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Ryanair upgrades, Superdry and Joules miss
Ryanair has defied fears about the airline market suffering from weaker demand and too much supply. Management today has reported a stronger than expected Christmas and New Year. Forward bookings Jan to Apr are running 1% ahead of this time last year, and Ryanair believes this will result in slightly better than expected ave. fares in Q4, while full year Group traffic will grow to 154m (previously guided at 153m). On the negative side, Laudamotion is underperforming, with average fares lower than expected despite the solid traffic growth and load factors. Price competition with Lufthansa is to blame. Forecast net loss widen from under €80m to approx. €90m.
As a result management has raised Full Year profit guidance from €800m – €900m, to a new range of €950m – €1,050m.
This is a big improvement from the Nov update, when we noted: “First half revenue grew 11% to €5.39bn, with profits flat at €1.15bn. But fares were down 5%, due to the weak consumer demand in the UK and overcapacity in Germany and Austria. Ryanair is facing headwinds from lower fares, higher fuel bills and rising staff costs. The fuel bill rose 22% (+€289m) to €1.59bn, on +11% traffic growth. Ex-fuel unit costs rose 2%, largely because of higher staff costs, increased pilot pay and higher than expected crew ratios. Faced with these headwinds Ryanair will need to cut costs.”
Ryanair remains very well placed to take advantage of consolidation in short haul European air travel. But its low cost model is facing headwinds.
JD Sports continues to perform. In a short trading update that offered little in the way of detail, management stuck to full year group headline profit before tax being in the ‘upper quartile’ of current market expectations, which range from £403 million to £433 million. From the tone of the statement it seems it was tough in the UK in the Christmas period but they think overseas sales are better and will follow through into January numbers. So I think we need to wait and see how this pans out.
JD Sports has a lot of work to do in cracking the US with its Finish Line fascias but there is hope that management is well experienced enough to achieve it. The problem is the shares are priced for perfection and with the big brands shifting more and more to direct sales, the US will be difficult. But betting against Cowgill and co has not paid off yet. Shares could dip.
Betting against Superdry on the other hand….has worked out pretty well. In an update today management say the peak trading performance has been lower than expected as the business continues the ‘strategic transition to a full price stance’. As we noted with Marks and Spencer, discounting is murder if you don’t have the brand power to avoid it. Superdry saw lower than anticipated retail sales of £23m since Black Friday, predominantly online.
The numbers are woeful – group revenue -15.8%, in-store revenues -18.5% and wholesale revenue -16.9%. E-commerce revenues dropped by more than 9%. Profits are now see between £0 and £10m. Shares could be down around 20% on this. Julian Dunkerton has an awful lot of work to go – does the full price strategy actually have legs? Sales are being hammered – margin gains may be for nought.
Joules’ run of luck has come to an end. Posh wellies may be a niche market after all. Full year profit before tax will be significantly below market expectations. Retail sales over the seven-week period to Jan 5th were significantly behind expectations and decreased by 4.5% against the prior year. A weak online sales performance was to blame, which management explains was “due to an internally generated stock availability issue through the important end of season sale event, the cause of which has now been addressed”. In other words they mess up on stock just like Marks & Spencer did. Too many posh wellies? Not enough polo shirts? Who can say, but shares seen at least -10%.
Midday wrap: Europe higher as risk appetite returns, DAX near ATHs
European markets enjoyed solid gains Thursday as risk appetite returned. But the rally hardly betrays a wanton desire for equities because a) we’re already at or near record highs and b) the selloff had not been especially deep despite US-Iran conflict fears seeing havens enjoy firm bid. Even a shaky ceasefire is enough right now to support the bulls. Stronger-than-expected German industrial production figures (+1.1% vs -1.7% prev and 0.8% est) are helping sentiment, particularly in Frankfurt.
The DAX has led the charge with a 1.25% push higher to 13,485, having earlier touched a high of 13,522. With investors apparently keen to load up on risk with US-Iran tensions easing and a US-China trade deal baked in, we may well see the drive to January 2018’s all-time high just shy of 13,600. Geopolitical risks remain of course with the situation in the Middle East still fluid, but you get the sense the bulls are keen to push this over the line.
