Apple's 3 Key Financial Ratios (AAPL)

As of 2015, Apple, Inc. (NASDAQ: AAPL) is arguably the most successful consumer electronics company in the world. But that has not always been true. In the past, all Apple had was the Mac, a narrowly adopted personal computer with small market share. The future for Apple is not a complete certainty either; what will be the next killer replacement for its soon decade-old iPhone? The market has factored in these business elements and is not giving Apple a high-flying valuation, which is often afforded to technology companies with speculated growth opportunities. However, Apple's various profitability ratios confirm the company's current business and financial success, which is being sustained by its stellar sales growth in recent years.

Apple, the maker of the popular iPhone, does not actually make the device itself. The company contracts other electronics manufacturing companies to assemble all the parts for the iPhone, while providing hardware specifications and written software for the finished product. Manufacturing is capital-intensive and cost-laden, usually with low profit margins. Apple has managed to avoid having to build its own manufacturing facilities by putting in place an effective supply chain channel that serves to build its end devices, even though tens of millions of devices come to market every quarter.

There has been no shortage of device assemblers willing to manufacture for Apple in exchange for guaranteed, steady payments. By paying contract manufacturers fixed sums, Apple also saves on expensive production outlays. For the 12 months ending on Sept. 26, 2015, Apple's gross margin, the portion of sales after deducting direct production costs, reached 40.06%, a relatively high level by all means. A satisfactory gross margin leaves room for Apple to more easily manage operating expenses and other nonoperating costs, making it possible to achieve higher earnings growth year after year.

With periodic upgrades to its phone and constant expansion of the Apple ecosystem, Apple has kept its iPhone growth engine running. As of Sept. 26, 2015, the company's average five-year sales growth rate was 29.08%, which compares favorably to that of its peers and the industry average. Quarterly sales of the iPhone reached 74.47 million units in the first quarter of 2015, and total revenue for the quarter was close to $60 billion. These would be stratospheric numbers for most other companies.

Apple's ability to maintain the iPhone's premium image among mass-market consumers bolsters its sales power and sustains its profitability. Benefiting from robust sales growth, plus healthy profit margins, Apple's yearly earnings growth was 43.03% on a per-share basis for the 12 months ending on Sept. 26, 2015. Therefore, the sales growth rate is an important metric to watch as Apple goes through a period of transition from its current high growth to finding the next market opportunity.

The rise of Apple stock since the iPhone's inception in 2007 is mostly attributed to the company's continued earnings growth, as opposed to speculative, jacked-up valuation multiples by the market. This means that even with a constant valuation multiple, Apple stock would rise over time in proportion to the company's earnings growth. Using earnings for its most recent fiscal year, from Sept. 27, 2014 to Sept. 26, 2015, Apple's price-to-earnings (P/E) ratio was a modest 12.5, which is much lower than that of its peers and the industry average.

On one hand, the market is content with the rate of Apple stock's gain over time as supported by earnings growth. On the other hand, the market may be unwilling to tag on an additional valuation premium to its existing price multiple out of concern that Apple cannot keep rolling its iPhone-fueled growth indefinitely. This is seemingly a rational valuation approach. These are important valuation prospects to consider for existing investors and potential Apple investors. Because of how conservatively Apple stock is being valued by the market, shareholders should have less concern about any potential, significant drop in their share price. The absence of an overvaluation makes Apple stock most likely a safer bet.