Published February 2nd, 2017 by Bob Ciura
Apple, Inc. (AAPL) stock jumped 6% on February 1, after the company posted better-than-expected results for its fiscal 2017 first quarter.
Apple beat on both the top and bottom line, fueled by stronger-than-anticipated iPhone sales. In addition, Apple’s services business is booming.
The company managed to return to sales and earnings growth last quarter, which is a big step, since it had posted declines in the previous three quarters.
This should help Apple pass along a strong dividend increase in 2017. Apple typically increases its dividend each year in April.
Apple has only paid a dividend since 2012, but it has increased its dividend each year since then.
It is almost halfway to becoming a Dividend Achiever—a group of 272 stocks with 10+ years of consecutive dividend increases.
You can see the entire list of all 272 Dividend Achievers here.
Apple management has stated its intention to raise its dividend by at least 10% per year, but the actual figure will depend on the company’s financial performance.
This article will present a rundown of Apple’s most recent quarter, and what the future may hold for the stock moving forward.
Financial Results Overview
For the fiscal 2017 first quarter, Apple generated $78.4 billion of revenue, along with earnings-per-share of $3.36.
Both figures exceeded estimates. Analysts had expected Apple to post earnings-per-share of $3.21 on revenue of $77.25 billion.
On a year-over-year basis, Apple increased revenue and earnings-per-share by 3.3% and 2.4%, respectively.
Apple got off to a good start in 2017, which is important for the company. After posting strong revenue growth in 2014 and 2015, Apple took a step backwards in 2016.
Source: 2016 10-K, page 24
Apple sold 78.3 million iPhones last quarter. This also beat analyst expectations, which called for 77.4 million devices sold.
Analysts pay particularly close attention to Apple’s iPhone sales, because the flagship device represents approximately 60% of Apple’s total revenue.
iPhone revenue rose 5% year over year, as the company sold more of its higher-priced iPhone 7 Plus devices.
Among its geographic regions, Apple’s international business did the heavy lifting. Apple generates nearly two-thirds of its revenue from outside the U.S.
For the quarter, revenue increased 20% in Japan, 3% in Europe, and 8% in rest of Asia-Pacific. This helped offset a 12% revenue decline in China last quarter.
Going forward, Apple will have plenty of new product releases to fuel its growth. There will surely be annual iterations of the iPhone for years to come.
New versions of the iPhone are arguably Apple’s most important growth catalyst, since it represents the majority of the company’s revenue.
The iPhone took the smartphone world by storm. It allowed Apple to become the world’s most valuable brand, according to Forbes.
This provides Apple with customer loyalty and the ability to raise iPhone prices over time. The iPhone caused Apple’s free cash flow to explode over the past decade.
Plus, Apple is seeing strong growth in services, like the App Store, iTunes, and Apple Pay. Service revenue hit a quarterly record of almost $7.2 billion.
Apple Pay users have tripled over the past year.
Finally, the Apple Watch is gaining traction. It had its best quarter ever, both in terms of units and revenue.
Overall, Apple expects fiscal second-quarter revenue of $51.5-$53.5 billion.
Valuation & Expected Returns
Even though Apple jumped 6% on its strong earnings, the stock is still cheap. Shares of Apple trade for a price-to-earnings ratio of 15. The S&P 500 Index has an average-price-to-earnings ratio of 26.
As a result, Apple is still significantly undervalued.
Going forward, future returns could be supplemented by expansion of the price-to-earnings ratio. In addition, returns will be supported by earnings growth.
A reasonable breakdown of Apple’s future returns could be as follows:
- 5%-7% organic revenue growth
- 1% revenue growth from acquisitions
- 2% share repurchases
- 2% dividend yield
An acceleration of revenue growth is possible, given the company’s expected new iPhone. In addition, continued growth in the emerging markets and in Apple’s booming services business, could lead to higher revenue growth going forward.
Under this scenario, Apple could generate total annual returns of 10%-12%, plus any expansion of the price-to-earnings ratio.
A significant amount of Apple’s returns come from its massive capital allocation program. In the past four quarters, Apple repurchased $34 billion of stock, and paid another $12.3 billion of dividends.
Competitive Advantages & Recession Performance
Typically, technology companies are highly vulnerable to recessions. Spending among both consumers and corporate IT departments is highly sensitive to economic conditions.
But Apple is no ordinary tech company. People just cannot live without their devices nowadays. This simple reality fuels stable earnings for Apple, even when the economy sputters.
Apple’s earnings-per-share during the Great Recession are as follows:
- 2007 earnings-per-share of $0.56
- 2008 earnings-per-share of $0.77
- 2009 earnings-per-share of $0.90
- 2010 earnings-per-share of $2.16
As you can see, Apple hardly missed a beat during the recession.
The reason for Apple’s incredible performance, even during economic downturns, is because of its incredibly popular product lineup. This is due to Apple’s intellectual property, which is a huge competitive advantage.
To support product innovation, the company spends significantly on research and development. Apple’s R&D spending over the past three years is as follows:
- 2014 R&D expense of $6.0 billion
- 2015 R&D expense of $8.1 billion
- 2016 R&D expense of $10 billion
Lastly, Apple’s balance sheet is another competitive advantage. The company ended last quarter with $246 in cash, marketable securities, and investments on its balance sheet, compared with $88 billion in total debt.
This is a huge competitive advantage, because Apple’s massive cash hoard allows the company to acquire companies, invest in R&D, and reward shareholders at the same time.
Apple’s growth rates are currently stuck in the low-single digits, as the company struggles with the strong U.S. dollar, and slowing growth in China.
However, the underlying fundamentals of the company remain extremely positive. Apple controls the vast majority of profits in the smartphone industry.
And, its high-margin services business is growing at a very high rate. This should help Apple return to higher growth rates going forward.
In the meantime, Apple rewards investors with huge cash returns, and is likely to increase its dividend again soon. This makes Apple a good stock pick for long-term dividend growth investors.