/* var quicktagsL10n = {
quickLinks: "(Quick Links)",
wordLookup: "Enter a word to look up:",
dictionaryLookup: "Dictionary lookup",
lookup: "lookup",
closeAllOpenTags: "Close all open tags",
closeTags: "close

tags”,
enterURL: “Enter the URL”,
enterImageURL: “Enter the URL of the image”,
enterImageDescription: “Enter a description of the image”,
fullscreen: “fullscreen”,
toggleFullscreen: “Toggle fullscreen mode”
};
try{convertEntities(quicktagsL10n);}catch(e){};
/* ]]> */

edToolbar()

One of the things that we frequently observe in discussions about stocks is a focus on the qualitative story – “I like my iPhone, buy Apple  ($AAPL)”.

Now the story behind a stock is important. That Apple (or any other company) makes great products that people want to buy is very relevant to the value of the company.

BUT - to make good investment decisions you need to understand how the financial markets value this story. Markets can have an overly optimistic or pessimistic view of a company. To understand value – you need to look at the numbers.

Let’s look at an example – Microsoft ($MSFT)

We have previously looked at $MSFT and the comments on those posts have reflected the challenges that $MSFT faces as a company moving forward. These comments have mostly reflected the story of these challenges – the view that $MSFT will not be as successful in the future as it has been in the past. Because of these challenges – $MSFT must be a bad investment.

Let’s have a look at that assumption – from a valuation perspective.

Remember – the market should value companies on future expected prospects (measured in future expected cash flows). Where opportunities exist, either buying or selling, is where companies expected future cash flows are viewed either excessively optimistically or pessimistically. Over the long-run it should correct.

“In the short run, the market is a voting machine, but in the long run it is a weighing machine.” — Benjamin Graham, The Intelligent Investor

Now looking at $MSFT.  It has been an amazing business – it has the second largest market capitalization in the world after Exxon Mobil ($XOM) [$XOM US$336.41 Bn, $MSFT US$218.31 Bn, PetroChina US$208.37 Bn]. Since 2005 (to 2008) the company has grown revenues at a compound annual growth rate (CAGR) of 15% with EBITDA margins of 40%.

Now $MSFT has a raft of potential challenges to their business – only one recent example: Google Chrome OS.

But how is the $MSFT story being valued? We will look at this from two angles – $MSFT vs a set of peer companies and $MSFT as a standalone entity using a discounted cash flow valuation model.

Comparator Analysis

At Valuecruncher we provide a range of different valuation metrics for each company and a starting set of peer companies (that can be changed).  Here is the $MSFT comparator tool – and some explanation on how to use the tools. Our tools are interactive – you can adjust the valuation outputs to see the impact on the share price.

I am going to look at two of the metrics – 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.

For $MSFT we will look at four comparators – IBM ($IBM), Apple ($AAPL), Google ($GOOG) and Hewlett-Packard ($HPQ).

EV/Revenue shows how a dollar or revenues is being valued by the market against the comparator set. On an EV/Revenue basis $MSFT is trading at 3.2x. This compares to $IBM at 1.7x, $AAPL at 3.5x, $GOOG at 5.5x and $HPQ at 0.9x. $MSFT’s profit margins (at the EBITDA line) are 43.3% of revenues compared to 20.6% and 12.0% for $IBM and $HPQ respectively – so those feel right.  $GOOG has similar margins to $MSFT and significant growth options – but a dollar of $GOOG revenues being worth 70% more than a dollar of $MSFT revenues feels rich. But the standout – to us – is that $AAPL with profit margins half that of $MSFT is valued similarly on an EV/Revenue basis. A dollar of $AAPL revenues is being valued slightly more than a dollar of $MSFT revenues – despite that dollar of revenues producing less than half the profit of the $MSFT revenues.  That is some big growth expectations for $AAPL.

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 $MSFT is trading at 7.4x. This compares to $IBM at 8.2x, $AAPL at 16.5x, $GOOG at 14.8x and $HPQ at 7.4x. Talk about no respect – a dollar of $MSFT EBITDA is worth only slightly more than a dollar of $HPQ EBITDA and less than the other comparators.

