I’d caution moving the forecast p/e multiple above 25 times trailing 12-month earnings, while it’s fun to see how the math works, it isn’t practical at this time.

The market won’t support and sustain a p/e multiple above 25 anytime soon and there’s more than enough share price appreciation using that multiple as a cap for estimates and forecasts.

Apple is currently growing revenue and earnings at a torrid pace but the pace of growth will eventually moderate (especially as we move 12 fiscal quarters out from today).

Apple’s revenue may move as high as $60 billion this fiscal year. Sustaining revenue growth above 20% annually becomes increasingly challenging as revenue scales higher. Earnings will rise faster than revenue, but there’s a practical cap on sustainable revenue growth as revenue moves above $60 billion and certainly above $75 billion which could be the reality for FY 2011.

I’m moderating my p/e forecasts to what I consider a sustainable pace of growth for the the next three to five years. Should the share price move above that multiple one may be buying into a bubble rather than investing for sustainable growth.

DawnTreader - 20 March 2010 01:09 PM

I’d caution moving the forecast p/e multiple above 25 times trailing 12-month earnings, while it’s fun to see how the math works, it isn’t practical at this time.

The market won’t support and sustain a p/e multiple above 25 anytime soon and there’s more than enough share price appreciation using that multiple as a cap for estimates and forecasts.

Apple is currently growing revenue and earnings at a torrid pace but the pace of growth will eventually moderate (especially as we move 12 fiscal quarters out from today).

Apple’s revenue may move as high as $60 billion this fiscal year. Sustaining revenue growth above 20% annually becomes increasingly challenging as revenue scales higher. Earnings will rise faster than revenue, but there’s a practical cap on sustainable revenue growth as revenue moves above $60 billion and certainly above $75 billion which could be the reality for FY 2011.

I’m moderating my p/e forecasts to what I consider a sustainable pace of growth for the the next three to five years. Should the share price move above that multiple one may be buying into a bubble rather than investing for sustainable growth.

I agree 100% with DT.  When you look to areas where future growth can come from such a large base, it means finding entirely new business areas on a regular basis.  Apple has been successful in doing this for the last 10 years not only growing their core Mac business but adding Ipods, Iphones and Itunes.  As far as segments the Mac business is in a maturing industry and so most of the growth will come at the expense of competitors or from emerging market countries, that means that Apple will have to move down the price continuum at some point to capture the next increment of customers.  With 90% share of over $1000 computers there is limited growth at higher price points.  The Ipod as a music player has reached a mature industry but they have now morphed the product with the iPod touch providing new growth as a portable gaming device and the nano as a video camera.  The iPhone is still an early grower in an expanding market and will continue to power earnings for the next several years. iTunes has captured digital music and is fighting it out for Movies/TV and created a whole new market for Apps and will battle for Ebooks, Newspaper, Textbooks with the new iBook store.  These new areas should provide excellent growth in the 3-5 year timeframe.  Apple has added a new hardware platform, the iPad and it is anyones guess whether it will be a major hit because we are in the startup phase of the product.  If the pre-orders are any indication the early adopters as a minimum want to give it a try in fairly large numbers but it hard to judge the shape of the growth curve.  So then what next, I try to keep an eye on Apple’s patents for a sense of what they are looking at, but what makes it past SJ to market is another unsolved question.  Apple has built a huge data center which should open in 2010 and it was built with something more in mind then what is available today so we’ll have to wait and see.  Projecting growth beyond 5 years is a waste of energy in high tech,  Too much change happens to project growth for an individual company so most folks accept that growth will drop off in the out years.  You can bet Apple is looking for the next big thing but so are all the rest.  I just hope that Apple surprises us all.

Why is everyone so sure the NC facility is going to be a data center?  I confess I am not knowledgeable on this subject, but I can’t imagine why, in this day and age, you need giant industry size buildings to house servers.  Could there not be other purposes for this huge facility?  Could not Apple be preparing to have an east coast campus, arming Apple with an escape plan if the California situation ends raising taxes.

DawnTreader - 20 March 2010 01:09 PM

The market won’t support and sustain a p/e multiple above 25 anytime soon and there’s more than enough share price appreciation using that multiple as a cap for estimates and forecasts.

Apple is currently growing revenue and earnings at a torrid pace but the pace of growth will eventually moderate (especially as we move 12 fiscal quarters out from today).

Apple’s revenue may move as high as $60 billion this fiscal year. Sustaining revenue growth above 20% annually becomes increasingly challenging as revenue scales higher. Earnings will rise faster than revenue, but there’s a practical cap on sustainable revenue growth as revenue moves above $60 billion and certainly above $75 billion which could be the reality for FY 2011.

I’m moderating my p/e forecasts to what I consider a sustainable pace of growth for the the next three to five years. Should the share price move above that multiple one may be buying into a bubble rather than investing for sustainable growth.

