I’ve written more articles about Apple (AAPL, Financial) than any other company we’ve ever owned. If I were to lie on Dr. Freud’s couch, then you’d find there were two Vitaliys writing these articles. First, there was Vitaliy the contrarian. Despite Apple’s ginormous size and the several dozen Wall Street analysts following the company, I felt it was misunderstood by investors. Wall Street rarely looked beyond the next quarter or two. Investors always drew parallels between Apple and Nokia/Blackberry, expecting the iPhone to eventually follow their path into oblivion.
This was the theme of my earlier articles on Apple: Look past the next year or two; Apple is not Nokia; the iPhone is software in a hardware package, and thus there is a recurrence of revenue that is underappreciated. (Nokia with its Blackberry did not have the brand relationship nor the recurrence.)
And then there was Vitaliy the geek, who – I am almost embarrassed to admit – has owned every iPhone (except 8: I skipped to X). I cannot remember a single company I ever owned that elicited such a strong emotional response from me, both as a stock and as a maker of great products.
But lately my articles about Apple have been of a different kind: bittersweet goodbye letters to the stock. I became disillusioned with Tim Cook’s efforts to create a new category of products (Apple failed at building a car), and the stock price has appreciated to the point where the valuation demands that I have to a clearer crystal ball about Apple’s future than I possess.
I get a feeling I am not saying final goodbyes. Investors’ relationships with Apple are somewhat binary – it’s either love or hate; there is no middle ground. Today Apple is loved. At some point in the future that will not be the case.
Now Apple must show what’s next after iPhone X
The iPhone X is likely to be a phenomenal success for Apple. But its success will not be driven by anything new that the new phone packs inside. Instead, its success will be based on the phone’s screen size. Essentially, iPhone X provides the same screen real-estate as an iPhone Plus, but with the sleeker form factor of the iPhone 7 or 8.
Apple has done a great job at changing the paradigm of our thinking about the iPhone. If you only care about making phone calls, then an iPhone 4 is good enough. Why pay for more? You probably don’t even need to upgrade your phone for years, as long as the battery keeps holding its charge. However, for most, the actual “phone” function is the least important of the iPhone.
From an earnings perspective, iPhone X will be a tremendous boost. It will increase the average selling price per unit by a few hundred dollars, which should help not just sales, but profit margins as well. This is actually healthy for both Apple and the entire iPhone ecosystem (including DRAM and solid state drive makers — for example, we still have a large position in Micron Technology). People were also postponing buying new iPhones while waiting for the iPhone X; thus, the number of units sold will probably exceed most optimistic expectations.
Then the question becomes, What is next? Higher-priced iPhones will also change the dynamics of the upgrade cycle. Apple is going to have a harder time convincing iFanatics to shell out $1,000-$1,200 every year (or even every two years). The upgrade cycle will likely be elongating to three or four years. Thus, any blow-out success of iPhone X in 2017 and early 2018 will be coming at the expense of future years. Even if you are a loyal Apple shareholder, you have to be prepared for this.
Absent a new category of products, Apple is turning into a fully ripe stock. Yes, it will look statistically cheap based on 2018 earnings, but that will not be the case if you look at 2019 or 2020 earnings. As all the excitement subsides, Apple stock will have to answer an extremely important question: What is next? After all, the value of any business is a lot more than the earnings generated next year, but far beyond that.
I am the CIO at Investment Management Associates, which is anything but your average investment firm. (Seriously, take a look.)
I wrote two books on investing, which were published by John Wiley & Sons and have been translated into eight languages. (Polish is one of them – go figure.)
In a brief moment of senility, Forbes magazine called me “the new Benjamin Graham.” (They must have been impressed by the eloquence of the Polish translation.)
