Investment Research of Apple Corporation - Case Study Example

Ticker: ● AAPL Recommendation: ● Buy Price: ● $391.98 Price Target: ●413.00 Earnings/ Share Q1 (Dec) Q2 (Mar) Q3 (Jun) Q4 (Sep) Year (Sep) $3.67 $3.33 $3.51 $4.64 $15.15 2011 $6.43 $6.40 $7.79 $7.05 $27.67 2012 $9.53E $7.70E $8.27E $8.95E $34.45E 2013 0.00 0.00 0.00 0.00 $38.60E News and Highlights Dr. Arthur D Levinson name Chairman of the Board: Dr. Arthur Levinson was appointed as the non-executive Chairman of the Apple Board. He had served on three board committees audit and finance, nominating and corporate governance, and compensation. Over 100 million downloads from Mac App Store: Apple announced that more than 100 million apps have been downloaded from Mac App Store in the last one year. E-book pricing under probe: Regulators in Europe are analyzing Apple along with five publishers to address antitrust concerns involving agency pricing of electronic books. The agency will analyze if Apple and the publishing houses have engaged in any illegal agreement or practices in the field of sales of e-books. Samsung gets some space: A federal judge in California rejected a request from Apple Inc. to block Samsung from importing 4 Samsung producs: Infuse 4G, Galaxy S 4G, Droid Change and Galaxy Tab 10.1. Apple had claims that these products violates its patents. The judge rules that the products are not a significant threat to Apple. A trial is scheduled in July to settle the patent liability issue Tim Cook appointed as CEO: Tim Cook took over as the new CEO from Steve Jobs on 24 August 2011. Business Description Founded in 1977, Apple Inc. (AAPL) is headquartered in Cupertino, California. Formerly known as Apple Computer, Inc., the company changed its name to Apple Inc. in January 2007. Apple Inc. is a leading organization involved in designing, manufacturing, and marketing of personal computers, mobile communication devices, portable digital music and video players. The company is also involved in related software, services, peripherals, networking solutions, and third-party digital content and applications worldwide. Its products and services include iPhone, iPad, Mac, iPod, Apple TV, iOS and the Mac OS X, I Cloud and various accessory and support offerings. It’s customers include small and mid-sized business, consumers, enterprises as well as government customers. The company’s sales force include retail stores, online stores, as well as direct sales force. The company also sells its products through partnership with third-party cellular network carriers, wholesalers, retailers and value-added resellers. The product segment wise revenue breakup of the organization is shown in the pie-chart below: Industry Overview and Competitive Positioning Apple is a key player in the technology sector. It primarily started as a company in the personal computers industry. The industry has been witnessing significant changes in terms of the way services are provided to the customer. Some of the key competitors in the space include Dell, Microsoft and HP. The market for personal computers is characterized by minimal differentiation. Apple is the only manufacturer that uses Mac OS. As a result, the operating system has a significantly less market share. Majority of the market in this space is dominated by Windows, the operating system from Microsoft. The industry has been witnessing downward trend in terms of shipments in US. In the mobile handset industry, the company faces stiff competition from companies like Samsung, HTC, Google, Nokia, RIM, Microsoft and LG. Google’s operating system Android has been growing at a very rapid pace as compared to Apple. The increasing competition and the availability of attractive competitive products might pose a significant challenge to Apple’s top-line. However, Apple is expected to ship its latest version of iPhone very soon. The phone will have a better camera and faster processor. The slimmer and lighter iOS 5 underneath the iPhone will boost iPhone sales. Apple has also tied up with Sprint Nextel to provide unlimited data services plan. This in turn will boost sales. The iPhone is a key product in the Apple basket and also plays important role