WASHINGTON, DC —  Apple  (NASDAQ: AAPL.US) was one of the best megacap stocks for most of 2014. Despite a sharp pullback following the company’s earnings report in late January, the share price rose about 38% over the course of the year.

Apple Stock 2014 Performance, data by YCharts.

The gain could have been bigger but for a 7% slump in December. The recent pullback suggests many investors are skeptical of the company’s ability to maintain its momentum in 2015. We don’t know what the stock will do in the future, but here are three reasons why Apple shareholders could see further stock gains.

Blowout iPhone sales
It seems clear Apple shattered all previous iPhone sales records in the recently ended holiday quarter. The iPhone 6 and iPhone 6 Plus models now account for about 20% of all iPhone usage, according to Fiksu, indicating many people have upgraded their older devices in the past few months.

Demand for the iPhone 6 and iPhone 6 Plus will drive strong sales and earnings growth for Apple in 2015. Photo: Apple.

Apple’s suppliers are finally catching up to demand for the new iPhones. With retail availability improving and the Chinese new year coming up in mid-February, Apple is well-positioned to post strong iPhone sales growth again this quarter.

Looking further down the road, Apple will be a prime beneficiary of the ongoing LTE rollout in China. Market leader China Mobile reached 50 million LTE subscribers in October, and it plans to grow that total to 150 million by the end of 2015 and to 300 million by the end of 2016.

Many of those customers will undoubtedly opt for cheap Android phones. However, Apple now has a full portfolio of LTE-compatible iPhones at a variety of screen sizes and price points in order to appeal to a wide swath of Chinese consumers. Thus, Apple has a good chance of selling tens of millions of iPhones to China Mobile customers in each of the next two years.

An iPad rebound could be coming
A return to growth for the iPad product line in 2015 would remove one of investors’ biggest concerns about Apple stock.

Apple later this month is likely to report a fourth consecutive decline in quarterly iPad sales, and the falling numbers could continue into the first half of 2015. However, by the second half of the year, the iPad product line could return to sustainable long-term growth. By then, Apple’s mobile enterprise partnership with IBM to create more than 100 industry-specific enterprise apps for iOS should be driving higher iPad adoption by businesses.

New business apps from IBM should encourage enterprise customers to use more iPads. Photo: Apple.

The likely introduction of a 12- to 13-inch iPad at some point this year also could convince companies to make more extensive use of the Apple tablet. This product might reverse the slide in average selling prices and profit margins that has dogged the iPad product line for the past two years.

A stronger consumer refresh cycle could also take hold as older-model iPads become ripe for replacement. 

Apple Watch hits the market
A third likely catalyst for Apple in 2015 is the launch of the Apple Watch, which is scheduled for the first half of the year. Analyst estimates for Apple Watch unit sales span a wide range, but many expect the company to sell 20 million-30 million in the first 12 months of availability.

This seems plausible — and possibly even conservative — based on various data points. First, Apple sold about 19.5 million iPads in the first 12 months of that device’s availability, starting in 2010. At that time, many fewer people used Apple products than do now. Apple should have an easier time encouraging adoption of new products today thanks to its large base of loyal customers.

Also, there are more than 300 million iPhone users today globally, which means Apple would have to convince only one in 10 to buy an Apple Watch to sell more than 30 million units.

High-priced gold Apple Watch Edition models could significantly boost the average selling price above the $349 starting price. Photo: Apple.

Another factor to consider when evaluating the potential impact of the Apple Watch is that the average selling price could be far above the starting price of $349. Some industry insiders believe Apple could sell high-end gold versions of the Apple Watch for up to $5,000, going head-to-head with traditional luxury watchmakers.

This could make the Apple Watch more like the Mac in terms of pricing than any other product in the Apple lineup. The Mac mini sells for as little as $499, and the MacBook Air starts at $899, while the top-of-the-line Mac Pro goes for $3,999. The result is an average selling price across the whole Mac lineup of $1,274 during fiscal 2014.

