AAPL - Apple Inc.

[mals]

Indeed, the scenario where replacement cycle slows down will be a negative for Apple, and you said it well when you stated that iPhone best competition is the one that people already have.

 

I wonder as to the areas in which the iPhone hardware can still improve a lot (over two year cycles) - enough that it causes people to want to upgrade? New sensors, even better camera, better battery life, scratch proof hardware, fall resistant, water proof? Or can most new capabilities be introduced via software and peripheral health sensors.

 

At the same time I also wonder, from a numerical perspective, if current users upgrade every two years, can Apple sustain current levels of iPhone revenue? In this scenario any growth that occurs could come from other services and products.

 

[TheAiGuy]

https://en.wikipedia.org/wiki/Wirth%27s_law

 

[Jurgis]

At the same time I also wonder, from a numerical perspective, if current users upgrade every two years, can Apple sustain current levels of iPhone revenue?

 

You can try to calculate this you know...

 

Really rough calc (I am sure resident experts will correct me): 350 mln users x $600 selling price x 1/2 ( two year replacement cycle ) = $105B yearly revenue. Compare that to 2015 revenue of $155B for iPhones. You have to assume ~515 mln users at this price point and 2 year replacement to get flat $155B revenue.

 

I used 350 mln users based on (oldish) number of 700 mln iPhones sold to date and assuming that half of them are dead. I did not find number of iPhone users in 2 minutes of Bing&Google-fu. And now I have to get to bed and let others narrow it down.

[Liberty]

Whatever estimates you guys & gals make, don't forget to look at per-share numbers. Share count is going down at a decent clip.

[Picasso]

You could say the same thing about IBM regarding per share numbers. Obviously Apple is different but there is only so much you can offset with share repurchases if the bear case plays out.

[rkbabang]

https://en.wikipedia.org/wiki/Wirth%27s_law

 

+1. Exactly!!  PC sales aren't leveling off because computers are now as fast as they will ever need to be.  They are leveling off, because people now prefer pocket sized computers to desktop or laptop sized computers.  Smartphone sales won't level off because they become "good enough" they will level off someday when consumers prefer to buy their computing/communication devices in a different form.  Until that day comes there will be a constant trend of smaller/more features/slimmer/more features/faster/more and more and more features/better batteries/more features .....  did I mention more features?  New features and functionality comes with larger and more complex software which puts more strain on the battery and requires ever more processing power.  In computing and communications there is no such thing as "good enough" and there never will be.

 

[Liberty]

You could say the same thing about IBM regarding per share numbers. Obviously Apple is different but there is only so much you can offset with share repurchases if the bear case plays out.

 

I wasn't saying that repurchases could offset problems. I was just saying that I often see people talking about revenues and market cap and other per company figures, but they rarely bring them down to per share numbers, and in this case it makes a difference.

[Picasso]

Per share matters but mostly when profits are on the upswing. Apple has retired 15% of outstanding shares since 2013 which isn't earth shattering outside of the absolute dollar value. There is also a limit to how much debt they are willing to take on, so they're going to be limited to US cash flow for further repurchases to a large degree.

[Mephistopheles]

Per share matters but mostly when profits are on the upswing. Apple has retired 15% of outstanding shares since 2013 which isn't earth shattering outside of the absolute dollar value. There is also a limit to how much debt they are willing to take on, so they're going to be limited to US cash flow for further repurchases to a large degree.

 

Why can't take on as much as debt as their foreign cash growth permits them to?

[Liberty]

AnandTech review of the iPad Pro:

 

http://www.anandtech.com/show/9766/the-apple-ipad-pro-review

[mals]

Really rough calc (I am sure resident experts will correct me): 350 mln users x $600 selling price x 1/2 ( two year replacement cycle ) = $105B yearly revenue. Compare that to 2015 revenue of $155B for iPhones. You have to assume ~515 mln users at this price point and 2 year replacement to get flat $155B revenue.

 

Thanks for doing the quick math. I tried to research it further as to the installed base, and the 350 men user mark sounds right.

As an extreme scenario, if we were to say that iPhone sales slow to this number in two years time, and then watch sales and Mac sales pick up by $5B each.

Then we are looking at a $40B sales reduction due to iPhone.

 

Given their margins are almost 35-40% overall, the margin on this lost sales will be if anything much higher. Let us say that is 60%.

Such a scenario can indeed lead to substantial reduction in net profits - almost to the tune of $20-24B.

 

So I can see why the market is valuing Apple the way it is. Not saying that this will happen.

[johnny]

Why can't take on as much as debt as their foreign cash growth permits them to?

