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I generally become very nervous when the entire investing community is bullish on a stock. What separates Apple (AAPL) from most other hype stories, however, is that not only is it deserved, but I believe Apple is still fairly valued, and potentially valued a bit too modestly given its long term growth prospects and spotless balance sheet.

Apple's management has time and time again proven itself to be the best at maintaining an efficient and profitable business, while producing massive shareholder returns without the use of dividends or even stock buybacks. This has allowed the company to retain cash on its balance sheets while simultaneously not accumulating any long-term debt. In addition, management has a knack for keeping outside noise, well, out of the corporate office. For example, a simple Google search of "apple stock buyback" returns page after page riddled with headlines demanding a buyback or dividend. Currently, Apple has about $75 billion on its balance sheet. With that amount, the company could buy Facebook (valued at roughly $50 billion), Twitter (valued at roughly $10 billion), and still have $15 billion left over. Why did I just mention two of the biggest social networking companies? Because social networking is a massive market that Apple has yet to tap into.

My guess is that Apple never even considers buying Facebook or Twitter. Steve Jobs is one of the most innovative men on the planet, and will most likely find a company that is seriously undervalued and fits with Apple's core business. My point is that the diversity of choices Steve Jobs and Apple can make are overwhelming, and it's very easy to trust them to make the best decisions. A huge, profitable acquisition could have a massive impact on the earnings power of Apple, despite the company's already stunning market cap. By profitably reinvesting most of its cash back into the company, giant leaps in share price should be relatively simple. Apple will most likely not authorize share buybacks for several years. Steve Jobs will continually find innovative new ways to grow the company, which will generate enough shareholder return in the first place. He will not let the short term interests of stockholders affect his long term plans. Apple remains a long term buy.

Here's why:

Valuation

By valuation analysis methods, the stock price appears cheap.

  • Apple's $75 billion in cash is only 21% of its market cap of roughly $360 billion. If Apple was to pour its entire cash reserve into the company, a case could be made that the new market cap would be somewhere around $430 million, or $464 per share (market cap divided by 927 million shares outstanding).
  • At about $80 cash per share, a nice margin of safety exists. At a current price of $390, renowned investors like Warren Buffett would really be looking at a price of $310.
  • Trailing P/E of 15.5, and a forward P/E of 12.2 (2012 estimate).
  • At a PEG ratio of .64, investors are paying significantly less for growth than the industry average of 1.46, or even Google's (GOOG) .91.
  • At a projected 22% growth for the next five years, and a current estimated 2011 EPS of 27.34, investors are looking at a 2015 EPS estimate of $61. At a 15 P/E ratio, Apple would be worth $915.00.
  • P/E ratio (15.5) less than earnings growth over the next 5 years (22%). This should indicate that the market does not believe Apple can grow earnings to that degree, but does the market really believe that? I don't think so. The market might just be turned off by a seemingly high "price" and may be discounting the amount of cash on hand because they feel it will never be used.

Fundamentals

  • Apple's fantastic corporate management including Steve Jobs and Tim Cook are the best in the business. With a development team that has time and time again proven itself able to produce massively profitable and innovative products, there is simply no reason to believe they won't be able to continue this in the near future.
  • Ability to adapt - the best example of this was Apple's ability to masterfully avoid a major earnings hit after the supply-chain disruption stemming from the Japanese earthquake.
  • Profit margins and return on equity have been tremendous for the last several years, and further my belief that Apple's business model is hyper-efficient and built for long term success.
  • Apple has an extremely simple business model, and a management attached to its core businesses - a recipe that history has shown leads to long term success. Apple quite simply sells arguably the best computers with a fiercely loyal consumer base, iPods, iPads, iPhones, and music via iTunes.
  • Apple has shown itself capable of not only taking over existing markets, as well as creating markets, but possibly even creating markets that shouldn't exist. Although the iPad has several practical uses, it would be hard for any other company to command the price that Apple charges for its tablets. I'm not saying iPads are unnecessary, but the prices they command may be more of a result of consumer loyalty to Apple rather than a fundamental need for the product. This is a good thing for Apple, not the reverse.
  • The company's most recent 10-K shows phenomenal growth in the Asia-Pacific region (160% YoY net sales growth) and robust growth in Japan, Europe, and of course the United States.
  • Apple will improve market share in its smartphone business. Research In Motion (RIMM) currently has 29% of the market, but that is collapsing, and fast. Everyone I personally know is switching from Blackberrys to iPhones, although I switched to an Android powered phone, simply because my family already has a plan with Androids and it was the cheaper alternative for me. In addition, the Windows and Palm smartphone market shares are also plummeting. Apple's main competitor is Android (Google), and it will be interesting to see how Apple attacks Google. The company's cash will allow it to make a strategic acquisition. In addition, Apple appears relatively more focused on the smartphone business than Google does because it is simply a larger part of its business model. Google has to focus on all of its other internet operations in addition to this.
  • Apple has a not so curious ability to make products that do the following:
  1. They will last for three to five years and then die, requiring you to buy another (which you will of course do because you loved the product).
  2. They will become "outdated," and either the media frenzy will urge you to buy the newest version, or the hardware will no longer be compatible with newer hardware or software.

Conclusions

Apple is, in my opinion, the best company in the world. It has managed to create a psychology around its business that induces customers to keep coming back, always for more. The younger generation is very loyal to Apple products, and Microsoft (MSFT) is having a difficult time keeping up. Apple is yet to thoroughly tap into the business world, as almost all the code is written for Windows. This may or may not change, but even if it doesn't, Apple will continue to expand its market share of the personal computer market. While I do not believe Apple is priced at a clear buy, I don't think you could do too much wrong buying at the current price of $390 (at the time of writing). I'd wait for a pullback, but we may have already seen it with the debt celing issues that were market wide.

Apple's best days are still ahead.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Source: Why Apple Remains a Long-Term Buy