Investor market watch: What Apple might buy next

Apple is unveiling yet another product, Apple Watch, intended to show the world the genius of its design process, but in areas where Apple has been weak historically, it may have to buy into growing markets rather than build.

Apple has the cash—and the clock, or Watch, is ticking.

Attendees at a Apple special event at the Flint Center for the Performing Arts in September 2014 in Cupertino, California, view a video of the Apple Watch.
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Attendees at a Apple special event at the Flint Center for the Performing Arts in September 2014 in Cupertino, California, view a video of the Apple Watch.

"There is a lot of discussion over what Apple will do next—people are talking about a car of some sort—and there's been talk about television for years," said Scott Kessler, who heads technology equity research at S&P Capital IQ. "One would think there are plans for that money," Kessler said of Apple's $178 billion in cash and investments.

There may be no time like the present for M&A, given the added buying power that comes with the U.S. dollar's appreciation against other global currencies and historically low interest rates. It's best to make large purchases "at the most enviable time, not when you have to," Kessler said.

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Apple declined to comment on its M&A strategy, but CEO Tim Cook touted the company's Beats acquisition and others made in 2014 in an earnings call with investors in October. And Cook strongly signaled more deals are coming.

"We've brought tremendous new talent and technology into Apple through 20 acquisitions in fiscal 2014, including seven alone in the September quarter," Cook said. "We closed the Beats transition in July, and we're off to a great start with some wonderful plans that we'll share with you in the future."

The $3 billion Beats deal really garnered Apple its "street creed" as an acquirer, said Marc Chaikin of Chaikin Analytics.

The signals being sent are unambiguous for Gene Munster, a managing director and senior research analyst who tracks Apple at Piper Jaffray. "Tim Cook is a master at priming the pump and getting investors ready for shifts in business. He's been very clear, 'We're not averse to doing a big deal;' the key takeaway is, they are looking at a lot of things," Munster said.

"Apple's cash balance is nothing short of legendary, so they could tack on additional business units if they choose." -Jim Russell, portfolio manager at Bahl & Gaynor

"There are companies, with Apple being the most obvious, that are so successful and generating such high levels of cash that they have to do a combination of increased dividends, share buybacks and acquisitions in the technology space," said Hugh Johnson, chairman of Hugh Johnson advisors.

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Between recent record-setting iPhone sales, Apple Pay and the introduction of Apple Watch, there's little doubt about the cash Apple will continue to generate. The company has the "good problem" of having to find ways of returning some cash to shareholders, and an RBC Capital Markets analysis this week estimated that Apple's next capital-return program could reach as high as $200 billion over three years.

"Apple's cash balance is nothing short of legendary, so they could tack on additional business units if they choose," said Jim Russell, portfolio manager at Bahl & Gaynor.

Apple's Achilles Heel

Investors looking for companies likely to be targeted need to look at areas where Apple is weak historically.

"The stuff with substance to it, like a Yelp, would make a lot of sense, as maps have historically lacked local content," Munster said, referring to the consumer-review site of local businesses. Yelphas been rumored as an Apple acquisition target in the past, and its stock has come off by roughly half in the past year.

Google "is eating their lunch" with maps, Chaikin said.

Other possibilities include furthering its limited moves into social media, with Munster pointing to Twitter, another long-rumored acquisition target for tech giants, but most recently Google. "They historically have not done much with social media," Munster said of Apple.

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A bigger stretch—but one that has been rumored—is Tesla Motors, especially with several news reports about the in-house autos team that Apple is building to produce a car by 2020. "The big one that everyone is talking about is Tesla, which would be a $40 billion acquisition," Munster said. "With their balance sheet, all three are within the realm of acceptable for investors," Munster said of Apple acquiring Yelp, Twitter and Tesla.

"Where Apple really needs help is the iPad," Chaikin said, adding that whether it's competition from its own, wider-screen iPhones or products from Microsoft or Samsung, based on sales patterns, the iPad has stopped being the product of choice.

In Chaikin's view, ebooks and podcasts are the most logical acquisition areas with synergies to the iPad.

Noting that Apple last month received a patent for a camera that could be mounted on scuba masks or bike helmets, Chaikin said that the GoPro phenomenon is an emerging product area that Apple can't ignore but might not want to build from scratch.

"As an Apple shareholder, I'd rather see them buy, then build in this space with a company that has an accepted brand."

GoPro, hammered again after the wearable camera maker issued disappointing guidance for the first quarter—its shares are down 28 percent this year through Feb. 19—would be a wise move, Chaikin said. "It's comparable to Beats in the sense of the cool factor," Chaikin said.Trading at a price-to-earnings ratio still right around 60, even after its stock dive, GoPro is not necessarily an "inexpensive" acquisition candidate.

By Kate Gibson, special to