A Rare Warning Sign for Apple Investors
In a surprising move, analysts at Jefferies have downgraded Apple, one of the world’s largest companies, to underperform. This rare rating is a stark contrast to the typical bullish stance of Wall Street analysts.
Weak iPhone Sales and AI Features
Jefferies cites weak iPhone shipment projections for the fourth quarter, driven by Apple’s artificial intelligence (AI) features failing to resonate with consumers. A survey reveals that most U.S. consumers don’t find AI features useful, indicating a lack of demand for an AI-powered iPhone upgrade cycle.
Revenue Growth Concerns
Apple’s revenue growth has been sluggish, with a mere 2% increase in its fiscal 2024 and 6% growth in its fiscal Q4. Device revenue, in particular, has been struggling, with a 1% decline in its fiscal year and a 4% rise in Q4. However, the company’s high-margin services revenue has seen stronger growth, climbing 13% last fiscal year and 12% in Q4.
Services Revenue: A Silver Lining
Apple’s services revenue, which includes the App Store, search-sharing revenue, Apple TV, Apple Pay, and other subscriptions, has a gross margin of nearly 74%, compared to its product gross margin of about 37%. This means that revenue from services contributes more significantly to the company’s bottom-line profits.
Challenges in China and Antitrust Concerns
Apple faces challenges in China, where iPhone sales plummeted 18% in Q4, while rival Huawei’s sales climbed 15.5%. The company’s inability to include Apple Intelligence with its smartphones in China has hindered its competitiveness. Furthermore, the Alphabet antitrust case poses a risk to Apple’s revenue stream, as Alphabet’s estimated $20 billion annual payment to Apple for being the default search engine on Safari may be in jeopardy.
Valuation Concerns
Apple’s stock has experienced significant multiple expansion in recent years, with its trailing P/E ratio tripling from 12 times to 36 times. While the shift towards high-margin services revenue has contributed to this expansion, the lack of an iPhone upgrade cycle and the stock’s high valuation may make it wise to take profits.
A Cautionary Note for Investors
With Apple’s revenue growth concerns, challenges in China, and antitrust risks, investors may want to reassess their position in the company. While Apple’s strong business model and services revenue provide a foundation for growth, the current valuation and lack of an iPhone upgrade cycle may make it prudent to take a cautious approach.
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