Assuming a similar range of Apple Watch prices, the average selling price could perhaps reach $500-$750. If the company can sell 30 million devices per year, Apple Watch could instantly become a $15 billion-$20 billion business, which would be significant even by Apple’s standards (though nowhere near the scale of the iPhone business).

Strong earnings growth should lead to stock price appreciation
Between the new iPhones’ strong momentum, the potential for a return to iPad sales growth, and the Apple Watch launch, Apple has numerous catalysts to deliver plentiful earnings growth throughout 2015.

Furthermore, these catalysts won’t disappear when the calendar turns to 2016. If anything, China’s move to LTE smartphones will gain steam in the next two years. Meanwhile, 2016 would be the first full year of sales for the Apple Watch and the rumored 12- to 13-inch iPad.

Once investors become more comfortable with Apple’s profit growth trajectory, the stock is likely to begin rising again. Today, it trades for just 14 times projected fiscal 2015 earnings. That is below the market average, even though Apple is growing earnings faster than most companies and has more than $100 billion in cash on its balance sheet. This makes Apple stock a good buy for 2015 even at $110 per share.

The post 3 Key Reasons Apple Inc. Stock Could Continue To Shine In 2015 appeared first on The Motley Fool UK.

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Adam Levine-Weinberg has the following options: long January 2016 $80 calls on Apple and short January 2016 $120 calls on Apple. The Motley Fool UK owns shares of Apple. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

“We get excited enough to commit a big percentage of insurance company net worth to equities only when we find (1) businesses we can understand, (2) with favorable long-term prospects, (3) operated by honest and competent people, and (4) priced very attractively.” — Warren Buffett, 1978 Berkshire Hathaway letter to shareholders

Do you wish you could invest like Warren Buffett? Luckily for you, the Oracle of Omaha laid out his 4 big rules for investing success in a Berkshire Hathaway (NYSE: BRK-A.US) (NYSE: BRK-B.US) shareholder letter more than three decades ago.

Buffett put his 4 rules into practice a decade later, when he invested in Coca-Cola (NYSE: KO.US) . Not surprisingly, the investment was a smashing success. Within 10 years, Coca-Cola was a 10-bagger for Buffett. Despite a pair of recessions since 1999, Coca-Cola stock has maintained its value in Berkshire Hathaway’s portfolio while generating billions of dollars in dividends.

Buffett’s 4 rules

Buffett’s first rule is simple enough. Buy stock in businesses that you can understand. There are surely tech start-ups you could invest in today that will crush the market in the next 10 years. But if you’re not a technology expert, how will you find them? (Remember, if you’re buying a stock, someone else is selling because he/she sees better opportunities elsewhere.)

Buffett’s point is: why bother? There are businesses out there with good prospects that you can understand — if you’re willing to do some homework. Sticking with what you understand already gives you a leg up on a lot of investors.

Buffett’s second rule is to stick to businesses with good long-term prospects. There are plenty of companies that have a good year from time-to-time — but many of them don’t have sustainable businesses. If you have any doubts that a company’s products will still be sought-after in 10 years, that’s a big warning sign.

The third rule is to buy companies with honest, competent managers. In many businesses, good management is the difference between generating steady profit growth and lurching from crisis to crisis. A management team with a long track record of success is likely to continue posting strong results.

Buffett’s final rule is to look for attractively priced stocks. You should be able to find plenty of companies with good long-term prospects and talented management in businesses you can understand. If you overpay, you can still wind up with a poor result despite following the first 3 rules. If a business fitting the first 3 rules is really pricey, wait until you find another one that’s cheaper!

Buffett’s love affair with Coke

In 1988, Coca-Cola fit all 4 of Buffett’s criteria for a great investment. First, it’s really easy to understand the business of selling sugary drinks backed by one of the strongest brands in the world. In his 1989 shareholder letter, Buffett remarked that he became a loyal Coca-Cola customer more than 50 years earlier.

Second, Coca-Cola’s brand name (and secret recipe) had kept the company on an upward trajectory for a century before Buffett first invested in the company. With international markets representing a huge additional growth opportunity, Buffett could feel fairly confident in Coke’s long-term prospects.