This post highlights for me the confusion I’ve seen for the past year about setting price targets.  Multiples contract and expand in the market based on greed and fear.  We can’t control that, and we can’t predict that.  But we should all be able to agree on how much we would pay now for a company that has a projected set of revenues over the next five years.  So the issue is not what will multiples look like in the market in 12 months, but only, will profits continue to grow as they have in the past (or decelerate or accelerate)?

Its too simplistic to say that a larger company can’t sustain growth as easily as a small company, because it depends on how big the market is for the products it is selling.  To really determine future growth prospects, you have to consider the opportunities, risks and sizes of markets.

For my money, Apple has met the burden of proof on the following aspects of predicting future profits 1)  it has the business and financial talent to consistently increase profits by more than 30% each year, 2)  it finds ways to innovate every year to open new markets, and 3)  the opportunities to leverage Apple’s advantages and assets to open new markets is greater now than ever before. 

Of course you need to discount opportunities by the risks of not achieving these opportunities due to competition, business conditions or bad execution.  But even here, Apple has demonstrated considerable strength:  bad execution seems unlikely given the quality of the management team, the competition seems weaker than ever before, and Apple has proven it grows even in horrible business conditions. 

Given all of these factors, I would not sell the company NOW at less than a 30 multiple of trailing earnings, and I wouldn’t sell the company in 12 months at less than 30 times projected earnings in the coming year.  That gives me a “12 month price target” around $400.

Will the market “support that multiple” 12 months from now?  I have no idea, nor do you.

I’ve posted a new topic on runaway AAPL price valuations here.

I do think using a reasonable p/e multiple over time to value long-term investments and objectives to be an effective way to choose entry points and exit points with market conditions as the least predictable factor in investment decisions.

macorange - 20 March 2010 05:22 PM

This post highlights for me the confusion I’ve seen for the past year about setting price targets.  Multiples contract and expand in the market based on greed and fear.  We can’t control that, and we can’t predict that.  But we should all be able to agree on how much we would pay now for a company that has a projected set of revenues over the next five years.  So the issue is not what will multiples look like in the market in 12 months, but only, will profits continue to grow as they have in the past (or decelerate or accelerate)?

My choice of multiples is based on what I consider to be a sustainable pace of earnings growth over the next three to five years. I do believe size can create challenges in sustaining rates of growth not necessarily growth itself.

As Apple approaches (and eventually surpasses) $75 billion in annual revenue which is what I anticipate for FY 2011, sustaining the percentage gains in growth will become more problematic. Earnings should continue to outpace revenue growth for obvious reasons.

Apple tends to execute well on new products because management is selective in new product introductions. That itself will limit short-term revenue growth and for good reason.

As we’ve seen over the past few quarters iPod revenue has fallen as new products such as the iPhone replace it. Again, Apple will continue to grow. Apple will continue to be a success and Apple will continue to innovate and deliver new and exciting products. I don’t expect Apple to maintain today’s rates of revenue and earnings growth three to five years from today and in selecting a value point for the shares I use a p/e multiple of 22 times trailing 12-month earnings which will deliver a doubling or near-doubling of the share price two years from today. I’m satisfied with that rate or return.

macglenn - 20 March 2010 05:11 PM

Why is everyone so sure the NC facility is going to be a data center?  I confess I am not knowledgeable on this subject, but I can’t imagine why, in this day and age, you need giant industry size buildings to house servers.  Could there not be other purposes for this huge facility?  Could not Apple be preparing to have an east coast campus, arming Apple with an escape plan if the California situation ends raising taxes.

I have a friend who lives close to the facility (Charlotte) and it has become a sore subject around that area. Apple recently informed the state that there will only be a handful of employees at the facility when it is completed, contrary to what was promised. It seems that Apple considered the people to build it in their employment count.

As for it being a campus, I can’t imagine Apple building a warehouse type facility as a campus. I am very familiar with the area though and Lake Norman is where the Bankers, football players, celebrities, etc…. live. Apple could have gotten property at a much lower cost almost anywhere.

mbeauch - 20 March 2010 06:54 PM

I have a friend who lives close to the facility (Charlotte) and it has become a sore subject around that area. Apple recently informed the state that there will only be a handful of employees at the facility when it is completed, contrary to what was promised. It seems that Apple considered the people to build it in their employment count.

As for it being a campus, I can’t imagine Apple building a warehouse type facility as a campus. I am very familiar with the area though and Lake Norman is where the Bankers, football players, celebrities, etc…. live. Apple could have gotten property at a much lower cost almost anywhere.

I believe the expected headcount following completion of the facility has been fairly consistent. It’s not only an issue of the average headcount following completion, the number of construction jobs created during construction but also the power infrastructure that Apple will help finance through the presence of the data center for future commercial development in the area. It’s my understanding the area around the data center has fallen on hard times.

