Friday, January 25, 2008, 11:55 am
Morgan Stanley advises investors not to bet against AppleWhile researchers for investment bank Morgan Stanley aren't disputing that slowing iPod growth presents a negative scenario for Apple's share price, they're pointing to recent history this week in advising their clients that now would be the wrong time to bet against the company.
In a research report Thursday, the firm's duo of Katy Huberty and Alice Hur noted that growing research and development expense reported by the company in its latest filings with the SEC indicate a fresh product cycle is well in the works.
"Apple R&D (reported + capitalized) grew faster in the last three quarters than at any time in the companys recent history," Huberty explained. "This line item has proven to be a clear indicator of future product cycles that drive fundamentals and stock performance."
For example, she noted that year-over-year R&D growth from Sept. 2002 to June 2003 rose 8 percent, yielding the iTunes Store and an operating margin the following year of 3 percent. Similarly, from June 2004 to Dec. 2004, R&D was up another 7 percent yearly, ultimately resulting in a broader portfolio of iPods and an operating margin of 12 percent the following year.
Apple, of course, really began to gain momentum during the two years thereafter. As Huberty noted, from Dec. 2005 to Sept. 2006, yearly R&D grew 26 percent, giving way to Intel Macs, video-based iPod nanos, the iPhone, and a post-year operating margin of 18 percent. With R&D again rising by some 32 percent yearly during the period from June 2007 to Dec. 2007, a broader array of Wi-Fi mobile devices and some yet unknown products are likely to build on this trend, she argues.
"Ultimately, future product cycles are key to stock performance and we view late Spring/Summer as the next potential timeframe for announcements," the analyst wrote. "While macro concerns may prove an overhang in the near-term, investors should take advantage of pullbacks to build positions over the next three months - ahead of March quarter results and potential mid-year product announcements."
Among the potential near-term demand catalysts listed by the Morgan Stanley analyst in her note to clients were rising demand for digital convergence products like Apple TV, increased demand for high-end consumer PC functionality, and opportunities to expand internationally.
Risks, on the other hand, could include Apple's inability to maintain its rate of innovation, set-backs on the timing of new product launches, and new competitive offerings from rivals such as Nokia, Dell and Gateway.
Huberty maintained an Overweight rating on shares of the Cupertino-based electronics maker with In-Line industry view and $185 price target. Her Bear case scenario would see the stock fall to $120 on slower uptake of the new products introduced at Macworld, while her Bull case has shares rising to $225 on high demand and revenue growth from the company's mobile products.
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