About a month ago, I detailed why I was losing faith at the tech giant Apple Inc. (NASDAQ:AAPL). A number of data points suggested that future sales were not performing as expected, partly reasonably for the lack of new product releases this fall. While my premise proved correct about the company, the stock has not performed as I would normally expect. Today, I’d like to discuss why that is and why my attitude toward stocks has changed.
A couple of weeks ago we received the results of the fourth fiscal quarter from Apple ( AAPL ) for the quarter ending September. The top line number of $89.5 billion was slightly ahead of analysts’ estimates, but the path average had fallen by more than $1.1 billion since the August report. The iPhone was the only product segment that showed year-over-year growth, and that, along with the iPad and Services, could their respective individual assessments. On the other hand, Wearables came in slightly lower and the Mac line fell slightly. The main results compared to the previous two periods of the fourth fiscal quarter can be seen in the chart below. The change column represents the year-over-year change from Q4 2022 to Q4 2023, while the changes for margins and tax rates are the actual percentage difference between the two periods.
Apple reported solid earnings when looking at margins. Product margins grew quite nicely, perhaps due to an effective price increase for this year’s iPhone lineup. The high-margin Services segment also showed some improvement and is becoming a bigger part of Apple’s total over time, helping the company’s broad gross margin figure. Management was also able to keep the growth in operating expenses very limited, helping to increase operating margins over 30% for the quarter. With a lower tax rate and help from buybacks, earnings-per-share growth came in at more than 13%, with the reported number beating the street by 7 cents. Management’s ability to control its cost structure means the bottom line can still make a bit of an impression even if the top line doesn’t.
In my previous article about Apple, my biggest concern was the lack of revenue growth. For the first time in several years, the company had just reported four quarters of year-over-year revenue declines. As the chart below shows, Street analysts had cut their average Q1 revenue estimate by more than $18 billion in the roughly 18-month period leading up to the fourth-quarter report. I still thought there were a number of headwinds coming for Apple, including competition from Huawei and no iPad refresh this year, along with the company’s headphones not arriving until calendar 2024.
It turned out that my attitude about the Apple business was correct, because in the conference call, management said revenue in the December 2023 period (Q1 fiscal 2024) would be similar to the year-ago quarter. Street was calling for about 4.6% growth in the holiday period, and the current average estimate below in green now represents just 0.8% growth over the year-ago period. Some analysts tried to defend the company by pointing to the calendar change last year adding an extra week to that year’s sales period, but this was a familiar item that I’ve discussed for months and should have already been included in the assessments.
Apple shares initially fell when the guidance was given, falling below $170 in that after-hours session. However, the stock has more than recovered since then and is now just a stone’s throw from its all-time high. Why is this? Well, it’s all about the American economy. October’s jobs report was not good and monthly wage growth was less than expected. Since then, gas prices have fallen even more, and we’ve had some good bond auctions. On Tuesday, consumer inflation data was slightly cooler than expected.
As a result, we’ve seen bond yields fall sharply in recent weeks. On October 22, the 10-year yield (US10Y) was just under 5%, but closed Tuesday at 4.44%. With each new data point that suggests the Federal Reserve may be hiking rates, the market rises nicely, as we saw again on Tuesday. I’ll still note that Apple is up 5.70% since reporting earnings, however that number has actually trailed the Invesco QQQ ETF (QQQ) that tracks the NASDAQ 100, which itself is up 6.02% over that time.
As of Tuesday’s close, Apple shares are trading at more than 28.5 times their expected earnings per share for this fiscal year that ends next September. This is more expensive than when I previously covered the name, but the market seems willing to pay that much because the fees are quite a bit lower. Also, although revenue growth appears to be stagnant right now, the margin progress noted above has earnings per share growth that appears to be more impressive than previously thought. Continued strong net income drives significant cash flow here, and that benefits shareholders through dividends and a large share repurchase plan.
With the overall market dynamics changing in recent weeks, I am upgrading Apple stock to a hold today. I can’t say I would buy Apple Inc. stock. at the moment, given the tepid earnings growth situation and high valuation, combined with a 10% rise from the post-earnings low in just a few weeks. However, the market seems much less worried inflation in the US currently, and if the Fed is indeed done raising rates, large-cap tech is likely to head higher going forward. In the end, while my view of Apple’s business was correct, the stock shook off the bad news as the overall market rose.