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Why Carl Icahn Will Eventually Get What he Wants from Apple

By Bob Ciura – Feb 11, 2014 at 12:00PM

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It may seem like activist investor Carl Icahn lost in his battle to get Apple to increase its share buybacks, but it seems unlikely he'd give up without a fight.

It's another day, and another media frenzy surrounds Carl Icahn, chairman of Icahn Enterprises. This time, Icahn took to social media to declare that he had dropped his bid for Apple (AAPL -2.12%) to substantially increase its share buybacks. Icahn had long pushed for Apple to buy back as much as $50 billion of its own shares, putting to use some of the more than $150 billion in cash and investments Apple has on its books.

While Icahn backing off may seem like a victory for Apple, it doesn't seem likely that he would simply give up. After all, he's got a tremendous track record of latching onto companies and standing his ground until he gets what he wants.

In a sense, Icahn didn't really lose
The Wall Street Journal recently discovered that Apple had accelerated its buyback program after releasing its most recent quarterly results. Apple's report, which showed record quarterly sales numbers for iPhones and iPads, was poorly received by the market. Shares of Apple fell hard after the quarterly report was released, which prompted Apple management to repurchase $14 billion of its shares in the two weeks.

Apple's accelerated buyback means Icahn is already on the way to getting his wish. Plus, the prospect of new products from Apple this year means fresh revenue streams and an even greater opportunity for Apple to increase its buybacks later this year, if it chooses to do so.

The Apple of Icahn's eye
All along, Icahn's true motive was to produce a higher earnings multiple for Apple. For many investors like Icahn, share buybacks are the best way to accomplish that. By buying back its own shares and reducing the number of shares outstanding, Apple could produce earnings-per-share growth with its own cash. That would, hopefully, result in multiple expansion as well.

Icahn vented his frustration with Apple's low valuation, especially when compared to its peers. Icahn noted that fellow technology giant Google (GOOGL -0.90%) trades for 19 times its 2014 earnings estimate. If Apple were to enjoy a similar valuation, its shares would change hands for more than $1,200 per share.

Whether Apple deserves the same multiple as Google in light of their respective growth rates is another question. Google grew diluted earnings per share by 18% in 2013, compared to Apple's 10% earnings decline in fiscal 2013. Apple did return to earnings growth in its fiscal 2014 first quarter, which includes the holiday shopping season. Apple reported 5% earnings growth in its most recent quarter.

Apple is also notably cheap in comparison to the broader market. Apple trades at just 11 times its 2014 earnings estimate, while the S&P 500 Index trades at a forward multiple in the mid-teens. At least in Icahn's view, Apple is severely undervalued, and considering how much cash Apple generates and the strength of its balance sheet, it's hard to disagree.

The Foolish bottom line
While some may view Carl Icahn's decision to drop his bid for Apple to buy back more of its own shares as a failure, Icahn usually doesn't give up that easily. He has a long track record of staying the course with companies he feels are undervalued, and relenting only once he's gotten what he wants. That may be at play here, since Apple accelerated its buyback after releasing first-quarter results.

It may be that Icahn feels he'll eventually get what he wants out of Apple. In addition to Apple's buybacks, it's got a promising product pipeline that may bring the iWatch, a new iPhone, or an Apple television to market in 2014. Those would each conceivably bring in billions more into Apple's coffers, which would then allow for more of the share buybacks that Icahn craves.

Bob Ciura owns shares of Apple. The Motley Fool recommends Apple and Google. The Motley Fool owns shares of Apple and Google. 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.

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