Why I Am Cautious About Apple’s Soaring Stock Price

I took extreme care in crafting the above headline and I hope our eagle-eyed copy chief didn’t tinker too much with it. [He didn't!]

I’ll start with a bunch of disclaimers. I do not own {complink 379|Apple Inc.} shares, and I have no intention of buying or going short on the company’s stocks. Also, no member of my family — to my knowledge — is a shareholder in Apple, and nobody at my employer, {complink 11911|United Business Media Ltd.}, has whispered anything in my ears about their intentions regarding the company.

Finally, I am not really betting against Apple in its entirety or sweeping aside the reality of the company’s meteoric rise in the last five years. That would be insane; any company that manages to more than double revenue to $43 billion in its 2009 fiscal year from $19 billion three years earlier deserves a truckload of respect. Analysts forecast Apple's sales for the 2010 fiscal year will top an astounding $60 billion.

With that safely out of the way, let me tell you why both investors and suppliers need to be wary about the meteoric rise of Apple’s shares. It certainly bothers me, because it seems to me many investors are throwing caution to the wind with regard to Apple.

  1. Apple has a fat target on its back. There’s a horde of companies now either chasing Apple or trying hard to make sure it does not catch up with them in key market segments. Apple is hot, but it does not have the same dominant position as, say, Intel, in any of its market segments. It is not the world’s biggest or second biggest PC company by sales, and, again unlike Intel, it has some pretty tough and close competitors. Yet Apple is now the world’s second biggest public company — after ExxonMobil — by market valuation. Am I the only one who thinks something is amiss here?

    In almost every sector where it plays, Apple has major opponents. In the PC sector, it must fight off a battery of rivals deploying the Windows operating system, including {complink 38|Acer Inc.}, {complink 1544|Dell Inc.}, {complink 2376|Hewlett-Packard Co.}, {complink 5114|Sony Corp.}, and {complink 5648|Toshiba Corp.}. In the digital music player market, its iPod series must continue to successfully ward off major Japanese, Korean, European, and Chinese OEMs. In the wireless handset sector, Apple must fight off the Android phones from major equipment makers as well as contend with competition from {complink 3847|Nokia Corp.}, still the No. 1 global handset vendor.

  2. The competition is getting smarter and responding faster with better products. Immediately Apple launched the iPad, rivals began announcing competing products, many of which will eventually erode Apple’s customer base. Competitors were caught flatfooted when Apple launched the iPod and the iPhone, and they have been struggling to catch up since. They won’t make that mistake anymore, as demonstrated by how quickly they are bringing out competing tablet PCs.
  3. Apple is taking on entrenched sectors of the supply chain. This, in my opinion, is a strategic blunder on the part of Apple that may come back to haunt the company. By moving further into the supply chain — designing its own processor, for instance — Apple has invited some of its current and potential suppliers to compete with it. Many suppliers in the semiconductor market will continue to cheerily supply components to Apple, but many more will be wary of letting the company displace them in critical design areas. Others, like Intel, will partner with and help competing OEMs find ways to keep Apple in check.
  4. The Google alliance. There’s an informal alliance forming in the high-tech industry to take Apple down a notch because Apple’s continued dominance of the consumer electronics market is not in their long-term interest. Now, in addition to the Win-Tel (Windows and Intel) alliance, Apple is now facing opposition from the Google Android alliance, and another set of players is coalescing around Intel microprocessors in the tablet PC market.
  5. Apple has become the ultimate speculative stock. I’ve made this point in previous articles for EE Times and still believe Apple’s stock price has risen, not only because of its intrinsic value, but also because it has become a must-have part of many fund holdings and because many day traders and other speculators benefit from the price volatility now associated with the shares. Daily trading volume of Apple stock is around 20 million, more than twice the daily trading volume of {complink 2470|IBM Corp.} (5.8 million) and Google (2.8 million) combined. Together, Google and IBM have market value of $350 billion compared with $274 billion for Apple.

