To The Moon

Apple ($Apple(AAPL)$) has had quite the year so far, both in terms of stock valuation and market reach. Apple is a veritable repository of case studies on marketing and promotions for products in a space that is hotly contested globally. However, given trends in its net sales and dominant product types, there is ample room for a word of caution.

Revenue Segment and Trends

As per Apple’s financial statements, the share of net sales (i.e. revenue) disaggregated by region as well as product type is shaping up to be largely the same as that seen in its FY 2021 results:

Two facts that become clear are:

• The Americas is the biggest driver for revenue, with all of Asia (i.e. China, Japan and the rest of the Asia-Pacific region) together coming nowhere close. This makes Apple an “American” story.
• Outside of the iPhone, no other product comes close to having as much relevance to being a revenue driver. This makes Apple more of a “smartphone” company than anything else.

In terms of trends seen both in Year-on-Year (YoY) as well as the quarter-on-quarter (QoQ) since the last FY results, the picture gains additional detail:

Three additional points of distinction gained from this are:

• While all of Asia (particularly China) was the driver for explosive revenue growth in FY 21, the region now shows increasingly ominous revenue decline in the Year Till Date (YTD).
• While Europe trends towards a decline as well, the Americas is the only region showing the least decline in the previous quarter.
• Revenue trends in two products that traditionally accounted for nearly 60-65% of all its revenues – the iPhone and Mac – have witnessed a solid collapse in revenue with other product segments not picking up the slack.

Total net sales in the three quarters since last FY’s results stand at being 16.9% lower than the previous FY. Ordinarily, as trend analysis studies in articles in the past had shown, this would have been enough to suggest that it’s a safe bet that Apple could break even by FY-end and perhaps even show a modest gain. However, this doesn’t imply that the forward outlook is going to be similar – at least in terms of unit sales.

The Cost-Price Gap

Apple’s iPhone line has nearly always maintained a high markup relative to the cost it incurs from its contract manufacturers. For instance, it has been estimated that the previous model – the iPhone 13 – has at least a 75% base markup.

In another prior model – the iPhone X – it was estimated that the cost of parts relative to price was the lowest among its top competitors (including its own predecessor):

It’s a fair bet that the iPhone 14’s competitors – both present and future – would show a similar level of disparity in terms of the “cost-price gap”.

The higher price point doesn’t necessarily imply a better or feature-rich experience, as Apple’s bete noire Samsung – and comparable product manufacturer – is fond to point out. For example, in September 2012, Samsung ran an ad with the tagline “It Doesn’t Take a Genius” in major newspapers all across the Western Hemisphere touting its product’s features relative to those of the iPhone 5:

Almost exactly 10 years later, Samsung ran a series of social media campaigns about the iPhone 14’s "big upgrade" – the 48-megapixel camera:

Some Theories about Apple’s Market Resilience

Given that Apple doesn’t necessarily produce “best-in-class” smartphones relative to their price points, the question of market resilience (at least in the U.S.) can be estimated in historical terms.

First, the company’s excellent relationship with telecom service providers meant that the product’s high costs were “belayed” across a two-year period. Historically, this meant that the provider would earn alittle morethan the phone’s upfront cost over a two-year period while locking the customer into a contract for that period. In exchange, Apple is able to transfer the “payment default risk” off its books. Recent initiatives, however, have drawn the two-year payment plan’s costs largely on par with that of the upfront cost across all carriers, including Apple’s “in-house” store.

Second, Apple’s PR campaigns have helped foster a unique sense of “social equity” among the buying public over the years. This sense of “social equity” from the mere act of owning a device has led to some rather amusing consequences: over the years, media outlets have highlighted surveys indicating that iPhone users in the U.S. prefer not to date Android phone users. For example, a survey by Match.com confirmed this in 2017 while a survey by Decluttr confirmed it again in 2018. In 2022, a survey by British price comparison platform MoneySuperMarket (which also received significant mentions in digital media) on dating sites across the Western Hemisphere where the device used by a profile is shown indicate that Apple users get more matches than Android users.

However, a word to the wise: surveys are only as good as their sampling techniques and ripe for all sorts of interpretation. For example, in 2022, app-based motor insurance startup Jerry found that Apple users tend to bepoorer, have lower credit scores and are worse driversthan Android users. All the surveys mentioned were done on relatively smaller scales and aren’t as carefully designed as those executed by, say, the Pew Research Center.

The popularity of the optics associated with this imputation of “social equity” is an important lesson in “branding” that business school graduates, startup founders, “tech gurus” and social media influences have studied and emulated ever since it became apparent that not having the “best-in-class” doesn’t necessarily exclude one from being able to lead in a race.

The third point is rather intuitive: switching devices is a relatively easier experience if the new device has the same operating system. iOS is exclusive to iPhones while Android users have a wide range of phone makers to choose from. Thus, it’s more likely that an existing iPhone user will switch to another iPhone. It bears noting that this is largely a matter of perception: given that the “range of use” for most phone users is rather standardized, the learning curve for device switching in either direction is rather flat.

The choice of “paying more” for “less” isn’t necessarily a choice that most customers would be comfortable with in more recent times.

