What Makes Apple A Buffet Style Investment?
Most people with even the tiniest of interest in finances or investing recognize that Warren Buffet is likely the world’s greatest investor ever.Buffet likes to buy stock in businesses that have a wide moat. A moat is generally defined as “a company’s ability to maintain competitive advantages over its competitors in order to protect its long-term profits and market share”. Owning businesses with a moat allows a company to be profitable long-term and since Buffet’s preferred holding period is forever, he attempts to stack his portfolio with as many of these types of companies as possible.
Buffet had previously stated that he wouldn’t buy shares in a technology company in due in part to a lack of moat that would protect profits from the competition. That changed at the beginning of the current decade as Buffet bought tech giant IBM (IBM).While Buffet has exited that stock, he has accumulated a large position in another well-known technology company: Apple (AAPL).
Buffet’s holding company Berkshire Hathaway didn’t start buying shares of Apple until 2017.While Apple’s share price declined almost 12% during the first part of the year, Buffet’s portfolio purchased 75 million more shares. This made Apple the third largest holding at that time.Now that the company’s valuation has crossed the $1 trillion market capitalization, Apple is now the largest position in Berkshire Hathaway, above such longtime Buffet favorites such as Wells Fargo (WFC) and Coca-Cola (KO).Apple now accounts for more than 24% of Berkshire Hathaway’s total portfolio.
Why Did Buffet Buy Apple?
Given Buffet’s dislike for technology companies, having such a large stake in Apple might not make sense. But if you are familiar with Apple’s business and its products, you would likely come to the conclusion that Apple is the perfect example of a Buffet stock. This ecosystem gives Apple a moat against its competitors.
Apple has transformed from computer company to a smartphone company to an ecosystem that generates a very large amount of reoccurring revenue. Some on Wall Street had their doubts about Apple’s performance earlier this year given that a smartphone “supercycle” never really occurred, the company’s suppliers didn’t show the growth that analysts had expected and battery issues that the iPhone 6 had. The company’s latest quarterly report proves that many analysts had Apple wrong.
3rd Quarter Earnings
Apple released 3rd quarter earnings on July 31st. The company earned $2.34 per share, $0.16 above estimates and a 40% improvement from the same time last year. Revenue grew 17.4% to $53.3 billion, $870 million above estimates.
More than forty-one iPhones were shipped in the quarter. This was slightly below estimates and less than a 1% improvement from the 3rd quarter of 2017. The difference between the 3rd quarter of 2018 and last year’s 3rd quarter was that the average selling price was 20% higher. Even though Apple sold just slightly more phones in this quarter, the company was able to see a substantially higher selling price because of how strong demand for the iPhone 8, 8 Plus and X among consumers was. iPhone sales were up in the company’s fifteen largest markets, including a 19% increase in China.
While the iPhone remains the biggest source of revenue (56% of 3rd quarter sales), Apple is more than just a phone company. Services, which includes Apple Music, Apple Pay, cloud services and the App Store, grew more than 30% to $9.5 billion. Apple aims to generate $50 billion a year from services by 2020. Wearables, including the Apple Watch and AirPods, grew 37% to $3.7 billion. iPad improved nearly 3% year over year and the product now has 60% of the tablet market in the U.S. Mac shipments declined 14%, but 60% of the 3.7 million units purchased during the quarter were by people who have never bought one before.
The beautiful thing about all of these products is that they can be connected, creating an ecosystem that consumers are likely loath to exit. This creates a moat around Apple’s future profits as competitors would likely face steep challenges in taking market share from the company.
Shareholder Friendly Company and Appealing Valuation
In addition to solid quarterly results, Apple is a very shareholder friendly company. With more than $240 billion in cash (or $129 billion after removing debt) on its balance sheet, Apple is able to return a lot of cash to its investors. On May 1st, the company increased its dividend by 16%.Apple only began paying a dividend in 2012, but the quarterly dividend has now increased almost eightfold since. The current yield of 1.4% is below that of the S&P 500, but this yield pairs nicely with a 24% share price gain year to date. The company also announced in May that they would be adding $100 billion (or 10% of its current market cap) to its share repurchase authorization.
Apple expects to earn $11.61 per share in fiscal 2018. With a current trading price of $211, the stock has a price to earnings ratio of 18.4. While this is well above the stock’s ten-year average multiple of 15.5, the current P/E is significantly below the S&P 500’s ratio of 24.6.
Final Thoughts
Warren Buffet prefers to own stock in companies with wide moats. While the number of iPhones shipped in the 3rd quarter was up only slightly, Apple was able to sell the product for 20% more than the previous year. Most of the company’s other products, such as the Apple Watch and services, showed strong demand during the quarter. These products combine to give Apple an ecosystem that consumers are happy to buy into. This ecosystem gives Apple a wide moat, something not every technology company has. This is why the Omaha of Oracle has made Apple its largest position.
Disclosure: Author is long AAPL and KO
Disclaimer: Sure Dividend is published as an information service. It includes opinions as to buying, selling and holding various stocks and other ...
more