The FTSE 100 added 0.5% to break 7600 with resistance seen at 7675, the high posted Dec 27th. A softer pound is compensating for the weaker oil price.
Elsewhere US markets are firmer again with the Dow shaping up for a triple-digit gain on the open.
Oil has held just short of $60 with no further losses while gold is also holding the line around $1545.
In FX, the pound took a drubbing as the market decided Bank of England governor Mark Carney’s comments were more dovish than before. GBPUSD slipped the 1.31 handle to test support on the 50-day moving average around 1.3010. I don’t see much in what he said as particularly more dovish than in the past. Commentary around the likelihood of the UK agreeing a trade deal with the EU before the end of 2020 is also weighing on the pound today.
Meanwhile, as flagged in the morning note, the bullish engulfing daily candle for USDJPY is resulting in further gains today with the pair moving to 109.50 and momentum in favour of USD across the board. Having cleared the 200-day and other MAs bulls are looking to break the trend line drawn from the falling highs since the swing high of Oct 2018. Big 61% Fib level to cross at 109.60 where we have seen rallies hit a wall several times lately. This level will offer a decent amount of resistance as a result.
Cowen has come out with a bunch of price target upgrades
Facebook raised PT to $245 from $240
Alphabet raised PT to $1575 from $1525
Twitter raised PT to $34 from $32
Elsewhere AMD shares are up c2.5% pre-market after Mizuho raised the stock to buy.
Benchmark has initiated Lyft with a sell rating , price target of $35, which is $10 below yesterday’s closing price.
Boeing shares are up a touch pre-mkt despite Berenberg cutting to hold. After enjoying a thumping 5% jump yesterday, Tesla shares are a touch softer pre-market after being cut to neutral at Baird, a long-time bull which seems to think the recent rally has run its course. They said: “we would not short the stock and remain positively biased over the long run.” See yesterday’s Equity Strategy: US earnings Q4 preview: Two major stocks to watchfor more on Tesla.
Anglo ‘rescues’ Sirius, Sainsbo’s makes grocery progress, Greggs performance baked in to shares
Anglo American is to play white knight to Sirius Minerals. Anglo is in advanced talks to but Sirius for 5.5p a share, valuing the business at £386m. The offer is a roughly 40% premium to yesterday’s close price although we can hardly call that undisturbed. AAL has until Feb 5th to make a firm offer. AAL shares were down 2.25% on the news – the project still requires major investment.
Shares in SXX jumped 35% after Anglo confirmed its bid – there was bid for the stock yesterday clearly as news of the offer leaked. Whilst this is great news for the holdouts and many retail investors still clinging to the stock, the valuation is still barely a tenth of what it once was.
If anyone can, Anglo can. As one of the largest miners in the world, it has the financial clout and expertise to make this project happen. We also wonder whether the government may have offered certain assurances. The fact this offer is public could make raising cash for other sources very tricky now, if not impossible, forcing SXX into something of a corner – even if the price is not the best they will have to accept it. The market knows they need cash ASAP but with this offer on the table, it’s now the only show in town – they have to recommend it or it’s curtains. Anglo is picking up a distressed asset on the cheap.
Sainsbury’s numbers don’t look fabulous but grocery remains broadly positive with a second straight quarter of growth amid a very challenging market. The problem lies with Argos.
Total grocery sales rose 0.4% but general merchandise (Argos) was down 3.9%. This was more disappointing than expected and seems to be down to a poor performance in toys and gaming. Clothing was very strong at +4.4% and delivered a particularly robust online performance.
That left total like-for-like sales -0.7%, which was broadly in line. Whilst, as we noted in November, tentative signs of recovery in the core grocery division, it cannot be ignored that under Mike Coupe the business has delivered five straight quarters of LFL sales declines (ex-fuel). Whilst Q2 showed some arresting in the decline, Q3 has not continued in the same vein. Shares were up and down around the flat line in early trade – it’s hard to really make a case for these results changing the narrative meaningfully – I think most of us would have hoped for a little better but grocery is good.
