Embracing Selfie Innovation

Apple's Beats by Dre released a new ad titled 'Solo Selfie'. Take a look. I liked it. 

As Abdel Ibrahim pointed out to me on Twitter, the ad was inspired by a video from Karen Cheng, uploaded to YouTube last month. Here is her 'Donut Selfie' video tutorial:

Karen earned a spot in the Beats ad and can be seen at the 0:25 mark.  I found it interesting that Karen's Donut Selfie video was focused more on iPhone's camera capabilities, but instead Apple/Beats adapted the video to highlight Beats' new Solo2 headphones. The whole thing is just simply fun. 

AAPL and $700 Billion

Apple just crossed the $700 billion market cap threshold. I thought it was a good time to put this event into perspective. 

• What does this tell us about Apple's future? Nothing. 
• What does this tell us about Apple's past? Nothing. 
• What does this tell us about Apple? Nothing. 

A stock's valuation is simply the value point at which the demand for a company's stock is equal to the supply of that company's stock.  Any discussion around a stock's price, or any guessing as to where a stock price is headed, needs to focus on a stock's supply and demand. Luckily, analyzing a stock's supply is relatively easy.

• Determine who wants to sell their shares. 
• Determine why they want to sell their shares.
• Determine at what price are they willing to sell their shares. 
• Analyze the business landscape to determine if the company will need access to additional capital.
• Determine if raising more public equity would be in the company's best interest.

Once that analyses is complete, even more straight-forward analyses needs to be done to determine a stock's demand. 

• Determine who wants to buy shares. 
• Determine why they want to buy shares.
• Determine at what price are they willing to buy shares.
• Predict what that company's detailed capital management plans will look like for the next few years. 
• Analyze the business landscape to determine if the company will decide to buy back its own shares. 
• Determine if another company will be interested in buying the company's shares. 

Once these eleven points have been answered or analyzed, one can then make predictions as to where a stock price is headed. 

In reality, it's impossible to analyze most of these points, and I'm sure I left out a dozen more. Since investors don't like the unknown, commentators and pundits focus on developing an interesting story around why a stock is performing a certain way in an effort to remove unknowns from the equation.

The more appropriate type of analyses ignores day-to-day stock fluctuations and instead focuses on the company behind the stock. By analyzing a company, many of the above unknowns dealing with that company's stock melt away or become irrelevant.  

Apple crossed the $700 billion market cap threshold and this told us just as much about Apple today that it did yesterday: nothing.

Estimating Apple's Record iPhone Sales in 1Q15

Apple will not only report record iPhone sales for the current quarter (FY 1Q15), but it may beat the previous quarterly high by as much as 30%. Several factors will combine to produce a perfect storm for strong iPhone sales growth in 1Q15.  I expect iPhone 6 and 6 Plus popularity, China Mobile, and a slight addition to channel inventory will lead to Apple reporting 68M iPhone sales for the current quarter, representing 34% year-over-year (yoy) growth.

Above Avalon Accuracy 

Over the past two and a half years, I have published seven AAPL earnings previews that included iPhone estimates, with an average error of 500 basis points, as depicted in Exhibit 1. For the four most recent earnings reports, my average iPhone estimate error was 275 basis points.

Exhibit 1. Above Avalon Historical iPhone Estimates 

Management Commentary

Tim Cook categorized iPhone demand as "staggering and geographically broad-based, markedly higher in every single country where we've launched compared to the iPhone 5s a year ago." Apple is unsure when iPhone demand and supply will be in equilibrium. Despite being on sale for only 12 days, iPhone 6 and 6 Plus contributed to 17% iPhone unit sale growth yoy in the U.S., 20% growth in Western Europe, 32% unit sell-through growth in Greater China despite no iPhone launch in China, greater than 50% growth in Latin America and the Middle East, and greater than 100% growth in Central and Eastern Europe.  Apple sells the iPhone in over 200,000 locations and expects to bring the new iPhones to more than 115 countries by the end of the year. 

Breakdown of 68M iPhone Estimate

I estimate Apple will sell 68M iPhones in 1Q15. Exhibit 2 compares 1Q iPhone sales for the past three years as well as channel inventory information. 

Exhibit 2. Apple iPhone Quarterly Data Matrix 

Using Apple's observed global Phone growth rates during FY4Q14 as a proxy for supply, I added 10.2M to the 51M iPhones Apple sold in 1Q14 to reflect 20% yoy growth in overall iPhone strength. I added 5M units to reflect China Mobile's impact on overall sales, which would not be reflected in 1Q14 results. Finally, I added 2M units to reflect an increase in channel inventory to get Apple within its previous 4-6 week channel inventory target range (management increased the range to 5-7 weeks). The resulting 68.2M iPhones sold estimate implies 34% yoy growth, which would be the strongest quarterly growth in over two years. 

