Q2 2013 and investing in Apple

On Tuesday Apple reported a pretty solid set of financial results for Q2 fiscal 2013. Revenue was $43.6 billion, which is up 11% year over year. But it’s also fair to point out that earnings were down year over year. In fact Apple posted EPS of $10.09 which is a decline from $12.30 last year.

There are plenty of industry observers and stock market pundits who are pointing out that “Apple is not a growth company anymore”. Factually, I think it’s better to say that Apple did not achieve earnings growth this quarter. They did achieve revenue growth (and quite reasonable growth), but they didn’t grow the bottom line.

Question is - can they get back to delivering growth? I think they can and I think they will. Let’s remember this is a long term game.

Before we get too far into this, let’s look at how Wall Street reacted. The stock climbed in after hours trading to the tune of about 5%. The market likes the numbers, and let’s remember that the market is all about the short term.

Why like the numbers? Because iPhone and iPad sales were pretty solid. Apple sold 37.4 million iPhones and 19.5 million iPads. In particular the iPad sales are up from 11.8 million a year ago. Most of this growth was driven by the iPad Mini, which the company says is being sold to mostly first-time iPad owners, proving that it’s not just cannibalizing the more expensive full sized iPad. It’s bringing Apple brand new customers.

And let’s stay focused on the prize. The market has shifted from PCs to mobile computing. Whereas Apple had single digit percentage market share in PCs for so long, it not stands up with Google as one of two ginormous leaders in mobile computing.

This is a huge growth market. Still. Tim Cook talked about the industry analyst estimates on the call. Specifically, IDC estimates the smartphone market will double between 2012 and 2016, growing to 1.4 billion units annually. Gartner estimates the tablet market is growing even faster, rising from 125 million units in 2012 to a projected 375 million by 2016.

Kinda puts things in perspective as to why Apple’s CFO, Peter Oppenheimer, would be quoted as saying, “We're willing to make short-term trade-offs in profits for long-term growth." This is important stuff. Wall Street hates it when companies sacrafice short term profitability, but in the end none of what Wall Street thinks matters. And Tim Cook made it very clear that they’re running Apple to deliver great products for the customers. In the end, the market follows. It does not lead.

In China, for example, there seems to be pretty heated demand for the iPhone 4. Cook points out that China is an interesting market where there is an overwhelming percentage of first time smartphone buyers. In a market like this, it makes sense to aggressively sell the iPhone 4. Get people hooked on the Apple product experience and keep them hooked as they upgrade later. It’s smart business. Same goes for having a lower cost iPad Mini.

So overall, I’m happy to see that Apple is still posting very solid revenue growth, especially when adjusting for the massive channel inventory build they had to do last year, which they didn’t repeat this year.

If I thought Apple’s gross margins were on a constant trajectory down, I’d be more worried. But I think it’s more accurate to say their margins have normalized. They are not going to pull in close to 50% margin like they did last year. There is too much global competition to allow for this. but can they sustainably generate mid 30% margins? Yes, I think so. Apple has a long history of pricing its products at a premium and generating solidly above-average margin.

My focus is on Apple’s constantly growing top line. And so far, they’re constantly growing.

Before I wrap up I’ll touch on Apple’s plans to use cash to buy back stock and raise the dividend. I think they’re doing exactly the right thing. Instead of massively raising the dividend, they’re raising it 15%. This puts the yield at about 3%, which is attractive but not insane. Yet it leaves tons of cash on the table for Apple to buy back its own stock.

To me this speaks volumes about management’s confidence. They’re telling us the stock is undervalued. As Cook said, they are “investing in Apple”. But in reality they are taking advantage of information they have about the company’s long term product roadmap that Wall Street doesn’t have as much faith in.

I’m not worried about the stock one bit.

Chris Umiastowski

Former sell side analyst, out-of-box thinker, consultant, entrepreneur. Interests: Wife & kids, tech, NLP, fitness, travel, investing, 4HWW.

  • Hey Chris, Was wondering if you think just using an iphone 4 is the best strategy for the china market rather than designing a newer "cheaper iphone" that everyone keeps on talking about. Wouldn't an older iphone be at a competitive disadvantage to a cheap new android model that say Samsung or one of the local Chinese manufacturers could make ? Also do you feel that by borrowing money money for the share repurchases, its also a statement that they want to keep their cash oversees to build more apple stores in places like china, brazil and Indonesia ?
  • "Before we get too far into this, let’s look at how Wall Street reacted. The stock climbed in after hours trading to the tune of about 5%. The market likes the numbers, and let’s remember that the market is all about the short term." you may have wrote this a bit too early. It's basically flat now (-.5%)
  • I believe apple has a strategy that is working for them. I think they will be able to continue to grow.
  • When it comes to quality , design , stability , security , great hardware& software and value for money iPhone is always One step Ahead . Samsung is compromised for all except big screen size .
  • This is a very opinion based comment considering Samsung is doing pretty well in the market. I have owned Apple and Samsung and believe they both give great quality, design, stability, security, great hardware/software and value for the money... However that is my opinion but I think Samsung has more going for them then just screen size or HTC/LG/Moto wouldnt be fighting to get to the top with them since they all produce large screen devices
  • I agree with you Chris! I'm an Apple fan since 1980 when I bought my Apple II and know I'm also a tiny shareholder. Apple will continue to be a successful company and the stock soon will return up.
  • If Apple has nothing to announce until the Fall or into 2014, then get ready for one or possibly two really brutal quarters. It will have been a whole year since the introduction of anything from Apple, and the pundits, analysts, naysayers, etc will have had a field day the rest of this year. People like Leo Laporte have already written Apple off as being "done" and this will only get worse. Sitting out an entire year is not good for any company. The only thing good is that Microsoft is dead in the water as well, with the combined flops of Windows Phone 8 and Windows 8.
  • Glad i don't take financial advice from this biased writer. Apple have too much money outside the USA which is one of the many problems facing them along with reporting no new phone until the fall which will help to short it with nothing to worry about until then.
  • I have no issue with this writer. That being said, I think people would be a bit foolish to take your primary stock advice from what is basically a fan site. I heard tons and tons of people on Precentral screaming about buy Palm as it plummeted from 16.5 to 14 to 11 to 7 and on down. Now unlike this author those were users not writers. But anyways those users insisted they were right. And you're talking like two years of decline where they all insisted it was a great timet to buy palm cause it would surely go back up because it was the greatest thing ever. I'm sure there are still people waiting for the return of webos willing to throw money based on their love of cards. Apple is however not Palm. It's a great company that's for the most part been well run and it's profitable unlike Palm. lol.
  • I want to point out that not only is Chris a writer, but he has over 10 years of experience as a financial advisor in the tech sector.