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Bill Maurer
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I am a market enthusiast and part-time trader. I started writing for Seeking Alpha in 2011, and it has been a tremendous opportunity and learning experience. I have been interested in the markets since elementary school, and hope to pursue a career in the investment management industry. I have... More
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  • Apple: Previewing Fiscal 2016

    We have entered the month of September, meaning Apple's (NASDAQ:AAPL) fiscal year is nearly complete. The technology giant had an excellent 2015 period thanks to the tremendous success of the larger screen iPhone 6. With revenues and earnings soaring to new highs, shares of the company did as well. Now, it is time to look at the company's fiscal 2016 period, which I will preview today.

    New products/services key to revenue growth:

    Apple is expected to see 27.5% revenue growth in fiscal 2015 and 41.4% EPS growth, primarily due to the iPhone. The larger screen smartphone was a hit with consumers, which makes fiscal 2016 comparisons a bit harder to deal with. This year, the company must make massive hardware upgrades to the phone to drive sales, as the phone continues to represent a large portion of revenues. Concerns over China, Apple's fastest growing market, have taken down Apple shares, and expectations for iPhone growth aren't that impressive, as seen in the fiscal year chart below.

    *Current estimates.

    (Sources: Apple 10-K page and iPhone article)

    It will be interesting to see how Apple tackles emerging markets in fiscal 2016. India is the one country I'm most focused on, as iPhone growth there has leaped above that of Greater China. We've heard for a few years about the company introducing a less expensive smartphone for emerging markets, and we'll see if one comes early in calendar 2016. With analysts only expecting a 2% increase in iPhone shipments for fiscal 2016, there is room to the upside if markets like India show tremendous growth.

    In terms of other products/services, there will be a lot of eyes on the Apple Watch. The first two quarters of fiscal 2016 will have no year ago comparisons for the Watch, and that includes the ever important holiday period. While all eyes will be on the iPhone and the Watch, my interest in fiscal 2016 lies with the following three items:

    • Mac sales.
    • Current iPad lineup.
    • Apple Music.

    Through the first nine months of fiscal 2015, Apple reported an 11% rise in Mac shipments, despite a weak PC market. The line's true strength will be tested in the coming quarters as Windows 10 products come to market. The Mac line could actually be the second highest revenue product line for Apple in fiscal 2016, and it may show the highest shipment growth of the three major product lines.

    Everyone expects Apple to launch a larger screen iPad at some point, but until then, the iPad Air and iPad mini are the only tablets available. Shipments in fiscal 2015 will likely be down around 20%, partially thanks to a poor refresh last fall. A larger screen tablet could help average selling prices of the iPad line overall, but a few million units of this iPad Pro might not be enough to overcome another 20% drop from the current lineup (when you are selling ~55 million units in fiscal 2015). Apple needs a major upgrade to the current iPad lineup this fall, not only to attract new tablet customers but to encourage early iPad holders to upgrade. I'd also like to see the price of the Mini reduced a little, in an effort to push users to the more expensive and higher margin models.

    When it comes to overall revenue growth, I think Apple Music may be the key for fiscal 2016. Starting at roughly $10 a month for a subscription (and $15 for a family), every million users would represent at least $120 million in annual revenues. If Apple can get at least 8 million paying subscribers, you're probably looking at more than a billion dollars in annual revenue growth when you include family plans. With current estimates (linked above) calling for $11 billion in total revenue growth for fiscal 2016, a billion or two in revenues from Apple Music could be the difference between Apple meeting or missing analyst estimates.

    A positive margin cycle?

    In my opinion, the single most interesting financial item for Apple in fiscal 2016 is gross margins. Normally, the company sees a margin boost from the "S" line of the iPhone, but significant upgrades like the processor, camera, and Force Touch may limit those gains. A cheaper iPhone targeting emerging markets could also be a lower margin product. Also, while a larger screen iPad may have higher margins than cheaper models eventually, Apple usually sees newer products have lower initial margins until supply constraints are worked out. Finally, we've learned that streaming services (video, music, etc.) can be low margin, so Apple Music could negatively impact things. The chart below shows gross margins from Apple's last six fiscal years, and the company may need to top 40% in 2016 to produce gains over the prior year period.

    *Based on first nine months of fiscal 2015 and midpoint of Apple's guidance for fiscal Q4.

    (Source: This chart and operating expense % one below taken from Apple 10-K page linked above).

    I do think Apple can be okay if it can't produce any gains in gross margins. This is because I think there is some room for improvement in the company's operating expenses. As seen in the chart below, Apple's R&D plus SG&A expenses are likely to total around 9.6% of revenues in fiscal 2015, slightly higher than the average of the past few years. Getting this percentage down to say 9.00%, which I don't think is too crazy to project, would allow the company to overcome roughly 60 basis points of gross margin declines.

