Growth Fears Biting Apple

To some analysts, Apple ( AAPL) is so last year.

The computer company was the "in" thing in 2004, thanks to the megahit iPod line of music players. But some analysts are wondering whether Apple may be a one-hit wonder. The iPod's ability to drive Apple's stock is already fading, and unless the company finds another chart-topper, it could be yesterday's news.

"It's just a different ballgame this year than last year," says Shaw Wu, who covers the company for American Technology Research. Wu doesn't have a position in Apple's stock, and AmTech does not do investment banking.

Apple continues to post strong iPod sales, of course, and is the leading vendor of digital music devices. But Wu and other analysts see signs of trouble. Among them:

  • The sharp decline in iPod average sales prices. Unit sales were up 16% in the second quarter over the first quarter, but the company's iPod revenue was down 16% sequentially. That means Apple saw about a whopping 28% drop from the second to the third quarter in the average price it got for each iPod. Some of that can be explained by new budget-priced flash-memory-based players, but some analysts worry that it also indicates slowing sales of Apple's higher-priced hard-drive players.

    Adding to this worry is the disappointing guidance issued by Synaptics (SYNA) last week due to "softness" in the music-player market. Because Synaptics provides the click-wheel interface for the hard drive-based iPod, its outlook could indicate slowing demand. More clarity may appear Thursday, when iPod supplier PortalPlayer (PLAY) releases results.
  • Apple's slowing overall growth rate. Revenue grew 70% in the second quarter from a year earlier. While that's a phenomenal rate of growth for the computer industry, it was down from the first quarter, when the company's sales grew at a 74% annual pace. And the company says future growth rates may come in closer to 15%.
  • Growing competition. Asian device makers are coming out with low-priced rivals to Apple's shuffle. Rio, Creative ( CREAF) and other companies have dropped prices on their competing music players, analysts note. And Sony ( SNE) is making a strong push to attract Apple's potential customers through both its new digital music players and its PlayStation Portable, a video-game device that also plays movies and music.
  • Meanwhile, some think that Napster ( NAPS) or Real Networks ( REAL) will see strong demand for their subscription-based music services. Both compete with Apple's iTunes store but have a format that is incompatible with Apple's iPods. And devices compatible with their services generally won't play songs sold through iTunes.

    On top of all this is the little matter of Apple's history. The company has had great success in the past with its original computers, with the Macintosh and with its first iMac line, only to see its market share and sales slip away because of missteps and fierce competition. Add up all those factors, and Apple could go from rock star to has-been in a short time frame, analysts worry.

    "You have to wonder when the music's going to end, in which quarter," says Rod Bare, an analyst who covers Apple for Morningstar. Morningstar doesn't do investment banking, and Bare has no position in the stock.

    Investors already seem to be registering their doubts. Although the stock is up 12% for the year, that's far off the more than 200% rise it posted last year. And since Apple reported its second-quarter earnings earlier this month -- and with it the sequential decline in iPod sales -- the company's shares have dropped 12%.

    Apple is trading at about 28 times its projected earnings for this year. That's not an unreasonable amount to pay for a company whose earnings and revenue are skyrocketing. But should growth slow, the company will start to look increasingly expensive, especially relative to rivals such as Dell ( DELL), which is trading at just 22 times its projected current-year earnings.

    With growth of its star product slowing, the company needs something else to drive its growth rate and its stock price, analysts say. The company, investors and analysts have long hoped that sales of the iPod would have a "halo effect," attracting users of computers running Microsoft's ( MSFT) Windows operating system to Apple's line of Macintosh computers. Even with the iPod driving its growth in recent years, the Macintosh line still provides Apple with the bulk of its revenue.

    While Macintosh sales have outpaced those of the overall PC market in recent quarters, the extent to which those sales were driven by the halo effect is unclear. And Apple may have a difficult time persuading consumers who buy its bargain-priced music players to purchase its typically pricey computers, analysts say.

    "It really comes down to, how many Mac units is this going to drive?" says Bare. "That part is really less clear."

    Even if the company does see a sustainable halo effect from the iPod, Apple still will likely need to come out with another hit product soon, say analysts, who point to video device or a wireless-enabled iPod as the company's next effort. Regardless, Apple needs a new device and needs it to be a success, because some investors and analysts are already building projected sales from the next product into their estimates, notes Wu.

    Apple has produced a number of hits in recent years under CEO Steve Jobs, and there's no reason to think that it can't come out with another one. Indeed, in recent times, notes Megan Graham-Hacket, who covers Apple for Standard & Poor's, whenever the company's latest hit product seemed to be coming to the end of its life cycle, Apple has invariably come out with another one.

    Still, even under Jobs, the company has had some missteps along the way. The G4 cube, for instance, sold poorly. And the company's sales slumped as it transitioned to its Mac OS X operating system.

    Apple seems to be increasingly focused on the world of consumer electronics. That shift has worked well with the iPod. But the risk of mistakes is even higher in the consumer electronics world than in the computing world, analysts say, giving investors something else to worry about.

    Marketers of consumer electronics devices face similar problems as retailers that cater to teenagers, notes Graham-Hacket. Consumer demand "can be highly variable. It's not easy to predict," she says.

    Apple's move into that world "introduces another area of risk," she adds.

    More from Stocks

    Market Can't Handle the Wild Ride: Cramer's 'Mad Money' Recap (Thursday 5/24/18)

    Market Can't Handle the Wild Ride: Cramer's 'Mad Money' Recap (Thursday 5/24/18)

    Replay: Jim Cramer on North Korea, Oil Prices, Apple and Carnival Corporation

    Replay: Jim Cramer on North Korea, Oil Prices, Apple and Carnival Corporation

    Canopy Growth: First Cannabis Firm on the NYSE Fails to Generate Buzz

    Canopy Growth: First Cannabis Firm on the NYSE Fails to Generate Buzz

    Video: This Startup Connects Buyers and Sellers of Legal Marijuana

    Video: This Startup Connects Buyers and Sellers of Legal Marijuana

    Dow, S&P 500 and Nasdaq Tumble After Trump Calls Off North Korea Summit

    Dow, S&P 500 and Nasdaq Tumble After Trump Calls Off North Korea Summit