Everyone on Wall Street seems to have an opinion on Apple's (NASDAQ:AAPL) stock price, remarking on reasons to be bullish or cautious. Most of the explanations have little to do with company fundamentals, but focus instead on factors such as technical analysis, taxes, flow of funds (over/underowned, index rebalance, and hedge fund ownership), timing of product releases, past technology blowups, and competition. There are many reasons why people move money on Wall Street, and interpreting Apple's stock price fluctuation on a daily basis involves these non-fundamental reasons.
However, looking past these explanations, there are numbers important for investors to understand, business fundamentals often lost to other rationales. The following will lay out my simplified analysis of the numbers, and how I end up very bullish when the stock is $550 or below.
The chart below from Bloomberg shows Apple's revenue from 2008 to present, including Wall Street's expected revenue in the 2013 column. Obviously the growth has been massive, culminating in $154 billion for 2012, up 44.5% year over year. Revenue for 2013 is expected to be 23% higher year over year, with the first half up 20% over the same period in 2012.
The next chart shows the earnings per share, with 2012 earnings of $44.15, up 60%. However, look closely at the combined expectations for 2013 Q1 and Q2 earnings, about flat at $25.92, from $26.17 for the respective quarters in 2012. No earnings growth. And Tim Cook actually guided first-quarter results to $11.75, although the Street forecasts much higher, at $13.45. With revenue expected to be up about 20%, this demonstrates margin pressure.
CEO Tim Cook explains the reasons: Since 80% of the products it currently sells were refreshed in the last 60 days, margins will suffer in the short run and will expand throughout the year. I believe his margin caution (given in October) also stemmed from concerns regarding iPhone5 production volume issues, although current supply issues are perhaps not as tight as feared.
Importantly, since the last earnings report, Apple stock has been groping for a proper valuation. Anticipation of flat earnings has scared off many growth investors who assume these flat earnings portend the end of Apple's growth phase. This earnings growth misperception has given the value investor a great opportunity to own Apple at a bargain price.
Let's dissect Apple's value. Apple is the rare company that decided to stockpile cash, currently amounting to over $120 billion, instead of taking Wall Street's advice to payout dividends or do stock buybacks (last year the company instituted a modest one of each). The cash stockpiling was a great unheralded decision by Steve Jobs. Since 2006, Hewlett-Packard (NYSE:HPQ) has bought back $56 billion in stock; need I say more?
Apple's massive cash pile allows me to believe that future innovation is more likely to come from Apple than a competitor. For valuation purposes, I like to take the net cash right off the stock price. Currently, the cash amounts conservatively to $130 per share. From a $550 share price, that brings us to a $420 starting point for enterprise value. At ~$44 in earnings last year, the P/E is ~9.5 and the forward P/E is ~8.5. Now we're talking value territory. Apple has a valuation that would be given to a mature, no-growth company. With the first half of 2013 earnings in no-growth territory, this might make perfect sense. However, looking out six months to a year, the continuation of the earnings growth story will become more obvious, especially considering that earnings growth in the second half of 2013 could be as high as 30% year over year. When Wall Street revalues for growth, the stock will trade at a higher enterprise multiple. Conservatively, an 11 multiple brings the stock above $650.
Apple's two most profitable products, smartphones and tablets, are in world-wide secular growth. The company is likely to sell near 50% more iPhones this year than last. Next year, 20% to 30% iPhone growth is reasonable to expect, especially if China Unicom, the world leader in subscribers, starts to sell the iPhone. In general, market share will likely decline, but the smartphone category is expanding so fast that multiple companies can thrive in the space. The tablet category growth is still massive, with a myriad of competitors entering the market. Although Apple's tablet market share will also decline, its growth will still be significant.
Obviously, there is a great debate about Apple's future, with competition and innovation uncertainty. I am of the belief that Apple has built something lasting, with products people covet and are heavily engaged with, which are spreading to a new generation of kids, with a loyalty and a growing following that Wall Street underestimates. Competition is nothing new to Apple: There are 10 major manufactures of laptop PCs. Lower-cost alternatives to Apple products will always be available, but as long as Apple stays on the innovation curve, the competition will make it a better company.