Whenever a company becomes more opaque with its business, investors are worse off. Sure, you can expect analysts to do their own homework in figuring out how many iPhones Apple Inc. (NASDAQ:AAPL) is selling. You can even reason it by believing that Apple’s biggest competitor, Samsung, probably shouldn’t know more than it needs to know … but either way, Apple’s decision to stop sharing iPhone sales numbers will set investors back.
Which is why the punishment in AAPL stock over the past few days has been well-deserved; so much so that its old rival, Microsoft Corporation (NASDAQ:MSFT) may permanently earn the title of largest publicaly traded company very soon.
Apple said on its last quarterly report that it will no longer share iPhone unit sales. The reason is clear: the company wants the world to notice its total revenue figures and not unit sales numbers. Its wildly successful services business brings in healthy profits. And when Apple is raising its ASP (average selling prices) for premium iPhone XR and XS devices, consumers will think twice about upgrading.
Think about which iPhone will give the biggest value to the consumer. The iPhone 7 starts at just $449. By “settling” for a physical home button, a small 4.7-inch screen, and less pretty display, consumers pay less than half the price of an iPhone XS, which starts at $999. An iPhone 8 is marginally better than the 7 and starts at $599 for 64GB of storage. This is more than enough for the average user. With this model, the home button has a haptic touch feel and the device is water-resistant.
Stepping it up on the iPhone X series is not a big enough technological leap to justify the upgrade. The home button is on the screen and the device is unlocked with Face ID. So what? Is a fingerprint scan not good enough? Competitors like Huawei and Samsung both offer Face scanning to unlock the device and their devices don’t cost as much.
Services Revenue at Risk If Unit Sales Fall
In the fourth quarter, Apple reported its best quarter revenue for services at $10 billion. That’s twice BlackBerry’s (NYSE:BB) market capitalization! Services grew 27% after excluding a one-time accounting adjustment of $640 million. But here’s the problem: if the company adds fewer new customers in the future, Apple will rely on the existing user base to grow services revenue.
Will iPhone users likely spend more on Apple Music or raise their storage plan on iCloud? Already, markets are discounting the stock in anticipation of a revenue slowdown in Services. Shares are valued at just below 15 times. The forward P/E, assuming EPS grows by 10% next year, is at a low 12.2 times. Microsoft, by comparison, is valued at double that of Apple’s P/E multiples.
Microsoft’s revenue mix is more diversified. The software giant sells the operating system (Windows), hardware (Surface and Xbox) and cloud services (Office 365).
Analysts are still bullish on Apple stock. 35 analysts offering a recommendation on the stock have an average price target of $233.50, 30.5% above its recent price of around $180. In the last week, several analysts released bullish coverage on AAPL:
Analyst Firm Ranking Position Price Target Date Michael Walkley Canaccord Genuity Buy $225.00 Today Daniel Ives Wedbush Buy $275.00 Yesterday Timothy Arcuri UBS Buy $225.00 2 days ago Amit Daryanani RBC Capital Buy $235.00 2 days ago William Power Robert W. Baird Buy $230.00 2 days ago Wamsi Mohan Merrill Lynch Hold $220.00 2 days ago Ananda Baruah Loop Capital Markets Buy $225.00 3 days ago Jeff Kvaal Nomura Hold $185.00 8 days ago
Being the value investor seeking a bigger discount, I must ask what the downside price on Apple is. Modeling a downside scenario where revenue growth stalls over the next five years, assume the following:
Fiscal Years Ending 17-Sep 18-Sep 19-Sep 20-Sep 21-Sep 22-Sep Revenue 229,234 238,403 250,324 260,336 273,353 287,391 % Growth 6.30% 4.00% 5.00% 4.00% 5.00% 5.10% EBITDA 71,501 73,905 77,600 78,101 90,207 114,956 % of Revenue 31.20% 31.00% 31.00% 30.00% 33.00% 40.00%
Source: finbox.io – click on this link to change these revenue growth assumptions.
In this five-year discounted cash flow (DCF) Revenue Exit model, the implied downside risk is Apple stock falling to around $155 a share.
Bottom Line on AAPL Stock
The chances of Apple underperforming to the $150 level is highly unlikely but not impossible. It will take a sales slump in the iPhone XR and XS this holiday season to send shares lower in 2019. Keep an eye on iPhone sales news in the weeks ahead.
As of this writing, Chris Lau does not own shares in any of the companies mentioned.
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