Apple Shares Now Nearly As Cheap As Microsoft: Which Would You Rather Have?

That’s right. With the recent share price plunge in Apple (AAPL), from over $700 to around $525, the stock is rapidly approaching the valuation of 1990’s tech darling Microsoft (MSFT). While clearly facing near-term headwinds, both on the product side (a narrowing of their technological lead over rivals) and the financial side (fiscal cliff, tax-related selling before year-end), among others, I find it hard to make an argument for why Apple should not trade at a premium to Mister Softee. To be fair, Apple still fetches slightly more if you go out to one decimal place, with AAPL trading at 6.4 trailing cash flow, versus 5.7 times for Microsoft. If Apple shares fell another 8% or so, to around $485, and MSFT stayed around $27, both would trade at 5.7x trailing 12 month EBITDA. Still, investors are having a hard time understanding exactly how sentiment on Apple has shifted so much in just a few short months.

Now I know many people come to this blog to discover new investment ideas, and Apple definitely does not qualify. However, since contrarian investing is one of my core tenets, I think it is important to point out that Apple shares are dirt cheap right now. In order to justify a lower stock price, say one or two years from now, you have to think that Apple’s sales and earnings have peaked and are headed down from here. While that is not an impossibility, especially in the world of technology, I think it is far more likely that Apple’s market share gains slow and level off going forward. Even in that case, the end markets they serve as going to grow nicely over the next few years. As a result, I don’t envision their financials petering out from here, though for a company of this size, the hey days of rapid growth are clearly over.

For those who aren’t sure such prognostications will prove true, consider again the comparison with Microsoft. Regardless of Apple’s position relative to Google, Samsung, and the like in the coming years, is Microsoft really as well positioned? I don’t think so. Even a bet that Apple will outperform Microsoft, given their stocks are nearly identically priced, is a bet investors can make in the public market by shorting one and using the proceeds to go long the other. iPod versus Zune? iPad versus Surface? iPhone vs Windows Phone? It’s not a bad play.

Although discussing large cap tech titans like AAPL and MSFT hardly uncovers anything new for curious investors, I definitely think today’s share price on Apple is worthy of discussion. The recent 200 point decline seems very overdone to me, based on what is happening out in the tech marketplace. The last time I updated my fair value for Apple stock I got a number with a “7” handle on it. Nothing has changed since then, and for the first time in a long time, I am actually looking to add to the stock in client portfolios.

Full Disclosure: Long Apple and no position in Microsoft at the time of writing, but positions may change at any time

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7 Thoughts on “Apple Shares Now Nearly As Cheap As Microsoft: Which Would You Rather Have?

  1. Your Apple vs Microsoft comparison seems a bit too simple to me.

    1. “iPod versus Zune? iPad versus Surface? iPhone vs Windows Phone?” MSFT doesn’t make money in any of those businesses. MSFT’s EBITDA is generated in businesses that you don’t even discuss, that are aimed at the enterprise more than the consumer, and that have arguably a much stronger position than Apple’s major products (basically the iPhone and the iPad).

    2. Apple is really the iPhone and iPad company. Both of those products were revolutionary and didn’t have competition during the period in which they had explosive growth. Now they are competing with comparable products from Google, Amazon, Samsung, etc. The latest iPhone, for example, is not even clearly the best phone on the market and it just came out.

    3. Apple has had huge margins on the iPhone and iPad with no competition. Those margins might be unsustainable. The iPad Mini notably has significantly lower margins than the iPad.

    4. There are many signs that Apple is an inferior software-development company versus Google and Amazon. To the extent that the hardware becomes more commoditized and the name of the game is software, they might be in big trouble. Consider their maps fiasco or their generally poorly-reviewed cloud offerings.

    5. Apple is competing against companies that either don’t care about hardware margins (GOOG, AMZN) or operate on much lower hardware margins (Samsung). Not a good situation to be in.

    6. None of these problems apply to Microsoft (which has its own different problems!).

    Apple might be a buy because of the continued growth of the market (which I know nothing about) and potentially-huge customer loyalty (which I can’t gauge). Also, the valuation seems to discount the problems I mention to some significant degree. However, I don’t think MSFT is a good comp… a much different situation.

    My prediction for Apple (the company, not the stock price): in the next year or two it will become increasingly clear that they can’t keep up with Google and Amazon from a software development standpoint.