To attract employers to the area and create an environment for future economic growth, infrastructure needs to be added and bills for that infrastructure need to be paid.

DawnTreader - 20 March 2010 01:09 PM

I’d caution moving the forecast p/e multiple above 25 times trailing 12-month earnings, while it’s fun to see how the math works, it isn’t practical at this time.

The market won’t support and sustain a p/e multiple above 25 anytime soon and there’s more than enough share price appreciation using that multiple as a cap for estimates and forecasts.

Go tell that to buyers of AMZN…

Mercel - 20 March 2010 08:41 PM

Go tell that to buyers of AMZN…

I’ll tell them later. Anticipated earnings will partially fill the gap but a p/e of 63 won’t be sustained into the next fiscal year as earnings rise this fiscal year and the anticipated growth rate slows, though the anticipated earnings increase remains impressive for this fiscal year and the next one. We’ll see if anticipation meets with reality.

The Apple iPad and its book selling store, the iTunes Bookstore, have just diminished the prospects for one area of Amazon’s anticipated growth.  The Kindle DX is pretty much a goner and publisher interest, due to the potential to improve margins, is swinging in Apple’s direction.

I expect AMZN’s p/e to shrink much faster than I expect the share price to rise. I expect AAPL’s share price to rise dramatically over the next twenty four months as trailing earnings increase consistently.

DawnTreader - 20 March 2010 08:35 PM

I believe the expected headcount following completion of the facility has been fairly consistent. It’s not only an issue of the average headcount following completion, the number of construction jobs created during construction but also the power infrastructure that Apple will help finance through the presence of the data center for future commercial development in the area. It’s my understanding the area around the data center has fallen on hard times.

To attract employers to the area and create an environment for future economic growth, infrastructure needs to be added and bills for that infrastructure need to be paid.

Phillip Morris USA moved its operations out of the area to Virginia because the land value for their 2200 acres was worth so much money. This did have an impact, but the area as a whole is doing just fine.

DT, maybe I was not clear. This data center was built right in the middle of the richest area in NC (Lake Norman). I will be up there next month, hopefully I can drive by and get some pics.

Just to illustrate how greed can push markets into bubbles.  Remember 2007?  These are not just small start-ups.  Warner Music, Mastercard, Electronic Arts 28th in the list P/E 190

mbeauch - 20 March 2010 09:32 PM

DT, maybe I was not clear. This data center was built right in the middle of the richest area in NC (Lake Norman). I will be up there next month, hopefully I can drive by and get some pics.

That was not my understanding. Thanks for the clarification.

macglenn - 20 March 2010 09:33 PM

Just to illustrate how greed can push markets into bubbles.  Remember 2007?  These are not just small start-ups.  Warner Music, Mastercard, Electronic Arts 28th in the list P/E 190

Fascinating chart.

I do expect AAPL to double or near-double in price over the next 24 months and that’s due to the relatively low p/e multiple relative to growth but in line with sustainable rates of growth over the next three to five years.

pats - 20 March 2010 02:11 PM

  When you look to areas where future growth can come from such a large base, it means finding entirely new business areas on a regular basis.  Apple has been successful in doing this for the last 10 years not only growing their core Mac business but adding Ipods, Iphones and Itunes.  As far as segments the Mac business is in a maturing industry and so most of the growth will come at the expense of competitors or from emerging market countries, that means that Apple will have to move down the price continuum at some point to capture the next increment of customers.  With 90% share of over $1000 computers there is limited growth at higher price points.  The Ipod as a music player has reached a mature industry but they have now morphed the product with the iPod touch providing new growth as a portable gaming device and the nano as a video camera.  The iPhone is still an early grower in an expanding market and will continue to power earnings for the next several years. iTunes has captured digital music and is fighting it out for Movies/TV and created a whole new market for Apps and will battle for Ebooks, Newspaper, Textbooks with the new iBook store.  These new areas should provide excellent growth in the 3-5 year timeframe.  Apple has added a new hardware platform, the iPad and it is anyones guess whether it will be a major hit because we are in the startup phase of the product.  If the pre-orders are any indication the early adopters as a minimum want to give it a try in fairly large numbers but it hard to judge the shape of the growth curve.  So then what next, I try to keep an eye on Apple’s patents for a sense of what they are looking at, but what makes it past SJ to market is another unsolved question.  Apple has built a huge data center which should open in 2010 and it was built with something more in mind then what is available today so we’ll have to wait and see.  Projecting growth beyond 5 years is a waste of energy in high tech,  Too much change happens to project growth for an individual company so most folks accept that growth will drop off in the out years.  You can bet Apple is looking for the next big thing but so are all the rest.  I just hope that Apple surprises us all.

Pats, I enjoyed reading this post. I may borrow it with attribution to start a new topic.