Discounted Cash Flow (DCF) Analysis

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$29.43 for $MSFT – 18.5% above the current share price. A key input to that calculation is an estimate of long-term growth of 4.0% – which we don’t feel is too aggressive. Remember revenues have grown at a CAGR of 15% since 2005. The US economy grew at a 3.6% CAGR between 2003 and 2007.

Summary

Our DCF analysis produces a valuation of US$29.43 for $MSFT – 18.5% above the current share price. This equates to an EV/EBITDA multiple of 9.1x. This appears reasonable in comparison to the peer group of companies that we have examined.

Based on our analysis it appears that $MSFT is undervalued. There are certainly challenges facing the business – but the market currently has an overly pessimistic view on the company. $MSFT currently represents a good buy. All our tools are interactive – you can complete your own analysis.

Disclosure: No Positions.

edCanvas = document.getElementById(‘content’);

At Valuecruncher we have not looked at Apple ($AAPL) since late last year. $AAPL is now trading at US$136.09. We felt it was time to revisit the valuation of $AAPL from an intrinsic value perspective – and most importantly the assumptions that we are using in our valuation.

Valuecruncher interactive analyst report for $AAPL

Valuecruncher produces a valuation of US$140.57 for $AAPL. This is a current valuation (an estimate of intrinsic value using a discounted cash flow model) not a target price. This valuation is 3.3% above the current share price of US$136.09.  $AAPL appears reasonably valued at the moment.

Assumptions

• Revenue: Reuters aggregates 32 analysts covering $AAPL and the mean estimates of 2009 and 2010 revenues are US$35.5 billion and US$41.4 billion respectively. For our analysis we have used US$35.5 billion in 2009, US$41.25 billion in 2010 and US$47.0 billion in 2011.
• Profitability: We have used an EBITDA margin of 20.5% to 2011. Reuters has $AAPL‘s EBITD margin at 21.4% last year and an average of 16.8% over the last five-years.
• Capital Expenditure: We have assumed capital expenditures of US$1.0 billion in 2009, US$1.15 billion in 2010 then US$1.25 billion per annum moving forward.
• Discount Rate: 10.0%.
• Terminal Growth Rate: 4.5%. In our assumptions we have 2010/11 revenue growth at 13.9% – we have assumed that growth eventually slows to a 3.5% long-term stable growth rate.

Our analysis incorporates the cash on the $AAPL balance sheet – Valuecruncher calculates a net debt number.

Play with our assumptions – what does your analysis say?

Disclosure: None

Microsoft ($MSFT) continues to trade under US$20 a share. We have previously looked at $MSFT and felt it was undervalued in the US$20-25 ra

nge. We decided it was time to revisit our valuation.

Valuecruncher valuation model of $MSFT with interactive assumptions

Valuecruncher produces a valuation of US$25.34 for $MSFT. This is a current valuation (an estimate of intrinsic value using a discounted cash flow model) not a target price. This valuation is 33.6% above the current share price of US$18.96.

Assumptions

• Revenue: Reuters aggregates 30 analysts covering $MSFT and the mean estimate of 2009 revenues is US$67.3 billion. For our analysis we have used US$64.0 billion in 2009, US$68.5 billion in 2010 and US$72.5 billion in 2011. Between 2004 and 2008 $MSFT grew revenues at a compound annual growth rate of 13.2% – revenues of US$36.8 billion in 2004 to US$60.4 billion in 2008.
• Profitability: We have used an EBITDA margin of 40.0% to 2011. Reuters has $MSFT‘s EBITD margin at 39.25% last year and an average of 37.0% over the last five-years.
• Capital Expenditure: We have assumed capital expenditures of US$3.75 billion per annum moving forward.
• Discount Rate: 11.0%.
• Terminal Growth Rate: 3.0%. In our assumptions we have 2010/11 revenue growth at 5.8% – we have assumed that growth eventually slows to a 3.0% long-term stable growth rate. We have used 3.0% as our terminal growth rate.

