Tuesday, June 10, 2014

My Questions About Apple

When my wife and I were house hunting, I was obsessed with getting an I-Phone.  I remember telling her as we were out driving, "If I had an I-phone, I could look at a map and find near-by restaurants."  I eventually purchased one and was very pleased.  I later upgraded to the then newer model and was still happy. 

However, over the last year or so I became less than happy.  Service was slower than anticipated.  And, finally, the new operating system that was launched about 6-8 months ago was very unsatisfactory as it literally ate battery life.  The last straw was my inadvertently dropping the phone shattering the glass.  Now I have a Galaxy 5 which I'm very pleased with along with a new data provider.

All that being said, there are two points on Apple's financials that really leave me wondering about the company.

First of all is the lack of R&D.  Here's a chart of R&D expense as a percentage of revenue:

The response to this is these percentages actually represent billions of dollars of expense -- and they do.  The latest figure represents over $4 billion in expenses.  But, in response, consider this: what was the last really big Apple product?  It was the I-Pad and that was a long time ago in technology years.  That, combined with the death of their primary creative mind in Steve Jobs indicates they should be spending a lot more to come up with the next big thing.

Here is their statement from the latest 10-K regarding R&D:

Because the industries in which the Company competes are characterized by rapid technological advances, the Company’s ability to compete successfully depends heavily upon its ability to ensure a continual and timely flow of competitive products, services and technologies to the marketplace. The Company continues to develop new technologies to enhance existing products and to expand the range of its product offerings through research and development, licensing of intellectual property and acquisition of third-party businesses and technology. Total research and development expense was $4.5 billion, $3.4 billion and $2.4 billion in 2013, 2012 and 2011, respectively.

10-K's are notoriously bland documents, so we're not going to see a statement like, "Shit.  Steve Jobs, the man who revolutionized multiple businesses is dead and we're now up a creek without a paddle."  At the same time, there doesn't seem to be any acknowledgement that their business is changing.   

Second, according to the company's latest 10-K, they have $92 billion in marketable securities on their balance sheet.  Now, short-term investments are part and parcel of treasury management nowadays, so the act of doing this shouldn't be an issue.  But, here's the key question for me: with this amount of securities, isn't Apple now as much a mutual fund as a technology company?  Consider this page from their latest 10-K which discloses their investment philosophy etc....  It looks a great deal like a mutual fund disclosure. 

These questions are actually periphery to the company's basic business.  They own some of the strongest tech products ever and command a very loyal following.  But, I also think it's important to remember that the times are changing for Apple and we need to change the way we look at the company in order to tailor our expectations accordingly.