Still plenty of reasons to buy Apple
U.S. stocks have been slammed by the economic shutdown, but tech giant Apple (ticker: AAPL) has held up relatively well. In fact, after recently announcing fiscal second-quarter earnings and revenue beats, Apple reports that shares are up slightly year to date. There's no question that sales of Apple iPhones, iPads and other devices will take a hit in the near term, and Apple opted not to provide fiscal third-quarter guidance. Users planning to upgrade their iPhones in coming quarters may now delay those upgrades. But there are still at least 10 reasons to buy Apple stock, according to Bank of America analyst Wamsi Mohan.
Revenue is solid.
Apple is not immune to the global health crisis. But Apple's core businesses are relatively stable, Mohan says, while many businesses have been completely devastated. Apple reported just a 2.7% drop in net income year-over-year during the fiscal second quarter and a 0.5% uptick in revenue. Mohan says Apple's revenue will likely decline by only about 2% in the first half of 2020. Bank of America is still calling for $263.21 billion in Apple revenue for 2020, a 1.2% growth rate in the middle of what will almost certainly be a U.S. recession.
First-half device sales weakness is temporary.
Investors should brace for some rough iPhone and wearable sales in Apple's fiscal third quarter, Mohan says. Apple management didn't issue formal guidance for the June quarter, but it did discuss device sales on the earnings call. The company anticipates that iPhone and wearables revenue trends will weaken in the June quarter compared with the March quarter. Meanwhile, iPad and Mac sales will likely improve in the June quarter, Mohan says. Mohan actually raised his estimate for fiscal 2020 iPhone unit sales from 175.1 million to 184.8 million but lowered his fiscal 2021 estimate by 2 million.
Inventory levels are healthy.
One of the biggest concerns about the economic shutdown is the effect a huge buildup in inventory could have on prices and margins. Fortunately, Mohan says, Apple's inventory levels are relatively healthy so far. Apple reported nine days of inventory at the end of March. That number is up from seven days at the end of the previous quarter but roughly in line with the nine days it averaged in fiscal 2019. Mohan says investors can expect that number to peak at a manageable 15 days in the fiscal third quarter before it begins to decline again.
New products are coming.
Heading into 2020, many Apple bulls were anticipating a major global device upgrade cycle. Mohan says Apple appears to be on track to launch its 5G iPhone in the second half of 2020. Although many employees at its California headquarters are working from home, Apple launched new iPad Pro and MacBook Air models in the most recent quarter. While most experts expect the first 5G iPhone to be announced in September, Mohan says limited global 5G network coverage likely means the bulk of 5G sales could come in fiscal 2022 and beyond.
Online sales are mitigating store softness.
Just because Apple Stores have been closed doesn't mean that Apple isn't moving products. Online sales helped offset the effect of store closures in the fiscal second quarter. In fact, Apple said it generated record combined online and offline sales in March. Apple CEO Tim Cook said the second half of April was better for online device sales than both the second half of March and the first half of April. While online sales may not fully make up brick-and-mortar losses in the third quarter, pent-up retail demand could jump once global economies start to reopen.
Services revenue growth is impressive.
Apple is slowly transitioning its sales mix away from hardware sales and toward more consistent, higher-margin services segment sales. The company reported 17% services revenue growth year-over-year in the most recent quarter, including record revenues for the App Store, Apple Music, Cloud and App Store search advertising. At the same time, services gross margin increased another 1 percentage point in the quarter to an impressive 65.4%. Services penetration is still relatively low, Mohan says, creating opportunities for Apple to boost average revenue per user over time. Apple now has 515 million paid subscriptions across all of its services offerings.
Apple's capital returns are staggering.
While other companies are suspending buybacks and slashing or eliminating dividends, Apple is moving in the opposite direction. In the fiscal second quarter, Apple returned $22 billion in cash to shareholders, including $18.5 billion in buybacks and $3.4 billion in dividends. Apple also announced a new $50 billion buyback authorization on top of the $40 billion remaining under its previous authorization. In addition, Apple raised its dividend by 6%. At a new yield of about just 1.1%, Apple could continue to hike its payout as it moves toward its goal of bringing net cash to zero.
Market penetration is rising.
As of the end of 2019, Apple had more than 1.5 billion active devices around the world. Still, Apple captures less than 20% of global smartphone market share. Mohan says Apple should reach 600 million paid subscriptions by the end of 2020. In other words, Apple's user base is massive but growing. Apple has room to expand its market share, and it has plenty of opportunities to better monetize its user base. Increasing its services revenue is a particularly appealing route, given that Apple's customers tend to be relatively high earners compared with other device users.
Manufacturing partners are up and running.
One of the biggest concerns for Apple investors from the beginning of the outbreak was Apple's supply chain. Without its supply chain and manufacturing partners, Apple would be helpless to get its products to market. Fortunately, Mohan says, the vast majority of Apple's suppliers and manufacturers are now back up and running. Apple's leading iPhone manufacturer is Taiwan-based Foxconn, which said in mid-March that it was back to full production. Foxconn said its supply chains to its China facilities had also returned to normal, and Apple said production levels were back to "typical levels" by the end of March.
Apple's balance sheet is unmatched.
During periods of economic uncertainty, investors start to focus increasingly on financial health. Apple has a net cash position of $83 billion and $11.5 billion in free cash flow in the fiscal second quarter in the middle of an economic downturn. Mohan projects just a 2.2% drop in free cash flow in fiscal 2020 to $57.5 billion. Apple has roughly $19 per share in net cash and absolutely no liquidity concerns. As of the end of March, Apple had $193 billion in cash and marketable securities compared with just $110 billion in total debt.
Reasons to buy Apple stock:
-- Revenue is solid.
-- First-half device sales weakness is temporary.
-- Inventory levels are healthy.
-- New products are coming.
-- Online sales are mitigating store softness.
-- Services revenue growth is impressive.
-- Apple's capital returns are staggering.
-- Market penetration is rising.
-- Manufacturing partners are up and running.
-- Apple's balance sheet is unmatched.
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