  2. Chad Brand on December 20, 2012 at 10:17 AM said:

    Thanks for the comments. I am not trying to say that Microsoft is Apple’s closest comp, but rather that AAPL’s future outlook from a financial perspective is stronger. Smartphones and tablets are replacing desktops and laptops. As you point out, MSFT doesn’t make money on Surface or Windows Phone. Apple makes a lot. That speaks volumes. When two stocks are trading at around the same price, but may not have similar growth outlooks, that presents an opportunity to place a bet (either by betting on one or pairing them together). They don’t have to get the same portion of their profits from the same products for it to make a profitable and promising trade.

    • I think Apple is still too high to purchase the stock. If the share price drops to $380 – $425.00, it will be at a bargain price for entry.

  3. George Dantzig on December 20, 2012 at 4:42 PM said:

    +1 to Ken plus 2 extra issues:

    1. aapl have shown little prowess in innovation since Steve left: the hardware in the iPad Mini is nearly 2 years old for example (it’s mainly an original iPad in a smaller case).

    2. as portable computer processors continue to become more powerful (4 core processors are already standard in high end Android devices), users will expect more functionality. Android has been through the pain of getting a genuine multi-tasking OS to have a responsive UI. iOS is a single tasking OS that gives the illusion of being able to multi-task using techniques like DMA, and allowing a tiny slice of time for background processing on a clock interrupt tick. This is quite likely why they aren’t offering NFC technology, for example. aapl’s choice will be to either fall embarrassingly far behind on functionality (the Galaxy III is already a FAR more capable device), or risk a period of great peril by converting iOS to multi-tasking – a huge task that would affect most parts, and may well take time to get right, while users suffer a period in which the UI becomes erratic, as tends to happen in new multi-tasking OSs.

  4. +1 to Ken as well although Brad’s logic is not far fetched either.

    Sooner or later Apple is likely to fall victim of their own massive success in the same way in which say Palm and then RIM did.

    Oddly enough both Palm and RIM sufferred to a great deal partially because of their inability to reinvent their extremely successful OS-es, which simply aged up too soon.
    Apple is not new to this problem either, having sufferred from it many times, e.g. when switching from Motorola to Intel processors.

    They may as well handle it better this time, I don’t know, but just as with RIM I think there is a good chance both people and media get bored of them and the santiment turns around.

    It wouldn’t be an overning thing, of course, but it’s definitely there.

    I, for one, do not want an iPhone for the simple reason that I do not want to look like your average teenager.

    No Apple’s fault and maybe not countable argument at all (considering that most teenagers actually *do* want to look like other teenagers and there are a whole lot more of them than me), but then RIM didn’t see it coming either.

  5. John Doe on December 27, 2012 at 12:09 AM said:

    The are all great points. But you are missing very important points.
    1. Assuming Apple and MSFT are close on their earnings and growth, Apple has over 100 billion to spend. Eric Schmidt was asked which other company he would want to work for and he said Apple because of the cash.

    2. New products are hard to come out with. Apple is trying maybe with itv. But regardless, the potential growth in markets is big enough that Apple can grow for many years.

    3. The recently release data showing Apple has 57% of US market. And it is a bigger market that they have 57% of. They sold 2 million iphones in 3 days in China and soon they will be on China Mobile’s system. Their iPad Mini is a hot item and even with lower margins they will be selling so many of these.

    4. Apple has updated their software heads with the firing of Scott Forstall. They will have to update ios and they have to fix maps. Cook said he is throwing the weight of the company behind maps. Will it be as good as Googles Maps? In some ways yes and some ways no. You will use each one when you need certain things from it. Both will suffice. Will Apple have street view? Not sure there but when you go to Yelp and it displays a map it will be Apple maps. They will monetize this and that will be good. Apple is fixing their software now and multiuser will come out and so will more advanced things including NFC.

    5. An Executive of Samsung said the thing that Apple does better than them is retain customers (lock them in) with their ecosystem.

    6. There is a chance, with Google coming out with their own phone, that companies like Samsung with modify Android so they can have an advantage over other cell phone manufacturers who have Android on their phone. This leads to more fragmentation and delays in upgrading.

    7. Apple is going to come out with updated phones which will appease customers. They listen very well to what people want. They will improve their phones at an increasing rate. They will eventually be able to improve margins and they will innovate with their products.

    8. If Apple was going to have a bad earnings report, Tim Cook might not have mentioned how good China’s iphone5 sales were. This might have had people invest in the company thinking things are good when they are not.

  6. greenback3 on January 23, 2013 at 6:19 PM said:

    Microsoft. Since Jobs left apple, its just not the same and never will be.

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