Apple Inc

NASDAQ:AAPL   3:59:59 PM EDT
128.16
+0.31 (+0.24%)
5:16:51 PM EDT: $127.85 -0.31 (-0.24%)
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Silence the Noise. Apple Will Win and Be Worth $1 Trillion. Period.



Fundamentals

##Symbol##AAPL

All those that point to Apple's heavy reliance on the iPhone, a product now in its seventh generation have a point, but please don't forget that Apple is aware of this reality as well. Doubting Apple is OK, but doubting Apple because of obvious statements like "it's a phone company" or "Apple Watch is garbage" is low brow and misses everything. Friends, this is chess not checkers. Apple is ahead of us (all of us), not behind us.

If the definition of insanity is to repeat the same action and expect different results, then can we say that doubting Apple has become insane?

The recent bearish tone surrounding Apple comes for good reason in that the firm is heavily dependent on the iPhone. While sales have exploded in recent quarters, it's been due to pent-up demand for larger screens which was satisfied by the iPhone 6. But the real bearish tone comes from what appears to be a poorly received version one of the Apple Watch, what was supposed to be, at least in small part, a diversification away from the iPhone.



There is strong evidence that not only has demand been poor for the device after a big release, but in fact, there is even a rather loud cacophonous thunder surrounding dissatisfied customers and even returns of the product. These are the facts, and they are not disputed.

But here's another set of facts. The first release of the iPhone was not well received and had more doubters than supporters. In total, before Apple entered the smart phone realm, in the full year of 2006, worldwide smart phone deliveries totalled 64 million units (Source: https://www.canalys.com/). It was a market dominted by Blackberry (BBRY). But, by 2014, 1.2 billion smart phones were sold (a 20-fold increase in total market size) (Source: TechCrunch).

In just the last three months alone of 2014, AAPL delivered 74 million iPhones worldwide. That’s more units in a quarter from one company than the total units delivered in the full year 2006 by all companies before the iPhone was introduced. Now Blackberry (BBRY) isn't even a phone maker anymore -- they just moved aside to software (basically).



In 2009 tablet sales were essentially $0. Apple introduced the iPad in 2010 to an even louder cacophony of doubters, raging with tech reviews that can be summarized in a single complaint "nobody needs this device." Of course, by 2014 nearly a quarter billion tablets had been delivered worldwide. These are also the facts, and they are also not disputed.

Let's take a break from text and move to a visual. Of all technology companies in North America, Apple has the single best fundamentals. Here's a snippet from the star scan.


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You see, Apple is the best in the world at understanding the difference between creating products that people need and products that people want. Need has very little to do with Apple’s success. Apple creates want better than any firm ever, and then sells to that want better than any firm ever. It has created as strong a brand loyalty as any firm ever, and through the generations of products has an immense base of customers that continues to grow at double digits even at already staggeringly high numbers.

And, let's look at another visual before we move forward. Measures of how large Apple’s market cap has grown are the flavor of the month on social media. Apple is larger than the GDP of over 100 countries. Apple’s market cap is larger than TARP. Apple’s market cap is 40% larger than the US defense budget. In fact, here's a wonderful chart that plots Net Income (TTM $millions) on the y-axis and Market Cap ($millions) on the x-axis for the largest companies in North America in all sectors. We can see how extraordinary AAPL's size has become.


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Back to analysis, bears will point to iPhone 5 and 5s sales trajectory and caution of a major slowdown. Bulls will point to Apple supplier and component makers which show still strong sales for the iPhone 6 and various upgrades. More bearish sentiment focuses on the reality that Apple is just so huge, it would take a monumental success to even move the needle. Further, even Apple Music has received poor reviews and the company cannot diversify away from the iPhone. Bulls will argue that Apple Pay and Apple Music could make up as much as 20% of Apple's revenue per a note from Morgan Stanley (that's a huge number).

Bears will argue the Watch is a dud. Bulls will argue that Apple has a history of less than impressive launches with version one of products including the holy grail known as the iPhone. Bears will argue that Apple's P/E of ~16 is high for a hardware maker. Bulls will argue that Apple's P/E is well below the S&P 500 P/E of over 20 and that Apple is much more than a hardware maker -- it's a technology market maker and creator.



Apple Watch version one was never the bet on this product. It's the next versions that will determine its success, and I'm sorry, but listening to more tech reviews and doubters at this point is sort of absurd. Nobody knows more than Apple. Period. But it's not just the Watch.

Automobile executives have been popping up in new positions at Apple. In fact, just today Reuters reported that Ex-Chrysler Group executive Doug Betts has joined Apple. This is a man with 25 years experience in the industry and his prior title was "head of quality" at Chrysler. Apple knows it needs new products, and its enormous spend on R&D has likely already created the Apple Car as well as a remarkably better version of the Apple Watch.

Rumors have it that Apple may have already had meetings with BMW to discuss using the frame of its i3 electric car for its own electric vehicle, according to German publication Manager Magazin. Oh, and by the way, BMW makes perfect sense for Apple given that it was the first auto manufactuter to integrate the iPod ten-years ago, and recently the Apple Watch app.

Apple had smaller earnings than both Microsoft and Google in 2007, then the iPhone released (June 2007) and Apple's earnings are now several fold the size of both of those companies. Since 2009, Apple has seen its market cap rise from ~$75 billion to ~$750 billion. No company has ever done that in any period of time.

It's not time to worry about Apple. It's not even close to time to worry about Apple.

Let’s take a step back and look at revenue per employee for all of mega cap technology (market cap greater than $50B), below.


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Said simply, AAPL generates more revenue per employee than any mega cap technology company in North America, and it's not even close.

