Apple Inc. (AAPL, Financial) is a popular tech company that makes iPhones and Mac computers. Its growth rate is slowing as the company transitions from its past focus on mobile phones and computer products to online services, including cloud and artificial intelligence products.
Despite slowing growth, Apple generates massive amounts of free cash flow, most of which is being used to buy back shares. This discussion will focus on why the stock looks cheap, given its use of FCF to make huge share repurchases.
I estimate the stock could be worth at least 17% more at over $222 per share based on its powerful free cash flow.
First, let's look at its free cash flow generation, as Apple is a veritable cash cow.
Apple looks cheap based on its free cash flow
In the first quarter, Apple's revenue fell 4.30% and its net income dropped 2.20%. But earnings per share rose 0.30% from $1.52 to $1.53. The reason is because the company reduced its share count by 2.42% on average, which was slightly more than the drop in net income.
That is one way Apple's huge buybacks have been helping the stock, despite its negative growth. In fact, on May 2, it announced a new $110 billion share purchase program. It can easily afford this, too. For example, in the trailing 12 months ending March 31, Apple generated $103.90 billion in free cash flow. Further, as will be shown below, the company is forecasted to generate around $111 billion in FCF by the end of the next fiscal year.
FCF is the amount of cash flow left over after covering all cash expenses and net changes in working capital, as shown in the statement of cash flows (i.e., operating cash flow), less spending on capital expenditures.
Apple spent $81.80 billion on buybacks in the trailing 12-month period to March 31, or 78.70% of its FCF during that period.
This shows Apple can afford to do these massive buybacks. Next year, I project the tech giant could buy back $94 billion in shares if it raises its buybacks to 85% of FCF, up from 79% in the last 12 months.
For example, in the fourth quarter, Apple spent 112% of its FCF on share repurchases. That means it borrowed money or drew down its huge $67 billion cash and marketable securities balance to cover the excess FCF buyback spending.
Here is how I came up with this FCF estimate. I took Apple's operating cash flow margin over the trailing 12-month period ending March and applied that margin to analysts' revenue estimates. Then I deducted capital expenditure spending, using its historical capex/revenue ratios.
This can be seen in the table below:
The table shows that over the trailing 12 months ending March 31, the company had a 29.2% operating cash flow margin.
Using analysts' revenue estimates for this year ending September 2024 and 2025 and deducing 2.30% of sales for capital expenditure spending, free cash flow could rise 2.70% to $104 billion this fiscal year and $110.80 billion next year ending September 2025.
The bottom line is that even with sales growing just 1% this year and 6.20% next year, Apple could still generate between $104 billion and $111 billion in free cash flow.
That will be more than enough to cover the new $110 billion buyback program, even if it takes more than one year to complete.
But what is driving this huge share repurchase program? Let's look at the potential effects.
Share buyback forecast
The chart below shows Apple has reduced its share count between 2.40% and 3.20% on a rolling annualized basis each quarter for the past two and a half years.
The average year-over-year decline has been 2.53% in the trailing 12 months to March 31. The average decline in share count has been 2.75% annually for the past 24 months.
So going forward, we can expect its share count could fall at least 2.53% and possibly as much as 2.73% given the larger $110 billion buyback program.
Here is how that would work out if compounded over five, 10 and 15 years.
This shows Apple's share count could fall between 28% and 31% over the next 10 years if the company averages between a 2.53% and 2.75% annual drop in shares due to buybacks.
In other words, given this would only happen if the company can generate higher amounts of free cash flow, the stock is likely to rise as a result.
Price target
Based on a 3% FCF yield metric, it is likely that Apple's market value could be worth almost $3.60 trillion based on our FCF estimates. That is 23% higher than its present $2.91 trillion market cap.
This implies the stock could be worth 23% more or $233.79 per share.
This method assumes the market values its FCF at a yield of 3%. For example, in the last 12 months, the company has spent $81.80 billion on share repurchases and $15.10 billion on dividends, or $97 billion in total shareholder returns. That represents 3.30% of its present $2.90 trillion market capitalization.
So, just to be conservative, let's lower the valuation metric to a 3.33% FCF yield.
That lowers the price target to just 10.8% higher at $210.43 per share. However, the average of these two methods results in a market cap of $3.40 trillion. That means the average stock price target is 17% higher at $222.11 per share.
Keep in mind this does not include the effects of the higher $110 billion share buyback program. That would likely boost the target price at least another 2.50% to 5% to potentially a 22% higher stock price. The bottom line is Apple looks undervalued here.
