From major growth opportunities to its safe liquidity position as the world's most valuable company, Apple (AAPL) is an unlikely value play. Loved by many, feared by few, it would appear that the company would have had its discount closed by now from market exuberance. Any growth would have to defy the "law of big numbers", right?
Well, in this article, I will run you through my DCF analysis on Apple and then triangulate the result with an exit multiple calculation and a review of the fundamentals compared to Hewlett-Packard (HPQ) and Dell (DELL).
While I like the fact that Apple's fundamentals are strong, as an investor relations consultant, I am particularly enthused about the firm's brand. Other great companies like 4net Software (OTCQB:FNSI) and Sebring Software (OTCQB:SMXI) also have strong fundamentals, but lack the "favorable" Street attention. Despite having a leading recognition on the Street, I still find that Apple has meaningful room to appreciate.
First, let's begin with an assumption about revenues. Over the last three years, growth has been nothing short of exploding: accelerating to 66% in FY2011, off 42% in FY2012. Analysts model a 19.1% per annum growth rate over the next few years, and, considering the growth catalysts, I find this projection reasonable.
Moving onto the cost-side of the equation, there are several items to address: operating expenses, taxes, and capital expenditures. I model that cost of goods sold will eat 60% of revenue over the next few years. I further project SG&A expense trending from 6.8% to 6.0% between 2012 and 2017, as overheads are spread out over fixed business. R&D can be expected to hover around 2.5% at the maximum - slightly lower than the 3-year average due to the ability of the brand to carry itself. Capex is estimated at around 4% of revenue; taxes as 28% of adjusted EBIT.
We then need to subtract out net increases in working working capital: we model accounts receivable as 13% of revenue; inventories as 2% of COGS; accounts payable as 20% of OPEX; and accrued expenses as 30% of SG&A.
Taking a perpetual growth rate of 3%, and discounting backwards by a WACC of 10.5%, over the next six years yields a fair value figure of $672.10, implying 23.3% upside. This factors in the $30.2B net cash position.
All of this falls under the context of dramatic growth. At the first-quarter earnings call, management noted:
"We are thrilled to report the results of a tremendous quarter, generating the highest quarterly revenue and earnings in Apple's history. We established numerous new records during the quarter, including all-time highs for quarterly iPhone, iPad and Mac sales. We are very proud of these results and are extremely pleased with the momentum of our business.
Revenue for the quarter was $46.3 billion, representing year-over-year growth of 73%. The increase was fueled primarily by strong growth in iPhone, iPad and Mac sales, and was also aided by the inclusion of a 14th week in the quarter, which we indicated previously.
Operating margin was $17.3 billion, representing 37.4% of revenue. Net income was $13.1 billion, increasing 118% over the prior December quarter's results, and equaling half of the net income generated in all of fiscal 2011".
From a multiples perspective, Apple is pricier than what the bulls are willing to admit. It trades at a respective 15.5x and 11.4x past and forward earnings; 8.5x and 5.5x for HP, and 9x and 7.8x for Dell. Assuming the multiple declines to 15x and a conservative 2013 EPS of $45.39, the rough intrinsic value of the stock is $680.85 - roughly in-line with my DCF result.
Consensus estimates for HP's EPS forecast that it will fall by 17.2% to $4.04 in 2012, and then grow by 9.4% and 6.8% in the following two years. Assuming a multiple of just 7x and a conservative 2013 EPS of $4.38, the rough intrinsic value of the stock is $30.66, implying 27.4% upside.
I believe in HP's CEO and the company's fundamentals. Investors are still discounting the stock due to past managerial missteps, but at this point, the reality is much better than the perception. A forward PE multiple that is less than half that of Apple may be overblown. Dell is also a similarly discounted stock. While I am dismayed by the company's lack of R&D and anemic growth, the bar has been set low enough to drive extraordinary returns in the event of a recovery. So, while Apple may be an oxymoronic case of the obvious value play, HP and Dell are its neglected cousins.
Additional disclosure: We seek IR business from all of the firms in our coverage, but research covered in this note is independent and for prospective clients. The distributor of this research report, Gould Partners, manages Takeover Analyst and is not a licensed investment adviser or broker dealer. Investors are cautioned to perform their own due diligence.