FORTUNE — How high does Apple’s stock need to rise to make its promised buyback worthwhile? It’s a question worth asking. After all, Apple could have spent the $10 billion it announced in share buybacks on any number of things to grow shareholder value—a bigger dividend than the annual $9.9-billion payout announced, which currently yields 1.8%, or even a one-time special-dividend.
To answer the question, Gregory Milano of Fortuna Advisors, which advises Fortune 500 companies on maximizing their market value, did some quick math. Milano considers buybacks to be like any other investment a company can make. Buybacks must offer a good return in order to be deemed a smart use of capital. That is, if a company buys its stock at $10 a share and it rises to $12 next year, it’s earned a 20% “return on investment” for shareholders. Because the average business’s capital costs run 10% a year, between debt and equity expenses, most companies should seek buybacks to return more than 10% a year if they want to build shareholder profit.
In Apple’s case, returns on capital are extraordinary. The tech giant earns around a 40% return on its operating capital, far exceeding its capital costs. So what’s a good hurdle rate, or minimum rate of return, for its buyback? Milano thinks a 20% “return on investment” is fair.
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For the buybacks to deliver that return, Milano says Apple’s stock price will have to rise 128% to $1,368 over the next five years. For a meager 10% buyback return, the stock needs to hit $984 in five years.
Can the stock reach those heights? Everything is working in Apple’s favor today. Shares have risen 82% over the past year. In the first quarter alone it recorded $16 billion in free cash flow on screaming hot sales of iPads and iPhones. But nothing is certain in the stock market. It’s not unfair to think the stock could jump to $800 as easily as it could fall back to $500.
If Apple buys shares at $600, and the stock later drops to $400, its remaining shareholders are penalized—the company overpaid by 30%. Likewise, if shares keeps rising at their current pace —up 30% since December—to reach levels near $700 or $800, at what point does Apple (AAPL) ask if it truly makes economic sense to buy shares at such a high level?
To justify its current $600 stock price, Milano has calculated that Apple, continuing its level of economic profitability, needs to grow sales to $300 billion in fiscal 2016. It recorded sales of $108 in the latest fiscal year.
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Because not even Apple can know at which prices its shares will trade in the coming years, Milano thinks Apple’s $10 billion buyback is misguided. Instead, he called for a special one-time dividend in lieu of buybacks. That could be a $53.60 dividend per share if Apple paid out just half of its $98 billion cash hoard to shareholders. (Remember, Apple recorded $16 billion in free cash flow in the first quarter, so the cash coffers are still growing.)
Most importantly, a one-time dividend would eliminate the risk of paying too much for shares, Milano argues. It would also reward current shareholders without exposing them to the stock market’s vicissitudes.
“If I were them, I would have taken the price element out of it completely,” says Milano. “Buybacks are a little tricky—they only make sense if share price goes up. But you have no idea if it will beforehand.”
Apple is an extraordinary company. But it went with convention on buybacks, leaving shareholders to suffer if its plan doesn’t pay off.