Our analysis incorporates the cash on the $MSFT balance sheet – Valuecruncher calculates a net debt number.

Comparator Analysis

Comparator analysis (sometimes called comparison company analysis) is a relative valuation approach. For $MSFT we looked at four peer companies – IBM ($IBM), Apple ($AAPL), HP ($HPQ) and Google ($GOOG). We calculated enterprise values – market capitalisation plus net debt (long-term borrowings less cash). Then we measured a range of metrics against the enterprise value for $MSFT and the peer set.

We have used the last financial year (LFY) as the base set of metrics. $MSFT is currently priced at the bottom of the peer group for the EV/EBITDA and EV/EBIT metrics and in the middle for the EV/FCF metric. The market is currently valuing the profits (EBIT and EBITDA) and free cash flow produced by $MSFT at less than half that of the comparable numbers for $GOOG. This reflects the perceived different future growth prospects of the two businesses. The comparator numbers show $MSFT is comparably priced against the peer group – even with the strengths of their business model (39.8% EBITDA margins vs 18.9% for $IBM and 11.7% for $HPQ). $MSFT’s growth is slowing – but it is still a very good business. Should $MSFT’s profits (at the EBITDA and EBIT levels) really be valued less than $IBM and $HPQ?

Play with our assumptions – what does your analysis say? We think that $MSFT looks undervalued. Our model is interactive – you can change any of our assumptions.

Disclosure: None

At Valuecruncher we have looked at Apple ($AAPL) twice over the last six-months. In June with the $AAPL share price at US$186.10 we produced a valuation of US$146.70.

Then in September with the $AAPL share price at US$131.05 we had a valuation of US$163.98. We are now in early-December and $AAPL has continued to head south – with the market generally. $AAPL is now trading at US$94.00 – just over half the price we first looked at in June. We felt it was time to revisit the valuation of $AAPL from an intrinsic value perspective – and most importantly the assumptions that we are using. We have also completed some high-level comparator analysis looking at the current price of $AAPL against some broad peers using a range of metrics.

Valuecruncher valuation model of $AAPL with interactive assumptions

Valuecruncher produces a valuation of US$109.55 for $AAPL. This is a current valuation (an estimate of intrinsic value using a discounted cash flow model) not a target price. This valuation is 16.5% above the current share price of US$94.00.

Assumptions

• Revenue: Reuters aggregates 29 analysts covering $AAPL and the mean estimate of 2009 revenues is US$40.6 billion. For our analysis we have used US$36.5 billion in 2009, US$43.5 billion in 2010 and US$49.0 billion in 2011.
• Profitability: We have used an EBITDA margin of 19.0% to 2011. Reuters has $AAPL‘s EBITD margin at 20.8% last year and an average of 16.8% over the last five-years.
• Capital Expenditure: We have assumed capital expenditures of US$1.15 billion per annum moving forward.
• Discount Rate: 11.0%. In our June valuation we used a discount rate of 11.0% but dropped that to 10.0% in September. We believe 11.0% is a reasonable assumption in the current market conditions.
• Terminal Growth Rate: 4.0%. In our assumptions we have 2010/11 revenue growth at 12.6% – we have assumed that growth eventually slows to a 3.0% long-term stable growth rate.

Our analysis incorporates the cash on the $AAPL balance sheet – Valuecruncher calculates a net debt number.

Comparator Analysis

Comparator analysis (sometimes called comparison company analysis) is a relative valuation approach. At Valuecruncher we have previously looked at comparator analysis. For $AAPL we looked at a range of broad peers. We calculated enterprise values – market capitalisation plus net debt (long-term borrowings less cash). Then we measured a range of metrics against the enterprise value for $AAPL and the peer set.

We have used the last financial year (LFY) as the base set of metrics. Of the peer group $EBAY and $YHOO had rough LFY performance. The other numbers are interesting. The one that stands out a mile to us however is that $AAPL is currently trading at 7.0x last years free cash flow (FCF). Remove the cash and you can have the business for 7.0x last years FCF – no growth assumed. Wow – that looks cheap.

