I've often been asked...if you could buy just one stock for your kid and hold it for at least 5 years, what would that stock be and why?
Without blinking, I would always say AAPL.
This is where I'd be getting responses like:
- What about diversification?
- But it is at $400; that is too expensive.
- I heard Steve Jobs is dying.
- Their products are too expensive; I can't see why other people would buy them.
- How can they keep on coming out with cool products?
What makes AAPL attractive as an investment are: (1) consistency in financial performance, (2) transparency, and (3) products that transcend generation/race.
Disclosure: I've been in AAPL for a while; I'll use $390.49 (yesterday's close) as a point of reference for this article. All the quotes used in this article can be found here.
“Do you want to spend the rest of your life selling sugared water or do you want a chance to change the world?” Steve Jobs to John Sculley, 1987
“Being the richest man in the cemetery doesn’t matter to me … Going to bed at night saying we’ve done something wonderful… that’s what matters to me.” Steve Jobs, Wall Street Journal, 1993
In order to understand where AAPL is headed, it is important to understand the past. The best way to do that is to understand who is behind AAPL. It is beyond the scope of this article to write about Steve. However, I thought the quote above from over 20 years ago should give you and idea that he is "driven" not by money but by the need to make a difference.
"You know, I’ve got a plan that could rescue Apple. I can’t say any more than that it’s the perfect product and the perfect strategy for Apple. But nobody there will listen to me.” Steve Jobs, Fortune 18 September 1995
Q1 2002 saw the launch of the first gen iPods. That quarter saw AAPL ship 125,000 units; it has since shipped 67.5M units after 20 quarters. iPod not only changed AAPL or the MP3 market, it also changed the music industry (hence, the template for the movie industry should be far behind).
The reason why I bring the iPod up is that it had its share of naysayers as AAPL was still seen as a computer company. Here is a sampling:
"Apple may take some heat for entering the consumer electronics market, which typically has lower profit margins than Apple gets from its computers. ” Bryan Ma, IDC, 23 October 2001
"Apple Computer’s tenuous hold on the portable audio-player market might soon fall thanks to a predictable foe, Dell, whose Dell Digital Jukebox (Dell DJ) is off to a strong start.” Paul Thurrott & Keith Furman, Creative Visions Foundation, 5 December 2003
The rest, of course, is history. Assuming that history repeats itself and assuming AAPL continues to execute its strategy, there is no reason why iPhone and iPad will not follow the footsteps of iPod's success as per the attached graph below:
click to enlarge
So, what makes the chart above compelling?
- It took 13 quarters for AAPL to sell 10M units of iPods.
- In only 6 quarters, AAPL sold 13M units of iPhone.
- In only 3 quarters, AAPL sold 14M units of iPads.
Each product's growth curve and adoption are getting steeper. Unless I'm wrong, I haven't seen any company have 3 successful product launches in a row, with each launch more successful than the one before with a shorter adoption time. I'm defining product "success" (for AAPL) as increasing cumulative units sold over time.
Please note that while the iPod's YOY growth isn't as steep anymore, it continues to sell well and has continuously been improved to adapt to the changing market place. In other words, AAPL has continued to make money on a product that can be considered to be in the "mature" stage of the product cycle.
However, make no mistake...it is not the engine that is driving AAPL (see below) today.
From the facts provided above, we can surmise that:
1. AAPL has a plan. Simply, it is to make market disrupting products that "just work" and make a ton of money along the way by executing flawlessly. The iPod, iPhone and now iPad are the obvious examples. One can expect that they are working on the next big "thing". As I've written in my blog before, AAPL TV may be the next one.
“It’s really hard to design products by focus groups. A lot of times, people don’t know what they want until you show it to them.” Steve Jobs, BusinessWeek, 25 May 1998
2. AAPL has shown the ability to execute its plan consistently. It is beyond the scope of this article to go over the financial performance over the years. Regardless of how you look at it, AAPL is growing at rates above the industry average but yet, it is trading at lower than industry average multiples.
Currently, it is trading less than 15x forward P/E; while the industry is at industry is 18x. Is this because the market doesn't really know which industry AAPL belongs? How does one explain AMZN's metrics given its historical growth rates or RIMM's share price given its current valuation?
Based on a "relative" valuation, AAPL should be worth $434 ($353 EV plus $81 cash) today. RIMM occupies the other extreme side of valuation; it "should" be worth $73 plus cash. This reinforces my belief of why value is "relative".
3. AAPL continues to strengthen its moat. Lion and iOS5 (with iMessage) will change users' experience. Like anything AAPL creates, it should lead to further market share increases within its "ecosystem".
Now, the concerns:
Diversification (or lack of)...
Warren Buffett once said "...diversification is only required when you do not know what you are doing".
Obviously, it comes down to personal choice. Would you rather own a basket of businesses with mediocre financial performance and product pipeline or one company that has consistently executed as communicated?
At $400, it is too expensive!
The price is relative. Just like not everyone would want to buy an AMG C63 coupe regardless of whether they can or cannot afford it, AAPL at $400 may not appeal to everyone. In other words, if one cannot see the appeal of AAPL at $40 then, they certainly wouldn't see it at $400.