Third, Buffett had great admiration for Coca-Cola CEO Roberto Goizueta, who led the company from 1980 until his death in 1997. While Buffett wished that he had bought Coca-Cola shares long before 1988, Goizueta’s strong leadership during the 1980s was a key factor motivating Buffett’s investment. Coca-Cola had posted solid earnings growth in the few years prior to 1988.

KO EPS Diluted (TTM), data by YCharts

Equally important, Coca-Cola shares were very reasonably priced when Buffett made his purchase. Despite the recent record of earnings growth, Coca-Cola shares traded for around 15 times earnings for most of 1988.

KO P/E Ratio (TTM), data by YCharts

By the end of 1994, when Buffett stopped buying, he had put $1.3 billion to work in Coca-Cola stock, and that investment was already worth more than $5 billion. Once he had identified the opportunity, Buffett could relax and let Goizueta and his employees do the hard work. Two decades later, Berkshire Hathaway has not sold a single share. Its stake is now worth more than $16 billion, and produces nearly $500 million in dividends annually.

Foolish final thoughts

Buffett’s first 3 rules of investing — buy what you know, and stick to companies with good long-term prospects and good management teams — are well-known by most Warren Buffett fans.

However, some Buffett admirers may be surprised by his focus on attractive prices. After all, Buffett also famously stated, “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”

The two aren’t really contradictory, though. Buffett always believed that the key to investing successfully was finding high-quality businesses. As long as you have a long-term mentality, it’s possible to get a good return even if you pay a “fair” price — not a great price. That said, the real home runs are when you find a great business at a bargain price. That is exactly what Coca-Cola was for Warren Buffett and his fellow Berkshire Hathaway investors.

The post Warren Buffett’s 4 Rules For Stock Market Success appeared first on The Motley Fool UK.

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Adam has no position in any stocks mentioned. The Motley Fool owns shares in Tesco.

WASHINGTON, DC — It’s no secret that Apple (NASDAQ: AAPL.US) is one of those battleground stocks where bulls and bears have dug in on both sides and are holding their ground. Many people have strong feelings about Apple’s products — either they love their iPhones and iPads, or they think Apple gadgets are dated and overpriced — and this usually determines whether they like Apple stock.

Obviously, Apple’s competitive positioning (particularly vis-a-vis Android phone and tablet vendors) is very important to valuing Apple stock. However, what ultimately matters is how much profit Apple will earn, both now and in the long run.

Products like the iPad arouse strong emotions in many investors. (Photo: Apple)

Unfortunately, many investors seem to be getting blown off course, focusing on statistics that have no clear relationship to earnings. Instead, long-term investors should tune out the noise and focus on Apple’s potential for earnings growth — since that will determine whether Apple is a good or bad investment.

The market share argument

One common source of “noise” is the periodic release of market share statistics. Many Apple bears harp on the company’s falling market share in the smartphone and tablet markets. However, Apple’s falling market share is not nearly as important as many people assume.

The problem with evaluating Apple based on market share is that it only really competes at the high end of the smartphone and tablet markets. Both markets have been booming in the past few years, but the vast majority of the growth is at the low end of the market.

A proliferation of smartphones and tablets priced in the $100-$200 range (unsubsidized) have led to big gains in unit sales for vendors that participate in the low end of the market. However, these devices are priced at or very close to cost, whereas Apple earns a healthy margin on every iPhone and iPad sale.

iPhone sales are still growing, even if Apple’s market share is falling. (Photo: Apple.)

Some bears argue that Android could gain a competitive advantage from its high market share by becoming the preferred platform for developers. However, people don’t buy $200 smartphones so they can save hundreds of dollars to spend on apps! Most app spending comes from people with high-end smartphones. Thus, iOS remains a huge cash cow for mobile developers — Apple paid out a whopping $2 billion to developers in the December quarter.

In summary, market share is a bad yardstick for measuring Apple’s success. Apple investors can be perfectly happy in an environment where Android vendors are posting big gains in sales and market share — as long as Apple’s revenue keeps growing and margins remain roughly stable.

