'Apple Is Potentially Facing A Very Rough Two-Year Period,' Says Jefferies

Apple should not sign up for hedge fund manager David Einhorn's preferred stock plan, says Jefferies analyst Peter Misek.

He thinks Apple is going to need its cash to ride out a "potentially very rough two-year period." He prefers dividends and buybacks because they provide flexibility.

Einhorn wants Apple to issued preferred stock that has a perpetual dividend. He has scolded Apple for having a "depression-era mentality" when it comes to cash. He thinks Apple needs to stop hoarding its $137 billion in cash, and start distributing it to shareholders.

Misek sees some big issues confronting Apple in the near term that will require lots of cash on hand:

• Capex is likely to double in the next two years, costing an additional $10 billion a year. He thinks Apple is switching to TSMC for chip making, and it will have to finance much of TSMC's operations to support the output Apple needs.
• Apple will need cash for iCloud and data centers.
• An Apple TV could require Apple to pay more for premium content.
• Apple may have to do financing for iPhones in developing markets. Misek explains, "In the hypothetical scenario where all international iPhones were financed by Apple, we believe Apple's cash balance would take a hit of ~$10B due to the company having to cover upfront manufacturing costs and ~$40B of cash collections would be deferred over the next two years. We believe this could affect international markets where pre-paid is more popular and installment plans are being tested."
• Improving knock-off phones in China are a threat. We're not sure what to make of this, but Misek says there are "white box" phones that are clones of popular Samsung phones selling for $130-$200. Apple's iPhone costs 4X that. To compete with these phones, he believes Apple will have to do something that could put pressure on the cash.

Basically, Misek agrees with Apple's position on cash.

He sees a turbulent period in the near term and doesn't think Apple should sign up for anything that gives away cash forever. He thinks Apple either doubles its current plan to $90 billion in dividends and buy backs over the next three years, or keeps its current $45 billion in dividends and buybacks, but does it over the next year and a half.