Granted that buying 100 shares worth $40 seems to be more appealing than buying 10 shares at $400. The valuation metrics will be the same, only the share count will change (and most likely the volatility). The pros and cons of investing in shares with higher share counts is beyond the scope of this article. I am, however, of the opinion that higher share counts at lower prices does not necessarily mean guaranteed higher returns over time.
Fundamentally, AAPL is trading at P/E, PEG and PCF multiples that are lower than the industry average. If you back out the cash at $81/share and growing, it drops even further. So, at $390.48, you are buying this at $310 roughly.
I heard Steve is dying...
There is nothing anyone can do with this. It is every AAPL shareholder's wish that he continues to have a long and healthy life and continue to lead the company. However, it would be naive to think that AAPL is just Steve and that they haven't planned anything about his succession plan. On the other hand, I think this is what "drives" him. Remember his 2005 Stanford University speech?
Their products are too expensive; how can anyone keep buying them...
In 2001, an iPod 5GB cost $399. Today, an iTouch (with more features) 64 GB cost $399. 6 years after the first iPod was launched, it sold 100,000,000 units.
iPhone has followed the steps of the iPod...however, naysayers abound:
Apple is slated to come out with a new phone… And it will largely fail…. Sales for the phone will skyrocket initially. However, things will calm down, and the Apple phone will take its place on the shelves with the random video cameras, cell phones, wireless routers and other would-be hits… When the iPod emerged in late 2001, it solved some major problems with MP3 players. Unfortunately for Apple, problems like that don’t exist in the handset business. Cell phones aren’t clunky, inadequate devices. Instead, they are pretty good. Really good.
How did the company perform? AAPL merely shipped 128M devices since its launch 17 quarters ago and commands 18.5% of the smartphone market share but 2/3rds of the industry profits.
Keep in mind that the world went through various economic upheavals in the past 20 quarters and AAPL continues to motor along. What does that tell you? The word "consistency" comes to mind.
How can they keep on coming out with cool products?
Well, If anyone knew, they'd be copying the "secret sauce". It all boils down to leadership, transparency and execution. If you have these three, it increases your chances of dominating your industry. AAPL clearly has all three. Reality dictates that even if you gave someone the "secret", it doesn't guarantee that they will succeed as every individual is unique and it requires a "team" of passionate competent individuals to run a great show.
The comment below provides anecdotal evidence that the AAPL culture is unique and certainly takes a "team" of passionate individuals to make a difference.
Is there a toaster that also knows how to brew coffee? There is no such combined device, because it would not make anything better than an individual toaster or coffee machine. It works the same way with the iPod, the digital camera or mobile phone: it is important to have specialized devices.
Where is Jon now? Where is Palm?
Is it all Hype?
I'm not convinced there is a correlation. For example, I've seen more playbook ads and HP (HPQ) tablet ads recently. Only time will tell if these ads will translate to sales. So far, it has not.
Is AAPL bullet proof? I don't think so. Technology changes pretty quickly. They don't need to be "ahead" of the curve, they just need to be able to take advantage of it to be successful. The biggest risk, in my opinion, is the IP (or the lack of) portfolio. Remember RIMM almost getting crippled by NTP? Success attracts fleas. Will AAPL be a victim of its own success? Time will tell.
1. "Mobile" world. If the adoption of the iPad/iPhone is any indication, we are really moving further away from the PC era. I'm assuming this is why AAPL chose to go with Cloud and leave flash (in favor of Html5). Remember when they changed their name from "AAPL computers?" There was a reason for that.
2. Tablet acceptance (primarily the concept of "touch" versus "keyborad") means clients (business and retail) care less about the physical keyboard and mice; they now focus on the "experience". iOS5 and Lion will make believers out of the new AAPL customers. Should they gain traction in Enterprise, it would open more doors not only for them but also app devs - the feeding frenzy will snowball.
3. Just got a Samsung (SSNLF.PK) TV with wireless connectivity. How many TVs are there? Anything brewing wth AAPL TV/Cloud/Streaming?
5. If you've bought an AAPL product and like the experience, chances are, you will end up buying more of their devices. We started with one iPod; we now have 7 devices over the past 3 years alone.
If their past performance is indicative of what they can accomplish in the future, I would be surprised if AAPL does not give me a triple in five years without having to check the stock price every day. Until then, we buy the dips and/or sell puts along the way.
Let's use a hypothetical amount of $50,000 and see where we end up with in 5 years. The plan is to write a follow up article to see how things have transpired and maybe make adjustments on the portfolio. The goal is to outperform the SPY ($129.33).
July 30th 2011
Buy 1 contract AAPL 2013 325C = $9,960.00
Buy 102 shares of AAPL@$390.48 = $39,828.96
From the recent iPad ad...
We’ll never stop sharing our memories. Or getting lost in a good book. We’ll always cook dinner and cheer for our favorite team. We’ll still go to meetings, make home movies, and learn new things. But how we do all this will never be the same...
In other words, AAPL has moved on...yet, we still seem to think and value the company like it is worse off today than it was years ago. Assuming our thesis is correct, this mispricing is our gift.
SO, if you think you have one stock that would be better than AAPL, what stock would that be and why?
Additional disclosure: I am currently short RIMM, NFLX and may initiate short on LNKD.