2011 has been an eventful year for Apple, to say the least.

Perhaps the most significant occurrence of the year, and certainly the unhappiest, was the October 5^th passing of Apple’s co-founder and visionary Steve Jobs. Jobs cr

eated

a company, and led it, through turbulent some turbulent times to become today one of the world’s most distinguishable brands, whose design-focused products have developed a cult-like following. Jobs’ legacy lives on, and the company continues to astound.

It was perhaps a tribute to Steve that, before his passing, he witnessed in early August Apple pip oil group ExxonMobil to become (for a while) the world’s largest company by market value, at the time reaching a market capitalisation of US$337 billion. While this was due in part to Exxon’s poor fortune amid turbulent times on the stock market and depressed oil prices, having announced its best quarterly performance ever helped Apple’s share price to hit US$365.25, causing its market capitalisation to temporarily leapfrog that of Exxon.

In the week of the 17 October 2011 Apple’s share price hit US$426.70. Today that price is US$366.99, implying a market cap of US$341.08 billion. What is driving investors to value the technology company so highly?

Firstly, let’s look at the consensus estimates for Apple’s revenues and profit levels.

Analysts predict revenues to continue to grow strongly, but at a slower rate than the previous five years, achieving a compound annual growth rate (CAGR) over the next five years of 8.9%. Profit (as measured by EBITDA) grows as well, at a five year CAGR of 9.8%. The implied profitability levels are forecast to stay relatively constant around 33%.

How do these forecasts compare to Apple’s historical performance?

The first observation is that revenue grows 52% from 2009 to 2010, and a massive 66% from 2010 to 2011, with the growth rate falling in the forecast period. Second, profitability has grown from 19.2% to 32.9% in the five years to 2011, and is forecast to stay relatively constant over the forecast period.

These are impressive growth rates. But do they justify the current share price?

Discounted Cash Flow (DCF) Valuation

First, we carried out a DCF valuation based on consensus estimates for future revenue and profitability, CAPEX and depreciation, and Valuecruncher estimates for parameters including the discount rate and the long term growth rate.

Using a DCF valuation, we value the share price of Apple at US$323.76 – 11.8% lower than the November 23 closing price of US$366.99. For this valuation we used a discount rate of 11.5% and a long term growth rate of 2.5%.

To get to a valuation of US$366.99, assuming the consensus estimates and estimated discount rate are accurate, implies a necessary long term growth rate of 4.6%. This means investors buying in at US$366.99 expect revenues to grow at least 4.6% per annum forever (while maintaining the current profitability ratios) to justify the price.

Note: The value of equity is calculated as enterprise value less net debt. Equity value is then divided by the total number of shares to get a price per share. In our valuation, we used cash and equivalents plus short term investments plus long term investments to calculate net debt. Apple has zero debt and a total of US$81.74 billion of cash and equivalents, short term investments and long term investments. Thus, because net debt is negative, Apple’s equity value is US$81.74 billion greater than its enterprise value.

It is obvious then that the treatment of cash in the net debt calculation directly affects the share price. If we were to use only cash and equivalents and short term investments to calculate net debt, the share price falls to US$263.92. If we reduce the cash calculation further by only including cash and short term equivalents, the share price drops again to US$246.38.

Comparison Analysis

We then completed a comparison analysis, looking at how the market was valuing a range of Apple’s peer companies. The companies used in the comparison were:

• Microsoft
• Google
• IBM
• Qualcomm

Using the Valuecruncher interactive analysis report, these comparators can be substituted for others as you wish. Other potential comparators include:

• Research in Motion
• Palm
• Hewlett Packard
• Dell

The metric of choice for this valuation was EV/EBITDA, that is, the enterprise value of the company divided by its EBITDA. This metric essentially allows us to compare how investors value one dollar of Apple’s earnings relative to its competitors – a high metric shows that investors value one dollar of a company’s earnings more highly than one dollar of a company’s earnings that has a low a metric.

To complete the comparison analysis, the average EBITDA multiple from the four peer companies is calculated and then applied to Apple’s EBITDA, to give an implied enterprise value for Apple based on how similar companies are being valued. Net debt is then subtracted from the enterprise value to give the value of equity in the business, which is then divided by the number of shares to give a share price.