The “best in the bunch” argument

At the other end of the spectrum, some Apple bulls focus too much on the profitability gap between Apple and many Android device manufacturers. While it’s true that Apple is much more profitable than most of its competitors, this can provide false comfort to Apple investors — because the key fact is that Apple’s profitability is falling.

For example, it’s true that Android tablet vendors have boosted sales primarily by introducing cheaper and cheaper devices. While unit sales have skyrocketed, most Android tablets are sold at breakeven or very close to it. This makes the Android tablet market fairly unattractive from an investment perspective.

However, the fact that Android tablet manufacturers have terrible profit margins isn’t necessarily good for Apple. The availability of very capable Android tablets for very low prices has clearly had an impact on iPad sales and profitability. Total iPad revenue grew just 3% in Apple’s most recent fiscal year because of a steep drop in the average selling price and a slowdown in unit sales growth.

Android tablets are disrupting iPad sales, even if they aren’t generating much profit. (Photo: Apple.)

There’s no prize for being the best company in an industry with declining profitability. Apple may be better off than most potential competitors, but that didn’t prevent it from registering a double-digit earnings decline in FY13.

Block out the noise

Apple doesn’t need to fight tooth and nail with low-end Android vendors for smartphone and tablet market share to produce a good return for long-term investors. In fact, Apple is better off continuing to focus its efforts on the upper half of the market.

That said, Apple investors shouldn’t be satisfied with the recent trend of stagnant to declining earnings. In that context, the fact that Apple is still far more profitable than other device manufacturers is irrelevant.

So what should Apple investors be looking for? First, Apple needs to be able to grow iPhone and iPad sales — even a high single-digit rate would be acceptable — while keeping margins roughly steady. By this metric, the iPhone seems to be successful, but the iPad is falling short.

Second, Apple needs to diversify its revenue base by introducing new products that will catch on with consumers. CEO Tim Cook has repeatedly promised in the past year that Apple will introduce new product lines before the end of 2014. Now investors just have to wait to see what Apple has developed, and whether it will be successful.

Foolish bottom line

Apple bears correctly recognise that the company is not in as strong a position today as it was even two years ago. However, the problem is not that Apple is losing market share, but that it has been forced to sacrifice some of its profit margin to remain competitive.

Meanwhile, Apple bulls wisely ignore the market share statistics but gloss over the fact that Apple’s earnings are well below 2012 levels. Clearly, something is wrong, and pointing out that Apple is still the most profitable mobile device manufacturer is beside the point. Investors who can tune out this noise and focus on Apple’s fundamentals will have a big advantage over the rest of the market.

The post Apple Inc. Investors Should Keep Their Eyes On The Ball appeared first on The Motley Fool UK.

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Both Adam and The Motley Fool own shares in Apple.

WASHINGTON, DC — After soaring to more than $400 in the last few months of 2013, shares of Amazon.com  (NASDAQ: AMZN.US) have dropped 14% in the last few days. Investors and analysts had been expecting a blowout holiday quarter from Amazon, but the results and outlook did not quite live up to expectations. 

Amazon.com 6-Month Stock Chart, data by YCharts.

Amazon’s revenue grew 20% in Q4, or 22% if you exclude the effect of exchange-rate changes. The company expects a similar growth rate next quarter, with sales up 13% to 24% year over year. 

Clearly, it’s a high-class problem for revenue to be growing “only” 20% annually. However, that’s a big step down from the astronomical growth rates Amazon has posted as recently as 2011. Indeed, as Amazon continues expanding, its growth rate will continue to moderate due to the law of large numbers. Amazon investors should recognize that this slowing growth will be an ongoing theme for Amazon over the next five years.

The law of large numbers

In investing, the law of large numbers states that the more a company grows, the harder it becomes for it to sustain its growth rate. At the extreme, as a company comes to represent a bigger and bigger chunk of the economy, its growth rate must eventually converge to the rate of GDP growth.

