Apple's Post iPhone 5 Launch P/E: 10?

By Daniel Sparks - August 23, 2012 | Tickers: AAPL, KO, GOOG, MCD, SBUX | 0 Comments

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It's very common for investors to attempt to predict sales and earnings by looking at year over year growth rates. But these are not always the best measures. To predict Apple (NASDAQ: AAPL) revenue, for example, past year over year growth rates aren't much help. What can be helpful; however, are iPhone purchasing patterns relative to launch quarters.

With the iPhone making up 50% of Apple's revenue--it definitely has the greatest impact on Apple's earnings. In this report I'm going to slowly but surely gather the data we need to find out Apple's approximate earnings over the next three quarters based on the assumed September 12 new iPhone announcement. We'll use these earnings to calculate Apple's TTM P/E for the next three quarters if Apple's stock price were to remain at $650 per share.

Pre-launch quarter and launch quarter purchasing patterns

As Apple CEO Tim Cook talked about in the Q3 earnings call, consumers are very much affected by the rumors of future launches and by Apple's product launch schedule expectations. Therefore, as potential iPhone launches approach, consumers tend to purchase far less iPhones. This is typical consumer behavior and its very predictable. So, by looking at past percentage change of iPhone sales between pre-launch and launch quarters and even the post-launch quarters, we can estimate launch and post-launch quarters by using Apple's pre-launch quarter iPhone sales numbers as a baseline.

Interestingly, you can see the pattern here with Google Trends for the iPhone 4S launch. The number of times iPhone 5 was searched for leading up to the iPhone 4S (it was then thought to be called the iPhone 5) grew exponentially as more and more consumers became interested.

(point F is the iPhone 4S launch)

Just as the news references and consumer interest increased, iPhone 4 sales dropped sharply in the anticipation of a new iPhone. The same thing happened in Apple's Q3 as we approach the launch of an iPhone 5. The drop off was even more severe this time, pointing to even greater anticipation for the iPhone 5. But even with a much steeper sequential decline in sales, the base post-launch numbers are much higher than they were post-launch to the iPhone 4S.

1. The new iPhone will most likely have a completely redesigned form-factor: taller, thinner, and even different materials and colors (see rumored new iPhone here). This is in addition to the obvious internal and software improvements, of course. In contrast, the iPhone 4S had the same form factor as the iPhone 4 and, therefore, persuaded some would-be buyers to wait for a new form-factor.
2. Consumers are gaining a greater understanding of Apple's product cycles and tuning into the many rumor sites that help consumers find out when they can expect the next launch. This has resulted in an increasingly more cyclical buying pattern as consumer purchases drop off more significantly in the quarters prior to the launch.
3. Sequential evidence of the point above shows a much greater hold-out for the new iPhone than for the iPhone 4S:

• Sequential drop in iPhone units in quarter before iPhone 4S launch: -16%
• Sequential drop in iPhone units in quarter before potential September 12 new iPhone announcement: -25.77%. Of course this number would be even greater if the rumored new iPhone launch was at the beginning of the launch quarter (like the iPhone 4S was) and not at the end.

To predict earnings in the next three quarters we are going to look at sequential growth patterns between pre-launch, launch, and post-launch quarters for the iPhone 4S.

iPhone Unit Sales and Total Net Income during iPhone 4S pre-launch and launch quarters:

iPhone Unit Sales and Total Net Income during iPhone 4S pre-launch and launch quarters:

We can infer quite a bit from the four charts above. Based on the assumptions at the beginning of this article (much less time in the quarter for the new iPhone to impact quarterly results, faster & larger rollout, and greater demand), we can expect the sequential increase in 2012 FQ4 as a result of the new iPhone to increase by about 25% of the sequential growth rate of Apple's net income increase between Q4, 2011 and Q1, 2012, pre-launch and launch quarters for the iPhone 4S, respectively. 25% of 110%, therefore, is 28%.

The following quarter, however, will be a much bigger story. Why?

• First, it is the holiday quarter.
• Second, the new iPhone is only expected to be available for sale just 10 days of the prior quarter, compared to the iPhone 4S being available for 2 1/2 months of its launch quarter.
• As you can see from the two charts above representing the net income and iPhone unit sales change between the iPhone 4S launch quarter and the post iPhone 4S launch quarter, the decline was very minimal, despite the iPhone being available for sale for 2 1/2 months in its launch quarter.
• Finally, Apple will have much improved operational efficiency with higher production capacity and a faster rollout.

Based on the four points above, we can easily expect the full 110% increase from the pre-launch levels of this quarter to 2013 FQ1 (that's a 65% sequential increase). During the first 4 months, at least, Apple is always held back by nothing more than its ability to produce iPhones. And with each launch Apple becomes more efficient. Therefore, this expectation is completely realistic and even somewhat conservative.

 

As far as 2013 FQ2, we should treat it similar to the patterns between launch and post-launch quarters since 2012 FQ4 is only the launch quarter for 1 week. Historically the decline is very small from launch to post-launch quarter. We'll estimate a 15% decline in net income between these quarters (in line with the iPhone 4S consumer purchasing patterns above):

 

Based on these assumptions I've forecast these numbers:

 

 

If you think these are aggressive, consider what I did not factor in:

AAPL Book Value per Share data by YCharts

As I have explained already, even if my estimates are aggressive, there are plenty of other catalysts (some sure to come, and some only wishful rumors) that will help Apple reach a P/E of 10 three quarters from now if the stock price were to stay at $650. To put it straight: Apple is undervalued.

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