Apple Is Planning Something Huge

At the end of May, Apple (NASDAQ: AAPL  ) SVP Eddy Cue told Re/Code, "We've got the best product pipeline that I've seen in my 25 years at Apple." That's a bold statement, considering Apple's excellent run of new products in the last decade-and-a-half.

But, one line item from Apple's earnings results indicates the company is working on something important. Perhaps its just a new version of the iPhone with a larger screen, or maybe it's the long-awaited wearable device. It could be a payments service, or it could be something nobody saw coming.

One thing is for certain -- money doesn't lie -- and Apple is spending a lot of money on R&D for new products.

As a percentage of revenue
Apple hasn't typically spent as much on R&D as a percentage of revenue, compared to competitors like Google (NASDAQ: GOOG  ) (NASDAQ: GOOGL  ) . Apple has always prided itself on making a few great products. Comparatively, Google spends money researching things like "balloon-powered Internet."

AAPL R&D to Revenue (TTM) Chart

Source: AAPL R&D to Revenue (TTM) data by YCharts

As Apple's revenue grew like a hockey stick, the percentage of revenue the company spent to develop new iterations of its iPhone and iPod declined. In the run up to the release of the iPad in 2010, R&D spending as a percentage of revenue increased somewhat, from 3.3% in fiscal 2007 to 3.6% in fiscal 2009. But, R&D spending as a percentage of revenue never returned to pre-iPhone levels until last quarter.

Interestingly, Google and Apple have seen similar percentage increases in revenue over the last 10 years. Google, however, has increased its R&D spending 3.6 times faster than Apple, and increased R&D spending as a percentage of revenue. Obviously, the strategy has paid off for the Internet giant, as its revenue, profits, and stock price have all soared in that period.

AAPL Research and Development Expense (TTM) Chart

Source: AAPL Research and Development Expense (TTM) data by YCharts

$3 billion per year in new product investments
If you take revenue out of the equation, though, the absolute growth in R&D spending in recent years is huge. Over the last four quarters, Apple's R&D budget increased to $5.5 billion. For fiscal 2014, Apple is spending at a $5.8 billion run rate. In fiscal 2011, the first full year of iPad sales, R&D spending was just $2.4 billion.

AAPL Research and Development Expense (TTM) Chart

Source: AAPL Research and Development Expense (TTM) data by YCharts

Apple bears are keen to point out that Apple hasn't released anything particularly innovative since the iPad, yet the company has increased R&D spending by over $3 billion per year. I'm pretty sure it doesn't take $3 billion to make the iPad smaller or improve the specs on the iPhone. Apple was able to improve the Mac for years with an R&D budget well below $1 billion.

When will we see new products?
Apple's guidance for the third quarter ($37 billion-$40 billion in revenue with 37%-38% gross margin) indicates that it doesn't plan on releasing any new products until at least late in the quarter. An obvious launch date would be at Apple's annual product refresh event in late September.

With unit sales growth of the iPhone slowing (13% year over year last quarter), and negative growth in iPad units (down 9%), Apple could certainly use another product to improve revenue. With the stock's earnings multiple expanding since the company's previous earnings release, investors seem to believe something big is on the horizon. The stock is still priced at a relative value, but it's not nearly as inexpensive as it was just three months ago.

AAPL PE Ratio (TTM) Chart

Source: AAPL P/E Ratio (TTM) data by YCharts

Final Foolish thoughts
If that next big thing will launch in September is unclear, but Apple is working on something and management is particularly excited about what's in the pipeline. Tim Cook reiterated at the end of his prepared remarks for the earnings call, "We have an incredible pipeline of new products and services that we can't wait to show you."

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 24, 2014, at 3:29 PM, pondee619 wrote:

    "R&D spending as a percentage of revenue increased somewhat, from 3.3% in fiscal 2007 to 3.6% in fiscal 2009."

    But the chart immediately above this statement shows that Apples R&D to revenue was never above 0.07% since 2005. It now stands, pursuant to the chart you supply, at 0.03%. R&D spending was no where near the 3.3% you state. Is the chart mislabled or are you wrong?

  • Report this Comment On July 24, 2014, at 3:46 PM, djlaino wrote:

    I agree with pondee619. If your description about R&D spending in 2007 and 2009 is correct, then the chart is not. At first I thought maybe the chart axis is mislabeled as %, but even then the value in 2009 is not 0.036, and any way you look at it, the R&D spending in 2009 on this chart is less than in 2007. Please clarify.

    DJL

  • Report this Comment On July 24, 2014, at 4:09 PM, ScottAtlanta wrote:

    Clarification:

    "Adam Levy owns shares of Apple."

    lol....

    But really, the chart showing absolute growth in R&D is probably meaningful enough.

    5.5 B is a lot of clams and it makes sense...since rapid, we can say exponential, growth in various sectors of technology are occurring....thus affording new opportunities to integrate/develop these advances!

    When tech growth was slower a few logs ago...there was just less to develop with....like building a wheel barrow from "wheel, sticks, and tub (large turtle shell found on beach...." VS. building a mozzarelli auto (the fast one note the cheesy one).

  • Report this Comment On July 24, 2014, at 5:07 PM, erob1950 wrote:

    Apple is going up just because its apple and new product is coming out of there pipeline. it just that simple.

  • Report this Comment On July 24, 2014, at 6:09 PM, RipRagge wrote:

    Charts don't mean much to me. What I'm interested in is "What are they doing?" I believe that before the holiday quarter starts, Apple will introduce some major new goodies. So I'll just hold on a little longer. I've been holding AAPL since 1999, and it's been okay so far.

  • Report this Comment On July 24, 2014, at 6:51 PM, adamlevy wrote:

    Yes, the chart is off by a factor of 100, i.e. 0.03% should be 3%. That's an issue with YCharts. Sorry.

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