The market cap weighted average EV/EBITDA multiple for the chosen peer group was 9.06x. Applying this to Apple’s EBITDA from the last financial year of US$35.582 billion implies an enterprise value of US$322.37 billion. The negative net debt means that to calculate the value of equity, Apple’s cash and total investments balance of US$81.74 billion is added to the enterprise value, to give an equity value of US$404.11 billion, and a resulting share price of US$434.81.

Thus, based on how the market is valuing Apple’s peers, Apple appears to be undervalued by 15.6%.

Summary

The two valuation methodologies shown above elicit very different results. We place more weighting on the DCF analysis, which looks at the fundamental aspects of the business, rather than how the market is currently valuing Apple’s peer group.

The difference in the valuation produced by the two methodologies used above suggests there is a disconnect between the fundamental analysis (DCF) and how the market is currently valuing Apple and its peers.

Results of the market analysis suggest Apple is undervalued by 15.6%. In other words, the market currently values one dollar of Apple’s earnings lower than one dollar of their competitors (included in the comparison analysis).

Thus, we suggest that the market is currently overvaluing the technology industry (as represented by the companies included in this analysis), but undervaluing Apple, relative to its peers.

Note: Andrew Smith is an analyst at investment bank Woodward Partners

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Apple ($AAPL) announced quarter one results today.  With the $AAPL share price over US$200 – 52-week range US$82.33-215.59 – we decided to have a quick look.

Valuecruncher Interactive Analysts Report For Apple ($AAPL)

We have the comparator group set as Microsoft ($MSFT), IBM ($IBM), Google ($GOOG) and Hewlett-Packard($HPQ). You can change these peer companies on the site. For example you could add:

1. Research In Motion ($RIM) – Interactive Analyst Report For $RIM
2. Palm ($PALM) – Interactive Analyst Report For $PALM
3. Qualcomm ($QCOM) – Interactive Analyst Report For $QCOM

So what do we think?

Discounted Cash Flow Valuation

We have completed a discounted cash flow valuation using our interactive tools (there is a “discounted cash flow analysis” link just under the company name on the company page). We have populated our model with a mixture of consensus analyst estimates and Valuecruncher estimates. Our analysis produces a valuation of US$189.23 for $AAPL – 6.7% below the current share price. We see $AAPL overvalued at the moment. But how about compared to a peer group?

Comparison Analysis

I changed the peer group companies to $IBM, $RIM, $QCOM and $GOOG.  I am going to look at only one of the metrics we use at Valuecruncher – EV/EBITDA. Enterprise Value (EV) is simply market capitalization plus net debt [long-term borrowings less cash]. We use EV to capture the impact of debt and cash on a company’s balance sheet – market capitalization doesn’t capture different capital structures when comparing companies. EV/EBITDA shows how a dollar of profit (measured in as Earnings Before Interest Taxes Depreciation and Amortization) is being valued by the market against the comparator set.

On an EV/EBITDA basis $AAPLT is trading at 18.6x ($AAPL is being valued at 18.6x last year’s profit at the EBITDA line). A dollar of $AAPL EBITDA is worth more a dollar of $IBM (more than double), $RIM, $QCOM or $GOOG EBITDA. This is despite $AAPL making less margin at the EBITDA line than any of these comparators ($AAPL made a 22.8% EBITDA margin last year comparded with 23.0% at $IBM and 41.6% at $GOOG). There are still some steep expectations being priced into the current share price.

If we lower the $AAPL EV/EBITDA multiple to 17.5x (a slight premium to $QCOM) then this gives a share price of US$187.57 – 7.5% below the current share price. This valuation is in line with our DCF analysis.

Summary

Based on our DCF valuation – $AAPL looks overvalued. Looking at some comparators – the market is valuing $AAPL highly compared to some peers. We believe if you are investing in $AAPL at the current price – you are paying a full price and there are cheaper options available. We know that we will hear about that from the $AAPL fans out there however.

Disclosure: no positions.

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On-line retailer Amazon.com ($AMZN) closed yesterday at an all time high of US$135.91. $AMZN is up 218% in the last 12 months – better than Apple ($AAPL) at 122%, Google ($GOOG) at 88% or the broad NASDAQ at 41% [visual]. Time to have a look at a superstar performance.

