Apple from Bear to Bull

Apple (AAPL) sentiment was changed from being bearish to bullish, after its sharp stock price correction and negative sentiment towards the stock. The biggest risk is that Apple is facing increased competition in its core business segments of smartphones and tablets. Smartphone competitors like Sony (SNE), HTC, Samsung have also announced/launched powerful flagships in the last couple of months. These flagships easily beat the iPhone 5 on hardware metrics and their software is also catching up with Apple’s iOS operating system. Blackberry (BBRY) which was mostly given up for dead has revived itself with its new BB 10 operating system and devices. Apple is also facing heightened competition in its other core category of tablets. The competition pressures have increased with cheap Android tablets garnering increased market share. IDC is now predicting that Android will overtake Apple to become the No.1 operating system for tablets in 2013.

Read Step by Step How Apple is killing Personal Computers and Win Intel Duopoly along with HP, Dell.

Competitor Flagships circling Apple’s iPhone

Apple made ~55% of its revenue from the sale of its highly popular iPhones in the last quarter. The company sold ~48 million iPhones to generate an astonishing ~$31 billion in smartphone sales in just one quarter. However, competitors are coming out with new flagship phones that can compete on equal terms with iPhone on almost all respects. The huge lead that iPhone enjoyed over other phones in the market has decreased quite drastically in the last year or so.

a) Samsung – Samsung announced the latest version of its highly popular Galaxy series of smartphones. The new S4 has a number of unique features such as “Smart Scroll” (the ability to scroll with the movement of the user’s eyeballs), “Smart Play”, “Smart Pause” etc. The new phone as usual has better hardware in terms of screen size, resolution and speed. The South Korean giant has tried to emphasize software and functionality with its new phone rather than just harping on the better hardware. Apple seemed to be defensive during the launch of its biggest competitor’s new flagship phone.

b) HTC – This Taiwanese smartphone company has been battered by in the last couple of years by increased competition from Samsung and Apple. However, HTC remains one of the best producers of high quality smart phones. HTC’s new flagship Butterfly can compete with the best Android smart phones in the market. HTC’s proprietary “Sense” software interface on top of Android, distinguishes it from the rest of the field.

c) Blackberry – Blackberry is trying to make a comeback into the smartphone market after seeing its market share decimated by the entry of the iPhone. The company’s new series of smart phones (Z10 and Q10) have received good reviews in the market. While it is too early to tell if Blackberry can become a sustainable competitor on its own, initial signs for Z10 have been encouraging.

d) Sony – The Japanese electronics giant has started to increase its focus on the smartphone division after buying out Ericsson in its JV. The company has spent a lot of money in developing and marketing its new Experia Z flagship smartphone. The company is using its camera and design strengths to differentiate the product from the rest of the Android competition.

Cheap Android Tablets to push Apple to Second Place

Google’s (GOOG) free Linux based operating system has allowed hundreds of hardware vendors to play in the tablet space. This has led to a proliferation of tablets in the entire price spectrum. It is now possible to buy cheap Android tablets for as little as $80. In the emerging and low income markets, cheap Android tablets have become the dominant players as most customers do not have the money to buy iPads. This had made IDC to revise up its tablet forecasts for 2013.

Android competition to push Apple to No.2 in 2013 – IDC has increased its tablet sales estimate up by ~11% in 2013 to 190 million units. This was done mainly because of higher sales of cheap Android tablets. According to IDC, Android will increase its market share to ~49% from 43%, while iOS will see its share drop to ~46% from ~54%. The Android tablet market is highly fragmented with Samsung not being able to dominate the Android segment in tablets. Asustek, Acer, Lenovo, Samsung etc. are all trying to get a bigger pie of the tablet market. Price remains the main weapon to win market share in the still nascent fast growing tablet market.

Wintel competition – Microsoft is desperately trying to gain share through the introduction of the company’s own Windows RT and Windows Pro tablets. Though Microsoft’s tablets have not garnered too much revenue, the other players in the Wintel ecosystem such as HP have started to come out with some pretty good products. I was impressed with HP’s latest “Elitepad” tablet launch based on the Windows 8 operating system. This tablet has good hardware and built quality and seems a decent substitute for the iPad. Elitepad is mainly targeted towards the business users. It is still early days for this product and I will be watching how the tablet fares in the market. It is expected that the Wintel players will be able to grow their market share to ~10% of the global tablet market by 2017.

Source IDC

Stock Performance

Apple’s stock price has remained almost static over the last month trading in a range of ~$420 to ~$460, after a sharp decline post results. The stock has underperformed the broader NASDAQ index by ~5%, as Apple has not participated in the broad based market rally. The stock seems to be getting valuation support, as bad news on the tablet and smart phone front is not leading to additional stock price decline. The stock is also getting support from speculation that the company will return some of the cash on its balance sheet to shareholders in some form.

Summary

Competition is increasing for Apple in both its core tablet and smartphone product categories which together make up for more than 70% of its revenues. However, the increasing competition seems to have been factored in the stock price which is trading at a forward P/E of less than 10x. Apple has not revealed its cards about the launch of new product categories such as the iWatch and iTV. We have only got hints about these products and the timeline around their launch seems hazy. Apple is increasing its focus on emerging markets where it is still quite weak. It has already managed to win substantial market share in India within one quarter of increased sales and marketing spend. Despite the heightened market competition, Apple remains a buy due to bearish sentiment, attractive valuation and potential catalysts.