Apple Q4: It’s Time To Banish The Stock From Your Portfolio (Rating Downgrade)
Contributor since 2023 / 2155 Followers
Summary:
- Apple’s short-term growth potential is strong, but long-term prospects are weak due to overvaluation and changing technology markets, making it a Sell.
- Q4 earnings were stable, with record iPhone revenue and strong growth in Services, but long-term decline is likely.
- My valuation analysis shows Apple is heavily overvalued, with a 61% negative margin of safety (including sentiment factors), indicating it’s a poor long-term investment.
- Geopolitical tensions and macroeconomic vulnerabilities further support the Sell rating, suggesting a risk-neutral portfolio with bonds and undervalued stocks is wise right now.
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In my Apple Inc. (NASDAQ:AAPL) Q4 earnings preview, I mentioned that the company could deliver strong growth- and momentum-based stock returns in the next 12 months, primarily related to Apple Intelligence, but that the long-term thesis is growing weak. The notion that Apple is an opportune long-term Buy at the current valuation and its market position is unfounded based on the business’s fundamentals. Given that the company has been trading at a valuation based on substantial goodwill for quite some time now, it appears that even Buffett-the company’s largest and most famous investor – continued to cut Berkshire Hathaway Inc.’s (BRK.A) (BRK.B) Apple stake in Q3 by nearly 20%. It is growing clearer that Apple is a near-term Hold, but in all likelihood, it is a Sell based on the long-term horizon, especially given how the current technology markets are changing with the advent of AI. Moreover, the current multipolar geopolitical climate counters Apple’s rich history of capitalizing on globalization.
Q4 Earnings Review: Conditions Are Stable for Now
Firstly, the headline data: Apple beat the normalized EPS consensus estimate by $0.04 and beat the revenue consensus estimate by $514.17 million. In terms of guidance, management raised its guidance for the December quarter compared to previous expectations, expecting low- to mid-single-digit revenue growth year-over-year. Notably, management expects double-digit growth in Services revenue, which is to be expected, given that this is now the company’s core growth segment. Services revenues are also helping to support Apple’s gross margin expansion, now projected to be approximately 46.5% for Q1 2025.
It’s quite obvious that Apple has retained quality in its ecosystem. Indeed, the company has saturated its core markets, and unlike Microsoft Corporation (MSFT), Apple is not a serial acquirer focused on equity appreciation as its primary goal. It is fair to assess Apple as a company that is somewhat willing to sacrifice its total returns for the sake of continuing a rich legacy of hardware and software quality. I think it is a fair assessment to conclude that the Apple experience is very much alive, even if the growth rates attributed to the business model are indicating cause for concern from investors.
iPhone remains the company’s core offering, and the segment reached a September quarter record revenue of $46.2 billion, representing a 6% year-over-year increase. Management mentioned in the Q4 earnings call that the new iPhone 16, featuring Apple Intelligence, positions the product for a new era. Yes, we may see a near- or medium-term drive in demand, but is this enough to stop the impending long-term decline?
As Apple has a particularly strong presence in Western markets, it is now seeking new opportunities, with particular strength beginning to accrue in the Indian market. Tim Cook noted that Apple achieved an all-time revenue record in India during Q4. India is currently the second-largest smartphone market globally after China, with 13% and 32% market shares respectively. Apple has also started to manufacture its iPhones in India through Foxconn Technology Co., Ltd. (OTCPK:FXCOF), Wistron, and Pegatron. India might not be a direct ally to the United States, but it certainly is more cooperative to Western economic interests than China at this time. Based on my analysis, Cook would be wise to continue heavily investing in India-the collaboration will not only be good for business but strengthen America’s position on the global stage, given that India is the major economy with the highest GDP growth at the time of this writing.
In summary, Q4 results showed that Apple’s condition is stable for now, but if I were an Apple shareholder, I wouldn’t take my eye off the investment. It seems quite vulnerable to long-term decline currently, given its overextended valuation.
Valuation Analysis: Heavily Overvalued in the Long Term
Apple has a 10-year annual revenue growth rate of 13.4%, but it is 8.65% as a five-year average. To be conservative, I estimate that the company will achieve a 5% revenue growth rate over the next 10 years. Therefore, I estimate that the company will have a total TTM annual revenue of $636,955 million in November 2034.
Given that the company has an EBITDA margin of 31.75% as a five-year average, I will be using this as my terminal EBITDA margin. I expect that as the company is focusing more on services revenue than hardware, it will at least be able to maintain this five-year average margin over the next decade (its current TTM EBITDA margin is 34.44%). Therefore, I estimate that the company will have a total EBITDA of $202,233 million in November 2034.
As the company has a five-year average EV-to-EBITDA ratio of 21 but a 10-year median EV-to-EBITDA ratio of 13.8, I expect a contraction in its current TTM EV-to-EBITDA ratio of 24.6 over 10 years (especially as its revenue growth rates are likely to contract significantly). Therefore, I am using an EV-to-EBITDA terminal multiple of 18.5, which is the current sector median. Therefore, I estimate that the company will have a November 2034 enterprise value of $3.74 trillion. As the company’s current enterprise value is $3.32 trillion, this implies a small 1.2% compound annual growth rate over 10 years.
For my discount rate, I will be using the company’s weighted average cost of capital (‘WACC’) of 11.19%. This is based on a 96.95% equity weighting with an 11.54% cost of equity derived via the CAPM model, and a 3.05% debt weighting with a 0% effective cost, adjusted by Apple’s 24.09% tax rate.
My estimated November 2034 enterprise value of $3.74 trillion discounted back to today’s value at an 11.19% discount rate gives a current 10-year-holding-based intrinsic value of $1.29 trillion, indicating a 61% negative margin of safety from the present enterprise value of $3.32 trillion.
Macroeconomic Analysis: Move to a Risk-Neutral Portfolio for Now
While Apple has been struggling with growth in recent years-not least because the effects of globalization have diminished as China has consolidated its leadership position in design markets-there is an argument for the notion that the company could continue to consolidate a strong position through its collaboration with India.
If geopolitical tensions intensify between the U.S. and China, which I see as somewhat inevitable (though Trump may be able to deter hostility for some time), then Apple will likely suffer as its Asian end markets become more restricted. I see a future not of large-scale hot wars between the West and East but of many subtle proxy wars that involve a lot of data warfare and significant threats of nuclear weapon use. Whether this is a cold or hot war is still yet to be defined, but it is unlikely to look like World War II as the nature of conflict itself has shifted. As a result, Apple and the broader Western technology ecosystem should be able to continue to operate uninterrupted, but growth will likely be stifled for periods-given Apple’s overextended valuation, I consider it a poor holding at this time of macroeconomic vulnerability.
That said, Apple may be able to sustain high sentiment in the market for quite some time, and with the correct diplomatic leadership in the White House for extended presidential terms, we may be able to navigate a new multipolar order with peace. Therefore, I am hopeful for both Apple and the West in general that we can position ourselves regarding a more diversified balance of power in the world. Unfortunately, the inevitable outcome in any of these scenarios is somewhat of a decline for Apple and its moat on the global stage.
Conclusion: Sell
The next five years will be very tense geopolitically, and given this, I am inclined to construct my portfolio as risk-neutral. That means more bonds (50% or higher) and low-risk, undervalued stocks that will not be subject to significant valuation collapses in the case of a severe financial crisis. One can still take risks prudently in this climate, but it should be done so in a moderated fashion. Any macroeconomic catalysts that spark fear in the markets are likely to negatively impact stocks with valuations that have deviated from their fundamentals significantly-as I consider Apple to be one of these stocks, it is currently a Sell based on my standards.
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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