Greggs delivered again with another upgrade to add to November’s. Company-managed shop like-for-like sales were 9.2% with total sales up 13.5%. Fourth quarter like-for-like sales grew by 8.7%. Full year profits seen slightly higher than previously expected. Despite exceptionally tough prior year comparisons trading remains remarkably strong and with plans for more outlets there is still some growth in there, albeit you have to assume the kind of double digit growth won’t last. Shares dipped 3% on profit taking for sure. But with the company now valued at £2.4bn, is all the future growth fully baked in?
Equity roundup: Aston Martin and Morrison
Morrison’s lean Christmas
It was a lean Christmas at the Morrison household but the grocer managed to stick to profit forecasts and is upbeat about the year ahead. Group like-for-like sales excluding fuel were down 1.7% in the 22 weeks to Jan 5th, with retail responsible for all of this decline whilst wholesale was flat. Total sales fell 1.8% over the period – although it’s interesting that it’s chosen not provide more specifics on the performance over the key Christmas period.
Q3 was also soft with group LFL –1.2%, with wholesale contributing –0.1 percentage point to the decline and retail adding –1.1%. Management described trading conditions as exceptionally challenging. Aldi’s numbers support the case that consumers tightened their belts over the festive period a little more than expected. Nevertheless, decent cost control means 2019/20 profit before tax and one-off items is still expected to be within the current range of analysts’ forecasts.
So, first out the gate among the big four listed grocers and Morrisons passes the test – trading was tough and for sure they are leaking market share to the discounters, whilst the election in December certainly had an impact.
But MRW hit forecasts and shares have bounced 3.5% as a result following a bit of selling on Monday in the wake of the Aldi numbers. The read across has been felt in the sector with TSCO up a touch, SBRY also doing well. Marks and Spencer shares have jumped 4% as Berenberg raised the stock to buy from sell.
Kantar data has also crossed the wires and confirm it was a tough old patch for supermarkets. Tesco sales -1.5%, SBRY -0.7%, Asda -2.2%, MRW -2.9%. Discounters continue to gain ground.
Nielsen numbers meanwhile indicate grocers endured the worst Christmas period since 2014. Again Sainsbury’s looks to have held up better with sales -0.4% over the 12 weeks to Dec 28th, while Tesco -0.9% and Morrisons -.2.5%.
So far it seems Christmas was a bit lean for supermarkets and there was not the hoped-for big post-election splurge, but perhaps it was not quite as bad as feared.
Aston Martin: Stroll on
Profits warnings never come alone – they usually come along like buses in batches. True to form, following a warning last summer and sailing pretty close to one in November, Aston Martin is warning profits will be between £130m and £140m, about half the £247m last year. Shares dropped 13% to £4.53.
The numbers are pretty horrid, albeit retail sales rose 12% (heavy discounting when buyers can see multiple models on the forecourt is impossible to avoid).
- Core wholesales declined 7% year-on-year to 5,809
- Year-end cash balance was £107m, giving expected net debt and leverage ranges of £875m-£885m and 6.2-6.8x respectively.
That net debt figure is a major concern. The only good news is the DBX order book has risen to 1,800 which means Aston can unlock an additional $100m in 2022 notes. This is a drop in the ocean though and for sure Aston needs to raise cash in some way. The bond market looks unpalatable but even an equity raise could prove tricky. The rationale to go private is impossible to resist – the brand still has the cache to make it appealing. Stroll on.
Grocers have little to cheer from Aldi numbers
There is little to cheer in the Aldi numbers for the UK’s big grocers. Shares in Tesco (TSCO), Sainsbury’s (SBRY), Marks & Spencer (MKS) and Morrisons (MRW) were all notably softer after Aldi delivered a disappointing Christmas trading update. Whilst we should always take numbers from private companies with a pinch of salt, the performance does not suggest that the big 4 listed supermarkets experienced a tremendous festive bounce.
In the four weeks to Dec 24th, sales at Aldi rose 7.9%, which was below the 11% rate we saw across the whole of 2018. It also fell short of the 10% in the same period of 2018. Like-for-like sales were said to be positive but no figure was provided – for sure almost all the growth is coming from new stores. We know that margins are being hit hard too as it a) expands and b) keeps prices down.
