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Here's something to chew on.

Apple is a company with a long and colorful history and an ownership structure that has changed frequently. However despite having "invented the PC", it has not delivered much value to shareholders. The stock traded in the low 20's (split adjuested) in 1987, and is currently around 34, a CAGR of less than 3%, not counting dividends (they haven't paid a dividend since 1995). MSFT's has been around 27% during that time.

No Apple insider owns more than a token amount of shares. Jobs has the largest insider position at about 1.67%, but it is based almost solely on a 5 million share grant by management (i.e. none of his own money is at risk). Virtually all of the other insider ownership is by virtue of stock options. Apple is not and has never been a shareholder oriented company.

Throughout its history Apple has pursued business policies that seem geared to ensure that Apple never expands its markets and always caters to a very small minority of the market (typically 4-6%). While they have always innovated, they have always pursued "closed" technologies that render their hardware and software incompatible with that of other vendors. Their pattern has been to innovate a new product, reap the success for a few years, and then lose their advantage as other vendors copy their product and pursue open architechtures.

Apple has recently seen a lot of success with both the iPod and iTunes. They were the first mover in these markets and to date is the only vendor that has put serious money into advertising (there was a good article about this in Friday's WSJ). As a result, they are selling more iPods than comptuers. All of the numbers for iTunes aren't available, but it looks like Apple is either breaking even or making a modest profit. The iTunes sales seem to drive the sales of their iPod.

However, many other heavy hitters are getting into both markets. Microsoft, Yahoo, Real Networks, Sony, etc. are all making plans to sell music online and sell gizmos that play the music.

In typical form, Apple's iTunes and iPod products are based on a closed architecture -- Apple has their own file format incompatible with mp3's. Also typical is that most of their competitors are rolling out products based on standards -- not only the mp3 standard, but Windows as well (Apple's iPod works with Windows but in an inferior fashion).

I think that Apple's profits from iTunes and iPod are cresting and they are or near the peak of their "sawtooth function". I think the new entrants will figure out the forumla that will take away Apple's market share and in a few years Apple will be back to their typical 5-10% of the market (they are currently the market leader for handheld mp3 players).

How is their core business doing? Well the market seems to have forgotten that Apple recently reported manufacturing problems that will prevent them from rolling out a new iMac. This has to do with both IBM and Intel having trouble breaking the 90 nm barrier. This will cause them to miss the very lucrative and important back to school market this year.

Why is the stock up? It seems to be up because of Apple's recently announced partnership with HP to manufacture iPods.

However I've seen this play before. About 10 years ago, when Steve Jobs ran a company called NeXT, he manufactured high end workstations with their own proprietary software and hardware. Sales never went beyond a token amount, but at the very low peak of what sales there were, Jobs signed a partnership with HP. HP agreed to manufacture NeXT-branded workstations. The deal was a complete flop, and it turns out that it was struck right when the market's limited interest in the technology was peaking.

While the iPod is doing far better than any NeXT product ever did, HP has brand new to the mp3 player market. Why didn't Apple team up with a heavy hitter like Sony or Yahoo? Probaby because of their famous inability to open up their architectures for the "rest of the world" to use.

I don't think the partnership will do anything to either expand Apple's sales base or fend off the new competition. Most likely it will cannibalize their existing sales channels.

Despite all of this, AAPL is trading at a P/E of 62. It is arguable whether or not they are actually producing any cash since their cap ex typically runs at more than net income + depreciation.

I think it's likely that AAPL will post disappointing results over the next two quarters since they are missing the back to school market and have yet to resolve their manufacturing problems. I also think both the profits and the hype of their online music products is cresting and will diminish over the next few quarters. And because I see not only a lack of growth but a possible contraction, the 62 P/E seems absurdly high.

So, not that I like shorting stocks, but AAPL is on my "short list"...


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