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UBS Investment Research Apple Inc.
Quality & Visibility; Upgrade to Buy
Upgrading Apple to Buy from Neutral; iPhone prospects look bright Our positive view is predicated upon expectations for greater "recurring" iPhone hardware revenue (due to a growing installed base & stickiness of the App Store) which should drive more visibility into iPhone sales (20%+ of our FY10 iPhone shipments), as well as continued iPhone expansion driven by new partnerships (end of exclusivities). We also believe upward revisions to consensus ests are likely given underestimated gross margin potential. We are removing our Short Term Buy rating as some (but not all) of the catalysts we cited have been announced. Apple service could be the next long term driver We believe AAPL may be working on building out a foundation for a service to provide seamless access & mobility of digital content across all its products. We envision a service that seamlessly allows access to media-focused content of iTunes & user-generated content of MobileMe (pictures/videos/email/calendar) as well as social networking integration from any existing Apple product. We believe the service may be the draw (halo) that drive additional future Apple product sales. Raising estimates on back of higher iPhone expectations Although we are leaving our Sept. qtr iPhone units unchanged, we have increased our FY10 estimate to 36mm units from 25.9mm previously. As a result our pro forma rev/pro forma EPS for FY10 increases to $51.6b/$11.08. Valuation: Upgrading to Buy and raising target to $265 (from $170) Our $265 target reflects ~20x our pro forma FY10 EPS estimate plus $47 per share in net cash, still at the low end of historical multiple ranges.

Global Equity Research
Americas Computers 12-month rating 12m price target Short-term rating Price
RIC: AAPL.O BBG: AAPL US

Buy
Prior: Neutral
US$265.00 Prior: US$170.00

Removed
Prior: Buy
US$185.35

2 October 2009
Trading data 52-wk range Market cap. Shares o/s Free float Avg. daily volume ('000) Avg. daily value (US$m) Balance sheet data 09/09E Shareholders' equity P/BV (UBS) Net Cash (debt) Forecast returns Forecast price appreciation Forecast dividend yield Forecast stock return Market return assumption Forecast excess return EPS (UBS, US$) From 1.78 1.33 1.35 1.46 5.93 7.19 09/09E To 1.78 1.33 1.35 1.45 5.92 7.70 Cons. 1.78 1.33 1.35 1.38 5.85 6.90 09/08 Actual 1.76 1.16 1.19 1.26 +43.0% 0.0% +43.0% 5.9% +37.1% US$27.2bn 6.2x US$16.7bn US$186.15-78.20 US$169bn 909m (COM) 99% 16,187 2,653.6

Highlights (US$m) Revenues EBIT (UBS) Net Income (UBS) EPS (UBS, US$) Net DPS (UBS, US$) Profitability & Valuation EBIT margin % ROIC (EBIT) % EV/EBITDA (core) x PE (UBS) x Net dividend yield %

09/07 24,006 4,409 3,496 3.93 0.00 5-yr hist av. 9.5 38.2 0.0

09/08 32,479 6,275 4,834 5.36 0.00 09/08 19.3 116.7 19.3 30.4 0.0

09/09E 35,763 7,321 5,363 5.92 0.00 09/09E 20.5 149.8 18.4 31.3 0.0

09/10E 45,363 9,856 7,032 7.70 0.00 09/10E 21.7 297.3 13.4 24.1 0.0

09/11E 52,366 11,407 8,170 8.89 0.00 09/11E 21.8 >500 10.9 20.9 0.0

Q1 Q2 Q3 Q4E 09/09E 09/10E

Performance (US$)
250 200 150 100 50 0 10/06 01/07 04/07 07/07 10/07 01/08 04/08 07/08 10/08 01/09 04/09 07/09 Stock Price (US$) Rel. S & P 500 350 300 250 200 150 100 50 0

Source: Company accounts, Thomson Financial, UBS estimates. (UBS) valuations are stated before goodwill-related charges and other adjustments for abnormal and economic items at the analysts' judgement. Valuations: based on an average share price that year, (E): based on a share price of US$185.35 on 30 Sep 2009 19:37 EDT

Maynard J. Um
Analyst maynard.um@ubs.com +1-212-713 3372

Arun Sharma
Associate Analyst arun.sharma@ubs.com +1-212-713 1033

Ryan Cain, CFA
Associate Analyst ryan.cain@ubs.com +1 212 713 4881
Source: UBS

Price Target (US$) (LHS) Rel. S & P 500 (RHS)

Stock Price (US$) (LHS)

www.ubs.com/investmentresearch

This report has been prepared by UBS Securities LLC ANALYST CERTIFICATION AND REQUIRED DISCLOSURES BEGIN ON PAGE 15. UBS does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

Apple Inc. 2 October 2009

Investment Summary
We are upgrading Apple to Buy from Neutral, removing our Short Term Buy rating (although some still are forthcoming, a number of the catalysts we cited have been announced), and raising our price target to $265 from $170. We expect a strong quarter with potential upside to Street Consensus EPS, likely justifying the recent move in Apple shares. However, our call is not predicated on the quarter, but, rather, on the following: 1) Likely to see “recurring” iPhone hardware revenue; believe 20%+ of our FY10 iPhone forecasts are “recurring”. Longer-term, we believe the growing installed base of iPhone users, combined with the stickiness of the App Store (switching costs are high due to app downloads), will drive a “recurring” hardware revenue stream. We estimate more than 20% of our FY10 iPhone shipments are highly visible assuming a similar one year hardware replacement to Research In Motion’s (up from 12% in FY09). We believe this is likely conservative as our analysis is based solely on AT&T’s iPhone installed base (excludes international operators). 2) Strong iPhone demand likely to continue; less worried about margin pressure. Although we leave our iPhone estimates for the September quarter unchanged (7 million), we believe Apple may have been able to sell materially more iPhones if not for shortages earlier in the quarter. However, we believe these issues have largely been resolved and believe the December quarter should see strong growth driven by seasonality and operator competition in some regions driven by an end to exclusivities (UK). We are less concerned with regard to margin pressure as demand does not appear to be shifting to the $99 iPhone 3G and a lower end 3GS does not appear to be forthcoming, as we had originally feared. 3) MacBook ASPs should be closer to bottoming; mix could improve. Although we remain wary of economic conditions (though seemingly improving) having an impact on higher end MacBook Pros, we believe a large part of that impact was felt in the June quarter and believe Apple should see an ASP & margin benefit from having a full quarter of the MacBook Pro 13” (price cut to $1,199 from $1,299) as consumers trade up from the $999 MacBook given the smaller incremental cost relative to design/feature upgrade. From a cost perspective, we believe Apple has been working with its partners to improve cost. 4) Consensus likely too conservative. Our above consensus estimates for FY10 (UBSe GAAP: $7.70 vs. consensus $6.90) embed modest gross margin improvement (only 20bps) driven by greater mix of higher margin iPhone and less mix of lower than corporate average iPods (mix to more Mac units sold through Apple’s retail stores could also help gross margins next year). We estimate iPod gross margins in the low to mid 20% range, versus Mac gross margins in the high 30% range and iPhone pro forma margins around 50% (even without high margin carrier payments which should now come to an end). Given this margin hierarchy and the ongoing mix shift in Apple’s business, we find it
UBS 2