Investors are braced for a lacklustre Christmas for the big 4 listed supermarkets, but this points to arguably a bigger slowdown than had been expected. If even the discounters are seeing growth rates decline, we should expect similar for the larger names – it is hard to imagine they are picking up market share back from the Germans. Moreover, if Aldi’s growth slipped despite 47 more stores operating at the end of 2019 versus the start of the year, we should expect a poor Christmas performance across the piece.
The election may have had an impact, shortening the period in which UK consumers were prepared to splash the cash on groceries for Christmas. Undoubtedly the election will have reduced the overall spend in Dec – the question is just how much.
Dates for the diary
Jan 7th – Morrisons Christmas trading statement – could be tough – particularly in retail which has been underperforming with the overall numbers held up by solid wholesale performance.
Jan 8th – Sainsbury’s Q3 trading update – Signs that the worst may be over as management take their heads out of their Asda deal and refocus on core grocery division. LFLs have just about started to head in the right direction again.
Jan 9th – Tesco Q3 and Christmas trading update, Marks & Spencer Q3 trading update. The former is likely to do OK but serious question marks over whether Marks can deliver on the food front. More worrying for Marks is Clothing and Home which the Nov update showed were in a real mess. Could be grim.
UK assets surge on huge election win for Boris Johnson
Sterling jumped sharply, enjoying its best gain in a decade as the Conservatives romped home to a convincing victory, while the FTSE also rose as investors enjoy the Boris Bounce. Broadly equity markets were well bid as hopes of a US-China trade deal crystallise into something more concrete.
Huge win for Conservatives in UK general election
The Conservative Party has secured an historic mandate with a thumping victory, providing clarity for investors where there was confusion. For the markets and for business this is the perfect result – a clear majority for the Tories, the Corbyn risk nullified entirely, a major reduction in uncertainty around Brexit and even a quick Budget to inject the economy with some added impetus. The only doubts are around the next phase of Brexit – the future relationship – but with a large majority the government will be in a better place to negotiate and do what it needs to do.
Sterling was heavily bid on the news. The going was looking a tad heavy but the ground firmed once we had the exit poll. GBPUSD surged to as high as 1.35 but pared gains a touch to trade around 1.3470 heading into the morning session. Near-term a look to 1.36 and thence to 1.37 seems feasible.
UK stocks surge on Tory election win
The FTSE 100 rose over 100 points to trend above 7,388, moving higher despite a clear drag from the stronger pound, which will cap gains. The City has awoken and the relief rally on a massive Tory win has begun. I think 8,000 looks overly bullish as a target, but something like 7700 before the year is out is doable. Near-term, 7440 offers a big test.
Now calls for a rebound in confidence in UK plc. Fundamentally undervalued UK equities – forward PE multiples have been very cheap versus European and US peers of late – will now look especially appealing as they have largely missed out on the rally seen elsewhere. The FTSE 250 put in more considerable gains – up 1,000 points to easily take out 21k and hit an all-time high. Sterling and UK equities are in for a Boris Bounce.
Remember just how cheap UK equities had become – trading on 12-month PE multiples of about 13 vs about 15 in Europe and 18 on the S&P 500. The FTSE 250 nearly made it to 22k but topped out an all-time high at 21,910. The FTSE 100 added about 100 points.
UK equities were basking in the warm glow of the Tory victory as investors threw out their worst-case scenarios for the British economy. There are some seriously relieved investors – and bankers and corporate financiers.
In particular, we are seeing some absolutely stonking moves among the UK-focused equities. Anything largely exposed to the UK economy took off at the open, while the drag on dollar earners from the stronger pound was not so large as to worry the market. It all points to a huge vote of confidence in the prospects for the British economy as a result of the Tory win. You just cannot understate the sense of relief here in the City.
Utilities had been suffering from a significant Corbyn discount and exploded as the threat of nationalisation evaporated with the Labour vote – United Utilities, Severn Trent and National Grid all jumped around 8%, while Centrica jumped 9%.