in other Apple products such as Macs and tablets. The competition space for tablets is still in the beginning phase and Apple is a market leader here with 683% share. iPad 2 has got enormous response in terms of sales. There are no contractual commitment for 3G models with iPad as against Android based tablets which require multi-year data contracts. As a result, the company has been able to witness significantly improving dominance in the market. With addition of the iCloud service to all its products, the integration between all its product lines has improved considerably. Now all the services on any of the Apple products are being provided through the iCloud which makes the usage of these different products seamlessly easy. Going forward, we believe that this will add significant value to the end customer and hence boost Apple product sales. Apple has been a leading innovator in the personal computer and consumer electronics market. The company has been adding new value-added features and functionalities to its products. The products also have high brand equity amongst customers. Apple customers are brand loyal and find it difficult to switch to a competing brand Investment Summary The company has witnessed significant changes in the top management in the last year. While 2011 has been a great year in terms of sales, the loss of its founder and CEO, Steve Jobs might have an impact on the organization. However, the company is having a great product line which is innovated regularly. The company is also expanding its business in China, Russia and Brazil which present huge market potential for the organization. With this analysis, we recommend it as BUY. Valuation The stock has outperformed the broader market in the last 12 months. The shares have surged 19.2% year to date as compared to a 2.6% decline in S&P 500. The company stock is trading at a price of 14.05 times the earnings per share. The forward P/E for the organization for the next one year is 11.2. However, the stock has traded historically at a 33.0% average premium, reflecting the possibility of further upside from the current level. We are assuming the stock to be 12.9 times the EPS in 2012. The price therefore comes out to be $413 which is our target price. Financial Analysis Fundamental Analysis: Key Financial Ratios: The table below shows the key financial ratios for Apple Profitability 2011 Leverage 2011 Net Income /Common Equity 1.94 Total Liabilities /Total Assets 0.34 Net Income /Total Assets 0.22 Total Liabilities /Inv Cap 0.45 Net Income /Inv Cap 0.29 Total Liabilities /Common Equity 2.98 Pretax Income /Net Sales 0.32 Interest Coverage Ratio NA Net Income /Net Sales 0.24 Current Debt/Equity NA Cash Flow /Net Sales 0.35 LTD/Equity NA SG&A /Net Sales 0.07 Total Debt/Equity NA Asset Utilization   Liquidity   Net Receivables Turnover 8.56 Quick Ratio 1.58 Inventory Turnover 70.53 Current Ratio 1.61 Inventory Day Sales 0.23 Net Receivables /Current Assets 0.31 Net Sales/Work Cap 6.36 Investment /Current Assets 0.02 Net Sales/PP&E 13.92     As can be seen from the table, Apple has favorable ratio in all the categories. The company has high profitability, utilizes its assets efficiently, and has huge amounts of cash to improve its liquidity. The company is having a profit margin of 24% which can be maintained in the long run. The company is having a healthy cash conversion cycle which implies that company is able to generate more cash in a quick time. The company is having zero debt in its books and about $28.4 billion in cash and ST investments. This makes it in a position to make acquisition of companies that can add significant value to the organization. The liquidity ratio indicates that the organization is in a position to its short-term debts easily. Both the quick ratio as well as current ratio are more than 1 which is indicates a healthy position for the organization. Technical Analysis: The graph below shows the stock price chart of Apple as compared to the S&P 100 index: As can be seen from the graph, the company has significantly outperformed the index. The diagram below shows the stock price along with the 20-day moving average Investment Risks Legal