Apple – An Internet View of Things
Note: this post was
carried this morning on Wallstrip
My thesis about Apple
Computer is that to best understand the prospects for the Company and,
therefore, the prospects for the Company’s stock, one need look no further than
the Internet. In fact, given the paucity of guidance put out by Company
Management, I’d argue that the Internet is THE place to find leading-edge
insights and timely information on Apple’s products and strategy. This encompasses both references to Wall Street
analysts, MSM as well as original thinkers in the blogosphere – they’re all out
there. Apple, like Microsoft, Google and other technology companies with “hot,”
consumer-oriented products, has a large body of smart, tech-savvy, motivated
followers who independently research the Company’s latest products and report
their findings for all the world to see. This is great stuff. Rather than
taking the subjective word of a single analyst, regardless of their analytical
competence, why not leverage the expertise and breadth of thousands of
“groupies” who selflessly (well, maybe not selflessly, maybe for prestige and
respect) offer their time, investigative skills and insights for deeply
understanding the Company. This knowledge is further augmented by leading Wall
Street thinkers who become part of the dialogue. Now,
let me be clear: this is neither the social stock-picking stuff I have railed
against in the past nor the “wisdom of crowds” at work, per se. It is really
more akin to having a massive equity research department at your disposal,
except without the taint of conflicts-of-interest, conservative Directors of
Research or analysts that have personal (and, therefore, potentially
prejudiced) relationships with their research subjects. So, this introduction
should serve to frame my research methodology. I will also not give a
buy/sell/hold call on Apple, but will present the data as I see it (or, more
accurately, as I have distilled it from thinkers out on the Internet) from
which you own conclusions may be drawn.
I think there are two key
themes that will factor into Apple’s October 18th earnings release
and the investment community’s view of the Company’s near and intermediate-term
prospects: iPhone and MacBook sales. And these two themes are bolstered by the
growth and success of the Apple Stores, which give the Company a huge distribution
advantage, particularly when it comes to the go-to-market strategy for the
iPhone.
I. iPhone
Rumors relating to iPhone
have been chronicled back as far as July 2004. Suffice it to say,
the avid Apple user community is all over this development. More recently,
Larry Angell of iLounge highlighted some important comments by Shaw Wu, analyst
with American Technology Research, who had some relevant and valuable insights
related to Apple’s iPhone strategy in a September 6th post :
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“Our
research indicates that an Apple-designed smart phone has moved from concept to
prototype and recently has progressed to near completion as a production unit,”
Wu said. “We believe this smart phone has been in development for over 12
months and has overcome substantial challenges including design, interference,
battery life, and other technical glitches. We believe that Steve Jobs is
finally satisfied with the end product Apple engineers have produced in terms
of quality and the right blend of cell phone and portable media player.”
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“Clearly,
we would like to share more detail as we have conducted extensive work on the
product pipeline, but for now, here is what we will convey. The design will be
an iPod nano-like candy bar form factor and come in three colors (we are not
certain of the exact colors but we suspect black, white, and platinum, similar
to Apple’s current color scheme on iPods and Macs),” Wu said in his report.
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Wu said the area that is
still unclear is Apple’s go-to-market strategy. “As we have mentioned
previously, we believe this is under serious debate and consideration within
Apple,” Wu wrote. “It could participate the traditional way by partnering with
carriers like Cingular, Sprint-Nextel, T-Mobile, and Verizon or it could also
go with an MVNO (mobile virtual network operator) model where it would have
tighter control over the user experience. We believe the go-to-market strategy
is likely the gating factor in Apple shipping its cell phone imminently.
However, we believe the company’s 155 Apple stores will prove to be a boon
regardless of the marketing strategy, providing Apple local presence and
competitive advantage.”In closing, the analyst
said Apple could benefit greatly by only acquiring 1% of the cell phone market.
“We are very positive on Apple’s prospects in building a material smart phone
business given its strong brand name, loyal customer base, unique user
experience, large installed base of 58 million iPods, and what we estimate to
be about 300 million iTunes users,” Wu said. “Should Apple gain 1% share in a
billion unit market, we believe that could amount to a $2 billion opportunity
assuming around 10 million units at a $200 ASP (similar to its current iPod),
but not including potential services and accessories revenue.”
Recent buzz about the
iPhone was further supported by Andy Neff, analyst at Bear Stearns, as outlined
in a May 15th piece in AppleInsider:
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After meeting with Apple Computer CFO Peter Oppenheimer and VP of Product Marketing for iPod Greg Joswiak, analysts for Bear Stearns said they are optimistic about the company’s outlook for the second half of 2006 and that an iPod phone
appears to be in the works.
“We came away optimistic about Apple’s outlook for 2H06 with potentially a
complete refresh of the iPod, ‘true’ video iPod and other new product launches,
though timing is hard to call,” analyst Andy Neff wrote in a research note
to clients. “However, ‘true’ video iPod (if launched) is likely to be
offered as a complimentary product to iPods.”
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The fact of the matter is
that there has been buzz around the iPhone for years, but that buzz has
intensified in recent months. And you can bet that Apple trolls will be rifling
through FCC applications of Apple and any possible suppliers of iPhone
components for any insights into when the iPhone will be released (kind of
similar to what happened with Zune, which was exposed not in a Microsoft filing
but in a Toshiba FCC filing). My belief is that where there is smoke there is
fire, and that Steve Jobs is waiting for just the right time to stun the market
and send it into a frenzy around the iPhone release. This is his game and he is
a master at it.
