Apple Inc. Report

Apple Inc. (AAPL, U.S.)

RESEARCH SUMMARY

Report Author(s):

InvestorsFriend Inc. Analyst(s)

Author(s)’ disclosure of share ownership:

 The Author(s) holds shares

Based on financials from:

Sept. ’22 Y.E.

Last updated:

December 31, 2022

Share Price At Date of Last Update:

 $                                129.93

Currency:

$ U.S.

Generic Rating (This rating does not consider the circumstances of any individual investor and is therefore not specific advice for any individual):

Buy at U.S. $130

Qualifies as a stock that could be bought with confidence to hold for 20 years?

Yes

Has Wonderful Economics?

Yes, clearly

Has Excellent and Trustworthy Management?

Yes

Likely to grow earnings per share at an attractive rate over the next decade?

Yes

Positive near-term earnings outlook?

No

Valuation?

Moderately Attractive

SUMMARY AND RATING:  The graph of revenues per share (red line) shows strong and steady gains. Earnings per share have risen strongly over the years but with some volatility.  The Value ratios, in isolation, would appear to indicate a very strong company and a valuation that easily supports of rating of Buy. Management quality appears to be strong. The insider trading signal is moderately negative but is not an important indicator. Executive compensation is very high but not a concern given the size of the company. Analysts appear to expect little or no earnings per growth in the next year due to supply chain issues and the fact that most people do not need to upgrade their iPhone. But relatively strong growth will likely resume after that. The economics of the business are exceptionally good with high profit margins. It has strong competitive advantages in its large base of customers who generally stay with its products. Our overall rating is Buy. This is a high quality company. It’s certainly possible that the share will  decline if the current quarter is weak therefore it might be prudent to take a half position now and be prepared to a dd to that if the price declines with the next earnings report at the end of January.

MACRO ENVIRONMENT: Global Supply Chain issues are a concern. A probably global slowdown / recession is a headwind.

LONG TERM VALUE CREATION: Apple has clearly created tremendous value for share holders over the longer term.

DESCRIPTION OF BUSINESS: Apple designs, manufactures and markets its well known devices as well as associated software and services. Current products include iPhone, iPad, Mac, Wearables ( including Apple Watch, Air Pods, Beats and iPod touch) And Home accessories (including Apple TV, and Home Pod). Additional services include App Store, iCloud, Apple Pay and music and video streaming.  Software and services are also sold through its online stores. The company sells directly as well as through (primarily) cell phone network provider partners. As of September, 2022 the company had about 164,000 full-time equivalent employees (up 27,000 versus 2019). In fiscal 2022 its revenue  by product was 52% from iPhones (down from 55% in 2019 and 63% in 2018), 20% from Services – up from 18% in 2018 and 14% in 2018 (which includes iTunes, AppleCare, Apple Pay, licencing and other services), 10% from Mac, 7% from iPad, and 10% from other products (includes Air Pods, Apple TV, Apple watch, Beats and others). Geographically, the revenue sources were: U.S. A. 37%, Europe 25%, China including Taiwan and Hong Kong 19%, the rest of the world (primarily Japan and non-China Asia) 20%.

ECONOMICS OF THE BUSINESS: The economics of the business are exceptionally good with a 28% return on assets despite its huge holdings of cash and marketable securities. Its ROE, boosted by debt leverage, is over 100%.  Its bottom line profit margin was 25% in 2022 up from 21% in 2019.

RISKS: The annual report lists numerous risks. One o f the most relevant risks would be cheaper competitor products and also the fact that the iPhone replacement cycle could lengthen as the product has matured and there is less need to upgrade frequently.

INSIDER TRADING / INSIDER HOLDING: In the past six months, there have been seven sales some of which were very hefty including by the CFO. Sale prices were from about $175 to $138. The most recent sale was November 22 and there is no indication of accelerated sales as the price declined recently. Insider selling is not unusual given that much of the compensation is in the form of stock options (or stock rights). Still, the signal is moderately negative.

WARREN BUFFETT’s CRITERIA: Buffett indicates that all investments must pass four key tests: the business is  simple to understand and predict (pass, given the consumer nature of its products and that its product line is now relatively mature), has favorable long-term economics due to cost advantages or superior brand power (pass due to brand loyalty and high margins), apparently able and trustworthy management (pass), a sensible price – below its intrinsic value (pass), Other criteria that have been attributed to Buffett include: a low  debt ratio (pass in terms of debt to cashflows and earnings), good recent profit history (pass) little chance of permanent loss of the investors capital (pass) a low level of maintenance type capital spending required to maintain existing operations excluding growth (pass)

MOST RECENT EARNINGS AND SALES TREND: Revenue per share growth in the past four quarters beginning with the most recent (Q4 ended September 24, 2022) was 12%, 5%, 12% and 15%. For 2022 as a whole revenue per share growth was 11%. Earnings per share growth in these same past four quarters was 4%, negative 8%, 9% and 25%. For fiscal 2022 as a whole, earnings per share growth was 9%.