Battles: Apple is entangled in various legal battles over its mobile and tablet products. The company is fighting a number of lawsuits against its long-term technology partner Samsung in several countries including the U.S., Australia, Germany, Korea, Japan, the Netherlands, Britain and France. The company is also fighting legal battles v/s HTC for patent infringement lawsuit. Operating performance: The operating expenses of Apple have been going up steadily. They increased by 40.6% in the last 9 months. The R&D spend at Apple is less than its peers Microsoft, IBM and RIM. In light of the continuous tough competition, Apple might have to increase its SG&A and R&D expenses which might negatively impact its operating margins. New management team: Post the resignation of Steve Jobs, Tim Cook has been working as the CEO of the organization. The environment for Cook and his board is tricky with tough competition and legal battles. The new team’s capabilities will continuously be evaluated against Steve Job’s iconic vision and innovation acumen. Figure 1: Income Statement Source: Company Documents, Student Estimates 2011 9/24/11 2010 9/25/10 2009 9/26/09 2008 9/27/08 NET SALES OR REVENUES 108,598 65,067 0 37,491 Cost of Goods Sold (Excl Depreciation) 62,262 38,471 0 23,798 Depreciation, Depletion And Amortization 1,814 1,027 0 496 Depreciation 1,622 815 606 387 Amortization of Intangibles 192 212 128 109 GROSS INCOME 44,522 25,569 0 13,197 Selling, General & Admin Expenses 10,028 7,299 5,482 4,870 Research and Development Expense 2,429 1,782 1,333 1,109 OPERATING INCOME 34,494 18,270 0 8,327 Extraordinary Credit - Pretax 1 1 3 0 Extraordinary Charge - Pretax (213) (175) (97) 0 Non-Operating Interest Income 519 311 407 653 Other Income/Expenses - Net (596) 133 0 (33) PRETAX INCOME 34,205 18,540 0 8,947 Income Taxes (8,283) (4,527) 0 (2,828) Current Domestic Income Tax 4,646 2,805 2,446 2,155 Current Foreign Income Tax 769 282 345 275 Deferred Domestic Income Tax 3,035 1,561 1,075 473 Deferred Foreign Income Tax (167) (121) (35) (75) NET INCOME BEFORE EXTRA ITEMS/PREFERRED DIVIDENDS 25,922 14,013 0 6,119 NET INCOME USED TO CALCULATE BASIC EARNINGS PER SHARE 25,922 14,013 0 6,119 Shares used in computing earnings per share - Fully Diluted 937 925 0 902 Earning per Common Share - Basic 28.05 18.21 0.00 2.54 Earning per Common Share - Fully Diluted 27.68 17.92 0.00 2.50 In U.S. Dollars Values are displayed in Millions except for earnings per share and where noted Figure 2: Balance Sheet Source: Company Documents, Student Estimates 2011 9/24/11 2010 9/25/10 2009 9/26/09 2008 9/27/08 Cash 2,903 -- -- 368 Short Term Investments 23,565 24,037 22,362 21,858 ASSETS Cash & Short Term Investments 26,468 25,727 0 22,226 Receivables - Net 11,717 9,924 5,057 4,704 Finished Goods 776 1,051 455 509 Inventories - Total 776 1,051 455 509 Prepaid Expenses 728 157 309 475 Other Current Assets 5,299 4,819 8,091 2,092 CURRENT ASSETS - TOTAL 44,988 41,678 0 30,006 Buildings 2,059 1,471 955 810 Machinery & Equipment 6,926 3,589 1,932 1,491 Other Property, Plant & Equipment 2,783 2,174 1,780 1,446 Property, Plant and Equipment - Gross 11,768 7,234 4,667 3,747 Accumulated Depreciation (3,991) (2,466) (1,713) (1,292) Property, Plant and Equipment - Net 7,777 4,768 0 2,455 Investments in Associated Companies 0 0 10,528 2,379 Other Investments 55,618 25,391 0 0 Deferred Charges 1,600 799 844 208 Other Tangible Assets 1,956 1,464 898 460 Total Intangible Other Assets - Net 4,432 1,083 0 559 Other Assets - Total 7,988 3,346 13,155 1,331 TOTAL ASSETS 116,371 75,183 0 36,067 LIABILITIES Accounts Payable 14,632 12,015 5,601 5,520 Accrued Payroll 590 436 357 320 Income Taxes Payable 1,140 210 430 506 Other Current Liabilities 11,608 8,061 5,118 5,015 CURRENT LIABILITIES - TOTAL 27,970 20,722 0 11,361 Long Term Debt 0 0 0 0 Deferred Income 1,686 1,139 853 768 Deferred Taxes - Credit 8,159 4,300 0 999 Deferred Taxes - Debit -- -- 163 104 DEFERRED TAXES 8,159 4,300 0 895 Other Liabilities 1,941 1,231 0 746 TOTAL LIABILITIES 39,756 27,392 0 13,770 EQUITY Non-Equity Reserves 0 0 0 0 Minority Interest 0 0 0 0 Preferred Stock 0 0 0 0 Common Stock 13,331 10,668 8,210 7,177 Retained