Why Beijing Might Not Be Against Apple

  • Apple's stock price fell after earnings. It also fell following the Chinese ban on iBooks and iTunes Movies, and Carl Icahn's comments.
  • This created some tension in the stock because China accounts for ~25% of Apple's total revenues as of Q2 2016.
  • But these are short-term headwinds. Beijing's ban is not a form of hostility towards Apple and Icahn's comments might have been misleading.

The iBook & iTune Movies Ban and Carl Icahn's Comments

Apple Inc. (NSDQ:AAPL) had a bad quarter relative to the streets estimates. It missed on both the top and the bottom line. This caused Apple stock price to trade in the higher $90's. However, two headwinds accompanied the disappointing quarter: China's ban on Apple's iBooks and iTunes Movies and Carl Icahn's negative China sentiments.

On April 22, the New York Times reported that China had banned Apple's iBooks Store and iTunes Movies. Just six months after they were launched. The report stated that maybe Apple's perceived good relations with the Chinese government might be taking a different turn. The incident raised concerns regarding Apple's vulnerability to the heightened scrutiny that other technology giants have faced in China. This was concerning for Apple's shareholders because China has been Apple's most valuable growth frontier. For instance, in Q2 2016, Apple's total revenues from Greater China came in at $12.486 billion. Sales from Greater China accounted for ~25% of Apple's total revenues. This is why Carl Icahn's concerns over China's attitude towards Apple became a big deal. "We no longer have a position in Apple," Icahn told CNBC's "Power Lunch," noting Apple is a "great company" and CEO Tim Cook is "doing a great job."

"You worry a little bit — and maybe more than a little — about China's attitude," Icahn said, later adding that China's government could "come in and make it very difficult for Apple to sell there ... you can do pretty much what you want there." - Carl Icahn on CNBC Power Lunch.

These negative sentiments sent the stock lower. However, the picture of Apple in China might not be as bad as painted.

Why Beijing Might Not Be Against Apple

First, the banning of Apple's iBooks and iTunes Movies is a short-term headwind that Apple will soon fix. Apple has been in China for over six years. In that time, the company has been careful to operate within the realms of the Chinese government. Because Greater China accounted for ~25% of Apple total sales as of Q2 2016, Apple will take prompt measures to address any concerns. This can be seen from Apple's response soon after the ban. Apple confirmed that its iTunes Movies and iBooks services have become unavailable in China. It responded with the statement that,"we hope to make books and movies available again to our customers in China as soon as possible."

But the ban does not mean that China is being hostile towards Apple. Multinational companies can succeed in China as long as they abide by the local rules. For instance, before the emergence of Huawei and Xiaomi, Samsung (the South Korean multinational conglomerate) had the largest market share in China. And as of Q1 2015, Apple had the largest market share in terms of volume shipped.

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Source: International Business Times

The common adage:"when in Rome, do as the Romans do", applies to Apple. Personally, I do not think the Chinese government is trying to be hostile. Apple knew going there that the government keeps a tight grip on broadcast, print and online media. This is why Facebook, Twitter and Google are blocked in China. Therefore, you cannot use the same content you use in the U.S. in China. But content is a problem that can be fixed. Implying that the Beijing risk is a short-term headwind.

This is why I believe that Carl Icahn's comments might have been a bit misleading. Fears about the Chinese government have always been there. Apple has never defied the Chinese government and as long as they continue to operate within the boundaries of the Chinese laws, they should have no problem.

Conclusion

A few multinational companies have been able to enjoy success in China: Starbucks, Nike, Adidas, Apple etc. Collecting $12.486 billion in one quarter from Greater China is a good achievement for Apple. $12.486 billion is not a sign of weakness but a sign of strength in Apple's ability to penetrate the Chinese market. Because of these consecutive negative headlines, I believe that Apple has exhausted most if not all of its downside risk. This is because it is currently trading at ~9% below the lowest analyst price target of $102/share. It is also trading at ~34% below its mean analyst price target of $126.70/share. Consequently, because the aforementioned headline risks are temporary and the earnings miss has already been priced into the stock, there is more upside potential to Apple than downside risk.

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