Apple Remains Fundamentally Undervalued After Tax Fine

The firm has almost $215 billion in international cash on hand, so the record tax bill will make only a small dent in the firm's cash cushion

Brian Colello, CPA 31 August, 2016 | 7:44AM
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Apple has been hit by a €13 billion tax bill by the European Commission, which ruled that Ireland gave illegal tax benefits to Apple (AAPL). Morningstar equity analysts plan to maintain their fair values estimate of $133 per share, despite the fine.

Analysts concede that $3 per share, or just over 2% of our fair value estimate, is at risk with the ruling, but the timing and amount of the final payment remain uncertain. Apple will not take a financial charge for the tax bill in its near-term results, and the fine may be placed in restricted cash but will not be immediately paid out.

We expect both Apple and Ireland will appeal the ruling, and a final decision could take years. Apple has almost $215 billion in international cash on hand, so the record tax bill will make only a small dent in the firm's cash cushion. Further, Apple indicated that the ruling will not have an effect on its long-term tax rate, presumably because its Irish tax structure in question was modified in 2015. Regardless, we continue to view Apple as fundamentally undervalued, and the company remains one of our best investment ideas in the tech sector.

In essence, the European Commission considered Apple's tax structure within Ireland, which was in compliance with Irish and international laws, as anticompetitive, as Apple received tax breaks, presumably in exchange for creating jobs in the region, that allowed the company to pay a tax rate as low as 1% in 2003 and 0.005% by 2014 on all revenue from the European Union, not just sales within Ireland. We estimate that Apple earned roughly $71 billion in cumulative operating income in Europe over the time frame in question from 2003 to 2014.

Investment Thesis

We believe Apple's strength lies in its experience and expertise in integrating hardware, software, services, and third-party applications into differentiated devices that allow Apple to capture a premium on hardware sales. Although Apple has a sterling brand, strong product pipeline, and ample opportunity to gain share in many end markets, short product life cycles and intense competition will prevent the firm from resting on its laurels, or carving out a wide economic moat, in our opinion.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
Apple Inc221.80 USD-0.50Rating

About Author

Brian Colello, CPA  is a senior stock analyst with Morningstar.

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