Apple’s Blowout Earnings Prove Its Shares Are Cheap

Don’t believe the gloomy stories about tech valuations. This is a once-in-a-generation opportunity for investors to invest in real tech businesses.

Executives at Apple (AAPL) reported last week that sales in the fourth quarter rose to a record $123.9 billion, with gross margins of 43.8%. And the gains came despite a tangled supply chain.

Shares are insanely cheap. Buy Apple into weakness.    

The evolution of Apple occurred in October 2018 when CEO Tim Cook began building a platform around user privacy.  Speaking at a privacy conference in Brussels, Cook made an impassioned case for privacy as a human right. The idea redefined smartphones. iPhone became a platform with a distinct competitive advantage.

That is the difference between most of big tech and the rest.  

Pundits keep comparing current tech valuations to the Nasdaq Composite index in 2000. Although in some ways this is certainly fair, the concept is fundamentally flawed.

Some tech valuations, specifically shares of disruptive innovation companies became outrageously expensive. 3D printing, blockchain and other emergent technologies have bright futures, however it is far too early to pick winners, let alone value small companies at 50x sales. Most will ultimately fail.

Blame the investment bankers and special purpose acquisition company propogandists. Like the height of internet boom in 2000, snake oil was an easy sell in 2020 and most of 2021.

That is where comparisons with the tech boom two decades ago end.

The businesses that now make up the lion’s share of the Nasdaq are platform leaders, such as Apple, Microsoft (MSFT), Alphabet (GOOGL), Amazon.com (AMZN), Meta Platforms (FB), Tesla (TSLA), Nvidia (NVDA), and Adobe Inc. (ADBE). The shares of these companies account for 48% of the index. And they are cheap, not expensive.

Microsoft executives announced on Wednesday that revenues in the second quarter surged to $51.7 billion, up 20% year-over-year. The gross margin was 68.9%. Earlier in January Microsoft offered to buy Activision Blizzard (ATVI) for $75 billion, using cash on hand.

The biggest tech companies generate obscene amounts of free cash flow. They dominate their respective niches with overwhelming scale. In many cases, like cloud infrastructure, the end markets are worth hundreds of billions and growing quickly as all of the world’s largest companies transition to digital business strategies.

Apple is benefitting from this transformation, too.

At the Worldwide Developer Conference in June 2019 the Cupertino, Calif.-based company began offering Mobile Device Management. The software tool lets IT managers assign a corporate Apple ID that lives side by side with an employee’s personal ID; has a cryptographic separator for personal data; and limits the device-wide capabilities. The latter is perfect for employees who decide to bring their own devices to work. The response has been remarkable.  

When large companies offer devices to employees, iPhone is the overwhelming smartphone of choice. Although the device commands only 15% of the global smartphone market, its use in the corporate world is without rival. From Capital One (COF) and International Business Machines (IBM), to Procter of Gamble (PG), iPhones are ubiquitous across the Fortune 500. It all makes good sense.

iPhone is considered a premium device. Getting one for work is a perk for employees. It’s also an easy sale to employers given iPhone’s reputation for longevity, software updates and privacy.

Then there is the halo effect.

iPhone is the center of the Apple ecosystem. iPads, Mac computers, Watches and AirPods all work seamlessly within the iPhone platform.

When Apple reported results on Friday every category except iPad showed double digit improvement. Mac revenue jumped to $10.85 billion, up 25% from a year ago, helping profits surge to $2.10 per share, up 25% year-over-year.

Astonishingly, Cook said that supply chain issues continue to constrain production. December was worse than the September quarter.

Business leverage at big tech is the big story being lost in the gloomy headlines about tech. It does not fit with the narrative that tech stocks are as expensive as they were in 2000. This is simply not true.

Apple shares trade at 26x forward earnings and only 7.1x sales. These metrics are cheap given the stickiness of Apple’s ecosystem and its considerable competitive advantages.

Longer-term investors should consider buying the shares into weakness.