Thousands of people took to Twitter this week questioning and looking for answers of the current state of valuation in public equity markets. How is it possible that a stock price of a company such as Apple, with staggering profits and massive sales, trade lower when so obviously successful? I viewed tweet after tweet of confused individuals pointing out the nonsensical low price earnings ratio (P/E ratio) and the massive cash balance of $137 billion leading many to conclude the market is irrational or better still, and my personal favorite, the market just doesn’t know how to value Apple!
My question is, “Is the market irrational or is our current knowledge of finance incomplete?” In my opinion, the current field of finance is so inadequate that it fails to explain anything to anyone. Using simplistic ratios that current finance and analysts promote like price to sales, price earnings ratios and other remedial relationships do a poor job of explaining valuation to anybody. Isn’t it time for something new in the field of finance to aid market participants in the understanding of valuation?
On the other hand technical analysts are cheering that their side won – versus the people who use fundamentals. They saw and predicted Apple’s price decline because of various chart formations. By analyzing market price data alone without the apparent unhelpfulness of fundamental financial data is the only logical way to invest in the stock market they will gleefully say, using Apple as Exhibit 1. Can this be true? Maybe these chart formations are picking up something that technical analysts cannot explain but seem to work from time to time. Maybe market prices and the use of technical analysis are highlighting something that is currently hidden from the technical analyst community in general?
Model Price Theory and Analysis to the Rescue
Using Model Price Theory can easily explain the valuation of Apple. The market decided, with millions of buyers and sellers coming together, that Apple no longer should trade in a certain zone. This zone was from EBV+5 to EBV+6. This zone contained Apple’s valuation since 2004, as I pointed out in this blog. So what happened this week? Apple changed valuation zones: to EBV+4 to EBV+5. Apple could stay in this new zone for a period of days, years or decades. As the balance sheet grows so does the zone in question. Simple.
Apple is still Apple! The company will still grow. But the market is communicating a judgment for those listening and observing that at this time Apple belongs in a new lower zone. As of the close on Friday, January 25, 2012 this zone, includes a price range of $506.02 for EBV+5 and $366.51 for EBV+4.
Apple Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)
For those interested, a daily updated chart of AAPL subsequent to this post will be maintained on Facebook, here.
So Apple can trade within this price zone and still have the same valuation. Plus these dollar amounts of our EBV zones can change everyday. Why? Simply put because the balance sheet is changing everyday. So every night, after the market close, we calculate new daily EBV levels for every stock in our database.
How do we do this? We take future earnings estimates, add these earnings to the equity of the company and deduct dividends, if the company pays any. Every quarterly release of financials is updated in our database and the daily calculation from this updated balance sheet is started anew.
Just for fun we have the EBV numbers for Apple one year out. So EBV+5, one year out is $631.10 and EBV+4 is $457.11. So you can see the zone growth with the projected balance sheet of Apple. Valuation is the zone the company trades in, not the price of the stock relative to some measure (i.e. price earnings)
So thinking about this for a minute, using model price theory, an investor has two independent variables interacting with each other. The first is the market price of the company listed on the stock exchange. Again, millions of people are coming together and transacting on price. The second is the balance sheet of the company itself. This is an independent variable that has undergone much scrutiny and as everybody knows the balance sheet has to balance. (Assets = Liabilities + Shareholders Equity)
Thinking of the current state of finance neither fundamental analysis nor technical analysis can boast two independent variables. Each camp, fundamentalists and technical, have only one independent variable between them trying to extrapolate price movements by building extraneous irrelevant and sometimes simplistic mathematical relationships to explain stock price valuation. On top of this fundamental investors dismiss model price charts thinking they are a form of technical analysis. The technical analysis people look at the weekly price bars and simplistic parallel lines on our model price charts with ridicule.
Yes, our EBV parallel lines look simplistic. If you the reader spend time and effort understanding these EBV lines would they have a material impact on your investment results? Absolutely!
