When Apple (AAPL +2.13%) makes headlines, a flurry of criticism inevitably follows. The topic du jour has to do with its considerable rally over the past year. Indeed, since bottoming out at roughly $55 per share -- split-adjusted -- last summer, Apple has steadily climbed back to its current level of $94 per share.
Critics have come out firing, saying that Apple's rally is purely psychological, and based almost entirely on its 7-for-1 stock split. This was a management strategy, so they say, designed to persuade buyers to step in.
But before you get lured into thinking that Apple's rally is being accomplished purely through shrewd financial management tactics, think again. Apple had been rallying prior to its split announcement. Plainly stated, Apple's impressive rally over the past several months has little to do with its stock split.
Rather, it has everything to do with its valuation, its growth in China due to its partnership with China Mobile (CHL +0.00%), and its upcoming product releases.
It's flat-out misguided to think that Apple's rally is undeserved. The truth is, its share price collapse is what was undeserved. Apple should never have fallen 45% between September 2012 and April 2013 to begin with. That's why Apple's ensuing rally is simply the market correcting its huge mistake, and there may still be room to run.
It's not about the stock split
The financial media likes to criticize Apple's near 50% rally since hitting its recent lows last year, often stating that its stock split is the main catalyst. While the split has had a psychological impact, it would be unfair to the fundamentals. A much stronger argument would take into account Apple's compelling valuation and promising prospects for growth. Those are what really matter.
First, Apple's business in China is strong and growing. Sales in Greater China rose 13% last quarter. Over the past six months, sales in China are up 21%. This makes China the best-performing geography for Apple over this time. It's way ahead of the Americas, where sales are flat over the past six months.
It's a good bet China Mobile has a lot to do with it. China Mobile is the largest telecom carrier in the world, with approximately 750 million customers. Opening up Apple products to all those consumers is a compelling catalyst for future growth, and that's especially true since we're on the cusp of some major product releases.
For instance, Apple in all likelihood will unveil the iWatch later this year. Analyst estimates peg the potential earnings impact at $4 per share from the iWatch itself, assuming a $200 price tag, and fairly modest margin assumptions. According to Barron's, if Apple is able to generate a 30% gross margin -- which is below the margins produced from its other devices, like the iPhone -- Apple's wearable device would add roughly $3.6 billion in annual profits to its coffers.
This will be further supplemented by releases across other categories. Apple is also set for a new iteration of the iPhone, likely set for next year. The iPhone 6 should have some exciting features, including a larger phone and further improvements to its newly released operating system, that will likely compel those with older iPhones to upgrade.
A stock split doesn't explain the rally
While some may contend that Apple's rally has little to do with anything other than its stock split, don't be fooled. The truth is that Apple was far too cheap to begin with. After a punishing fall based on extreme pessimism of its future prospects, the rally is entirely reasonable. Apple's growth in China and new product releases are what this rally is about.
This is even further complemented by Apple's valuation, which still isn't extreme. Apple trades for 15 times trailing earnings, which is a discount to the broader market's valuation. With new product releases over the next year, there's no reason Apple's rally can't continue. And, last but not least, $150 billion in cash and securities doesn't hurt.
