Apple (AAPL), Pros and Cons
Is Chipotle (CMG) a Bargain Here?
Or Should You Look Elsewhere?
I was in my local Apple store at about 7 PM last Tuesday doing a little Christmas browsing and two things struck me.
One, the employees, all wearing blue T-shirts, outnumbered the customers.
Two, there were no displays in the windows.
I asked the first employee to greet me about that, saying I assumed they’d be putting up new displays that night, and she said, “No, they’ve been empty for days!”
But why wasn’t the store busier? Are people doing all their shopping online, or was it just a slow night? I don’t know.
What I do know is that AAPL, the stock, remains a keen topic of interest among investors, so today, I’m presenting the pros and cons of investing in AAPL.
The Case For AAPL
Apple may be the most respected consumer electronics brand in the world. Its users are loyal. Its migration to iPhone plans that provide users with a new phone every year should increase loyalty as well as generate more used phones for resale. And its premium pricing means it’s a very profitable company, with after-tax profit margins of 21.6% in the latest quarter.
Plus, according to Cabot’s ace value analyst Roy Ward, AAPL stock is undervalued today.
Here’s what Roy wrote in his latest update:
“Demand for iPhones continues to rise quickly after the highly successful launches of iPhone 6S and 6S Plus. iPhones are the number-one seller (62.5% of total sales) in Apple’s growing stable of electronic products.
“Apple has introduced Apple Pay, a new payment method allowing the owners of iPhone 6, iPhone 6 Plus and Apple Watch devices to pay for purchases with their phones or watches rather than with credit or debit cards. The new system is more secure and more private than plastic cards with magnetic tape. The Apple Watch became available in April 2015 and early sales of the device were brisk, but subsequent sales have dropped off considerably. When the iPhone was initially introduced, the sales trend was very similar. iPad sales are declining as a result of users switching to iPhones and Apple Watches.
“Apple signed a multi-year agreement in December 2013 to provide iPhones via China Mobile. The company’s sales in China during the September 2015 quarter soared 99%, after surging 112% and 71% in the two previous quarters. The iPhone’s growth is even more impressive after considering that the company’s rivals are experiencing declining sales in China. Doubling sales in China is not sustainable, but sales in Europe could begin to accelerate and offset any slowdown in China.
“Apple’s latest iPhone is now available on a monthly payment plan in the U.S. starting at $32, with free upgrades every 12 months. Apple’s leasing program will compete with wireless carriers, which offer their own installment plans for iPhones and other smartphones. Apple is also including its AppleCare warranty program as part of the monthly fee.
“Apple’s sales surged 28% during the 12 months ended September 30, 2015, after increasing 7% in the previous 12 months. Earnings per share (EPS) soared 43% in the latest period compared to just 14% in the prior 12-month period. Apple is taking considerable market share from competitors, both in the U.S. and overseas. Sales and earnings growth will likely slow somewhat in 2016, but Apple’s results will likely beat analysts’ modest estimates once again.
“At 14.3 times latest EPS with an expected five-year EPS growth rate of 14.0%, AAPL shares are clearly undervalued. The balance sheet is very strong with low debt and lots of cash. The current dividend yields 1.9%, after a healthy increase in April. Apple’s PEG ratio of 0.90 also indicates that the stock is a bargain. My calculation of the PEG ratio uses the company’s current price divided by the company’s latest four quarters of earnings per share, which is then divided by the combined five-year forecast EPS growth rate and current dividend yield. I expect AAPL to advance 41% to my Min Sell Price of 165.32 within two years. Buy at 118.87 or below.”
That’s Roy, aiming for a 41% gain over roughly two years. And the odds are good that he’ll get it. After all, since he began publishing his Value Model on December 31, 1995 (almost 20 years ago), he’s racked up an impressive return of 1,089.1% compared to a return of 527.3% for Warren Buffett’s Berkshire Hathaway and the Dow’s gain of just 246.3%. Generally, it’s not wise to bet against Roy.
