Very constructive on Apple longer term despite near-term headwinds, says BofA's Wamsi Mohan

Apple Stock Analysis: Bank of America Securities

Key Concepts:

• Apple stock valuation and potential upside
• Headwinds affecting Apple's stock: tariffs, Google payment issue, AI rollout
• Services revenue growth and its impact on Apple's valuation
• iPhone cycles and their influence on gross profit
• Installed base growth in emerging markets
• Monetization of the installed base through services penetration
• Law of large numbers and Apple's market capitalization potential

Current Valuation and Potential Upside

• Bank of America Securities analyst Wamsi Mohan believes Apple shares are attractively valued despite recent underperformance.
• The stock experienced an 11% increase in August, signaling a potential recovery.
• Mohan's price target for Apple is $250, indicating a bullish outlook, although not aggressively so.

Headwinds Affecting Apple's Stock

• Tariffs: Previously a significant headwind, the tariff issue is now considered less of a concern, potentially freeing up $1.1 billion in incremental cost savings.
• Google Payment Issue: The ongoing issue with Google payments remains an overhang on the stock, primarily affecting the multiple rather than earnings. The outcome is still uncertain ("TBD").
• AI Narrative: Apple's AI strategy, particularly at the edge, is taking longer to materialize than expected. A "botched rollout of AI" led to increased investment in developing an AI-enabled iPhone, expected to drive upside in two years.

Services Revenue Growth

• Services contribute more to gross profit than iPhone, a trend expected to continue.
• The installed base of iPhones is 1.2 billion, but only 300 million are paying subscribers, with only 30 million contributing the majority of services revenue.
• Significant opportunity exists to increase penetration within the existing subscriber base and expand the install base itself.
• Double-digit services growth is anticipated for the foreseeable future, driven by increased penetration, a growing install base, and pricing power.
• Services gross margins at 75% are expected to dominate and eventually exceed product gross profit within five years.
• The increasing importance of services reduces the stock's volatility, limiting potential earnings shortfalls to around 10% even with adverse product news.

iPhone Cycles and Future Trends

• A strong iPhone cycle is anticipated in the fall of 2026, potentially driven by the intersection of AI and foldable form factors.
• This could temporarily lead to iPhone gross profits exceeding services gross profits for a quarter or so.

Installed Base Growth in Emerging Markets

• Emerging markets are identified as the next major driver of installed base growth.
• The shift from cash-based to credit-based economies in these markets makes iPhones more affordable.
• Strong brand value in emerging markets remains largely untapped.

Monetization of Installed Base

• Significant room exists to monetize the existing installed base through increased services penetration.
• Currently, only 30 million out of 1.3 billion users are significantly contributing to services revenue.

Law of Large Numbers and Market Capitalization

• The discussion of the "law of large numbers" is revisited, questioning how much higher Apple's market capitalization can go.
• Apple's market cap was close to $3 trillion at its high.
• Growth potential is viewed from two perspectives: continued growth of the install base and monetization of that base.

Notable Quotes

• "Apple shares are pretty attractively valued." - Wamsi Mohan
• "We've said consistently [Apple] will be a winner on AI at the edge." - Wamsi Mohan
• "Double digit services growth we believe very strongly in that for the foreseeable future." - Wamsi Mohan

Technical Terms and Concepts

• Mag-7: Refers to the seven largest technology companies in the stock market.
• Multiple: A valuation metric used to assess a company's stock price relative to its earnings or other financial metrics.
• AI at the edge: Refers to processing AI tasks on the device itself rather than relying on cloud-based processing.
• Installed base: The total number of active devices running a particular operating system or using a specific product.
• Penetration: The extent to which a product or service is used within a particular market or segment.
• Gross Profit: Revenue less the cost of goods sold.

Conclusion

Bank of America Securities maintains a bullish outlook on Apple, citing attractive valuation, the potential for services revenue growth, and expansion in emerging markets. While acknowledging near-term headwinds related to tariffs, the Google payment issue, and AI rollout, the analyst believes that Apple's long-term prospects are strong, particularly driven by the increasing importance of services and the untapped potential in emerging markets. The increasing contribution of high-margin services is expected to reduce volatility and potentially lead to a higher valuation multiple for the stock.