Apples shares lose shine as markets expect Q3 earnings decline

<p>The markets are bracing for yet another big drop in earnings for Apple as it reports third quarter results after the closing bell in the […]</p>

The markets are bracing for yet another big drop in earnings for Apple as it reports third quarter results after the closing bell in the US on Tuesday 23rd July.

This time, Apple is expected to post a 21.4% drop in earnings to an earnings per share (EPS) of $7.32 – compared to $9.32 in the same quarter a year ago.

Much of this fall can be attributed to declining outlook optimism and concerns of a slowdown in earnings growth.

So what can we expect?

Until September last year, Apple was Wall Street’s darling stock. Average yearly share price gains of over 60% in the last four years saw funds flooding to the company’s shares price.

But Apple has lost its spark.

So what has happened?

Share prices have gone from trading above $705 to a low of $385.10 – a 45% fall in value in a space of just seven months. For any other company, this would represent an absolute disaster. To put into context, BP’s share price fell 55% in 2010 when news emerged of the oil spill in the Gulf of Mexico. Then in January last year – Tesco shares fell 24% after the firm issued its first ever profit warning in 20 years. The 45% fall in Apple’s shares price means a whopping $250bn has been wiped off its value.

Apple’s Share Price (Source Reuters)

This massive decline drove CEO Tim Cook to announce the first big return to shareholders in an effort to stave off the declining popularity of the company’s stock. Don’t forget, Apple was said to be on the fast track to becoming the first company to be worth $1 trillion. That has now changed from dream to reality and back to a dream in the space of just 12 months.

Apple’s decline can best be summed as a result of a combination of an overbought share price and declining outlook against the backdrop of increased competition which, in essence means ‘slowing growth’.

In their previous quarter (Q2) Apple announced a drop of 19% in earnings per share to $10.09 compared to $12.30 in the same quarter a year ago. This was its first earnings decline in close to a decade. 37.4 million iPhones, 19.5 million iPads and 3.9 million Macs were sold in the quarter, marking a sales increase of 6.6% iPhones and 65% iPads and a 1.6% fall of Mac sales compared to the same quarter a year ago.

Apple Earnings Q2 2013 (Source Reuters)

A failure to make a significant breakthrough in China remains a fundamental issue for Apple, where Android mobiles are leading the market. In the last quarter, Greater China contributed to 18.8% of Apple’s total revenue. In spite of this, the potential in the region remains huge and untapped. According to IDC, Apple ranked sixth in the Chinese market, with a 7.9% share in the final quarter of last year. This pales significantly when compared to Samsung, which ranks first with a market share of 15.4%. A failure to reach a deal with China Mobile remains a massive barrier for Apple to overcome.

Rival firm Nokia, meanwhile, recently announced that it sold fewer handsets than expected in the last quarter, shipping just 53.7mn against expectations of 56.2mn – a sign of the competition posed by Samsung and its popular Galaxy handsets.

There have been reports recently that Russia’s biggest mobile operators, including Vimpelcorn, will no longer sell iPhones on concerns of weak profit margins. Russia does not allow subsidies for handsets, making the devices too expensive.

In truth, Apple marginally beat market consensus last quarter. This did not brighten prospects, given the figures beat forecasts by a mere 0.7%. To somewhat balance out lingering disappointment and fears of a significant slowdown in earnings growth, the company announced plans to double the amount of cash being returned to shareholders to $100bn by the end of 2015 as part of an increased $60bn share repurchase programme – the largest share repurchase programme in history.

Looking Ahead?

This quarter’s announcement will be all about Q4’s expected product innovations and a return to core numbers.

The following questions need to be answered:

  •  What are the new product innovations in the pipeline (iPhone 5S, iWatch)?
  •  What is the roll out date for new product innovations (expected Sept/Oct)?
  •  How does the company expect to fight a slowdown in earnings growth (profit margins, Asian growth)?
  •  What are the developments on a potential deal with China Mobile (China’s largest carrier with access to 700mn users)?

Apple had projected Q3 revenues to be between $33.5bn and $35.5bn. Market consensus has been for a drop in earnings per share (EPS) of 21.4% to $7.32 from $9.32 a year ago in the same quarter.

The massive share buyback programme increase – a ‘diversion’ tactic – is likely to be missing this time around so it’s a return to fundamentals for most shareholders.

An earnings report above expectations would dampen lingering shareholder concerns about the attractiveness of Apple products over a quarter where there has been no new development. Add to that rumours that the upgraded iPhone 5S will be ready for launch in October this year (a factor likely to impact iPhone sales).

There are tough comparatives, however.

It is important to recognise that part of the drop in earnings is intertwined with a lack of new product roll outs in the same quarter year-on-year. In Q3 last year, Apple benefited from the launch of its upgraded iPad 2 (third generation iPad) which was released in March 2012. At the same time, Apple struck a deal with the second largest mobile operator in China, China Telecom, helping to boost Q3 2012 figures.

Guidance is a key aspect here. Shareholders want to know how the company will keep its attractiveness as competitors such as Samsung have bitten a significant chunk out of Apple’s market share in the last 12 months.

As Apple fights to maintain its product innovation, the way it responds to shareholders has become increasingly innovative. I note last quarter’s announcement of the increased share buyback scheme to douse shareholder concerns. In this sense, share price talks and prices have been in a consolidation phase over the last quarter. I think there is the added possibility that Tim Cook could break tradition and give an insight into what product innovation is on the cards for the rest of the year.

A break in share price below $390 remains a significant concern. Prices have found solid support in this area and have twice tested this level in the last few months. A break below $390 would represent a decline below the 50% Fibonacci Retracement level. Buyers need to see prices back above $470 as a first target and yet this comes with the caveat that the 50 daily moving average remains some distance below the 200 daily moving average – a factor that continues to provide unease.

Be prepared for some more volatility in Apple shares.

For a technical look at Apple, please see James Chen’s article here.

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