Housebuilders were also undervalued and caught a bid on hopes that construction will benefit from the Conservative victory. We should also consider the potential risk that a Labour government could have posed to their profits being removed. Barratt Developments and Taylor Wimpey both rose more than 10%, while Persimmon was among the top movers at +14%.
Banks were also bid – with the most heavily exposed banking stocks to the UK economy enjoying the biggest gains. RBS and Lloyds both rose 11%, with Barclays up nearly 8%. Investors are also needing to dial back their expectations for a Bank of England rate cut so this is an important boost for the banking sector in the UK, with Lloyds in particular the most exposed to the mortgage market.
Elsewhere retailers found new support with Dixons Carphone shooting 16% higher, with Marks & Spencer and Sports Direct +6%.
Property, retail, banking, utilities – the whole lot is seeing a huge rotation.
Asian stocks higher on trade sentiment
Asian markets have rallied strongly overnight, taking their cue from the records on Wall Street as it seems a phase one trade deal is as good as done. Although not quite signed, sealed and delivered, it seems like the US and China have come to terms.
The White House will cancel the planned tariffs on $156bn in Chinese goods scheduled to take effect on Sunday, whilst also cutting by half the existing tariffs on around $360bn of Chinese goods.
Does it mean we get a comprehensive deal in 2020? Hard to say, but it this has created the necessary Christmas cheer for a decent Santa Rally. It does rather look like some of the worst risks and headwinds are fading away – a phase one deal complete, greater political certainty for the UK and even a slightly upbeat ECB.
Some doubts creeping in about whether China has accepted this deal – of course if it were to be scuppered now there would be a sizeable downside for equity markets given the ramp we have seen.
Tokyo surged 2.5% to its best level in over a year above 24k. Hong Kong rallied 2% and mainland China is up over 1%.
Earlier US equity markets had surged to new all-time highs after Trump first tweeted the deal was oven ready.
European indices are pointing broadly higher.
The dollar was offered with DXY down to a 96 handle and its weakest since July. EURUSD has rallied through 1.1170 and held the gains.
Risk-on moves hammer bonds, gold dragged lower
Bonds were crushed by the risk-on sentiment from the trade deal – US 10s taking 1.95% at one point. Higher yields knocked gold but prices haven’t capitulated entirely. Having traded at a high of $1486, gold has retreated to $1467 having hit a low of $1462. The fact prices haven’t retested the earlier Dec lows suggests there is still bid there. Crude oil held gains with WTI above $59.50.
No deadline for China trade deal
Equity markets in Europe and US futures were hit as Donald Trump upped the ante again on trade, warning that there is no deadline for doing a deal with China and that it’s probably be better to wait until 2020 and even after the November presidential election to agree terms. The chances of a deal by Dec 15th just took another turn lower.
Markets simply aren’t priced for this; for a trade deal to be that far in the future – if one can even be struck at all. After weeks of making generally positive noises on a deal being very close, there is a real sense now that a deal is not so very near at all and markets need to reprice. Combined with the barrage of tariff threats on the EU, the comments can be taken as a sign that the White House has no qualms about levying further tariffs and is happy about using trade as a economic, political and diplomatic weapon.
Of course, Donald Trump’s shoot-from-the-hip comments in these kind of interviews need to be taken with a dose of salt – we could just as easily see him row back on this later, as has happened countless times already. We’re only ever a tweet away from saying that a deal is very close to see a rebound. However, it’s clear that hopes for even a skinny deal being done this year have diminished in the last two days and markets are reflecting this.
Meanwhile, France has promised a strong response to the plans to hit $2.4bn of French goods with 100% tariffs. It’s worth noting that while the chance of a meaningful escalation in EU-US trade spats – tit-for-tat tariff hikes – is relatively low, it’s clearly a risk.
Dow futures fell 100 points to test horizontal support at 27,660 and bouncing off that level to pare some losses, with the cash market eyeing an open down c90pts around 27690 as of send time. Meanwhile European markets were also hit, although the DAX remains in positive territory. The FTSE 100 is having a hard time, down more than 1%.
