Quick Thoughts: A Happy Summer for AAPL Investors, but Winter is Coming

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–          This year’s WWDC rumors are kinda meh – a connected home app, “Healthbook”, a minor iOS update, and a significant OS X release – no iPhone6, no iWatch, no new AppleTV box.

–          A Beats deal could be announced at WWDC. Beats would help AAPL avoid disrupting own its iTunes business and add entertainment industry savvy, but offers little else.

–          3QFY14 expectations are mild against an easy YoY compare – the ongoing Chinese LTE roll out ought to do the trick. 4Q brings a much tougher compare for the likely iPhone6 intro.

–          A WWDC dip could be a trading opportunity – a 3QFY14 beat, and/or iPhone6 anticipation could take the stock higher over the summer. Still, we remain concerned longer term.

At Apple’s 2010 World Wide Developer’s Conference (WWDC), Steve Jobs introduced the iPhone 4, and the Facetime video conferencing app as part of the OS. In 2011, in his last keynote, he announced iOS 5, the OS X Lion release, and the iCloud service. In 2012, Apple used its WWDC to launch several new Mac Books, including the iconic Mac Book Air, along with the “Mountain Lion” update to OS X and iOS6. Last year, the big WWDC reveals were iOS7, a major revamp of the iPhone’s user interface, and OS X “Mavericks”, which did the same for Macs. Along with the OS udates, there were a passel of new Mac Books, iMacs, and Airports, along with a few new apps, including a reworked iWork and iTunes Radio.  Over these past 5 years, the WWDC has actually been a downer for Apple investors, with the stock typically taking a 4% hit on the day of the keynote and staying down for the following week.

This year, if the rumors and leaks are to be believed, the WWDC line-up is a bit more pedestrian than usual. The annual updates of iOS and OS X will be front and center, but after last year’s stem to stern redesign of iOS7, no one is projecting more than incremental updates for iOS8. The OS X 10.10 release may be significant to users, but far less so to investors given the waning opportunity in consumer PCs. A rumored “Healthbook” app, which collects fitness/health related functionality and integrates it right into iOS, may be a teaser for the long anticipated iWatch, but otherwise is a yawn. The latest scoop is that Apple will announce an integrated home automation app, which would aggregate individual control apps from a variety of home technology providers (audio, thermostats, lighting, etc.) into a single interface. This is interesting for the high end households already using their iPhones to control their Sonos sound systems, but a minor feature for iOS and another yawn for Apple investors.

Of course, Apple could have a surprise up its sleeve. Perhaps, the long conjectured Beats by Dre acquisition could be announced, accompanied by an appearance by the Doctor himself, along with Beats impresario Jimmy Iovine. Beats would bring star power to the WWDC, and a give Apple a way to have a streaming music alternative without necessarily killing its lucrative iTunes download franchise. Still, Beats wouldn’t add a lot to Apple that the company doesn’t already have – hip brand? Check. High margin accessories business? Check. Deep relationships with entertainment industry executives? Well, may be Apple does need a little help. Of course, given the tepid response to the deal while it has been just a rumor, it wouldn’t seem likely that sentiment would be overwhelmingly different, should it become reality.

So, if history is any guide, next week could be a downer for Apple investors. Could that be a buying opportunity? Well, perhaps, if your perspective is relatively short. Last year, Apple’s June quarter was something of a disaster, with sales essentially flat YoY and earnings down sharply. Sales of the flagship iPhone 5 hit a wall 6 months after launch, while the iPad franchise turned down in the face of new global competition at much lower price points. This year ought not to be quite so bad – iPhone sales are expanding in China as new distributer China Mobile and its rivals roll out 4G LTE to new markets across the country. Add in that the mix shift to iPhones and ongoing cost improvements should drive continued strong margins, and this year’s June quarter looks relatively rosy. Expectations for 7% YoY sales growth against the extremely easy compare, in line with management guidance, look pretty doable.

Apple also has the advantage of the iPhone 6 rumor mill. At this point, it seems clear that the new iPhone will introduce a larger screen size – anywhere from 4.7” to 5.5” diagonal depending on the blogger. Given the popularity of larger screen phones and Apple’s previous intransigence in acceding to consumer preferences, analysts have already begun postulating substantial share gains for Apple in the high-end smartphone space. A big screen iPhone will undoubtedly make many true believers happy, and will likely draw some would-be Samsung Galaxy buyers as well, but given slowing high-end demand and almost certain price pressure, it’s not sure that iPhone share gains would translate into meaningful growth. Noting that screen size is also a driver of costs, it may also be that the iPhone 6 would either demand higher prices or accept lower margins than the iPhone 5S, neither of which would likely be conducive to upside in Apple’s 4QFY14 numbers. Still, before those 4QFY14 numbers hit the tape, Apple investors could make some hay while the sun shines this summer.

Longer term, I am pessimistic around Apple. It’s not that I don’t appreciate their towering strength in the design, production and marketing of mobile devices – I do. It is simply that the market that it serves – expensive, proprietary smartphones and tablets – is approaching saturation, without any clear alternative venue for future growth. Nonetheless, it seems unlikely that Apple’s weaknesses will prove much of a bother over the summer, so go ahead and buy some next week and we’ll talk again after Labor Day.

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