In mid-August, shares of Apple (AAPL -0.81%) were near an all-time high and down only slightly on the year. Today, Apple is hovering around a 52-week low and is down around 30% from its all-time high.
Yet despite the sell-off, Apple is still outperforming other big tech names year to date, such as Microsoft, Alphabet, Amazon, Tesla, and Meta Platforms. Let's see if Apple is a buy, or if its challenges make the stock one to avoid.
Image source: Getty Images.
Business challenges
Arguably the most reasonable cause of the Apple stock decline is that its business is facing plenty of challenges heading into 2023. In hindsight, it's clear to see that the pandemic brought forward a lot of demand for consumer electronics.
In fiscal 2021, Apple's revenue rocketed 64.9% compared to fiscal 2020, while net income surged 33.2%. But when it reported its fourth-quarter and full-year fiscal results (for the period ended Sept. 24), revenue was only up 7.8% compared to fiscal 2021, and net income only increased 5.4%.
AAPL revenue (annual); data by YCharts.
Apple's growth is decelerating, and the trend could continue in fiscal 2023 for myriad reasons. For starters, rising interest rates add pressure to discretionary spending. And while you could argue that many of the company's services and the maintenance of its existing products are staple costs at this point, the idea of buying new Apple products is undeniably a discretionary expense.
Additionally, a strong U.S. dollar relative to foreign currencies makes Apple's sales abroad less valuable once converted to U.S. dollars. Slowing growth in China, paired with pandemic-induced production challenges, are directly impacting Apple's ability to make and sell its products.
Apple faces tough year-over-year comparisons in fiscal 2022. So it's understandable that it didn't notch the breakneck growth that investors are used to. But the challenges are far from over, and if the company comes in with another low-growth year in fiscal 2023, investors may become unwilling to pay any premium for the stock (or multiple compression) despite its earnings.
A not-so-premium valuation
This leads us to our next point: Apple's valuation relative to the rest of the stock market. In mid-August, when the stock was barely down on the year, it had a price-to-earnings (P/E) ratio of 28.8. But the sell-off has brought Apple's P/E down to a much more attractive 20.6. Meanwhile, the S&P 500 has a P/E of 19.7.
AAPL PE ratio; data by YCharts.
Apple stock traded at a below-market multiple with a P/E of less than 15 for much of the first half of the 2010s. And that made sense given the cyclicality of its business in a time that predated the product and services portfolio we know today.
With the power of its brand and the omnipresence of phones and their utility in our lives today, Apple stock should trade at a market premium. But given its slowing growth and the likelihood of more of the same in the quarters to come, it's understandable that investors wouldn't want to pay too much of a premium in the current market.
In sum, Apple stock deserved to fall, but now it's at a point where it's an attractive valuation for long-term investors.
A weakening balance sheet
Perhaps the least talked-about red flag for Apple is its rising debt position. Its total net long-term debt is now at an all-time high -- which may come as a shock to investors considering that the company has historically kept gobs of cash on its balance sheet.
AAPL net total long-term debt (quarterly); data by YCharts.
In the past, Apple used its lush cash position to buy back its own stock at opportune times and reinvest in the business. This time around, it may be pressured to use free cash flow to pay down debt instead of buying back its own stock.
What's more, the company's growing debt position is coming during a period of rising interest rates and weakening consumer demand -- not a good time for a business to be piling debt onto its balance sheet.
Apple stock is worth buying now
The short-term outlook is riddled with uncertainty. But that doesn't take away from the core investment thesis of why the company is unrivaled and has a long growth runway.
In fiscal 2022, services made up 19.8% of total revenue but featured a 71.7% gross margin compared to a 36.3% gross margin for products. The growth of the services segment over the last few years bodes well as a high-margin recurring revenue stream. But that doesn't take away from the fact that the company's gross margin and volume on its products are unheard of in the consumer electronics industry.
What's more, the growth in Apple Pay, Apple Card, and Apple's augmented-reality products add plenty of new revenue streams for the company in the years to come.
In sum, Apple has the staying power and relevance of a consumer staple company paired with the long-term growth and margins of a discretionary or tech company.
Considering the reasons discussed, it makes sense that Apple stock fell. But given the sell-off and the fundamental strength of the business, now could be a good time to start dollar-cost averaging into Apple stock.
