Ever since it reported Q4 2018 earnings on Thursday, November 1, Apple (NASDAQ:AAPL) shares have hit a downdraft. Still, it’s very easy to zero in on the culprit.
The company isn’t seeing robust demand for its iPhone for the upcoming holiday period. The iconic smartphone is the company's most successful product by far, and the holiday season is generally its most crucial revenue-generating quarter. However, during its forward guidance, presented at the time of its earnings call last week, Apple forecast that revenue for the period would be weak, coming in below the market expectations.
Making matters worse, along with the disappointing forecast, the company dropped another, unexpected, bombshell. Apple said it would stop reporting the specifics of how many iPhones, iPads, and Macs it sells, as it transitions to become more of a services business.
This news in particular was devastating for Apple shares: the stock sold off, dropping 7% after the announcement. Investors took this lack of disclosure as a signal from the company that the iPhone market is saturated, extrapolating further that there will be a sustained period of demand weakness.
These fears were given a little more credence on Monday when the Nikkei Asian Review reported that Apple had asked its Asian manufacturers not to expand production lines for the new iPhone XR. That sent the already battered stock down another 3% on Monday morning, putting the shares on pace for their worst two-day loss in six years.
Since its fourth quarter report, many analysts have downgraded Apple shares, citing an uncertain future for the company’s flagship product. The iPhone currently brings in more than 50% of Apple’s total sales.
Bank of America downgraded Apple shares to 'neutral' from 'buy' and cut its price target to $220 per share from $235, saying that “we are likely to see further negative estimate revisions.” Shares closed yesterday at $208.49. Analyst Wamsi Mohan said the stock represents a "significant" long-term opportunity, but that “some level of investor concern on lack of unit disclosure” will act as a near-term risk.
Despite these negative sentiments at the moment, we believe Apple is on the right track and well-positioned to grow its bottom line via current efforts to diversify its revenue base away from the iPhone. By shifting the focus to its Services unit, the company is sending a clear message that as its smartphone product improves—and becomes more expensive—it will no longer be realistic to depend on iPhones unit sales for growth.
Many investors, who allowed themselves to become overwhelmed by flattening iPhone sales, ignored the momentum of Apple’s other businesses. They're likely the ones who exited the stock after the earnings release. But Apple's Q4 and full year results confirm that the company's current strategy is working just fine.
The company is promoting its software-and-services business and raising prices on its flagship iPhones to compensate for slower growth in unit sales. Last year Apple upped the starting price of iPhone by about 50%, to nearly $1,000. Both moves aim to capitalize on the strong customer loyalty of iPhone uses who rely on the smartphone for everything from communication and shopping to video watching and keeping on top of the latest news.
In the latest quarter, revenue from the device rose 29% to $37.19 billion. The services business that includes app-store sales, Apple Pay usage and music-streaming subscriptions is on track to become a $50 billion business by the end of 2020, according to CEO Tim Cook. In Q4, revenue from this unit surged 17%, to about $10 billion.
For the year that ended in September, the Services business grew at a robust 27% rate, while Apple's Other Products segment reported revenue growth of 31%, indicating that demand for Apple’s new products, such as the Apple Watch, remains strong.
If you consider Apple’s strong product lines, its already progressing diversification strategy and the hefty amount of cash the company plans to spend on buybacks and growing dividends—in May it announced it would spend $100 billion on this program—the company's stock has only become more attractive after the recent weakness. If you're a long-term investor with an eye on the broader picture, this dip is nothing but noise. Without any doubt, Apple’s reasonable valuations and strong fundamentals will soon attract bulls again.
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