 

There's just a very deep culture of conservatism in the company that you shouldn't simply ignore for modeling purposes. Remember that one reason the cash hoard is the cash hoard is that Steve Jobs didn't have any interest in buybacks, even when he could see the product pipeline and could see sales velocity and user engagement that the market didn't have access to.

 

I also question exactly how much debt the market would really have an appetite for. Apple is so uniquely large, I don't think you can just throw some "market" EBITDA turn on it based on comps that are 1/10th the size. And imagine how embarrassing it would be if, due to politics, no repatriation deal gets done in time for a big maturity, and Apple is forced to eat some huge tax bill in order to keep the lights on. It would be a totally self inflicted wound, and it would be a discredit to everybody involved in the organization. The payoffs here, from management's perspective, aren't favorable.

 

Remember that it took a dinner date or two with Carl Icahn for Tim to even get on the buyback train. This isn't the sort of guy who is going to possibly imperil his legacy at the company in order to squeeze out every equity penny of capital structure optimization.

[Picasso]

This isn't the sort of guy who is going to possibly imperil his legacy at the company in order to squeeze out every equity penny of capital structure optimization.

 

This is key with Apple.  People somehow think they can just take on $200 billion of debt and you create all this value.  The value creation isn't *that* much when you consider it would only eat up 27% of shares outstanding at the cost of massive leverage at what is still a consumer products business.  Let's say it costs them $10 billion of interest a year to service that debt.  Is it really worth having that noose around the neck in case the iPhone loses traction in ten years?

 

I think you would also get a lot of shareholders nervous with that kind of debt.  Apple probably loses its AA rating as well.  What's the point?  The bulk of your investment returns will come from how Apple spends that cash as well as earnings on their business or acquisitions, not their stock.

[rpadebet]

What's the point?  The bulk of your investment returns will come from how Apple spends that cash as well as earnings on their business or acquisitions, not their stock.

 

But they are not acquisitive...what are they supposed to buy anyway with all that cash?

And their business doesn't need that much cash....unless they start to build Cars, Trains or at least TV's

[Picasso]

It seems obvious that they will make a huge push into cars and that's pretty capital intensive.  Each battery factory will cost around $3-5 billion and at Apple's scale they probably would need to build out 10-20 of them.  Even if they find some partners it's going to cost a lot.

 

I mean to a certain extent you have to trust that Apple management will know what to do with the cash.  They've been pretty good with it since their near death experience.  I just don't get the enthusiasm over financial engineering over just waiting to see what kind of opportunities Apple gets to take advantage of by having that war chest.  They haven't been big on acquisitions in the past, but this is a much larger ship and moving a $550 billion business requires taking bigger bets.

[rkbabang]

(Posted this to the wrong topic earlier)

 

Google paid Apple $1 billion in 2014 to keep search bar on iPhone: Bloomberg

 

"Google Inc paid Apple Inc (AAPL.O) $1 billion in 2014 to keep its search bar on the iPhone, Bloomberg reported, citing a transcript of court proceedings related to a copyright lawsuit filed by Oracle Corp (ORCL.N) against the search giant.  Google, a unit of Alphabet Inc (GOOGL.O), gives Apple a percentage of the revenue it generates through the iPhone but details of the arrangement have never been made public"

 

[TheAiGuy]

It seems obvious that they will make a huge push into cars and that's pretty capital intensive.

 

eh, it doesn't seem obvious to me that they will build car factories. Apple doesn't manufacture most of their products themselves. Alternatively, they could help scale up a contract-manufacturer. I know that contract-manufacturing is a small business right now (relative to the size of the auto manufacturing business) but a deep pocketed customer could potentially help change that.

[Jurgis]

If you guys are talking about bear case for Apple, then moving into cars is a great bear case. Low margin, capital intensive business with no guarantee of success.

 

They could spend just couple $B on this as a vanity project though.

[johnny]

It seems obvious that they will make a huge push into cars and that's pretty capital intensive.

 

eh, it doesn't seem obvious to me that they will build car factories. Apple doesn't manufacture most of their products themselves. Alternatively, they could help scale up a contract-manufacturer. I know that contract-manufacturing is a small business right now (relative to the size of the auto manufacturing business) but a deep pocketed customer could potentially help change that.

 

One of the ways that Apple is able to control suppliers so well is that it basically pays for all the capex, either upfront (when it buys all the machines that need to be placed on the line) or because its component contracts are considered money-good to borrow against.

 

I think it is safe to assume that they will be laying out a lot of cash for the car, whether or not they end up owning any factories on paper.

