Apple Inc. New Headquarters (Photo credit: MarkGregory007)
( Read with Monday post)
Apple stock has tanked 35% from its all-time high, and now sits at $450.
If things go badly for Apple over the next several years, the stock could fall a lot farther from here.
But if things go even moderately well, the stock should deliver a compelling return.
Because, at $450, the stock looks cheap.
At $450, Apple stock is trading at 10X trailing earnings per share.
For a company that is still expected to grow, albeit at a much reduced rate, that’s an attractive valuation.
Importantly, Apple also has $135 billion of cash and no debt. Much of this cash is available to be returned to shareholders in the form of stock buybacks and, possibly, dividend increases. So it’s worth considering Apple’s market value and multiple excluding this cash.
Excluding its cash, Apple’s business is now valued at about $300 billion, or 2X revenue. Apple’s business currently earns about $40 billion a year. So Apple’s business is valued at about 7-times earnings.
That’s an even more attractive valuation. Even when you consider that Apple’s earnings are now declining.
Think about it this way.
If you spent $425 billion to buy Apple today–the whole company, not some shares of stock–you would be able to immediately pocket the $135 billion of Apple’s cash. You would then own a business that spits out about $40 billion of cash per year. Assuming the business maintains close to this level of earnings, you would get the remaining ~$300 billion of your purchase price back in about 7-10 years. You would then own all of Apple and its future earnings “for free.”
Even if Apple’s earnings shrink over the next few years–which I actually think is likely (Apple’s net income in the next quarter is expected to be down a startling 20% from last year)–it would only take 10-15 years for you to get your money back.
If Apple’s earnings grew instead of stayed flat, meanwhile–which isn’t inconceivable–you would get your money back even faster than 7 years.
In other words, unless Apple’s earnings really tank, and stay down, you will have bought a good company at a reasonable price.
Now, you are not going to be buying all of Apple anytime soon, so you can only think about the description above theoretically. But here is a more likely scenario.
A more likely scenario is that Apple’s earnings will stay flat or drop over the next several years, and Apple will start to get even more serious about returning some of its massive cash pile to investors.
To reiterate: Apple has ~$135 billion of cash.
And it is currently generating more cash at a rate of about ~$40 billion per year.
Apple has no idea what to do with this money.
No company needs $135 billion of cash.
In the past, Apple has demonstrated that it is not stupid enough to make huge, bad acquisitions (at least so far). So one can hope that Apple will not be stupid enough to make such acquisitions going forward.
So that leaves two other ways to use the cash mountain that Apple continues to pile up and doesn’t know what to do with:
Right now, Apple pays a ~$10 annual dividend. With the stock at $450, that’s about a 2.5% yield.
Paying this dividend costs Apple about $10 billion of cash per year.
Apple could easily afford to double this dividend to ~$20 per year.
That would create a 5% yield, which is an excellent yield. It’s also a much higher yield than almost every other stock in the market pays. And even this would only consume $20 billion a year.
And Apple could also easily afford to spend another $20 billion a year buying back its own stock. At $450 a share, this would shrink the share base by about 5% per year. So Apple’s earnings would be split up over fewer shares.
If Apple keeps earning $40 billion a year, and it returns $40 billion a year to shareholders, its cash balance will stay at ~$135 billion, which, again, is vastly more cash than it needs.
Apple could use $50-$100 billion of that cash to buy back stock, and that would shrink the share base even further.
All of which is to say, Apple has multiple levers at its disposal to return cash to shareholders and boost earnings per share irrespective of the business. And the business itself looks cheap relative to its current earnings stream.
Now, I am not suggesting that Apple’s stock is suddenly going to rocket back to $700. For that to happen, Apple would have to release another product that is a quantum leap over the competition, and it would have to sell hundreds of millions of units of this product before its competitors caught up. (As has happened with the iPhone).
I am also not suggesting that Apple’s stock won’t go lower from here. It may very well go lower from here. In fact, it may go lower and stay lower–forever.
As I described a few days before Apple missed Q4 expectations and the stock crashed below $500, Apple could be in the beginning stages of the same sort of implosion that it experienced in the 1990s–the same sort of implosion that has claimed Research In Motion, Palm, Nokia, Yahoo, AOL, Cisco, and dozens of other tech giants over the years. The stocks of these companies are trading at mere fractions of the highs they hit back when they were “must-own” stocks, barring miracles, they will never trade at those highs again. Apple is certainly not immune from this fate. And anyone who still thinks it is is not facing up to the reality of the situation.
But, Apple is also still a good company. And it has good products in fast-growing markets–smartphones and tablets. So if it can merely remain a good company, and keep pace with the competition (again, no guarantees), and if it begins to return even more of its vast cash mountain to shareholders, it should be able to maintain strong earnings per share, at least for a while.
And if Apple can do that, the stock doesn’t just look cheap. It is cheap.
As a reminder, no one knows what is going to happen to Apple over the next few years, including the folks at Apple. So don’t hallucinate that there’s some guru somewhere who can tell you. All of these scenarios are possible, including the “train-wreck” one. Stock prices represent collective guesses about what will happen in the future, and no one knows for sure what the future holds.
One final caveat…
Most of the folks who bought Apple stock over the past 5 years bought it because they considered it a “growth” stock, not a “value” stock. The scenario I described above is very much a “value” stock scenario. If Apple’s earnings do decline over the next couple of years, the “growth” investors who bought Apple’s stock will jettison it, and the “value” investors will have to buy it. This process will take time. So even if Apple does end up delivering a compelling return over the next few years, this “turnaround” will likely take a while.