Growth Stocks: Apple Inc.

• Apple (AAPL.US) is dedicating a substantial portion of its research and development (R&D) funds to fuel its generative artificial intelligence initiatives and integrate AI capabilities into all of its products.

• To counter declining revenue in its iPhone, iPad and Mac divisions, Apple is designing new product launches and performance enhancements.

• Apple's services segment continues to show promise, with more than 1 billion subscribers and additional monetization opportunities.

• Buyers eager to invest in Apple (AAPL.US) shares have been rushing to do so over the past week, boosting overall sentiment. Making the company manage to recover almost all of its August losses, marking a surprising turnaround.

• Revised projections indicate that initial shipments of Apple's iPhone 15 could potentially reach 86 million units, indicating a strong forecast for sales for the holiday season.

• Institutional investors were relatively cautious on AAPL, however this week's surge suggests buyers have returned with enthusiasm.

• Apple's dedication to improving production efficiencies is exemplified by its use of 3D printers to fabricate steel chassis for upcoming Apple Watches.

Apple investors played a key role in this week's impressive rally, considering AAPL hit its lowest point in mid-August. The speed of this recovery was surprising, hinting that institutional investors may be turning their attention to Apple as the company prepares for the official launch of the iPhone 15.

For the past three quarters, Apple has experienced year-over-year sales declines, raising concerns among investors about its growth potential. Despite a recent drop in Apple shares following mixed earnings reports, uncertainty around its premium valuation still lingers, especially given the absence of substantial growth. However, there are signs that Apple has a plan to reinvigorate growth in the coming months, which could ease valuation concerns and allow for a short- to medium-term rally in its shares.

Addressing the Challenge of Growth:

Apple recently released third-quarter results, revealing a 1.4% year-over-year decline in revenue to $81.8 billion, in line with expectations. This marked the third straight quarter of declining sales, contributing to Apple's stock price slide in recent weeks.

The biggest disappointment came from iPhone sales, which fell 2.5% year-on-year in the third quarter to $39.670 million. However, there are signs of a possible improvement in sales in the coming months. Apple has been gaining market share in India, and Apple CEO Tim Cook has expressed optimism about accelerated sales and services in the fourth quarter.

In addition, the iPhone 15 is expected to launch on September 12, with a likely starting price of $799 and advanced AI features, which could stimulate further demand and increase sales.

In addition to tackling iPhone sales, Apple is seeking solutions to offset declining revenue at its iPad and Mac divisions, which reported sales of $5.79 billion and $6.84 billion in the third quarter, down 19.8% year-over-year and of 7.3%, respectively. Recent reports suggest that Apple plans to release a new version of its flagship tablet next year and is testing new M3 chips for an improved MacBook Pro, scheduled for release in late 2023 or early 2024. These initiatives seek to significantly improve the performance of devices, incentivizing customers to upgrade their devices and making up for the recent lack of growth.

Apple's wearables business experienced 2.5% year-over-year growth in the third quarter, generating $8.280 million in revenue. The launch of the Vision Pro VR and AR headset in early 2024 is expected to spur further growth, offsetting declines in other product categories and expanding Apple's fully available market, even despite its steep starting price tag. at $3,500.

Apple's services segment remains strong, with revenue of $21.210 million in the third quarter, up 8.2% year-over-year. This segment has more than 1 billion subscribers, which represents ample opportunity to monetize up to 1 billion additional users, given Apple's 2 billion device base at the end of the third quarter.

Artificial intelligence

Apple is venturing into generative artificial intelligence, as CEO Tim Cook acknowledged during the latest earnings call. A portion of the company's R&D budget has been devoted to generative artificial intelligence, and there are reports of an AI chatbot called AppleGPT being developed. It is speculated that Apple will make significant AI-related announcements in 2024.

Given these upcoming product launches and potential announcements, Apple has a genuine opportunity to address the recent declines in sales and get back on a growth trajectory. This could strengthen the bullish case for Apple shares, especially as analysts believe Apple can achieve annual sales and profit growth of more than 6% over the next two years due to these launches. This underscores the potential for Apple shares to rally to current levels.

Perspectives

Looking at the long-term outlook, Apple is likely to face limitations on the upside potential of its shares until it significantly reduces its exposure to China and achieves growth rates comparable to its Big Tech peers.

Enthusiastic AAPL investors are probably already aware of the highly anticipated product launch event scheduled for September 12, titled "Wonderlust." Apple intends to reinvigorate US phone sales with this launch, which is expected to include USB-C charging ports for all models.

