The Apple iPhone 5: Put Up Or Shut Up

| About: Apple Inc. (AAPL)
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Prior to Apple's (AAPL) Q3 2012 report, Philip Elmer-DeWitt and CNNMoney surveyed 68 different analysts to gauge their earnings expectations for this business. On average, these analysts expected $11.32 in Q3 earnings per share for Apple. Leading optimist Thembelani Kewtane of The Braeburn Group called for $13.85 in earnings per share, while Morgan Stanley's Kathryn Huberty projected $9.45, at worst. Apple iPhone sales projections were particularly important because this smartphone accounts for roughly 60 percent of revenue. As a group, these analysts anticipated unit sales between 27 and 39 million iPhones for the quarter.

On July 24, 2012, Apple released its third quarter earnings at the closing bell. In the quarterly period ending June 30, 2012, Apple posted $35 billion in revenue, which flowed down to $8.8 billion of earnings on the bottom line. Broken down further, $8.8 billion in net income translates into $9.42 in earnings per share. Immediately after the miss, Apple stock sold off from $600 to $575. Amid the share price deterioration, Apple still boasts of gaudy 43-percent gross profit margins alongside 19-percent year-over-year quarterly income growth.

In the conference call, Apple executives blamed speculators and European economic upheaval as the ultimate scapegoats. Game-changing success for the Apple iPhone is actually cannibalizing results. The Apple iPhone is effectively a handheld computer that can place calls, download gaming applications, and play music. The iPhone renders the iPod nearly obsolete, as evidenced by the 10 percent decline in year-over-year sales for this former blockbuster.

Last quarter, Apple shipped 26 million iPhones, which is a 28 percent increase above the year-over-year period. These results disappointed analysts who on average, expected sales of 30 million iPhones during Q3 2012. According to Peter Oppenheimer, CFO, consumers are holding off purchases in anticipation of a looming iPhone 5 launch set for later this year. Although the iPhone 5 will not be Revolutionary, shareholders are banking on the event to revive Apple's growth story of blowout quarters.

It is gut check time in Cupertino.

Apple iPhone 5 Specifications

In following standard trade practices, Apple Corporation has maintained a wall of silence concerning specifications for the iPhone 5. In all likelihood, the Apple iPhone 5 will be released in fiscal Q4 2012 or Q1 2013, prior to the Holiday Season. Beyond that, we must piece together design information from a motley crue of Silicon Valley insiders, trade publications, and hipster technology bloggers. This speculation feeds into the inevitable Apple store nightclub atmosphere at the date of launch.

Christina DesMarais and PC World intimate that the Apple iPhone 5 will run on iOS 6 software. Technology gurus foreshadow that this new operating system will offer improved security features alongside payment programs. Enhanced security features may include fingerprint recognition and blocks upon inappropriate content. In terms of payment technology, DesMarais claims that the Passbook program will come installed on the iPhone 5. Passbook can generate and retrieve coupons, boarding passes, and consumer rewards packages. Near-field communication (NFC) technology is also in play. With NFC, consumers can more so easily make mobile purchases at various points-of-sale. Near-field communication transforms the smartphone into an e-wallet.

According to Hayley Tsukayama and The Washington Post, a larger screen will dominate iPhone 5 design. Obviously, the iPhone 5 will offer improved resolution above the current iPhone 4 and 4S 3.5 inch screens. Apple's march towards a larger screen follows the trend initiated by its Samsung and Nokia (NOK) rivals. Tsukayama opines that Apple may create an exaggeratedly vertical design for its iPhone 5 screens. Going vertical allows for improved visuals that will not compromise the feel of this handheld device for making calls.

Beyond technical specifications, Apple still retains its monopoly upon je ne sais quoi, or American "cool." The Apple logo emboldens the counterculture set within a closed circuit loop of music, communications, design, literature, and functional computing. The Apple iPhone 5 will be the latest node within the carefully crafted iTunes, iMac, and iPad matrix. As such, sales will benefit from the ongoing halo effect that is reinforced through quality upgrades. More than anything, the Apple iPhone 5 will be the latest must-have attache to remain part of the "in" crowd. And with that, comes pricing power above competitors.

The [Lack Of] Competition

Nokia, Microsoft (MSFT), Google (GOOG), Samsung, and Research in Motion (RIMM) are all scrambling to destroy Apple's monopoly on "cool" and steal share. Microsoft has never recovered from Apple's series of devastating "I'm a Mac. I'm a PC" ads that began in 2006. These commercials personify the Apple brand as a chic, yet functional leader. Alternatively, Microsoft is a bespectacled beta follower in a tweed suit. The degenerating Microsoft - Nokia partnership has only reinforced images of a corporation languishing behind the times.

In February 2011, Microsoft executives literally boarded a plane for Finland and dropped off briefcases full of cash at Nokia headquarters. One year later, rapper Nicki Minaj kicked off the Nokia Lumia - Windows phone launch at Times Square in spectacular fashion. From there, AT&T and Nokia combined to offer subsidies and coupons that practically gave away Lumia phones retailing for $99. Despite the backing of numerous heavyweights, Stephen Elop, Nokia CEO, describes Lumia performance reviews and sales figures as "mixed."

On June 22, 2012, The Wall Street Journal reported that Microsoft would not offer Windows updates on Nokia Lumia phones already in circulation. Concurrently, Microsoft detailed plans to provide mobile software for Chinese handset maker Huawei Technologies. Yes, Microsoft has agreed to compete against its own partner that is fighting to survive.

The botched Microsoft - Nokia partnership highlights structural hierarchy within the smartphone market. Competitors have ceded premium territory to Apple. Instead of challenging Apple quality, Nokia, Google, Samsung, and Microsoft are battling against each other to manufacture functional product. The Google Android and Microsoft Windows operating systems are commoditizing the smartphone, rather than innovating. As such, these companies are not in Apple's League, and are forced to compete against each other on price.

The Bottom Line

In response to Apple's latest miss, investment analysts are scrambling to revise forward earnings estimates downward. Peter Oppenheimer, CFO, offers conservative guidance for Q4 2012, in which he expects $7.65 in earnings per share on $34 billion revenue. Contrary to this perceived race to the bottom, Apple shares remain wildly cheap relative to income growth. At $575 per share, Apple stock trades for fourteen times earnings, despite the fact that this company is averaging 66 percent profit growth these past four years. Although, Amazon profit growth decelerated by 54 percent this past year, Wall Street still values this corporation at 180 times earnings.

The Apple business is a cash cow. At present, Apple carries $117.2 billion in cash and investment securities on its balance sheet. This liquidity is up significantly from last year, when Apple operated with $81.6 billion in cash and investments. On a per share basis, $117.2 billion in cash and investments breaks down to $125. With this money, Apple can pay off all debt, and even offer large, special dividends periodically.

For the time being, Apple shareholders are sitting pretty. At the very least, Apple stock performance should parallel the S&P 500 Index, while the company pays out healthy quarterly dividends. In the aftermath of a disastrous iPhone release, Apple would then transition into a beta stock along the lines of Microsoft.

Behind a successful iPhone 5 product launch, however, Apple would further build upon its status as a story stock. The looming iPhone 5 release alongside ongoing growth in iPad sales is likely to undergird another wave of outperformance for Apple shares. Fawning Apple cheerleaders, of course, foreshadow an "unprecedented" product launch for iPhone 5. According to Christina Warren, the iPhone 5 will "shatter" sales records, as Apple is set to ship more than 100 million units out the door.

Well, it is high time to either put up or shut up.

Disclosure: I am long AAPL.