I don't think many people question that Warren Buffett is one of the greatest investors ever. He continues to prove this, as one of his biggest investments clearly demonstrates.
Berkshire Hathaway, the conglomerate Buffett heads up, first purchased shares in Apple (AAPL +2.65%) in the first quarter of 2016. And since the start of that year to Feb. 14 of this year, the top FAANG stock has skyrocketed 599%. This gain crushes the Nasdaq Composite.
Let's try to figure out what exactly about Apple, which today represents just under 46% of Berkshire's entire portfolio, first drew Buffett's attention. Then investors can decide if the stock is still a smart buy today.
Traits of a winning investment
If you look through Berkshire's numerous holdings, you'll easily find businesses that have strong brands. But there might be no other company that has greater brand recognition than Apple. I'm sure this was the case eight years ago, too.
Apple sells some of the most in-demand hardware and software on the face of the planet. The beautiful designs and ease-of-use resonate with consumers. Buffett recognized this several years ago.
He probably also appreciated Apple's proven pricing power. The Oracle of Omaha has even said that the top indicator of a quality business is its ability to raise its prices. Apple's hardware devices are certainly at the premium end of the spectrum, but even with consistent price increases, consumer demand remains robust.
Investors would struggle to find companies that are in better financial shape than Apple. In fiscal 2015, the year right before Buffett first bought the stock, it reported an operating margin of 30% and generated $70 billion of free cash flow (FCF). Fast forward to fiscal 2023, and the operating margin has remained steady. Even better, the company produced $100 billion of FCF, and it currently sits on $65 billion of net cash.
It wasn't as if Buffett was making a speculative bet on an unknown technology company. There were clear signs that Apple was a superior enterprise back then. Its market capitalization at the start of 2016 was around $580 billion. So, the business definitely wasn't flying under the radar, either.
That's why it's a shocker that during the first quarter of 2016, Apple's price-to-earnings (P/E) ratio averaged a ridiculously low 10.6. The market was presenting Buffett with a rare buying opportunity, one that he took full advantage of and that resulted in huge gains.
NASDAQ: AAPL
Key Data Points
Should you buy Apple?
Apple has undoubtedly worked out as a fantastic investment, but is now a good time to buy the stock if you've been sitting on the sidelines? The characteristics I discussed above -- namely the strong brand, pricing power, and incredible profitability -- all hold true today. And I'm extremely confident that these factors will still be present a decade from now.
But there is one key difference between now and the time when Buffett first bought the stock. That's the valuation. Apple shares currently trade at a P/E multiple of 28.7. This is 37% higher than the stock's trailing-10-year average ratio, and it's in the stratosphere when compared to the valuation Buffett paid.
I think investors need to be critical of the expensive valuation. It's safe to say that Apple doesn't have the same growth potential that it did when it was a much smaller company. In fact, revenue declined last fiscal year as many of its popular products reach a more mature stage of their lifecycles.
I would be surprised if over the next five years, Apple shares outperformed the broader market. The steep P/E ratio creates a major headwind to produce strong returns going forward. So, it's best to wait for a better entry point.