 

I agree with Jurgis that the car could be a bad sign. I think it boils down to this: if the Apple Car comes out, and it is essentially an Ive Model S, I'm going to be very uncomfortable with the future for the company. If it comes out, and it doesn't have a steering wheel, I'm going to be optimistic. Unfortunately the timeline people are murmuring about for Titan doesn't seem to be consistent with a vehicle that is designed, ground-up to be exclusively autonomous.

[Mephistopheles]

Why can't take on as much as debt as their foreign cash growth permits them to?

 

There's just a very deep culture of conservatism in the company that you shouldn't simply ignore for modeling purposes. Remember that one reason the cash hoard is the cash hoard is that Steve Jobs didn't have any interest in buybacks, even when he could see the product pipeline and could see sales velocity and user engagement that the market didn't have access to.

 

I also question exactly how much debt the market would really have an appetite for. Apple is so uniquely large, I don't think you can just throw some "market" EBITDA turn on it based on comps that are 1/10th the size. And imagine how embarrassing it would be if, due to politics, no repatriation deal gets done in time for a big maturity, and Apple is forced to eat some huge tax bill in order to keep the lights on. It would be a totally self inflicted wound, and it would be a discredit to everybody involved in the organization. The payoffs here, from management's perspective, aren't favorable.

 

Remember that it took a dinner date or two with Carl Icahn for Tim to even get on the buyback train. This isn't the sort of guy who is going to possibly imperil his legacy at the company in order to squeeze out every equity penny of capital structure optimization.

 

So what they can do is keep the debt = excess cash - potential repatriation tax.

 

It doesn't make sense for the cash to keep growing overseas, and doing nothing, and I think Tim Cook has finally realized that. Maybe it took a date or two with Uncle Carl but he's obviously realized that ridiculous cash hoarding is inefficient. And that's far off from the way Steve Jobs was.

[johnny]

Well, LT Securities were about 164B in September, and they had about 100B in debt, leases and purchase commitments, so I don't think they are too far off from that ideal.

[TheAiGuy]

 

(...) it basically pays for all the capex, either upfront (when it buys all the machines that need to be placed on the line) or because its component contracts are considered money-good to borrow against.

 

 

Those have very different economics for apple. I actually don't know how much of which happens with their suppliers (either Apple pays for machines or the supplier borrows against their contracts) but that mix would be very important in determining how capital intensive a car program would be for Apple (I don't think it really matters for the other products). If I had to guess, the more iPhone-specific a tool has been, the more likely apple was to buy itself, but that's just a guess.

 

If you guys are talking about bear case for Apple, then moving into cars is a great bear case. Low margin, capital intensive business with no guarantee of success.

 

They could spend just couple $B on this as a vanity project though.

 

+1

[Picasso]

The kind of spending you need to move the needle or generate a good ROIC for the electric car will be very substantial.  It's hard to get other suppliers to put up a lot of capital if Apple doesn't know how many cars it can move.  A bit of a chicken and egg problem which is solved with the cash Apple has.  I'd expect them to utilize a fair amount of it if they're serious about competing in this space.

 

One reason why I think they are serious is the sheer amount of hiring they've done for the project.  For someone to agree to work for Apple versus Tesla is a big decision.  Tesla is still in the infant stages of rolling out the mass market electric car and as long as Elon is alive, it's a passion project that will not get scrapped because Tesla loses interest.  If Apple isn't committed to the project it's a lot harder to hire the kind of people who can simply work for Tesla or Google and know they're on a long-term world changing product.  It shows in some of these signing bonuses that Apple has been throwing out to lure people into the Titan project.

 

Even though it's a capital intensive industry I think Apple could get a good return on capital if they do it right, fully autonomous or not.  A lot of the economics behind the current auto business is stuck in the past and outside what consumers really want.  Apple can create something that changes a lot of that but it won't be easy.

[Mephistopheles]

Well, LT Securities were about 164B in September, and they had about 100B in debt, leases and purchase commitments, so I don't think they are too far off from that ideal.

 

Yep, but the original poster who I responded to said that they would be limited to US cash flow for future repurchases - so just pointing out that it isn't necessarily so. :)

[DeepSouth]

AAPL already trades ex-growth. High ROIC firms (includes AAPL), strategically need to focus on growth (even well below firm-level ROIC, as long as project ROIC>WACC), while low ROIC firms need to focus on increasing returns over growth.

 

I think a car is a reasonable project for AAPL to utilize its core competencies of industrial design, semi design, supply chain management, and software. The upside is a long-tail NPV positive utilization of a massive amount of excess capital (key point being ability to utilize stranded foreign capital currently earning ~1%). Downside is a few billion dollars (on a $500+B firm doing >$50B of earnings) and strategic distraction for a few year. The chances of success are harder to handicap but I think its a positive E® investment.