Economic Book Value (EBV) lines are one of the keys to understanding valuation. See every stock trades somewhere within our EBV lines. How does the market determine what zone a specific equity should trade? Cause and effect! The effect is the zone in which the stock will trade which we disclose on our model price charts. The cause is based on the dynamic of our solvency ratio, theoretical earnings and convexity (see Key Concepts). Yes, I know you have never heard of these concepts and cannot read about these concepts in any textbook. That is the point of is this blog. When and if management changes, in a material way, any one of these variables in these highlighted concepts, can and will change the EBV zone the company will trade. Or when a stock transits an EBV line, either positive or negatively, something is going on with one or more of our Key Concepts.
So you’re skeptical? I get it! I was once too.
Let’s look at both Apple and Netflix, and see how model price charts prognosticated the price moves we have seen this week.
Here is the model price chart of Apple Inc. on the close of January 15, 2013. As I indicated on the chart Apple had a negative transit of EBV+5. This occurred a week before Apple’s earnings release date scheduled for January 23, 2013. This negative transit is an equivalent to a “tell” of a poker player. I warned readers of this negative transit and its implications here and here.
Apple Inc. with weekly price bars, EBV Lines (colored lines) and model price (dashed line)
This negative transit was telling investors the market will treat, for valuation purposes, EBV+4 and EBV+5 as its new zone. EBV+5 will be the top of the zone or future resistance and EBV+4 will be the bottom of the zone or future support. As the balance sheet of Apple grows, which it will at a rapid rate, so does the EBV lines containing this zone. This is the valuation question solved. It’s not about price earnings ratios or cash on the balance sheet. Technical Analysts’ caught the breakdown in price but this particular breakdown was more meaningful then I think they realize as I blogged about here.
If management wants to lift the valuation in Apple in the future they need to change the variables of our solvency ratio, theoretical earnings and convexity. See my blogs on Apple one year ago – “Four Actions Management Can Do to Double Their Stock Price (Without Breaking a Sweat)!” and “Apple Computer – A Special Dividend of $75 Billion would Reward Shareholders, Management and the Economy.”
As a trader or investor where would you like to purchase a specific equity? Would you rather purchase at the top of the EBV zone or the bottom of the zone. Simple, the bottom of the zone! In the case of Apple, the stock could trade to $366.51 and still be in the same zone. Also $366.51 will give the stock meaningful support that I’m sure many investors are looking for in this current situation.
January 24, 2013
You may remember McKayla Maroney’s reaction to winning the silver medal (losing gold?) in the vault during the 2012 Summer Olympics. It became such an online sensation that the president struck the pose with her when she visited him in the oval office after the games. After Apple’s earnings report yesterday, Mr. Market made the same “unimpressed” face and sent the shares down 12% in today’s trading session.
The reason Mr. Market is unhappy with Apple’s earnings is that the company was unable to grow its reported profits from the same quarter last year. Sales were up nearly 18% from the year earlier but costs per sale increased enough (gross margins declined enough) that net earnings matched the year earlier’s number. Investors are lamenting that one of the greatest growth stories of all time is seemingly coming to an end. But if you know Mr. Market you know he doesn’t always act rationally and I would suggest that this is one of those times.
Though earnings didn’t grow, sales grew significantly suggesting that the appetite for Apple’s products is still very healthy. In addition, cash flow grew from the prior year by 33%. Personally, I prefer to look at cash flow over earnings because it’s the true measure of how much cash a company generates. When a company’s earnings are better than their cash flows I raise a skeptical eyebrow. In Apple’s case it’s just the opposite. Cash flows in the last quarter were significantly healthier than reported earnings.
Free cash flow, or cash flow minus capital expenditures, was very healthy, as well. Apple grew free cash flow 30% in the quarter to over $21 billion. Over the past twelve months the company has generated a total of $47.4 billion in free cash flow taking its cash pile north of $137 billion. These numbers are simply phenomenal. To put them in perspective, Business Insider noted today that Amazon.com has earned a mere $5 billion in its entire history. Apple generated nearly triple that amount in its last quarter.
To further demonstrate Apple’s amazing profit machine consider that aside from the company’s cash pile it has about $32.5 billion at work on its balance sheet that is responsible for generating that $47.4 billion in free cash flow. That’s greater than a 145% return on invested capital. A company generating a 45% return is considered a super star in the corporate world. 145% is absolutely astronomical. Put the cash back in to the equation and the company generates a still meaty 28% return on total assets.
