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For a very long time, I have been bullish on Apple (NASDAQ: AAPL). The theory is that, well, it’s Apple. It sells tons of great devices, has the best computers, the iPhone is amazing and is constantly being improved, and it makes a whole lot of money.
Look at fiscal year 2015 earnings that ended last September. Apple generated $233 BILLION in sales. That’s more than double sales for Amazon.com (NASDAQ: AMZN), and I thought Amazon.com ruled the retail world.
Apple’s Phenomenal Profit
Apple’s gross profit was $93.6 billion, giving it margins of almost 40%. That’s also insane. Apple’s operating income for FY15 came in at $71.2 billion, and net income totaled $53.4 billion. That alone is a staggering number, but even more staggering when you consider it represented a 35% increase over the previous year.
So we know this: Apple is phenomenally profitable. We also know it has $152 billion in net cash, and generated an equally jaw-dropping $70 billion in free cash flow in FY15.
Apple can do anything it wants with that $70 billion. It could buy up half the companies in the S&P 500.
From a valuation standpoint, Apple shares are at $111, but the business itself (after backing out net cash of $30 per share, sells for $81. Thus, Apple shares trade at 9x earnings, on long-term projections of 11.6% per year. Thus, Apple shares are arguably a bargain.
Or are they?
The Bear’s View of Apple Shares
I got to thinking about this, and then I did some digging, and several bearish elements appeared that I had never really considered. Now I am considering these, and I’m not so sure Apple is the bargain it appears.
The iPhone is a great product, but it also accounts for almost two-thirds of Apple’s revenue. That really scared me. I do not like companies that lack diversified revenue streams. Even worse, that percentage has been on an upward trajectory for the past several years.
Apple’s full-year earnings are actually expected to decline a little because the next version of the iPhone isn’t due until this summer. It seems to be that Apple is becoming increasingly reliant on the iPhone, and that is concerning. Yes, there are other products, but the Apple Watch seems like a dumb idea, and different versions of tablets can only go so far.
I feel that the loss of Steve Jobs has ultimately harmed Apple’s long-term vision.
The other problem is that cash hoard. It’s great when companies have tons of cash . . . except when most of that cash is stashed overseas. Apple holds $181 billion of its $206 billion abroad. If repatriated, it will get taxed about $59 billion worth. That cash has just been sitting there and is of little practical value to investors or the company.
Apple thus needs to do something like make a foreign purchase to put that cash to work. If repatriated and taxed, it’s like devaluing the business by $12 per share, which would drive the business’ intrinsic value to $93 per share.
When we then factor in the heavy reliance on the iPhone, $111 for Apple shares now starts to seem a bit more reasonable. I look at that price, and the net cash position after tax, and think that maybe Apple isn’t undervalued anymore. It may be priced just right, and only worth 11% to 12% gains per year. You could do worse, but you can also do better.
The Ghost of Steve Jobs
Before he died, Steve Jobs gave an interview to the New York Times where he revealed his desire for Apple to create something unlike anything the world had ever seen. Though Jobs is no longer around, his dream for this technology is alive and kicking. According to global consulting firm KPMG, this technology “could provide solutions to some of our most intractable social problems.” And Morgan Stanley believes it could save the American economy $1.3 trillion each year.