Using our valuation of US$109.55 that gives a EV/FCF multiple of 8.7x. That is still pretty resonable compared to the peer set.

Play with our assumptions – what does your analysis say?

Disclosure: None

It has been a week of financial market turmoil. The Dow is closed at 8,451 on Friday – over 40% below the 52-week high of 14,279 and down 18% for last week alone. There are a lot of very smart people concerned that the markets and broader global economy are headed for a long-term slump. Within this turmoil there is a lot of discussion about valuation. Here at Valuecruncher we wanted to explain our take on valuation and the analysis we provide.

Here at Valuecruncher we believe that in the long-run markets are broadly efficient – market prices properly reflect the intrinsic value of assets. By intrinsic value we mean a ‘true’ underlying value. However, in the short-term there can be and are inefficiencies. At Valuecruncher, valuation is an attempt to estimate what this intrinsic value is and how it relates to current market prices. At Valuecruncher we do that by calculating a discounted cash flow (DCF) valuation. As we noted, in the longer-term we believe that markets will price assets at this intrinsic value. In the shorter term market prices may differ (either up or down). Our approach is a longer term approach. If someone is looking for a valuation of where a stock will be this week – a DCF isn’t the way to go. However, if you want to understand the underlying value of a stock relative the market price and have a longer-term view – that is where a DCF adds value.

For example: Apple ($AAPL). On 4 June 2008 with the $AAPL share price at US$186.10 our estimate of the $AAPL intrinsic value was US$146.70. By 23 September 2008 with the $AAPL share price at US$131.05 our estimate of the $AAPL intrinsic value was US$163.98. $AAPL closed on Friday at US$96.80. In just over four months the market price of $AAPL has dropped 48% – dramatic times indeed. Our estimate of intrinsic value has changed based on changing assumptions of the underlying business. But what we are trying to estimate is the intrinsic value – and we have argued it is both below and above the prevailing share price of $AAPL over the last four months.

At Valuecruncher we will continue to put out our take on the intrinsic value of companies like $AAPL and how this relates to the current share price. Our on-line interactive valuation models allow anyone to change our assumptions and calculate their own intrinsic value. In our own analysis we are going to try and avoid rhetoric like “buy”, “sell”, “cheap” and “expensive”. Ours is a longer-term analysis. We still believe that in the long-run that market prices and intrinsic value will eventually converge.

Understanding intrinsic value helps us to understand corporate transactions like share buy-backs. It can illuminate mergers and acquisitions activity. It can even expose opportunities to invest (and dispose) of stocks.

After a wild week we expect there are still some brave souls out there trying at assess value.

The on-going turmoil in the markets and analysts lowering estimates across the technology sector has had a big impact on Apple’s (AAPL) share price.  AAPL finished at US$131.05 on the 22 September 2008 – 35% below the 52 week high of US$202.96.  We decided to look at the underlying numbers for AAPL using the Valuecruncher on-line valuation model to see where we place the current share price.

Valuecruncher valuation model of AAPL with interactive assumptions

Valuecruncher produces a valuation of US$163.98 for AAPL.  This is a current valuation not a target price.  This valuation is 25% above the current share price of US$131.05 (note our model picks up an earlier price of US$140.91 because we completed the valuation earlier).

Assumptions

Our assumptions are revenues of US$32.5 billion in 2008 growing to US$50.0 billion in 2010. We have used an EBITDA margin of 20.5% in 2008 dropping to 19.5% in 2010. We used a terminal growth rate of 5.75%. We used a terminal capital expenditure number of US$1.25 billion. We have used a WACC (discount rate) of 10.0%.  All of these assumptions can be amended in the Valuecruncher on-line valuation model to adjust the valuation.

Our analysis incorporates the cash on the Apple balance sheet – Valuecruncher calculates a net debt number.

Based on our analysis the current share price looks cheap.  Play with our assumptions – what does your analysis say?

Valuecruncher has a database of over 1,000 companies on major international exchanges. You can explore, create and share valuations for any of these companies.