On the various AAPL-related discussion boards it's easy to get lost in talk about fantastic and theoretical pricing models for AAPL. Some compare AAPL's low p/e multiple to company's such as Amazon and attempt to draw conclusions on AAPL's share price upside and future valuations. Investors beware.
Apple has become an amazingly successful enterprise and is currently enjoying revenue and earnings growth at a torrid pace. The decade-long success of the iPod, the successful Intel transition for the Mac, the successful introduction of the iPhone and the anticipated success of the forthcoming Apple iPad make for a highly profitable growth company with leadership positions in each of the company's major product segments. Apple is among the most successful enterprises in US corporate history and there's no reason for the company's rate of growth to subside over the next several quarters. Long-term AAPL investors may continue to be richly rewarded for their investment.
Personally, I'm as bullish as ever on AAPL. I have a 12-month price target of $384 per share and expect the share price to move above $400 per share by the end of fiscal year 2011 (September 2011). This is in contrast to Friday's closing price of $222.25.
AAPL currently trades at a p/e multiple of just under 22 times trailing 12-month earnings. I expect earnings to rise at a 30%+ rate this fiscal year and for revenue to approach $60 billion. At the current rate of revenue and earnings growth it's easy to fall into a valuation trap of forecasting AAPL's share price to rise to fantastic pricing levels based on theoretical models assuming the rates of revenue and earnings growth will continue indefinitely. It's as if the possible doubling or near doubling of Apple's share price over the next twenty four months isn't enough.
From a long-term investor's standpoint I caution moving the forecast p/e multiple above 25 times trailing 12-month earnings. While it's fun to see how the math works, basing pricing models on theoretical assumptions Apple will sustain the current rates of revenue and earnings growth in perpetuity is a path fraught with peril for investors.
To start the market won't support and sustain a p/e multiple above 25 times trailing earnings for AAPL anytime soon. There's more than enough share price appreciation potential using that multiple as a cap for estimates and forecasts.
Apple is currently growing revenue and earnings at a torrid pace but the pace of growth will eventually moderate (especially as we move twelve fiscal quarters or three years out from today).
Apple's revenue may move as high as $60 billion this fiscal year. Sustaining revenue growth above 20% annually becomes increasingly challenging as revenue scales higher. Earnings will rise faster than revenue, but there's a practical cap on sustainable revenue growth as realized revenue moves above $60 billion and certainly above $75 billion which may be the reality for FY 2011.
For the twelve-month period beginning with the start of the June quarter through the end of March 2011, I'm modeling revenue of over $66 billion and eps of about $17.46 per share. Using today's p/e multiple of 22 times trailing 12-month earnings, I forecast a share price of $384 by the end of April 2011. Using a p/e multiple of 25 times trailing 12-month earnings the share price target moves to $436 per share. This illustrates the problem inherent with valuations based on theoretical growth models.
I'm moderating my p/e forecasts to what I consider a sustainable pace of growth for the next three to five years. Should the share price move above 25 times trailing 12-month earnings one may be buying into a bubble rather than investing for sustainable growth.
While Amazon currently trades at a p/e multiple of 63 and Google at a more modest yet higher p/e multiple than Apple of 27, the comparisons of these two companies to Apple are not wholly analogous. Maintaining a realistic p/e multiple and price target for AAPL requires more than a cursory comparison to other companies offering products that overlap some of Apple's product markets. In contrast, HP, the world's largest PC maker currently trades at a p/e multiple of just under 16 and IBM, the granddaddy of tech companies, trades at a p/e of just under 13 times trailing 12-month earnings. Though Apple is growing faster than HP and IBM, Apple's long-term challenges of managing success and managing growth are more akin to HP and IBM than to the challenges at Amazon or Google.
Working in favor of a continued strong pace of growth at Apple over the next twelve quarters include the expansion of the retail store presence into new markets overseas, market share growth opportunities for the Macintosh line particularly in the EU states, continued growth in iPhone unit sales in both the domestic and international markets, an expected successful launch of the Apple iPad and growth in revenue from iTunes store sales and growth in revenue from services such as MobileMe and AppleCare. Apple will continue to grow revenue and earnings at an attractive pace. Growth rates, however, will moderate as we move three to five years out from today.
Contrasting fantastic price valuations based on theoretical revenue and earnings growth models, Apple's management has offered clues about the management ethic and the approach to sustaining and managing the company's continuing success. According to Tim Cook, Apple's COO, the company isn't interested in being the biggest player in each of its major product markets. Rather, the company is interesting and making the best products in each of the company's major markets. Apple is rewarded in this approach through high gross margins and a loyal base of product users.
Apple's illustrious, storied and at times tragic corporate history evidences one important reality: Consumers are willing to buy Apple products they consider innovative, easy-to-use and well designed for their intended purposes. Consumers are not willing to buy Apple products due to the brand name alone. Apple must innovate to maintain high gross margins and maintain strong revenue and earnings growth. Necessarily the focus on innovation, design and user satisfaction places a reasonable restraint on boom cycle growth at the expense of long-term rewards.
Apple warrants a p/e multiple higher than HP and IBM. But a valuation model that pushes the price above 25 times trailing 12-month earnings should be viewed with caution. At today's multiple of about 22 times trailing 12-month earnings long-term investors should continue to be richly rewarded for their investment. All but the most impatient investor would consider the doubling or near-doubling of the share price over the next two years sufficient.
As I said earlier, I'm more bullish than ever on AAPL. But for fantastic valuation models that push the p/e multiple above 25 times trailing 12-month earnings, investors beware. My valuation models are based on a p/e of 22 times trailing 12-month earnings. It's a pace of earnings growth I consider sustainable over the next three to five years.