Investment Decision: Apple Inc.

Introduction

Apple is one of the most suitable companies to invest in. The company is recovering from the 2008-2009 financial crisis, thus the current share price of the company is slightly below its intrinsic value. This is an ideal opportunity for investment in the company. At the beginning of the 2014 financial year, an Apple Inc.’s share traded at $1,230, with the net asset value for each share at $986 (United States Securities and Exchange Commission, 2016). This means that the shares of the company were trading at a much lower price than those of some of its competitors, such as Samsung and Microsoft. Besides, the shares of Apple Inc. are promising good yields following ever-increasing returns per share in the last five years. This is an indication that the company’s shares have a great potential for better future performance, when compare to its current competitors (United States Securities and Exchange Commission, 2016). At the present time, which is in the year 2016, the company’s current dividend yield is $10.90 per share.

The Industry

The PC Industry in the US is very competitive, due to constant technological innovation and variation in prices. The primary players in the US PC industry are Apple, Microsoft, and Samsung, among others (United States Securities and Exchange Commission, 2016). The table below is a summary of the sales of these three companies.

Company Sales (USD million)
Apple 96,255
Samsung 84,489
Microsoft 36,463

The above table indicates that Apple Inc. is currently leading in the US market in terms of sales, followed by Samsung and then Microsoft.

Economic Conditions

Since the year 2009, the companies within the PC industry have experienced reduced sales due to the hard-hitting economic recession that began in the same year. This financial crisis created disequilibrium in the PC industry, since supply exceeded demand (United States Securities and Exchange Commission, 2016). Such a dramatic shift was not expected in the PC industry, since most of the products within this category are used by everyone. For instance, in the year 2009, the US PC market experienced a reduced growth by almost seven percent (United States Securities and Exchange Commission, 2016). Despite the rising trend recorded in subsequent years, the industry’s growth still falls within a single-digit margin.

Ability of Apple to Cope with the Market Trends

The previous economic meltdown affected the Apple Company in particular, and the PC industry as a whole. However, the industry is steadily recovering from the downfall. In order to cope with market trends, Apple Inc. has introduced more products and expanded its market coverage beyond traditional markets, by introducing iTunes, a digital watch, and software vending. In addition, Apple Inc. reduced its annual expenditure by twelve percent (United States Securities and Exchange Commission, 2016). The above stringent measures were adopted by the company to ensure that dividends and the bottom line are not affected by the prevailing market trends. Despite the current status of recovery from a global economic crisis, it is apparent that Apple Inc. has been able to survive the swings in the PC industry both within the US and abroad. Besides, the company has been strategic in ensuring that the shareholders receive dividends, even when market swings are negative (United States Securities and Exchange Commission, 2016).

Client’s profile

Joshua, who is at the present time aged 32 years and single, graduated five years ago in Aeronautical Engineering. He is currently living with his family. The rest of the family is made up of the father, who is expected to retire in the next five years, and the mother, who is a nurse and has seven years to retirement. He also has a brother who has completed college education and is seeking a job. Joshua currently earns an annual salary of $34,600 after tax, and has annual expenses of approximately $21,000. With $60,000 in his bank account, Joshua has a very cautious approach to investments. Further, he recently inherited $40,000 from his grandfather. Finally, Joshua’s total credit amounts to $10,000.

Reason for selection of stock

Apple is one of the most profitable blue chip companies in the United States. Statistics show that the company’s share prices have grown by over 250% over the past five years. However, despite this tremendous past performance, investment decisions are made based on the expected future performance of the company. The first reason why I selected the company is because it has a sturdy financial performance. A review of the company’s basic financial statements shows that revenue grew from $170,910 million in 2013 to $233,715 million in 2015. The operating profit also grew from $48,999 to $71,230, while net income grew from $37,037 million to $53,394 million during the same period. This shows that over the past three years, the revenue and profit of the company have grown by a large margin. Further, the asset base of the company has also grown from $207,000 million in 2013 to $290,479 million in 2015 (United States Securities and Exchange Commission, 2016).