II. MacBook
While some have bemoaned
seemingly peaking sales of iPods, others, focusing on the bottom line, have
noted the recent demand shift from iPods to MacBooks. One thing is for
sure: iPod merely strengthened Apple’s iconic status as a developer of hip,
relevant products with broad appeal. Somehow, even if millions of people have
iPods they’re still cool. Anyway, as demand seems to have crested for the
current iPod, MacBook sales have surprised on the upside. Is this due to the
positive halo effect from iPod? Maybe, who knows. But what we do know is that
MacBooks have really good margins, and if there is some rotation from iPod to
MacBook going on this is, economically, not a bad thing for Apple. As mentioned
in an October 13th post in AppleInsider, analyst Richard Farmer of
Merrill Lynch seeks to quantify this phenomenon and its impact on fourth
quarter sales:
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In
a research note released Friday, Farmer increased his revenue estimate for the
company’s fourth quarter from $4.57 to $4.66 billion and his earnings-per-share
(EPS) estimate from $0.48 to $0.51.
“The changes are emblematic of what a broader thematic shift in the story
away from iPods toward an emphasis on Macs and 2007 new product cycles,”
he told clients.
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Offsetting
slower iPod sales, according to the analyst, are slightly higher Mac sales due
to “better than expected demand for new Mac Books.” He now expects
the Cupertino, Calif.-based company to report sales of 1.51 million systems (up
22 percent yearly) during its fourth fiscal quarter compared to his previous
estimate of 1.44 million estimate (up 16 percent yearly).
And to be clear, the
blogosphere has been all over this phenomenon for, what, nine months? A January
2006 post in LOOPRumors specifically noted this pick-up in demand for MacBooks
far in excess of Apple Management’s expectations:
Various
sites around the web have conflicting reports about the response Apple is
receiving from their newly introduced Intel Macs. We’ve probed several of our
sources close to Apple and learned that current orders for BOTH machines are at
record numbers. MacBook sales are surprisingly strong and we’re told that the
numbers have surprised even Apple. We also discovered that the profit margin on
both machines is significantly higher than the models they replaced.
This trend was further
amplified in a July post in DigiTimes, as Apple’s pricing strategy and
resulting demand profile blow away previous shipment estimates:
Shipments will continue to increase in the second half as Apple’s competitive pricing for MacBooks will continue to stimulate demand. For all of 2006, Apple may deliver two million iBook and MacBook laptops in addition to one million MacBook Pro notebooks, the sources estimated. If realized, Apple’s notebook sales in 2006 would represent a 39% increase from the 2.16 million units shipped in 2005 as estimated by IDC (International Data Corporation), the sources indicated.
Which is really good news, but it also appears that Apple is having a hard time keeping up with the burgeoning demand, as noted in an August post in Notebookcheck:
At present in
America shipment delays arise for MacBook and MacBook Pro notebooks. It is to be expected that this will happen soon in Europe too.The reason is the fact that Apple only produces within rigid limits (“just in time”). Decades ago Apple was almost ruined by flops and therefore is very careful now. Only so much hardware is produced, as can be set off at the market at short time. The American and Japanese chief markets are supplied with priority and rather secondarily Europe. Now the Apple notebooks are best sellers in America and Apple seems surprised.
However at present obviously there are is still sufficient reserves of MacBook and MacBook Pro in Europe, so that the customers still can be served within at short time.
Bottom line: Apple MacBook
is rocking the house and having a very positive impact on profits. The tone out
there is that this demand will continue and that, if anything, the bigger issue
is Apple playing catch-up with demand via its supply chain.
Bringing it All Together
Apple is a strange animal.
The Company is run by a rock star CEO with a streak of PR brilliance around new
product announcements, yet it is very stingy with releasing guidance about its
earnings prospects. It also happens to generate as much web buzz as any company
on the planet. It started out as a technology company, but what is it today? It
is less about pure technology and more about the packaging, branding and
distribution of technology. Are they really doing anything groundbreaking? Yes,
in the way they create an image, a vibe, a feel among their customers, and
specifically among those whom they are most interested in reaching. They do
this through enlightened product design, both visually and ergonomically, as
well as through a state-of-the art distribution platform – the Apple Stores.
They have been able to create a real-world “portal” that serves as a window in
the image and products that are Apple. And this portal will serve as an
invaluable launching point for quite possibly their most exciting initiative
yet – the iPhone.
Due to the lack of
official Company guidance around earnings, it is speculation around new product
launches that I believe truly drives stock price. Sure, historic success is
part of the story, but this is not the thing driving the stock to ever higher
highs. Just think about it – Apple focuses on an area that is a natural
extension of their core competencies (smart, user-friendly design, function
integration, attractive packaging, young, hip image and addresses an area where
there is constant pain and dissatisfaction – the cell phone) – and applies it
to a market that is both massive and growing. Consider this:. an Apple iPhone
with a user experience similar to an iPod, which integrates phone, music, and
more. It provides Apple a huge market to tap into (what did that analyst say,
1% of a billion unit cell phone market?) could amount to a $2 billion revenue
opportunity? As an Apple investor, this wouldn’t suck.
Let’s
remember, iPod as a business came out of nowhere and now dominates the market
space. Fully 45% of Apple’s revenue comes from iPods and the iTunes store. They
currently enjoy over 80% of the music player market. Not bad for a business
that didn’t exist 5 years ago. Today Apple is concentrating on New Media
access — music, video, and online access to content in a seamless manner as an
entry point into selling computers. Growth in Mac usage may well be coming from
folks who buy an iPod, enjoy the design and use, and then decide to buy an
Apple computer. It took Wall Street about four quarters to really figure this
out and to understand that Apple also sells computers. If the iPod had such a
positive effect on MacBook sales can you imagine what
will happen after the iPhone comes out? The sky’s the limit.
Please
note: credit to Rob Passarella, who helped do the research and provide
perspective on this post. Thanks, man.
The author does not hold a position in this company’s securities.
