Should You Really Avoid Apple?

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

Since topping out around $700 per share in September, Apple (NASDAQ: AAPL) has been on a steady downward trend and reached $543 on November 12; this is a 23% decline. Apple bears are coming out of the woodwork, with public price targets- which previously had been discussed in the $900s, with a trillion dollar market capitalization seemingly inevitable- now flashing at $425 or so. Apple is still up 33% year to date, and it’s likely that some profit takers are moving out of the stock.

However, this correction has placed the dominant Apple at only 12 times trailing earnings, which would be considered a value price even if the company was barley growing. In the fiscal year ending in September, Apple turned in a 45% increase in revenue compared to the last fiscal year; top line growth in that year had been 66%. Net income over the same period has nearly tripled, even with the company coming close to doubling its investments in research and development. This reflects a deceleration in growth as it has grown to a massive size, but its fourth fiscal quarter growth rates over the same period last year were still above 20%. Even with the scary-looking price targets, analyst estimates imply a forward P/E of 9 and a five-year PEG ratio of 0.5. We do think that competition from Google (NASDAQ: GOOG) and Amazon.com (NASDAQ: AMZN) as well as potentially Microsoft (NASDAQ: MSFT) could trim growth, but Apple has plenty of room to underperform these targets and still be a good value.

Apple had been the most popular stock among hedge funds in the second quarter of 2012 (see the full rankings). Two of the funds leading the charge had been Tiger Cub Rob Citrone’s Discovery Capital Management and billionaire David Shaw’s D.E. Shaw; each held positions worth over $1 billion in market value. Discovery had increased its holdings 8% to nearly 2 million shares, making it by far the largest position in the fund’s 13F portfolio (see more stock picks from Discovery Capital Management) while D.E. Shaw had actually cut its stake slightly to 1.8 million shares (find more stocks that D.E. Shaw owned).

Google and Microsoft are the best companies to compare Apple to. Google carries a trailing P/E of 21 as its acquisition of Motorola Mobility Holdings has- at least temporarily- reduced its profits, though it has helped contribute to sales. Google’s stock has also been down, following a peak in early October. It trades at 14 times forward earnings estimates, a fairly large premium to Apple. We can see Google having better growth prospects, but it’s hard to say that it is undervalued compared to Apple at that price. Microsoft’s forward P/E is 9, and that includes a likely temporary boost to earnings as new versions of Windows and Office are released. We think that looks a bit cheap in absolute terms, but it’s tough to see Microsoft warranting an equal forward multiple to Apple.

Amazon continues to generate enormous optimism in the market, as its stock has held up despite an operating loss in its most recent quarter. Even if it hits Wall Street analysts’ targets, and turn in $1.77 per share in earnings in 2013 (compared to barely any earnings on a trailing basis) it will trade at a forward P/E of 128. Again, Apple looks like a better buy, and quite possibly much better. We can also compare Apple to Research In Motion (NASDAQ: BBRY). Research In Motion’s revenues continue to decline, down 31% last quarter versus a year earlier, and it is not expected to be profitable either this year or next year. We think that we’d avoid that stock.

It’s not surprising that Apple’s business has slowed, but we think that the market may have overreacted. The company doesn’t need much- if any- growth to justify its current valuation.


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

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