With an average analyst rating of buy, Apple is clearly an analyst favorite. But the analysts could be wrong. Is AAPL overvalued at today's price of $154.48? Let's take a closer look at the fundamentals to find out.
The first step in determining whether a stock is overvalued is to check its price to book (P/B) ratio. Thus is perhaps the most basic measure of a company's valuation, which is its market value divided by its book value. Book value refers to the sum of all of the company's tangible assets minus its liabilities -- you can also think of it as the company's liquidation value.
Traditionally, value investors would look for companies with a ratio of less than 1 (meaning that the market value was smaller than the company's book value), but such opportunities are very rare these days. So we tend to look for company's whose valuations are less than their sector and market average. The P/B ratio for Apple is 42.8 -- in a different galaxy than its sector average of 5.57 or the S&P 500's average P/B of 2.95.
Modernly, the most common metric for valuing a company is its Price to Earnings (P/E) ratio. It's simply today's stock price of 154.48 divided by either its trailing or forward earnings, which for Apple are $6.05 and $6.44 respectively. Based on these values, the company's trailing P/E ratio is 25.5 and its forward P/E ratio is 24.0. By way of comparison, the average P/E ratio of the Technology sector is 26.5 and the average P/E ratio of the S&P 500 is 15.97.
The problem with P/E ratios is that they don't take into account the growth of earnings. This means that a company with a higher than average P/E ratio may still be undervalued if it has extremely high projected earnings growth. Conversely, a company with a low P/E ratio may not present a good value proposition if its projected earnings are stagnant.
When we divide Apple 's P/E ratio by its projected 5 year earnings growth rate, we obtain its Price to Earnings Growth (PEG) ratio of 2.69. Since a PEG ratio of 1 or less may indicate that the company's valuation is proportionate to its growth potential, we see here that AAPL is overvalued when we factor growth into the price to earnings calculus. One important caveat here is that PEG ratios are calculated on the basis of future earnings growth estimates, which may turn out to be wrong.
Indebted or mismanaged companies can't sustain shareholder value for long, even if they have strong earnings. For this reason, considering Apple 's ability to meet its debt obligations is also an important aspect of pinning down its valuation. By adding up its current assets, then subtracting its inventory and prepaid expenses, and then dividing the whole by its current liabilities, we obtain the company's Quick Ratio of 0.697. Since AAPL's is lower than 1, it does not have the liquidity necessary to meet its current liabilities.
One last metric to check out is Apple's of $83,344,621,568. This represents the total sum of all the company's inflows and outflows of capital, including the costs of servicing its debt. It's the final bottom line of the company, which it can use to re-invest or to pay its investors a dividend. With such healthy cash flows, investors can expect Apple to keep paying its 0.6% dividend.
Analysts are bullish on Apple, and the stock's stratospheric returns to some extent justify this sentiment, despite the stock's inflated valuation. Indeed, the stock has continuously provided strong returns despite being overvalued in quantitative terms for much of its history. This shows the importance of supplementing a quantitative analysis of a company with a focus on its qualitative factors.
In Apple's case, investors trust the stock because of its deep and durable competitive advantage in the computer, smartphone, and tablet markets. This trust keeps the value of Apple shares high. In a way, the company's inflated valuation in terms of traditional market metrics can be seen as a symptom of its own success.
Even famed value investor Warren Buffet has added more Apple to his portfolio in 2022, which goes to show how little an P/B ratio over 20 matters when a company has close to total market domination. Don't miss our next report! Subscribe to our free daily newsletter today.