Apple Inc. 2 October 2009

difficult to see a scenario under which gross margins would be flat or decline in FY10 relative to FY09 levels (as consensus appears to be modeling). 5) Capex hints at build of a potential enhanced service, which we think could help drive further hardware sales. Capex related to infrastructure & corporate facilities has been ramping, reaching $702 million in FY08 and rising to an estimated $840 million in FY09 from $128 million in FY05. We believe a material portion of this capex may be related to the build out of a data center/network operating center (NOC) which we hypothesize will be the foundation for a service that provides seamless access and mobility of digital content across all its products, at any time, and from any place. Similar to Research In Motion’s, the NOC may also help to reduce network congestion through techniques such as compression & push. We envision a service that will seamlessly allow access to the media-focused content of iTunes (music/video) and user-generated content of MobileMe (pictures/videos/email/calendar) as well as integration with social networking sites from any existing Apple product. We believe the service, in the future, may be the draw to purchase additional Apple products. 6) New products still coming. From a new product perspective, we still anticipate a smartbook-type device as well as tablet, potentially new desktops, and new iPhones mid-next year. One thing is certain in our opinion – Apple will continue to introduce new products across its product portfolio every year. Determining what those new products will be is a part of the buzz (and fun). Apple’s veil of secrecy will likely continue to create that important buzz and we believe the company’s attention to detail and customer experience will help to perpetuate and maintain its buzz/brand image (the “halo effect”). 7) Price Target Reflects a Reasonable Multiple Relative To Growth & Historicals. Despite the recent run in shares, we believe current valuations remain compelling based on our new estimates given fundamental strength and visibility to the longer-term outlook. On a pro forma earnings basis and adjusting for the company’s future cash balance, shares currently trade at 12x, which represents a discount to the current market multiple. Apple’s historical P/E ratio is roughly 28x since 2004 and 23x over the last two years. Our 12-month price target of $265 reflects approximately ~20x our pro forma FY10 (ends September 2010) EPS estimate of $11.08 plus $47 per share in net cash (or 24x our pro forma FY10 EPS estimate, which is in line with our forecasted earnings growth of ~25%).
Chart 1: Apple Future Ecosystem
MacBook

iMac

Tablet

Apple Services
iPhone SmartBook

iPod

Source: UBS

“Recurring” iPhone Revenue? 20%+ of our FY11 iPhone Forecasts Likely “Highly Visible”
Longer-term, we believe the growing installed base of iPhone users, combined with the stickiness of the App Store (switching costs are high due to app downloads), will drive a “recurring” hardware revenue stream. We come to this conclusion based on an assumption that Apple will see a similar replacement
UBS 3

Apple Inc. 2 October 2009

rate to that of Research In Motion (RIM). In our analysis, we use the implied replacement rate from RIM’s latest quarter. We recognize that we are not taking into account churn or channel fill and that RIM’s installed base includes a large enterprise base. However, we go under the premise that operators are holding low levels of inventory, churn has not changed dramatically, and that RIM trends have more recently followed the consumer given general weakness in enterprise. We also note that we use only AT&T’s iPhone installed base and do not include the installed bases from international operators. Table 1 highlights RIM’s hardware shipments, net adds, and year ago installed base. In the latest reported August quarter, the implied replacement rate based on the year ago subscriber base was 23.4%. Although most AT&T plans are two years, we look at the one year ago installed base given most BlackBerry plans are also two years and that a portion of the installed base typically upgrades to the latest and greatest.
Table 1: Simplified BlackBerry Replacement Rate (units & subs in millions)
May-08 Total BlackBerries Shipped Net Adds Excess Hardware Year Ago Installed Base Replacement Rate Source: Company reports; UBS estimates 5.4 2.3 3.1 9.3 33.2% Aug-08 6.1 2.6 3.5 10.5 33.8% Nov-08 6.7 2.6 4.1 12.2 33.7% Feb-09 7.8 3.9 3.9 14.3 27.2% May-09 7.8 3.8 4.0 16.6 24.1% Aug-09 8.3 3.8 4.5 19.2 23.4%

Using a 23.4% implied replacement rate on the year ago AT&T subscriber base, we estimate more than 20% of our FY10 iPhone shipments are highly visible (up from 12% in FY09). We note that our analysis only uses AT&T’s iPhone installed base and excludes international operators, likely making our analysis conservative. Put another way, based on our analysis, at least 7.7 million iPhones in FY10 will be from replacements; 28.3 million will have to come from new subscribers. Apple is currently offering the iPhone in 88 countries (multiple operators in some regions) with China, Equatorial Guinea, GuineaBissau, Israel, and Qatar coming soon.
Table 2: Implied iPhone Replacement Units as % of Total iPhone Units
(units & subs in millions) AT&T iPhone Installed Base Dec 07 2.0 Mar 08 2.2 Jun 08 2.4 Sept 08 4.3 Dec 08 5.9 Mar 09 7.2 Jun 09 8.9 Sept 09 11.1

Dec 08A Assumed Replacement Rate Implied iPhone Replacements From AT&T UBS iPhone Units Implied Replacements as % of Total Source: Company reports; UBS estimates 23.4% 0.5 4.4 10.5%

