Fifteen months ago, when Apple investors gave up on the stock, I bought it.
Happily, I still own it.
I don’t think the stock is grossly undervalued anymore, the way it was when it was at $US56 ($391 in the old split). On the contrary, I think it’s overvalued. But I also think that the iPhone 6 upgrade cycle is going to be monstrous and that, as launch day approaches, the excitement is going to be so great that the stock will surge even higher.
I still have long-term concerns about the sustainability of Apple’s gargantuan profits (and profit growth), so after the orgasmic iPhone 6 climax, I will likely take a breather. I also recognise that the iPhone 6 launch may already be reflected in the stock price, so I may just be being greedy by hanging on.
In any event, here’s what I thought about Apple’s second quarter results:
- It was actually a pretty good quarter. Apple is a mobile phone company now — from a profit point of view, everything else is basically irrelevant — and Apple’s phone sales were pretty good, especially considering that Apple’s phones now seem tiny, old, and expensive relative to the competition. The average selling price of Apple’s phones declined, which I think is encouraging for Apple’s long-term investors. Smartphone prices around the world are plummeting, so the fact that Apple is choosing to sacrifice some per-unit revenue to drive more unit sales is encouraging. And the decline in ASP was especially encouraging given the profit margin that Apple is still able to generate on the phones.
- iPhone sales in China and other emerging markets were pretty good. This is encouraging, because Apple has been getting its clock cleaned in these markets, in part because it only sells high-priced phones. In recent years, however, Apple has pushed some lower-price phones — the iPhone 4S and iPhone 5C — and these are helping drive unit sales. Apple’s China sales, which analysts were hyperventilating about, did benefit from the one-time addition of the massive China Mobile as a distribution partner, which won’t be repeatable. So, in terms of “same store sales,” the numbers weren’t as good as they looked. But they were ok. Alas, the strong growth of China and the BRICs reveals that iPhone sales in the US and developed markets was weak. These markets are mature, though, and the iPhone 6 upgrade cycle is coming…
- iPad sales were terrible — full stop. Two years ago, many Apple bulls started calling it “the iPad company” and predicting that the iPad would quickly be a larger contributor to sales than the iPhone. No dice. iPad sales in the second quarter were lower than they were two years ago. That’s awful. That performance, and the performance of the tablet market in general, has sobered tablet analysts up. It’s now clear that the tablet opportunity, at least at current prices, isn’t as big as people initially thought — most people don’t need all three devices, a smartphone, a tablet, and a laptop, and choose two of the three. The tablet market isn’t subsidized like the iPhone market, which makes the devices seem more expensive. Phablet sales are cannibalising tablet sales. And even for those who love their tablets, the upgrade cycle is much slower than it is for phones. So, overall, estimates for the tablet market in general, and iPads in particular, have come way down.
- But the iPad isn’t a big contributor to Apple’s profit, and if big, new iPhones cannibalise iPad sales, that will be good for Apple’s profit, not bad. I love my iPhone and MacBook Air, and if iPads were cheaper, I would have bought one. Once I get my big, new iPhone, though, I think my lukewarm desire for an iPad will fade further. I just won’t need it. So Apple’s huge new iPhones will likely cannibalise iPad sales. But that’s good. Thanks to higher prices masked by the subsidy, Apple makes way more money on iPhone sales than iPad sales — perhaps 2X or 4X as much per unit. So every would-be iPad sale that becomes an iPhone sale will add a lot to the bottom line. This will be especially true if Apple charges a higher price for the huge new iPhone, which most people expect it to.
- Analyst hyperventilation about Apple’s impressive gross margin is somewhat misplaced, in my opinion. Apple’s gross margin in the quarter was indeed impressive. But analysts rushed to say that this showed that one of the big concerns around the stock, margin compression, was unfounded. That claim seems too rosy. One big reason the margin was so good, it seems to me, is that iPad sales were so bad. iPads have a much lower margin than phones, so the fewer of them Apple sells relative to phones, the better its margin will be. It is, however, encouraging that Apple’s gross margin is as strong as it is given the decline in the average selling price of the phones. That really is good news.
So that’s what I thought of the quarter.
I love Apple’s products, I think Tim Cook’s doing a good job, and I think the company will be able to maintain its “premium” positioning, but I still think the relentless pressure on global gadget prices will eventually put pressure on its profit margin and profit growth. So I doubt I’ll own the stock much longer.
But in the meantime, bring on the iPhone 6!
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