Over the last few weeks, Apple has experienced a
singular fall from grace: its stock price has got hammered as overly enthusiastic
investors and speculators dumped its shares; its gross margins have become the
root of all doubts; analysts have lowered their price targets; finally, famed
hedge fund manager David Einhorn sued to block it from bundling several General
Assembly resolutions and has publicly advocated the issuance of preferred shares
as a means to unlock the value of its cash hoard.
Is the stock now undervalued? Is the focus on the excess cash
warranted? What is the future like for Apple? I would respond by yes, yes and not too bad.
Once a startup which almost went belly up, Apple rose
from the ashes to become THE dominant consumer tech company and attract cult-like
following. Its cash hoard is both a
result of its success and culture and a portend of its future. In that regard, it is important.
The culture at Apple is one of innovation and
excellence. Can it preserve both and
thrive? There are
encouraging signs. In a recent industry
event, its CEO Tim Cook stressed that the company was built on innovation, that
its pipeline was full and that Apple would resist the urge to build market
share by lowering prices; as an example, he reminded us that the answer to a less
expensive iMac was the iPad, not an iMac lite. Yet only extraordinary new
products will move the needle of a $400 billion company. He also dismissed Einhorn’s effort as a “distraction”,
not the best of answers.
The fact is that Apple has unique strengths: huge
user base, integrated device and service offering (iTunes/Aperture/iPod/iPad/iMac),
great innovation, great design, and of course fabulous financials). Yet I doubt that it can keep true to itself if
it keeps growing. A great part of its
success is that it designs and builds better mouse traps than the competition. But if it is 70% of the market, comparisons
with the competition become irrelevant. It
also becomes more difficult to charge premium prices. Finally, the laws of large numbers make it
increasingly difficult to come up with innovative products that will move the
needle, profit-wise.
One strategy would be to keep up growing by branching out in related or contiguous sectors, without cheapening the offerings. There are precedents; think of LVMH, the large luxury company which runs the gamut from champagne, haute couture, perfumes to high-end accessories. Yet there are important differences; while fashion is akin to technology in that it must come up with new models at least once a year, LVMH products are all brand names that guarantee a certain market permanence as long as high quality is maintained. Another is culture: LVMH has always been a conglomerate while Apple’s success stems in large part from its unique culture which in turns makes large or numerous acquisitions difficult.
Because it is unlikely to become a serial acquirer,
Apple has no need to keep its mountain of cash.
But there is another, more important reason, why it should distribute it
to its shareholders; it needs to avoid the complacency that sunk the likes of
Sony. Without flirting with danger,
Apple must be a company (especially in the technology sector) where all the staff
realize that the good life is not assured unless they keep coming up with
winners, and that, in the words of Andy Grove, “only the paranoids survive”. The simplest way to deal with the excess cash is to
buy back the stock.
Is Apple undervalued? I think it is. If it slowly shrinks its cash pile and tries
to keep growing by expanding its global market share by offering less expensive
products, I think it is a short to medium-term trade, with an exit price in the
low $600. If it takes a more aggressive
path by buying back its stock at a faster pace and if it signals that it will
accept shrinking as the price of remaining focused on bringing to market a few
products of superlative innovation and design, then I would think that Apple is
at least a medium to long-term trade with a much higher price target.
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