Mar 09A 23.4% 0.5 3.8 13.6%

Jun 09A 23.4% 0.5 5.2 10.6%

Sept 09 23.4% 1.0 7.0 14.3%

Dec 10 23.4% 1.4 9.8 14.1%

Mar 10 23.4% 1.7 8.3 20.3%

Jun 10 23.4% 2.1 8.6 24.4%

Sept 10 23.4% 2.6 9.5 27.4%

UBS 4

Apple Inc. 2 October 2009

iPhone Momentum Likely Better Than Expected; Raising FY10 iPhone Estimates
Post the initial success of the iPhone 3GS in late June, checks indicate continued solid demand for the 3GS. We believe our fiscal 4Q09 (ends September) iPhone unit estimate of 7 million may prove conservative (although some shortages may have impacted September unit sales) and note that every 100k of iPhone unit upside would add about $0.03 to pro forma EPS. Looking ahead, we believe the December quarter should see sequential growth driven by normal seasonal uptick in demand as well as greater operator competition in certain regions. Note that in the UK, it was recently announced that the O2 exclusivity with Apple will be ending, with new agreements with Orange and Vodafone now in place. We also believe new partnerships in Korea with SK Telecom and additional partners to China Unicom (i.e. China Mobile) in China are likely going forward. We believe more partnerships should help drive a greater footprint for the iPhone and could support faster than anticipated geographical expansion. Apple management indicated on its earnings call that it will continue to expand iPhone distribution both within countries in which it already serves as well into new countries and expects that it sees opportunities for further share gains in all regions. We believe Apple is likely gaining some iPhone traction in enterprise with 19 of top 100 Fortune 1000 companies having iPhones deployed. However, we do not think this is a displacement of solutions such as BlackBerry but, rather, believe it is likely at the expense of other Microsoft Exchange capable smartphones. In order for Apple to gain greater traction in the enterprise market, in our opinion, the company must overcome some issues including providing 24x7 customer support, providing more future product roadmap details (to allow large enterprises to build ahead and prepare), provide alternatives to OS upgrades solely from iTunes desktop application. Although we are leaving our September quarter iPhone shipment units unchanged, we have increased our FY10 estimate to 36 million units from 25.9 million previously given expectations for continued market share gains going forward. In addition our FY11 iPhone unit shipment estimate is now 40.5 million up from 30.6 million.

MacBook ASPs Could Be Bottoming
We are more positive on MacBook ASPs as the shift in its line-up (introduced at the end of June) could help to drive trade ups from the $999 MacBook to the new $1,199 MacBook Pro 13” (price drop from $1,299). We believe consumers are likely to be more willing to trade up for $200 (versus a prior $300 trade up) given the feature set and industrial design upgrades. Apple will also get the benefit of a full quarter of the new MacBook Pros in September, which should continue to help the company take market share, and should have a positive impact on ASPs and potentially margins. Our estimates call for notebooks units to grow only 10% y/y (5% q/q), which could prove conservative given the full quarter benefit from the notebook refresh. We believe increasing mix of sales from Apple’s own retail stores could also help gross margins.

UBS 5

Apple Inc. 2 October 2009

Although the macro backdrop had been our main concern around Macs demand, we continue to be surprised by the resiliency of the US consumer market. With our checks indicating solid back to school demand and industry data points continuing to point to a return to more seasonal growth patterns, we believe is well positioned to benefit from its solid consumer presence and loyal customer base.

Consensus estimates appear conservative
Our estimates are above management’s guidance in fiscal 4Q09, given the company’s track record of setting overly conservative guidance and easily exceeding its forecast. In fact, over the previous 11 quarters Apple has exceeded its EPS guidance by at least $0.19 each quarter (see chart 2). Our FY4Q09 and FY10 estimates are also ahead of consensus (see Table 3), primarily due to our expectation for better gross margins, driven by higher mix of iPhones and lower mix of iPhone. Increasing Mac sales through Apple’s own retail stores could also help gross margins as well as potential reversals in component costs.
Chart 2: Historical EPS Upside to Mid-point of Management Guidance
$2.00

$1.80

$1.60

$0.34 $0.58

$1.40

$1.20

$1.00

$0.22 $0.42 $0.36 $1.42

$0.19

$0.26

$0.38 $0.38

$0.80

$0.26 $0.32

$0.60

$0.19 $0.17 $0.15 $0.14 $0.20 $0.20 $0.09 $0.28 $0.32 $0.46 $0.09 $0.13

$0.15 $0.72 $0.55 $0.66 $0.65

$1.21 $0.94 $1.00 $1.00 $0.95 $0.98

$0.40

$0.20

$0.47 $0.38 $0.41

$F1Q05 F2Q05 F3Q05 F4Q05 F1Q06 F2Q06 F3Q06 F4Q06 F1Q07 F2Q07 F3Q07 F4Q07 F1Q08 F2Q08 F3Q08 F4Q08 F1Q09 F2Q09 F3Q09 Mid-Point of Mgmt's EPS Guidance Upside to EPS Guidance

Source: Apple, FactSet

Table 3: UBS vs. Consensus Estimates (in millions)
F4Q09 Revenue UBS Consensus Mid-point of Mgmt Guidance $ 9,096 $ 9,125 $ 8,800 EPS $ 1.45 $ 1.38 $ 1.21 Revenue $ 45,363 $ 42,078 FY2010 EPS $ 7.70 $ 6.90

Source: FactSet, UBS estimates

UBS 6

Apple Inc. 2 October 2009

We estimate iPod gross margins in the low to mid 20% range, versus Mac gross margins in the high 30% range and iPhone margins in the low 40% range. Given this margin hierarchy and the ongoing mix shift in Apple’s business, we find it difficult to see a scenario under which gross margins would be flat or decline in FY10 relative to FY09 levels.
Chart 3: FY09 Revenue Contribution Chart 4: FY10 Revenue Contribution

Other, 22% Macs, 37%

Other, 20% Macs, 33%

iPhone, 19% iPhone, 31% iPod, 22% iPod, 16%

Source: UBS estimates

Source: UBS estimates

According to our analysis, we estimate consensus FY10 expectations could be calling for flat to slightly down gross margins vs. FY09, which we believe largely understates Apple’s gross margin expansion potential. We believe upward revision to consensus expectations is likely to be a key catalyst going forward that should help drive continued momentum in shares.

