Apple (AAPL) just reached record heights Monday in terms of market capitalization, becoming the most valuable corporation in history, passing Microsoft's (MSFT) record set during the Internet boom. In terms of revenues, the tech giant still sits short of 100 or so companies like Royal Dutch Shell (RDS.A), Exxon Mobil (XOM) and Wal-Mart (WMT). Yet, even as AAPL trades in territory never before achieved, I believe it should be even more valuable.
Apple should split its stock to create value for shareholders. Now I earned my MBA, so I know there's no direct economic value added to investor holdings by a stock split. Heck, I learned that in middle school. However, I believe market capitalization and share price can be enhanced indirectly by a stock split, especially in this case. Apple's valuation indicates the company is not trading for what it is worth, and the stock price might be one of the reasons why.
At the close of trading Monday, Apple stock was trading at roughly $665 a share. Believe or not, I know people who would like to own AAPL but can't afford even one share at that price. The pool of people who can't afford AAPL expands exponentially when we raise the stakes to a round lot of 100 shares, which would run $66,500 today. So the basic argument of most current shareholders of AAPL today, who would like to see appreciation in their own portfolios, is that a split would add value by opening up the Apple trading pit to a greater number of investors.
Now everyone knows that 2 shares of a $5 stock are worth as much as 1 share of that same stock priced at $10. In other words, that $10 value cannot be directly changed through a stock split. Still, some studies seem to show that stocks outperform after splitting their shares. A 1996 study by David Ikenberry at Rice University measured the performance of 1,275 companies that split their shares 2-for-1 from 1975 to 1990. Ikenberry compared the group to another group of similar stocks with similar characteristics, but which had not split their shares. His results showed the splitting group performed 8% better than the non-splitters after one year.
However, most companies split their shares for a good reason, after appreciation in price value. So whatever causes that appreciation in the first place probably separates the splitting group of companies from the non-splitting group of companies. In other words, in most cases, it is probably not management preference that determines which company's shares split and which do not. Rather, it may be that the companies growing their businesses better are seeing price appreciation as a result, and they continue to see that appreciation post their stock split. What you would want to do to prove which came first, the chicken or the egg, would be to compare the performance of the same two groups for the year before the stock split. I expect you would find the splitters also outperformed the non-splitters in that period as well, all else being equal. In other words, it's not the split but the stock that matters.
Still, logic seems to say that retail investors will find a stock a best fit at a certain price range. This is because stocks have traditionally been purchased in round lots of 100 shares. As a result, retail investors estimate the cost of 100 shares against their capital store to determine affordability. This is a flawed argument though, since investors may purchase odd lots of stocks using the capital amount or percentage of portfolio value they would prefer to allocate to a specific stock. In other words, they can spend as much as they want. Now, trading costs are higher for odd lot purchases, but are still not really a matter of determination for even the retail investor due to the insignificance of that difference.
Still, a good portion of retail investors do not apply mathematically perfect logic when investing. I can't count the number times I've argued with friends and relatives about the insignificance of stock price. If I tell them they can buy 4 shares of Apple $2,660, they are still likely to buy 100 shares of a lesser idea for the same amount of capital. It's because many investors cannot get their arms around the math. A 10% move in either stock, whether it be AAPL or the lesser idea, still returns a $266 paper profit to the shareholder. 10% is 10%, no matter how you cut the share count, but they can't see it. Thus, they say, Apple's not for me, unless they split it someday.
So when Warren Buffett would not split Berkshire Hathaway (BRK.A) shares, which trade above $128,000 per share, because he wanted to harbor a sophisticated shareholder base, he absolutely achieved his goal. Investors at that price point are not going to be desperate holders either, like a poker player light on capital. That type of player tends to lose because of his capital constraints; he'll drop out as he sees his money decreasing, sometimes despite his hand. Though, at those price heights, Berkshire was keeping out even sophisticated investors who could not afford even one share of the stock. Berkshire has gotten around that though through the offering a B-Class shares (BRK.B), which an investor can buy for a mere $85 and change.
There are several reasons why I think AAPL would benefit from a stock split more than most companies. However, there's one popular argument for splitting, which applies to lesser known names, but which would not hold water for Apple. There's PR value in a stock split, as the news garners the attention of investors. It can bring attention to a good idea and help it achieve its full worth. In Apple's case though, you have the most popular company in America, and a stock every investor knows the price of. Yesterday, Apple's news headlined DrudgeReport.com. There are blogs completely focused upon Apple happenings. People dedicate their lives to following Apple products and news, and they actually make a good living doing so. You just do not see that with most companies. That same popularity difference though, also provides an argument for why the stock should benefit from a split. There must be a greater potential benefit for Apple to make its shares fit a sweet spot price than exists for most other companies, because all those idol worshippers who can't afford the shares or think they can't, would be allowed into the pool of buyers post split.
AAPL's shares today trade at 12.6X the analysts' consensus EPS estimate for FY 13 (Sept.), which is $52.49 per share. As a result, on a P/E basis, the stock is cheaper than strong competitor Google (GOOG). Heck, the stock is cheaper than the market, with the S&P 500 Index carrying a P/E ratio of 16.3X its trailing number, versus AAPL's 15.6X multiple. If you look at the stock on a PEG basis, taking its stellar growth prospects (estimated at 22.3% over 5 years by analysts) into consideration, it's cheaper than Hewlett-Packard (HPQ), Research in Motion (RIMM) and Nokia (NOK). A PEG ratio of 0.6X on the forward figures I outlined is hard to justify.
I continue to recommend investors buy Apple shares. You can argue that the company's size itself is a burden to growth, and that it has substantial market share to defend. Still, in defending the stock's valuation, you would also be ignoring Apple's prospects in new markets including television, which I view as substantial. In conclusion, if the stock is too cheap and value is being suppressed, than it is the responsibility of the management team to exploit all options toward value realization, including through a stock split.