These Companies Can Unlock Their Potential Value
Anh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
David Einhorn is getting frustrated with the current capital allocation strategy of Apple (NASDAQ: AAPL). While its share price keeps falling, Apple is still sitting on a huge cash balance and doing nothing to unlock shareholders’ value. Einhorn suggested that Apple should make a much better use of its cash balance by distributing perpetual, high yield preferred stocks to shareholders at no cost. Let’s see what Apple might be potentially worth if it follows Einhorn’s idea.
Apple – 78% Upside Potential
As of December 2012, the company's cash balance was around $137 billion. As Apple had 947.2 million shares outstanding, the cash per share was nearly $145. Analysts estimated that Apple would earn $44.75 per share in fiscal year 2013. At the current trading price of $475 per share, Apple’s total market capitalization is $446 billion. The market is valuing Apple at only 10.6x forward earnings. Net of cash, Apple is valued at only 7.37x forward P/E.
David Einhorn thought that if Apple used around half of its earnings for the preferred stock distribution program with the annual dividend rate of 4%, Apple would be able to issue around $500 billion in face value of preferred stocks, or $528 per share. The annual preferred dividends would be $20 billion, or $21.1 per share. After the preferred dividends are distributed, its adjusted 2013 EPS will be $23.65. Applying the current forward earnings valuation on the adjusted 2013 EPS, the value to common equity would be $174.30 per share. Apple’s total value per share would be the sum of the value to common equity ($174.30 per share) plus the value of preferred issues ($528 per share) and its net cash ($145). Thus, Apple’s potential value per share would be around $847 per share. The upside potential would be 78%.
Dell – A $25 Billion Offer is Low
David Einhorn thought that the same idea might be applied to Apple’s peers as well, including Dell (NASDAQ: DELL) and Microsoft (NASDAQ: MSFT). As of October 2012, Dell had around $5.15 billion in net cash. With the total 1.74 billion shares outstanding, net cash per share was around $3 per share. Dell is expected to earn $1.67 per share in fiscal year 2014. With the current trading price of $13.60 per share, Dell is valued at 8.15x forward earnings. Net of cash, the forward P/E becomes only 6.35x. If we assume that Dell pays half of its earnings in preferred stock dividends with the annual dividend rate of 5%, Dell could issue $25 billion, or $14.40 per share in face value of preferred stocks. The annual preferred distribution would be $1.3 billion, or $0.75 per share. The adjusted EPS in fiscal 2014 would be $0.92. With 6.35x forward earnings, the value to common equity is $5.84 per share. Thus, Dell’s potential value would be $23.24 per share.
Founder Michael Dell is trying to take the company private at around $14 per share, with a total transaction value of nearly $25 billion. However, I personally think the $14 price tag is not fair for Dell, and the deal should be opposed by the largest outside shareholder, Southeastern Asset Management. Compared to the calculation results above, Dell should be fairly valued at around at least $23 per share, 64% higher than the current buyout offer.
Microsoft is Worth $39 Per Share
As of December 2012, Microsoft had $64.8 billion in net cash, or $7.70 per share. Microsoft is expected to earn $2.85 per share in fiscal year 2013. With the current trading price of $27.55 per share, Microsoft is valued at 7x forward P/E, net of cash. If Microsoft uses half of its earnings to pay preferred dividends with a 5% yield, Microsoft could issue $155 billion, or $18.35 per share in preferred stock face value. With the adjusted EPS of $1.93, the value to common equity would be $13.50 per share. Thus, the total value of Microsoft would be $39.55 per share, a 43.5% upside potential.
Foolish Bottom Line
David Einhorn’s idea of preferred stock distribution is a smart way to quickly unlock the potential value of companies with huge cash balances. Apple, Dell, and Microsoft seem to be quite cheap after the value of the preferred stocks is recognized fully by the market.
hoangquocanh owns shares of Apple. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!