Enhanced Service offering could be long term key to driving hardware sales
We believe most new product speculation has been around physical hardware – iPod cameras, form factors, casing, battery life, storage size, etc. To be fair, there has also been some focus on software –Snow Leopard, iTunes, new iPhone OS’s, etc. Although we believe there is plenty of opportunity for Apple to continue to innovate on hardware and OS functionality, we turn to a much longer term view that makes us more bullish on future Apple sales. We believe the “halo effect” has largely been driven by user experience (taking industrial design as a given). Great iPod/iPhone experience translates into a Mac purchase (one example). However, we believe the future draw to Apple products may be from an enhanced service, the infrastructure for which we believe Apple is currently undertaking.

UBS 7

Apple Inc. 2 October 2009

Chart 5: Apple Current Halo Ecosystem

Macs

iPhone

iPod

Source: UBS

We envision a service that will seamlessly allow access to the media-focused content of iTunes (music/video) and user-generated content of MobileMe (pictures/videos/email/calendar) as well as integration with social networking from any existing Apple product. We believe the service, in the future, may be the draw to purchase additional Apple products.
Chart 6: Apple Future Halo Ecosystem

MacBook

iMac

Tablet

Apple Services
iPhone SmartBook

iPod

Source: UBS

We believe the infrastructure build is taking place as capex related to infrastructure & corporate facilities has been ramping, reaching $702 million in FY08 and rising to an estimated $840 million in FY09 from $128 million in FY05. We believe a material portion of this capex may be related to the build out of a data center/network operating center (NOC) which we hypothesize will be the foundation for a service that provides seamless access and mobility of digital content across all its products, at any time, and from any place. Similar to Research In Motion’s, the NOC may also help to reduce network congestion through techniques such as compression & push.
UBS 8

Apple Inc. 2 October 2009

Chart 7: Apple Capital Expenditure Breakout
$400 $350 $300 $250 $200 $150 $100 $50 $Jun-04 Jun-05 Jun-06 Jun-07 Jun-08 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Jun-09 Sep-04 Sep-05 Sep-06 Sep-07 Sep-08 Sep-09 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09

Retail store facilities

Corporate facilities/infrastructure & IT

Source: Company filings

Chart 8: Apple CapEx Trends
450 400 350 300 250 200 150 100 50 0 1Q03 A 2Q03 A 3Q03 A 4Q03 A 1Q04 A 2Q04 A 3Q04 A 4Q04 A 1Q05 A 2Q05 A 3Q05 A 4Q05 A 1Q06 A 2Q06 A 3Q06 A 4Q06 A 1Q07A 2Q07A 3Q07A 4Q07A 1Q08A 2Q08A 3Q08A 4Q08A 1Q09A 2Q09A 3Q09A 4Q09E Total CapEx CapEx as a % of Sales 6% 5% 4% 3% 2% 1% 0%

Source: Company reports and UBS estimates

New products still on the way
From a new product perspective, one thing is certain, in our opinion – Apple will continue to introduce new products across its product portfolio every year. Determining what those new products will be is a part of the buzz (and fun). Apple’s veil of secrecy will likely continue to create that important buzz and we believe the company’s attention to detail and customer experience will help to perpetuate and maintain its buzz/brand image (the “halo effect”). However, the key question is whether that pace of innovation can continue? From a near/medium term perspective, we believe a potential data-only product at Verizon (potentially a smart book), new wireless operators and a tablet may be forthcoming. With iPods recently getting a complete refresh and the company making adjustments to its MacBook line, we believe Apple could focus on a desktop refresh next.

UBS 9

Apple Inc. 2 October 2009

Raising Target to $265; Still reflects reasonable given growth expectations
We are raising our estimates to reflect better than expected iPhone demand as well as new opportunities abroad. Our pro forma rev/pro forma EPS estimates for FY10 increase to $51.6b/$11.08 and our FY11 estimates increase to $55.3b/$11.64. We are raising our 12-month price target to $265 from $170, reflecting ~20x our FY10 pro forma EPS estimate plus $47 in net cash. Historically, Apple has traded at roughly a 28x forward P/E (since 2004), which is a 40% premium to our price target multiple. In addition, our target reflects approximately 24x our pro forma EPS estimate (not adjusting for the cash balance), which implies a PEG of 1.0. Despite the recent run in shares, we believe current valuations remain compelling. On a pro forma earnings basis and adjusting for the company’s future cash balance, shares currently trade at 12x, which represents a modest discount to the current market multiple.
Chart 9: Apple Historical PE
80.0x 70.0x 60.0x 50.0x 40.0x 30.0x 20.0x 10.0x 0.0x Jan-98 Jun-98 Nov-98 Apr-99 Sep-99 Feb-00 Jul-00 Dec-00 May-01 Oct-01 Mar-02 Aug-02 Jan-03 Jun-03 Nov-03 Apr-04 Sep-04 Feb-05 Jul-05 Dec-05 May-06 Oct-06 Mar-07 Aug-07 Jan-08 Jun-08 Nov-08 Apr-09 Sep-09 3.0x 2.0x 1.0x 0.0x Jan-98 Jun-98 Nov-98 Apr-99 Sep-99 Feb-00 Jul-00 Dec-00 May-01 Oct-01 Mar-02 Aug-02 Jan-03 Jun-03 Nov-03 Apr-04 Sep-04 Feb-05 Jul-05 Dec-05 May-06 Oct-06 Mar-07 Aug-07 Jan-08 Jun-08 Nov-08 Apr-09 Sep-09

Chart 10: Apple Historical EV/Sales
7.0x 6.0x 5.0x 4.0x

Source: FactSet

Source: FactSet

Table 4: Historical Valuation Multiples
Price / Earnings Since 1998 Average Median Peak Trough Source: FactSet 29.3x 27.3x 78.5x 9.3x Since 2002 33.1x 30.0x 78.5x 12.2x Since 2004 28.4x 27.4x 47.2x 12.2x Last 2 Years 23.4x 23.2x 41.9x 12.2x Since 1998 1.9x 1.5x 6.8x 0.1x Enterprise Value / Sales Since 2002 2.4x 2.5x 6.8x 0.1x Since 2004 3.1x 3.0x 6.8x 0.6x Last 2 Years 3.7x 3.7x 6.8x 1.4x

