Apple (AAPL) valuation using Discounted Cash Flow (DCF) model

1. Apple (AAPL)Valuation Analysis Naren Chawla

2. 2 Outline Corporate Overview Financials Competitive Landscape Trends, Forecast & Insights Key Assumptions DCF Conclusion

4. iPod Shuffle

5. iPod Nano

6. iPod Classic

7. iPod Touch

8. ITunes 9

9. Peripheral Products

10. Displays

11. Apple TV

12. Software

13. Operating System

14. iLife

15. iWork

16. Final Cut StudioMac Hardware Products Portable (Notebooks) MacBookPro MacBook MacBook Air Desktops Mac Pro iMac Mac mini Xserve iPhone

18. Americas

19. Europe

20. Japan

21. RetailTarget Customers Consumers Small and Mid-sized Businesses (SME) Education Enterprise Government Creative

22. 5 Corporate Overview - Revenue Growth Rate/Product Timeline

23. 6 Corporate Overview – Revenue Breakdown Eggs in one basket ?

24. 7 Financials $100 invested in AAPL in Sept 2004 -> $957 in Sept 2009 Note that historic stock price performance is not necessarily indicative of future stock price performance.

25. 8 Financials - Revenue Growth Rate

26. 9 Financials - Capex Growth Rate Ignoring 2002, we assumed CAPEX growth rate of 3%

27. 10 Financials Capital Structure – 100% Common Equity $34 Bln in Cash Reserves

28. 11 Competitive Landscape AAPL derives a competitive advantage from its focus on innovation APL entered the consumer device market with the iPod in 2001, and in FY 08, it sold almost 9.2 million iPod units. In mid-2007, AAPL introduced the iPhone, and in June 2008, it introduce the iPhone 3G. As of the end of FY 08, the company had signed agreements to ship iPhones in 70 countries. Own Operating System Unique in the industry for its control of the development of its hardware, operating system and many software applications. iTunes download service and App Store – differentiated offerings AAPL's retail strategy As of the end of FY 08, it had 247 stores, including 205 in the U.S. The strategy behind this retail presence is to attract foot traffic in order to expand the customer base for all product lines (now emulated by Microsoft) Happy Meal iPod Touch marketed to pre-teens and teens before they own a mobile phone, eventually, will lead to iPhone sale (lock-in kids now as future customers)

29. 12 Competitive Landscape Happy Meal iPod Touch marketed to pre-teens and teens before they own a mobile phone, eventually, will lead to iPhone sale (lock-in kids now as future customers) - SWITCHING COSTS

30. 13 Trends, Forecast and Insights The unit sales of mobile phones have increased from 904 million -> 1250 million units at an annualized rate of 11%. Around 1 billion mobile phones sold globally (projection: 1.8 Billion by 2016), smart phone shipments worldwide today – 140 million The iPhone was launched in June 2007. 270,000 iPhones sold in 30 hours on launch. iPhone Market Share increased from 0.3% in 2007 to 1.10% in 2008. Currently, AAPL has 8 % market share of smart phone market. 300,000 iPhone Applications by 2010 – Platform Strategy Increasing Wi-Fi and Mobile Broadband Availability – 4G in 2011: Speeds - 2 MB – 20 MB Availability of mobile TV shows, films, games, photo sharing, software applications, and video conferencing are potential points of differentiation among smart phone competitors.

31. 14 Trends, Forecast and Insights The Smartphone space has a lot of potential in emerging markets Apple has announced a deal with China Unicom, China's #2 mobile phone provider, to distribute iPhones by Q4 2009. China Unicom has over 140 million subscribers within the 700 million subscriber Chinese mobile phone market. 2 million iPhones in gray market in china. India has total wireless subscribers base of more than 525 million now. Extraordinary consumer-friendly interface and features rich products Enter untapped new segments – soccer moms, elderly, etc. – blue ocean strategy Halo Effect – Share of wallet The larger the number of application, more compelling for people to buy iPhone (versus competition) iPhone/iPod sales will lead to increase in iMac sales due to superior integration between the two Users who buy iMac desktop will be compelled to buy MacBook (notebooks) due to ease of integration iMac sales will lead to AppleTV sales (now you can watch your content on TV)

32. 15 Trends, Forecast and Insights Notice the higher profit margin Source: IDC, Gartner, Strategy Analytics

34. Redefine the publishing industry

35. Textbooks are sold new at a few hundred dollars, and resold by local stores without any kickbacks to publishers. A DRM'd one-time-use book would not only be attractive because publishers would earn more money, but electronic text books would be able to be sold for a fraction of the cost, cutting out book stores and creating a landslide market share shift by means of that huge price differential. Textbook market

36. Magazines/Newspaper online

38. 18 Key Parameters for Valuation - WACC Current Capital Structure: Common Equity Only WACC = (11.7 + 11.3)/2 = 11.50%

40. Annual Returns:

41. Nov 04-Nov 05: 119.81%

42. Nov 05-Nov 06: 40.79%

43. Nov 06-Nov 07: 134.27%

44. Nov 07-Nov 08: -43.36%

45. Nov 08-Nov 09: 75.20%

46. Mean Monthly Return: 4.14%

47. Mean Annual Return: 65.34%

48. Monthly Standard Deviation: 12.45%

49. Annual Standard Deviation: 71.12%

50. S&P 500:

51. Annual Returns:

52. Nov 04-Nov 05: 6.80%

53. Nov 05-Nov 06: 14.16%

54. Nov 06-Nov 07: 12.44%

55. Nov 07-Nov 08: -37.47%

56. Nov 08-Nov 09: 6.96%

57. Mean Monthly Return: -0.04%

58. Mean Annual Return: 0.58%

59. Monthly Standard Deviation: 4.61%

60. Annual Standard Deviation: 21.52%19

61. 20 Key Parameters for Valuation - Beta

62. 21 Discounted Cash Flow 25% $250 $99

63. 22 Discounted Cash Flow iTablet $500

64. 23 Discounted Cash Flow Highest: $652 Lowest: $127 Average: $284

65. 24 Conclusion Under-value or Over-valued : Blue Pill or Red Pill If we believe iPhone will keep up with innovation and grab market share from Nokia and others GOOG will not bring out change the game substantially with Android Company can function effectively without Jobs in future iTablet (or whatever it gets named) will more than compensate for drop in desktop and portables growth Then, AAPL is undervalued. The value should be closer to $240.

66. 25 Resources for Valuation Analysis Appendix

67. 26 Resources for Valuation Analysis Apple 10-K for past 5 years Analysts Reports – S & P, Reuters Trefis AppleInvestor, AppleInsider, IDC, Gartner, NYT, Google