So let’s take a look at what investors are really paying for in Apple’s shares today. The current market capitalization is $422 billion (938 million shares times $453 per share). Back out the cash of $137 billion and you get an enterprise value of $285 billion. That amounts to a mere 6 times the company’s free cash flow over the past twelve months. In other words, investors get a 16.6% free cash flow return on their investment at the current share price. What’s more, Apple, on an enterprise value to EBITDA measure, is now cheaper than the likes of Microsoft and Radio Shack.
Even when you don’t back out the cash in its bank accounts the stock currently trades at its cheapest valuation at any time over the past decade. Over that time, Apple’s stock price has typically found a bottom near 10 times gross cash flow. In 2011, it bottomed at 8.5 times cash flow before running 75% higher over the next 12 months. Today, it trades at 7.5 times cash flow. Any way you slice it that’s damn cheap and for one of the most admired brands/most profitable companies in history.
Now this is all rear view mirror analysis. We all know that the market is a discounting mechanism so what really matters is what Apple does over the next twelve months and beyond. The current valuation suggests to me that investors believe the company is already in decline like Microsoft and Radio Shack, as I mentioned above. Think about that: even if Microsoft were to acquire Radio Shack to have a retail presence to compete with Apple stores would you take that bet? Not a chance. There’s no way in hell those two could come close to generating an 18% sales gain let alone free cash flow margin of 28.8% like Apple just did in this last quarter (Microsoft just announced a 2.7% sales gain and 16% free cash flow margin, in fact. Radio Shack’s numbers are worse.).
Looking forward, Apple’s product demand remains strong. The company said on the conference call that manufacturing and supply constraints are still a major problem for their most popular products. In my world, that is the best kind of problem to have. To me it indicates future sales will continue to be strong. Apple has also said they will not chase market share for its own sake and so I expect gross margins to hold around 35-40%. All in all, then, sales and cash flow should continue to grow.
I wrote about “capitulation” the other day. In Apple’s case it feels like the bulls are capitulating here. There is so much negativity surrounding the stock right now that just can’t be justified by the hard numbers. Based on sales and free cash flow the company is still killing it. Their products are in amazing demand. They sold 75 million mobile devices in one quarter, for crying out loud. Investors are not so much reacting to these numbers as they are to their own emotions at seeing the stock price fall 35% over the past few months.
I bought a couple of shares for my kids today and explained it this way: buying the stock at the current price is better than buying a new iPad at half price. You get something great at a fabulous discount and rather than be on the buying end of the upgrade cycle you’ll be on the selling end. And I expect sometime soon Mr. Market and everyone else who sold today will look as silly as McKayla did frowning at something that should be celebrated.
Chart(s) of the Day
On the daily chart I’ve added Tom DeMark’s sequential indicators. I know Tom loves this 9-13-9 pattern; he considers it one of the most powerful in his arsenal. As you may remember he called a bottom in the stock on that last 9 a little over a week ago. Today’s selloff took the share price below this and even his “risk level.” Normally, this risk level indicates where you should put your stop loss but Tom has also said that a false break of the risk level is sometimes the best place to buy. We’ll see if the stock can manage to regain that level over the next couple of sessions. The next step would be a move above the upper line of that ending diagonal ($520ish) to confirm that pattern. We’ll keep our eyes open.
This next chart is absolutely critical. Apple has fallen to a key level that marks the intersection between its 38.2% retracement (a Fibonacci level) and its weekly uptrend line. Actually, it broke below this level which sits at about $463. If it can regain this level I believe it has a very good chance of forming a bottom here. Stay tuned, folks.
What is Apple stock really worth? Our friends Nitrozac and Snaggy at The Joy of Tech consulted the pros, and discovered many of their best-kept secrets:
Apple reported QE December 2012 financial results on January 23
Apple earnings highlights were:
1) Record revenues of $54.51 billion vs. $46.33 billion a year ago
2) Near-record operating income of $17.21 billion vs. $17.34 billion a year ago
3) Record net income of $13.08 billion vs. $13.06 billion a year ago
4) Near-record earnings per share of $13.81 vs. $13.87 a year ago
“Record” means an all-time high surpassing the prior year pinnacle at QE December 2011. “Near-record” means second highest all-time, so achingly close but not quite beating the prior year peak at QE December 2011. The calendar Q4, the Holiday Quarter, is when Apple can break its own, and technology sector, records. This is especially true if the latest iPhone roll out is timed accordingly. By not beating all these key metrics, which is the Apple Way, the King of Technology financial performance is mixed plus lost some luster and mystique.