This shows that the company is experiencing an upward growth in financial performance. The company’s cash flow statement also shows that the cash generated from operating activities grew from $53,666 million in 2013 to $81,266 million in 2015 (United States Securities and Exchange Commission, 2016). The amount spent on investing activities also grew during this period, promising to lead to improved performance in the future. A further review of the balance sheet shows that the company increased the amount allocated for share repurchase. A share repurchase has an effect of increasing the value for shareholders, by improving the earnings per share. Besides, it provides mitigating mechanisms for stock volatility. Thus, it can be noted that the management of Apple Inc. is keen on improving the company’s value for the shareholders. Therefore, the performance of the company has been quite remarkable, considering the size of the business. In addition, the current trend of performance is expected to persist in the future (Kumar, 2015).

The second reason I selected Apple Inc. is that the company has a strong and valuable brand across the globe. Based on economic theories, a strong brand name enables the company to practice product differentiation. This grants the company some pricing power. Thus, they are able to charge a price that is higher than the market rate. The results of 2015 show that the profitability of the company accounts for about 90% of the industry are operating profit. This shows that Apple Inc. has a significant market share among others in the PC industry. It also enables the company to deliver above-average profits to the investors. Market review shows that the competitors in the smart phone industry are reducing their prices with an aim of maintaining their market share. However, in the case of Apple products, the company was able to successfully increase the price of an iPhone by about ten percent. It is worth mentioning that increasing the prices of commodities when the industry is moving in the opposite direction has a commanding effect from a financial point of view. This can only be achieved by a company that is considered to be special (Kumar, 2015).

Another reason why Joshua should invest in Apple Inc. stock is that it has convenient valuation. The stock of the company has a reasonable price. The current price to earnings ratio of the company is 10.90, while the price to earnings ratio of S&P 500 index is 20.1 (Yahoo! Inc., 2016). The price to earnings ratio for Apple Inc. is lower than that of competitors in the technology industry, such as Facebook, Inc. This implies that the market perceives that the future performance of the company will be lower than the performance of the market. The reason why the shares of the company are trading at a lower price is that the market expects that the sales of the iPhone will drop as the industry grows and reaches maturity. A review of the current financial statement shows that the sale of the iPhone accounted for about 55% of the total sales of the company (United States Securities and Exchange Commission, 2016).

Therefore, a drop in sales of this product will have a significant impact on the value of total sales. Market review shows that the demand for the key product offered by the company looks quite healthy, especially in emerging markets. This shows that there is room for growth in the future. There remains the fact that it is difficult to predict how long the company can sustain the high sales of iPhone products. The company should minimize its dependency on the iPhone for revenue. This can be achieved through diversification. Thus, it is important to monitor the performance of the other products that are sold by the company. However, the share prices of the company are low. This will be favorable for investors in the event the growth in sales slows down. If the sales of iPhones and other products grow in the future, then Apple Inc.’s investors will enjoy future gains. This makes investing in this company a good idea.

The performance of Apple Inc. is likely to explode when cable dies. With the current advancements in technology, cable is likely to collapse in the near future, just like telephone utilities and record companies, among others. This will be to the advantage of companies that are well placed, such as Apple Inc. Therefore, the investors are likely to gain significantly (Kumar, 2015).

Ratio analysis

The table presented below shows a summary of ratios for the company.

2013-09 2014-09 2015-09
Current ratio
Quick ratio
1.68
1.40
1.08
0.82
1.11
0.89
Receivables turnover 14.22 11.96 13.62
Earnings per share 5.68 6.45 9.22
Price earnings ratio 14.1 17.1 11.4
Debt to equity ratio 0.14 0.26 0.45

(Source of data – United States Securities and Exchange Commission, 2016).

Liquidity

The liquidity of the company is measured by current and quick ratios. These ratios measure the ability of Apple Inc. to maintain positive cash flow while satisfying short-term obligations. In other words, the ratios check the availability and the sufficiency of the current assets to settle immediate obligations. A company should maintain an optimal value of the liquidity ratios, because low ratios may indicate that the company does not have a sound liquidity position, while high liquidity ratios show that plenty of resources are tied up in assets that cannot generate revenue for the business. Further, the liquidity of a company is highly influenced by the industry in which the company operates, and the type of products that are sold or services that are rendered by the business. This explains why the ratios differ across various industries. The current ratio dropped from 1.68 times in 2013 to 1.08 times in 2014. The value later rose to 1.11 times in 2015. The current ratio measures the ability of the company to settle current obligations using short term assets.

