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Icahn Is Playing Fast And Loose With Apple Estimates

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This article is more than 9 years old.

Carl Ichan posted an open letter to Tim Cook on his Shareholders Square Table site. He owns about 53 million shares (less than 1% of Apple ’s 6 billion shares but still over $5.3 billion worth) and stated that Cook is ‘the ideal CEO for Apple. Icahn’s investment in Apple stock is the largest position in his funds investment history.

Unfortunately I believe Ichan is making about every estimate be as positive as possible and then going too far with some of them. While I agree that Apple’s new iPhones will have very strong results he is just making too many projections to get to his revenue and EPS results to arrive at a $203 price target.

iPhone units have to increase almost 50% over the next three years

I agree that the iPhone 6 models will regain market share and have higher average selling prices due to the 6 Plus starting $100 higher and with 64GB memory versions seeing strong demand. Where Ichan is pushing the envelope a bit is with the reacceleration of unit growth in fiscal 2017 to 10% vs. 7% growth in fiscal 2016 since it is off a higher number, 220 million units, the year before. He is also assuming that there will be no pricing pressure over the next three years. Since Apple’s iPhones account for about 50% of total revenue and a higher percentage of profits being off in this segment would negatively impact the results.

iPads have to reaccelerate growth

While it may be possible for iPad unit growth to rise, especially since it will be coming off an easy comparison of down about 5% in fiscal 2014, getting back to 13% unit and revenue growth in fiscal 2016 and 2017 could be challenging.

Mac assumptions are more than reasonable

Icahn’s Mac assumptions actually seem conservative as he is forecasting unit sales to remain flat through fiscal 2017. Since Mac units have grown every year except one since at least fiscal 2007 there is probably a bit of upside to his Mac revenue projections.

Watch needs to get off to a good start and successfully ramp

Icahn is estimating that Apple’s Watch will start off decently strong with 20 million units in fiscal 2015 (a number of analysts are around this number) and continue to 72.5 million in fiscal 2017. While his attach rate to iPhones is not called out in the letter the overall unit growth is expected to be similar to the iPad’s.

I’m not convinced that this pattern will repeat itself since it is a totally different use case for a consumer. With Watches forecasted to generate $20 billion and $33 billion in revenue during fiscal 2016 and 2017, respectively, and become 7% and 10% of total revenue these are huge assumptions on an unproved and unannounced product to predicate a larger share buyback.

Apple has to dominate the UltraHD Television market

Similar to Apple’s Watches Icahn is making what I believe are aggressive assumption. This is for a product that isn’t even announced and in my opinion may never be in a full-sized format from Apple. Brian Solomon from Forbes has a note that describes that one market analyst projection for the cumulative sales from 2014-2017 for 4K TVs to be 35 million. Icahn is assuming that Apple would sell 37 million in this timeframe.

The other key assumption, which I believe is incorrect, is that this product will have the same gross margins as the overall business. The TV business is brutal and I believe there is almost no way Apple could capture these types of margins.

Apple iPay is positive long-term but not at Icahn’s levels

Icahn’s iPay assumptions are another outlier since he is assuming that Apple can capture 30% of all credit and debit card spend in three years. Yes it is a good opportunity for the company but not at 30% share. He also assumes almost 100% gross margins, which I believe is too high. It takes computer systems and people to manage and make secure this type of business so maybe after revenue gets past a certain point (which would be quite high) margins get close to 100% but you can’t assume this is for all the revenue.

Gross margins have to increase

Icahn projects that gross margins will increase to 40.1%, 40.2% and 40.4% in fiscal 2015, 2016 and 2017, respectively. It may be possible with the iPhone 6 Plus and higher memory configurations that gross margins will rise but I believe that higher depreciation charges from the build up in capital spending will mitigate at least some of the potential increase.

Share count falls faster than may be possible

Icahn’s model assumes that Apple’s diluted share count decreases by over 4% per year with the company spending $25 billion per year in buybacks. The number of shares decrease by 272 million, 244 million and 244 million in fiscal 2015, 2016 and 2017, respectively.

There seems to be a disconnect on how many shares the company can buy back and Icahn’s assumption since these calculations show that the average price that Apple would pay is $91.91, $102.46 and $102,46 over the three years, respectively. And it doesn’t seem to take into account any employee being awarded stock.

Revenue growth probably won’t match Icahn’s projection

All of the above assumptions create revenue of $328 billion in fiscal 2017, up from $180 billion in fiscal 2014. This is 83% growth over the three year timeframe which I don’t think can be achieved.

EPS results assume too many positive outcomes

Icahn’s bottom line grows from $6.68 in fiscal 2014 (Street is at $6.33 but maybe Apple can announce blowout results on October 20) to $16.28 in fiscal 2017. For this to happen Apple has to perform to his scenario, which has too many aggressive assumptions.

PE multiple could rise but 19x seems to be a stretch

I overall agree that Apple’s PE multiple could expand given its growth prospects and cash generation. What I’m not sure is having it get to 19x and drive a $203 stock price especially since I believe his EPS number is too high.