Apple: WWDC-Driven AI Super Cycle (NASDAQ:AAPL)

ozgurdonmaz Investment Thesis Last week, at Apple (NASDAQ:AAPL)’s Worldwide Developers Conference (WWDC), the tech giant unveiled new AI drive software designed for their iPhone, iPad and Mac lineups with advanced AI capabilities that I believe will be key to driving their sales performance over the coming year. During their event, the tech giant unveiled new software products that include advanced functionalities in Apple’s existing suite of applications, making everyday tasks more convenient and efficient in ways that I believe will make new generations of Apple devices enticing for consumers to upgrade (or become an Apple customer). For instance, the company launched enhanced natural language capabilities in Spotlight Search and revamped Siri interactions that are said to improve user experience through AI without compromising the simplicity or intuitiveness that customers expect from their products​. The new Apple Intelligence system will likely personalize device interactions and streamline processes such as language translation, task automation, and creative expressions, all while ensuring that personal data remains secure through on-device processing and Private Cloud Compute​​. I believe that the company’s typical product lifecycle management, which encourages periodic hardware refreshes, will leverage these new AI upgrades to provide consumers with a strong incentive for upgrades this fall considering the significant portion of iPhone users are within the typical upgrade window and the introduction of compelling AI features. Given these dynamics, my outlook for Apple’s stock remains robust after my last report in March; I am still a strong buy. I believe these new features are very likely to contribute to sustained ecosystem stickiness and higher long-term customer value. Why I Am Doing Follow-up Coverage Back in March, while the market was more bearish on Apple, I argued that AI brings the potential to be a huge catalyst in iPhone sales. The prospect was based on Apple’s integration of advanced AI into their product lineup, anticipated to spur a “super cycle” (which suggests a period during which sales are expected to significantly outpace standard market growth rates due to widespread upgrades). I argued that this is a strategic maneuver to help it manage regulatory pressures and market saturation. For instance, the deep integration of AI features is set to revive Apple’s advantage in the global market, countering the aggressive growth of competitors such as Huawei, which had recorded a 64% increase in sales that overshadowed Apple’s performance in China​. Despite Apple’s stock setting a record high this week, the financial forecasts by sell-side analysts appear conservative with a year-over-year revenue increase of 1.44% for the upcoming fiscal year and flat earnings per share (EPS) estimates post-WWDC​​​​. I think these are far too conservative. The disconnect between Apple’s stock performance and analysts’ tempered expectations opens what I believe to be a strategic opportunity for retail investors. In other words, Wall Street analysts have not quantified yet the powerful effects of the new iPhone lineup and AI features and how they will potentially boost sales this fall. I think once they do they will likely upgrade the stock leading to more upward pressure. I’m writing this update because I think now (before the upgrades) represents a unique opportunity. WWDC Recap Throughout their event, Apple highlighted their strong focus on integrating advanced AI across their product line during WWDC 2024, which they have branded as “Apple Intelligence,” or a suite of AI tools and enhancements designed to make Apple devices more intuitive and capable. This includes a new version of Siri, which has been revamped to be more conversational and context-aware. The digital assistant can now handle more complex tasks and queries with more personalized responses based on user data processed directly on the device to protect privacy. A key focus of the conference was Apple’s commitment to privacy, particularly in how AI processes data. The company stressed that all AI processing for features like Siri suggestions and face recognition in Photos would be performed on-device, without sending data to the cloud. The new operating systems for iPhone and iPad now include various upgrades that use AI to offer a more customized user experience featuring more dynamic and intelligent photo sorting and enhanced predictive text capabilities. Apple unveiled MacOS Sequoia, which integrates many of the AI-driven innovations found in iOS and iPadOS. The tech giants’ update to their computer lineup includes better continuity features, such as allowing iPhone apps to function on Macs, and enhancements to Safari to enhance browsing by highlighting relevant information and simplifying web page layouts​. Apple has also introduced improvements to their applications on top of their