Apple Inc. (AAPL) stock was just added to the Goldman Sachs (GS) “Conviction Buy” list, the Wall Street bank’s prestigious list of undervalued stocks to buy.
The firm bestowed AAPL stock with an aggressive price target of $163 per share, representing upside of 43% from yesterday’s closing price of $113.69. Apple shares are up more than 2% in early trading on the news.
I understand being bullish on AAPL. I’m a shareholder myself, and the company’s enviable cash pile, iconic brand and culture of innovation give it a leg up on the vast majority of other companies in its space.
But $163 per share? There better be some sound logic behind why this $650 billion company should roar to valuations above $900 billion within the year.
Apple Is Misunderstood
It turns out there actually is some sound logic behind Goldman’s thesis. While it may seem counterintuitive that a company the size of AAPL could be fundamentally misunderstood by Wall Street, that’s precisely what Goldman analyst Simona Jankowski cogently argues:
“Apple’s multiple embodies the scars from prior fallen giants in hardware (Motorola, Nokia, BlackBerry, and HP, to name a few). However, we think Apple’s business model has less in common with traditional hardware companies, and more in common with companies that monetize mobile users through content and services.”
In other words, the market is valuing AAPL stock as if it were a hardware company at its core, when in fact it’s a far more scalable software giant.
I noted yesterday that Apple’s attractive price-to-earnings multiple (it currently trades for just 12.7 times earnings compared to the S&P 500‘s 22.7 multiple) was just one of the reasons hedge-fund icon David Einhorn may have increased his bet on AAPL stock by 52% in the third quarter.
Goldman anticipates the market will increasingly think of AAPL in the same veins as Alphabet (GOOG, GOOGL) and Facebook (FB), who are undeniably more software than hardware.
For Apple, its identity is admittedly much more biased towards the hardware side, and with more than 60% of its revenues coming from iPhone sales. That will likely continue to be the case for the near future.
But there are only so many tablets and devices AAPL can hawk to consumers before the market becomes oversaturated. When it comes to software, however, more opportunities abound.
Apple’s iTunes platform, for instance, should be vital in helping Apple Music — its streaming music service — get off the ground. AAPL can use the tens of millions of credit cards it has on file through iTunes to transition users to the $10 per month service, and it should also help onboard consumers to the Apple Pay platform.
Going forward, there are plenty of reasons to like AAPL stock, even if shares are treading water over the last three months.
It’s the next three years that investors should be really excited about.
As of this writing, John Divine was long AAPL stock. You can follow him on Twitter at @divinebizkid or email him at editor@investorplace.com.