Apple is not about to get flattened by the opposition, but the company is not always going to maintain the growth trajectory it has experienced in the last few years. While it will most likely continue to push the boundaries of innovation in the high-tech sector and expand into new market segments, it won’t have as easy an experience in the future.

If you want to know what other writers think of Apple, check out The Truth About Ditching the iPhone for Android.

12 comments on “Why I Am Cautious About Apple’s Soaring Stock Price

  1. Steve Saunders
    October 15, 2010

    Great blog, Bolaji. But despite all of your well made arguments there seems to be one axiom in our industry that still holds true:

    “Never battle the apple!”



  2. tioluwa
    October 15, 2010

    Awesome analysis Bolaji,

    in my opinion, i can't expect less of apple. As you have noted, in every market they exist in, they fight against very strong and well-grounded opposition, not the mention the various coalitions against their reign. I think with such a scenario, they need to keep digging down to find a firm root somewhere.

    What's going on with stocks is still a function of whether or not Apple still has a market for its goods, or rather, a stable and growing market.

    Despite the antenna issue, apple iphone4 hit 1.5 millions in sales on its first day, boasts of constantly increasing sales figure each quarter since introduction into the market which is now estimated at 11million iPhones, not to mention an estimated 60% increase in sales over the past year.

    Let's not forget the extensive collections of apps for the iPHONE. Even the iPAD, while not the first tablet PC, for some reason has become the most popular.

    So we could say they have their foot grounded in the market, but for how long?

    I think its up to their ability to keep customers awe struck by their innovative ideas, or find something indispensable that everyone must keep coming back for.


  3. Scott Raynovich
    October 15, 2010

    Yes, it's hot, everybody loves it, and Apple seems like it's the world's fair. That part of what you say is true. But I have to take issue with you saying that Apple is the “ultimate speculative stock.” You are totally wrong.

    A speculative stock is a company that people drive higher with hopes that it will deliver something in the future, when in fact it has yet to deliver anything. An example of this were Internet stocks that were losing money in 1999 with tiny revenues trading at multi-billion-dollar valuations. Those were speculative stocks.

    Apple is the exact opposite. It is a money machine. Huge profits. It has a long track record of success. It has no debt and a huge amount of cash on its balance sheet. Financially, it's rock solid. It's growing fast.

    And, in fact, looking at some basic objective financial metrics, the stock is not really that expensive and should certainly not be labeled speculative. In fact, you could argue that it is cheap, relative to other growth companies in the market. The forward P/E multiple on next near's earnings is 17, even though the company has been doubling revenue, as you point out. The company has a return on equity (ROE) of 36%. It's got $24B in cash. The basic metric I like to use is that if the P/E is lower than the ROE, and the company is profitable and growing, it's cheap. By all these metrics, this is not an expensive or “speculative” stock as you say.

    To compare, GE, a huge conglomerate with slower growth and more financial risks, has a Return on Equity of 9%. It has not grown meaningfully in the least few years. It has a foward P/E of 13. If you had to pick one, which stock seems more risky at those valuations? I'd take Apple.

    Yes, Apple has competitive threats (doesn't every company?), but the stock-market value is actually quite conservative. And given that it's an enormously profitable company, I would say to you: It's actually the EXACT OPPOSITE of a speculative stock. It's a blue-chip stock.

    Can blue chip stocks fall? Sure, any stock can fall for a variety of reasons. Personally, I think this stock is going higher.

  4. Steve Saunders
    October 15, 2010

    Scott, where does Facebook figure on your speculation scale? Speculative, or no?

    My guess is “super spec”!!



  5. Scott Raynovich
    October 15, 2010

    From what I know (company is private), Facebook has fairly large revenues (estimated at $1.4B), and I imagine it is pretty close to breaking even. It could probably make a lot of profit if it wanted to stop adding costs for growth.

    But the way many people talk about stocks, they don't really care about the valuation. Would you buy a house without knowing the price relative to its square footage? It all comes down to the valuation. Last I heard, Facebook's private valuation was somewhere around $40B, which is very aggressive (30X sales). If that were a public market valuation I would have a very hard time buying at that price.