operating systems. Specifically, Maps can help users plan hiking routes as well as save and add notes to their favorite spots, walking routes, and locations to the Places Library. On the other hand, Messages will now support RCS and scheduling that is expected to improve communication between Android and iOS users (this is about time, in my opinion, since Google has been nagging Apple for a long time about this already). Event tickets in Wallet will offer information such as a map of the venue, parking details, food recommendations, weather forecasts, and location sharing to help fellow users find their way during the event. In Apple Pay, users can use rewards directly in the app and access new installment plans. Apple has reportedly tapped many banks and credit to integrate with the Apple ecosystem. Apple Fitness+ underwent a major redesign as well that will offer personalized workout and meditation recommendations, a more navigable library, and better tracking features. Apple Music, on the other hand, will introduce collaborative listening experiences through SharePlay, with a new feature called Music Haptics that will let users, especially those who are deaf or hard of hearing, feel the music through tactile feedback. The company’s strategy of designing and building both the hardware and software layers has previously catalyzed a series of upgrade cycles, and will likely occur again with the introduction of new AI-driven capabilities. The upcoming iOS 18 and enhancements across the Apple Intelligence spectrum are limited to newer hardware, including the iPhone 15 Pro and devices with M1 or newer chips, therefore excluding older models from these advanced features​​. I am optimistic about what this will do for sales. Finally, the Apple TV app will feature InSight, which offers real-time information about actors, characters, and music in Apple TV+ shows and movies. Users will now be allowed to add songs directly to their Apple Music playlists from their TV screens. Tech bloggers and analysts seem to welcome the changes. Some are highly optimistic with the disruption, others believe that the company’s issues with attracting top AI talent has been resolved with the help of OpenAI. There’s one more thing to emphasize: iPhone’s installed base, which counts active devices engaged with Apple services within the last 90 days, is quite old compared to averages. This is critical because Apple’s financial ecosystem depends heavily on selling new devices and on the continuous engagement and purchasing within their services sector. According to Bloomberg Intelligence, the iPhone refresh cycle has elongated, with fewer customers upgrading to the newest models compared to previous years. This is partly attributed to inflation, which has impacted purchasing power and incentivized consumers to hold onto their devices longer. The group’s data suggests that only 62% of survey participants owned iPhones released in the last three years, a decline from 69% the previous year. I think once this group sees the incredible value proposition of these new iPhones, iPads and Macs they will be highly incentivized to upgrade. To some it all up, when asked about the benefit of introducing these features to their devices, CEO Tim Cook replied: I think they’re going to save time. Things are going to become more efficient. If you think about Siri as an example, you can now have a conversation with Siri. It can perform essentially multiple steps with one request, where today it takes multiple requests for that to occur. Writing tools: I get so many emails, and I realize everybody’s not on email, but everybody writes. And to have an assistant proofread to make things more professional or more entertaining, or whatever you want to do, is a big thing. The idea that it’s private, I think, is a very big idea in today’s world. People want to know in some kind of way that [AI] is personal to them, but also private. And these two things generally haven’t gone together very well. We found a way to thread the needle. -Washington Post Interview. Valuation Since I last wrote about Apple in March, the stock is now up an impressive 22.77% (including dividends), easily beating the market’s 3.49% gain in the same time. However, while the stock is now above my previous target of $204.61/share, I think we have even more room to run now. In essence, WWDC exceeded my expectations, this unlocks more upside. Historically, Apple’s revenue composition has remained significantly tilted towards iPhone sales, contributing approximately 58% of total revenue, I expect this to continue.. Given the increasing integration of generative AI capabilities into their devices, an upsurge in iPhone upgrade cycles is center to my view, which was similarly observed during previous upgrade cycles, such as the iPhone 6’s release before. Earnings projections for Apple’s earnings per share (EPS) show consistent growth, with estimates from $6.58 in September 2024 to $9.95 by 