Sunday, December 9, 2012

Bucking The Trend-Some Thoughts on Apple

Claim: This is an article I wrote back in September. I saved it but forgot to publish. Apple's stock has dropped more than 20% since then, which I think is reasonable. I don't think Apple is expensive at $538 and 12 times earnings.

Apple has revealed iPhone 5 today, with no surprises. As expected, the new phone is taller, thinner and lighter than the iPhone 4S. It has a four-inch display, enhanced picture resolution and a longer battery life. Its processor and graphics are twice as fast as the iPhone 4S, uses iOS 6 and can run on LTE networks. 
The question is, will it live up to the hype? How many people will either switch to iPhone 5 or upgrade to iPhone 5?  iPhones accounted for 43% of Apple's total sales last year and, according to Sanford C. Bernstein & Co., 70% of Apple's profits. The performance of iPhone 5 is obviously very important to Apple for the next year or so. 
So far, Wall Street seems to think the iPhone 5 will live up to the hype. Wall street is still bullish on Apple. It's not uncommon to see a $1000 price target for Apple's stock from a Wall Street analyst. Some of the best fund managers, including David Einhorn, are stating that Apple's stock is still undervalued by a considerable amount.  The bulls claim that Apple is the most innovative company in the world and people have to keep upgrading their Apple product every year or every 2 years. The Chinese market still has a lot room for Apple to grow. Apple is widely misunderstood, it's not a hardware company, it's a software company that monetizes value through the repeated sales of high-margin software.  Apple could hit 1 trillion market cap. With 932 million shares outstanding, that implies a per share price of over $1000. Let's say Apple's current P/E is indeed too low at 16 time earnings and let's bump it up to 18 times. A $1000 price target would therefore implies an earnings per share of roughly $56, a more than 30% increase from today's earnings per share. So far, this all sounds very reasonably achievable for Apple.  Better yet,  you'll also get about 25% of the earnings as dividend, which you can either reinvest or keep as cash. 

Let's take a look at the 2 most prominent bull's claims . 

Claim one: Apple is the most innovative company in the world and people have to keep upgrading their Apple product every year. 
Possible counterclaim: Apple was the most innovative company in the world when Steve Jobs was still alive. He has passed away for a little over a year and it's reasonably obvious that Apple's product has not been as innovative as before. Apple's humongous run for the past couple of years are based on some great visionary products that were basically invented by Steve Jobs and the historical success of Apple, to a large extent,   is also based on the visions by Steve Jobs. Tim Cook is not even close to Steve Jobs in terms of innovative and visionary thinking. iPhone 4s is a lot like iPhone 4 and the New iPad is very similar to iPad 2, now the so called iPhone 5 seems to me a slightly upgraded iPhone 4s. It will be very hard, if not impossible for Apple to come up with products as revolutionary as the first generation of iPhone and iPad again  without Jobs. 

Claim Two:The Chinese market still has a lot room for Apple to grow.
Possible counterclaim: People who have been to China know that you don't buy Apple's product from an Apple store, there are retailers all over the place who sells Apple's product. In a electronic market where hundreds of small electronic shops operate, over half of them sell iPhone and iPad. My point is do not extrapolate Apple's growth in China based on the number of Apple stores in China. It is extremely easy to buy an iPhone already and adding Apple stores is more like a marketing tool. Plus, people who can afford iPhone has already bought an iPhone, or even two iPhones when the iPhone is considered unique. Now that iPhone is a "street phone", I've seen a lot of people switching to Samsung and Nokia. 

If history rhymes, as it always has, in my humble opinion, at the current price, Apple is not offering a large enough margin of safety for a conservative value investor. Please do not get me wrong, I am not bearish on Apple. I am just saying it looks to me that Apple is not very undervalued, especially if you are very long-term oriented. 

No comments:

Post a Comment