Valuecruncher Interactive Analysts Report For Amazon ($AMZN)

We have the comparator group set as Wal-Mart ($WMT), Google ($GOOG), eBay ($EBAY) and Yahoo ($YHOO). You can change these peer companies on the site. For example you could add:

1. Overstocked.com ($OSTK) – Interactive Analyst Report For $OSTK
2. Barnes & Noble ($BKS) – Interactive Analyst Report For $BKS
3. Netflix ($NFLX) – Interactive Analyst Report For $NFLX

So what do we think?

Discounted Cash Flow Valuation

We have completed a discounted cash flow valuation using our interactive tools (there is a “discounted cash flow analysis” link just under the company name on the company page). We have populated our model with a mixture of consensus analyst estimates and Valuecruncher estimates. Our analysis produces a valuation of US$99.04 for $AMZN – 27.1% below the current share price. Using a DCF calculation we see $AMZN overvalued. But how about $AMZN compared to a peer group?

Comparison Analysis

I kept the first three peer group companies as $WMT, $GOOG, $EBAY and changed $YHOO to $BKS.  I am going to look at two of the metrics we use at Valuecruncher – Enterprise Value (EV)/Revenue and EV/EBITDA. Enterprise Value (EV) is simply market capitalization plus net debt [long-term borrowings less cash]. We use EV to capture the impact of debt and cash on a company’s balance sheet – market capitalization doesn’t capture different capital structures when comparing companies.

EV/Revenue shows how a dollar or revenues is being valued by the market against the comparator set. On an EV/Revenue basis $AMZN is trading at 2.8x ($AMZN is being valued at 2.8x last year’s revenues). This compares to $WMT at 0.6x, $GOOG at 7.8x, $EBAY at 3.4x and $BKS at 0.2x. $AMZN’s profit margins (at the EBITDA line) were 6.2% of revenues last year.  A dollar of $AMZN revenues is being valued more than 4.5 times a dollar of $WMT revenues – despite that dollar of revenues producing less profit (on an EBITDA basis) than the $WMT revenues.  A dollar of $AMZN revenues is being valued just less (15%) than a dollar of $EBAY revenues – but $EBAY produces over five times the profit (on an EBITDA basis) on each dollar of revenues as $AMZN does ($AMZN EBITDA margin 6.2% vs 33.3% for $EBAY).  Wow – based on previous performance $AMZN is trading a a massive premium.

Now $AMZN does have a range of additional services like their AWS offering that big future growth are expected from. But that is some significant future growth that is being valued in.

EV/EBITDA shows how a dollar of profit (measured in as Earnings Before Interest Taxes Depreciation and Amortization) is being valued by the market against the comparator set. On an EV/EBITDA basis $AMZN is trading at 47.0x ($AMZN is being valued at47.0x last year’s profit at the EBITDA line). A dollar of $AMZN EBITDA is worth more than double a dollar of $GOOG EBITDA ($GOOG has EBITDA margins of 37.3% vs $AMZN’s 6.2%).  $GOOG makes over 6 times the profit on each dollar of revenue that $AMZN does – but each dollar $AMZN’s profits are worth over double the comparable $GOOG profits.

This appears crazy.

Summary

Based on our DCF valuation – $AMZN looks significantly overvalued. Looking at some comparators – the market is valuing $AMZN very highly compared to some peers. We believe if you are investing in $AMZN at the current price – you are paying a full price which includes significant future growth.  We like $AMZN as a company – but not at these valuation levels.

Disclosure: no positions.

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It has been a crazy 15 months for the Apple ($AAPL) share price. On the 22 August 2008 $AAPL was trading at $176.79. By 16 January 2009 $AAPL had dropped to $82.33 – down over half (53% down) in under five months. Today $AAPL closed at $190.01 – up over 130% in under nine months. The graph below shows the closing prices over the period. So what do we think about $AAPL?

Valuecruncher Interactive Analysts Report For Apple ($AAPL)

We have the comparator group set as Microsoft ($MSFT), IBM ($IBM), Google ($GOOG) and Hewlett-Packard($HPQ). You can change these peer companies on the site. For example you could add:

1. Research In Motion ($RIM) – Interactive Analyst Report For $RIM
2. Palm ($PALM) – Interactive Analyst Report For $PALM
3. Qualcomm ($QCOM) – Interactive Analyst Report For $QCOM

So what do we think?

