Do "New Categories" Make Apple, Inc. Undervalued?

Apple has promised "new categories" this year. But has the market priced in the opportunity yet?

Feb 11, 2014 at 9:10AM

No matter what valuation metrics you use, Apple (NASDAQ:AAPL) is significantly cheaper than most stocks in the S&P 500 today. In fact, once you consider the fact that Apple will likely continue to repurchase a meaningful number of its own shares in the coming years, it can be argued that Apple is priced for very little bottom-line growth -- 5% annualized EPS growth at best. Is this conservative outlook for Apple realistic, especially with CEO Tim Cook promising new categories?

Apple Store

Is the market pricing in new categories?
"There will be new categories [in 2014]," Cook reiterated in a recent interview with The Wall Street Journal. As hedge fund guru Carl Icahn (whose fund owns about $4 billion in Apple shares) pointed out in a tweet, Cook's reference to new product lines was plural. Icahn sees the possibility for new categories as a positive catalyst for Apple stock. "Wall Street apparently still not listening," he said in the same tweet.

But even one new category could have major implications for Apple's business. Longtime Apple analyst Katy Huberty from Morgan Stanley estimated that an iWatch, with an average selling price of $300, could add as much as $17.5 billion to the top line in its first year of sales -- that would amount to 10% of Apple's trailing-12-month total revenue. Notably, $17.5 billion in first-year product revenue would mark Apple's most successful product launch in history.

Icahn even played analyst in a recent letter to Apple shareholders and put some estimates on the impact of the rumored Apple television. The scenario he laid out was arguably even more bullish:

With 238 million TVs sold globally in 2012, it would not surprise us if Apple could sell 25 million new Apple ultra high definition televisions at $1,600 per unit, especially when considering both its track record of introducing best in class products and its market share in smartphones and tablets. At a gross margin of 37.7%, which would be consistent with that of the overall company, such a debut would add $40 billion of revenues and $15 billion to operating income annually.

Even if both of these scenarios are overly optimistic, it's easy to see that a new category could provide meaningful upside for investors. Even better, neither product category would likely result in any noticeable cannibalization of Apple's other important products. Sure, a television could cannibalize sales of the company's $99 Apple TV, but that would hardly have a noticeable impact on the business. The rumored iWatch is thought to be an accessory to the iPhone, so it could actually inspire new iPhone purchases.

Apple investors are in the fortunate position to know that new categories are set to be delivered this year, yet the market seems to expect very little from the new product lines.

Of course, as Apple expert Horace Dediu has pointed out recently, estimating the upside from these launches is difficult work:

Markets are effective in anticipating the path of a technology as it ascends into the hands of users, especially if it is destined for ubiquity. But markets are completely incapable of anticipating the emergence of new technologies.

But Dediu also acknowledges that it is important for investors to attempt to recognize that there is potential upside:

The speed with which products are introduced and scaled is phenomenal so it is more important than ever to see beyond the trajectory of existing products into the pattern of the introduction of new product categories.

Is there any downside risk to these new categories?
Given Apple's history of product launches, the chances are slim. For that reason, it's an excellent time to be an Apple shareholder. Not only is the stock cheap relative to the value its current business is delivering, but also new categories largely offer nothing but upside potential at today's conservative valuation.

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Daniel Sparks owns shares of Apple. The Motley Fool recommends and owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not 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.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

Click here to learn about this incredible technology before Buffett stops being scared and starts buying!

David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.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.

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