The Case Against AAPL
On the other hand, AAPL is a unique company and there are a couple of reasons that it just might not conform to Roy’s system. Mainly, these reasons revolve around the hugeness of its valuation and the stock’s enormous popularity.
As I’ve told you many times before, when a stock that’s owned by almost everybody falls victim to a change in public perception, there are no potential new buyers of the stock left, and thus the pressure of the sellers tends to push the stock down rapidly.
When that happens, what looks like a bargain P/E of 14 can easily become a lower P/E, like 10—in fact, AAPL has traded at a P/E ratio of 10 within the past five years! So in my book, low valuation is not enough, particularly in the case of a very popular stock like AAPL.
Then there’s the stock’s trend. Trends, remember, tend to go further and last longer than investors originally expect. Just look at the trends of energy stocks this year!
So what is AAPL’s trend? You can make a case that the long-term trend is still up. On the other hand, the stock hasn’t hit a new high since May, and since then, it’s been underperforming the market, as measured by its relative performance (RP) lines.
And speaking of RP lines, a look at the long-term picture of AAPL reveals that its RP line actually peaked way back in September, 2012, more than three years ago.
So the long-term chart shows a divergence: AAPL stock has hit a new high since 2012, but the RP line hasn’t, and that’s a sign, pure and simple, that the stock’s momentum is slowing.
I don’t feel strongly about either the bull or bear case for AAPL. There’s no question that it’s a fine company with excellent products, but the stock is not the company, and in the absence of a clear bullish case, my preference is to look elsewhere.
Is Chipotle (CMG) a Bargain Here?
CMG has been one of the biggest winners of the decade; even after its recent troubles, the stock is up 1,470% since the market’s 2009 low.
But the stock has come under serious selling pressure in recent days.
Note in particular the heavy volume of selling.
So it’s worth asking, how serious are the company’s problems? Might the stock be a good buy here?
To recap, the troubles started with the firm’s third-quarter earnings report, released in mid-October. In short, the report revealed slowing growth, and investors reacting by gapping the stock down at the open.
November brought cases of E. coli to Chipotle diners in Washington and Oregon.
And December brought more than 100 cases of norovirus traced to a Boston Chipotle restaurant.
Now, personally, I’m not particularly concerned about the company’s food safety. I figure they’ll clean up the restaurants and institute stronger food safety procedures (reading the McDonalds operating manual would be a good place to start). So I’m going to keep on patronizing my local Chipotle for take-out.
But how do we evaluate CMG as an investment now?
Fundamentally, CMG is still a growth company, but it’s slowing. While earnings grew 36% in 2014, they may slow to 11% in 2015 and fall as low as 9% in 2016. And there’s no dividend payment to add stability.
Technically, the stock hit new price and RP peaks as recently as August, so it’s certainly not in the “mature” phase we see AAPL in. However, from a short-term momentum point of view, the stock is dead. Until we see consistent signs of strength, growth-oriented investors should look elsewhere.
And then we come to valuation. CMG currently has a P/E ratio of 34, which seems kind of high for a company expecting earning growth of 9%. But that’s down from a P/E peak of 73, so mightn’t it be attractive to some investors? Maybe.
Happily, the fact that CMG has a consistent record of revenue and earnings growth means it qualifies as one of Roy Ward’s “Top 275 Value Stocks.” (That’s a list that Roy’s subscribers see updated every month.)
And a key feature of the list, as I’ve mentioned many times, is Roy’s Maximum Buy Prices, which ensure that you never overpay for a stock. And the bad news about CMG is that the stock, even after its 25% haircut, is still not a bargain!
In fact, Roy’s Maximum Buy Price for CMG is 419.40, a full 26% below today’s price!
Now, that doesn’t mean the stock will fall to that level. But it does mean that CMG is by no means a good value at this point. So, as with AAPL, my best advice is to look elsewhere.
And while you’re looking, consider joining the well-informed readers of Roy’s Cabot Benjamin Graham Value Investor, so you can stay informed about where the real values are in market.
Yours in pursuit of wisdom and wealth,
Chief Analyst, Cabot Stock of the Month
Publisher, Cabot Wealth Advisory