Apple's Betting On a Late AI Push

More than 90 million iPhones...

That's what Apple (AAPL) executives expect to sell this year, after the iPhone 16 comes out in a few months.

If the new iPhone hits that mark, it would be a big jump from previous models. The iPhone 15 sold about 81 million units last year... up from the iPhone 14's release, with 78 million units in 2022.

So the boost in expected sales might sound like a stretch at first.

After all, Apple has been losing popularity in one of its largest markets – China. Beijing has been pushing its citizens to buy more domestic products, and phones from Chinese companies like Huawei and Xiaomi have gotten a lot closer to Apple's quality.

However, Apple has one last trick up its sleeve... artificial intelligence ("AI").

As we'll discuss today, Apple is far from the first company to unveil its AI tech... but investors shouldn't count it out of the AI race.

We don't know too much about 'Apple Intelligence' yet...

But we do know Apple has a history of waiting to release its products until the technology is exactly right.

Android-based smartphones had features like face recognition as early as 2011 and wireless charging in 2015. Apple released both features in 2017.

Those early Android releases had issues, though. For example, face recognition in Android phones was less secure. Phones would unlock for photographs as easily as faces (and they even had trouble recognizing users with beards).

Some say the lag shows Apple was behind the times. On the contrary... it waited to make sure it got those features right.

Apple's AI platform promises to be similar. The company says Apple Intelligence will be part of the new iPhone's operating system. Its features will include everything from an updated version of the personal assistant Siri, to prioritized notifications, to new tools like image creation.

After the company announced Apple Intelligence, the stock immediately jumped to an all-time high.

And yet, even as the stock has rallied, it doesn't seem like investors completely understand how big the iPhone 16 could be.

We can see this through our Embedded Expectations Analysis ("EEA") framework...

The EEA starts by looking at a company's current stock price. From there, we can calculate what the market expects from future cash flows. We then compare that with our own cash-flow projections.

In short, it tells us how well a company has to perform in the future to be worth what the market is paying for it today.

While we frequently look at Uniform return on assets to understand Embedded Expectations, we can also look at a combination of revenue growth and margins to understand how investors feel.

Investors seem to believe that Apple will grow revenue as fast as it expects. The market is pricing in roughly 9% revenue growth, which is in line with the company expecting to sell about 9 million more iPhones this year.

However, investors don't expect Apple's advancements to improve its margins. They believe Uniform margins will remain flat at 29%. Take a look...

If Apple's AI is as good as its other innovations through the years, this may be far too pessimistic.

We've only just begun to see what AI tools can do... And we're also in the early stages of seeing how companies are going to monetize their AI.

Apple could give us a preview of what to expect in the coming months and years. If history is any guide, consumers will be willing to pay a premium for its products. That should help it improve its margins, beat expectations... and stay competitive in the AI arms race.

Regards,

Joel Litman
July 18, 2024

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