Fortune had a recent article entitled "Here's Why Apple's Stock Is A Sell." The article lsited the following reasons for why Apple (AAPL, Financial) is not worth investing in:
- Apple is still dependent on iPhone sales.
- Buying a low price tech stock of a company that has seemingly reached the apex of its business prowess is not a sure-fire win.
In a separate and earlier article this month, Credit Suisse recommended selling the stocks that are most commonly held by funds. The firm identified Apple as one of the 10 most crowded large-cap "darlings."
The other nine included in the list were:
- Microsoft Corp. (MSFT, Financial)
- Alphabet Inc. (GOOG, Financial)
- Gilead Sciences Inc. (GILD, Financial)
- J.P. Morgan Chase & Co. (JPM, Financial)
- CVS Health Corp. (CVS, Financial)
- Wells Fargo & Co. (WFC, Financial)
- Johnson & Johnson (JNJ, Financial)
- Cisco Systems Inc. (CSCO, Financial)
- Visa Inc. (V, Financial)
My reaction: Really now? Reduce exposure in WFC, CVS and JNJ?
Finally, guru Whitney Tilson (Trades, Portfolio) of Kase Capital Management stated:
I think the real question isn't "What's going to drive future growth?", but rather, "What's going to prevent a meaningful decline in revenues and profits over the next year?" There may be a great time to pile into Apple's stock - it's an insanely great company - but I suspect that it will be roughly a year from now, when after four consecutive "miss-and-lower" quarters, sentiment will likely be horrible."
This all sounds terrible when referring to a company that was the most valuable (in terms of market capitalization) in the world for four years now (2011 to 2015).
What caused Mr. Market to dislike the famous smartphone brand? Barron's succinctly discussed this in an article. Here are those worrying signs summarized. Further, Apple price targets were included.
- Macquarie's Ben Schachter (Outperform, $117 target): "The company rang the alarm bells loud and clear on macro weakness."
- Deutsche's Sherri Scribner (Hold, $105 target): "We remain concerned about the lack of growth in iPhone units this year, the slowdown in China sales, and gross margin pressure from FX as we move through the year."
- Susquehanna's Chris Caso (Positive, $140 target): "We think the more relevant question now is whether iPhone can continue to generate cash at similar levels over a reasonable investment horizon."
- Piper Jaffray's Gene Munster: Reiterates an Overweight rating, and trims his price target to $172 from $179. "We believe Apple's insistence on broader macroeconomic headwinds may have spooked investors and resulted in the June number not being de-risked as we previously expected."
In its earnings announcement on Jan. 26, Apple failed to meet Mr. Market's expectations, reporting it had sold 74.8 million iPhones in the quarter, missing the expectation of about 75.46 million.
It's sad that this stock is being punished in recent months for its "underperformance" in growth prospects.
The competitors
As of Dec. 16, 2015, these are the leading smartphone vendors according to the Wall Street Journal.
Smartphone sales contributed to Apple's revenue by 66% (10-K), while Samsung's (SSNLF) revenue has 85% of it depending on smartphone sales. Huawei, on the other hand, has been having an incredible run lately. It surpassed Xiaomi, Apple, and Samsung as the number one smartphone vendor in China in October 2015.
Huawei has its smartphone business (including home and mobile broadband devices) contributing 41% of its total revenue.
Nevertheless, Huawei had a remarkable growth selling smartphones recently:
I find this fact a little worrisome despite that China is the largest smartphone market. Huawei is still struggling to penetrate the second-largest smartphone market that is the U.S.
Nevertheless, global smartphone users are still projected to grow worldwide from 1.8 billion in 2015 to 2.6 billion in 2019, a 9.6% CAGR.
Other sources are more optimistic, stating that there would be at least 6.1 billion smartphone users by 2020. That is 27% in CAGR.
Nearly 2 billion new smartphone users are expected to come from Asia. Further, India has been projected to surpass the U.S. as the next largest smartphone market.
Interestingly, Apple has only 2% market share in India compared to the global leader Samsung at 24%. Further, India has its own smartphone manufacturers Intex and Micromax that Apple needs to watch out for. Still, Apple had successfully just crossed the $1 billion sales mark in India in 2014, while the dominant Samsung had $5.7 billion in the same year. While this is promising, forecasting is not where I get comfortable.
The numbers
Profit growth
Profit growth has slowed down from the first half of this decade. This may have something to do with U.S. and China's GDP.
Profit margin
Profit margin had stayed relatively stable for the big three. Apple demonstrates its supremacy with its capability of making 20 cents per dollar of revenue, while Samsung and Huawei earn a little over 10 cents. Huawei's financial data only started in 2007, however.
Debt to equity
An ugly chart, but Apple had significantly ramped up its debt recently.
Free Cash Flow (exchange rate used 1 KRW = 0.00083 USD and 1 CNY = 0.15 USD)
Apple clearly demonstrated that despite its lack of market share dominance in Asia, it has good free cash flow performance over the past decade. Samsung, on the other hand, has been having some struggles in maintaining either stability or growth in this metric. Huawei showed a recent great leap, but I wonder if its recent performance can hold up.
Intrinsic value
Solving for WACC:
Intrinsic value calculation
Solving for intrinsic value was tricky. First, Apple has huge free cash flow (owner's earnings), if I applied its 10-year CAGR, it would be 45% instead of 10%. This kind of growth would give a humongous intrinsic value. So, I used Wall Street's expectation of 10% instead (more realistic). I also assumed, conservatively, that Apple will keep growing its free cash flow at 4% to 5% in the long term.
My other simple intrinsic value calculator still revealed that Apple is undervalued at the moment.
Averaging the two, (144.2+ 112.6)/2, gave me an intrinsic value of $128.42 per share, which gives a possible 32% upside from today's price of $97.34 per share.
Margin of safety
Benjamin Graham once said that margin of safety is the cornerstone of investment success. He required at least 50% discount, but currently I would be more willing to use 30% instead. This would give $89.89 per share as a buy price for Apple.
In the end, I would prefer to add more Apple shares whenever Mr. Market gets into a sour mood. I want to be like this person (Andreas Wahl) in the video when Apple shares are again celebrated by Mr. Market. Invincible!
