This is the first segment in an 8-part series on Unlocking the Value in AAPL.
- The Irrational Market Theory
- The Law of Large Numbers
- Market Share
- Apple's History
- Business Model
- A Dollar A Day
*Disclosure: The author owns AAPL.
I have been giving a lot of thought lately to the stock market valuation of Apple. They are one of the most phenomenally successful companies in history yet investors collectively perceive their assets and earnings to be worth less than those of most other companies, certainly much less than those of most other successful companies.
This has been a persistent mystery for many in the Apple community. Even the boldly confident Jim Cramer sounds puzzled when he says “This has gotta be the single most controversial stock I've ever seen in my career.”
Financial markets currently value Apple at roughly 3x cash, roughly 11x earnings, and roughly 8x earnings if you remove cash from the valuation. This compares to a current S&P 500 valuation of about 19x earnings and a historical average S&P of about 15x earnings. Most companies in the S&P 500 do not have net liquid assets sufficient to impact overall valuation materially in the way Apple does.
The S&P valuation is a reasonable proxy of fair market value for a stable, mature business expected to grow modestly (in line with the economy). By these measures, a fair value for Apple as a stable, mature business with modest growth expectations is somewhere between 50-100% higher than its current valuation. This is what Carl Icahn means when he says Apple is significantly undervalued.
Clearly Apple is trading at a significant discount to the value it would be given if the market believed the stability of Apple's future business was reasonably assured. The question is why? Why does the market seem to doubt Apple's ability to sustain the business they have built?
Cracking the Mystery
I believe I have “cracked” the mystery behind Apple's current valuation as well as what will need to happen for Apple to receive a valuation more in-line with the success of their business.
In this series I begin by exploring two of the most common (but I believe inaccurate) explanations for Apple's valuation in The Irrational Market Theory and The Law of Large Numbers. This is followed by a look at how Market Share and the History of Apple may have some influence on their current valuation. I then consider how their unique Business Model is widely misunderstood in a way that makes many investors uneasy. Finally, I explore a deeper understanding of how Apple's business works in A Dollar A Day and conclude with some thoughts for the future.
Let's begin this journey by considering The Irrational Market Theory.