Apple Inc. (NASDAQ:AAPL) has seen its share price depreciate significantly over the past several months. Many analysts have reacted by downgrading the stock, which is a self fulfilling prophecy. However, analysts at Barclays put out a lengthy research note in an attempt to calm fears about the tech giant. We already provided a brief summary of the report, but we wanted to focus on the conference call in particular.
While everyone knows that the reaction to the call was negative, there were several things that could actually “grow on you” more positively – and really might. Below, we outline a few things that bulls could point to in an investment case with cash flow being the most important.
Cash flow very strong:
Apple’s level of cash generation remains very impressive. Many consider free cash flow to be the most important metric in valuing a company. During the quarter, Apple Inc. (NASDAQ:AAPL) generated $23 billion in cash from operations and $21.1 billion in free cash flow or $22 per share vs. EPS of $13.81. Total cash and marketable securities grew to $137.1 billion, with $94 billion overseas. For the trailing 12-month period Apple has generated $47.4 billion in free cash flow or over $50/share. With strong cash generation AAPL has room to return more cash to shareholders. Barclays urges investors to just be patient – if slower growth is really coming, Apple’s board will need to eventually reconsider it current cash policies.
The Extra Week Effect:
At first blush, the 18% y/y revenue growth that AAPL reported for December looks like a big slowdown from the prior quarter’s 27% y/y growth, but one should take into account that last year’s result benefited by 8 percentage points or more from an extra week. On a per week basis sales were up 27% y/y overall including 39% growth per week in iPhone revenues, 60% per week growth in iPad revenues and 8% growth per week in net income. These growth figures look better when put this way although the Street should have known about it going into the call. The interesting thing is that Apple’s guidance implies a slowdown to 7% weekly y/y sales growth for the March quarter, which is quite a slowdown. Dare one suggest that the March guidance for revenue is conservative?
Increase in warranty accruals could reverse:
Apple Inc. (NASDAQ:AAPL) was able to post a gross margin of 38.6% despite a sizeable hit from warranty accruals sequentially. Apple Inc. (NASDAQ:AAPL) disclosed in its 10-Q its ending warranty accruals for the December quarter totalled $2.31 billion, up 41% from $1.638 billion at September-end. The increase in the balance of $672 million accounted for a 123 bp hit to gross margins q/q. It is possible that accruals increased as a result many new products released during the December quarter and the overall increase in sales during the Holiday Season. However, for next quarter Barclays expects warranty accruals to be a relative tailwind q/q as there should a less significant impact to earnings from accruals and the company is able to lower manufacturing costs on its iPhones and iPads. Again – dare one suggest that the March guidance for Gross Margin is too conservative?
Operating margins by no means pressured at least in December, Nor Were iPhone Prices:
AAPL reported an operating margin of 31.6% in F1Q13, which is actually in-line with recent historical averages and above many previous December ending quarters. Although there are concerns about lower gross margins in general, AAPL has been able to offset gross margin generation by being more efficient and maintaining solid operating margins. The key to margins is iPhone prices – concerns that prices will decline over the long-term have been out there for years. The iPhone continues to have the best usage and loyalty characteristics that warrant the highest subsidies. If Apple Inc. (NASDAQ:AAPL) were to get into larger screened phones, the data usage would likely only increase. As a result, Apple’s operating margins may be more sustainable at least in the high-20’s for awhile.
China opportunity underappreciated?
In terms of a geographic split, China saw the highest growth, which was in the triple digits. Sales for the iPhone doubled in greater China even though the iPhone 5 was only available for a part of the quarter. Recall that the iPhone 5 was only made available in China on December 14, and during the first weekend Apple said it sold over 2 million iPhone 5s. Barclays believes that there is still a significant opportunity for Apple Inc. (NASDAQ:AAPL) in China and a deal with China Mobile could be one of the key catalysts for 2013 opening up over 700 million additional subscribers.
Demand still strong for Apple Ecosystem on TVs despite age of product:
During the December Quarter Apple Inc. (NASDAQ:AAPL) sold more than 2 million units, an increase of about 60% y/y.It is impressive that Apple TVs are still selling well despite being a somewhat dated product. The current iteration of the Apple TV was introduced in September 2010 with a performance update in March 2012. Barclays believes that the product’s performance in the December quarter shows that the TV interest is there and that there is demand for an Apple Inc. (NASDAQ:AAPL) presence in the living room. The analysts at Barclays are looking for Apple Inc. (NASDAQ:AAPL) to release a more comprehensive television solution based on services that are integrated with hardware sometime in the next year.