Discounted Cash Flow Valuation

We have completed a discounted cash flow valuation using our interactive tools (there is a “discounted cash flow analysis” link just under the company name on the company page). We have populated our model with a mixture of consensus analyst estimates and Valuecruncher estimates. Our analysis produces a valuation of US$176.16 for $AAPL – 7.3% below the current share price. We see $AAPL overvalued at the moment. But how about compared to a peer group?

Comparison Analysis

I changed the peer group companies to $IBM, $RIM, $PALM and $QCOM.  I am going to look at two of the metrics we use at Valuecruncher – Enterprise Value (EV)/Revenue and EV/EBITDA. Enterprise Value (EV) is simply market capitalization plus net debt [long-term borrowings less cash]. We use EV to capture the impact of debt and cash on a company’s balance sheet – market capitalization doesn’t capture different capital structures when comparing companies.

EV/Revenue shows how a dollar or revenues is being valued by the market against the comparator set. On an EV/Revenue basis $AAPL is trading at 4.5x ($AAPL is being valued at 4.5x last year’s revenues). This compares to $IBM at 1.7x, $RIM at 3.5x, $PALM at 3.4x and $QCOM at 5.8x. $AAPL’s profit margins (at the EBITDA line) are 20.9% of revenues.  A dollar of $AAPL revenues is being valued more than a dollar of $RIM revenues – despite that dollar of revenues producing less profit (on an EBITDA basis) than the $RIM revenues.  A dollar of $AAPL revenues is being valued less than a dollar of $QCOM revenues – but $QCOM produces nearly twice the profit (on an EBITDA basis) as $AAPL.  We would expect the difference between the multiples for $QCOM and $AAPL to be larger – in $QCOM’s favour. There are some big growth expectations for $AAPL – on an EV/Revenue basis there appears to be a premium being paid for $AAPL against the peer group.

If we lower the $AAPL EV/Revenue multiple to 3.75x (a slight premium to $RIM) then this gives a share price of $163.30 – 14% below the current share price.

EV/EBITDA shows how a dollar of profit (measured in as Earnings Before Interest Taxes Depreciation and Amortization) is being valued by the market against the comparator set. On an EV/EBITDA basis $AAPLT is trading at 21.51x ($AAPL is being valued at 21.5x last year’s profit at the EBITDA line). A dollar of $AAPL EBITDA is worth more than double a dollar of $IBM, $RIM or $QCOM EBITDA ($PALM is losing money at the EBITDA line).

If we lower the $AAPL EV/EBITDA multiple to 17.5x (a slight premium to $QCOM) then this gives a share price of $160.06 – 16% below the current share price.

Summary

Based on our DCF valuation – $AAPL looks overvalued. Looking at some comparators – the market is valuing $AAPL highly compared to some peers. We believe if you are investing in $AAPL at the current price – you are paying a full price and there are cheaper options available. We do recognize that there are a lot of $AAPL fans out there however.

Disclosure: no positions.

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Starbucks ($SBUX) is in an interesting position. You would expect premium coffee purchases to be down in the current economic climate. The company has also just raised prices on some beverages. Yet $SBUX is currently trading toward the top of their 52-week range at US$19.35. Time to have a bit of a look.

Valuecruncher Interactive Analysts Report For Starbucks ($SBUX)

The key comparators are Tim Hortons ($THI), a direct competitor, and McDonalds ($MCD), a low-cost substitute.  You can change the generated peer companies on the site.

So what do we think?

Discounted Cash Flow Valuation

We have completed a discounted cash flow valuation using our interactive tools (there is a “discounted cash flow analysis” link just under the company name on the company page). We have populated our model with a mixture of consensus analyst estimates and Valuecruncher estimates. Our analysis produces a valuation of US$11.95 for $SBUX – 38.7% below the current share price. We see $SBUX well overvalued using a discounted cash flow model. But how about compared to a peer group?

