Apple Analysis and Report I. Executive Summary Apple is in the electronic equipment industry.

This is a highly competitive and innovative industry. Electronics and technology are fast growing and very exciting to pay attention to. New products hitting the market every year, the industry is constantly changing and evolving. Companies are constantly trying to beat the competition to have the latest product for the consumer. A reason that we chose to analyze Apple is because of the hype the company receives. Apple is a well known profitable company, but its share price is very high. We wanted to know whether that share price was accurate, and whether apple was a good investment. Therefore, a con to investing in Apple is the high share price, which means that the average investor cant afford many shares. A positive aspect of investing in Apple is that they control a large part of the market share, and therefore are a strong company. Theres not a high chance of Apple filing bankruptcy and not paying out dividends. There is a lot of brand loyalty towards Apple products, with the iPod becoming a generic term for mp3 players because all competitors are rarely considered. Another con to investing in apple would be the general feeling that theyre beginning to lack innovation. Their competitors, specifically Android in the phone market, are beginning to gain market share. A lot of their products seem evolutionary rather than revolutionary, in an innovative, dynamic industry that can become a problem in profitability for Apple. II. Economic Outlook When conducting an analysis of the broad economy over the past 10 years it is evident that the business cycle is an ever-present indicator of how the economy is performing . While it is safe to say that GDP has been consistently growing over these past years, there were a few periods of contractions that should be noted. Specifically within Quarter 2 of 2001 up until Quarter 4 of 2001 as well as Quarter 1 of 2008 all the way throughout Quarter 3 of 2009. After that last period, we have seen minor fluctuations, but mainly have seen a general trend upward. When forecasting the next three years of nominal GDP growth, there are a few factors to take into consideration in order to make the most accurate decision. One of the most important factors relates back to the business cycle and where we are as an economy within that cycle. According to the National Bureau of Economic Research, the United States began its last expansion in June 2009 and has continued that growth up until this point. While very small at first, it is clear that the economy has shown continued signs of positive growth during this expansion. According to class lectures, the average contraction last about 1 year and the average expansion is typically around 5 years. This is particularly interesting because our last expansion was noted to have begun in within June of 2009 and we are nearing the 5 year period for a general expansion trend. Taking this average into account, we decided to reflect this potential within our forecasts for nominal GDP growth.

(See Excel Sheet) While we didn't expect for the growth to become negative, we did anticipate a slower growth forecast and noted so with an appropriate contraction in our forecasting. When looking to see how the business cycle plays a role within Apple's Industry, we have come to the conclusion that the Industry of Electronic Equipment is cyclical in nature. This means that the business cycle has an enormous impact on the Apple's results in the future. This can both benefit and hinder the results of the company. During expansions the company will manage to continue to sell products and during contractions the company will slow. In the end, we feel that it is actually beneficial for Apple's industry to be greatly influenced by the economic cycles. It is inevitable that the economy will continue to grow in years to come and Apple will trail along with it. III. Industry Outlook The main products that apple produces are: iPhone, iPad, Mac, and iPod. Apple over all is very competitive in all of their product lines. Some of the lines though are more competitive than others, for example the iPhone is more competitive than the iPod. There are different key players for their different products. Some of the competitors include Samsung, Dell, HP, Microsoft, and Google. Apple has many customers that buy different products from them and are extremely loyal. Depending on the product the price is different. The Mac, Apples desktop and laptop, are their most expensive product and tend to be pricier than other desktop/laptop computers. With their main products that they sell Apple has supporting products and accessories. The iPhone has the iOS software, where Macs runs on the OS X operating system. In their retail stores they also have products ranging from cases to headphones and many other electronic accessories. There are threats of new entry in all of their product lines. New entries could come from existing companies, their main competitors are seen as very innovative and forward thinking, and could come out with a new product at any time. It is difficult for a new company to start up and enter into the industry, usually start up companies are acquired by the big giants such as Google and Microsoft. There are multiple substitute products for all of their products. Some of their own products can even be considered substitutes for their products. For example an iPhone can be a substitute for iPod. In regards to Apples suppliers, they manufacture mostly in China in order to keep their costs low. Their main supplier is Hon Hai according to Forbes. Since there are competitors that use the same supplies sometimes there is a shortage of supplies. This can be a problem because their demand for iPhones when first released is greater than their supply. This is frustrating to consumers who have to wait weeks for their new iPhone to arrive. The iPhone is the companies Smartphone. The biggest competitor would be Samsungs Galaxy. With the Smartphone market continually changing they need to keep up with their competitors. With the rapid changes it is difficult for new entries. In the summer time Apple will announce their new iPhone, while Samsung will be announcing their new Galaxy. The products are substitutes for each other and have similar price points, so brand loyalty is usually the deciding factor. Another factor is cellular provider, the Apple iPhone was exclusively with AT&T for a couple years, so consumers with other providers became loyal Android users. With the prices being close and most cellular