    *Based on first nine months of fiscal 2015 and midpoint of Apple's guidance for fiscal Q4.

    Analysts currently expect EPS in fiscal 2016 to be $9.78 after the current estimate of $9.12 for fiscal 2015. If I use that 60 basis points of operating expense improvement detailed above, holding all else equal, you're looking at about a 20 cent boost to EPS. If Apple can just hold gross margins at 40% and get that 60 bps boost, the current analyst revenue figure would get the company to about $10.10 in EPS on a 5.6 billion diluted share count. I don't think it is crazy to expect more than $10 at this point, especially if the company really steps up the buyback with shares well off their yearly high.

    Final thoughts:

    We're just a few weeks away from Apple's fiscal 2016 period starting, and I think the company is set up for another decent year. While percentage growth numbers for many categories probably won't be repeated after a tremendous fiscal 2015, I think there is still decent potential for the iPhone and Mac lines to show more growth. Apple will also have new contributions from the Apple Watch (in 1/2 of the fiscal year) and Apple Music (full year). With a ton of new products and services likely throughout the period, I believe gross margins are the most interesting number to watch. If Apple can hold this number fairly steady, operating expense improvement could be the key to EPS upside. Apple shares currently trade for just 11.3 times expected fiscal 2016 earnings, and almost $40 less than the median price target on the street. If the company can deliver another solid year, I think that gap will be narrowed substantially.

    Tags: AAPL, long-ideas
    Sep 01 11:51 AM | Link | Comment!
  • Apple: Avoid The High Expectations Game

    With September being the month usually reserved for the launch of Apple's (NASDAQ:AAPL) newest iPhone, we recently received news of an event on September 9th for Apple. The location was a larger venue than in the past, which has fueled speculation for all sorts of new product announcements. However, I must remind investors that pumping up the hype for this event only increases the chance for disappointment. Today, I'll discuss how we should all look at this current situation.

    I think everyone is in agreement that the September 9th event will be heavily focused on the iPhone, with the biggest unknown perhaps being the smartphone's name. Will Apple go with the 6S and 6S Plus, or perhaps change its naming completely? MacRumors has a complete list of the rumored features, which include Force Touch, 2GB of RAM, a 12 megapixel camera, etc. While last year was about increasing the screen size of the phone, this year is about upgrading the hardware. If Apple wants sales of its to-be-launched phones to be strong, the specs need a substantial upgrade. Otherwise, a number of consumers may decide the to-be-discounted 6 and 6 Plus are more than sufficient for their daily needs.

    There is also heavy speculation that Apple will launch an updated version of the Apple TV on September 9th. As MacRumors points out, the new slimmer design is expected to feature Siri integration, an A8 processor, and more storage. This is really part one of two, because Apple is also looking to launch a web-based streaming television service. However, recent reports talk about delays in the company's ability to ink deals with content providers, so many now expect this service to be launched sometime in 2016.

    After these two expected announcements, the rumor mills are churning at full blast. The most popular item we've heard about is the larger screen iPad Pro. While I do expect Apple to unveil its large screen tablet this year, I don't think management will combine it with an iPhone unveiling. It is more likely that the iPad will have its own (or be part of another) event in October. Additionally, we've heard a lot about an electric car from Apple. The company has been rumored to be working on a vehicle, but it is likely years away from being released, if Apple ever does enter the space. Fellow SA contributor Mark Hibben also thinks Apple is planning on showing off something big at this event, perhaps in the field of virtual/augmented reality. This could perhaps be along the lines of Google (NASDAQ:GOOG) (NASDAQ:GOOGL) Glass, and Apple is always looking for products it can integrate with the iPhone (like the Watch).

    This is where the problem comes in. By the time Apple's event actually occurs, I'm sure there will be dozens of potential products that people think Apple will unveil. Most likely, none of those will come to the stage, and thus we'll hear plenty of disappointment afterwards. Don't forget what happened last year, where Apple's rally fizzled after its major product launch. In fact, the next couple of weeks saw a number of negative notes. All dates are from 2014.

    • Sept. 10 - Pac Crest downgrades shares saying the new products lack profit drivers.
    • Sept. 12 - Nomura analyst was not impressed with Apple Pay, and also detailed how leaps forward were becoming difficult.
    • Sept. 17 - Bernstein believes that opening weekend sales of the iPhone 6 and 6 Plus will disappoint due to supply constraints.
    • Oct. 2 - Deutsche Bank downgrades Apple to Hold, citing high iPhone expectations and no near term catalysts.