In terms fiscal 4Q09 (ends September) our estimates call for revenues of $9.1 billion and pro forma EPS of $2.35 (GAAP EPS of $1.45). We are comfortable with our 7 million unit iPhone estimate for the quarter but believe material upside may be difficult given shortages earlier in the quarter (although we believe investors are well aware of this). In terms of Mac sales, our estimates
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Apple Inc. 2 October 2009

call for 4% y/y growth (5% q/q) which should benefit from a full quarter of shipping of the 13” MacBook Pro. A main focus of the 4Q report is likely to gross margins which we believe should benefit from improved mix (both within the Mac segment as well as from iPhones), but may be somewhat offset from unfavourable component pricing. In terms of the fiscal 1Q10 guidance (ends December), we expect Apple to continue with its historical practice of issuing conservative guidance (typically below Street forecasts). Other than the top line and EPS outlook, gross margin guidance will likely again be a primary focus.

Table 5: Summary of estimate changes
2009E New Revenue COGS Gross Profit Gross Margin % R&D R&D % of sales SG&A SG&A % of sales Total Operating Expenses Operating Income Operating Margin % Total Other Income Pretax Income Income Taxes Tax Rate Net Income GAAP EPS Pro Forma EPS Shares Outstanding Source: UBS 35,763 22,916 12,846 35.9% 1,339 16.1% 4,187 50.2% 5,525 7,321 20.5% 316 7,637 2,274 29.8% 5,363 $5.92 $8.88 906 906 0.0% 2009E Old 35,799 22,939 12,859 35.9% 1,340 16.1% 4,191 50.3% 5,531 7,328 20.5% 316 7,644 2,276 29.8% 5,368 $5.92 New Vs. Prior -0.1% -0.1% -0.1% 0bp -0.1% 0bp -0.1% -1bp -0.1% -0.1% 0bp 0.0% -0.1% -0.1% 0bp -0.1% -0.1% 2010E New 45,363 28,966 16,397 36.1% 1,490 18.9% 5,052 64.0% 6,542 9,856 21.7% 190 10,046 3,014 30.0% 7,032 $7.70 $11.08 914 914 0.0% 2010E Old 42,931 27,308 15,623 36.4% 1,490 18.9% 4,907 62.2% 6,397 9,226 21.5% 190 9,416 2,825 30.0% 6,591 $7.21 New Vs. Prior 5.7% 6.1% 5.0% -2bp 0.0% 0bp 3.0% 18bp 2.3% 6.8% 2bp 0.0% 6.7% 6.7% 0bp 6.7% 6.7%

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Apple Inc. 2 October 2009

Table 6: Summary of estimate changes
2009E New Segment Breakouts: Desktop Revenue as % of sales Portables Revenue as % of sales iPod Revenue as % of sales Other Music Related Products & Services as % of sales iPhone & Related Products & Services as % of sales Peripherals & Other Hardware as % of sales Software, Services & Other Sales as % of sales 4,370 12.2% 8,997 25.2% 8,028 22.4% 3,918 11.0% 6,692 18.7% 1,455 4.1% 2,304 6.4% 4,370 12.2% 9,001 25.1% 8,028 22.4% 3,918 10.9% 6,729 18.8% 1,455 4.1% 2,298 6.4% 0.0% 1bp -0.1% 1bp 0.0% 2bp 0.0% 1bp -0.6% -9bp 0.0% 0bp 0.3% 2bp 4,049 8.9% 10,823 23.9% 7,468 16.5% 4,875 10.7% 13,919 30.7% 1,734 3.8% 2,496 5.5% 3,955 9.2% 10,823 25.3% 6,985 16.3% 4,543 10.6% 12,340 28.8% 1,690 3.9% 2,480 5.8% 2.4% -31bp 0.0% -142bp 6.9% 15bp 7.3% 14bp 12.8% 186bp 2.6% -12bp 0.6% -29bp 2009E Old New Vs. Prior 2010E New 2010E Old New Vs. Prior

Unit Metrics: Desktop Units Portable Units iPod Units iPhone Units 3,245 6,823 53,955 20,364 3,245 6,791 53,955 20,364 0.0% 0.5% 0.0% 0.0% 3,175 8,325 50,500 36,040 3,100 8,325 49,500 25,910 2.4% 0.0% 2.0% 39.1%

ASPs: Desktop Portable iPod Source: UBS $1,347 $1,319 $149 $1,347 $1,326 $149 0.0% -0.5% 0.0% $1,275 $1,300 $148 $1,276 $1,300 $141 0.0% 0.0% 4.8%

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Apple Inc.
Income statement (US$m)
Revenues Operating expenses (ex depn) EBITDA (UBS) Depreciation Operating income (EBIT, UBS) Other income & associates Net interest Abnormal items (pre-tax) Profit before tax Tax Profit after tax Abnormal items (post-tax) Minorities / pref dividends Net income (local GAAP) Net Income (UBS) Tax rate (%) Pre-abnormal tax rate (%)

09/04
8,279 (7,780) 499 (150) 349 0 57 0 406 (113) 293 0 0 293 293 28 28

09/05
13,931 (12,109) 1,822 (179) 1,643 0 165 0 1,808 (480) 1,328 0 0 1,328 1,328 27 27

09/06
19,315 (16,637) 2,678 (225) 2,453 0 365 0 2,818 (829) 1,989 0 0 1,989 1,989 29 29

09/07
24,006 (19,280) 4,726 (317) 4,409 0 599 0 5,008 (1,512) 3,496 0 0 3,496 3,496 30 30

09/08
32,479 (25,731) 6,748 (473) 6,275 0 620 0 6,895 (2,061) 4,834 0 0 4,834 4,834 30 30

