Why Are Insiders Selling this Tech Giant?

Meena is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Insider trading activity is always an important indicator to follow, as it gives individual investors insight into the sentiment that exists within a particular company. Empirical studies have proven that those who mimic or “monkey” certain insider trading activity can beat the market by 7 percentage points a year. Naturally, investors should be curious when mega-cap execs behave bearishly, particularly at the likes of tech giants like Apple (NASDAQ: AAPL). While insider selling can always be speculated as profit-taking, it’s always important to consider the timing of such transactions, as many are too curious to write off as simple coincidence. Without further ado, we’re going to delve into the insider sentiment at this company; you might be surprised at what we find.

First, let’s discuss the recent news surrounding Apple. Unless you’ve been living under a rock for the past month, you’re probably aware of the company’s release of the iPhone 5, and its subsequent Maps fiasco. To avoid beating a dead horse, we’ll just say that the decision to push a subpar mapping application into its newest smartphone was a massive mistake, especially when that market is already controlled by Apple’s chief rival: Google (NASDAQ: GOOG). Apple CEO Tim Cook did release a rather heartfelt apology letter last Friday, but the damage was already done – the company’s stock price had already fallen off its $700 high to trade in the $670 range.

Presently, that’s where Apple’s stock remains, though there are still concerns for the company. As we already discussed last week, Apple is facing a number of long-term worries, including but not limited to: (1) Tim Cook’s failure to carry on Steve Jobs’ legacy, (2) the possibility that the iPad Mini will cannibalize existing iPad and iPhone sales, (3) the fact that partners no longer want to play by the “Steve Jobs Rules” anymore, and (4) book value overvaluation.

Going into a bit more detail about the third point, it’s worth mentioning that the difference between Apple being a great stock and simply a good stock over the next decade may rest in lockstep with its prospects in China. The Cupertino-based company is still working on a deal with China Mobile (NYSE: CHL), which if successful would give Apple access to the largest phone subscriber base in the world. China Mobile currently serves close to 700 million users, many of which use smartphones. Considering the fact that close to 20% of Apple’s revenues come from the Greater China region, it’s easy to see that the Middle Kingdom is the company’s X-factor.

That being said, there is still one major hiccup that could prevent Apple from taking an even greater foothold in the country. As mentioned above, the term “Steve Jobs Rules” describes the late iconoclast’s ability to maneuver his way around partners’ demands for a share of Apple’s profits. In a move that the company likely expected but is not thrilled about, China Mobile wants a cut of the sales derived from any of its subscribers in the iTunes App Store. While it may be surprising that Apple’s management hasn’t given in to these demands to access China’s enormous market, Tim Cook and Co. are likely worried about setting a less profitable precedent going forward.

Keeping these concerns in mind, it is interesting that a few prominent Apple insiders have made some notable transactions in recent months. Since July 30, four Apple executives have sold shares of their company. There have been no insider buys over this time. This round of bearish bets has been made by General Counsel Bruce Sewell, Director Millard Drexler, Director Arthur Levinson, and Director William Campbell.

Of these sales, Drexler has made the most, dumping 25,000 shares in late August worth a total value of $16.6 million. The trades were made at an average price of $663.75 a share. It’s worth noting that the director’s transactions were made via stock options, which gave him the right to buy in at an average price of close to $65 a share. While the sales gave Drexler a quick profit of $15 million, good for a 937% return, it’s important to realize that he likely saw Apple’s peak as resting in the $660 range, despite the fact that the iPhone 5 was set to be released just weeks later.

Similarly, Sewell, Levinson, and Campbell all sold their shares below the $700 mark, with the company’s general Counsel making a bevy of trades late last month. In total, Sewell sold 3,381 shares of Apple at an average price of $687 a piece. In early August, Levinson sold 7,500 shares at an average price of $619 each, and Campbell sold 10,000 shares at an average price of $590. Since the most recent insider sale has occurred, shares of Apple have fallen close to 5%, hitting as low as $653 last week. Each of these insiders displayed behavior that demonstrated they were not comfortable with the prospects of Apple flirting with the $700 mark, at least in the short term.

From a valuation standpoint, Apple does trade at a book value premium of 10% to its industry’s average, and currently sports a price-to-book ratio of 5.6. This is far above the likes of Google at 3.8X, Microsoft (NASDAQ: MSFT) at 3.7X, and Hewlett-Packard (NYSE: HPQ) at 1.1X.  More significantly, Apple is also trading at a similar premium to its historical book valuation. The company’s 10-year historical P/B ratio rests near 5.0X.

In terms of earnings, Apple is expecting EPS growth upwards of 20% a year over the next half-decade, though this is decidedly below the company’s historical averages. Slowing growth is never a good thing, but it’s important to note that shares of Apple currently sport a PEG ratio of 0.72; typically any figure below 1.0 signals that investors have yet to fully appreciate the company’s bottom line prospects.

To recap: we can see that the valuation metrics are sending Apple investors mixed signals, and insider trading sentiment is predominantly bearish. The company is still expecting strong growth over the next few years, though it undoubtedly faces concerns, many of which were discussed here. In our opinion, the case for Apple to trade above the $700 mark is dependent on its China Mobile talks. While partners are no longer willing to play by the “Steve Jobs Rules,” it is still expected that a deal will be reached. After all, with close to 700 million subscribers, the potential windfalls that would arise from the country would be worth a little bit of profit sharing.

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This article is written by Jake Mann and edited by Meena Krishnamsetty. Meena has long positions in Apple, Google, and Microsoft. The Motley Fool owns shares of Apple, China Mobile, Google, and Microsoft. Motley Fool newsletter services recommend Apple and Google. 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. If you have questions about this post or the Fool’s blog network, click here for information.

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