In last week’s article I highlighted that as at June 30, Apple Inc. accounted for circa 44 per cent of the investment portfolio of Berkshire Hathaway Inc which at the time was valued at around $90 billion.

 The largest individual shareholders are Arthur Levinson, who has been the chairman of the board of Apple since 2011, and Tim Cook, who joined Apple in 1998 and became CEO in 2011 after the demise of Steve Jobs.   Apple’s share price has been among the most positive performers on the S&P 500 in recent months. Since June 30, Apple’s share price jumped by nearly 40 per cent and last week, the market capitalisation of Apple exceeded $2 trillion.

Apple is the first publicly traded US company in the US to reach a $2 trillion market capitalisation.  The share price of Apple doubled in value in just over two years.  Due to the COVID-19 outbreak, Apple’s share price had tumbled by 35 per cent between mid-February and March 23. Since the low of $212.61 recorded on March 23 (which was also the lowest since early September 2019), the equity has climbed by a staggering 137 per cent in only a few months.

At the time of the demise of Jobs in 2011, several commentators had questioned the ability of Cook to match the achievements of the Apple co-founder. Apple’s market cap was $348.8 billion when Cook became CEO on August 24, 2011 and in nine years, Apple’s share price has grown by over 470 per cent.

Last week, a financial analyst said that the company has “significant iPhone upgrade potential” in China ahead of the launch of its next flagship smartphone since just over 68 per cent of the iPhone users in China use devices that are at least two years old.  Apple’s next iPhone is expected to be able to connect to 5G networks and other analysts claim that the launch of the 5G iPhone is a “once in a decade opportunity”.

In fact, another analyst predicts that by the time Apple releases a 5G iPhone in the coming months, it could have between 300 million and 350 million prospective customers ready to upgrade their smartphone. In view of this, specific analysts upgraded the Apple price target to $515 which is the highest price target among the 41 analysts that publish price targets for Apple. The lowest price target is $314.

The rally in Apple shares gathered momentum after the company had published on July 30 its Q3 results as at 30 June 2020 which positively surprised most financial analysts. Apple reported an 11 per cent increase in overall revenues to $59.7 billion with growth registered in all its five product categories. Revenue from sales of iPhones rose 1.5 per cent year-over-year to $26.4 billion, substantially better than expectations of $22 billion. Apple reported double-digit growth in iPads, Macs, and also wearable devices. Earnings per share climbed by 18 per cent during the three-month period to the end of June.

This contrasts with expectations when in February 2020, Apple had issued a revenue warning and withdrew its guidance due to COVID-19 which sent the shares into a tailspin.  One of the major criticisms of Apple over recent years was its growing dependence on the sale of iPhones – this led to significant volatility in the company’s share price from one quarter to the next when the company reported its quarterly earnings and gave guidance on the expected performance in the following quarter mainly based around iPhone orders and shipments. The success in making the company less dependent on iPhone sales can be demonstrated from the recent quarterly results showing that revenue derived from the iPhone accounted for 44 per cent of overall revenue during Q3 2020 compared to 55 per cent two years ago.

Last week, the market capitalisation of Apple exceeded $2 trillion

Another announcement on the same day the company published its Q3 results on July 30 was that a four-for-one share split will take place at the end of August. Each Apple shareholder at the close of business on August 24 will receive three additional shares for every share held and on August 31, trading will begin on a split-adjusted basis. This should theoretically result in the absolute price of Apple shares dropping by 75 per cent to circa $126.  This is the fifth time the company is conducting a share split since Apple’s IPO in December 1980. The last share split was on a seven-for-one basis which took place in June 2014. Previously, Apple had conducted a two-for-one split in February 2005, June 2000 and June 1987.

Since the Dow Jones Industrial Average index is price-weighted as opposed to a market-cap weighting like other indices including the S&P 500, Apple’s weighting in the Dow Jones will diminish as a result of the lower share price in absolute terms. Apple is currently the highest priced stock among the 30 components of the Dow Jones Industrial Average followed by the health insurer UnitedHealth Group.  Apple’s weighting in the Dow Jones will drop from 12 per cent to about three per cent, placing it in the 17th position in the index.

As from next week, Apple’s weighting in the index will be less than that of Goldman Sachs and Boeing which will lead to major divergences in the performance of the Dow Jones Industrial Average compared to other indices such as the S&P 500 which is weighted by market capitalisation. Only five stocks account for 23.5 per cent of the S&P 500 index. In view of the change in the composition of the Dow Jones index, the daily movements in the index are set to change significantly since they will become less dependent on Apple. Also, once Apple’s weight in the Dow Jones Industrial Average index is dramatically reduced, those ETF’s that track the index will have to rebalance their portfolios accordingly.

In addition to the payment of cash dividends on a quarterly basis, Apple has also been regularly conducting share buy-backs given the huge amount of excess liquidity as a result of the consistently strong level of free cash flow. Since kicking off its share buy-back programme in 2013, Apple bought a total of $327 billion or 2.5 billion of its own shares between 2013 and 2019 at an average price of $131 per share. The reduction in the number of shares together with the consistently strong levels of profits translated into an increasing Return on Equity (ROE). Few investors may know that the ROE of Apple is around the 70 per cent level –impressive by any measure.

 Apple’s  CEO successfully changed the company’s focus and dependence away from a hardware company towards a software company with a growing recurring revenue from the services business. In 2017, the CEO set an ambitious growth target by indicating that Apple wanted to double its 2016 services revenue by 2020, equating to roughly $46 billion by this year. Apple managed to achieve this target six months ahead of schedule since it reported $13.16 billion in services revenue during the last quarter, accounting for about 22 per cent of the overall revenue.  The rally in the share price over the past two years leading to the price-to- earnings ratio rising to 38 times from below 15 times until early 2017 clearly indicates there was a major reappraisal of the company’s business model towards a software company.

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