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Stock of the Week: Apple

Maybe it’s time for Buffett to take some profits.

Andrew Willis 10 January, 2022 | 2:20AM
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Warren Buffett has been in the headlines lately for earning an on-paper gain of roughly US$120 billion with his investment in Apple (AAPL). The Oracle of Omaha recognized the community of Apple users forming around the company well before it became the hardware and software ecosystem it is today, and well before it hit the three-trillion-dollar mark. In fact, the company has been one of Buffett’s signature bets, performing in line with his legacy.

But where does Apple go from here? In the process of creating a ‘premium’ product and service environment, how much has the company walled itself off from less-affluent customer segments? And perhaps more importantly, how high are the expectations now among consumers that can afford the Apple products?

“Despite Apple’s admirable reputation, loyal customer base, and unique products, the consumer hardware space can be unforgiving to companies unable to consistently satiate customers’ appetite for more features,” says sector strategist Abhinav Davuluri.

The Walled Garden is No Wide Moat

With its premium pricing model, Apple has high expectations to innovate and deliver new features. And despite being able to deliver thus far, the company has not been able to keep competitors at bay for long. “Given the short product cycles of Apple’s offerings and the army of companies targeting its dominance, we do not believe Apple has a wide economic moat,” says Davuluri.

What earns the company a narrow moat are intangible assets like its premium brand, and switching costs for current users. “The company enjoys stellar returns on its devices by offering a unique user experience with its iOS ecosystem,” notes Davuluri, “Contrary to its peers in PCs and smartphones that rely on open operating systems--Windows and Android, respectively--Apple’s walled garden approach for its popular iOS allows it to charge a premium for relatively commodified hardware not too different from that sold by Samsung, Dell, HP, and others.”

No New ‘iPhones’

When Apple’s iPhone first came out, there wasn’t as much commodification, and this gave the company years of space to cultivate and captivate a customer base. “We view the iPhone as a revolutionary product that created the smartphone ecosystem and transitioned computing habits away from the PC,” Davuluri adds. “The robust app store helped foster iPhone adoption and expand Apple’s user base, with applications for productivity, social media, gaming, music, and so on.”

But what Apple’s built – that walled garden – needs to be maintained, and improved. Investors counting on another iPhone might consider a more practical approach to growth. “We foresee Apple’s ongoing business coming from existing customers versus new smartphone adopters,” says Davuluri.

“We expect Apple to focus on newer software and services to augment the user experience and retain customers. Its additional products and services (like Apple Watch, iCloud, Apple TV+, AirPods, and Apple Pay) act as both supplemental revenue opportunities and, more important, critical enhancements to the iOS ecosystem that support Apple’s crown jewel: the iPhone.”

Less new Apple users, more Apple software and services. While our outlook for Apple isn’t as lucrative as its current stock price suggests, the approach may best leverage and conserve the product that got it here.

 

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Apple Inc142.65 USD1.21Rating

About Author

Andrew Willis

Andrew Willis  Senior Editor at Morningstar.ca. Follow him on Twitter @AndrewWillisCDN.

 

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