When it comes to Apple stock (AAPL) - Get Free Report, even I am sometimes to blame for focusing a bit too much on the “here and now”. What do iPhone sales in the holiday quarter look like? Is Apple pulling back production in China? Can the stock build upon recent momentum?
So now, I take one step back. More fundamentally, what are some of the main reasons why investors might want to own AAPL shares? There are probably many of them, but I will start with my own top 3 list today.
AAPL Reason #1: Massive ROIC
ROIC, or return on invested capital, is a metric that many analysts and investors like to track. It contrasts a company’s earnings (numerator) against the cash raised from debt and equity investors (denominator). Think of the formula:
ROIC = NOPAT ÷ Invested Capital, in which:
- NOPAT is the net operating profit after tax, a similar concept to net income
- Invested capital is largely equity plus debt investments minus cash
The higher the ROIC, the better. It means that the company is able to “deliver more with less”: lots of profits with relatively small quantities of capital invested into the firm.
Companies in a good competitive position whose wide moat protects the business model well tend to have high ROIC. On the other hand, cut-throat competition that chips away at a company’s profits and margins tends to lead to low ROIC.
Apple’s ROIC hovered around 35% in 2010, within three years following the launch of the iPhone and the iPad. That’s really not a bad number at all, considering Apple’s weighted cost of capital that is probably short of 10%.
But since then, Apple’s ROIC has skyrocketed (see below). Today, the number is a staggering 56%. Relative to the investment that debtholders and equity holders have placed into the company, Apple is a massive profit-producing machine.
There are two main reasons why Apple has been able to increase its ROIC, especially in the past five years. First, profits (the numerator) have increased as (1) the 5G-capable iPhone models became a hit among consumers, (2) Apple was able to maintain pricing power, and (3) margins improved with the growth of the services segment.
Second, investments in the company (the denominator) have decreased sharply, mostly due to Apple’s aggressive strategy of buying back shares since 2012 (more on this below).
AAPL Reason #2: Highly Efficient
Although services represent a sizable 20% of total sales, Apple is still primarily a consumer products vendor. Companies like it live and die by how tightly it manages working capital – that is, receivables and inventory on the asset side, payables on the liability side.
The less cash a company ties up in receivables and inventory, and the longer it takes a company to pay its own vendors, the better. Introducing the concept of cash conversion cycle: the time it takes a company to convert cash into inventory, and then back into cash via sales.
On working capital management, Apple stands out. According to Finbox, Apple’s cash conversion cycle is -62 days – yes, a negative number. It effectively means that Apple does not tie up cash in operations at all: instead, operations are financed by Apple’s vendors.
The Cupertino giant is one of the few tech companies in the world that can pull this off.
AAPL Reason #3: Shareholder Friendly
One of the reasons why Apple has been able to increase its ROIC drastically (see #1 reason above) is due to share buybacks. Cash return to shareholders alone, in fact, is a great incentive to own Apple stock.
The chart below shows how Apple has been aggressive at buying its own shares since 2012 – shortly after CEO Tim Cook took over from legendary founder Steve Jobs. From 26 billion shares outstanding in 2013, the count has been cut by nearly half now.
The benefits have been twofold. First, fewer shares outstanding mean that net income is distributed across fewer shareholder units. As a result, earnings per share, a metric closely tracked by investors and analysts, have increased.
Second, Apple’s stock buyback program allows the company to be an ever-present bullish force in the market. Even when other investors turn sour on Apple stock, at least the Cupertino company can be there to create demand for its own shares.
I have just identified 3 big reasons to love Apple stock: (1) massive ROIC, (2), tight working capital management, and (3) lavish cash returns to shareholders. Which of these do you appreciate most about AAPL?
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(Disclaimers: this is not investment advice. 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)