Apple (AAPL) remains a hedge fund favorite as a long-term long idea, but that doesn’t mean it’s been doing well lately. The stock recently broached $94, leading it into single-digit P/E ratio territory after weeks of weakness and disappointing iPhone sales guidance in the last earnings call.
Many investors are selling Apple because they fear the company’s reliance on one product line—the iPhone—leads it victim to declining demand in that product line. More worryingly for these tech-oriented investors, the company has failed to make a dent in emerging technology categories. Wearables is the key problem for these people. The Apple Watch has had some minor success, but remains very much a niche product; for it to be meaningful to Apple’s income statement, the product’s sales will need to grow 10x, and no one is projecting that will happen in the next five years, if ever.
On the other hand, financial analysts within institutional money management firms are largely ignoring the “lack of innovation” reasoning of the bears. Whereas sellers fret that Apple is not making new, innovative, exciting products like it did when it made the iPad and iPhone, analysts shrug. They point to an accelerating operating margin, which was over 31% last quarter, strong net profits, a tremendous amount of cash on the balance sheet, and the company’s wide moat thanks to its iOS ecosystem as all reasons to be constructive on the name. Then there are the buybacks and dividends, which incentivize purchasing the stock even more.
A significant issue is the company’s low price-to-earnings ratio. At 9.98, it’s half of the S&P 500 despite having revenue growth many times greater than the index; if you exclude cash from its market cap—a smarter way to look at the P/E ratio, especially for a company as rich as Apple—you get a P/E ratio of 9.2. Include all current assets, and your P/E ratio plummets to 8.56. These are some of the lowest P/E ratios of any large cap stock in the United States.
Still, that doesn’t mean it can’t fall further. Continued pessimism both about the economy and about Apple’s sales growth rate could cause the stock to fall further. How low could the P/E ratio go? At 7 (including cash) the stock would be $65.87. Excluding current assets, that’d be a P/E of 5.5.
Such a ratio would be historically unprecedented both for a tech stock and for the U.S. equity markets as a whole. That doesn’t mean it won’t go to that level, or even lower. But declining stock values, while frustrating for holders of the company, aren’t necessarily a bad thing for Apple. The lower the stock price goes, the more its buyback program adds value for shareholders. If it gets absurdly cheap, the company can buy stock more aggressively.
Is there an absolute floor to how low Apple can go? In theory, yes. Total assets as of last quarter were $293.3 billion, while total liabilities were $165 billion. Thus the company’s market cap shouldn’t fall below $128.3 billion, the value of its total assets. That’d be a share price of $23.15, and presumably Apple would make itself private at that price point, or at least buy every share it possibly could since it’d be buying future sales for free.
The idea of Apple going that low is an absurdity, however. The company’s growth rate is too strong, balance sheet too healthy, and management too smart. It’s become one of the world’s most recognizable brands, if not the most. But as technologists fantasize about doomsday scenarios, the absurd will become more popular, even if it will never come to fruition.