Earnings 62,841 37,169 23,353 15,129 Unrealized Foreign Exchange Gain/Loss 313 35 28 61 Unrealized Gain/Loss on Marketable Securities 130 (81) 49 (70) COMMON EQUITY 76,615 47,791 0 22,297 TOTAL LIABILITIES & SHAREHOLDERS’ EQUITY 116,371 75,183 0 36,067 SHARE INFORMATION Common Shares Outstanding 929 916 0 888 In U.S. Dollars Values are displayed in Millions except for earnings per share and where noted Figure 3: Cash flows Source: Company Documents, Student Estimates 2011 9/24/11 2010 9/25/10 2009 9/26/09 2008 9/27/08 OPERATING ACTIVITIES Net Income / Starting Line 25,922 14,013 8,235 6,119 Depreciation and Depletion 1,622 1,027 606 387 Amoritization of Intangible Assets 192 -- 128 109 Depreciation, Depletion and Amortization 1,814 1,027 734 496 Deferred Income Taxes 2,868 1,440 1,040 398 Deferred Income Taxes & Investment Tax Credit 2,868 1,440 1,040 398 Total Other Cash Flow 1,168 903 736 538 Funds From Operations 31,772 17,383 8,969 7,551 Extraordinary Items 0 0 0 0 Decrease/Increase In Receivables (1,791) (4,860) (939) (785) Decrease/Increase In Inventories 275 (596) 54 (163) Increase/Decrease In Accounts Payable 2,515 6,307 92 596 Decrease/Increase In Other Assets/Liability 4,758 361 207 2,397 Funds From/For Other Operating Activities 5,757 1,212 (586) 2,045 NET CASH FLOW - OPERATING ACTIVITIES 37,529 18,595 0 9,596 INVESTING Increase In Investments (102,317) (57,811) (46,825) (23,003) Decrease In Investments 69,853 46,718 30,678 16,243 Capital Expenditures (Additions To Fixed Assets) (4,260) (2,005) (1,144) (1,091) Net Assets From Acquisitions (244) (638) 0 (220) Other Uses - Investing (259) (2) (74) (10) Other Sources(Uses) - Investing (259) (2) (74) (10) Additions To Other Assets (3,192) (116) (69) (108) NET CASH FLOW - INVESTING (40,419) (13,854) 0 (8,189) FINANCING Proceeds From Stock Options 0 0 475 483 Other Proceeds From Sale/Issuance of Stock 831 912 0 0 Net Proceeds from Sale/Issue of Common & Preferred 831 912 475 483 Common/Preferred Redeemed, Retired, Converted, Etc. 0 0 (82) (124) Other Sources - Financing 1,133 751 270 757 Other Uses - Financing (520) (406) 0 0 Other Sources(Uses) - Financing 613 345 270 757 NET CASH FLOW - FINANCING 1,444 1,257 0 1,116 INCREASE/DECREASE IN CASH AND SHORT TERM INVESTMENTS (1,446) 5,998 0 2,523 Taxes Paid 3,338 2,697 2,997 1,267 In U.S. Dollars Values are displayed in Millions except for earnings per share and where noted Disclosures: Ownership and material conflicts of interest: The author(s), or a member of their household, of this report [holds/does not hold] a financial interest in the securities of this company. The author(s), or a member of their household, of this report [knows/does not know] of the existence of any conflicts of interest that might bias the content or publication of this report. [The conflict of interest is…] Receipt of compensation: Compensation of the author(s) of this report is not based on investment banking revenue. Position as a officer or director: The author(s), or a member of their household, does [not] serves as an officer, director or advisory board member of the subject company. Market making: The author(s) does [not] act as a market maker in the subject company’s securities. Ratings guide: Banks rate companies as either a BUY, HOLD or SELL. A BUY rating is given when the security is expected to deliver absolute returns of 15% or greater over the next twelve month period, and recommends that investors take a position above the security’s weight in the S&P 500, or any other relevant index. A SELL rating is given when the security is expected to deliver negative returns over the next twelve months, while a HOLD rating implies flat returns over the next twelve months. Disclaimer: The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to be reliable, but the author(s) does not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as the basis of any investment decisions by any person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This report should not be considered to be a recommendation by any individual affiliated with [Society Name], CFA Institute or the Global Investment Research Challenge with regard to this company’s stock. Read More