COMPARABLE STORE SALES  OR INDUSTRY SPECIFIC STATISTICS: In the fiscal year ended September 24, 2022, iPhone sales revenues were up7.0%, iPad revenues were down 8.1%, Mac revenues were up 14.2%. Wearable and home accessory revenues were up 7.5% and Services revenues were up 14.2%. In the latest quarter, Q4 fiscal 2022, iPhone revenues were up 9.7%, iPad revenues were down 13.1%, Mac revenues were up 25%, wearables and home accessory revenues were up 9.8% and Services Revenues were up 5.0%.

Earnings Growth Scenario and Justifiable P/E: The trailing P/E of 21 appears to be pricing in growth in the range of 8% assuming the P/E would remain around 20.

VALUE RATIOS: Analysed at a price of $129.93. The price to book ratio is of basically no relevance for this company but is nominally unattractive at 23. The dividend yield is modest at 0.7% and is based on a very low payout ratio of 15% of trailing year earnings. The P/E ratio is reasonable for this high quality company at 21. The ROE is over 100% but that’s partly because it has driven its book value down with share buy backs. In this case it is more relevant to look at the return on assets which is very high at 28%. Suffice to say that this is a highly profitable company. Revenues per share have grown at a strong average annual rate of 17% over the past five years and earnings per share growth has averaged 21%. We calculate an intrinsic value of $92 if earnings grow more slowly at 6% and the P/E drops down to 15 and $159 if earnings per share grow at 12% and the P/E declines only slightly to 20. Overall, the value ratios, in isolation indicate an extremely strong company which although not cheap can easily justify a rating of Buy.

TAXATION: Nothing unusual for a U.S. stock.

SUPPORTING RESEARCH AND ANALYSIS

Symbol and Exchange:

Apple

Currency:

$ U.S.

Contact:

(408) 974-3123

Web-site:

www.apple.com

INCOME AND PRICE / EARNINGS RATIO ANALYSIS

Latest four quarters annual sales $ millions:

$394,328.0

Latest four quarters annual earnings $ millions:

$99,803.0

P/E ratio based on latest four quarters earnings:

21.3

Latest four quarters annual earnings, adjusted, $ millions:

$99,803.0

BASIS OR SOURCE OF ADJUSTED EARNINGS: No adjustments were made. There were likely some unusual gains and losses but Apple does not discuss any in the annual report.

Quality of Earnings Measurement and Persistence: Earnings per share growth has been persistent and earned in cash.

P/E ratio based on latest four quarters earnings, adjusted

21.3

Latest fiscal year annual earnings:

$99,803.0

P/E ratio based on latest fiscal year earnings:

21.3

Fiscal earnings adjusted:

$99,803.0

P/E ratio for fiscal earnings adjusted:

21.3

Latest four quarters profit as percent of sales

25.3%

Dividend Yield:

0.7%

Price / Sales Ratio

5.38

BALANCE SHEET ITEMS

Price to (diluted) book value ratio:

41.33

Balance Sheet: The stock is clearly valued for earnings and not assets. Nevertheless, the balance sheet also illustrates the strength of the company. As of fiscal 2022 year end, September 24, 2022 the book value of assets were comprised as follows: 41% are marketable securities, 7% is  cash, 17% accounts receivables and vendor non-trade receivables, 12% property plant and equipment, 21% other assets which includes derivatives and just 1% is inventories. What is notable here is the huge 48% in cash and marketable securities. Also there appears to little in the way of capitalized product development costs which could indicate conservative accounting -primarily the expensing of R&D (which may under-state earnings). Apple’s true value is largely unrepresented in this balance sheet. There is very little inventory which may reflect that out-sourced vendors carry the inventory. On the other side of the balance sheet, these assets are supported as follows: 14% common equity, 34% debt (which is lower than the marketable securities)  , 18% accounts payable, 31% other liabilities (some of which is long-term taxes payable – including the deemed repatriation tax that is payable over time). 2% deferred revenue. This is a very strong balance sheet.

Quality of Net Assets (Book Equity Value): This is not really relevant for a company selling at a recent 23 times book value. Most of the value of the company is not reflected in the balance sheet assets.

Number of Diluted common shares in millions:

                                16,118.5

Controlling Shareholder: We were unable to find information on this in the proxy circular. We believe that there is no controlling shareholder as such.

Market Equity Capitalization (Value) $ millions:

$2,094,272.2

Percentage of assets supported by common equity: (remainder is debt or other liabilities)

14.4%

Interest-bearing debt as a percentage of common equity

237%

Current assets / current liabilities:

0.9

Liquidity and capital structure: Apple has more cash and marketable securities and therefore liquidity than needed. Despite having paid out all of its retained earnings and taken on debt, its liquidity and capital structure remain very strong.

RETURN ON EQUITY AND ON MARKET VALUE

Latest four quarters adjusted (if applicable) net income return on average equity:

175.5%

Latest fiscal year adjusted (if applicable) net income return on average equity:

175.5%

Adjusted (if applicable) latest four quarters return on market capitalization:

4.8%

GROWTH RATIOS, OUTLOOK and CALCULATED INTRINSIC VALUE PER SHARE

5 years compounded growth in sales/share

17.2%

Volatility of sales growth per share:

 $                                      –  

5 Years compounded growth in earnings/share

21.6%

5 years compounded growth in adjusted earnings per share

21.6%

Volatility of earnings growth:

 $                                      –  

Projected current year earnings $millions:

not available

Management projected price to earnings ratio:

not available

Over the last ten years, has this been a truly excellent company exhibiting strong and steady growth in revenues per share and in (adjusted)  earnings per share?