The values of current ratio were greater than one. This implies that the current assets can cover current obligations. However, the values were low. The quick ratio followed a similar trend. The value dropped from 1.40 times in 2013 to 0.82 times in 2014. A slight improvement was reported in 2015. This ratio measures the ability of the company to settle immediate obligations using assets that can easily be converted to cash. The values for 2014 and 2015 were lower than one. This implies that the company faced liquidity problems during these two years. The drop in liquidity can be attributed to a decline in current assets over the three-year period, and an increase in current liabilities. For instance, the current assets dropped from $73,286 million in 2013 to $68,531 million in 2014, while the total current liabilities grew from $43,658 million to $63,448 million during the same period. The ratios indicate that there was a general decline in the liquidity position of the company. The decline implies that the company is facing difficulties in managing working capital. Thus, it may be unable to pay creditors on time. The company may also face cash flow problems (Atrill, 2009).

Efficiency

Asset management ratios provide information on the operating efficiency of the company. It shows the efficacy in the use of available resources to create sales and profit. In this case, the receivables turnover ratio will be used to evaluate the efficiency of Apple Inc. The ratio focuses on how the company manages debtors. Specifically, the ratio measures the efficiency in collecting amounts due from customers. The value of this ratio fluctuated during the period. It dropped from 14.22 in 2013 to 11.96 to 2014 and later rose to 13.62 times in 2015. Thus, there was a general decline in the receivables turnover. This can be explained by the growth in the value of accounts receivables. The value grew from $13,102 million in 2013 to $16,849 million in 2015. Revenue also grew from $170,910 million in 2013 to $233,715 million in 2015. A decline in the value of the ratio indicates that the frequency in collecting debts deteriorated (Collier, 2010). This can also be interpreted to mean that the period between the issuance and collection of debt increased. This implies that the efficiency in management of accounts receivables deteriorated, which translates to a decline in working capital and the overall financial health of Apple Inc.

Profitability

The profitability ratios measure the earning capacity of the company. The ratios show the company’s efficiency in the use of available resources to make a profit. In this case, earnings per share will be the measure of profitability. It shows the amount of profit that is attributed to each outstanding share. The value of the ratio grew from $5.68 in 2013 to $6.45 in 2014, and further grew to $9.22 in 2015. This growth is an indication that the profitability of the company improved during the period of analysis. A further review of the income statement shows that the net income grew from $37,037 million in 2013 to $53,394 million in 2015. The weighted average number of shares also declined during the period. Therefore, the growth in earnings per share can be attributed to growth in income and a decline in number of shares (Graham, Smart, & Meggison, 2010).

Market value ratios

This group of ratios gives information on the valuation of the company. They show whether the company is under- or overvalued. In this case, the price earnings ratio will be used to evaluate the value of the company. The ratio shows the amount that will be paid per unit of earnings. The value of Apple Inc.’s price earnings ratio fluctuated during the period. It grew from 14.1 in 2013 to 17.1 in 2014. However, the value of the ratio dropped to 11.4 in 2015. The values of the price earnings ratios are low. This shows that the market perceives the company as a high risk. Thus, the earnings of the company are considered volatile. The ratio shows that the earnings of the company are likely to drop in the future (Collier, 2010).

Debt ratio

The debt to equity ratio gives information on the proportion of debt and equity financing that the company uses. Investors are often interested in the debt ratio, because it gives information on exposure of equity financing. A high amount of debt in the capital structure reduces the profit that is attributable to shareholders. It also increases the risk level of the company. Therefore, a company should strive to maintain an optimal level of debt. From the table above, the debt to equity ratio rose from 0.14 in 2013 to 0.26 in 2014. The value grew further to 0.45 in 2015. Thus, the value of debt to equity ratio grew during the period. A review of the balance sheet shows that the increase in debt to equity ratio can be explained by an increase in the amount of debt and a decline in shareholders’ equity. Based on this ratio, it can be concluded that the risk level of the company has increased (Collier, 2010).

