Apple Computer AAPL
April 22, 2003 - 4:55pm EST by
2003 2004
Price: 13.25 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 4,900 P/FCF
Net Debt (in $M): 0 EBIT 0 0
TEV (in $M): 0 TEV/EBIT

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  • Multi-bagger


Apple Computer is the world's only integrated (hardware/software) PC manufacturer. The Company has approximately 5% market share in the global PC market of 145 million yearly units. It offers a series of state of the art PCs and labtops at the leading edge of design, technology, and performance.

Apple announced results last week (4/16/03) which were lackluster. Of note was that the company continues to generate free-cashflow (cash-flow from ops less capex) at the rate of 200 mln per year. More importantly however is that the Company has $4.526 billion in cash and securities on the balance sheet and only 315 mln of debt. This translates into the Company (ex cash) trading at between 3 and 4 times (TEV to free cash-flow). For those of you arguing that were it not for interest income, the Company would generate no free cash-flow, I would agree with you; however you would be looking at the company on a recent historical basis rather than a normalized basis. Additionally, the company’s prospects are not as bad as everyone thinks they are. The products are good. Apple has the best working capital management program in the industry. The 12 and 17 inch labtops are off to a good start. The IPOD is selling at the rate of 78,000 units per quarter and growing and the company has its stable/fanatical customer base which is willing to pay a significant premium, in excess of 25% for similar products, for the Company’s products. Finally, the company’s retail effort is exposing a significant number of consumers to the company’s products and some are responding favorably. Valuing 200 mln of free-cash flow conservatively at 15 times results in a business value of 2.7 bn subtracting the debt. Adding the cash balance of 4.5 bn gives a price per share of 19.70 dollars.

Recent speculation in the press has hinted that Apple is in advanced discussions with Vivendi Universal to acquire the latter’s music business, VUM. This speculation is what caused the company's stock to fall from the $15.5 level to the current $13.25 level and making the stock significantly more attractive.

I believe that there is a very small chance (<5%) that Apple purchases VUM. This is because the acquisition makes very little strategic sense because of a number of reasons: 1) Apple will introduce a system on April 28th, which will allow for the purchase of online music from the five major labels for a per song fee. Why would Apple then purchase one label if they have access to all of them.

2) The music business has little to do with the computer manufacturing business; other than distribution through the internet, there are no synergies.

3) Financially the acquisition would have a bad effect on Apple because clearly its holders see the majority of the Company's value in its cash balance hence the recent price decline due to a cash acquisition scare.

4) Steve Jobs (CEO) is no dummy. Say what you want to say about the guy but he has founded 3 companies: two of them with multibillion dollar market caps (Apple, Pixar) saved another one from bankruptcy (Apple) and sold another one for 500 mln+ (Next) and he is a survivor. Granted his stubbornness boxed him out of the greatest value creation bonanza in the history of the planet and he walked out with only a billion + rather than Gate’s 50 billion, but that is a problem most of us would like to have.

And finally, lets assume that Apple buys VUM for $ 6 bn (a 30% discount to the sales multiple where EMI presently trades) and for simplicity’s sake lets assume Apple pays all in cash and assumes the balance in debt or 1.5 debt + 4.5 cash bn. The combined company would have a TEV of 6.8 bn and free cash-flow on a normalized basis of 700 mln. (VUM had EBITDA of 963 mln during 2002, very little capex and no interest expense) Furthermore, lets assume that this cash-flow stream decreases at the rate of 10% a year every year and we discount the stream at 5%. This cash-flow stream’s value is 4.6 billion; subtracting the debt of this stream gives an implied equity value of 7.5 dollars per share for the combined company. On a probability adjusted basis, Apple’s share price should be 95%* 19.70 plus 5% * 7.5 or 19.1 per share which is 44% higher than where the Co. currently trades.


Press stops speculating on a transaction that makes very little sense.
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