Beware Apple's Valuation Canyon
Apple Inc. investors are hoping history repeats itself. They also hope it doesn't.
Apple believers for some time have viewed the newest iPhone models, particularly the drastically overhauled iPhone X, as something of a replay of Apple's golden period when it released the first larger-screen iPhones in late 2014.
The iPhone sales surge in the year-plus after the debut of the iPhone 6 has set a benchmark for Apple bulls. If Apple can pull off another successful product cycle in the mold of the iPhone 6, the thinking goes, and at the higher prices that the current iPhones are commanding, the company will be in stellar shape. Recent iPhone history maybe won't repeat itself exactly, but Apple bulls think it will rhyme.
But there's an awkward dark side to Apple's recent history, too. There's a well-discussed phenomenon in which Apple's share price and valuation tend to peak at or near the debuts of prominent iPhone models and typically stagnate or fall afterward. Given this trend, it's easy to wonder whether Apple shares are more likely to fall rather than rise even if the iPhone X is a hit.
This Apple roller coaster matters now both because the significantly remodeled iPhone X just came out and the company's shares are nearing a peak valuation. Apple's stock is trading about 15 times expected earnings over the next 12 months, according to Bloomberg data based on a blend of quarterly estimates. That is near a five-year peak of 15.8 set in May.
Apple stock watchers certainly don't think shares are poised to decline. None of the 44 analyst ratings on Apple are a sell or the equivalent, Bloomberg data show. But it's important to recall that the last sustained peak Apple stock multiple was, yes, in the months before and after the iPhone 6 debut in 2014.
Even as Apple was raking in revenue from the tidal wave of people who bought iPhone 6 models in 2015, its multiple started to contract. In August 2015, just before Apple declared its "most successful year ever" with a 28 percent jump in revenue for its fiscal year, its shares were trading at less than 11 times forward earnings. The next year was a fallow period for Apple's finances and its share price.
It's hard to know, of course, whether past performance predicts a future valuation contraction for Apple. The new iPhone models may sell well; analysts have said interest in the iPhone X seems strong, although it's difficult to know in part because Apple has been able to produce relatively few of the tricky-to-make devices.
And even if Apple doesn't sell many more iPhones in the coming year, the company is getting a lift from other places. Apple revamped several of its products at once, including Mac computers and the Apple Watch, and those sales are helping to pick up the slack from relatively modest growth in iPhone sales through the September quarter.
And Apple and the stock-investing world have discussed for a while the company's ability to sustain revenue growth independent of iPhone product cycles. If the hundreds of millions of people who rely on their iPhones buy more video game apps, newspaper subscriptions, Apple headphones and other accessories, those "services" will make Apple less reliant on the hit-or-miss cycle of consumer electronics.
Apple's track record here is impressive. In Apple's fiscal fourth quarter ended Sept. 30, the services business -- a grab bag including revenue from App Store sales, AppleCare warranties, Apple Pay and more -- contributed 38 percent of Apple's revenue growth. The iPhone product line contributed 12 percent of quarterly revenue growth. 1
But there's another relevant takeaway here from Apple's stock multiple history. Apple shares tend to be relatively range-bound and haven't recently been higher than about 16 times forward earnings. Google, Facebook and Microsoft trade at 20 or more for each dollar of future earnings. 2 That valuation gap shows investors remain skeptical that Apple is transforming from a hit-driven consumer electronics maker into a company that has more in common with relatively predictable internet and software companies.
Apple's stock multiple has been a useful barometer for the company's stock fortunes and for the company's fundamental character. Those who don't remember this Apple stock past may be doomed to be disappointed.
Excluding a mysterious one-time gain of $640 million, Apple's internet services revenue increased about 24 percent from a year earlier. The reported growth rate was 34 percent. Apple has said only that the extra bump was a "one-time adjustment" for "a change in estimate based on the availability of additional supporting information." No, I don't know what that means.
The valuation gap between Apple and the internet or software titans persists even accounting for Apple's huge stockpile of cash.
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Daniel Niemi at firstname.lastname@example.org