Analysis of stock, perceived risks, and ways of minimizing risks

Analysis of stock

The graph presented below shows the trend of daily stock prices for the company for the period between January 1, 2013 and May 30, 2016.

the trend of daily stock prices for the company for the period between January 1, 2013 and May 30, 2016.

The chart shows that there was a general increase in the stock prices between May 2013 and July 2015. Thereafter, there was a decline in the share prices. The trend of the share prices is a mirror of the performance of the company. This shows that since mid-2015, the market perception of future performance of the company has affected the trend of the shares. Specifically, the market is worried about the future performance of iPhone sales. Besides, the recent devaluation of Chinese currency has also affected revenues.

Risk

The volatility in share prices that is displayed above indicates that the company is exposed to some risks. The first perceived risk, from an investor’s point of view, is that global and regional economic conditions can negatively affect the performance of the company. Apple Inc. has a presence across the globe. Therefore, global economic conditions such as increased unemployment levels and volatility in the financial markets, factors that can affect global consumer behavior, can affect the revenue and bottom line of the company. Secondly, rapid technological change and high levels of competition have a potential of facing out the company if it cannot keep up with the change. Another perceived risk is the fluctuations in the market value of the investment portfolio. This can be affected by a number of factors, such as financial results, economic conditions, and liquidity, among other factors (Yahoo! Inc., 2016). Therefore, based on the risks that have been discussed above, and many others, the stock of Apple Inc. is considered to be low risk. The second strategy that the investor can employ to minimize risk is using the dollar-cost averaging strategy. In this case, the client should invest a fixed dollar amount to purchase shares of Apple Inc. on a periodic basis. This can be done on a quarterly or semi-annually basis. Thus, as the share prices fluctuate, the investor will receive more shares when the prices are low and fewer when the prices are high.

Ways of minimizing risks

There are a number of ways in which the investor can minimize the risks that are associated with investing in stock. The first approach is through diversification. This can be achieved by coming up with a portfolio of stocks with different levels of risk and return. The underlying theory indicates that diversification has the effect of minimizing the portfolio risk and maximizing return (Yahoo! Inc., 2016). When coming up with the portfolio, an investor should minimize investing in stocks that have a low price to earnings ratio, because there is a high possibility that they are overvalued. Apart from these two strategies, the investor needs to thoroughly evaluate the financial and non-financial aspects of the stock before investing in it.

Recommendation

Based on the analysis above, the investor should purchase the stock of Apple Inc. This is based on the fact that the company has strong earnings. Besides, the shares of the company have a low valuation. Therefore, Apple Inc.’s investors are likely to gain in the future, if the current performance of the company continues into the future. A review of the risk profile shows that the company has a low risk level. This implies that Apple Inc.’s investors are exposed to low risk. The analyst opinions and estimates provided on Yahoo Finance gives an average recommendation of 1.8 (Yahoo! Inc., 2016). This indicates a strong buy. As a matter of fact, over the past two months, the number of shares purchased exceeds the amount of shares sold. This also indicates that the shares are a viable investment (Tully, 2016). A review by other analysts shows that the share prices of Apple Inc. dropped despite the improved performance. The drop was caused by the fear that the sales of the company’s products are likely to drop (Tully, 2016).

References

Atrill, P. (2009). Financial management for decision makers. United States: Pearson Publishers.

Collier, P. (2010). Accounting for managers. USA: John Wiley & Sons.

Graham, J., Smart, S., & Meggison, W. (2010). Corporate finance: linking theory to what companies do. USA: Cengage Learning.

Kumar, S. (2015). 3 reasons to invest in Apple now. Web.

Tully, S. (2016). Why Apple’s investors are questioning its future. Web.

United States Securities and Exchange Commission. (2016). Apple Inc. Web.

Yahoo! Inc. (2016). Apple Inc. (AAPL). Web.