Tariffs are very much the talking point:
- The US government may levy a punitive tariff of up to 100% on $2.4 billion in imports from France, including cheese and Champagne (Christmas is cancelled). This is in retaliation for France’s digital services tax that targets the big US tech giants.
- The White House also threatened the EU with a fresh round of tariffs in relation to the Airbus case. Whilst the US has already slapped tariffs on $7.5bn of EU goods, the US trade representative threatened to go beyond that.
- Tariffs on imports of steel and aluminium from Brazil and Argentina will be re-imposed in retaliation for ‘massive devaluation’ of their currencies. Nonsense of course – quite clearly they couldn’t manipulate clay.
- Meanwhile no real signs of progress on that all-important phase one deal with China by Dec 15th, although the US may still kick that can down the road.
Probably three salient points in this to bear in mind.
- What we are seeing is the weaponization of trade and using it for diplomatic purposes. It is no coincidence that these announcements come as Trump lands in London for the Nato summit and a chance to demand European allies spend more on defence.
- It will also draw attention away from the Chinese talks, which clearly are not yielding the necessary outcome as far as the White House is concerned. US support for Hong Kong protesters has not helped build bridges and we have seen China retaliate in its own way. Beijing seems sensitive to conflating anything about Hong Kong with trade talks though.
- And, three, it’s a clear signal to Beijing that Trump is not shying away from tariffs – as he said yesterday – if there is no phase one deal the tariffs will go up.
Uber drops as London bans app
Transport for London has stripped Uber of its licence to operate in the capital. The company has 21 days to lodge an appeal, which it has said it will do, and it continue to operate until such appeal is completed.
Shares printed -5.9% in pre-market trading at $27.82 at one stage before paring losses just ahead of the open to trade 4.3% lower. The stock is barely a couple of dollars away from theall-time low. It could be a rocky session out there today.
Uber has suffered a big blow with this ruling. London, with about 3.5m users, is the largest market in Europe for Uber. London is one of the group’s ‘fab five’ cities that account for around a quarter of global revenues. There is a clear and obvious hit to revenues, if the ruling is upheld, which it seems likely it will. Competition in the shape of Bolt and Ola are ready and willing to step in at the drop of a hat in the capital and it could be forgotten pretty quickly once gone. At least a drop in revenues should also equate to narrower losses.
More broadly it betrays the scope and depth of the legal and regulatory problems faced by Uber. The list of legal issues is long and broad in its scope and geography. These present ongoing overhang for the stock as, whilst there have been problems about corporate culture, largely the run-ins with the regulators and policymakers pertains to the very structure of the business itself and how it operates; taxation, labour laws and consumer safety are the milking stool of regulatory instability. It betrays also the fact that cities and local lawmakers do have considerable leverage should they wish to use it. Uber will continue to face elevated competition from local rivals and a high-degree of regulatory scrutiny that threatens to undermine how it does business.”
Apple eyes $250 after earnings
Apple posted record Q4 revenues despite slower iPhone sales and guided for a very strong holiday quarter. Shares popped 2% to reach $248 again and you can definitely sense there’s appetite to push thus stock to new all-time highs above $250. Earnings per share beat handsomely at $3.03 vs $2.84 expected and up 4% year on year. Revenues jumped 2% to $64bn.
What we learned
iPhone sales matter a lot less…
This improvement on both top and bottom line came despite a 9% drop in iPhone sales. Whilst that’s not as bad as the 15% type level seen recently, it shows how much of the lifting is now being done by other parts of the business. It suggests Apple is reaching an inflection point where it’s no longer dependent on the iPhone for EPS growth. This is across the board a positive.
…because Services and Wearables are roaring ahead
Wearables, Home and Accessories knocked it out the park, with sales up 54% to $6.52bn. This was by far the fastest growing segment and will account for an increasing percentage of sales, currently c10%.
Services growth remains good at 18%. Stripping out certain one-off items that knocked the Q3 number, this represents consistent sequential growth from the last quarter. Whilst still very positive, it’s a comedown from the +20% levels seen in preceding quarters. But with a clutch of new services rolling out, not least Apple TV+, a renewal of past growth rates is on the cards. Higher margin, recurring Services revenues are a key reason why multiples may rise – they’ve already climbed to about x20 TTM vs x15 average over the last five years.