This process is already evident at Amazon. Over the last three years, the company has more than doubled its annual revenue, growing from $34.2 billion in 2010 to $74.5 billion in 2013. In dollar terms, Amazon’s sales growth has been very steady. The company added $13.9 billion in revenue in 2011, $13.0 billion in revenue in 2012, and $13.4 billion in revenue in 2013. 

Amazon’s growth is slowing in percentage terms.

However, in percentage terms, the declining growth rate is striking. In 2011, Amazon grew revenue by more than 40% year over year; last year, revenue growth was down to 22%.

Following in Wal-Mart’s footsteps?

Amazon’s slowing revenue growth (on a percentage basis) is very reminiscent of Wal-Mart‘s experience during the 1990s and early 2000s. When Wal-Mart was Amazon’s current size, it too was growing about 20% annually. Yet revenue growth has been in a clear downtrend for more than two decades.

WMT Revenue (Quarterly YOY Growth), data by YCharts.

That’s not to say Wal-Mart has stopped growing entirely. Analysts expect it to report revenue of $478 billion for its recently ended fiscal year, up from $422 billion just three years ago. Wal-Mart’s absolute sales growth of $56 billion over that time period actually beats Amazon’s absolute growth of $40 billion in annual revenue. However, in percentage terms, Wal-Mart’s compound annual growth rate for the last three years is a pedestrian 4%.

In essence, Wal-Mart has become so big that it is basically impossible to move the needle. For example, it offered aggressive “doorbusters” on Thanksgiving this past holiday season, driving strong traffic that day. However, the company still turned in a weak sales performance for the full quarter because of macroeconomic factors. Wal-Mart already has such a large “wallet share” that its growth is tied firmly to economic growth.

So what?

A gradual slowdown in revenue growth from 40% to 20%, and eventually to 10% and below, need not be alarming. In Amazon’s case, though, there’s plenty of risk, because many investors seem to think Amazon can maintain a 20% growth rate almost indefinitely. As a result, the stock price has been driven up over the years so that Amazon now trades for more than 80 times expected 2015 earnings. 

If growth falls short of bulls’ lofty expectations, Amazon stock could have more room to fall. Whereas other mass retailers like Wal-Mart and Costco trade for around 0.5 times sales, Amazon trades for more than two times sales.

Part of that premium is justified by the fact that Amazon is growing very quickly right now. However, even if Amazon’s absolute revenue growth accelerates toward $20 billion a year in the next few years, its revenue growth rate would still cross into single-digit territory within less than a decade. By that point, if not earlier, Amazon will have trouble sustaining a lofty valuation premium.

Foolish bottom line

Amazon stock has been hit hard in the last few days because while growth has remained impressive, it has still fallen short of investors’ expectations. Unfortunately, investors may be setting themselves up for future disappointments as well. For example, analysts at Credit Suisse still expect Amazon to maintain a nearly 20% revenue growth rate through the end of the decade!

The law of large numbers argues otherwise. Amazon’s absolute revenue growth has barely budged in the last three years, despite the introduction of key new products like the Kindle Fire line of tablets. Amazon’s annual revenue growth is unlikely to hit the $30 billion rate that would be necessary to keep growth near 20% for even five more years. In other words, slowing growth is the new normal for Amazon.

The post Slowing Growth Is the New Normal for Amazon.com, Inc. appeared first on The Motley Fool UK.

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> Adam is short shares of Amazon.com.

WASHINGTON, DC — Apple, (NASDAQ: AAPL.US) stock fell nearly 10% following its earnings report last week, leading many to speculate on what went wrong. In some sense, nothing really went wrong: Apple had record iPhone and iPad sales, and Apple’s record EPS of $14.50 beat the average analyst estimate.

Nevertheless, in the search for a scapegoat, Jeff Macke of Yahoo! Finance’s Breakout is pointing the finger at Apple’s buyback program. In a commentary with the blaring headline, “Apple slammed! Why buybacks Are for iDiots,” Macke claims that buybacks don’t have any tangible benefits — and that Apple is therefore wasting shareholders’ money.

Are Apple’s big share buybacks a waste of money?

