Quick Thoughts: Another September iPhone Launch

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September 12, 2018

Quick Thoughts: Another September iPhone Launch

  • AAPL announced 3 new iPhones and a new Apple Watch, with specs as anticipated by previous leaks, including 2 phones that venture unambiguously into phablet territory.
  • AAPL touted incrementally faster processors and better cameras, but no real functional change from last year’s iPhones. The watch adds enhanced health monitoring capabilities.
  • Pricing is the real story – the iPhone XS Max starts at $1,099. With Asian consumers favoring very large displays, AAPL is hoping to repeat another double-digit ASP increase in a mature market.
  • Consensus FY19 sales growth estimates of 5.2% are plausible – flattish iPhone units, a mid-single-digit ASP boost, and 15-20% growth from services would do it – but we don’t see a lot of upside.
  • Share repurchases will make EPS expectations easier to beat, but US/Chinese trade relations and the ongoing dispute with QCOM could drag on earnings.

By the time Tim Cook hit the stage at AAPL’s annual iPhone announcement extravaganza, the cat was long out of the bag and racing around the amphitheater. As expected by absolutely everyone, AAPL introduced three new iPhones – cumbersomely named the iPhone XS (pronounced Ten-Ess), the XS Max, and the XR. The XS is the direct heir to last year’s X, which failed to ignite the awaited upgrade super-cycle but still managed to drive average prices nearly 15% higher. The XS has very slightly slimmer bezels than the X and kicks the processor and cameras up a notch. AAPL spent much time reviewing the wonder of their semiconductor engineering – the A12 Bionic chip powering the new models is the first CPU out of TSM’s groundbreaking 7 nm foundry – wizardry that will make the new models faster than their predecessors.

What’s not clear is what applications will cause consumers to clamor for this new power – the iPhone X is already lightning quick (for that matter, so were the iPhone 6, 7 and 8). AAPL is touting Augmented Reality, enabled by its ARKit development tools, but we have yet to see anyone articulate a game-changing application that would use that capability. Indeed, by the time that AR apps become meaningful, the spread of 5G may leave device-implemented AR far behind functionality running in the cloud and connected over the network. AAPL is betting a hard no on that narrative. Still, even if ARKit will become a big deal someday, it definitely isn’t now, and it will be hard to rely on it for iPhone sales in 2019.

The most important change AAPL made to the iPhone X was to make a bigger version. Asian markets have shown a devotion to the phablet form factor – ignoring the sound of Steve Jobs rolling over in his grave, the 6.5-inch screen XS Max will definitely find buyers. The price of the XS Max is also important. At $1,099-$1,499, depending on the configuration, Cook and company are going for another round of ASP expansion, after last year’s X yielded a 15% YoY rise in average prices. The ugly stepsister of the launch, the iPhone XR, brings that A12 Bionic performance to a model with relatively ho-hum screen and chunky bezels. It is offered at the supposedly bargain price of $750.

The Apple Watch doesn’t really matter for AAPL’s sales and earnings performance, but the company is proud of it, and they offered an incrementally better new version. This Watch adds new sensors to know when the wearer has fallen and can’t get up, or when a heartbeat is irregular, automatically triggering a call for help. These lifesaving additions will make it a popular gift for aging iPhone users. Curiously, AAPL did not offer an update for its wildly popular AirPod wireless earphones – this could be coming later.

Looking to FY19, the consensus bogey for AAPL sales looks doable. Flat-ish iPhone unit sales, another 5-6% bump in ASP, and 15-20% growth in services would get them there. AAPL didn’t really talk about its services during its confab, but company bulls are touting it as the next big leg of growth. We are more circumspect – the installed base growth is slowing quite a bit, app revenues may peak soon (NB we see app fatigue by consumers, competition from AI assistants, and push back from app publishers who are finding ways to monetize without cutting in AAPL), AAPL’s subscription apps are weak, and the boost to Apple Care revenues (e.g. battery replacements, and ASP increases) will dissipate. Still, we are comfortable with the 2019 expectations.

Given AAPL’s plans to buy back $100B in in stock, the consensus estimate of 15.6% growth in EPS is probably reasonable as well, but with some caveats. First, Apple remains very vulnerable to US/China trade policy – a disruption of the iPhone supply chain would be very costly. Second, AAPL is likely accruing unpaid royalties to QCOM at rates that are well below that company’s expectations. An unfavorable outcome in that dispute could have meaningful downside for AAPL. Finally, we are not sure that in-line results for AAPL in its FY19 would be enough to move the stock, particularly if forecasts for 2020 and beyond become more muted. For the moment our perspective on AAPL shares is a hearty meh.

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