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Analysis: The Long Shadow of Steve Jobs

Steve Jobs passed away 4 years ago this month, leaving Apple Inc. in the best shape it had ever been in. iPhone, iPad, and Macintosh product lines were all growing rapidly, and the company was on its way to becoming the largest company in the world by market capitalization. Many investors and financial pundits questioned if Apple could continue to innovate after Jobs' death. Tim Cook was hand-picked by Steve Jobs to run Apple Inc, having done so in an interim fashion in 2004 and 2009 when Jobs took medical leaves of absences while fighting pancreatic and liver cancer. Steve Jobs told Tim Cook just before the time of his death not to ask himself what Steve would do, but to “just do what is right.” This may have lifted some of the burden off of Cook's shoulders but the long shadow of Steve Jobs will most likely remain cast over Apple Inc. for the foreseeable future.

At the end of 2007, Apple's stock was above $200/share ($28/share split adjusted). The company was riding the wave of iPhone's smashing success, and the global economy was still humming along. The stock at the time was trading at a price-to-earnings multiple (P/E multiple) of over 50. The price-to-earnings multiple of a company is a way to measure the company's value vs other companies or even itself over time. It is very simple--you divide the share price by their earnings per share and you get a number. That is the multiple. Apple's stock was trading at a premium to the stock market in 2007. The stock was being valued at a P/E multiple double that of the broader S&P 500 Index.

I used to call this “The Steve Jobs Premium.” Investors were willing to pay up for Apple's stock because they believed Jobs was worth every penny. We see a similar phenomenon today with Tesla Motors and their CEO, Elon Musk. Looking at Apple Inc.'s stock today, it trades at a P/E multiple of 13. Apple's stock has appreciated 310% since the end of 2007, revenues are up 660% in that time, and earnings have risen an astounding 1200% in that same time period, yet the stock's P/E multiple has decreased 74%. It is fair to conclude that Apple Inc. has gone from trading with a “Steve Jobs premium” to a “Tim Cook discount.”

There are a number of explanations for why this has happened to Apple Inc.'s stock. 2007 was the height of the housing bubble, and many stocks were trading at overbought and overvalued levels, the iPhone hype was out of control in its launch year, and Steve Jobs was still reasonably healthy. 2008 was a difficult year for almost all stocks. Apple Inc. lost 60% of its value in that one year, only to recoup all of the losses and more in 2009. The precipitous fall of the stock starting on the day of the iPhone 3G announcement in June of 2008 began the a major repricing of Apple's stock. You could argue that the “Steve Jobs Premium” died that day, even though he remained alive and at the company for another 3 years.

The stock began dropping during the WWDC presentation as investors saw a strikingly skinnier Steve Jobs. At this point, many investors in Apple were spooked. The liquidation of shares that ensued between June of 2008 and January of 2009 (when Jobs took his 2nd medical leave) wiped out much of the froth in the stock. On that day in January 2009, Apple Inc.'s stock was trading at 10 times it earnings. This was the lowest P/E multiple it had been valued at in 10 years (dating back to the burst of the 2000 tech bubble). Investors call moments like January of 2009 in Apple's stock a capitulation, where everyone throws their hands up in the air and runs for the exits in unison. In almost the span of one year, Apple had gone from trading at 50 times earnings to 10 times earnings. Steve Jobs was out with a liver issue, and Tim Cook was in place to run day-to-day operations once again.

Jobs ultimately triumphantly returned to Apple Inc. just in time to show us off his latest invention, the iPad, in 2010. This would be the last new product category he would ever unveil as CEO of Apple Inc. He was truly a visionary, but he assembled a team of very talented, creative people. The present day Apple Inc. still focuses on the goals of Steve Jobs. Making great products that are accessible to as many people as possible while still surprising and delighting customers with over the top press conferences and product reveals.

"I have always said if there ever came a day when I could no longer meet my duties and expectations as Apple's CEO, I would be the first to let you know," Mr. Jobs said in his resignation letter in August, 2011. "Unfortunately, that day has come." He named Tim Cook his successor in an attempt to prevent infighting at the company.