09/09E
35,763 (27,760) 8,003 (682) 7,321 0 316 0 7,637 (2,274) 5,363 0 0 5,363 5,363 30 30

% ch
10.1 7.9 18.6 44.2 16.7 -49.0 10.8 10.3 10.9 10.9 10.9 -0.4 -0.4

09/10E
45,363 (34,803) 10,560 (704) 9,856 0 190 0 10,046 (3,014) 7,032 0 0 7,032 7,032 30 30

% ch
26.8 25.4 31.9 3.2 34.6 -39.9 31.5 32.5 31.1 31.1 31.1 0.7 0.7

09/11E
52,366 (40,255) 12,111 (704) 11,407 0 265 0 11,672 (3,502) 8,170 0 0 8,170 8,170 30 30

% ch
15.4 15.7 14.7 0.0 15.7 39.5 16.2 16.2 16.2 16.2 16.2 0.0 0.0

Per share (US$)
EPS (local GAAP) EPS (UBS) Net DPS Cash EPS BVPS

09/04
0.38 0.38 0.00 0.57 6.53

09/05
1.55 1.55 0.00 1.76 8.95

09/06
2.27 2.27 0.00 2.52 11.77

09/07
3.93 3.93 0.00 4.29 16.71

09/08
5.36 5.36 0.00 5.88 23.38

09/09E
5.92 5.92 0.00 6.69 30.10

% ch
10.5 10.5 13.6 28.7

09/10E
7.70 7.70 0.00 8.47 37.48

% ch
30.0 30.0 26.6 24.5

09/11E
8.89 8.89 0.00 9.65 46.14

% ch
15.5 15.5 14.0 23.1

Balance sheet (US$m)
Cash and equivalents Other current assets Total current assets Net tangible fixed assets Net intangible fixed assets Investments / other assets Total assets Trade payables & other ST liabilities Short term debt Total current liabilities Long term debt Other long term liabilities Total liabilities Equity & minority interests Total liabilities & equity

09/04
5,464 1,591 7,055 707 97 180 8,039 2,682 0 2,682 0 294 2,976 5,063 8,039

09/05
8,261 2,039 10,300 817 96 303 11,516 3,487 0 3,487 0 601 4,088 7,428 11,516

09/06
10,110 4,399 14,509 1,281 177 1,238 17,205 6,471 0 6,471 0 750 7,221 9,984 17,205

09/07
15,386 6,570 21,956 1,832 337 1,222 25,347 9,299 0 9,299 0 1,516 10,815 14,532 25,347

09/08
22,111 10,200 32,311 2,455 492 4,314 39,572 14,092 0 14,092 0 4,450 18,542 21,030 39,572

09/09E
25,490 12,578 38,067 2,977 466 10,383 51,894 19,197 0 19,197 0 5,485 24,682 27,212 51,894

% ch
15.3 23.3 17.8 21.3 -5.3 140.7 31.1 36.2 36.2 23.3 33.1 29.4 31.1

09/10E
36,414 17,450 53,865 3,407 466 10,796 68,534 26,609 0 26,609 0 7,681 34,290 34,244 68,534

% ch
42.9 38.7 41.5 14.4 0.0 4.0 32.1 38.6 38.6 40.0 38.9 25.8 32.1

09/11E
46,711 20,841 67,551 4,012 466 10,554 82,584 31,475 0 31,475 0 8,695 40,170 42,414 82,584

% ch
28.3 19.4 25.4 17.8 0.0 -2.2 20.5 18.3 18.3 13.2 17.1 23.9 20.5

Cash flow (US$m)
Net income Depreciation Net change in working capital Other (operating) Net cash from operations Capital expenditure Net (acquisitions) / disposals Other changes in investments Cash from investing activities Increase/(decrease) in debt Share issues / (repurchases) Dividends paid Other cash from financing Cash from financing activities Cash flow chge in cash & equivalents FX / non cash items Bal sheet chge in cash & equivalents Core EBITDA Maintenance capital expenditure Maintenance net working capital Operating free cash flow, pre-tax

09/04
293 150 349 142 934 (176) (1,323) 11 (1,488) (300) 427 0 0 127 (427) 1,325 898 499 (176) 349 672

09/05
1,328 179 492 536 2,535 (260) (2,275) (21) (2,556) 0 543 0 0 543 522 2,275 2,797 1,822 (260) 492 2,054

09/06
1,989 225 (221) 227 2,220 (617) 1,032 (58) 357 0 (37) 0 361 324 2,901 (1,052) 1,849 2,678 (617) (221) 1,840

09/07
3,496 317 1,325 332 5,470 (986) (2,312) 49 (3,249) 0 362 0 377 739 2,960 2,316 5,276 4,726 (735) 1,325 5,316

09/08
4,834 473 4,119 170 9,596 (1,419) (6,760) (10) (8,189) 0 483 0 633 1,116 2,523 4,202 6,725 6,748 (1,311) 4,119 9,556

09/09E
5,363 682 2,295 477 8,817 (1,241) (12,860) (62) (14,163) 0 288 0 56 344

% ch
10.9 44.2 -44.3 180.6 -8.1 -12.5 90.2 73.0 -69.2

09/10E
7,032 704 3,803 520 12,059 (1,134) 0 0 (1,134) 0 0 0 0 0 10,925 0 10,925 10,560 (1,134) 3,803 13,229

% ch
31.1 3.2 65.7 9.0 36.8 -8.6 -92.0 31.9 -4.3 65.7 45.2

09/11E
8,170 704 2,211 8,964 20,050 (1,309) 0 0 (1,309) 0 0 0 0 0 18,741 (8,444) 10,296 12,111 (1,309) 2,211 13,013

% ch
16.2 0.0 -41.9 1623.9 66.3 15.4 15.4 146.5 14.7 15.4 -41.9 -1.6

(5,002) 8,381 11952.8 3,379 8,003 (1,185) 2,295 9,113 18.6 -9.6 -44.3 -4.6

Source: Company accounts, UBS estimates. (UBS) valuations are stated before goodwill-related charges and other adjustments for abnormal and economic items at the analysts' judgement. Note: For some companies, the data represents an extract of the full company accounts.

