Fellow Fool Rick Munarriz didn't too get excited about Apple's (NASDAQ: AAPL ) deal with China Mobile (NYSE: CHL ) to sell iPhones in his recent article. But here's a different take on the same event that is strikingly more positive.
The same data, a different conclusion
China Mobile boasts 759.2 million subscribers. As the world's largest carrier (by far), it's nothing to scoff at. I see the deal as a major opportunity for Apple. Rick doesn't seem to feel that way. He explains:
However, we also have to be realistic here. For starters, the vast majority of China Mobile customers are still on old feature phones. Just 176 million -- or 23% -- of China Mobile customers have smartphones on 3G plans. It's a number that's growing at a heady pace. China Mobile had just topped 90 million 3G customers when the year began. But it's safe to say that most of China Mobile's customers may not be financially ready to take on a smartphone with a data plan.
Though I respect Munarriz's opinion, I look at the same data very differently.
I see the low 3G penetration rate as an opportunity. If the penetration was higher, that would mean that a large percentage of subscribers would already be familiar with another smartphone operating system, making some of these owners difficult to attract. Even more, while Rick focuses on the 23%, I see the other side of that same coin: The 583.2 million subscribers who have yet to use a smartphone. That's a massive untapped market.
Sure, the majority of these subscribers probably can't afford an iPhone today. But Foolish investors are in for the long haul. After all, the market is forward looking. And given Apple's conservative valuation, all Apple really needs at this point is sustainability. Apple doesn't need to substantially boost its top line to reward investors -- it just needs to maintain single-digit top-line growth over the long haul while it continues to use its massive cash hoard and healthy stream of cash flow to buy back shares and pay out dividends. Over the next five to 10 years, many of these 583.2 million subscribers will likely buy an iPhone. As Apple's iPhone 4 (which is available for sale in the Apple China Store) works its way down the cost curve, along with the iPhone 4s and eventually the iPhone 5c, iPhones will be available in China at increasingly compelling prices as each year passes.
But, chances are, Apple investors won't have to wait long to see substantial sales from the deal. Rick mentioned that China Mobile's 3G subscribers are "growing at a heady pace." What exactly is that heady pace? China Mobile's year-over-year 3G subscriber growth in October was 122%. Even sequential growth in 3G subscribers from September to October was impressive: 3.8%. Extrapolate that monthly growth rate out over the next 12 months, and we're looking at a year-over-year growth rate in 3G subscribers from October this year to October next year of more than 57%. That's an estimated additional 100.6 million subscribers in just one year. Not only is this a huge market that Apple just tapped into, but it's a growth market, too. And given the massive size of the market, it will likely be a source of growth for Apple for years to come.
So, over the long haul, it looks like Apple has tapped into a steady stream of incremental demand for Apple's most profitable product segment. Just how much could Apple benefit from the deal?
Based on UBS analyst Steven Lilunovich's projections for 10 million new iPhone buyers per year resulting from a China Mobile deal (data Rick cited in his article), it's realistic that Apple could boost its current level of annual earnings by anywhere from 2.5% to 5%, based on my calculations -- plenty for a company trading at just 14 times earnings with a $60 billion repurchase program in progress.
Piper Jaffray analyst Gene Munster has a slightly more bullish take, at least on the first year. He estimates that Apple could boost revenue by 5% in the first year, selling 17 million incremental iPhones at an average selling price of $525. And don't forget we're talking about Apple's most profitable product line here, so it has an outsized impact on the bottom line.
Forbes author Chuck Jones, who took his estimates all the way down to the deal's impact on EPS, projects the deal could generate incremental growth in EPS of 8% in 2014 over last year.
The way I see it, the China Mobile deal is a big deal. If anything, it reinforces the case for an undervalued Apple.
The goal here isn't to replace Rick's analysis. Instead, the goal is just to broaden the conversation on one event. Hearing two sides of the same story is often one of the best ways to analyze the market's madness. So, that's my glass-half-full look at the China Mobile deal.
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