Apple’s Blockbuster Bond Offering – Overly Large, Oversubscribed, and Overrated

Apple inc. can't survive the china crash

Well that didn’t take long. Just days after getting a new credit rating and announcing its intention to issue debt, Apple successfully priced a $17 billion, six-part bond offering. The part floating-rate, part fixed-rate offering is broken down as follows:

1.) $1 billion of May 3, 2016 maturing floating-rate notes, CUSIP 037833AF7, paying interest at a rate equal to three-month LIBOR plus 0.05%

2.) $2 billion of May 3, 2018 maturing floating-rate notes, CUSIP 037833AG5, paying interest at a rate equal to three-month LIBOR plus 0.25%

3.) $1.5 billion of 0.45% coupon, May 3, 2016 maturing notes, CUSIP 037833AH3

4.) $4 billion of 1.00% coupon, May 3, 2018 maturing notes, CUSIP 037833AJ9

5.) $5.5 billion of 2.40% coupon, May 3, 2023 maturing notes, CUSIP 037833AK6

6.) $3 billion of 3.85% coupon, May 4, 2043 maturing notes, CUSIP 037833AL4

Apple’s Plan for Bond Offering

The floating-rate notes are non-callable, and the fixed-rate notes have make whole calls at 5 basis points (2016 notes), 10 basis points (2018 notes), and 15 basis points (2023 and 2043 notes) over the applicable Treasury rate. Additionally, all the notes are considered senior unsecured obligations. Moreover, given the current quarterly dividend of $3.05 per share, Apple’s stock is actually yielding more than all of the newly issued notes, with the exception of the 30-year.

In the Prospectus Supplement, Apple states that it intends to use the net proceeds from the bond offering “for general corporate purposes, including repurchases of our common stock and payment of dividends under our recently expanded program to return capital to shareholders.” I am sure there are strong opinions among investors about whether Apple should be borrowing money to fund stock repurchases and dividends. Apple is not the first corporation to do so, and I am sure it will not be the last. Judging by the favorable spread-to-Treasuries at which the notes were issued and the incredible demand the offering garnered (roughly $50 billion for $17 billion of notes), investors don’t seem concerned about Apple’s willingness to take on a huge amount of debt and pass those funds along to shareholders. Is the seemingly unbridled enthusiasm for Apple’s new notes warranted?

Last week, Moody’s and S&P both assigned the second highest credit rating possible to Apple (Aa1/AA+ respectively). A third well-known rating agency, Fitch, has yet to release a public rating on Apple but did issue a press release on April 29 titled, “Apple Business Model Inconsistent with ‘AA’ Rating.” In that press release, Fitch said the following:

“Inherent business risk that overshadows a significant liquidity cushion when evaluating long-term credit ratings for consumer-centric hardware companies generally leads us to assign these companies a Long-Term Issuer Default Rating (IDR) at or below the ‘A’ category. This reflects the volatility in consumer preferences, significant competition that accelerates product commoditization, and rapid evolution of technology.”

That reminds me of one of the reasons Moody’s and S&P noted for not assigning Apple the top credit rating of Aaa/AAA. Further details about this can be found in my article, “From Junk to Aa1 – Apple Gets a New Credit Rating.” From Fitch’s perspective, ratings “ultimately hinge on the volatility of a business model, since the typical bond investment period can extend beyond several product cycles, while also considering financial metrics and liquidity. For ratings in the ‘AA’ category, we would insist on higher visibility and a longer time horizon regarding the sustainability of a company’s business model.” This begs the question, are Apple’s bonds overrated?

Does Apple Deserve AA+ Rating?

When thinking about whether Apple’s 30-year bond deserves a 3.85% coupon and Aa1/AA+ ratings, consider the once dominating positions of Sony and Nokia. Furthermore, consider the fact that Apple’s future will largely depend on constant successful innovation in a highly competitive and ever-changing world of meeting consumers’ technology-related preferences. Whether Moody’s and S&P are correct to rate Apple Aa1/AA+ or whether Fitch’s view that Apple deserves a high single-A rating is correct is certainly debatable. In my opinion, they are each partly correct.

In my aforementioned article, I chronicled a bit of Apple’s trip from the depths of junk bond territory to its current glory of a high double-A rating. I have no idea whether Apple’s rating will one day return to the land of junk. But given the highly competitive nature of the markets in which Apple operates and the constant pressure to create innovative new products that capture consumers’ attention and wallets, I do think some of Apple’s notes are overrated. I agree with Moody’s and S&P that an Aa1/AA+ rating can be justified for the 2016 and 2018 fixed- and floating-rate notes.

On the other hand, when looking at the 10-year notes, I think Fitch’s proposed rating in the high single-A category is more appropriate. But to assign even a high single-A rating to Apple’s 30-year note seems a bit generous to me. When combining the new policy of issuing debt to fund buybacks and dividends (a policy that bond investors should assume will continue until proven otherwise) with the highly competitive nature of the consumer technology segment and the amount of innovation that will be necessary over a 30-year period for Apple to maintain a leadership role in its industry, then Apple’s 30-year notes likely deserve a lower rating. Nevertheless, investors appear to agree with Moody’s and S&P’s ratings. The spread to Treasuries on Apple’s 30-year notes has already narrowed from the 100 basis points at issuance to just under 95 basis points. For now, Apple remains the apple of bond investors’ eyes.


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