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Can Apple Defy Gravity?

Whether you like Apple stock or not, it is noteworthy that it broke Microsoft’s record this week becoming the most valuable company of all time. If you bought every share of stock in Apple, you’d have to pay more than $620 billion! People love the company and institutional money managers feel they must own it or face ridicule.

However, much like Sir Isaac Newton observing the impact of gravity upon an apple, similar forces may pull Apple stock back down to earth.

For the fourth time recently we have been asked if the new Apple i-Phone 5 will cause their stock to break $1,000 per share.

In its current form, Apple trades for a reasonable 15.6 times earnings. That is right in line with the market averages. Total profit for the year should be around $46 billion.

However, for Apple’s stock to increase from a current price of $665 a share to $1,000 a share the new i-Phone 5, alone,  would have to bring in about $23 billion in profits to warrant adding more than $350 billion in value to the entire company. I don’t care how great the new i-Phone will be--there is no way the market cap of Apple should increase that much just off the introduction of one product.

Understanding that, Apple is not a one trick pony. They have many other products adding to the profit total. Investors should not pile into the stock just because of the introduction on one new item.

However, will Apple break $1,000 per share? Well, this is kind of a trick question—it already has. The reason is that Apple has split its stock three times in the past. Stock splits are just an accounting gimmick. They do nothing to improve earnings. In the case of a 2 for 1 stock split an owner of 100 shares of a $50 stock will then have 200 shares, but at $25 per share. No matter how you do the math—it is still the same value, company and profits.

Let’s assume you’ve owned Apple stock since the mid 1980’s and started off with 100 shares. Since then, the stock has split 2 for 1 on three separate occasions. As such, a long time owner of Apple would no longer have 100 shares—but rather 800 shares.

If you back out the accounting gimmick of a stock split you would find out that your original 100 shares of Apple stock is now worth $5,304 per share! Given this, you can see the value Apple has created is already well in excess of $1,000 per share based upon the original investment. As such, we wouldn’t read too much into Apple breaking the $1,000 mark.

Why do companies split their stock? They believe that owners and institutions like stocks to trade within a certain range. However, not all companies believe in stock splits. Warren Buffett has never split the Berkshire Hathaway Class A shares. As a result of not issuing stock splits, Berkshire A shares now trade for more than $128,000 per share.

A more important issue to consider for Apple is what does the future hold? For me, that is an incredibly difficult question to answer. Maybe I was dropped as a child or ate lead paint—but I have a hard time figuring out how Apple will continue its string of successes. Whenever you see knockoffs being sold at Wal-Mart six months after a new product launch by Apple, it tells me there is no truly effective moat protecting Apple the way you would hope. Given this, Apple must reinvent themselves about every six to twelve months. That is a tall order to pull off.

Additionally, with the death of Steve Job’s, Apple’s visionary leader and founder, it is hard to know if Apple can duplicate his magic.

Has Apple done amazing things? Absolutely. Will it continue to do so? That is a tough question. For my money I’d rather focus on easier decisions In doing so, remember that in investing there are no extra points for an increased level of difficulty—so keep it as simple as possible. 


Originally published Thursday, August 28, 2012

Victoria Advocate