Saturday, February 11, 2012

Apple Price Target: $790 Per Share

Today, I am publishing an updated price target for Apple of $790 per share. This target forecasts a 60% gain in the share price from the closing price of $493.42 on Friday, February 10, 2012. I consider this price target to be moderate based on the expectations of strong revenue and earnings growth over the next 12 months and the low valuation range in which the shares currently trade, despite the recent run-up in price. 

Over the past 10 trading days, the shares have risen about 10% from the closing price of $447.28 on January 27th to Friday's closing price of $493.42. However, this recent gain is a market response to Apple's strong December quarter outcome and does not represent a new valuation range for the shares. The shares continue to trade at a significant discount to near-term growth. 

Apple's Current Valuation
The graph below illustrates, despite the near 100% growth in earnings per share over the most recent four fiscal quarters, at Friday's closing price the shares have risen only 43% in value since February 1, 2011. 

Over the past 12 months the company's cash and marketable securities per share has continued to rise as a percentage of the share price. At Friday's closing price, cash and marketable securities per share represented 21% of the share price.  

Meanwhile, over the past 12 months the company's price-earnings multiple has continued to fall. 
Apple Is In An Equity Class All Its Own
As a mega cap with frenetic rates of revenue and earnings growth, Apple is currently in an equity class all its own. About 75% of Apple's revenue is currently generated from products that did not exist in the market as recently as five years ago today. The Apple iPad remains in a nascent phase of global market development and the product's growth potential at this time can not be reliably gauged or defined.

The dynamic nature of the company's revenue mix and Apple's relentless geographic expansion have led to conditions in which the market chronically discounts the company's current rates of growth. Apple's trading price reflects a deep discount to the company's current rates of revenue and earnings growth. I anticipate the market's delayed response to Apple's quarterly performances to continue into the future. My price target does not forecast an expansion of Apple's lowly price-earnings multiple. 

Prospects For An Apple Share Split and Resumption Of A Quarterly Dividend
In my view there's a high probability of a share split over the next 12 months. I also believe the resumption of a regular quarterly dividend will occur within the next 12 months as well. Neither of these extraordinary events are factored into this revised price target. This 12-month price target is based on expectations of share price appreciation from organic revenue and earnings growth alone. 