Recent estimates from DIGITIMES (here) suggest a 5.1% year-on-year decline in the phone market by 2023, due to macroeconomic challenges and high inflation affecting consumer spending. However, they have improved their initial shipment estimates for Apple's iPhone 15, going from 83 million units to 86 million units. Although this number falls short of the initial 90 million units of last year's iPhone 14, it suggests that Apple's holiday season sales could exceed expectations.

Other research houses also expressed optimism in anticipation of the Wonderlust launch event. They highlight above all that the base price of the iPhone 15 favorably positions Apple as an "exceptional offer" compared to previous releases. Barron's calculations even suggest that, taking inflation into account, the base model of Apple's iPhone 15 could be more affordable than previous generations, given the price level.

However, Apple has faced challenges in its supply chain, which could result in higher prices for its Pro series models. Recent updates from well-known Apple supply chain analyst Ming-Chi Kuo indicate a " delayed start of development" for the Pro Max model, delaying its mass production compared to other iPhone models. As a result, investors are advised to be on the lookout for unexpected setbacks in the months leading up to launch. However, he did not anticipate these challenges to persist and hamper Apple's holiday season sales efforts.

Apple is actively working on optimizing its production processes. A recent report revealed that Apple is exploring the use of 3D printers to manufacture the steel chassis for certain models of upcoming Apple Watches. This demonstrates Apple's continued commitment to improving production efficiencies and mitigating supply chain issues. The report also suggests that Apple has been secretly researching 3D printing techniques for about three years, underscoring the importance of this approach. Additionally, Apple Watch users can expect new steel chassis with the upcoming Apple Watch Series 9 at the Wonderlust event.

Segmentation of sales by product

Revised analyst forecasts indicate Apple's revenue growth could bottom out in the September quarter before rebounding to a 5.7% year-over-year increase in the December quarter. Importantly, these positive growth trends are expected to continue through fiscal 2024, suggesting that recent investors are eyeing a strong recovery.

Source: Apple IR, XTB Research, own elaboration.

Given the imminent presentation of the new iPhone15 terminal, it is possible that we will see in the next presentation of results a new peak in sales that will increase the representativeness with respect to the total number of products (blue line). Similar to what we've seen in prior years in the same new product quarters.

On the contrary, the weight of cloud storage services and AppleTV receded (green line), in these same quarters of presentation of new iPhone terminals.

The recent increase in Apple's performance has brought it back to levels last seen in early August. The significant pick-up in momentum clearly indicates a substantial shift in investor interest in the company, after a solid period of consolidation over the past two weeks.

It appears that expert or institutional buyers took advantage of the dip in mid-August, strategically buying shares from those who sold them rashly. Apple's remarkable resilience has taken me by surprise as it has managed to recoup most of the losses suffered in August.

Market consensus

Based on market consensus, the median price target stands at $200.04 per share. Although depending on the scenarios on the results, other approaches are also indicated. In the bad scenario, the price target would be $149, down $40 from Monday's closing price. As well as a good scenario, where the "upside" would be at $240, almost 27% more.

Source: Seekingalpha, Apple market consensus price targets.

Factors to Consider:

Despite the potential for Apple shares to gain momentum with the launch of new devices in the coming quarters, there are notable risks related to geopolitics and valuation that need to be considered.

In recent months, Sino-American relations have continued to deteriorate. China has imposed export restrictions on materials used in chipmaking, US officials have expressed doubts about removing tariffs, and the Biden administration has limited investment in certain segments of the Chinese tech industry. Given China's heavy reliance on Apple's supply chain, coupled with an estimated eight-year long lead time to relocate just 10% of its production capacity off the mainland, the company faces continued vulnerability to future operational disruptions. foreseeable.

Simultaneously, after experiencing declining sales for the past three quarters, questions are raised about the justification for Apple's current valuation. Despite lagging behind its Big Tech peers, which have reported respectable returns of late, Apple maintains a market capitalization in excess of $2 trillion, trading at more than seven times its sales and roughly 30 times its earnings. With the current growth trajectory of the company in question, this valuation might no longer seem reasonable. While stocks could experience a revival when new products are introduced, there is a risk of subsequent underperformance once the novelty of these launches wears off, which could leave stocks in an overvalued state and make it more difficult to generate returns. superiors.

Technical situation

At present, the price of Apple is trying to recover all the fall suffered during August. After a rise in the year of 52%. In the rectangles, the market consensus projections. Source: xStation.

In conclusion:

Clearly geopolitical risks will continue to cast a shadow over Apple for the foreseeable future. However, new product launches and the company's future foray into the field of generative AI could offer a means to mitigate some of the challenges stemming from the recent underperformance of certain product categories. If this scenario comes to fruition, Apple shares could rally in the short to medium term, however valuation concerns remain as the company's ability to capitalize on various growth opportunities could reshape sentiment and strengthen the bullish case.

Dario Garcia, EFA
XTB Spain