    So, Facebook has a very rich valuation, but it's not as speculative as the Internet bubble companies of 1999 because it has a lot of revenue and profit potential.

    Of course, making these calls is extremely difficult. Facebook could keep growing very fast and have a $100B market cap as a public company in 5 years. It's possible — it's happened before.


  6. bolaji ojo
    October 15, 2010

    Rayno, Today, Apple's stock price rose to a high of $310.47. The stock broke above $300 for the first time earlier this week and has now risen almost 6 percent in one week. The recent increase may be attributed to expectations the company will blow past earnings and revenue forecasts but this type of surge has been typical for Apple: Over the 52-week period culminating today it has jumped 67%! If the stock price continues to grow at this pace, by fiscal 2011, any new P/E forecasts, including the one you cited, would be obliterated within the next few months. The market demand for its products is finite and I do not see a situation where Apple will continue to grow sales, margins and profit at the rate it has over the last five years. This, in my opinion, is one reason to be cautious on — not abandon — the stock.

    Overall, it's difficult to argue against the points you have marshaled here, except for the savings grace 🙂 that your argument also has the flip side. I have to confess that I like Apple products and my sentiments are for the company. In other words, I am hooting for the company. My first PC was a Mac bought way back in 1993 (and which my wife is keeping as a memento!). I can continue to be a cheerleader for Apple but it's also important to be clear-minded about what the future may hold.

    First, let me address your comments about whether or not Apple has become a “speculative” stock. You are right. That's perhaps not the best way to describe the company. However, it has also become the must-have stock and while there are clear-thinking people like you that might be invested in Apple, there are also countless thousands of others who just believe the stock will continue to go higher each day, month and year unfailingly. If your analysis holds, then we should all be pouring into Apple with the hope the stock could run up to $400 or more. It's not an unlikely expectation. However, my point is that investors must constantly evaluate Apple's performance against what the competition is doing. Believe me, the competition is doing plenty to counter the advantages Apple has. They won't defang the company but they will eventually eat into its market share substantially.

    Furthermore, there are people in this industry who say Apple has created a new paradigm for the high-tech industry. I beg to differ. Dell also might have created a new paradigm and so, in that sense, did Microsoft, Yahoo and Google at one point in their respective history. Yet, these companies today do not have the following they once did. Apple is unquestionably the No. 1 pick; all the others form the subset of a distant No. 2.

    In terms of valuation, Rayno, if we go back in history before the bubble years, no companies have risen as quickly as many of the companies that have disappeared and certainly not like Apple. The fact many of these companies folded or experienced diminished market valuation causes me to think it may be time to return to old valuation metrics. So, on that basis, Iask myself what is the total value of Apple's overall assets (liquid and otherwise) compared with its current market value. This calculation brings up some pretty impressive figures: Apple has potentially liquid investments (cash, short-term investments, long-term investments and other long-term investments) totaling almost $48 billion as at the end of the June quarter. That is some mindboggling number. When the fiscal 2010 numbers are revealed this will be even higher. It's difficult betting against such a company, I admit.

    However, then I ask, if one were to dispose of Apple's assets today, how much would that bring and what's the difference left over between current cost of total assets minus current market valuation. This rough analysis gets me to think that Apple's current value is huge in the “goodwill” column, reflecting how people think the company would continue to perform in future. If Apple were broken up and sold for the sum of its parts today, goodwill would account for more than $200 billion — and counting.

    As a “going concern” I realize nobody is thinking of Apple breaking up and being sold but I am concerned the stock is getting ahead of itself. I like your analysis and it holds true but I still have this niggling feeling investors need to constantly review their position and get ready to sell once Apple peak because certainly, it will peak one day.

  7. bolaji ojo
    October 15, 2010

    Rayno, Is valuation still useful in determining what investors should pay for a company's stock? I figure you are right that many people really don't even look at valuation anymore, otherwise how could Facebook be valued at $40 billion or more. If valuation has less utility today than before what are the new metrics people are using? How would these apply to hardware manufacturers as opposed to Internet and social-media companies? It's a puzzle. Should old-school yardstick be tossed aside or should some of us still hold on to this believing that things might return to normal someday?

