Despite The Near-Term Headwinds, Morgan Stanley Sees Apple Rallying More Than 20%

Morgan Stanley advises investors to look beyond Apple's near-term challenges for strong catalysts.

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With an overweight rating on the stock, Erik Woodring reiterated his recommendation that it is one of his top picks. Moreover, he also increased the price target by $5 to $180, which implies an upside of 23.4% over Thursday's close based on the new price target.

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“It seems to us that we can expect a catalyst-filled event path over the next 12 months that is underappreciated by investors in terms of the near term”. He explained in a note to clients Friday that "we can expect reaccelerating iPhone and Services growth, record gross margins, two new product launches, and the possibility of an iPhone subscription program."

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Woodring noted that a number of challenges face the company in the near term, such as weakening consumer electronics spending trends, a challenging economic backdrop, headwinds from foreign currencies, iPhone production shortages, and remaining Covid restrictions. Apple could experience its first decline in revenue and earnings per share since 2019 as a result of these challenges.

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Woodring, however, said investors should look past what could be a tough short-term and instead focus on the tailwinds that are on the way. Even though there are questions about the success of the iPhone 14 series, Woodring said the pent-up demand will lead to the shipment reacceleration to exceed expectations by the end of the 2024 fiscal year. He explained that this is taking into account the possibility of a conservative replacement cycle if the economy weakens in the future.

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A shortage of supply and sliding demand will likely lead to a 9% drop in iPhone sales in fiscal 2023, the biggest drop year-over-year since 2019 for new iPhones.

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Woodring expects Apple's services business to return to double-digit revenue growth in 2023 and 2024. There will be a re-acceleration in the popularity of the app store, price increases, along with easing foreign currency headwinds which will contribute to this performance. These price increases can be seen in products such as Apple Music, Apple TV+, Apple One, and international apps, said Mr. Cook.

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Woodring notes that adjusting for foreign exchange headwinds also helps illustrate the likelihood that Apple will exceed consensus estimates on its gross margin in 2023 and 2024. When viewed with its foreign exchange challenges in mind, the strength of its gross margins is "what is perhaps the most underappreciated aspect of the company by investors today.", according to him.

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The launch of new products is also known to act as a catalyst for positive changes, and Woodring believes the company's new headset for alternate and virtual reality and its new iPhone 15 should do the same. It has been shown through historical data that the stock outperforms the S&P 500 by nearly 20 points, on average, in the six to nine months following the announcement of a new iPhone, according to his analysis. The two launches, along with the headset, could help drive up the share price of the company, he added.

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There is a possibility that a hardware subscription could unlock a market worth more than $1 trillion for the company, further fueling Woodring's bull case of shares reaching $230 by the end of 2017. The introduction of a subscription service would help to drive up user spending and shift the market's perception of the stock's value in the process, he said.

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However, there are still a number of risks facing the tech giant and its ability to perform on a short-term basis. In Woodring's view, the stock may suffer a deterioration in consumer health in the coming months, a failure by the app store to attain increased growth and monetization, or a failure to anticipate headwinds such as foreign exchange going forward, which could be adverse for the company.

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During the first half of 2023, Apple shares have rallied 12.3%, as of Thursday's closing price. A slight rise in the stock price was seen in the premarket.