Dear Mr. Berko: Please explain moat stock and tell me whether Apple is a moat stock. Our broker believes that Apple could go to $150 a share this year and advises us to buy 300 shares. We would appreciate your thoughts.
— D.L., Cleveland
Dear D.L.: A moat is a deep, wide circular ditch, usually filled with water and typically surrounding a castle or a fortress for protection against assault. An “economic moat,” a term coined by Warren “da Man” Buffett, is a moat that figuratively encircles a company and protects the company from invaders, or competition, allowing it to defend its profitable business. The most common economic moats are patents, brand identity, operational efficiency, technology and buying power. Companies with wide-moat businesses are companies that can create value under most market conditions. Visa, American Express and MasterCard are classic examples of businesses with wide moats. They dominate the electronic-payment systems in a world where people are eschewing cash and using credit cards. Imagine how difficult it would be for a competitor to build a rival credit card network. Other recognizable wide-moat companies are Coca-Cola, The Walt Disney Co., Philip Morris and Microsoft. All trade at price-earnings ratios of more than 21-to-1, while Visa and MasterCard trade at nearly 30 times earnings.
Though Apple (AAPL-$102), with a market cap of more than $600 billion, is the most valuable company on the planet, it is not a wide-moat stock. AAPL does have nonpareil brand identity, but its shares trade at a very low 10 times 2016’s expected earnings, compared with a price-earnings ratio of 17-to-1 for the Standard & Poor’s 500 index. A price-earnings ratio theoretically measures investors’ expectations for future earnings growth that will propel the stock price higher. So a high P/E often indicates strong potential earnings growth. If expectations for future growth are not attractive, the P/E will be low.
AAPL has fierce competition from the likes of Nokia and Asus in mobile computers, from Samsung, HTC, Huawei and Lenovo in smartphones and from Google in the entertainment media and applications business. Apple’s revenues have been explosive, and earnings have been so impressive and so dependable that many investors are becoming skeptical that the company can continue generating its exalted numbers. And they may be right.