2027, representing a cumulative increase of approximately 51.21% over three years​​. Revenue estimates also reflect a bullish outlook, growing from $386.88 billion in 2024 to over $516.24 billion by 2028​​. While Apple’s growth actually appears muted over the next 12 months (analysts are only expecting 1.44% revenue growth over the next 12 months), I think to figure out what the fair value of the company is post WWDC, we need to look at return on equity. At the end of the day, the best CEOs are nothing more than good capital allocators. They are excellent at allocating capital in ways that produce high internal returns on equity so that shareholders benefit. For Apple, the return on equity over the trailing 12 months is an aspiring 147.25%. This means the company generated earnings equivalent to 147.25% of common equity in the last 12 months. This is really impressive. This is 3,525.01% above the sector median. In comparison, while the company forward P/E is 32.29 compared to the sector median of 23.66, this is only 36.46% above the sector median. In essence, paying a 36.46% premium results in accessing a management team that allocates capital at a ROE of 147.25% annually (or 118.29% over the trailing 5 year average). They are clearly exceptional capital allocators which is an essential characteristic of company CEOs. I believe (with this) Apple’s P/E should be 50% above the sector median due to the potential of the upcoming iPhone super cycle and because the management team are proven strong capital allocators. This would imply a forward P/E of 35.49. Since Apple’s current forward P/E is 32.29, this would create upside potential of 9.9%, or $233.55/share not including dividends that Apple pays. In other words, we have an exceptional management team with an exceptional product coming off of a strong developers conference that shows the company can still innovate. I’m optimistic. Risks While this potential iPhone super cycle is a huge opportunity, I think there are still clear risks for Apple. The biggest elephant in the room is still the expansion of China’s ban on Apple’s iPhones among government and state-owned firms. Analysts believed this is part of Beijing’s stance on reducing reliance on foreign technology—a trend that has accelerated amidst heightened geopolitical tensions between the U.S. and China​​​​. Although this has been denied, several reports indicate that the ban already extends across multiple sectors and regions. China is said to favor local brands such as Huawei, which has recently seen a resurgence in popularity due to their development of high-performance chips despite U.S. sanctions​​​​. Since China accounts for approximately a fifth of Apple’s total revenue, the ban could absolutely negatively impact this figure, particularly if the restrictions broaden to include more sectors or become more stringent​​​​. However, I view this as a low probability event. From my standpoint, the appeal of Apple’s new features could lead to increased customer satisfaction and greater device utilization, that will drive device upgrades among existing users and attract new customers who see the value in these advanced capabilities. The super cycle in many western countries could be more than enough to offset any China weakness. I think this concern (cited among bears) is likely overblown. Bottom Line Post WWDC, I think it’s clear Apple’s advanced AI capabilities across their iPhones and Macs will most likely usher in a significant sales super cycle. The integration of Apple Intelligence into iOS 18, iPadOS 18, and macOS Sequoia will immensely change how users interact with their technology. These new features—from improved natural language capabilities in Spotlight Search to more sophisticated Siri interactions and the introduction of tools like Writing Tools and Smart Scripts—will appeal to many existing Apple users and potential new customers. Apple’s comprehensive control over both the hardware and software components of their devices ensures that these new features will sustain user loyalty with the Apple ecosystem. This integration is critical to keep user data security through on-device processing and private cloud compute solutions. With a considerable portion of the iPhone user base using models that are three to five years old, the advanced features exclusive to newer hardware could serve as a powerful incentive for upgrades. I really think we could see an upgrade cycle similar to the iPhone 6 in 2014. From an investment perspective, I believe this makes Apple a compelling strong buy. The introduction of AI features is anticipated to be one of the biggest catalysts for a super cycle in upgrades that the tech industry has seen in years. Despite conservative estimates by analysts with a projected year-over-year revenue increase of only 1% and flat EPS estimates post-WWDC, the potential for Apple’s stock remains substantial, in my opinion.

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