Not a day passes by without Apple (NASDAQ:AAPL) bears coming up with a new argument regarding why Apple isn't a good bet. One of these new arguments is that Apple's price to book ratio is too high. Currently Apple's book value per share is about $110, which gives us a price to book ratio a little over 5. This is higher than Microsoft's (NASDAQ:MSFT) 3.5, Research In Motion's (RIMM) 0.35, Nokia's (NYSE:NOK) 0.75 and Google's (NASDAQ:GOOG) 3.1. What's up with that?
Well, the answer is clear. Apple's book value is irrelevant and should not even be looked at when determining the company's true value. I will explain why this is the case.
First of all, Apple enjoys impressively high margins and just as great return on investment rates. Over the last 3 years, Apple's return on investment exceeds 100% and the company's annual gross margins pass 40%. At the end of the day, a company's return on investment and margins tell a story about how well a company is using its current assets and resources to generate income, and Apple is doing a wonderful job at that. If Apple can use its resources 3-4 times more efficiently than any company of a similar size, why should the amount of its assets be comparable to similar companies who don't even get to enjoy half the efficiency Apple does?
Second, book value is important for companies that might not be doing so well. It tells us approximately how much a company would get in case it went bankrupt and its assets were liquidated. As far as I know, Apple doesn't have to worry about bankruptcy or having its assets liquidated anytime soon. To be honest, I'd be really surprised if it happened anytime during my lifetime. Because Apple will not have to sell any of its assets for cash anytime soon, value of its assets in comparison to its market value should not matter.
Third, the nature of Apple's business is high technology. The company doesn't even take part in the manufacturing of its products. It doesn't have to own large assets in order to make money. For example, Exxon Mobil (NYSE:XOM) needs to have very expensive assets on its balance sheet such as oil fields, heavy machinery, tools and equipment to extract oil. All Apple needs is several buildings full of its employees and computers for those employees to use. This is true for most technology firms that are design and software focused.
Additionally, the price to book value metric doesn't really take future growth into account. It assumes that the company's assets will be the same for years to come. Investing is future oriented and when we are dealing with strong growth companies like Apple, we need a metric that can actually take its future growth into account, such as forward P/E ratio. For this particular metric, Apple is doing impressively well with a forward P/E ratio well below 10 when the company's cash is added into the equation.
I am very positive on Apple for the coming years. Soon the company will unleash new products such as the new iPhone and possibly a new AppleTV (or also known as iTV). The only concern I have towards Apple's iTV is that it may be too expensive for the average middle class American to afford if we take Apple's other products as a reference point. It would be really nice if Apple could form a partnership with content providers similar to the one it currently has with mobile phone carriers, allowing those companies to subsidize these new TVs. This would allow Apple TV to have a growth story similar to the iPhone.
In conclusion, I believe that it is unfair to value Apple based on its book value because the company is still in growth mode, it has no debt, a very high return on investment and impressive margins. Under these conditions, the best metric to determine Apple's value would be its earnings in comparison to its stock price as well as its earnings growth rates.
Disclosure: I am long AAPL.