This report should be used to understand where I stand on iPhone 1Q15 sales, especially when I discuss the item in my daily email, AAPL Orchard, or in other Above Avalon reports. Over the coming months, if new data becomes available, I will update my estimates accordingly. This report is not meant to be used as investment advice. Downside risks to my estimates include: iPhone supply issues and weaker-than-expected customer demand. Upside risks to my estimates include: Stronger-than-expected customer demand, especially in China.  This report was produced by Neil Cybart on November 25, 2014. 

I publish a daily email about Apple called AAPL Orchard. Click here to subscribe. 

Luxury Watch Industry Planning to Use Lawsuits to Delay Smartwatch Era

I don't think the next couple of years will be fun for luxury watchmakers. Instead of thinking of their customers and innovating, TorrentFreak is reporting that luxury watchmakers are forming a type of consortium to send cease and desist notices to people giving away free knock-off watch face downloads for smartwatches. While a company has a right and obligation to protect its trademarks, I find it quite amusing that high-end watchmakers think sending cease and desist letters is going to hold off the tsunami that is about to hit them over the coming years as smartwatches go mainstream.

Jean-Claude Biver, CEO of Swiss luxury watchmaker Hublot, did a great job at describing the paradox facing high-end watchmakers and the coming smartwatch era when he said, "[a] smartwatch is very difficult for [Hublot] because it is contradictory... Luxury is supposed to be eternal... How do you justify a $2,000 smart watch whose technology will become obsolete in two years?" 

In four months, Apple will not only begin selling a luxury smartwatch that will cost well over $2,000, but also a mass market $349 smartwatch that could sell in the 10s of millions of units annually. Apple Watch will combine luxury with personalization and technology; something that current luxury watchmakers are incapable of doing.   

I just don't see a place for a luxury "dumb" watch in a luxury "smart" watch world. 

Samsung's Issues Look Weirder by the Day

The WSJ is reporting ($) that Samsung is considering a significant management shake-up to address slumping Galaxy S5 sales and an overall deteriorating mobile device outlook. 

I have the following thoughts/questions:

• The WSJ, citing sources, reported that Samsung management mistakes and errors contributed to a significant Galaxy S5 inventory buildup "forcing Samsung to increase marketing expenditures to unload the devices". That line sounded odd to me given that Samsung had just come off of a record year for marketing costs, spending $14B in 2013, nearly 14x more than Apple on a dollar basis. Considering most of Samsung's 2013 phone sales involved some portion of this marketing/carrier promotion, were continued 2014 phone promotions actually a result of management incorrectly estimating demand or did Samsung simply carry-over some of these now dependent promotion practices from 2013 to maintain sales momentum?

• The article says 12M Galaxy S5 smartphones were "sold to consumers" in the first three months following launch. That figure seemed low to me, especially when I think back to prior WSJ articles, around the time the Galaxy S5 launched, discussing Samsung's bullish prospects and sales figures. After a few minutes of searching, I found($) the WSJ's "Samsung Says New Galaxy S5 Is Off to Strong Start" article in which Samsung Mobile Chief J.K. Shin was interviewed. He said sales of the Galaxy S5 were 11 million in the first month, outselling the Galaxy S4 by a million. Shin went on to say S5 sales were "much stronger than the Galaxy S4". How did the number of Galaxy S5 phones go from 11 million for the first month of sales to 12 million for the first three months? I assume it once again comes down to the "ship" vs. "sold" dynamic, where Samsung's sell-through sales were much weaker than units shipped to carriers,  but that doesn't give me much comfort as Shin even went out of his way and commented that S5 sales were much stronger than S4. I am left wondering if Shin was lying or if this is a case of Samsung losing touch with reality and not even having data as to how their phones were selling. 

• Galaxy S5 sales were down 50% in China versus Galaxy S4 during the first six months of sales, while the U.S. was the only major market where S5 sales were better than S4. Low-end Chinese smartphone competitors are impacting Samsung much more than third-tier phone vendors in the U.S., where Samsung faces slightly less competitive pressure on the low-end and subsidies mask some of the price differential. I suspect promotions are still playing quite an active role in the U.S. as well.  

All of this stands in stark contrast to Apple's iPhone strategy where product sell-through numbers don't diverge much from shipped figures, especially when Apple is experiencing a supply/demand imbalance, and if there is a difference, Apple will clearly indicate the change in the earnings conference call.  Apple's now notorious relationship with carriers, which include sometimes aggressive iPhone sales benchmarks and contracts, compare to Samsung's reliance on carriers for data about its products and markets. With Samsung overshooting Galaxy S5 demand by 40%, either management misread the market incorrectly or other opportunities and products served as a distraction. Given all of the turmoil, it's fair to start wondering if Samsung's response to the Apple Watch, if there will be one, is delayed or at least put on hold as a result of the company's mobile struggles.