Before we dive into the long thesis, let’s review the facts first.
The earnings print and call
Here were the earnings results for the calendar year 2020 second quarter versus analyst expectations:
- Revenue: $58.3B v. $54.78B
- EPS: $2.55 v. $2.29
Apple had favorable sales mix from services, bringing the gross margin higher than it was last year, helping the large earnings beat.
Product revenue, which encapsulates all hardware products, from iPhones to computers to wearables, was $45B, for a contraction of 3% year-over-year.
Services rev grew 17% to $13.3 billion.
Management did not issue guidance, as a lack of visibility caused by the pandemic kept management cautious.
Why the Stock Fell
The stock fell 0.88% Friday to $298 a share.
It had run up 21% for April into the earnings print, as some previously lowered expectations had moved a bit higher and general optimism from the broader market on easing lockdowns as slowing infection spread rates took hold.
The stock trades at 22 times the next 12 months of earnings estimates, low compared to the 29 times it hit before the virus broke out, but the multiple may be justified. Management said nothing on the earnings call about when 5G production may ramp, although other positives dd emerge from the earnings.
Making things worse for traders on Friday was a massive risk-off move in the broader market, which Apple is in the cross hairs of, as the S&P 500 fell as much as 3%.
Why the Stock Is a buy
In summation, the high growth, high margin services business is totally on track, analysts have optimism on 5G and the company exhibited the ultimate display of confidence in long-term cash flow: it increased the company’s buyback program.
Some of management’s commentary, according to analysts, suggested a second half of April improvement in product demand, which furthers the case for more store openings soon. “With increased confidence in the 5G iPhone launch and stretched iPhone replacement cycles, Apple remains top pick,” wrote Morgan Stanley analyst Katy Huberty in a note. “We are confident in sustainable long-term growth.”
Wedbush Securities analyst Dan Ives wrote in a note that most on Wall Street think Apple will launch 5G devices in December, but the launch date could be in September.
Services’ strong growth rate was a confirmation that Apple’s most important business initiative is still on track. New services include Apple TV Plus, Apple Arcade (gaming) and Apple’s credit card, which syncs up with Apple Pay.
Apple also added $50 billion to its total share buyback program. Apple has one of the strongest balance sheets of large cap companies in the world. This not only provides a major support level to earnings growth for the next several years, it also shows the market that management is confident in the company’s ability to move back towards the growth rates it was forecasting pre-virus, when normal life reemerges.
The multiple could expand from its current level, and of course 5G sales must be as strong as previously expected. Plus, if lockdowns and infections remain too much of a theme in the world for too long a time period, investors may begin to factor in decelerating services growth — which won’t happen for several years — before the multiple can resume its expansion. Apple traded at 29 times 2020 earnings pre-virus.
But Huberty, who raised her price target to $326 from $298, with the new target representing 12% upside, prices Apple at 22 times her 2021 earnings estimates.