After a huge year in 2020, Apple (NASDAQ:AAPL) is holding onto its gains so far in 2021. Apple stock bulls are excited about the opportunity 5G device upgrades can provide in the near-term. Apple bears are concerned about just how much more Apple can milk out of the iPhone.
Growth catalysts like 5G, wearables, services and even electric vehicles are exciting, but they are not the best reason to own Apple stock. Apple is currently sitting on about $200 billion in cash on hand, and it plans to put that cash to work.
The company plans to spend, invest or pay out the vast majority of its net cash in coming years. Apple may not be the high-flying growth stock it once was, but cash is still king in the long-term. Dividends and buybacks may be the best reason to buy and hold Apple stock for the next several years.
Growth Catalysts for Apple Stock
CFRA analyst David Holt recently reiterated his “buy” rating for Apple stock. CFRA also added Apple to its High-Quality Asset Appreciation Portfolio.
Holt says that, even after Apple’s big 2020 run, there are still growth catalysts ahead.
“We believe an aging and growing installed base of 1 billion-plus phones will allow AAPL to see growth through FY 22 and support greater penetration for Services, which we believe can grow at a low-to-mid-teens pace, aided by bundling opportunities, while Wearables can sustain a 15%-20% growth pace,” Holt said.
Holt also likes Apple’s ecosystem and its ability to upsell its paid services. Apple’s hardware customer retention rate of 90% suggests low turnover for its Services segment as well.
“Recent progress around margin expansion in Dec-Q, autonomous/electric cars, and the transition to Hardware-as-a-Service all remain catalysts and help support the valuation,” Holt says.
In addition to the “buy” rating, CFRA has a $160 price target for Apple stock.
Ironically, the higher Apple stock has climbed in the past year, the less I’ve heard analysts and investors talk about its cash.
Apple Is a Cash Cow
Apple generates more than $70 billion in annual free cash flow, which creates unprecedented financial flexibility. Back in 2018, the company announced a new long-term plan to become “cash neutral.” A cash neutral company has $0 of net cash.
Since that announcement, Apple has been extremely aggressive in raising its dividend and buybacks several times. In the fourth quarter of 2020 alone, Apple said it spent a whopping $30 billion on dividends and buybacks. Despite its best efforts, Apple’s net cash has dropped from $163 billion to just $79 billion since that cash neutral plan was implemented.
Incredibly, Apple is still nowhere near its long-term goal. The company could easily ramp up that $30 billion in quarterly shareholder returns. More buybacks are always a possibility. But the big 2020 gains pushed Apple’s dividend yield back down to just 0.6%. Therefore, I think the dividend should be the priority for now.
With global interest rates at or near (or below) 0% around the world, income investors have few viable options.
Apple historically raises its dividend in April of each year. Those hikes have been about 10% annually. Last year, Apple went with a more conservative 6% hike, presumably because of the pandemic. I believe Apple could and should come back with an even more aggressive hike than 10% this year.
Apple’s payout ratio is only about 21%, so even doubling the payout to 1.2% wouldn’t put any kind of financial strain on the company. There are plenty of dividend stocks that have payout ratios far exceeding 42%.
Why Invest in Dividends?
Apple still has $79 billion in net cash to spend. It’s generating more than $17 billion in free cash flow each quarter. The lower the share count, the higher the earnings per share and the lower the stock’s earnings multiple. However, buying back shares of a stock after its stock price more than tripled in the past two years may not be the best play.
In other words, Apple is getting less than a third of the bang for its buyout buck that it was getting two years ago. By instead focusing on raising its dividend, Apple could give investors a rare opportunity to invest in a blue-chip dividend stock with tremendous growth catalysts.
Of course, Apple could still choose to make a big splash with a buyout. Given it is reportedly working on its own EV, an auto buyout might make sense. Apple has no way to produce its own cars and recently abandoned production talks with Hyundai. Ford (NYSE:F) is valued at only about $46 billion, and it has a century of experience producing cars. Just saying.
Whatever Apple chooses to do with its excess cash, its spending spree is far from over. Having too much cash is one of the best problems a company can have. Apple stock shareholders will ultimately be rewarded no matter what the company does with it.
On the date of publication, Wayne Duggan did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.
Wayne Duggan has been a U.S. News & World Report Investing contributor since 2016 and is a staff writer at Benzinga, where he has written more than 7,000 articles. He is the author of the book “Beating Wall Street With Common Sense,” which focuses on investing psychology and practical strategies to outperform the stock market.
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