Apple May Be A Great Stock, Even At These Prices
Something interesting seems to be happening with Apple’s stock. The more expensive it gets, the more experts seem to believe that investors should buy it.
Over the past two weeks or so, I have counted ten upgrades or price target increases on Apple shares by major sell-side shops – from bulge bracket names like Bank of America and Morgan Stanley to Wedbush and Cowen. Yet, Apple continues to make new all-time highs. A stock that traded at a modest P/E ratio of less than 10x in the first half of 2013 now sells for a whopping 29x earnings multiple (see chart below, provided by Stock Rover).
It begs the question: might Apple be overvalued at current levels? Doesn’t it make sense to wait for the stock to correct before hitting the “buy” button, especially after shares have already climbed 23% so far in 2020 and nearly 90% last year?
The Apple story, 2010 to 2020
To talk about fair value, it helps to understand the Cupertino company’s journey over the past decade. Check out the graph below.
After that, Apple hit a soft patch. The iPhone was losing the battle to Samsung for the hearts and minds of tech consumers. Apple seemed to have a growth problem, and the stock price fell by nearly half in only six months. It wasn’t until the successful launch of the iPhone 6 and 6 Plus, in 2014, that valuations began to recover again.
After yet another short wave of investor indifference, Apple famously committed to doubling service revenues between 2016 and 2020. This was the most transformative moment in the company’s history since the invention of smartphones. P/E climbed from 10x in mid-2016 to nearly 30x today.
In my view, the business model transition from device making to software- and service-rich communications solutions is what best justifies the stock’s rise in the past few years. At the same time, a much faster-growing wearables segment started to gain more attention.
See chart below, depicting the revenue mix shift from iPhones to services and wearables since 2016.
Comparing Apple’s valuation to FAAMG
The other way to look a valuation is relative to peers. From that perspective, Apple generally looks less richly valued than other FAAMG names.
Below are two common relative valuation metrics based on P&L factors. In adjusted P/E terms, Apple is only more expensive than Alphabet today – and not by much. To be fair, Facebook’s and Microsoft’s estimated earnings growth potential is greater, which may help to explain Apple’s lower P/E. Still, on a PEG basis (P/E divided by projected EPS growth), Apple’s 2.8x multiple is far from being outrageous.
Turning away from the P&L, look at cash flow- and balance sheet-based valuation metrics in the charts below. Because Apple is so efficient at turning profits into cash (think of the company’s obsession over working capital management), it is also the least expensive FAAMG stock in EV-to-free cash flow terms.
When it comes to price-to-book, the story is different. Apple is only cheaper than Amazon in this category. However, this metric can be a little distorted, since the Cupertino company has been aggressive at buying back shares – therefore reducing drastically the denominator in the P/B equation. In a way, I see Apple’s high price-to-book ratio as a positive indication of a cash management policy that has been generous to shareholders.
Conclusion: Apple is probably not overvalued
At the end of the day, I understand why the stock’s valuations look rich to most investors. But notice that the Apple of today is not the same company of 5 or 7 years ago. Multi-year growth opportunities exist once again (e.g. wearables, 5G), while future financial performance should be more stable and predictable due to the evolution of Apple’s business model. Also, compared to other FAAMG names, Apple stock is barely overpriced, if at all.
Therefore, I believe Apple is a good stock to own at current levels. To be clear, I would not bet on the price doubling once again in the next year and a half. But I still think that shares will produce market-beating returns in the longer run.
Explore more data and graphs
The data and charts used in this article were provided by Stock Rover. I have been impressed with the breadth and depth of information on markets, stocks and ETFs that this platform provides. Stock Rover also helps to track custom portfolios and measure their performance relative to a number of index or custom benchmarks.
To learn more, check out stockrover.com and get started for as low as $7.99 a month.
(Disclaimers: the author may be long one or more stocks mentioned in this report. Also, the article may contain affiliate links. These partnerships do not influence editorial content. Thanks for supporting The Apple Maven)