Lately, there are a lot of discussions about whether Apple (AAPL) should increase its proposed buyback program in order to reward the investors more. In the recent months, despite the strong rally in the highly-inflated market (thanks to the QE), Apple continues to be deeply discounted. When deciding whether a company is cheap or expensive, one could say many different things by looking at many different metrics. There is one thing that's for sure though: if a company is cheap enough to buy itself, that company is probably a good bet.
Buybacks or not, Apple is likely to have a balance sheet strong enough to go private, if it chose to do so. This is especially true if the investors continue to ignore Apple's achievements and keep the company deeply undervalued. Let's take a look at how Apple's balance sheet may look like by 2020.
Best Case Scenario
The company continues to launch great products and adds a couple revolutionary products to its mix. In 2012, Apple's operating cash flow was $50 billion. In the best case scenario, Apple continues to grow its operating cash flow at an annual rate of 15%. This would increase the company's operating cash flow to $57.5 billion in 2014, $66.13 billion in 2015, $76.05 billion in 2016, $87.45 billion in 2017, $100.56 billion in 2018, $115.65 billion in 2019 and $133 billion in 2020. Combined together, the company would generate about $680 billion in operating cash flow between now and 2020. Add that to the company's current cash balance of $150 billion, and the company would have more than enough cash to buy itself out and become private.
Most Likely Scenario
The most likely scenario is not as optimistic as the best case scenario but it still allows the company to generate enough cash flow to buy itself out. In this scenario, Apple's growth slows down significantly and the company can grow its operating cash flow by about 5%, which is a little more than the inflation rate. After all, Apple's products are known as premium products and it makes sense to assume that their operating cash flow will grow at a higher rate than inflation even if the volume doesn't grow much. Given that Apple has a very high customer retention rate (around 90%), the company will be able to at least keep its earnings flat to modest growth for the foreseeable future.
If Apple can grow its operating cash flow by 5% annually, it will generate $52.5 billion in 2014, $55.12 billion in 2015, $57.88 billion in 2016, $60.78 billion in 2017, $63.81 billion by 2018, $67.01 billion by 2019 and $70.36 billion by 2020. Aggregately, the company will generate $477 billion between now and 2020, (after combining this with the company's current cash) allowing the company to go private at a premium to today's prices.
In a gloomier scenario, Apple fails to grow its cash flow at all and generates "just" $50 billion in operating income between now and 2020. This would increase the company's cash reserve by $400 billion, which would allow it to buy itself by taking a small loan.
Things Can Get More Complicated
Of course, Apple's cash won't just sit there either. Apple invests its cash in a variety of investments ranging from bonds, interest accounts and some stocks (even though in limited amount). If we are conservative and assume that Apple's existing cash will grow by 3% in addition to the cash flow generated, this increases the company's cash balance even further.
Today Apple has about $150 billion in cash, short term investments and long term investments. If this cash generates 3% in annual cash flow through a variety of investments and Apple continues to generate $50 billion in operating cash flow between now and 2020, the company's cash situation will look like the table below:
Cash at Hand
3% Investment Income
Operating Cash Flow (est.)
What if Apple buys itself back in pieces?
Of course, buyback could also come in pieces. For example, Apple is scheduled to spend about $60 billion in share buybacks in the next few years and Icahn wants to increase this number to $150 billion. Apple's current market value is $443 billion. So, what would happen if the company bought 10% of the outstanding shares every year?
Between now and 2020, Apple's share count would fall from 908 million to 434 million, which is a decline of 52%. Even if the company's earnings stayed flat between now and then, Apple's valuation would be next to nothing unless the shares rallied big time between now and then. In case of regular large buybacks, the company would probably have less cash and more debt than my previous projections, but it would still have enough money to buy the rest of its outstanding shares even if the earnings stayed flat between now and then.
What if Apple's share price keeps going up?
Ok, if Apple's share goes up significantly, this will ruin my calculations right? Not necessarily. If Apple's share price appreciates greatly between now and 2020, this will make it more difficult for Apple to buy itself out; however, in such a scenario, the investors would have been more than happy anyways. After all, if Apple's stock price appreciated to a level where the company can't buy itself out by 2020, the investors wouldn't even need buybacks at that point (hint: did Apple's investors need buybacks or dividends between 2007 and 2012?).
What if Apple's earnings start shrinking?
If things don't work well for Apple and its earnings start shrinking, the company will still have plenty of cash by 2020 to buy itself out at the current prices. In the table below, we are looking at a scenario where Apple's operating cash flow shrinks by 5% every year between now and 2020.
Cash at Hand
3% Investment Income
Operating Cash Flow
This gloomy scenario still leaves Apple with enough cash to buy itself at levels above today's valuation by the end of the decade.
So, are you saying Apple should buy itself and go private?
While it would save Apple's management from a significant amount of whining and complaining from investors, I am not defending this. I am just pointing out that if Apple was determined to go private, it would have enough money to do that by the end of the decade. My argument is that if a company is cheap enough to buy itself out, it is cheap enough for me to invest. In a market inflated by Fed's unlimited money printing, Apple stands out as a ridiculously cheap company.