Top Line Expectations Apple management forecast $52.00 billion in total revenues, the analysts expected $54.69 billion, and the result was $54.51 billion. That’s a strong +52% QoQ increase and a solid +18% YoY increase. A very small miss that still decisively breaks the company and technology sector records as Apple ups their own ante.
Bottom Line Expectations Apple management forecast $11.75 earnings per share, the analysts expected $13.42, and the result was $13.81. A beat, but not good enough when it is the Mighty Apple. That’s a strong +59% QoQ increase and an “oh so close” -0.43% YoY decrease. The prior year QE December 2011 record earnings per share of $13.87 still stands as an Apple all-time record high. The good news is Apple continues as the Ultimate Cash Flow Machine with a record $24.73 per share cash flow from operations. This is akin to printing your own money.
Annual Trends The annual trends for total revenues and earnings per share are below. As noted in prior reviews, the top is most likely in and growth is slowing for Apple on a year over year basis as the chart indicates below. The bar keeps being set higher and higher. The good news is management pays a dividend ($2.65 this quarter) and has an ongoing stock repurchase program.
Margins The concern and ongoing uncertainty is the decreasing gross margin. Gross margin (38.63%) is at an 8-quarter low. By comparison, the all-time high was the recent QE March 2012 at a stellar 47.37%. Operating margin (31.57%) did increase as operating expenses were effectively controlled. Hence net margin (23.99%) also increased. The margins have been remarkable, but peaked at the QE March 2012. The 16-quarter averages are 41.04%, 30.79%, and 23.07%, respectively.
Quarterly Regional Sales Trends Apple’s primary driver of revenues continues to be the Americas then Europe. Greater China sales were next, but the growth is not as impressive. Retail sales growth continues strong as does Japan and the Remainder of Asia Pacific.
Quarterly Product Sales Trends From the chart below, is there any doubt that Apple is first and foremost an iPhone company? iPhone sales ($30.66 billion) reached a new record and comprise 56.24% of total sales. iPad likewise reached a new quarterly record sales of $10.67 billion. Mac computers sales decreased and the peak was reached last quarter. iPod sales rebounded significantly to a 2012 peak. iTunes, Software, and Services reached an all-time high as did Accessories.
Financial Position Total assets surged to another all-time and tech sector high of $196.09 billion. This should exceed $200 billion next quarter. Apple’s market capitalization has been #1 worldwide. Cash and marketable securities are $39+ billion. Add long-term marketable securities and the liquid reserves are $137+ billion!
CEO Statement “We’re thrilled with record revenue of over $54 billion and sales of over 75 million iOS devices in a single quarter,” said Tim Cook, Apple’s CEO. “We’re very confident in our product pipeline as we continue to focus on innovation and making the best products in the world.”
CFO Statement “We’re pleased to have generated over $23 billion in cash flow from operations during the quarter,” said Peter Oppenheimer, Apple’s CFO. “We established new all-time quarterly records for iPhone and iPad sales, significantly broadened our ecosystem, and generated Apple’s highest quarterly revenue ever.”
Outlook QE March 2013:
• revenue between $41 billion and $43 billion
• gross margin between 37.5 percent and 38.5 percent
• operating expenses between $3.8 billion and $3.9 billion
• other income/(expense) of $350 million
• tax rate of 26%
Disclosure: I have a beneficial interest in a long position in AAPL stock.
Apple reported December quarter results this afternoon.
In general, Apple is still performing well, but growth continues to decelerate, and some numbers were short of expectations. In particular, iPhone shipments — Apple’s most important product — didn’t beat Wall Street’s predictions, with almost 48 million iPhones shipped vs. 50 million expected. (Remember, the Street wants to be surprised by Apple’s results — even just meeting expectations is perceived as a negative.) Apple also did not provide an Earnings Per Share (EPS) forecast for the March quarter, which some may see as a show of weakness.
