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Apple: One-time large discounts (NASDAQ: AAPL)

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investment thesis

apple (Nasdaq: AAPL) Design, manufacture and distribution of smartphones, personal computers, wearable devices and related services. Apple has been one of the most valuable companies in the world for a while and has leadership positions in many areas. Its huge compound device Base (1.8 billion active devices) is driving up Apple’s service revenue at a rapid pace, and the company’s gross margin is improving. Moreover, Apple is moving towards becoming self-sufficient to reduce costs and mitigate supply chain disruptions, and the efforts are beginning to bear fruit. I expect Apple to continue its success well into the future, and the current volatility in the technology sector presents a great opportunity to acquire Apple shares at a discount for the following reasons:

  • Apple’s high-margin business (the Mac and Services segments) is growing at a rapid pace, contributing to significant revenue growth and expanding profit margins.
  • Revenue growth trajectory remains strong with increased subscription base and new product releases (iPad Air, iPhone SE, etc.).
  • Market volatility and heavy selling in the tech sector has sent Apple shares lower, and they are now selling below their pre-pandemic level. This presents a great opportunity.

Growth in the correct segments

Since I wrote my last article, Apple reported quarterly earnings in late April, and the results continue to prove that Apple is focused on the right sectors for growth and profitability. Total revenue grew 9% year over year to $97.3 billion, and generated $28 billion of operating cash flow. In particular, their Mac segment and the services segment led the shipment.

Apple is self-sufficient and manufactures key product components in-house. Two years ago, Apple took the noteworthy action of severing ties with Intel and making its own computer chips. The effort has paid off. The Apple M1 (its chip) performed very well against Intel and other chips on the market, and Mac sales were very strong. Additionally, producing their own chips has increased profit margins over Mac products.

The strong performance by Apple’s services segment (Advertising, AppleCare, Cloud, Digital Content, Payment) is also welcome news for investors. The services segment is a business with a gross profit margin twice as high (72.6%) than the products segment (36.4%), and has higher growth potential than cloud and digital content. With the help of the huge installed hardware base (1.8 billion active devices), AppleCare has great potential to increase revenue as well. Overall, the solid performance from Mac and services shows that there are good days to come.

Apple's performance by segments

performance by sectors (SEC deposits)

Gross margins for apples by sectors

Gross margins for apples by sectors (SEC deposits)

Strong revenue growth path

Apple has grown at a solid pace (10% per year, 5 year average) in the past several years, and revenue growth is accelerating. This acceleration is due to multiple factors. The first is the continued strong performance of new products, and there is no indication that this trend will end. During the last quarter, Apple released the iPhone SE with 5G technology, the iPad Air with the M1 chip, the all-new Mac Studio, and the all-new Apple Studio Display.

As mentioned earlier, Apple currently has 1.8 billion active device bases, and the number is expected to increase as new products are released. The active base has grown by about 100-150 million annually (1.4 billion, 1.5 billion, 1.65 billion and 1.8 billion in 2019, 2020, 2021 and 2022, respectively). Also, this larger installed base will translate into greater revenue growth from AppleCare, advertising, and cloud services. Currently, Apple has about 785 million subscribers to these services.

Schedule
Data by YCharts

Appropriate evaluation thanks to the fluctuations

Ongoing volatility caused by supply chain disruption, inflation, war and shifting Federal Reserve policies has pushed the entire tech sector down sharply. The Nasdaq fell from 16,000 in November 2021 to below 12,000. This volatility has dragged big companies like Apple forward, and now Apple shares are trading below the pre-pandemic level (current P/E ratio of 23.8 times versus the pre-pandemic P/E multiple). about 25.5 times). This presents a great opportunity for investors to grab Apple shares in a bargain.

NASDAQ index

NASDAQ index (CNBC)

Estimate the intrinsic value

I used the DCF model to estimate Apple’s intrinsic value. For the estimate, I used the current EBITDA ($130 billion) as the cash flow indicator and WACC of 9.0% as the discount rate. For the base case, I assumed EBITDA growth of 20% (segment average) for the next five years and zero growth thereafter (zero terminal growth). For the very bullish and hawkish case, I assumed EBITDA growth of 22% and 24%, respectively for the next five years and zero growth thereafter.

The estimate revealed that the current stock price is a rise of 20-30%. Given their technological superiority, organic/inorganic growth, and market dominance, I would expect them to easily achieve this upward trend.

target price

upside down

base case

$170.23

16%

bullish condition

USD 182.92

24%

very bullish condition

$196.41

34%

The assumptions and data used to estimate the target price are summarized below:

  • WACC: 9.0%
  • EBITDA growth rate: 20% (base case), 22% (bullish case), 24% (very bullish case)
  • Current EBITDA: $130 billion
  • Current stock price: $147.11 (05/14/2022)
  • Tax rate: 20%

cappuccino stock rating

The details of the scale are explained in this article.

weighting AAPL
Trench economic strength 30% 5
economic strength 30% 4
Growth rate against the sector 15th% 3
margin of safety 15th% 5
Sector Outlook 10% 4
Total 4.3

Economic Trench Strength – 5/5

Apple gets 5 out of 5. Apple is a leading company with an exceptional competitive advantage. Their competitive advantage stems from technological advantage, switching costs, and network effects.

Financial Strength – 4/5

Apple has $51.5 billion in cash and a high coverage ratio (45.13x), but liquidity (current 0.93x and velocity 0.76x) are in line with the segment.

Growth rate – 3/5

Apple is growing at a pace in line with its industry in general. Apple’s most recent annual revenue growth was 18.63% (versus the industry average of 19.98%). Given their leadership position and strong revenue, these revenue growth numbers are impressive. However, compared to over-growth companies in the start-up or ramp up stage with growth rates of 50-60%, it is difficult to give 4 or 5 stars.

Safety margin – 5/5

Apple is trading 25% below intrinsic value at this point. The constant market volatility and conflicts in the technology sector provide a great opportunity to grab Apple shares with intrinsic value. The P/E ratio is lower than the pre-pandemic level, which is illogical.

Sectoral look – 4/5

The technology sector will continue to grow at a rapid pace with new technology and markets, but the smartphone and laptop sectors will not be the fastest growing technology sector. There will be sufficient growth, but it is not exceptional.

risk

The iPhone is still the main part of Apple, and the competition within the smartphone market is getting more and more complicated. Also, consumer preference varies in terms of preferred features (camera quality, computing/memory performance, weight/size, etc.). The iPhone family still holds a leadership position based on technology superiority, switching cost and brand image, so I don’t expect Apple to struggle. However, I don’t expect significant growth from the iPhone segment in the future.

Global smartphone market share

Global smartphone market share (interview point)

As mentioned earlier, Apple has been moving towards self-sufficiency by manufacturing its own parts. So far, this effort has impacted the business in a positive way by improving margins and easing supply chain disruption. However, reliance on its own parts can lead to isolation, reduced technological development, and reduced market penetration. An example is the Japanese mobile phone makers (Panasonic, Sharp or NEC). They were ahead in terms of innovation, but failed to achieve global success. This is an extreme case, and I don’t expect this to be the problem for Apple. However, investors should monitor whether Apple maintains its cutting edge technology as it moves toward self-sufficiency.

Conclusion

Apple has been a great investment for two decades at this point. Its technological superiority, brand image and conversion cost provide a great economic moat, and new products and services will keep its growth engine running. Based on their strong financial positions and market leading position, I expect Apple to excel for the foreseeable future. I expect a rise of 20-30%.

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