  8. Scott Raynovich
    October 15, 2010


    It sounds like you like Apple, so why doubt it!

    Of course there are risks, there always are. I'm just pointing out that with Apple, given it's relatively reasonable valuation and track record of success, the risks are low relative to some other tech stocks. As usual you should do your homework (sounds like you are doing it), and monitor the story.

    For example, if you really want an overvalued stock to pick on, why not take a look at (CRM): Sales of $1.4B, a market cap of $14B, and a forward P/E of about 73. Now there's a stock you could argue has gotten ahead of itself.





  9. Scott Raynovich
    October 15, 2010


    “Is valuation still useful in determining what investors should pay for a company's stock?”

    Definitely. It is one of the most important questions. Do you buy a car without asking what the price is?

    And I assure you valuation has not gone away in consideration. There are millions of analysts crunching numbers right now on every stock in the universe trying to determine whether it is cheap or not.

  10. Ashu001
    October 15, 2010


    You answered the most important question yourself in Point 5,


    Apple has become the ultimate speculative stock. I’ve made this point in previous articles for EE Times and still believe Apple’s stock price has risen, not only because of its intrinsic value, but also because it has become a must-have part of many fund holdings and because many day traders and other speculators benefit from the price volatility now associated with the shares. Daily trading volume of Apple stock is around 20 million, more than twice the daily trading volume of IBM Corp. (NYSE: IBM) (5.8 million) and Google (2.8 million) combined. Together, Google and IBM have market value of $350 billion compared with $274 billion for Apple.


    All I want to say is when this stock market frenzy fuelled by free money doled out by the US Federal Reserve turns the other way,lot of Day traders and HFTs are going to be left holding a stock which is'nt worth half as much it is today.But I just don't know when.So I stay away from Apple.



  11. Tunrayo
    October 16, 2010

    I agree valuation of stocks is key to help determine if a stock is optimally priced. However in Apple's case we have to estimate how much we would value its goodwill. This is an intrinsic component of Apple's balance sheet that is difficult to determine. Regardless of Apple's market share today it is a fact that the iPhone and it's other products are the most sought after. This is why Apple can sell its products for such high prices (some people in China will pay as much as $1000 for an iPhone4)! Apple in my opinion has become a luxury good – it has become the case of buying just a shirt or buying an Armani shirt. This goodwill factor enhances Apple's gross margin an I for one will not bet against it. I remember some years back – I felt the Google stock price at $300 was too expensive, and would probably not rise anymore. How wrong I was! Google stocks now go for about $600. Apple had always innovated – from the Mac to the iMac to the iPod to the iPhone … what makes us think they will stop?

  12. bolaji ojo
    October 19, 2010

    Tunrayo, I am not betting against Apple but even if I could, I would be very hesitant in jumping into the market for its stock. You need a strong stomach to deal with the wild swing in the company's stock price. Check it out today. It's lost 5 percent in after-market trade overnight. Who knows how it will perform two weeks and one month from now once the financial result hype blows over. My forecast is for the stock to trade sideways through December and then pick up strongly if Apple introduces a new product (Jobs has said the company has other products coming) or later in January ahead of the announcement of December quarter results. Of course, there's likely to be a bump up in December with people buying iPads, iPods and iPhones for relatives and friends.

    These are all shorter-term moves. The more fundamental issue of the competition is what should keep investors watchful and wary over their shares in the company. Apple is going to continue doing a lot of things right but it is also eating away at the competitive market share and eventually the rivals will get their act right. So far, the competition is flaling away trying to do things right and not quite getting there.

    One other item of note is Apple's gross profit margin. It slid in the fourth fiscal quarter to 37 percent from 42 percent in the comparable 2009 period. That's evidence pressure is building either on the components or manufacturing side. The single quarter number is not enough, though. A few more quarters from now and it would be clearer if Apple is experiencing a decline in margins. That's when the concerns would begin to pile up. For now, I think the company should still be fine as long as it keeps the innovation coming. In a coming column, I will be suggesting another product area I think Apple should explore.

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