American consumers are in good shape
The US consumer remains strong. Almost all the growth came from the Americas, which is dominated by US sales. American consumers still look in good shape. Sales in Europe, Japan and Greater China fell.
Holiday quarter could be record breaking
Guidance for the fiscal first quarter is bullish, and Apple could mark a record for quarterly revenues. Apple is guiding revenue of between $85.5 billion and $89.5 billion.
Early indicators suggest the iPhone11 is performing well with consumers. Favourable comparisons in China from last year are assured, given the previous year’s downswing in iPhone sales in the region. Moreover we can expect further improvement in iPhone sales through the 2020 year on the anticipated 5G rollout.
Apple earnings preview
The Q4 results from Apple are never the most important, but as ever they will contain key guidance on the next quarter’s expected iPhone sales and wider performance of the company.
The Street expects EPS of $2.84, short of the $2.91 in the same quarter a year ago, on revenues of $62.9bn, flat on last year, which was a record. In the last update, investors were particularly impressed by robust Q4 guidance which was ahead of the Street’s expectations. Apple guided revenue to between $61bn and $64bn versus expectations of $60.9bn prior to the Q3 report. The Q3 numbers broadly showed that consumers are still extending the upgrade cycle and holding on to iPhones longer but stickiness in the Apple ecosystem remains strong. The 13% growth in Services was a disappointment and represented another quarter of deceleration. However, excluding a couple of one-off items, the growth was more like 18%, according to Tim Cook.
Apple has beaten EPS expectations every quarter for the last two years. Wall Street analysts have been consistently upgrading their expectations for the stock and raising price targets over the last quarter.
What to watch
Number one is the guidance for the 2020 fiscal first quarter. This is pivotal to our understanding of how well Apple thinks the iPhone 11 is doing – there is only 10 days of iPhone sales included in the Q4 release. The recent strong performance of the stock reflects increased confidence in the iPhone 11 as well as growing hopes for next year’s expected 5G phone. The iPhone 11 has done way better than expected before its launch. We’ll get a first glimpse of iPhone 11 sales in Q4 – the market is expecting Apple to sound bullish on demand for the forthcoming holiday quarter.
Given the backdrop of slowing growth in China, Hong Kong protests and the Sino-US trade war, investors will be watching for the Greater China sale with interest. This has been a problem area for Apple but there have been more encouraging signs, particularly with the lower priced iPhone 11 catching the interest of Chinese consumers. Investors will also want an update on how potential tariffs will impact the business.
Services revenues will be another key area as Apple looks to pivot towards this side of the business. Growth in Q3 was modest versus comparisons from last year, although that was down to one-off items. However, the launch of a range of new services like Apple TV+ should underpin further growth, albeit not so much in the reported period. Key to the rerating of the stock and to support the higher multiples we’ve got now is for this division to do well.
On that front we are also looking at margins. Services makes up about 20% of Apple’s revenue, up from c16% a year before. Margins from Services is around 64%, vs roughly 31% for hardware. The question is at what point can Apple start to significantly guide its margins higher? As we said in July: “This could be an area for an upside surprise, if not now then perhaps heading into the year-end.” Apple has guided gross margin between 37.5% and 38.5% for Q4.
Also expect strong performance in Wearables, which now account for about 10% of sales. Mac sales may be a touch softer due to supply problems.
The stock has rallied through the $240 mark to break new all-time highs although it’s seemingly hit resistance at the $250 round number. The stock has rallied about 8% since it released its new iPhone range – this may be an indicator the market is expecting upgraded guidance off the back of higher-than-expected iPhone sales. A strong Q4 is already priced in.
Indeed, we may add that earnings multiples appear stretched. The trailling 12-month PE ratio has risen above 20 versus an average of 15 over the last 5 years. Whilst there may be encouragement that this is about a re-rating of the stock as it pivots away from being a hardware business to a services business, it makes it ripe for sellers on any miss, although Tuesday’s selloff helps on that front.
Downside break could see $232 retested. Upside look for the $250 level as the barrier to further gains.