I Was Wrong About Apple

About a month ago, hell froze over. 

I put a bullish CAPScall on Apple (Nasdaq: AAPL  ) . And thus far it's been very "profitable" position, beating the market by 16% in one month!

Lots of Fools -- 25,289, to be exact -- have put made a bullish CAPS pick on Apple. But what makes my CAPScall special is that my first article for the Fool was a bearish take on Apple and a bullish piece on Microsoft (Nasdaq: MSFT  ) . 

While I still stand by my bullishness on Microsoft (valuation, valuation, valuation), I now concede that I was wrong about Apple. 

So to Eric BleekerTim Beyers, and Rick Aristotle Munarriz: I concede that you were right and I was wrong about Apple. I'm throwing in the towel. Well played, good sirs. Very well played indeed. 

Enjoy it while it lasts, because it's a comparatively rare occurrence, since (shameless bragging alert) my accuracy in Motley Fool CAPS exceeds more than 90% of all other participants.

So why the change of heart? In a word, valuation. Apple is now absurdly cheap. When I wrote my original article, Apple made $16 billion in free cash flow. The very next year, in 2011, Apple about doubled to more than $30 billion.

And that makes a difference. When you take into account the company's $100 billion cash hoard, the stock is trading at 13.5 times free cash flow. And that figure doesn't even take into account Apple's last quarter, in which it generated more than $16 billion in free cash flow, or roughly its entire total from fiscal 2010! That low valuation more than takes into the account the risks I spoke of in the original article

Furthermore, I took to heart my Foolish colleagues' argument that the company really doesn't depend that much on innovation. The company's major advantage is that its products, well, actually work the way they're intended. 

And that's the truth of it. Apple doesn't make money selling products with the most GHz or the most megabytes. It does it by making products that do whatever the heck they're supposed to do. It then backs that up with class-leading sales and service representatives in its Apple Stores. (I've always considered the Apple Stores the company's secret weapon. Even in the digital age, bricks and mortar still matter when your computer dies at 3 a.m.)

In short, Apple has become the world's most valuable company the old fashioned way -- by actually deserving it! To paraphrase The Simpsons' Kent Brockman: I, for one, welcome our Cupertino overlords. 

A confederacy of dunces: Apple's competition 
The other thing I underestimated when I wrote my article was just how incompetent Apple's competitors really are. These guys couldn't find their way out of a phone booth, much less dial long distance on their own smartphones. 

You'd think Research In Motion (Nasdaq: RIMM  ) (still a deep-value CAPScall for me) and other flailing competitors like Nokia would realize that people simply want something that (a) works, (b) looks pretty, and (c) is backed with great customer service. 

But no. They continue to think that people actually care what arbitrary doohickeys and features their phones have compared to Apple. But people don't care. They want something that was designed for people and not for engineers. They want something that was built with pride and not a cynical exercise in short-term profit maximization or job promotion. They want something that doesn't feel like plastic. 

Why is this so hard for them to understand?

If these guys had done their job right, I wouldn't be here apologizing to Eric, Tim, and Rick. And Apple wouldn't be making freakin' $30 billion a year.

Bottom line: The purpose of capitalism is give people the products they want at the lowest cost. And Apple does this. Its competition doesn't.

Amazon rising 
But at last there does appear to be one competitor that gets it: Amazon.com (Nasdaq: AMZN  ) and CEO Jeff Bezos. The Kindle has been a smash hit, it looks relatively pretty, and it actually works. 

Going forward, Amazon will probably be Apple's greatest threat. Like Apple, it's building a real platform around its tablet, the Kindle Fire, which could be a threat for Apple down the road. 

Netflix (Nasdaq: NFLX  ) is another possible threat, especially in the battlefield for how to shape the future of television. Reed Hastings seems to be the rare CEO who doesn't let a focus group undermine his focus. Fortunately for Apple, however, a partnership looks to have strengthened with a deal between the two on the new Apple TV box. So for right now they're friends -- or at least frenemies. 

Besides, Apple has enough cash on its balance sheet to buy them both. 

Problem solved. 

I'd actually have trouble seeing an antitrust case against Apple here, though its recent spat with the Justice Department over e-books is an ominous sign. There are plenty of competitors in the content and tablet space other than Amazon. It's just that Amazon is the only other competent competitor. But that shouldn't be held against Apple. (Remember Oracle vs. PeopleSoft?)

Amazon is trading at a rich valuation, but a lot of its costs could probably be eliminated in an acquisition, and the combined entity could raise prices. (If you work for the FTC, ignore that last sentence).

Netflix would be harder to justify to the regulators, though there's always Hulu. But can you imagine a trio of Tim Cook, Reed Hastings, and Jeff Bezos? That would be unstoppable. So get going already! A trillion dollars is but a trifle away. 

Finally, if you're looking to stay updated on Apple, make sure to add the company to our free My Watchlist service. It'll deliver all the latest Apple news and analysis in one central place.

  • Add Apple to My Watchlist.

Fool contributor Chris Baines is a value investor. Follow him on Twitter, where he goes by @askchrisbainesChris' stock picks and pans have outperformed 93% of players on CAPS. He owns no shares of the companies mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (11) | Recommend This Article (16)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 10, 2012, at 4:17 PM, HiramWalker wrote:

    When I saw the headline, I was expecting Anders Bylund.