    Apple proved the naysayers wrong, as fiscal 2015 revenue estimates have soared by $36 billion since the iPhone 6 launch and EPS estimates are up by more than $2.00. Even after the $20 pullback from their 52-week high, Apple shares are up about 17.6% (dividend adjusted) from the close the day the iPhone 6 was announced last year. In comparison, the S&P 500 is up less than 2%.

    In conclusion, investors need to avoid raising the Apple bar to an unrealistic level. The September 9th event should feature the newest iPhone and Apple TV. Perhaps we'll see something else, but we're not going to see the company announce dozens of new products. If there is a silver lining, it's that shares closed Friday at $113, so investor expectations won't be as high as they would be if shares were over $130. I still believe in Apple over the long term, and the recent pullback looks to have been a dramatic overreaction. The best way to avoid disappointment on September 9th is to not expect the moon from Apple. The more product rumors we get before then, the higher the number of product non-announcements will be.

    Tags: AAPL, long-ideas
    Aug 28 7:41 PM | Link | Comment!
  • Apple: 3 Important Items To Consider

    It's been a tough couple of weeks in the market, as fears over slowing growth in China have taken their toll. Technology giant Apple (NASDAQ:AAPL) has lost 20% of its value since reporting earnings last month, as China is the company's fastest growing market. While there's a lot of panic right now, there are some positive signs regarding Apple that investors should consider.

    Short interest did not soar after earnings:

    Apple shares fell after its Q3 earnings report as guidance was a little lighter than most had hoped. Shares continued to slide in early August, down into the $115 area. However, we didn't see a tremendous move in short interest. Between the middle of July and middle of August updates, the rise in short interest was just 2.87 million shares. That's basically a rounding error for a stock with around 5.7 billion shares outstanding.

    As seen below, short interest continues to remain near its lowest split-adjusted point in the last 3+ years. This leads me to believe that the fall in the stock was more due to profit taking. If investors were so concerned about the company's future, we would have seen a massive rise in short interest. Even with the stock falling further recently, I don't see a ton of investors shorting a stock below $104 at Tuesday's close when last month we were over $130.

    (Source: NASDAQ Apple short interest page)

    The dollar has recently weakened:

    One thing that has hurt Apple's results in recent periods, like many other multinationals, is the stronger dollar. Apple reportedly raised prices in certain markets earlier this year to combat this issue. The one item many have missed in this market craziness is the weakening dollar, seen below. Since Apple's earnings report, the dollar currency index has weakened by about 3.5%. This will actually help the company's reported revenues for its fiscal Q4 period, since guidance was based on a stronger dollar. Apple could see a $1 billion to $2 billion positive impact from currencies, which could offset some potential China weakness.


    Analysts are positive and so is Tim Cook:

    On Monday, we received news of an e-mail from Apple CEO Tim Cook to Jim Cramer that was quite reassuring. Cook stated that Apple has experienced strong growth in China during July and August, and that iPhone activations have actually accelerated in recent weeks. Cook continues to believe that China represents a tremendous opportunity for Apple over the long term.

    If things were so bad, you would expect analysts to be issuing negative notes and cutting estimates. The average revenue and EPS estimates have not changed in a number of weeks. In fact, a number of analysts have been quite positive on the stock recently and reiterated Cook's comments:

    • Cantor Fitzgerald - Reiterates Buy rating, states that recent panic has created an "irrational valuation". Even if calendar 2016 EPS came in at 50% of current projection, stock would still be trading in-line with S&P 500 valuation at current levels.
    • FBR Capital - Reiterates Outperform, cites catalysts such as iPhone 6S upgrade cycle and new products/services contributing to fiscal 2015/2016 results.
    • Stifel - Details export data showing huge production increases where a majority of Apple phones are produced. Buy rating.

    Those are just three analyst notes released this week, and you can see a number of other positive ones here. Most of the analysts suggest that Apple stock is at a very reasonable valuation currently, even if some China weakness occurs. Most data points still show Apple doing very well in the country, and Tim Cook's note was reassuring. The median price target on Apple currently is $150, but investors don't need shares to get there to do well. Even if the stock only gets back to its pre-Q3 earnings report level (~$130) in the next year or two, you're still talking about 25% upside from Tuesday's close.

    Final thoughts:

    Apple shares have been a big loser thanks to markets worrying about China, but I don't see a lot of major warning signs. Short interest barely moved after earnings, suggesting investors were not that worried about the future. With the dollar weakening in recent weeks, Apple's results get a much needed tailwind. Tim Cook says that things are still looking good in China, and analysts have been quite positive recently. While I wouldn't be surprised if shares drop below $100 again on any short-term market weakness, I think those looking at the long-term picture should use this opportunity to their advantage.

    Tags: AAPL, long-ideas
    Aug 25 11:38 PM | Link | Comment!
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