Mac shipments also seem to have peaked for good. But the iPad was strong, with almost 23 million shipments — almost 50% growth over last year.
Below, I’ve broken out some of the most important stats and trends in chart format. Note that all of these charts reflect Apple’s newly reclassified product segments, reported today for the first time. (Thus my delay in publishing.) Apple created Accessories as its own category, bundled Software and Services with iTunes, and removed Peripherals as a separate category. (It also stopped breaking out notebook vs. desktop Mac shipments, which have been split roughly between 70/30 to 80/20 for a while.)
Here is an update and refit - based on the roll of a weekly moving average, of the Apple/Oil comparative from last month.
Monday, January 14, 2013
The Market Wants Apple to Unveil a Time Machine
If you want a brilliant lesson in focus and discipline, watch Tim Cook right now. Some investors are dissatisfied with Apple. I think it's more a case of their being dissatisfied with their own lives and expecting that Apple's next product will fix everything. The constant refrain is that Apple has not introduced a disruptive product since Steve Jobs passed away. It's as if they want Apple to unveil a happiness device and they won't be happy until it does.
Some people are saying that Tim Cook just ain't up to it, that he's no Steve Jobs. One commenter on a popular Apple rumor site made a multi-point list of Tim Cook's failings: 1) missed earnings for several quarters, 2) a volatile stock price, 3) quality control problems, 4) lack of new advertising, 5) bad product reviews, 6) lack of an iMac or iPad mini with a retina display, and 7) complaints that the company is getting stale and top execs are fleeing.
What the naysayers are overlooking or ignoring is that one could have made a list for Steve Jobs that would look remarkably similar:
- Missed earnings: Apple posted a $247 million quarterly loss (in 2001, four years after Jobs took over — and the stock went UP in after-hours trading).
- Volatile stock: In 2008, under Jobs, the stock price dropped by more than 50%.
- Bad quality control: MobileMe, antenna-gate
- No advertising innovation: The "I'm a Mac/"I'm a PC" campaign ran for three and a half years without a refresh. Nothing on the scale of "Think different" was created by Jobs more than a decade after that iconic campaign.
- Bad product reviews: One word: Ping. Also, Consumer Reports issued a "does not recommend" on the iPhone 4 (in 2010).
- No iPad mini at all.
- Executive exodus: In 2008, Tony Fadell, senior vice president of the iPod division, stepped down. His wife, the VP of HR at Apple, also left. In 2004, Apple's CFO, Fred Anderson, left the company. Apple's General Counsel, Nancy Regina Heinen, left in 2006. (In 2007, the SEC filed charges alleging that she let Apple backdate large option grants and altered corporate records to hide the actions. She settled with the SEC without admitting or denying the charges.) Sounds to me like Tim Cook isn't the only one who's had to deal with shuffling in the top ranks.
So Tim Cook has not introduced any disruptive new products in his first year. But bear in mind that four years elapsed from the time Steve Jobs took back the reins until the iPod was introduced. Six years elapsed between the introduction of the iPod and the iPhone. Six years without a disruption under Steve Jobs. During that time, we had to endure the unveiling of flops and iterations like the iPad Hi-Fi, leather iPod pouches, and the iPod Photo. Yes, Steve Jobs actually unveiled a leather iPod pouch on stage. That was an underwhelming day. Another three years went by without a disruption until the iPad was unveiled — and at the time, many didn't view it as a disruption at all. "It's just a bigger iPhone," they said, not understanding the gigantic implications of a bigger iPhone, in much the same way that they cannot now understand how a slightly smaller iPad will change everything.
We don't know what Apple has in store for us. Over the past 10 years, it reinvented the telephone, music players, the way we consume music, and mobile computing itself — actually, with the iPad, Apple invented mobile computing. Apple can ride the wave of those disruptions for a little while. It has changed the world. It is now selling the products that define that new world to the world. Even if it has nothing more up its sleeve than beautiful new iterations of its existing products, the fact remains that this is a company that last quarter had profits of more than $8 billion. Compare that with Amazon's performance: Amazon lost $247 million in its last quarter. Amazon's price-to-earnings ratio is now 2,767. Apple's is 13. And Apple's profits are growing substantially year over year.
