Bull Vs. Bear - Apple Is On Its Way Down

By Stephen D. Simpson, CFA | January 21, 2013 AAA

Question: Has Apple's Downfall Begun?

Bear's Response
All good things come to an end, and perhaps Apple's (Nasdaq:AAPL) status as the darling of the stock market has seen its peak. To be clear, I'm not suggesting that Apple is about to see its revenue growth reverse, nor am I suggesting that the company is teetering on some sort of precipice of relevance. Rather, I simply believe that Apple's time as a near-flawless executor has passed and that investors should not expect the "all Apple, all the time" market mentality to persist.

SEE: The Power Of Steve Jobs

Order Cuts - A Demand Problem, or a Management Problem?
Apple shares wobbled earlier this week on news that the company made significant cuts to iPhone5 component orders for the March 2013 quarter. Reliably, a cadre of bullish Apple sell-side analysts tried to minimize the report, with some calling it old news and others pointing to the significant production increases in the latter months of 2012. Now while it may be the case that Apple has simply reached a point where near-term production capacity is fully engaged (and there's no point in having components stacked in inventory), investors should at least consider other possibilities.

Has Apple finally saturated the market for the current configuration/price point of the iPhone? And further, why was the company not able to see this bottleneck (if that's what it actually is) coming?

If demand is reaching saturation, whether due to competition from Samsung and others or simple buyer fatigue, it's clearly a bad thing. But incorrectly estimating market demand and/or production capacity doesn't say good things about management either, particularly when other missteps (like the maps debacle) have shown that even Apple is capable of making mistakes.

Can Apple Find the Next Hot Thing?
The original iPhone debuted in mid-2007 and the iPad appeared in the spring of 2010. It seems fair to ask, then, where the next new Apple gadget is. Apple being Apple, an announcement could come at almost any time, but there are two areas in particular where it seems Apple is overdue for a definitive move.

Analysts and investors have been waiting for some sort of Apple TV for quite a while now, and it doesn't seem like a "smart" TV would be such a big leap - essentially it would be something like an oversized tablet with a somewhat different feature/function set. On the plus side, the TV market is a large one in terms of units - even those who don't own (or want) a smartphone generally have a TV. On the negative side, the TV market has been struggling badly (due to a lack of innovation, perhaps?). Even still, the recent CES show highlighted some real progress from Samsung, and there is a risk that Apple could get outmaneuvered here - something that has not happened in quite a while to this latest incarnation of Apple.

Along similar lines, I think Apple needs to contemplate a cheaper iPhone/smart phone model for emerging markets. A variety of Asian designers are aggressively targeting this market, including Lenovo (OTC:LNVGY), and while Apple may be loathe to lower price points, there's a large market here for the taking - just not at Apple's current price point.

Who's Left To Buy?
There's an inescapable supply/demand reality to the stock market and individual stock performance, and that may not be working as strongly in Apple's favor. Apple is an enormously significant stock in terms of the equity market, and over three-quarters of growth funds and 40% of value funds own Apple shares. Simply put, the risk is that there's not much buying power left on the institutional side - those who can (or want to) own it, already do. Along similar lines, if Apple's best growth days are past, it's likely that the growth fund ownership will simply transfer over to the value shops, with little net change.

Said differently, here is what Apple bulls should contemplate - absent a major new product introduction to drive a new leg of revenue growth, what is there to make institutions want to add these shares?

The Bottom Line
Apple still has remarkable margins and returns on capital, not to mention a fiercely loyal core customer base. Moreover, the valuation is really not demanding at these levels. That said, no company hits the mark with every shot, and Apple has given investors some reason in recent quarters to question whether management's aim has gotten a little shaky. At the same time, no stock stays front-and-center in the market's limelights forever, and Apple shareholders should at least ask themselves if they have the patience to continue riding this horse for the long term.

At the time of writing, Stephen D. Simpson did not own any shares in any company mentioned in this article.

Don't forget to read the Bull side of this debate and weigh in with your opinion below.

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