providers offering both products it does make it easy to switch from one device to the other. The iPad is a relatively new product, and there has been a rush to enter the tablet market. Microsoft created a tablet that is fairly competitive, but their biggest competitor is probably the Samsung Galaxy tablet. The Google Nexus is also a front runner. There are not many distinctions between the many tablets, so it falls mostly to affordability and brand loyalty. Amazons Kindle and Barnes & Nobles Nook are also transforming into tablets. The newer versions are tablets, and provide even more competition for people that already have that customer relationship with those companies. With the evolvement of the tablets they are becoming more like computers. The Microsoft Surface comes with a keyboard to give the perception of a laptop, making business work and productivity much easier than the touch screen keyboard. The iPads are priced a little bit higher than other tablets but lower than the Mac, giving their competitors price advantage. To be in the electronic and technology industry and compete with these big companies, a tablet product is a necessity. The Mac computer competitors would be anyone that makes a PC computer. Macs are more expensive than PC computers making it easier to substitute the two products for each other. Most companies that would make a computer already do, making the threat of new entry very low. There is a higher rivalry between Mac computers and PC computers in general more so than a specific company itself. Brand loyalty comes into play when purchasing personal computers. Businesses that already have Microsoft PCs dont want to go through the barriers of switching to a new system. It seems that Microsoft is more prevalent in office buildings, whereas a Mac computer is seen more as a graphics computer. Apple claims that their operating software is better than its competitors because their laptops rarely get virus, compared to Microsoft.

IV. Company Analysis & Sales Forecast Again, the main products for Apple consist of: the iPod, iPhone, iPad, Mac Personal Computers, and iTunes software. It seems like most of Apples products are in the growth and consolidation phases, excluding the iPod. These products have been around for a couple years and are continuing to gain strength and market share. The iPod is in the decline phase, the market is at capacity for this product. With the iPhones inclusion of a music-playing feature the need for a separate device to play music is declining. Most people who would want an iPod solely for playing music already have one, the market is saturated, therefore there isnt a lot of new customers looking to purchase an iPod. To the iPods benefit there are no real competitors, so for the foreseeable future Apple doesnt need to do anything to the iPod to continue to receive revenue. The iPhone is doing well, and sales have increased annually. Apple released two different iPhones this year, the first time they have done this. This gave them another avenue of revenue, because of the more affordable iPhone option. They have also expanded into international markets, most profitably Asian markets. The iPhone has a 69% market share in the smartphone market in Japan. In the U.S. iPhones account for 41% of

smartphone users, and the satisfaction of consumers with iPhones is substantially higher than their competition. According to ChangeWave research reports iPhone satisfaction is 96%, and their loyalty rate is 90%. This shows that Apple has a great product and if they keep coming out with innovative iphones, then their growth will continue because existing iPhone users will upgrade. The iPad is also continuing to grow in sales. One of the reasons is the penetration to international markets, especially Mainland China where sales have doubled in recent years. In line with the introduction of two iPhones, one being more affordable, there has been a release of two iPads. There is the iPad, but also the iPad mini, which is a more affordable option. In another ChangeWave survey, the satisfaction for iPads was 97%. That shows a great sign that these loyal customers will continue to purchase newer versions of iPads in the future, contributing to increasing sales growth. This will probably be less than iPhone growth though, because there isnt a discount when buying an iPad with your cell phone provider as with the iPhone. There has been a great proposal to use the iPad as an education tool. Many states have implemented the iPad initiative, where iPads are distributed to classrooms to be used as a learning instrument. There has been a slight increase in the sales of Mac personal computers. This increase is because of the release of the new MacBook Air. The sales of their basic laptop, the MacBook Pro have been steady, but nothing to get excited over. There hasnt been a lot of innovation in this field. However, according to Apples earnings call report, IDC published that there is currently a 6% contraction in sales for personal computers, so even a small growth increase is impressive. There has been a trend towards trying to bring manufacturing back towards the U.S., so Apple had their Mac Pro manufacturing take place in the United States, bringing customer approval. Surprisingly, there has also been an increase in iTunes revenue. With the trend leaning towards BitTorrent, where someone can download music for free via Peer-to-Peer transferring, we were surprised by this increase. According to Apples 2014 quarter 1 earning call transcript, iTunes revenue increased by 14%. There have also been huge increases with the developers of apps as a source of revenue, apps are available on almost all of Apples products, so this is a big bonus source for them. There are also the retail stores that provide income, and Apple has continued opening more stores. Many retail stores have been opened internationally also, which has provided new sources of revenue. With all of that information, its obvious to see that Apple is doing very well for itself. However, because Apple products are discretionary items there are a slow down of sales in recessionary periods. For the most part however, there is an upward growth trend. Therefore, we would say that Apple is mostly a secular company to economic cycles. We are hesitant to say that Apple has an economic moat because of the close competitors. Google and Android are giving Apple a tough time in the smartphone and tablet industry. Apple doesnt have the cost advantage, its product lines until recently didnt have an economical option. With the recent introduction of the iPhone 5c and iPad mini, they have gained that aspect more. What apple does have however, are patents. Most recently they have gotten into legal disputes with Samsung about patent infringements. In the beginning of the tablet market these patents gave Apple a bit of an edge, but with the knowledge fairly well known now, their competitors have developed their own technology. Also, a lot of their patents are design patents, for example, they have a patent on a the rectangle with rounded edges appearance. So, we dont see it as too much of an advantage.

