5 Potential Financial Catalysts For Apple

Sep.14.11 | About: Apple Inc. (AAPL)

In a previous post in May I discussed the potential implications of the rumored delay (now not a rumor!) in the release of Apple's (NASDAQ:AAPL) new iPhone model this year, and its impact on Apple's stock. In this post I will discuss some non-product, non-operational financial decisions for AAPL that may be important catalysts for its stock. Some (or even all) may not happen, and their timing is equally uncertain. In order of their potential impact on the stock price:

1. Dividend
Apple has a huge and growing cash mountain ($12.1B cash, $16.3B short term securities, $47.8B long term securities for a total of $76.2B as of 06/25/11). There is fairly constant speculation that Apple will pay a dividend some day. Steve Jobs has previously been adamant that Apple needed to accumulate a large cash cushion in order to 'keep our powder dry' for strategic acquisitions. Some have speculated that Apple also accumulates cash as an emergency cushion given its near death experience in 1996/7 (when the company had to take money from Microsoft (NASDAQ:MSFT)). Clearly Apple also uses its cash to gain advantage in component supplies (in terms of volume and pricing guarantees).

In any case, Steve Jobs never definitely ruled out a dividend. Apple previously paid a dividend (1987-1995: $0.12 in 1995; 1.2% yield), none of these being years when Steve was in charge. With the leadership transition, there may be less resistance to instituting dividends, though I would not use this alone as a reason to expect it to happen quickly. In fact, Steve Jobs's health issues and resignation may make things more complicated. For example, it could delay a
decision by Tim Cook and the Board to pay a dividend, because they may not want to look like they are deliberately reversing course on one of Steve's past decisions. Or it could be something that could be done quickly that would indicate Tim Cook is in charge! I suspect the former is more likely.

What conditions would need to be fulfilled for a dividend? First, an adequate emergency cash cushion. Extremely adequate could be defined as two year's R&D and SGA costs (~$10B for 2011). The company has achieved that already. Second, sufficient cash for advance purchase or price guarantees of components (Apple probably needs no more than $2.5B given recent committments). Third, acquisitions of technology (again past history suggests well under $1B but let's assume $30B for a very large acquisition -- more thoughts on that in a later post). Fourth, prepurchase or guarantees for digital content (this is likely under $3B using Netflix's (NASDAQ:NFLX) outlays as a guide). Fifth, acquisition of patents. Apple spent ~$3.2B this year on Nortel patents and Nokia licenses, and likely would spend more than that if needed, let's assume double or $6.5B. So the total would be:

$20B SGA + $2.5B components + $30B M&A + $3B content + $6.5B IP costs = $62B

This exceeds Apple's current cash hoard of $76B but not by much, so Apple
has probably only recently met or will meet its own internal criteria for adequate cash reserves. In addition, this calculation would suggest to me that it will not make a large special dividend payment because that would blow out its reserves.

If and when Apple is comfortable with its current cash reserves, how much would the company be willing to pay out as a dividend? Prior history shows Apple had a payout ratio of 14% in 1995. However, at that time the company was trying to invest in plenty of new initiatives with slow sales and profit growth. Perhaps a better example would be Microsoft (MSFT), who currently pays out about 25% of earnings as dividends. If that were the case for Apple (whose most recent earnings were $7.79 per share), then one could predict a quarterly dividend of $2 a share, or a 2.1% yield. Clearly, a 2% dividend yield from what is the largest company in the world (or likely to be so), with past earnings growing at >50% y/y, and future earnings likely at >20% y/y would be very attractive to a new group of income seeking investors and would likely push the stock price up substantially.

2. Stock Split
Apple has split its stock three times in 1987, 2000 and 2005, the last two times while Steve Jobs was CEO. Clearly, we look overdue for a split, though this may be a reaction to Google's (NASDAQ:GOOG) lack of splits. To be honest, I see no rational reason (other than the one listed below) why a stock split should help the stock price-- but generally it does. This would be a easy decision for Tim Cook and the board to take, in part because Steve Jobs has not recently argued against splits (unlike dividends). All past AAPL stock splits have been 2:1. But a 4:1 split may have more impact, in part because maybe it would allow...

3. Apple Enters Dow Jones Industrial Average
It is somewhat ridiculous that one of the fastest growing, most admired, and largest companies in the USA is not a component of the DJIA 30. It would be a pretty obvious step for DJ to replace Hewlett-Packard (NYSE:HPQ) with Apple (Cisco (NASDAQ:CSCO) appears less likely only because it was just added) in the DJIA. The major issue appears to be Apple's oversized stock price (because the DJIA is a simple arithmetical average of stock prices with no weighting). The component with the highest stock price is currently IBM at $163. I doubt that a 2:1 stock split (i.e. $192) would be enough to persuade DJ to add Apple, but I think a 4:1 split would be (i.e. $96). Such an addition could happen at any time-- the last change was made on June 8, 2009 with the addition of Cisco and Travelers (NYSE:TRV). Prior recent changes have happened during the months of February, April and September. This would clearly have an impact on Apple's stock price. Cisco increased 3% on its announcement even though it was widely anticipated. I think the change in AAPL would likely be larger, given that it is widely thought to be undervalued.

4. Interest Income
Though Apple has been extremely conservative in its cash investments, it has recently made a move towards longer dated investments. Money held as cash and short-term securities is now at 37% versus 50% in 2010 and 85% in 2008. Most recently (06/25/11), Apple held $10.8B in Treasuries, $10B in U.S. Agency securities, $6.1B in non-U.S. governmentt securities, $4.5B in CDs, $6.4B in commercial paper, $30.6B in corporate securities, and $3.4B in Munis. Apple's holdings of corporate paper and securities have doubled in a year. Assuming Apple hits $100B in cash in the next year and achieves a 3% yield (based on the BND ETF yield) rather than 0.1% from 1 year treasuries, it could be earning an extra $3B a year in interest, which would be approximately $3 a share extra, with that amount increasing by over 20% a year. This is clearly not a large amount but it represents 'free money', and at a 15 x multiple could add $45 to the share price.

5. Buyback
I do not see Apple doing a buyback. This may be my bias, but a stock buyback does not seem to offer the same advantages as a dividend (in terms of attracting new investors and mutual funds looking for income). Not doing a buyback would be a way for Apple to distinguish itself from flailing competitors that have done this and arguably failed, in that they purchased stock at a higher price than it is now (HPQ, Microsoft, RIMM).


Disclosure: I am long AAPL.