There are other markets waiting to be disrupted, for sure. Television. Automobiles. Housing. Higher education (Apple is already on its way to transforming that with iBooks Author and the iPad). If Apple is to maintain the level of success it's achieved in the past 15 years, it may need to enter those industries in the next 15. And it probably will. But for now, Apple is like no other company on the planet, based simply on what it has achieved in the last six years. Tim Cook is capitalizing on the potential of those years of disruption, and is doing it masterfully.
The critics that are screaming right now are intellectually lazy. They're throwing temper tantrums instead of looking at the big picture. Like two-year-olds, they don't really know what they want. And they're not happy when they get it, anyway. Apple could unveil a new car and they'd say Apple's days are over because it's just bet its future on an industry it knows nothing about. Not unlike, say, Apple's entrance into the mobile phone industry. I bet that if Apple did unveil a time machine, they'd claim it wasn't fast enough.
Tim Cook is taking exactly the right approach, staying the course, despite distracting expectations swirling around him. Apple is a marvel of human achievement. Why waste the beautiful sight of it by casting your gaze on a group of misbehaving children who have never accomplished anything remotely close to it in concept or scale and don't have the faintest understanding of how something this remarkable operates and grows in the first place?
Disclosure: I am long AAPL.
Michael Noonan |
PeterLBrandt OCt 9th2012
By Tiernan Ray
Shares of Apple (AAPL) today closed down $15.83, or 3.2%, at $485.92, as the Street responded to yesterday’s concerns about rumored cuts in iPhone production with a raft of mostly positive endorsements of the stock.
Today’s positive notes follow a rush of such reports defending the stock yesterday morning.
I’d note there is still quite a range of estimates for both last quarter and this quarter in terms of iPhone sales:
William Power, R.W. Baird: Reiterates an Outperform rating and a $750 price target, writing that as regards a projected 20% drop in iPhone sales, quarter to quarter, this quarter, is “the front-end loaded nature of new market launches is the bigger issue than slowing demand.” What he means is that the iPhone 5 showed up in countries faster this time around than with the 4S: “We would note that Apple launched the iPhone 5 in close to 100 markets this CQ4, vs. the iPhone 4S in 50+ a year ago. The 5% sequential iPhone shipment decline from CQ4 to CQ1 a year ago might have been closer to 30% if launch timelines were similar to this year. China alone was a significant driver in CQ1 last year, and will benefit CQ4 this year.” He’s modeling 48.5 million units last quarter, up from his prior 46.7 million-unit-estimate, and cut his March-quarter estimate to 39.5 million from 43.5 million.
Shaw Wu, Sterne Agee: Reiterates a Buy rating and an $840 price target. The company’s December-quarter results were likely in line with the Street, he thinks, at $54.4 billion in revenue and $13.70 per share in profit, based on sales of 47.5 million iPhone units. The demand for the iPhone “remains robust,” he argues, and “We believe there is great confusion with press reports of order cuts and weak demand.” In fact, writes Wu, the reports merely point to improved manufacturing yields and Apple shifting suppliers. Wu thinks that improved yield could help gross profit surprise to the upside last quarter: “We are modeling gross margin of 38.7% vs. expectations of 38.3% and guidance of 36%.” Wu sees Apple giving a stock forecast for this quarter, and he’s modeling $44.4 billion in revenue and $10.99 in EPS, on sales of 38 million iPhone units. “We have to admit that this upcoming AAPL earnings call has got to be the trickiest as far as we can remember because near-term stock direction will most likely be entirely driven by investor sentiment.”
Hendi Susanto, Gabelli & Co.: Reiterates a Buy rating on the stock and a $950 present value, projecting revenue last quarter of $54.1 billion and EPS of $12.32 per share, on sales of 43.7 million iPhones and 26 million iPads, including 6 million of the iPad mini, while noting that the iPhone count is consistent with “higher supply chain capacity and wider distribution channels.” Susanto is projecting sales of 38.2 million iPhone units this quarter, but does not provide full financial estimates for the quarter. As far as valuation, “AAPL shares are trading at 5.5x and 11.4x our FY 2013 EBITDA and EPS estimates of $65 billion and $48.00, respectively. We calculate a FY2013 PMV of $950 per share based on our 14x forward P/E plus cash.”