The Post-Jobs era of Apple Inc. had begun, and the stock continued to rocket higher until the launch of the iPhone 5 in the fall of 2012. The stock peaked the Monday after the iPhone 5 launched at around $700/share ($100/share adjusted for the split). The launch of Apple Maps, accompanied by Google Maps removal from iOS, was a huge failure on the part of the team at Apple Inc. and gave some critics fuel to claim that Tim Cook may not be the right man for the job.

This was not the only reason that the stock peaked, in my opinion. The S&P 500 Index has rules about what percentage weighting a stock may have. Apple comprised 5% of the Index when it peaked in September of 2012, the maximum threshold for a stock in that index. The bear market that ensued in Apple from 2012 to 2013 was accompanied by a rise in the overall market. Today, Apple's stock represents 3.71% of the S&P 500, meaning that it could rise to $155/share before hitting the 5% threshold again. The S&P 500 would have to appreciate 50% to approximately 3000 for Apple's stock to be able to hit activist investor Carl Icahn's target of $240/share within the current rules of the S&P 500. This is not impossible, but it illustrates one of the downward pressures on the stock. Apple Inc. is simply too big for its stock to trade at a high price-to-earnings multiple. This leaves us with a very undervalued stock that is structurally hindered by the market itself.

Apple trades at a 13 P/E multiple, a discount to the S&P 500's 18 P/E multiple, and is still growing earnings faster than most other companies. They also have an ongoing massive share buyback and a dividend yield of 1.8% to entice institutional investors to stay invested in the stock. These are financial engineering efforts that Steve Jobs never entertained. Apple has seen the exits of multiple board members as well as CFO Peter Oppenheimer and iPhone Software Chief Scott Forstall over the last 4 years, and the culture at the top has changed. Tim Cook is more open with the investing community, and has pushed through a number of reforms within Apple Inc. regarding charitable efforts, and equality.

There have been a number of mistakes, mishaps, and that $3 Billion Beats acquisition that make me still question if Tim Cook and his team are doing the best job they possibly can. He is following one of the greatest CEOs of the tech era, and we still have yet to see a wow product. The Apple Watch was the company's first new product category launched since Jobs' passing, but it is not the disruptive product that iPad, iPhone, iPod, and Macintosh were before it.

The stock will be stuck trading for a “Tim Cook discount” until we see if there is evidence of that kind of groundbreaking magic left in the R&D labs in Cupertino. Next year is the 40th anniversary of Apple Inc. and I can only imagine that they will have something special to show us. The new spaceship campus will be opening in the fall of 2016, there is evidence of Apple working on a few cool products from autonomous vehicles to glasses-free stereoscopic projectors. Eddy Cue, Apple's Senior Vice President of Internet Software and Services, said at last year's Code Conference that he believes Apple has its best product pipeline in 25 years. It seems only fitting that these new products will be showcased in a building that Steve Jobs helped design. Apple Inc. is Steve Jobs greatest invention. His company continues to thrive just like Walt Disney and Henry Ford before him, and his shadow will remain cast over the company as long as Apple Inc. continues to do the work he loved.

Apple reports earnings on the afternoon of Tuesday October, 27, 2015. I rate the stock as a buy, and will be watching the numbers closely.

GLOSSARY

  • Price-To-Earnings Multiple – share price divided by earnings per share
  • Earnings Per Share – net income divided by total amount of shares in the company
  • Market Capitalization – the market value of all the company's outstanding shares. Calculated by multiplying the total shares of a company by the share price.
  • Revenue – sales of a company
  • EBITDA – earnings before interest, taxes, depreciation and amortization
  • Capitulation - the action of surrendering or ceasing to resist an opponent or demand.
  • Institutional Investors – large investment firms like pension funds, mutual funds and hedge funds who trade and invest in stocks in extremely large dollar amounts.
  • Put Option – the right to sell a stock at a given strike price (a way to hedge downside)
  • Call Option – the right to buy a stock at a given strike price (a way to bet on upside)
  • Strike Price – the price at which an option is executable
  • Stock Split – When a company divides its existing shares into multiple shares. Apple executed a 7-1 stock split in 2014, decreasing the share price and increasing the amount of shares outstanding by a factor of 7.

Asif A. Khan, CPA, his family members, and his company Virtue LLC own shares of Apple Inc. and shares of Tesla Motors, Inc. Virtue LLC owns AAPL put options at the $100 strike price expiring 10/30/15. Virtue LLC owns AAPL call options at the $135 strike price expiring 11/20/15.

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