Global Smartphone Shipments Are Falling

It has been estimated that, as of Q2 2021, Apple’s share in global smartphone shipments have shrunk back to nearly Q1 2021 levels:

In the U.S., the company’s market share has shrunk back to Q3 2021 levels, with Samsung being a net beneficiary in recent times:

However, it bears noting that smartphone shipments have been falling in the YTD:

The quarter-wise “heat map” indicates that neither Apple nor Samsung have maintained a constant winning streak in comparative performance.

In terms of pricing, Apple products globally and predominantly compete against a set of products offered by Samsung and Xiaomi. In the QoQ trends in the YTD until Q2 2022, Apple has had a precipitously larger fall in shipments relative to the other two global rivals:

As previous articles on U.S. wages and debt indicated, there is an increasing tendency among the U.S. buying public to not spend, given inflationary effects and rising debt (and loan defaults which the Federal Reserve considers to be “masking potential distress”). Paying “more” for “less” is increasingly less sound (financially) than, say, two years ago.

Price Ratio Trends

There’s a very good reason why Apple’s stock should be considered a “bellwether” indicator for the S&P 500 ($SPDR S&P 500 ETF Trust(SPY)$) and vice versa. Lets consider the Price to Earnings (PE) Ratio of the two in recent years:

The median value is a reasonable “baseline” for longitudinal trends when coupled with correlation of observations. While observations can indeed go north or south of the median, the correlation will advise on its degree of correctness.

With these in mind, 2020 was a stalwart year: the implied PE Ratio of both the index and the company’s stock were nearly identical with a very high correlation. The buying spree observed in the company’s products in 2021 imputed a much higher median on the company’s stock and upended the correlation with the index, thus imputing an “overvaluation” effect. In the YTD, this effect is winding down and correlation has a “steady increase” effect in more recent observations.

What also needs bearing in mind is that the S&P 500’s PE Ratio is nowhere close to the historical average built up over the course of the 21st century and much farther away from the lows seen in the financial crisis of 2008.

In other words, given the company’s historic “bellwether” status with the S&P 500 and the fact that the underlying factors affecting consumption haven’t received adequate remedy yet, there is no reason to assume that the bottom is apparent just yet – either with the index or the company’s stock.

In Conclusion

Given trends in revenue shares, Apple is currently inching towards being more of an "American smartphone" company than a "global hardware and media" company. However, the two-tiered revenue segment study does indicate that, even with lower-trending sales volumes, the higher product price commanded by the products imply a potential for at least matching previous FY revenues is if there continues to be a buy-in on the "brand" by a reasonably smaller set of customers. This means that the company can - at least in theory - continue to attract a "creamier layer" of buyers as the price increases. Increasing exclusivity is par for the course in brand-building.

However, the company seems to be banking on entering emerging markets with "budget" models: aggressive sales and promotional campaigns centered on revamped models of its SE stable - which haven't been very encouraging in the U.S. - have enabled it to capture 3% of the Indian smartphone market in Q2 this year. However, India - like most parts of Asia in general - is home to a mature customer base with highly variegated requirements, leading to a vast plethora of pricing bands for "gaming" handsets, "media" handsets (i.e. phones with good streaming or audio capabilities) and so forth. As a result, Apple's "budget" handsets fall into the "ultra-premium" category in India and most other parts of Southeast Asia. 

Banking on sales volumes from emerging markets might not be the best prognostication for forward-looking growth in sales for Apple. In the present, however, there's an interesting project that the company is working on: its Electric Car project, which some sources expect to be launched in partnership with an established automaker in 2024 or beyond. It can be considered a safe bet that this project won't necessarily lead to a mass-market offering. In any case, a bullish outlook based on this project in the present day would be premature.

As the previous article on global fund managers' bearish outlook in the year forward  stated, investment houses are beginning to estimate an actual "technical" recession (as opposed to a mere "testing of lows") will roll into the U.S. sometime around the second half of next year. Investment houses aren't consistently right but they do adjust for new data - both qualitative and quantitative. An evolving view in a number of closed-distribution reports indicate that the notion of a U.S. recession is increasingly feasible and stateable. Given this, a recommendation to "buy" for investors looking to secure gains over a 12-month horizon cannot be made in good conscience at the present. 

On the other hand, the company has historically shown very solid line item discipline. There's ample argument that the company's recent cutback of production targets while banking on higher-margin iPhone 14 Pro model sales over that of budget models makes the stock more of a "value" stock than a "growth" stock. However, "value" stocks tend to not be as overvalued as "growth" stocks. For investors looking to hold the stock for a period in excess of a year and beyond, this might be a decent candidate for consideration.

It's an even bet that there will be ample opportunities to "buy the dip" during the inevitable "retesting of lows" upcoming over the next few months. However, a return of the valuation highs seen in (let's say) 2021 isn't a provable given. In that event, tactical trading via Exchange-Traded Products (ETPs) that are available on the Tiger Brokers platform during these "retests" becomes a quick way to scrape some profits. 

1. For bets on the movement of Apple stock, there is the 3X Apple ETP ($AAP3) for the upside and the -3X Apple ETP ($LS -3X SHORT APPLE (AAPL) ETP(AAPS.UK)$ on the downside. 
2. Similarly, $SPYS.UK offers a -3X exposure on the broader S&P 500 while $SP5Y offers a 5X exposure on the upside. 

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