Apple, Inc. Stock -- Worth $120?

Post-stock split, is Apple (NASDAQ: AAPL  ) a buy?

Fundamentally, this question is, in and of itself, critically flawed. Are there more calories in a pizza once it's sliced? Of course not. Nevertheless, it's a question many investors may be asking. Getting used to seeing Apple stock trade at one-seventh of the pre-split price is going to take some getting used to. And finding the intrinsic value of the post-split share may help us find our true north for Apple stock.

Just as I concluded before the Nasdaq took the pizza wheel to Apple's abnormally large share price, I still think Apple stock is a buy.

Here's my rationale.

Valuation should begin with a screen for durability. The value of any company is ultimately equal to the present value of its future cash flows. But it's impossible to estimate future cash flows if a business doesn't possess some sort of durability.

Does Apple possess durability?

Apple's wide economic moat
Staying power: Most buy-and-hold investors would agree that it's this factor that is among the most important characteristics in qualifying a stock as a potential investment. Warren Buffett has referred to this concept as an economic moat.

"In business, I look for economic castles protected by unbreachable moats," Buffett has said. 

Economic moats are built from intangible assets like network effects, pricing power, cost advantages, and high switching costs.

Apple's moat is irrefutable. Here are some of the ways Apple has carved out a durable competitive advantage for itself.

  • Pricing power: Apple's no-compromise approach to user experience has solidified the Apple brand at the high end in consumer electronics, aiding in pricing power.
  • Higher switching costs than its competitors: Retention is unparalleled as customers get wrapped up in Apple's "sticky" ecosystem of integrated hardware, software, and services.
  • Cost advantages: Apple repeatedly wields its cash hoard and consumer demand for supplier orders in monstrous quantities to land it operational advantages that help the tech giant make significant strides in driving the cost curve down on new products.
  • Network effect: Developers, end users, and Apple all benefit from the network effect in the App Store; with every new developer and iOS user, the ecosystem of Apple apps is strengthened.

Apple has first-class staying power, and I've yet to hear a rational argument to the contrary.

The numbers
Estimating intrinsic value begins with a growth estimate. Thanks to its clear economic moat, Apple is likely to continue to grow -- albeit at fairly small rates since the company is so big.

Rendering of the under-construction Apple Campus 2. The scale of the new headquarters suggests Apple believes it has an optimistic future. But some investors wonder whether it's a matter of time before size begins to haunt the company.

Considering that Apple CEO Tim Cook has promised new products in new categories to launch in the near future, and that the iPhone 6 is likely to have a larger display (a market that is already proved to be hot), Apple should be able to maintain its second fiscal quarter's 15% year-over-year growth in EPS into fiscal 2015. 

Over the long haul, however, investors shouldn't expect these meaningful rates to be sustainable. I expect something along these lines:

Year EPS Growth Rate
1 15%
2 11.3%
3 8.4%
4 6.3%
5 4.7%
6 3.6%
7 3%
8 3%
9 3%
10 3%

To discount Apple's future earnings to present value, I used a 10% discount rate -- high enough to take into consideration both the time value of money and the risk of investing in the stock market.

Apple's growth will probably eventually retract to a rate more closely in line with the historical rate of inflation: 3%. In this scenario, I estimated that Apple's growth will arrive at this point in year seven and stay at this rate, on average, in perpetuity -- a feat easily achievable for Apple with the help of share repurchases.

These inputs are relatively conservative. For instance, consider that the consensus analyst estimate for Apple's EPS growth over the next five years is 15% per annum. 

Given these assumptions, the intrinsic value of post-split Apple stock is about $120. Of course, this wouldn't mean Apple stock is a buy anywhere below $120. Investors should also seek out a discount to fair value. Fortunately, shares are trading below $100 today. This leaves a meaningful margin of safety if my estimates turn out to be too optimistic.

There's nothing magic about $120. It's just a ballpark figure. But these conservative assumptions and the resulting price, which leave me some wiggle room, are enough to give me confidence in the stock.

I certainly won't be selling Apple stock at these levels. Trading at a price-to-earnings ratio of just 15.7, this industry-leading cash cow is still one of my favorite stocks. In fact, I'd go as far as to call Apple a buy -- even after the recent run-up.

Leaked: Apple's next smart device
Apple recently recruited a secret-development "dream team" to guarantee that its newest smart device was kept hidden from the public for as long as possible. But the secret is out, and some early viewers are even claiming that its everyday impact could trump the iPod, iPhone, and the iPad. In fact, ABI Research predicts that 485 million of these devices will be sold per year. But one small company makes this gadget possible. And its stock price has nearly unlimited room to run for early in-the-know investors. To be one of them, and to see Apple's newest smart gizmo, just click here!


Read/Post Comments (5) | 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 June 11, 2014, at 8:58 AM, gone4lunch wrote:

    iCrapple has evaded tax on over 50 billion dollars in offshore accounts and should be held criminally liable by the USA government. We as a society need to shut them down.

  • Report this Comment On June 11, 2014, at 9:22 AM, scottdx wrote:

    Prove how they are "criminally liable?" They make money in other sovereign countries, quit being jealous of success, accept it, you socialist piece of garbage.

  • Report this Comment On June 11, 2014, at 11:41 AM, imvho wrote:

    @gone4lunch

    Apple is a publicly owned company that obeys the laws of the USA and all countries where it does business. Obeying the law is the first priority of any entity or individual.

    Within the constraints of the law, the highest priority of a publicly owned company is to maximize shareholder value. Financial managers who are able legally to minimize tax costs are highly regarded and rightfully so, since they directly affect the income stream and therefore contribute directly to shareholder value.

    We live in a democracy, where laws are made by elected representatives, not by independent moralists. The tax laws as written may not satisfy everyone, but they are the law and therefore the only criteria for corporate tax policy.

    Apple's USA revenues are taxed at over 26% just like all American companies. Apple pays these taxes and does not try to avoid them. Their foreign revenues are exempt from USA taxes and they pay those foreign taxes in accordance with the countries where they do business. Any policy of "generosity" that would pay amounts in excess of what is owed to whichever governments around the world or at home would be directly opposed to the shareholder's interest.

    So Apple pays only taxes that are required, and otherwise works to maximize shareholder value.

    It's called capitalism.

  • Report this Comment On June 11, 2014, at 1:44 PM, deasystems wrote:

    @gone4lunch: Apple—like many other multinational companies—has not "evaded" taxes, it has avoided them. The former is illegal, the latter is not.

    Why are you confused?

  • Report this Comment On June 12, 2014, at 12:47 AM, ConstableOdo wrote:

    I'm hoping the tax repatriation holiday comes very soon. I'm sure Apple could use that $130 billion of spending cash on some nice growth projects and another healthy round of increased shareholder dividends. Yeah, Apple. I don't know about $120 a share for Apple but $100 definitely seems doable with a new product launch.

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