[October.2024] Four Focal Points of Apple's Earnings Report

As a market giant, Apple's earnings reports consistently capture intense scrutiny and investor attention.

$Apple (AAPL.US)$ will release its latest earnings results after the market closes on October 31. Each earnings release may signal a potential investment opportunity, but before diving in, investors need to understand how to interpret their financial statements.

How should we interpret Apple's earnings report? Apple has consistently been a stabilizing force in the U.S. stock market, with very stable operations.

While the latest earnings report may impact the stock price in the short term, its effect on the long-term trend is likely minimal. Therefore, we should focus on a few key aspects from a long-term perspective: the core business, the competitive moat, growth drivers, and dividends and payouts.

1. Fundamentals and Core Operations

In evaluating a company's potential for long-term growth, comprehending its business model is incredibly important, as robust operations usually underpin favorable earnings and stock valuations.

When it comes to Apple, the sales and market share of the iPhone are integral components of the company's performance.

Why is the iPhone so important to Apple? Firstly, iPhone sales account for over half of Apple's revenue. Secondly, its Services segment, Apple's second-largest revenue stream, relies heavily on the iOS operating system and the Apple Store, both of which are interconnected with the iPhone's ecosystem. Thirdly, wearables like the Apple Watch look as if they have found a foothold in the market by leveraging iPhone users' loyalty and familiarity with Apple's products.

Given that the iPhone has been critical to Apple's business strategy, it's important to assess the solidity of this core business by examining changes in its market share. If the iPhone continues to gain or maintain a large share of the market, this may suggest that the company is thriving. However, if the iPhone's market share shrinks, it may be an indication that the company could face challenges.

Data available on moomoo suggests that iPhone sales fluctuate according to the season, which may be related to the timing of Apple's new product releases.

By comparing the iPhone's market share during Q4 - traditionally a high season - between 2019 and 2023, we can see that it rose from 19% to 23%, indicating strong performance of its core business.

Apple's market share has been hit as Huawei's high-end phones resurge and Xiaomi's latest flagship thrives. IDC reports a drop to 17.3% in Q1 2024, down 3.4 points from last year, likely contributing to a 10% fall in Apple's stock price in Q1 2024.

In response, Apple cut prices and announced that it would integrate AI into new models. These actions boosted market expectations for future iPhone sales. Following a substantial adjustment, Apple's stock rebounded strongly to a new high. In Q3 2024, Apple's market share reached approximately 18%, an increase from the same period last year. We'll be watching to see if Apple can sustain its market share and regain its former dominance.

2. Moat

In the long term, a company's competitiveness can be driven by its "moat" - that is, the factors that protect it from competition and enable it to maintain its leadership position in the industry.

Apple is widely recognized as having one of the deepest moats among tech giants, thanks to its self-designed chips and ecosystem. But how can we measure the depth of a company's moat? One commonly used indicator is gross margin.

The more competitive a company is, the greater its bargaining power over clients, which might translate into higher gross margins.

Over the past few years, Apple has maintained an average gross margin of around 40%.

Generally, maintaining a gross margin of 40% or higher may be a key factor in sustaining the company's deep moat and competitiveness over the long term. If the gross margin were to slip, it could threaten Apple's competitive position and ultimately weigh down its stock price.

Apple's gross margin exceeded 44% in the past six fiscal quarters and has shown a slight increase, suggesting that its competitive moat remains stable. It will be interesting to see if Apple can maintain these high gross margin levels in the latest fiscal quarter.

3. Growth Drivers

While Apple's core business and moat have been key to its success, it's important to identify new growth drivers for the company going forward. The growth potential of hardware seems to be limited, as evidenced by the relatively stable sales figures of iPhone over the past few years. The exception was in FY2021, when iPhone sales spiked partly due to the decline in the market share of its major competitor Huawei.

Instead, Apple's current growth driver may be its Services segment, which includes commissions from the Apple Store, advertising revenue from Google, and subscription services.

Apple has maintained a consistent growth rate of over 10% in services segment revenue, with some years reaching more than 20%. The contribution of Services to total revenue has also increased significantly, from less than 10% to around 20%.

The first two quarters of 2023's fiscal year saw a considerable slowdown in the growth of Apple's Services, with YoY（Year over Year） growth of 6.4% in Q1 and 5.5% in Q2.

However, since Q3 2023, revenue from Apple services has gradually stabilized and rebounded. In Q2 of fiscal 2024, services revenue hit about $24.2 billion, up 14.1% year-over-year, and maintained double-digit growth for four consecutive quarters. Moving into the upcoming fiscal quarter, it will be crucial to monitor if Apple can keep up this strong growth momentum in its services sector.

Apart from existing growth drivers, Apple's future growth expectations also stem from potential gains in new product lines, such as the Vision Pro headset launched in the second half of 2023. However, with the headset just hitting the market in early 2024, it currently shows modest performance. We'll need to monitor its subsequent model releases to see if it can become a breakthrough product.

4. Share Buybacks and Dividend Payments

When contemplating potential investments in a company, investors can also extend their analysis beyond its financial performance and take into account the value it bestows upon shareholders. Both share buybacks and dividend payments may emerge as pivotal indicators of a company's dedication to delivering value to its shareholders.

Share buybacks possess the potential to elevate metrics like earnings per share (EPS), return on equity (ROE), and stock liquidity – all of which can be useful indicators for a stock price's trajectory. On the other hand, dividend payments offer direct returns to shareholders. Pertinent information concerning these facets can be gleaned from a company's cash flow statement.

Apple has consistently maintained a high level of stock buybacks in recent years, with the estimated amount for the 2023 fiscal year being around $77.55 billion, as evidenced by the cash flow from financing activities in its cash flow statement. Remarkably, the tech behemoth ranks among the leading companies listed in the US, with an aggregated buyback sum of $400 billion over the preceding five fiscal years.

Dividend payments have also shown an upward trend over the past five years, totaling approximately $70 billion.

These practices help keep Apple's net assets at a low level, resulting in a high ROE of 172.0% in FY2023.

As Charlie Munger, vice chairman of Berkshire Hathaway, famously stated, "Over the long term, it's hard for a stock to earn a much better return than the business that underlies its earnings."

Investors may closely monitor Apple's share buyback and dividend payment actions when reviewing their financial statements. Continuation of these practices may be a positive signal.

Having read this far, you may now have a deeper understanding of how to interpret Apple's financial reports. It's noteworthy that the release of earnings reports from prominent companies may present unique trading opportunities for different types of investors.

For instance, if an investor, after analyzing past reports and considering recent developments, believes a company's latest earnings will send positive signals and boost the short-term stock price, they might consider taking a long position. This could involve buying the underlying stock or purchasing call options.

Conversely, if the investor expects the earnings to be unfavorable and potentially pressure the stock price, they might consider taking a short position, either through short selling or buying put options.

If the report's outcome is unclear but volatility is expected, they might use a straddle strategy, buying both calls and puts.

However, investors should carefully assess their risk tolerance, particularly when considering high-risk trades like short selling or options, before making any trading decisions.

To wrap up, firstly, Apple's performance has indicated that it has been heavily reliant on iPhone sales and market share. Any deterioration within this segment could impact the stock price.

Secondly, Apple's high gross margin may suggest it has a deep moat. A decreasing gross margin could signal a threat to the company's deep moat.

Third, the company's services segment is a key growth driver. We'll be watching to see if it can maintain its high growth rate.

Finally, share buybacks and dividend payments can provide value to shareholders, making them important indicators to watch when reviewing Apple's financial statements.

Each earnings report may present new investment opportunities, so investors should align their strategies with their risk capacity.