Technicals   |   Support: 124.53   |   Resistance: 128.11   

Swing Death Cross Alert: The short-term 10 day MA is now below the 50 day MA.

AAPL has a three bull (stock is range bound) technical rating because , while it's trading above its 10-, 50-and 200- day moving averages, the stock is down on the day and the 10-day moving average is below the 50-day moving average.


Here are the consensus estimates for next quarter.

Revenue: The range is [$46.90B, $53.6B]. The average estimate is $49.3B.

EPS: The range is [$1.65, $2.05]. The average estimate is $1.81.

I don't think any of these numbers matter. Apple may miss, it may beat, the stock may rise or fall in the short-term. But in the long-term, Apple will win. The Apple Watch will win. The Apple Car will win. And Apple will be worth over $1 trillion. Period.



Let's look at the core elements that drive the company's fundamental rating.


Fundamentals Rating Summary



METRIC CURRENT 1YR AGO 2YR AGO DIRECTION
Revenue (TTM US$ Millions) 212,164 176,035 169,104

Operating Margin (QTR) 1.460 1.42 1.40 RISING

Net Income (TTM US$ Millions) 47,808 37,707 39,672

Levered Free Cash Flow (TTM US$ Millions) 46,312 36,159 30,018 RISING

Research and Development (US$ Millions) 1,918 1,422 1,119

Research and Development Expense/Revenue 0.033 0.031 0.026 RISING





Stock Returns and Chart

AAPL is up +3.7% over the last three months and up +20.1% over the last six months. The stock price is up +40.0% over the last year.

Before we dig into the fundamental trends that drive the rating, let's look at a two-year stock chart with regression channel and 10-day momentum (on the bottom).
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Now let's examine the visualizations of the critical financial measures.



METRIC CURRENT 1YR AGO 2YR AGO DIRECTION
Revenue (TTM US$ Millions) 212,164176,035169,104


Revenue (TTM) is trending higher meaning that it has increased for at least five consecutive quarters (in this case it's eight consecutive quarters).

Note that AAPL is growing revenue by 20.52% year-over-year. Any number over 20% has an added impact on the fundamental (star) rating. Now we know that a large part of Apple's revenue growth has been from pent-up demand from the larger iPhone so there's no way we can expect that kind of growth form this product again. This quarter, this sales number from iPhones is "Much-a-do About Nothing" if you're looking at the long-term.

Let's look at Revenue (TTM US$ Millions) in the chart below.


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METRIC CURRENT 1YR AGO 2YR AGO DIRECTION
Net Income (TTM US$ Millions) 47,80837,70739,672

Net Income (after tax profit) over the trailing twelve months (TTM) for AAPL is up 27% year-over-year change. Net Income is also trending higher meaning that annual earnings have increased for least five consecutive quarters. Again, that massive growth number simply must slow down if it's driven from the iPhone. But be patient, there is more coming.

In our next chart we plot Net Income (TTM US$ Millions) in the blue bars (quarterly results in the gold line).


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METRIC CURRENT 1YR AGO 2YR AGO DIRECTION
Levered Free Cash Flow (TTM US$ Millions) 46,31236,15930,018RISING


Levered Free Cash Flow (FCF) (TTM US$ Millions) is a critical determinant of stock price since market cap is the present value of all future free cash flows. For AAPL FCF is up 28% year-over-year to a colossal $46.3 billion.

For our next chart we plot Levered Free Cash Flow (TTM US$ Millions) through time.



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METRIC CURRENT 1YR AGO 2YR AGO DIRECTION
Research and Development (US$ Millions) 1,9181,4221,119


Research and Development (US$ Millions) is trending higher as well (it has risen for seven consecutive quarters). And, while Apple has seen R&D rise 35% year-over-year and 71% over two-years, the company still spends less money on R&D per dollar of operating expense than all but one mega tech firm.


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Now look at the companies in that chart and name the most recognized products. I'd start with iPhone, iPad and Apple Watch, each of which belongs to AAPL. One could argue that AAPL isn’t underspending on R&D it's just doing it better than everyone else. And yes, the Apple Car is coming, it's not an if, it's a when.

In the last time series chart we plot Research and Development (US$ Millions) in the blue bars. Note the rising bars from one-year ago.


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Summary
The bearish thesis for AAPL relies on a true statement that Apple is so big, and that iPhone is so much of that size, that it's almost impossible for any product to move the needle in a meaningful way. The trajectory of iPhone 5 sales points to the inevitable drop in iPhone 6 sales. Throw in a slowing China, which for the first time ever was the largest sales region, and you get yourself a fair and reasonable argument. Then add a very poor reception to the Apple Watch, and we begin that poisonous thought process that Apple will fail. Apple will not fail.

The bullish thesis goes something like this:

AAPL has the largest revenue in all of technology, the largest earnings in the world, generates more revenue per employee than any mega technology firm and shows the largest earnings growth of the three company peer group. While the firm has easily the most recognizable brands, it spends less in R&D (scaled) than all but one of its mega cap peers. The company has a price to sales ratio that for a hardware maker is about "fair" (or even high) but for a technology market maker is low.

No other company in the world is better positioned to introduce new technology with essentially immediate demand, and no other company has changed technology as dramatically as Apple has in the recent past. The company has increased R&D spending by 70% in the last two-years, and the idea that the spending will bear no fruit is understandable, but it's simply never been true before.

Version one of products tend to have tepid acceptance, but new products ultimately are huge hits. Apple Watch could be another such smash hit. The Apple Car will be a smash hit. As I stated earlier, Doubting Apple is OK, but doubting Apple because of obvious statements is low brow and misses the fact that Apple is ahead of us, not behind us. This is chess not checkers. And Apple is world's best chess player.