  • Report this Comment On March 10, 2012, at 5:16 PM, 5forfighting wrote:

    Chris,

    I too have enjoyed humble pie on occasion wash it down with some "SAM" and it goes a lot easier.

    I love the idea of Apple and Netflix on the same team.

    AB

  • Report this Comment On March 10, 2012, at 5:45 PM, funspirit wrote:

    how do you put Netflix on Apple's competitors list?? I mean, my God, did you forget about Google somehow?

    Well, Doug kass recently successfully shorted Apple. Here's an article about why his logic was fallible, ties into your humble pie.

    http://www.richmakesyourich.com/2012/03/why-doug-kass-is-wro...

    How did you forget Google? Christ!

  • Report this Comment On March 10, 2012, at 5:54 PM, henrystar wrote:

    Amazon Kindle Fire or whatever it is? You've got to be kidding! You'll be writing another crow-eating column six months from now.

  • Report this Comment On March 10, 2012, at 6:35 PM, mesmd wrote:

    Chris, maybe you should do some serious thinking before publishing your stock market conclusions?

    I almost sold my 2000 shares of Aapl after reading your recommendations and analysis of this quite unusual stock and it's brilliant founder.

  • Report this Comment On March 10, 2012, at 10:12 PM, NateMark wrote:

    I could have told you that you were wrong, all you would have to do was to look at my AAPL calls this year.

  • Report this Comment On March 10, 2012, at 10:31 PM, cbaines2 wrote:

    mesmd - Thanks for considering my arguments. This is a funny business we're in where being right 60% of the time puts you in the top echelon. So, given that I may be wrong 40%+ of the time, I try to minimize the consequences of being wrong (including realizing my mistakes ASAP). In this case if a reader had swapped their AAPL shares for MSFT (which I recommended) they still would have beaten the market since publication. Both stocks have flourished recently and I'd expect that to continue.

    And let Buffett tell you about Dexter Shoes or U.S. Airways, lol.

    funspirit - I left Google out because I used some strong language to describe Apple's competitors and that I didn't think Google deserved. (NOTE: Google is a CAPScall of mine.) Google has been working on the software side with Android and the software is not so much the problem. It's been the hardware. Now it'll be interesting to see what GOOG does with Motorola and whether they'll deserve my wrath.

    Chris Baines

  • Report this Comment On March 10, 2012, at 11:07 PM, funspirit wrote:

    cool Chris,

    But I just don;t see Netflix as a competitor either. Thanks for addressing though.

  • Report this Comment On March 11, 2012, at 2:10 PM, jbelkin wrote:

    This explains what's going on with apples competitors:

    http://cpgbuzz.tumblr.com/post/19055938363/why-samsung-and-o...

  • Report this Comment On March 12, 2012, at 2:18 PM, lucasmonger wrote:

    Poor Anders, he even gets criticism for articles he doesn't write.... but I thought the same thing as HiramWalker.

    I do worry that every move that Apple makes now will be viewed with an antitrust eye as their supply chain has such huge ramifications on the rest of the industry. The recent news about Apple buying up all the shipping space from China for iPad shipments is really going to cause regulators to wonder whether Apple has just gotten too big for its own good. Even though Steve Jobs wanted to demolish Android being a stolen product, Apple needs a healthy competitor so it isn't the monopoly that Microsoft became, lost its Justice Department case, and somehow didn't get broken up.

  • Report this Comment On March 25, 2012, at 2:49 AM, jbelkin wrote:

    Lucasmonger - you are 100% confused about "monopolies" and your facts. First, while Ms lost most of its cases or settled, they were not broken up literally. Their problems are their own doings.

    Next, it's is NOT illegal to buy up a lot of manufacturered goods. There is NOTHING illegal if you are willing to pre-pay and buy up as many components as you can UNLESS you do it solely to increase prices - but in today's worldwide economy, it is very hard to buy up 100% of anything because soemone will just open up a plant and start manufacturing it.

    Just as it is NOT illegal to buy up cargo space to ship product unless you leverage your buying power IMPROPERLY ... for instance, if Apple bought up a bunch of cargo space at a high price and said you cannot ship Samsung, Acer, etc, etc tablets on your plane - THAT IS ILLEGAL, a restraint of trade and utilizing your monopoly power. But that is NOT the case. Apple simply paid the price the air cargo carriers were willing to sell at. If you happened to need the space that week, sure, that would cost your more but maybe you should have loxcked up the space? It's exactly the same if a restaurant is booked entirely for a wedding party on the day of your anniversary. Whose fault is it you cannot get a table that day?

    it's is NOT illegal to have a monopoly on tablets (Apple's REAL MARKET share is @95%) because it sells real well. Apple prevents NO ONE from entering the market, hell, Walgreens sells one for $99 - and Apple is in the legal clear to prebook 75 million screens because they need it - if you're a plant, if acer complains, you would ask acer, if you need 75 million thsi year, I will build another plant.

    Success and being the market leader with a HIGH SHARE is NOT illegal. There are natural barriers - you can start to sell jet engines but good luck to you but it's still NOT a monopoly in the legal sense. MS got in trouble because they applied that large market share to punish others (like telling COmpaq they could not load Nescape or they would lose the MS OEm license). There is a HUGE difference ... it is the difference between legal and illegal .

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