A couple of weeks ago, there were many out there bearish on Apple (AAPL) after the release of the iPhone 5S and 5C. Critics argued that the 5C was too expensive and that Apple didn't address emerging markets. About ten days ago, I said that Apple critics needed to stop their whining. After the latest round of news, I wonder where those critics are, including one analyst whose Monday morning report had Apple shares negative in pre-market. Today, I'll break down the recent negativity, the latest news, and put everything in perspective. In the end, there is really only one question to ask. What happened to Apple's scheduled funeral?
Giving Apple its last rites:
It wasn't even 8 hours after my above linked Apple article was published when we got the first negative note. Peter Misek cut his iPhone 5S builds for calendar Q3 and Q4, and stated his doubts about the 5C. While Misek did raise his fiscal Q4 (calendar Q3) earnings estimate for Apple, he cut his fiscal 2014 estimate, putting his fiscal 2014 estimate almost $5 below the Street average. Misek maintained his hold rating and cut his price target from $450 to $425. A few hours later, other analysts reiterated Misek's thoughts about constrained fingerprint sensor production in regards to the 5S.
Last Monday, the funeral procession continued to gain traction as China Unicom (CHU) said its iPhone pre-orders were about half of what they were for the iPhone 5. On the news, Apple dropped nearly $15 that day, a fall of more than 3%.
On Tuesday, we got some interesting reports, both positive and negative. On the negative side, we heard US carriers stating that iPhone 5S inventories were "grotesquely low". Obviously, if inventories are terribly low, there won't be anything to sell. Or, the flip side would be that consumers switch to the 5C, which could mean lower margins for Apple. However, there was one analyst who did note that iPhone demand was tracking well above expectations. The question would be if they could meet that demand.
As last week continued, the Apple negativity parade continued when it was reported that 5C pre-orders were weak in both the US and UK. Again, this was the 5C, and Apple did not release the 5S for pre-order in the US and UK, so keep that in mind. On Thursday, we started hearing analysts discuss weekend sales estimates for the official launch of the new iPhone line. Those estimates called for sales in the 5 million to 6 million range, which wouldn't show too much growth over last year's 5 million figure for the iPhone 5. Again, supply constraints were mentioned for the low estimates.
Then we had yesterday, Monday morning. Analyst Gene Munster came out and stated that weekend sales of the iPhone were probably close to the low end of the 5-6 million range. At least one analyst had an estimate of 7.75 million, but that seemed to be an outlier. On the same page as Munster above, BMO's Keith Bachman stated that mall lines were longer for the new phones, but attributed this to no pre-orders for the 5S. He also saw a risk to the downside for Apple's quarter, stating Apple would be unable to match last year's initial sales before quarter's end.
Silencing the critics:
So on Monday morning, less than an hour after Seeking Alpha published those above mentioned analyst reports, Apple laughed in everyone's face. The company issued a press release stating that more than 9 million iPhones were sold in the opening weekend. So, how about those analyst reports now? Munster looks absolutely foolish, and I'm sure there will be some sort of "explanation" over the next few days as to why these analysts were so far off.
Based on the great first weekend, Apple issued an 8-K filing to adjust its quarterly revenue and earnings guidance. Apple stated that it now expects to be at the high end of its $34 billion to $37 billion revenue range, and the high end of its 36% to 37% gross margin range. As of Monday morning, analyst estimates stood at $36.10 billion for revenues and $7.66 in earnings per share.
Another important item to note was that Apple stated more than 11 million unique listeners have already tuned in to iTunes radio. That number will be expected to expand very rapidly, so we should see on the next conference call or in the 10-K what it is at by quarter's end. This iTunes announcement seems to be hurting Pandora (P), which is not too much of a surprise. Pandora shares finished down 10% on Monday, and many are saying Pandora is in trouble. I'm not sure if Pandora is done quite yet, especially after raising a nice chunk of change recently, but I do think Pandora's stock is an avoid for now. Pandora and Apple will be able to exist together for a time, but that doesn't mean Pandora's stock is worth buying.