Peter Misek, Jefferies & Co.: Reiterates a Buy rating on the stock and an $800 price target. Misek is modeling 53 million iPhones sold last quarter, and revenue of $59.6 billion and EPS of $15.50. He thinks this quarter’s outlook from the company may end up being “slightly above consensus” despite Apple’s legendary conservatism in forecasting. That might mean an implicit forecast for 40 million or more iPhones this quarter. Misek actually cut his March-quarter estimate from 48 million units to 44 million units, in part because rumors about another iPhone refresh this year could stall some sales. But he thinks the discussion of production cuts missed the mark: “As word of the earlier production schedule starts to spread, we believe we could see a slight slowing of demand CQ1 in anticipation of the new product launch and Apple will likely start curtailing channel inventory. Therefore we tweak down our CQ1 iPhone shipment estimate from 48M to 44M, which is still well above widespread fears of shipments in the mid-30Ms. These fears are based on large CQ1 component order declines, but we believe the primary drivers are: 1) an assembly bottleneck caused component inventories to rise in CQ4; 2) new iPhone builds starting in March; 3) demand being in line to slightly below optimistic expectations. Our checks indicate that CQ1 iPhone builds are ~50M.”
Ben Reitzes, Barclays Capital: Reiterates an Overweight rating and a $740 price target, writing that the January 23rd call is “the most important conference call in years.” He’s modeling revenue last quarter of $54 billion and EPS of $13.38 on sales of 47 million iPhones, with a 38.4% corporate gross margin. He thinks Apple “ will be especially conservative with regard to guidance for F2Q13″ and that “Apple needs to hint at margin bottoming in the recent quarter in order to stem concerns.” He’s modeling $47.2 billion and EPS of $12 this quarter, on units of 40.97 million iPhones, but thinks Apple might forecast $41 to $44 billion and less than $12 per share. Going forward, “Shares could then be set up better for outperformance soon as Apple readies new products and new software/services announcements prior to the WWDC in the June/July timeframe. We believe that Apple is prepping 3 new iPhone models throughout this year along with a new iPad mini for the second calendar quarter. ”
Not everyone is optimistic, however. Nomura Equity Research’s Stuart Jeffrey today reiterates a Neutral rating on Apple shares, slashes his price target to $530 from $660, and warns there is “potential downside to $400” for the stock, despite what he considers the “blended average fair value based on falling iPhone gross margins” of $495 to $579.
Jeffrey cut his December-quarter estimate to 48 million iPhone units from 50 million, and cut the March quarter’s outlook to 39 million from 43 million. His full year estimate goes to 157 million units from 166 million. Jeffrey is modeling $53 billion in revenue and $12.84 per share for last quarter.
Jeffrey assumes the gross margin of the iPhone may fall from about 55% now to 50%, perhaps next year, as that has tended to be a peak in gross margin for phone vendors:
We estimate that margins in FY13 will come in at around 50%, down 5% on our FY12 estimate of 55% due to the costs of transitioning to a new form factor. We do not expect Apple to react with immediate price cuts in the event of market share pressure and so believe that gross margin downside is more likely to come through in FY14 and FY15. The red bordered area shows our view of the most likely outcomes for margins and thus fair value.
As far as the stock, there’s actually more upside than downside, as he sees it, though gross margin decline, if it comes, could hurt the stock nevertheless:
Our analysis suggests that realistic downside risk is potentially down to around $400, with possible upside to about $660. The average fair value excluding excess cash comes to $495 and including excess cash $579. With the stock at $502, our analysis suggests that there is potentially 20% downside risk and 31% upside potential. The stock thus seems to have factored in a reasonable level of gross margin downside. On multiples, based on our estimates, this [$530] would value the stock at: 11x FY14E and FY15E earnings, or 9x when adjusted for excess cash of $84 per share; FCF yield of 9% in FY14E and 10% in FY15E; Dividend yield of 2.2% FY14E and 2.3% FY15E. None of these multiples look expensive. Apple also has scope to significantly increase the dividend. Yet, our experience suggests that any stock with a material long-term fall in margins ahead of it tends to trade on a multiple discount to reflect the risk of margins suddenly falling faster than expected.