Despite high expectations from the ongoing holiday season, Apple’s (NASDAQ:AAPL) shares took a big tumble Wednesday, falling almost 7% by the end of the day and recording its biggest single-day loss in four years. Such a huge trading loss cannot obviously be accounted for by a single reason and multiple reports have since emerged with various explanations for the decline. While some have put it down to margin requirements for Apple positions being increased by clearing firms, others have attributed the decline to decreasing expectations about the declaration of a special dividend from Apple this year before the impending fiscal cliff. Several headlines in the media pinpoint Nokia’s (NYSE:NOK) recent deal with China Mobile (NYSE:CHL) as the catalyst. These reasons, however, have little to do with the fundamentals of Apple and don’t therefore impact our long-term view of the company from a valuation perspective.
Apple’s big fall on Wednesday however coincided with a few other important news reports that might impact its long-term competitive standing. Research firm IDC, for instance, saw Apple’s tablet market share slipping to 53.8 percent in 2012 from 56.3 percent last year in the face of rising competition from Android tablets such as Google’s Nexus 7, Amazon’s Kindle Fire and Samsung’s Galaxy Tab. Growing competition in the smartphone market from a resurgent Nokia, which announced a China Mobile deal for its flagship Lumia 920T the same day, was another big reason for the nervousness. Somewhat disconcerting was also AT&T’s announcement that it expects to sell only 26 million smartphones this year, implying a year-over-year decline in Q4 smartphone sales. Given how important iPhone has historically been to AT&T’s smartphone sales, this was seen as having a direct implication on the overall iPhone sales.
While all the above listed concerns may have cumulatively pulled down the company’s market capitalization by $35 billion in a single day, we maintain our $710 price estimate for Apple’s stock as our model takes into account the impact of the growing competition on Apple’s margins both on the iPhone and the iPad front. As for the impact of the recent developments on Apple’s iDevice sales, we see that our estimates might actually be a tad conservative.
iPad market share concern
Specifically, the IDC estimates that the tablet market will increase from around 122 million in 2012 to about 283 million in 2016. In the same time frame, Apple’s market share is forecast to decline from about 54% in 2012 to less than 50% in 2016, ceding market share to new entrants that are outed to use rival Microsoft’s Windows platform. This may have had some concerned given that the iPad mini’s launch is widely expected to help staunch the market share decline, but given the nascent nature of the market and the incredible growth rates ahead, we feel losing 4% market share isn’t a big deal. If we convert the market share figures to numbers, we see that IDC estimates Apple selling over 140 million iPads in 2016, which is in fact more than the 137 million that our model forecasts as shown below.
Moreover, given that the iPad contributes less than 13% to Apple’s value by our estimates, this news bit alone shouldn’t have Apple’s investors much concerned. On the other hand, the iPhone accounts for close to 55% of Apple’s value and the Nokia-China Mobile partnership and the AT&T announcement should therefore have more of an impact, if any.
AT&T guidance concern
AT&T said Wednesday that it had sold 6.4 million smartphones in the first two months of Q4, which is only a modest 7% increase over the same period last year. It further added that it is increasing its guidance for the full year smartphone sales from 25 million to 26 million. Since AT&T has already sold 16.7 million smartphones in the first three quarters of 2012, this implies sales of only 9.3 million in Q4 – lower than the 9.4 million sold during the same period last year.
Further, with 6.4 million smartphones already sold in Oct/Nov, what AT&T is effectively guiding for is about 2.9 million smartphone sales in December. This is unusually slow considering that holiday shopping in December is actually the strongest and AT&T managed to sell 3.4 million iPhones during the same month last year and an average of 3.2 million iPhones in Oct/Nov this year. We feel AT&T is being conservative with its estimates since the company also commented that the iPhone 5 inventory is now “in good shape”, having worked through an “initial spike” in demand.
If we look at AT&T’s smartphone sales over the past year, we see that the iPhone accounts for an average of 77% of its total activations with the December quarter seeing a spike to 80%. Further, AT&T has accounted for 21%, 13%, 14%, and 18% of Apple’s iPhone shipments over the last four quarters. Considering that the iPhone 5 launch is a broader roll-out than the 4S and the possibility that the introduction of LTE may have caused a shift in iPhone mix towards Verizon, AT&T’s contribution to Apple’s total iPhone sales will tend to be towards the middle of that range. Assuming that AT&T is 17% of the total iPhone sales and that 80% of the rather conservative estimate of 9.3 million smartphones sold by AT&T are iPhones, we see that Apple will sell about 44 million iPhones in Q4 – in line with our estimates for the year.
This still leaves a significant scope for upside if AT&T’s contribution to iPhone sales turns out to be lower than 17% or if its implied guidance for the December month smartphone sales are indeed as conservative as we think due to the afore-mentioned reasons.
As for China Mobile, the carrier is indeed a treasure trove of potential waiting to be untapped with its over 700 million subscriber base and only about 11% 3G penetration. Nokia therefore has scored a big win by securing China Mobile’s partnership for the flagship Lumia 920 and will help it promote the phone as a high-end alternative to Android in a huge market away from iPhone’s reach so far. However, the Windows Phone platform is still in the early stages of adoption and hence the market share loss to Apple in the near-term could be small, as deals with China Unicom and China Telecom keep Apple buoyant in the Chinese market. Moreover, while Apple may not have access to China Mobile’s huge network right now, we see them arriving at a subsidy arrangement soon. This deal may have an impact on margins as we have forecast but the long-term market share upside should more than make up for it. (see Apple Faces China Mobile-Sized Stumbling Block Limiting China Upside Potential and Apple Can Ride China Potential Past $800 With China Mobile’s Support)