeks since the launch a month ago
- The 16GB iPhone has had a range of 3 to 4 weeks since the launch
- The 32GB and 64GB iPhones lead times
- Had been at 2.5 to 4 weeks until mid-October
- Decreased to 1 week last Friday, October 19
- But has since increased to almost 4 weeks as of Sunday, October 21
- All versions of the iPhone have been at 14-21 days since the launch
- The 16GB iPhone has been at "Up to 3 weeks" since the launch
- The 32GB and 64GB versions decreased from "Up to 3 weeks" to "Up to 1 week" on October 7.
Verizon sold 3.1 million iPhones in the September quarter
Verizon announced last week that it had sold 3.1 million iPhones with 650,000 of them being iPhone 5's. They also talked about the supply constraint of the 5 limiting their sales of the new phone. In a very small sample survey of one Verizon store they had not received any iPhone 5's after the initial day until October.
While it would be great if Verizon had sold more 5s, the 3.1 million was still a 15% sequential increase from their June quarter's 2.7 million iPhones sold. If that ratio were to hold for Apple in total it would project that Apple sold 30 million iPhones in the September quarter.
The Street and I are only expecting 27 million iPhones to be sold in the September quarter
As I stated at the beginning given the launch of the iPhone 5 late in the quarter this is a particularly tough quarter to estimate iPhone sales. For my financial projections I am using 27 million which is only a 4% increase from the 26 million sold in the June quarter. This could be low if other carriers in the U.S. and worldwide were able to sell iPhone 4's and 4Ss similar to Verizon's experience.
Note that for every one million additional iPhones sold that it translates to about $0.20 to $0.25 in EPS. Therefore if Apple sold 30 million iPhones my EPS estimate would increase from $9.50 to $10.10 to $10.25 (compared to guidance of $7.65 and the Street at $8.85).
Gross margins swing by how many iPhones are sold
Apple's gross margins are heavily influenced by iPhones sales. I am estimating gross margins of 41.3% (iPhone 44% of revenue) vs. last quarter's 42.8% (iPhone 46% of revenue) and last year's 40.3% (iPhone 39% of revenue) and guidance of 38.5%.
Note that while last quarter Apple only beat its gross margin guidance by 1.3%, over the previous two years, it had beaten its guidance from 1.9% to 5.4%. I believe that when the company gave guidance, it was not planning on the iPhone to be launched in September since it would want to be extra cautious, since it could have easily slipped to October.
Also, Apple has been supplying its own stores with the 5, which should incrementally help margins but they are probably air shipping them so that hurts margins.
Assuming it is announced on Tuesday and is available within a few weeks, the key questions are what will the price points be and how much will it cannibalize regular iPad sales. I would lean to higher price points and that the tradeoff would be 3 to 4 million minis will take away 1 million regular iPads. There has to be some tradeoff but that overall it is better for them to have an offering with a smaller screen size.
I don't believe any of the analysts have been including the mini in their forecasts, so it should incrementally increase December quarter revenue and EPS projections.
September quarter projections
I am projecting revenue of $37.4 billion (up 32% year over year but off an easy comparison), which compares to the Street at $36.2 billion and guidance of $34 billion. This is developed from 27 million iPhones, 19 million iPads, 4.85 million Macs and 5.7 million iPods.
My EPS projection is $9.50 compared to the Street at $8.85 and guidance of $7.65. I believe my estimates have more upside vs. downside potential since my iPhone, iPad and Mac projections are more likely to be exceeded than come up short. The key will be how supply constrained these products have been.
December quarter expectations and guidance
As always, Apple's guidance will be a key factor on how the stock performs. The first item to keep in mind is that last year, the December quarter had 14 weeks vs. the typical 13 weeks.
I believe the company's guidance could be significantly below the Street's and mine projections. It could give revenue guidance of $45 billion which would be a 20% increase from my September quarter projection but be $10 billion less than what the Street and I are expecting. Management would say that while it is lower than a year ago, the 14 week quarter needs to be adjusted for and supply issues are constraining sales.
EPS guidance could also be as low as $10 to $11 which would also be significantly under the $15 plus that the Street and I are estimating.
If guidance is that low, the shares could remain under pressure until the iPhone 5 lead times start to decrease and analysts start to get a read on holiday sales.
Calendar 2013 estimates, $835 target price and Valuation
I estimate that Apple can generate $214 billion in calendar 2013 revenue with the iPhone being about half of it and the iPad about a quarter. My calendar 2013 EPS estimate is $60 per share and the company should have almost $200 in cash per share at that time.
If you don't take the cash into account and apply a 14x P/E multiple, the stock would be $840.
If you use a P/E multiple of 13x and only about $50 billion of the almost $200 billion in cash and investments you get an $830 stock price. Take the average of the two and you get $835.
Keep in mind that the calendar 2013 EPS of $60 compares to $35 in 2011 and an estimated $45 in 2012. Yes growth rates have to decrease but the run in the stock is fully supported by the results. And the shares are trading at a very reasonable (just over 10x my calendar 2013 projection) if not downright cheap valuation levels given the growth rates. Even if earnings come in at $55, the shares are still at a low level.
One (of many) risks is who will be the incremental buyers of the shares
Apple makes up almost 5% of the S&P 500 and 20% of the technology index. There are many funds that either can't or don't want to have one company's stock be over 5% of their portfolio. This could cause a problem, especially if the stock continues to rise significantly faster than the market as these portfolio managers will be kept from buying additional shares.
And the "law of large numbers" or its pure size will eventually catch up with them and cause a tremendous deceleration in growth rates. I don't think this will happen until the iPhone 5 has been fully available throughout the world, but growth rates will continue to decrease.
Disclosure: I am long AAPL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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