Apple | Fundamental Analysis

Apple's stock chart is a sight to behold. Over the past three years, shares of this tech giant have surged by 54%, significantly outperforming the Nasdaq Composite index's 22% rise.

As this "Magnificent Seven" stock trades near its all-time high, investors may be considering adding Apple to their portfolios. Therefore, it's crucial to ask: where will Apple be in three years?

Apple's tremendous success can largely be attributed to the enduring popularity of the iPhone, defying the typical short lifespan and deflationary trend of consumer electronics. Seventeen years after its launch, the iPhone still accounts for about half of Apple's total revenue.

The management team remains focused on growing iPhone sales, with a new update expected later this year. Additionally, Apple has opened retail stores in India, aiming to tap further into the world's most populous country.

By 2027, it is highly likely that the iPhone will continue to be a cornerstone of Apple's financial success. Despite the company's diverse product lineup, including the Apple Watch, AirPods, MacBook, and iPad, the industry-leading smartphone remains paramount.

However, investors should be aware of the downside. The iPhone is a mature product, with approximately 1.4 billion active devices worldwide. As a result, driving substantial revenue gains will become increasingly challenging.

With a market cap of $3 trillion and trailing 12-month revenue of $382 billion, Apple may need to introduce a groundbreaking new product to accelerate revenue growth. Currently, there is no clear indication that such a product is on the horizon.

In addition to its successful hardware devices, Apple has excelled in expanding its services division. In the latest quarter (fiscal second quarter of 2024, ending March 30), this segment saw a 14% year-over-year sales increase, reaching $24 billion and accounting for 26% of the company's total revenue. Three years ago, in Q2 2021, services made up only 19% of overall sales.

There is no reason to doubt that this trend will continue over the next three years and beyond. For Apple shareholders, this is an encouraging sign. Services boast a stellar gross margin of 75%, significantly higher than the 37% gross margin of products. As more revenue comes from services, Apple’s bottom line could potentially expand even faster than its top line.

Apple's services include popular offerings such as Music, Pay, and TV+. Looking ahead, the relatively unknown advertising operations could gain more significance. Apple sells digital ads across its platforms, including the App Store and News app. Despite being a newcomer to the industry, the business is expected to generate $10 billion in ad revenue this year, according to eMarketer.

Apple's impressive performance in recent years has made its stock quite expensive. Currently, shares trade at a price-to-earnings ratio of 29.9, representing a 40% premium to their trailing-10-year average. This suggests that the market remains highly optimistic about Apple's future prospects.

However, given the likelihood of slower revenue growth in the coming years - due to Apple's massive scale and the maturity of the iPhone - the current valuation may not offer a compelling buying opportunity. The higher valuation implies a lower chance of achieving market-beating investment returns over the next three years.

While Apple is undeniably one of the world's most successful enterprises, this does not automatically translate into a great investment opportunity. The stock might underperform the Nasdaq Composite over the next three years.