What does give Apple a large advantage is that Apple has a strong customer base that has a strong sense of brand loyalty. Customers tend to have high satisfaction and customer loyalty, making customers life-long purchasers. We would say with their customers loyalty and the patents apple has they have perhaps a shallow moat. All it would take is one of their competitors being more innovative than them, and Apple would lose big. In reference to our forecasted sales growth rates, we took a series of different factors into account when formulating our estimated values. The first measure that we looked at was the GDP growth rates for our economy. Taking into consideration the fact that Apples company is cyclical in nature, it is clear that it will follow the same trend for that of the economy. This statement also holds true for that of the Industry. Apple is within the industry of Electronic Equipment which we came to the determination is also cyclical in nature. When we reviewed information that pertained to the Electronic Equipment industry, we also came to the conclusion that it was following the same general trend upward. The last piece of information that we took into consideration was Apples previous sales growth rates. The past sales growth rates for Apple have all been generally increasing throughout the years. Due to their position within the market, we anticipate that these sales will only manage to increase as time progresses. All in all, we made the assumption that Apples sales growth forecast values would generally continue to increase in years to come. With considerations from the GDP, Industry averages, and previous sales growth models, it is evident that Apples sales trends will continue to follow these trends and continue to grow.

V. Financial Model

We allowed for conservative growth in Apples standards, but continued to increase because of the evolutionary trend they are continuing on. We dont see a revolutionary product coming out of apple anytime soon, as was the iPhone, but that with their continual updating of their products they will keep growing and increasing their sales. We chose the CGS as a percentage of sales to stay consistent with the recent years, which is around 60%. Apple is not a low margin company, so we feel comfortable that their numbers will stay around 60%. The SGA number in recent history has started to drop. We attribute this to the decline in marketing. They havent released a brand new product that they need to inform the public about, so their advertising expenses would be expected to decline. They are expanding their retail side though, so we thought 8.5% was an accurate number. Interest as a percentage of debt we believe will stay consistent, because the debt they have recently acquired doesnt need to be paid off right away. Also, we dont foresee them taking on more debt, because they dont have a habit of doing that. Other expenses as a percentage of sales we believe will increase a little bit, because their strategy recently has been to expand. This will increase their expenses, but not by very much because Apple will start tapering off that policy soon. We assume that taxes have a general trend to be upward

moving. Therefore, we increased their tax rate by a small amount. Also, Apple is undergoing an audit by the IRS for the years 2007-2012. Assuming that the audit results in the need to pay back taxes was a consideration in raising their rate. Net working capital as a percentage of sales we expect to decrease slightly. They recently acquired new liabilities, so their excess cash has decreased causing the net working capital to also decrease. Apples long-term investments will increase because their sales are increasing, so they have excess cash to put into investments. PP&E will generally stay consistent; they recently expanded so that recent investment should hold them over for a couple years before they want to increase again. Debt as a percentage of assets will be decreasing as Apple pays off their long-term debt. They dont acquire loans often, so we assume they will quickly pay it off and their debt will be decreasing. Other liabilities will stay pretty consistent, with a slight decline because a large part is accounts payable which we expect to remain the same. Equity has a slight decrease because of the increase in liabilities they experienced because of the debt they acquired. Total capital spending has decreased because they have scaled back the usage of capital to purchase and expand, and instead used long-term debt as their source of purchasing. Apple uses straight-line depreciation with long-term leases, so we dont see them selling off any assets. Therefore, the depreciation would remain pretty stable. Non-cash items would increase slightly because it is comprised of donations, capital depreciation, and investment gains and losses. Apples balances on each of these have not changed dramatically. We calculated ROIC and saw a trend of upward movement until this past year it declined sharply. ROE has dropped in the last year in part because of rising competition. In the smartphone industry Android has been dipping into Apples market share. It would make sense that these competitors are taking shareholders away from Apple as well.

VI. Valuation Analysis VII. Conclusion & Recommendation Apple has a positive business outlook, and we foresee moderate growth in the future. With that being said we wouldnt recommend purchasing Apple stock unless youre a growth investor. In the instance that one were to already own shares in Apple, we would recommend that they continue to hold on to them. The stock price is incredibly expensive at $530/share, and we think this is somewhat of a ceiling for the company. Without major product innovations we believe the stock price is about as high as it will go, but still worth holding onto. We think that the stock price is an accurate number using peer analysis as our basis. Using the average peers the number was $525/share. With only $5 difference in stock price from the average fair value, and assuming that the peer stock prices are accurate, we think that Apple is priced fairly.

In regards to the specific investment philosophies or styles that would best fit Apple as a company, we came to the conclusion that there was one main investment approach that best suited Apple. This investment approach that we felt best fit Apple as a company was Growth. A main piece of the Growth investment approach revolves around the fact that a company can grow at high rates for long periods of time and remains attractive to investors even when the purchase price is high. Part of this investment mentality is that earnings are considered to grow into the price that was paid for the initial investment. This approach coincides with Apples current stock price and helps reiterate the fact that they are a growth oriented company.