Market Insights & Analysis from Kramer Capital Research

Apple: Still Buying Its Way to Growth 

With the market cheering Apple Inc. (NASDAQ:AAPL) this week, it’s hard to recognize this as the company that cast such a chill on Wall Street exactly a year ago. But the only thing that’s really changed here is the share count.

Last October, Apple was on the top of the world as the first $1 trillion company on the planet with earnings and sales to match. Then it became clear that the global market was straining to digest a $999 iPhone.

Sales guidance started to crack. The stock went over a 36 percent cliff. And when you’re looking at the biggest allocation in index funds, the market as a whole feels the pain.

Back then, it felt like one of the great growth stories of our age was ending fast. I hate to say it, but I don’t see a lot of real improvement in the latest numbers.

Hold your Apple shares until CEO Tim Cook finds the switch at the company’s headquarters in Cupertino, California, that turns innovation back on at a scale that makes a difference. If you’re looking for the old Silicon Valley sizzle, don’t buy this stock.

$140 Billion Elephant in the Room

I’m saying more about this in my radio show this week, but the challenge Tim Cook faces is that the iPhone has already conquered the world. Over 900 million of these devices are in use today on a planet of seven billion people.

And while the global market is now saturated, loyal customers still spent $140 billion last year to replace and upgrade old iPhones. That’s Cook’s problem. This is still 54 percent of all Apple revenue.

Reducing his dependence on the phone by 1 percentage point means finding $2.6 billion a year in other products and services to sell. He’s doing it, but the process is slower than a lot of investors want.

Over the last year, growth in Apple’s closely watched services business has taken him $1.9 billion toward that goal while traction for headphones and the Apple Watch added another $2.3 billion from the wearables side.

That’s worth a 2 percent shift in the revenue mix. At this rate, the iPhone will no longer be the company’s center of gravity after 2022.

Unfortunately, it’s starting to look like the pivot will happen even faster as the iPhone market actively shrinks. A year ago, this was a $165 billion revenue center for Apple and 62 percent of the overall enterprise.

Tim Cook is pushing every sales button he can and it’s barely overcoming that drag. Total sales last quarter edged up 1.8 percent, 1 percentage point behind the S&P 500 as a whole.

That’s not a growth story. And rolling out these new products and services has been expensive enough to shrink Apple’s profit by 3.1 percent, so there’s no immediate payoff on the bottom line here either.

Of course, we can’t see that 3.1 percent profit deterioration in the earnings-per-share numbers because Tim Cook keeps buying enough stock to engineer a positive headline. With 6.5 percent fewer Apple shares on the market, even a smaller earnings pool stretches farther.

Buybacks are a great way to reward shareholders who are already feeling good. But never mistake it for real organic growth.

Turning the $1 Trillion Battleship

Those disappearing Apple shares also mask the size of the company’s footprint. A year ago, there was enough stock on the market that, at $230 per share, this was a $1.09 trillion enterprise.

Now, even with the stock above $250 per share, the market cap has barely nudged up 1 percent. While shareholders feel richer, the enterprise isn’t even keeping up with growth in the U.S. economy. Relative to everything else, Apple operationally is deflating while the stock rallies.

I agree, the company isn’t shrinking fast. And the dividend keeps cash flowing into shareholder pockets in the meantime. But there’s only so many shares Cook can buy back once those dividends are paid. 

A $1 trillion battleship can drift a long way before it grinds to a stop. There’s plenty of time for services to step up or for the Apple Watch to become the next consumer electronics craze.

Cook will need that time. My math says that even if iPhone sales have plateaued, current growth rates will take services until 2025 to become the dominant piece of Apple’s revenue profile. Wearables can do it in late 2024.

At that point, Apple as a whole will be generating 50 percent more cash than it does now. Assuming long-term margins hold up, that’s 3 percent organic earnings growth per year in addition to whatever Tim Cook engineers through buybacks.

I can show you utility companies growing that fast and paying a better yield in the meantime. They show up all the time in my Value Authority universe. But they’re a long way from the true growth prospects we focus on in GameChangers.

If you miss the old Apple that leapt right from iPod to iPhone and conquered the world, Tim Cook can’t help you. Maybe it’s time to break up the ecosystem. Spin out the parts that are exciting and let the mature markets drift.

Cannabis Corner: The Green World

Most investors have focused on Canada as the first North American country to completely legalize recreational cannabis sales. As far as that goes, the Toronto Stock Exchange has had an interesting ride.

But while I’m looking forward to “Canada 2.0” opening dispensary shelves to more profitable products, we have to keep it real. Canada is a great country with 0.4 percent of the world’s population.

The real opportunity here is global. That’s why I’m excited to see Mexico debating whether to relax the rules on cannabis products and cannabis stocks.

Aurora Cannabis Inc. (NYSE: ACB) was quick to take advantage, making back-to-back deals with existing Mexican companies. But Senator Cora Cecilia Pinedo Alonso estimates that this will be a stunning $12 trillion market over the next 10 years.

Here at home, Pennsylvania state senators have introduced a bill to legalize recreational marijuana. So far, support is along party lines. Democrats are in favor of the bill, as is Governor Tom Wolf, but Republicans are not yet on board.

“It’s an economic, political, and moral win for both sides,” said state Sen. Leach, one of the co-sponsors. “It keeps the black market tamped down, the $500 million generated in cannabis fees would be directed to the schools, it decreases regulation by eliminating the seed-to-sale tracking.”

Vireo Health International Inc. (OTCMKTS: VREOF) signed a labor agreement covering its Pennsylvania facilities, including a Scranton cannabis cultivation and processing facility, as well as dispensaries planned for Scranton, Bethlehem and Stroudsburg.

Ohio looks like the “best chance” for the next state to legalize recreational marijuana. Things are in motion for voting by the end of this year.

This could be a great Christmas for owners of MedMen Enterprises (OTCMKTS: MMNFF). They’ll get access to the Ohio market once they finish their deal to take over PharmaCann, which already is a licensed Level I Cultivator.

Back in Canada, it’s all about those next-generation products. Cannabis-infused beer is projected to hit the shelves later this year. Molson Coors Brewing Co. (NYSE: TAP) is already ready to move while Sproutly Canada Inc. (OTCMKTS: SRUTF) will supply local favorite Moosehead with the green ingredient it needs.

This could be the chance for Big Liquor to turn around some of the losses they’ve suffered in recent years. In the meantime, it keeps the focus on the north, where my Turbo Trader Marijuana Millionaire Portfolio is currently concentrated.

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