It's also important to note that another Apple competitor is struggling mightily. BlackBerry (BBRY), the Canadian device maker, just had a huge revenue and earnings warning. BlackBerry, as it currently exists, is done, and that is incrementally positive for Apple, albeit small. Remember, Apple stealing a few hundred thousand phone customers from BlackBerry isn't as meaningful to Apple as it is to BlackBerry. It will be interesting to see what happens with BlackBerry, whether the company goes private, or if part or all of the business is sold off to another device or tech company. The start of that process has already begun. As I stated in the BlackBerry article, I don't think Apple will be a serious suitor for BlackBerry, but I'm sure there may be some patents or some piece of technology that Apple could be interested in if there were to be a complete fire sale.
Putting the iPhone news into perspective:
In the end, it's all about dollars and cents, revenues and earnings, whatever you want to call business performance. An iPhone unit sales number is great, but it is meaningless without a discussion of what it means to Apple's financials. So here, let's put things into perspective. This was Apple's original guidance for fiscal Q4, which is its September ending quarter:
- Revenues between $34 billion and $37 billion.
- Gross margin between 36% and 37%.
- Operating expenses between $3.9 billion and $3.95 billion.
- Other income of $200 million.
- Tax rate of 26.5%
The midpoint of that guidance was $35.5 billion in revenues and my earnings per share calculation was $7.34. That EPS number was based on the midpoints above as well as a diluted share count equal to fiscal Q3. Obviously, if Apple bought back enough shares to lower the share count, that would improve earnings per share. Also, as I stated above, Monday morning's average analyst estimates were $36.10 billion and $7.66, respectively.
So let's try to project what could happen now, and I'll be a little conservative for the time being, knowing that I'll leave some room for a potential Apple beat. I'll use $36.75 billion in revenues along with 36.75% gross margins, and the high end of the operating expense figure. Using the other income and tax rate figures from above, and the Q3 diluted share count, I get an earnings per share figure of $7.76. That would be a dime above the current analyst average, and again, I'm assuming the high end of the operating expense range and no share count improvement. A little bit of improvement on both, along with a revenue and/or gross margin number above what I'm using right now, and you could easily see an EPS number with an 8 handle.
What this all means - something unusual?
In a number of recent quarters, I've been cautioning investors to be careful with, or perhaps even short, Apple leading up to its earnings report date. Analysts have been very negative going into these reports. The final few weeks, even few days, have seen estimate cuts for both the quarter Apply is reporting, as well as the quarter they will providing guidance for. Apple's stock seemed to decline every quarter into its report, and potentially was hit if guidance was lower than expected, which it usually was.
With Apple's blowout iPhone sales weekend, we should now see analysts start to raise their estimates going into the quarter. I would not be surprised if by the end of this week the analyst average is between $36.25 billion to $36.50 billion, or maybe even higher. I expect earnings per share estimates to rise by a nickel to dime on average. By the time Apple reports, probably about a month from now, it will be interesting to see how close estimates are to $37 billion and $8.00 per share, respectively.
I will caution investors though on one end, and that is if estimates get too high. There may come a time where analysts drink the Kool-Aid too much, and if that time comes, I will let you know. Investors must also watch how much fiscal Q1 and fiscal 2014 estimates rise going into the October report. Currently, analysts are expecting $54.88 billion and $13.55 for Q1 and $180.67 billion and $42.53 for fiscal 2014.
Reports of Apple's death have been greatly exaggerated. I know that my tone in this article might have been a little stretched as well, but that's because I had to make my point, just like I did in my last Apple article. Apple obviously knows what they are doing, and 9 million plus iPhone sales in the first weekend speaks to that. Let's see what the critics come out with next, and they have started to already, because they are getting a little desperate at this point. Look for analysts to raise their estimates in the coming days and weeks as we head towards Apple's October report. Apple again proved why it is the best, and shareholders were rewarded for that.
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