Apple Inc: Apple ripens, still some room to grow October 26, 2016 1894

PSR Recommendation: ACCUMULATE Status: Downgraded
Target Price: USD125.81
  • Revenue down 9% yoy and Net Income down 18.97% yoy
  • Service revenue grew by 24% yoy
  • Strong guidance for next quarter
  • Downgrade to “Accumulate” from “BUY” rating and higher TP of US$125.81 (previously US$114.74)


Results at a glance:


Source: Company, Phillip Securities Research (Singapore)

  • Continued fall in revenue and earnings. AAPL reported 4Q16 revenue of US$46.9 bn, falling short of our estimate of US$48.73 bn. This was within the upper range of AAPL’s guidance, which was between US$45.5bn to US$47.5 bn. AAPL had sold less iPhones than we had estimated but at a higher Average Selling Price (ASP). It is worth noting that this quarter’s results represent only about a week of iPhone 7 sales. iPhone 7 and the 7 plus have been received favourably by consumers, with AAPL reporting that they are facing supply constraints, especially on the 7 plus model. EPS of US$1.67 vs our estimates of US$1.73, falling short of our estimates by US$0.06. Gross margins were 38% compared to 39.9% yoy, but within the range that AAPL had guided previously. While AAPL continued to face issues replicating last year’s growth in China, (revenue from China is down 30% yoy), AAPL reported that revenue grew very strongly in emerging markets, such as India, which saw a 50% growth yoy, as well as in other mature markets such as Japan, which grew 10% yoy and 23% qoq.
  • Services continued their strong momentum. Service revenue came in at about US$6.3 bn, which was above with our estimates of US$6.2 bn. This represented a 24% increase yoy and the 4th consecutive quarter of double digit growth for the services segment and a new all-time high for revenue. AAPL reported that its App store grew for 5 consecutive quarters, growing by 43% in the quarter. They also reported double digit growth in other service categories and that Apple Pay continues to gain traction, growing by 500% yoy.
  • iPad Sales were flat. While the iPad unit sales were down, the new iPad Pro line helped to boost ASPs to US$459, US$26 higher than a year ago, allowing iPad revenue to remain more or less flat. Overall AAPL managed to sell more units of iPads (9.3 mn vs estimates of 8 mn) and at a higher ASP (US$439 vs estimates of US$430). AAPL reported that they expect stronger sales for the next quarter, with 68% of Corporate buyers indicating intent to purchase.
  • iPhone ASP increased, unit sales fell. iPhone unit sales were down 5% yoy, with a 13% reduction in revenue. While the iPhone 7 was released in this quarter, barely a week of sales is recorded. AAPL has reported that they are facing supply constraints for the iPhone 7 due to very strong demand. Furthermore, many carriers have been pushing the upgrade plans to entice consumers to upgrade to the iPhone 7. Coupled with AAPL’s largest competitor, Samsung, facing issues with its Galaxy Note 7 offering, there is great potential for AAPL’s new offering to perform very well. Of note is AAPL’s continued focus in India, where they reported growth of 50% yoy. Reliance Jio, the LTE mobile network operator in India, is currently rolling out plans to have 4G coverage in over 18,000 cities and 200,000 villagers across the country. Given the infrastructure issues being the primary constraint behind low smartphone uptake in India, this will have great potential for AAPL in the future. By releasing the iPhone SE last quarter, AAPL is able to price a cheaper iPhone in emerging countries like India, which helps plug a great number of users in the rural areas into its eco system. Once participating in the ecosystem, AAPL users have shown great loyalty and are likely to continue to upgrade into an iPhone again when the time comes.

AAPL guidance for 1QFY17:

  • Revenue between $76 billion and $78 billion
  • Gross margin between 38% and 38.5%
  • Operating expenses between US$6.9 bn and US$7 bn
  • Other income/(expense) of US$400 mn
  • Tax rate of 26%


Investment Actions

Since we released our previous update, when AAPL’s price was US$96.67, AAPL share price has run up past our target price of US$114.74 to reach the last done price of US$118.25. However, in After Hours trading, the stock is currently back down to our previous target price of US$114. Given the recent run up, we have changed our call on AAPL to an “Accumulate” with an increased target price of US$125.81, which represents an upside of about 9% over the After Hours price. Despite failing to meet our revenue estimates this quarter, we increased our target price on the back of the demand for iPhone 7. The reception of the iPhone 7 and 7 plus is encouraging and we believe that AAPL will be able to reverse the down trend in iPhone sales. AAPL gave very high guidance for the next quarter, which seems to indicate they expect to move a substantial amount of iPhones. If AAPL is able to hit its guidance, which it has for the past 30 quarters to date, it will represent the best quarter ever for AAPL in terms of revenue. Given the positive reception, carriers carrying out promotions, Samsung’s explosive troubles as well as increased adoption in emerging markets, we believe that AAPL has some tailwind behind it to help it accomplish its best quarter yet. On the back of iPhone 7 demand and AAPL’s higher guidance, we increased our estimates for 1Q17 revenue to US$76.6 bn with an EPS of US$3.28, which led to us increasing our target price.

AAPL’s Services segment also continues its tremendous growth record, showing that AAPL as a service continues to gain traction. With the increase use of Apple Pay and increased roll out across different countries, as well as strong growth in the App store, we remain positive on the direction that AAPL’s Service is taking. Tim Cook has expressed confidence that the Services segment will grow to become the size of a Fortune 100 company by FY17, the smallest of which makes US$28 bn in annual revenue.

AAPL also announced a dividend increase to US$0.57, with a dividend yield of 1.93%. AAPL has now completed US$186 bn of its US$250 bn capital return program.



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About the author

Profile photo of Ho Kang Wei

Ho Kang Wei
Investment Analyst
Phillip Securities Research Pte Ltd

Ho Kang Wei graduated with a Bachelor of Commerce, majoring in Accounting and Finance, from Monash University.

He started analysing and investing in US equity markets since 2008. Joining Phillip Securities Research in 2015, he is the analyst in charge of US markets.

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