UBS 13

Global Equity Research
Americas Computers 12-month rating 12m price target Short-term rating

Apple Inc.
Buy
US$265.00
Valuation (x)
P/E (local GAAP) P/E (UBS) P/CEPS Net dividend yield (%) P/BV EV/revenue (core) EV/EBITDA (core) EV/EBIT (core) EV/OpFCF (core) EV/op. invested capital

5Yr Avg
38.2 38.2 25.4 0.0 3.9 -

09/07
26.4 26.4 24.2 0.0 6.2 3.4 17.0 18.3 15.2 NM

09/08
30.4 30.4 27.7 0.0 7.0 4.0 19.3 20.8 13.6 NM

09/09E
31.3 31.3 27.7 0.0 6.2 4.1 18.4 20.1 16.1 NM

09/10E
24.1 24.1 21.9 0.0 4.9 3.1 13.4 14.3 10.7 NM

09/11E
20.9 20.9 19.2 0.0 4.0 2.5 10.9 11.6 10.1 NM

Removed

Company profile
Apple sells desktops, notebooks, servers, and associated software and peripherals predominantly in the consumer markets worldwide. Apple is also the leading provider of digital music players and entered the Smartphone market with the release of the iPhone in 2007.

Enterprise value (US$m)
Average market cap + minority interests + average net debt (cash) + pension obligations and other - non-core asset value Core enterprise value

09/07
89,472 0 (8,903) 0 0 80,569

09/08
143,917 0 (11,216) 0 (2,379) 130,323

09/09E
168,513 0 (14,594) 0 (6,899) 147,020

09/10E
168,513 0 (20,514) 0 (6,899) 141,100

09/11E
168,513 0 (29,730) 0 (6,899) 131,883

Value (EV/OpFCF & P/E)
20.0x 15.0x 10.0x 5.0x 0.0x 09/07 09/08 09/09 EV/OpFCF (LHS) 09/10E P/E (RHS) 35.0x 30.0x 25.0x 20.0x 15.0x 10.0x 5.0x 0.0x 09/11E

Growth (%)
Revenue EBITDA (UBS) EBIT (UBS) EPS (UBS) Cash EPS Net DPS BVPS

5Yr Avg
40.2 141.7 NM 143.7 100.2 30.1

09/07
24.3 76.5 79.7 73.4 69.9 42.0

09/08
35.3 42.8 42.3 36.3 37.2 39.9

09/09E
10.1 18.6 16.7 10.7 13.6 28.7

09/10E
26.8 31.9 34.6 29.7 26.6 24.5

09/11E
15.4 14.7 15.7 15.5 14.0 23.1

Margins (%)
EBITDA / revenue EBIT / revenue Net profit (UBS) / revenue

5Yr Avg
11.0 9.5 7.8 5Yr Avg 5Yr Avg NM 5Yr Avg 5Yr Avg 1.1 3.1 2.2 5Yr Avg (81.6) NM -

09/07
19.7 18.4 14.6 09/07 NM NM 28.5 09/07 NM 09/07 7.2 13.2 16.6 09/07 1.2 4.1 3.1 09/07 (68.2) NM (11.1)

09/08
20.8 19.3 14.9 09/08 NM NM 27.2 09/08 NM 09/08 6.0 12.7 7.7 09/08 1.5 4.4 3.0 09/08 (59.5) NM (8.6)

09/09E
22.4 20.5 15.0 09/09E NM NM 22.2 09/09E NM 09/09E 7.3 11.2 9.1 09/09E 1.2 3.5 1.8 09/09E (61.3) NM (9.9)

09/10E
23.3 21.7 15.5 09/10E NM NM 22.9 09/10E NM 09/10E 13.7 12.4 17.8 09/10E 1.3 2.5 1.6 09/10E (71.1) NM (14.5)

09/11E
23.1 21.8 15.6 09/11E NM NM 21.3 09/11E NM 09/11E NM 12.5 27.1 09/11E 1.1 2.5 1.9 09/11E (82.8) NM (22.5)

Profitability
22.00% 21.00% 20.00% 19.00% 18.00% 17.00% 09/07 09/08 09/09(E) 09/10(E) ROIC (RHS) 09/11(E) 300% 250% 200% 150% 100% 50%

Return on capital (%) EBIT ROIC (UBS) ROIC post tax Net ROE Coverage ratios (x) EBIT / net interest Dividend cover (UBS EPS) Div. payout ratio (%, UBS EPS) Net debt / EBITDA Efficiency ratios (x) Revenue / op. invested capital Revenue / fixed assets Revenue / net working capital Investment ratios (x) OpFCF / EBIT Capex / revenue (%) Capex / depreciation Capital structure (%) Net debt / total equity Net debt / (net debt + equity) Net debt (core) / EV

EBIT margin (LHS)

ROE v Price to book value
30.0% 28.0% 26.0% 24.0% 22.0% 20.0% 18.0% 09/07 09/08 ROE (LHS) 09/09(E) 09/10(E) 09/11(E) 16.0x 14.0x 12.0x 10.0x 8.0x 6.0x 4.0x 2.0x

Price to book v alue (RHS)

Growth (UBS EPS)
60000 50000 40000 30000 20000 10000 09/07 09/08 Revenue (LHS) 09/09(E) 09/10(E) UBS EPS Growth (RHS) 09/11(E) 80.0% 68.6% 57.1% 45.7% 34.3% 22.9% 11.4% 0.0%

Source: Company accounts, UBS estimates. (UBS) valuations are stated before goodwill-related charges and other adjustments for abnormal and economic items at the analysts' judgement. Valuations: based on an average share price that year, (E): based on a share price of US$185.35 on 30 Sep 2009 19:37 EDT Market cap(E) may include forecast share issues/buybacks.

Maynard J. Um
Analyst maynard.um@ubs.com +1-212-713 3372

Arun Sharma
Associate Analyst arun.sharma@ubs.com +1-212-713 1033

Ryan Cain, CFA
Associate Analyst ryan.cain@ubs.com +1 212 713 4881

UBS 14

Apple Inc. 2 October 2009

Apple Inc. Apple sells desktops, notebooks, servers, and associated software and peripherals predominantly in the consumer markets worldwide. Apple is also the leading provider of digital music players and entered the Smartphone market with the release of the iPhone in 2007.

Statement of Risk Apple is exposed to several risks including: 1) a slowdown in consumer spending and general macro economic concerns, 2) iPhone accounting given the amortization method and lack of clarity on ASPs could result in quarterly adjustments that could have more material impact to out years, 3) an increasingly competitive environment which could place downward pressure on ASPs and margins 4) rising component prices, and 5) lack of demand for new products.