Comparison Analysis

I am going to look at two of the metrics we use at Valuecruncher – Enterprise Value (EV)/Revenue and EV/EBITDA. Enterprise Value (EV) is simply market capitalization plus net debt [long-term borrowings less cash]. We use EV to capture the impact of debt and cash on a company’s balance sheet – market capitalization doesn’t capture different capital structures when comparing companies.

EV/Revenue shows how a dollar of revenues is being valued by the market against the comparator set. On an EV/Revenue basis $SBUX is trading at 1.5x ($SBUX is being valued at 1.5x last year’s revenues). This compares to $THI at 3.0x and $MCD also at 3.0x. $SBUX’s profit margins (at the EBITDA line) were 11.6% of revenues last year – against 25.4% at $THI and 31.5% at $MCD.  A dollar of $SBUX revenues is being valued at half that of a dollar of $THI and $MCD revenues – this is broadly in-line with the difference in profit margins in the businesses last year.  This is what we would expect.

EV/EBITDA shows how a dollar of profit (measured in as Earnings Before Interest Taxes Depreciation and Amortization) is being valued by the market against the comparator set. On an EV/EBITDA basis $SBUX is trading at 12.7x ($SBUX is being valued at 12.7x last year’s profit at the EBITDA line). $THI is trading at 11.8x and $MCD is trading at 9.3x. This difference will represent the different expected profit margins and growth prospects between the businesses – as being valued by the market. We are surprised that $SBUX profits are being more highly valued than their competitors. This suggests that the market currently believes that $SBUX’s fortunes are about to improve significantly and some of the gains are already being priced into the stock.

Summary

Based on our DCF valuation – $SBUX looks significantly overvalued. Looking at some comparators we are surprised that $SBUX is being so highly valued (especially on an EV/EBITDA basis) agaist key comparators $THI and $MCD. $SBUX looks a sell at these prices.

Disclosure: no positions.

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Coca-Cola ($KO) is an interesting company to look at from a business-cycle and valuation perspective. $KO is currently trading toward the top of their 52-week range at US$49.04.

Valuecruncher Interactive Analysts Report For Coca-Cola ($KO)

The key comparator is PepsiCo ($PEP). You can change the generated peer companies on the site.

So what do we think?

Discounted Cash Flow Valuation

We have completed a discounted cash flow valuation using our interactive tools (there is a “discounted cash flow analysis” link just under the company name on the company page). We have populated our model with a mixture of consensus analyst estimates and Valuecruncher estimates. Our analysis produces a valuation of US$51.86 for $KO – 4.9% above the current share price. We see $KO broadly correctly valued at the moment. But how about compared to a peer group?

Comparison Analysis

I am going to look at two of the metrics we use at Valuecruncher – Enterprise Value (EV)/Revenue and EV/EBITDA. Enterprise Value (EV) is simply market capitalization plus net debt [long-term borrowings less cash]. We use EV to capture the impact of debt and cash on a company’s balance sheet – market capitalization doesn’t capture different capital structures when comparing companies. That is less important in this case as $KO and $PEP have broadly similar capital structures.

EV/Revenue shows how a dollar of revenues is being valued by the market against the comparator set. On an EV/Revenue basis $KO is trading at 3.7x ($KO is being valued at 3.7x last year’s revenues). This compares to $PEP at 2.2x. $KO’s profit margins (at the EBITDA line) are 31.4% of revenues – against 20.7% at $PEP. A dollar of $KO revenues is being valued at 170% of a dollar of $PEP revenues – this is broadly in-line with the difference in profit margins in the business. This is what we would expect.

EV/EBITDA shows how a dollar of profit (measured in as Earnings Before Interest Taxes Depreciation and Amortization) is being valued by the market against the comparator set. On an EV/EBITDA basis $KO is trading at 11.9x ($KO is being valued at 11.9x last year’s profit at the EBITDA line). $PEP is trading at 10.6x. This difference will represent the different profit margins and growth prospects between the two businesses. There is a difference – but it isn’t material. Again this is what we would expect. Nothing in the comparator analysis looks out of line – and thus a buying opportunity.

Summary

Based on our DCF valuation – $KO looks correctly valued. Looking at some comparators – the market is valuing $KO in line with the key peer company ($PEP).

Disclosure: no positions.

After our recent post on Microsoft ($MSFT) – people asked for a quick take on Apple ($AAPL). Here it is.

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