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The Good, the Bad, and the Ugly From Apple’s Q4 Earnings Report

By Parkev Tatevosian - Nov 20, 2019 at 3:46PM

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A look into Apple's crystal ball tells investors: Strong services revenue will continue, the decline in iPhone sales will flatten, and international geographies will return to growth.

Apple ( AAPL -0.32% ) has been a boon to shareholders over the last one year, two year, and five year periods when it has outperformed the S&P 500. The tech stock's year-to-date return of 68.3% trumps the 24.3% increase in the S&P 500.

Since it announced its earnings on Oct. 30, the stock is up 6.2%, now trading at $261.71. Here's a closer look at the biggest takeaways from the earnings report and what they say about the future of Apple.

The good 

In Q4, revenues from the services segment increased by 18% from the same period a year ago, reaching an all-time high of $12.5 billion. The segment is Apple's second-largest behind the iPhone. Services include the App Store, Apple TV+, Apple Music, Apple Care, and licensing. The profit margin for the sector is double that of products, largely because services don't require manufacturing.

A woman with an iphone and Airpods

Image Source: Getty Images

The growth in its wearables, home, and accessories segment accelerated to 54.4% year over year and, management attributed the increase to the tremendous demand for Airpods and Apple Watch. The release of the Airpods Pro on Oct. 30 and the Apple Watch Series 5 on Sept. 10 set the segment up for continued growth. 

The bad

Revenues declined in major regions outside of the Americas. This downturn is especially troubling because 54% of its revenues come from international markets. The two most important international markets are Europe and Greater China. The trade dispute with China, unsettled Brexit negotiations, and a global slowdown in economic growth are the top reasons for the dip in revenues internationally.

The ugly 

iPhone sales declined in the quarter, with revenues from iPhone declining by 9.2% from the same period last year. Consumers are keeping their iPhones for more extended periods before upgrading to newer versions, which is the leading reason sales sank. If this trend continues, declining iPhone sales will lead to slower growth or no growth overall for Apple since the iPhone still made up 52% of overall revenue for Q4. 

The future

The growth in services and wearables is gaining steam, and the decline in iPhone sales is flattening out. The growth of services revenue will rerate Apple's stock price to a higher multiple of earnings. The incredible popularity of its wearables proves it can still innovate. Regions outside the Americas will return to growth as trade policy issues are resolved. Longer refresh cycles for iPhone means consumers are getting more value out of the product, which will increase loyalty to the brand.

Apple added new services to its lineup that will drive growth. The release of Apple TV+ on Nov. 1 at its low price of $4.99 per month and its one-year free offer for customers who purchase a new iOS device will generate subscribers at a rapid pace. Apple News+, Apple Arcade, and Apple Card are three other services introduced this year.

While sales in the China region declined, the dip was smaller than expected, and it proved the resiliency of Apple to withstand the impact of the deceleration in growth in the Chinese economy. Furthermore, the traction of recent initiatives by Apple to boost sales in the region are taking hold. Management attributed the sales surprise to lower prices on iPhones, a trade-in program, and financing options.

Although the iPhone had declining sales for the quarter, management pointed to the outstanding success of the new models of iPhones released late in the quarter. The market demanded better cameras and longer battery life and Apple delivered on both fronts. The market opportunities provided by selling a cheaper iPhone, 5G networks, and a potential foldable iPhone creates a path to reacceleration for iPhone in the years ahead.

Is the positive outlook already priced into the stock? 

The remarkable rise in the stock has priced its shares at a P/E ratio of 22.35, and a PEG ratio of 2.86, which is an expensive valuation. To enter at these levels would be to believe near-term results are going to be better than an already optimistic outlook.

To start accumulating shares or to build on an existing position, wait for an inevitable pullback in the stock price. At any price though, Apple's future looks bright and its investors will benefit from its investments in services and innovations based on customer demands.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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