Analyst Certification Each research analyst primarily responsible for the content of this research report, in whole or in part, certifies that with respect to each security or issuer that the analyst covered in this report: (1) all of the views expressed accurately reflect his or her personal views about those securities or issuers; and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed by that research analyst in the research report.

UBS 15

Apple Inc. 2 October 2009

Required Disclosures
This report has been prepared by UBS Securities LLC, an affiliate of UBS AG. UBS AG, its subsidiaries, branches and affiliates are referred to herein as UBS. For information on the ways in which UBS manages conflicts and maintains independence of its research product; historical performance information; and certain additional disclosures concerning UBS research recommendations, please visit www.ubs.com/disclosures. The figures contained in performance charts refer to the past; past performance is not a reliable indicator of future results. Additional information will be made available upon request.
UBS Investment Research: Global Equity Rating Allocations
UBS 12-Month Rating Buy Neutral Sell UBS Short-Term Rating Buy Sell Rating Category Buy Hold/Neutral Sell Rating Category Buy Sell Coverage 44% 40% 15% 3 Coverage less than 1% less than 1%
1

IB Services 39% 35% 27% 4 IB Services 33% 0%

2

1:Percentage of companies under coverage globally within the 12-month rating category. 2:Percentage of companies within the 12-month rating category for which investment banking (IB) services were provided within the past 12 months. 3:Percentage of companies under coverage globally within the Short-Term rating category. 4:Percentage of companies within the Short-Term rating category for which investment banking (IB) services were provided within the past 12 months. Source: UBS. Rating allocations are as of 30 September 2009.

UBS Investment Research: Global Equity Rating Definitions
UBS 12-Month Rating Buy Neutral Sell UBS Short-Term Rating Buy Sell Definition FSR is > 6% above the MRA. FSR is between -6% and 6% of the MRA. FSR is > 6% below the MRA. Definition Buy: Stock price expected to rise within three months from the time the rating was assigned because of a specific catalyst or event. Sell: Stock price expected to fall within three months from the time the rating was assigned because of a specific catalyst or event.

UBS 16

Apple Inc. 2 October 2009

KEY DEFINITIONS Forecast Stock Return (FSR) is defined as expected percentage price appreciation plus gross dividend yield over the next 12 months. Market Return Assumption (MRA) is defined as the one-year local market interest rate plus 5% (a proxy for, and not a forecast of, the equity risk premium). Under Review (UR) Stocks may be flagged as UR by the analyst, indicating that the stock's price target and/or rating are subject to possible change in the near term, usually in response to an event that may affect the investment case or valuation. Short-Term Ratings reflect the expected near-term (up to three months) performance of the stock and do not reflect any change in the fundamental view or investment case. Equity Price Targets have an investment horizon of 12 months. EXCEPTIONS AND SPECIAL CASES UK and European Investment Fund ratings and definitions are: Buy: Positive on factors such as structure, management, performance record, discount; Neutral: Neutral on factors such as structure, management, performance record, discount; Sell: Negative on factors such as structure, management, performance record, discount. Core Banding Exceptions (CBE): Exceptions to the standard +/-6% bands may be granted by the Investment Review Committee (IRC). Factors considered by the IRC include the stock's volatility and the credit spread of the respective company's debt. As a result, stocks deemed to be very high or low risk may be subject to higher or lower bands as they relate to the rating. When such exceptions apply, they will be identified in the Company Disclosures table in the relevant research piece.

Research analysts contributing to this report who are employed by any non-US affiliate of UBS Securities LLC are not registered/qualified as research analysts with the NASD and NYSE and therefore are not subject to the restrictions contained in the NASD and NYSE rules on communications with a subject company, public appearances, and trading securities held by a research analyst account. The name of each affiliate and analyst employed by that affiliate contributing to this report, if any, follows. UBS Securities LLC: Maynard J. Um; Arun Sharma; Ryan Cain, CFA.

Company Disclosures
Company Name 6, 16 Apple Inc. Reuters AAPL.O 12-mo rating Short-term rating Neutral Buy Price US$180.86 Price date 01 Oct 2009

Source: UBS. All prices as of local market close. Ratings in this table are the most current published ratings prior to this report. They may be more recent than the stock pricing date 6. 16. This company/entity is, or within the past 12 months has been, a client of UBS Securities LLC, and non-securities services are being, or have been, provided. UBS Securities LLC makes a market in the securities and/or ADRs of this company.

Unless otherwise indicated, please refer to the Valuation and Risk sections within the body of this report.

UBS 17

Apple Inc. 2 October 2009

Apple Inc. (US$)
Price Target (US$) 250 200 150 100 50 0 01-Apr-05 01-Apr-06 01-Apr-07 01-Apr-08 01-Apr-09 01-Oct-04 01-Oct-05 01-Oct-06 01-Oct-07 01-Oct-08 01-Jan-05 01-Jan-06 01-Jan-07 01-Jan-08 01-Jan-09 01-Oct-09 01-Jul-05 01-Jul-06 01-Jul-07 01-Jul-08 01-Jul-09 Stock Price (US$)

Buy 2 Buy Neutral No Rating Short-term Buy

Source: UBS; as of 01 Oct 2009 Note: On August 4, 2007 UBS revised its rating system. (See 'UBS Investment Research: Global Equity Rating Definitions' table for details). From September 9, 2006 through August 3, 2007 the UBS ratings and their definitions were: Buy 1 = FSR is > 6% above the MRA, higher degree of predictability; Buy 2 = FSR is > 6% above the MRA, lower degree of predictability; Neutral 1 = FSR is between -6% and 6% of the MRA, higher degree of predictability; Neutral 2 = FSR is between -6% and 6% of the MRA, lower degree of predictability; Reduce 1 = FSR is > 6% below the MRA, higher degree of predictability; Reduce 2 = FSR is > 6% below the MRA, lower degree of predictability. The predictability level indicates an analyst's conviction in the FSR. A predictability level of '1' means that the analyst's estimate of FSR is in the middle of a narrower, or smaller, range of possibilities. A predictability level of '2' means that the analyst's estimate of FSR is in the middle of a broader, or larger, range of possibilities. From October 13, 2003 through September 8, 2006 the percentage band criteria used in the rating system was 10%.

UBS 18

Apple Inc. 2 October 2009

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UBS 19


								
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