This allegation is wrong-headed. It’s true that buybacks aren’t a cure-all for stagnant or declining businesses. If you think Apple is either one of those, than you shouldn’t be investing in Apple stock just for the sake of buybacks. However, if Apple returns to growth later this year — as I expect — its ongoing buybacks will have created substantial value for shareholders.

EPS vs net income

While I don’t agree with Macke’s full analysis, he makes a valid point that the media’s singular focus on earnings per share as opposed to net income can be misleading. In fact, while Apple’s EPS hit a December quarter record, the company’s December quarter net income has not budged in the last two years.

In other words, Apple’s EPS growth last quarter did not represent organic earnings growth: It was driven by share buybacks. EPS is calculated as (Net Income/Shares Outstanding). By reducing the number of shares outstanding — which is the denominator of the EPS equation — Apple was able to boost EPS without actually growing earnings.

EPS still matters

It’s true that buying back shares can’t boost net income. In fact, in Apple’s case, the share repurchase program is hurting net income, because the company sold bonds in order to buy back shares. The interest expense for those bonds reduces net income.

However, while investors shouldn’t focus solely on EPS and ignore net income, it would be equally wrong to focus solely on net income while ignoring EPS! By reducing the share count, share buybacks give each remaining shareholder a larger ownership position of the entire company.

A year ago, when Apple was dividing up its earnings among each share (i.e. calculating EPS) it had to split each dollar of earnings among nearly 950 million shares. Today, it only has to split that dollar among 900 million shares. That means each share is getting over 5% more of the company’s profit.

The value of buybacks

A few years before his death, Steve Jobs asked legendary investor Warren Buffett for advice about what to do with Apple’s growing cash stockpile. Buffett told Jobs that if Apple stock was undervalued, the best option would be to buy back shares. Share buybacks add value for long-term investors in an undervalued company, as they will own a greater percentage of the company when the market finally catches on to its true intrinsic value.

Following Apple’s recent stock slide, its shares sell for a little more than 12 times trailing earnings. That’s significantly below the average for public companies in the U.S. Unless Apple has worse growth prospects than the average company out there, its stock must be undervalued — making this an ideal time for Apple to buy back even more shares.

Apple spends more on R&D each quarter today than it did in the two years before it introduced the iPhone (Photo: Apple)

It’s certainly possible that Apple has peaked, but it doesn’t seem very likely. Apple bears who claim that buybacks are a sign that innovation is dead at Apple miss the fact that Apple is spending an ever growing amount on R&D. In 2005 and 2006 — when Apple was developing the iPhone — Apple spent a 2-year total of $1.25 billion on R&D . By contrast, Apple spent a whopping $1.33 billion on R&D last quarter alone!

This suggests that there are plenty of new products and services in the pipeline at Apple for the next few years. Beyond that big hint, Apple CEO Tim Cook has repeatedly stated that Apple will be entering one or more new product categories this year. Moreover, there are growth opportunities left within Apple’s existing product lines, such as the recent agreement to bring the iPhone to China Mobile.

Foolish bottom line

If Apple’s net income never budges from where it sits today, than share buybacks alone are not going to generate much EPS growth. However, if Apple is getting any value at all from its $5 billion annual R&D budget, the company should be able to resume organic earnings growth by releasing new products (and to a lesser extent, riding the wave of growth in global smartphone and tablet sales).

Share buybacks aren’t the reason why Apple stock has lost its momentum — but they could be the solution. Apple stock has fallen to a level that implies its has no growth prospects whatsoever. However, if a return to growth is on the horizon, the best thing Apple’s management can do today is to buy back more stock. (That would be much better than rushing a half-baked new product to market, for example.)

Shrinking the share count now will accentuate the impact of organic earnings growth on Apple’s earnings per share next year and beyond. If you are a long-term Apple investor, presumably you believe that the stock is undervalued. If that’s true, bigger buybacks today will create even bigger upside tomorrow for Apple stock.

The post Buybacks Aren’t The Problem For Apple Inc. appeared first on The Motley Fool UK.

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> Both Adam and The Motley Fool own shares in Apple.