For the first time in 16 years, Apple (AAPL) pre-released guidance on their earnings; it’s not good. In a letter to shareholders, CEO Tim Cook issued lower earnings guidance for the quarter. Revenue was anticipated to be ~$92 billion for the quarter but new guidance brings this down to ~$84 billion. Nearly all of this is China. Given Apple’s current financial landscape, I see a potential investment in Apple as a solid bet. However, once you factor in that eventually the trade war will end and the potential of improvement in the Chinese economy, then an investment in Apple means you would be in front of the potential ~$8 billion increase in revenue from China. This makes an investment in Apple a strong buy in my opinion.
The reaction in the markets from the recent news was swift for Apple. Over the past few months, Apple’s stock had been moving lower and lower. However, on this specific move, the stock moved from ~$175.00 all the way down to ~143.00.
Here is a look at the latest chart:
A Short Word On The Standout Concerns
Tim Cook outlined four major factors with regards to earnings; Timing of iPhone releases, foreign exchange valuations, supply constraints on new product releases and emerging market concerns.
The real issues lay in the later of the four outlined factors: the emerging markets economic slowdown. This all largely boils down to one place: China. While all four factors are weighing on this quarter’s revenue, I wanted to focus almost entirely on the latter part of this, the China factor. However, I will be brief simply because I am looking at a potential investment in Apple as its current revenue stands. Apple’s revenue from China is diminished and the numbers newly printed are what a new investor is investing in.
Nonetheless, China’s economy is slowing. True. But, and as I outlined in an article about the Chinese economy, part of the slowing is a result of the US economy slowing down from hyper-growth rates. The Federal Reserve pushed short-term interest rates down to near 0% for several years following the 2008 Financial Crisis. It is only recently that the Fed is raising interest rates in response to the US economy growing at a sustained growth rate.
It is my belief that the US economy is far stronger than most are paying attention to. The GDP growth rate is currently at 3.4% Y/Y; this is down from 4.2% just last quarter. Meanwhile, concerns of decreasing growth have diminished with December’s jobs report printing a very healthy 312k new jobs.
The Chinese economy is about 40% manufacturing. The rest is government, agriculture, and consumer. As America’s economy continues forward, it is my firm belief that the country’s manufacturing sector will respond and pick back up. Eventually, this may lead to increased revenue for Apple.
But, I am interested in an investment today and can only look at the current numbers available.
Starting From Where We Are
With China’s sales diminished as they are, ask yourself what value does Apple bring with its revised revenue, profits and the price you can pay for these. Then, what would happen to Apple’s revenue if the tariffs were removed and if economic growth came back to China?
Given the future guidance, and from what analysts are predicting, Apple should earn ~$12.15 per share for Fiscal 2019. A value investor would pay a certain multiple for buying into the company. Given the current EPS and the price of the stock, $147.00, the multiple for future earnings is 12.06-times and the TTM is 12.6-times.
Here is a historical chart on EPS multiples for Apple, company data via MacroTrends:
When you look at where Apple’s revenue is right now with its EPS, the company’s stock is roughly in line with its historical averages. From a value perspective, I like Apple more today than I have in a very long time.
The Bright Spots in Apple’s Guidance
Despite the large erosion in Apple’s revenue from China, Tim Cook states that Apple hit all-time records, yet again. Specifically, this:
Also, as I mentioned earlier, revenue outside of our iPhone business grew by almost 19 percent year-over-year, including all-time record revenue from Services, Wearables and Mac. Our non-iPhone businesses have less exposure to emerging markets, and the vast majority of Services revenue is related to the size of the installed base, not current period sales.
There was another factor that weighed on Apple, that being the fact that their new product releases did not coincide with previous years’ new product releases. Because of this, comparisons are difficult from a year-over-year basis. There will be a delay in getting sales from the current new releases. We will likely get more information when Apple releases its next earnings in about 2 months’ time.
The China Benefit
Keep in mind that there were two factors that contributed to the sharp decline in Apple’s revenue: The slowing Chinese economy and the trade war. And, this is where I see the real benefit to investing in Apple. What happens to Apple’s revenue when the trade war ends and if China’s economy starts expanding again? The revenue decline is ~$8 billion from China. I see Apple as a solid investment at the current multiples. But, it’s the potential of the return of Chinese revenue where the bigger potentail lays.
There is a clock ticking on the trade war. Both sides have agreed to not raise tariffs over a 90 day period, of which, 30 of those days have already lapsed. President Trump has tweeted that there has been significant progress made in trade talks. My bet is that the trade war and tariffs go sooner than later. There is reason to believe that this may happen.
Trump is a showman. A perfect example is the new NAFTA agreement that was signed not long ago. The new deal is largely the same deal as the old NAFTA deal. But, the president now has the ability to tout significant progress, as he has done, with trade.
I believe the outcome for China is going to be the same; not much change but the ability to hail significant progress. With that, there will likely be relief from the tariffs bringing competitiveness back to Apple’s products in China.
With regards to China’s slowing economy, however, I sit in a different position. I am certain that the trade tariffs have affected China’s economy somewhat, but with all economic data you can only analyze the data after it has been collected; we don’t know the outcome from this yet. I believe that there will be some relief in China’s economy moving forward for two reasons, the easing of the tariffs and the fact that China’s economy will advance along with the US. I mentioned this at the beginning of this article.
At the same time, however, China faces long-term structural issues with their economy. Their Debt:GDP ratio is said to be ~260% (Because of the shadow banking sector of China’s economy, we simply do not know the extent of the debt levels). However, the Chinese government has addressed these issues and progress is being made. But, that is going to be a very long road and until the debt levels are cleaned up to modest levels the Chinese economy will likely grow at slower levels as banks clean up their books.
Is Apple A Buy?
I have been interested in buying Apple stock for some time and wrote about it in a widely read article here on Seeking Alpha a little over a month ago. My price target at the time was a mere $144.00 based upon revenue and earnings at that time. While my price target has been achieved it has done so because of unforeseen reasons.
As I mentioned, I had been looking for an entry point to buy Apple for a long-term holding; by long-term, I mean about 10 – 15 years. I am building up a portfolio of stocks to own for significant periods of time. Apple is a stock I want to own. I have been a die-hard Apple enthusiast since my first Mac Plus back in 1986; I have never owned any other brands.
Given the revenue and earnings, and the current EPS levels at the price of $145.00, I am finally – and happily – an owner of Apple stock. I see the investment as a strong opportunity over a significant timeframe. I see the price as a great entry-level devoid of hype and hysteria that permeated not too long ago.
And, I also see a potential boon to the stock: China. Whereas China was the reason for the ~$8 billion drop in revenue, once the economy turns a corner and once the trade tariffs are lifted, couldn’t Chinese revenue be a potential increase to Apple’s revenue? I believe so. I have removed the Chinese revenue from my current analysis. Apple is a strong buy at this level. The additional revenue potential from China will be the icing on the cake.
Disclosure: I am/we are long AAPL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