Apple's Current Rates Of Earnings Growth
On February 6th I published an article titled Apple: Rising Revenue, Falling Costs Per Revenue Dollar. In the article I detailed Apple's rising net income per reported revenue dollar. In the December quarter, exclusive of the positive benefit from the earnings on the company's massive holdings of cash and marketable securities, nearly 28% of each reported revenue dollar flowed to the net income line. Economies of scale and focused cost discipline are increasing the quality of Apple's earnings as revenue ramps significantly higher. Net income per reported revenue dollar will remain high through the balance of FY2012 and into FY2013. 
In the December quarter gross margin reached a record 44.7%. Although the margin on refreshed products anticipated in FY2012 and early FY2013 may soften overall gross margin, the iPhone 4S will continue to deliver extraordinarily high margin through the quarters in which it remains Apple's flagship smartphone product. The much-anticipated iPad 3 will sustain strong year-over-year unit sales growth for Apple's tablet-style product line and economies of scale will mitigate some of the margin pressure as Apple increases production to meet global product demand. 
Apple's Current Rates of Revenue Growth
In a December article titled Where Apple Makes Its Money, I detailed Apple's revenue growth by geographic region in fiscal years 2011 and 2010. Apple continues to expand the company's global market presence and I expect the Asia-Pacific region to surpass Europe and become Apple's second largest revenue producing region by the end of the fiscal year. Outside of the United States, China is the only country to generate more than 10% of Apple's reported revenue. 
In the current March quarter, the iPhone 4S has become available on China's mainland and for the first time the iPhone will be available to consumers on the mainland through two major carriers. Today, Apple is addressing only a fraction of the global market for the company's products and new carrier agreements each quarter are quickly increasing the immediately addressable market for the company's smartphone products. 
There are a number of large and virtually untapped markets for Apple products including India and much of the Americas. Global expansion will support attractive rates of revenue growth through FY2013. 
The Apple iPhone
The addition of Sprint as an authorized domestic iPhone carrier during the December quarter and the results of the first holiday quarter in which the iPhone was available on the Verizon network demonstrated the relative strength of the iPhone versus all competitors combined. The availability of the iPhone on the three largest domestic networks caused both a unit sales and market share spike in the quarter. 
Reported iPhone unit sales in the March and June quarters will be governed more by supply and Apple's approach to management of channel inventory than questions about product demand. The forthcoming iPhone 5 will sell on a scale not seen before and again unit sales will be governed by product supply, not questions of product demand. 
The Mac
This fiscal year the Macintosh line of personal computers will generate more than $26 billion in revenue. To put this success in perspective, the Macintosh line alone will generate more revenue for Apple than the company's total reported revenue as recently as FY2007. Although the Macintosh line's percentage of the company's total reported revenue continues to decline, each Mac sold has roughly twice the revenue weight of an iPhone or iPad sold. The line's contribution to the company's rates of revenue and earnings growth can not be dismissed and the Mac remains an integral component of Apple's ongoing success. Macintosh unit sales benefit from what I call the "Apple product mutual halo effect." I expect Mac unit sales to continue to grow in the range of 20% each fiscal quarter. The company's relentless geographic expansion and increasing enterprise adoption of the Macintosh platform will buttress unit sales growth.
The Apple iPad
At this time the global potential for the iPad can not be reliably gauged or defined. The probability of the iPad 3 sustaining triple-digit or near triple-digit unit sales growth for the product line are quite high. The iPad will maintain its position as the undisputed unit sales leader in the tablet-style device market through calendar year 2012 and the first calendar quarter of 2013. Enterprise adoption, education industry adoption and growing consumer adoption of the iPad will deliver stunning unit sales growth over the next five fiscal quarters.

Apple Retail Stores
Over the past three fiscal quarters, the rate of retail store revenue growth has fallen below the company's overall rate of revenue growth. However, the retail stores deliver impressive margin results due to sales of device accessories and ancillary services. As primary product service centers and marketing venues for the company's products, the stores also reduce the rate of growth in operating expenses.  In the December quarter, retail segment margin surpassed $1.8 billion on $6.116 billion in reported revenue. 
The retail stores will play an important role during the global rollout of the iPad 3 and the forthcoming iPhone 5. I expect the rate of revenue growth for the retail stores to move more in synch with the company's overall rate of revenue growth in the latter half of FY2012 and deliver very strong revenue growth results in FQ1 2013 due to expected strength in all three of Apple's major product lines during the holiday quarter.

A Note On Deferred Revenue
As of June 6, 2011, Apple defers revenue of $22 per Macintosh personal computer sold, $16 per Apple iPhone and Apple iPad sold and $11 per iPod touch sold. The $22 in deferred Macintosh revenue per unit sold is recognized on a four-year schedule from time of sale and the deferral on each iOS device sold is recognized over two years from time of sale. The deferrals have a slight dampening effect on the reported revenue and eps growth from devices sold in each quarter. However, the revenue recognition from deferrals in prior quarters will partially offset the reduction in reported revenue each quarter as the calendar moves forward.

Based on the factors outlined above, I expect Apple to deliver revenue of over $180 billion in FY2012 and FY2013 revenue of more than $270 billion, reaching beyond the one-quarter trillion dollar revenue line. In FY2012 I expect earnings per share above $52. This 12-month price target is based on revenue and earnings growth alone and expectations of a continuation of the market's muted response to the company's frenetic rates of revenue and earnings growth. The target does not factor an expansion of the lowly multiple at which the shares currently trade. Extraordinary events such as a resumption of a regular quarterly dividend or a share split are also not factored into this share price forecast and may accelerate the pace at which the shares approach this $790 price target. 
Robert Paul Leitao
Disclosure: The author is long Apple shares