Yes

Expected growth in EPS based on adjusted fiscal Return on equity times percent of earnings retained:

149.4%

More conservative estimate of compounded growth in earnings per share over the forecast period:

6.0%

More optimistic estimate of compounded growth in earnings per share over the forecast period:

12.0%

OUTLOOK AND AMBITIONS FOR BUSINESS: Analysts appear to be forecasting essentially no growth in earnings per share in the next year. This could be due to supply chain issues and due to a longer replacement cycle for iPhone. Note that the sales of new iPhone represent 52% of revenues and any slowdown in iPhone sales has a major impact. Higher interest rates will provide higher returns (a several billion dollars) on marketable securities but this is not very material in comparison to total annual earnings of about $100 billion dollars.

LONG TERM PREDICTABILITY: It seems very likely that Apple will continue to grow. It is possible that the installed base of iPhones will continue to grow slowly but that unit sales will be lower due to a longer replacement cycle. Services and products other than iPhone are becoming a bigger percentage of its sales. It’s difficult to predict if it can grow at double digits over the  next five years.

Estimated present value per share: We calculate  $92 if adjusted earnings per share grow for 5 years at the more conservative rate of 6% and the shares can then be sold at a reduced P/E of 15 and $159 if adjusted earnings per share grow at the more optimistic rate of 12% for 5 years and the shares can then be sold at an unchanged P/E of 20. Higher values can be calculated using higher growth or a higher terminal P/E assumption. Both estimates use a 7.0% required rate of return.

ADDITIONAL COMMENTS

INDUSTRY ATTRACTIVENESS: (These comments reflect the industry and the company’s particular incumbent position within that industry segment.) Michael Porter of Harvard argues that an attractive industry is one where firms are somewhat protected from competition based on the following four tests. Barriers to entry (pass). No issues with powerful suppliers (pass). No issues with dependence on powerful customers (pass), No potential for substitute products (pass No tendency to compete ruinously on price (pass). Overall this industry appears to be very attractive for Apple as an established incumbent.

COMPETITIVE ADVANTAGE: Apple’s competitive advantage at this lies in it dominant brand position and huge installed base of customers that are loyal to the brand because they like the products and/or because it is very inconvenient to switch brands.

COMPETITIVE POSITION: Apple has a dominant position in the smart phone market North America

RECENT EVENTS: Apple has had supply chain issues and has been heavily criticized for the employment practices of its main manufacturing partner in China.

ACCOUNTING AND DISCLOSURE ISSUES: We have not identified any concerns.

COMMON SHARE STRUCTURE USED: Normal, 1 vote per share

MANAGEMENT QUALITY: Management quality appears to be very good.

Capital Allocation Skills: The core business has not required massive amounts of capital.  With no goodwill on the balance sheet it appears they have avoided making large acquisitions at high prices which may prove prudent. The wisdom of the most recent share buy backs at relatively  high prices remains to be seen. The wisdom of having paid out all of the retained earnings and taken on a large amount of debt (albeit) at a very low interest rate also remains to be seen.

EXECUTIVE COMPENSATION:  Executive compensation can be described as quite high with four of the five named officers compensated at $27 million and CEO Tim Cook at $99 million all largely in the form of stock options. In fairness Tim Cook got no stock compensation in 2019 and 2020 and then a huge amount in 2021.   But even this high compensation is not a concern given annual earnings of $100 billion or $100,000 million dollars.

BOARD OF DIRECTORS: Warren Buffett has suggested that ideal Board members be owner-oriented, business-savvy, interested and financially independent. The small, eight member Board here is composed mostly of current or former CEOs of very large companies. Overall, it is probably a good Board, one that would not be beholden to the CEO.

Basis and Limitations of Analysis: The following applies to all the companies rated. Conclusions are based largely on achieved earnings, balance sheet strength, achieved earnings per share growth trend and industry attractiveness. We undertake a relatively detailed  analysis of the published financial statements including growth per share trends and our general view of the industry attractiveness and the company’s growth prospects. Despite this diligence our analysis is subject to limitations including the following examples. We have not met with management or discussed the long term earnings growth prospects with management. We have not reviewed all press releases. We typically have no special expertise or knowledge of the industry.

DISCLAIMER: All stock ratings presented are “generic” in nature and do not take into account the unique circumstances and risk tolerance and risk capacity of any individual. The information presented is not a recommendation for any individual to buy or sell any security. The authors are not registered investment advisors and the information presented is not to be considered investment advice to any individual. The reader should consult a registered investment advisor or registered dealer prior to making any investment decision. For ease of writing style the newsletter and articles are often written in the first person. But, legally speaking, all information and opinions are provided by InvestorsFriend Inc. and not by the authors as individuals. The author(s) of this report may have a position, as disclosed in each report. The authors’ positions may subsequently change without notice.

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