The Game of Predicting Apple’s Earnings

This article also appeared at The Motley Fool

Every quarter there are hundreds if not thousands of articles and posts from amateurs and professionals alike predicting Apple’s (NASDAQ: AAPL) Earnings. Most of them are based on attempting to estimate how many iPhones, iPads, Macs, etc. Apple sells, and in the process attempting to predict component costs, and margins. Then these articles seem to make some kind of model to forecast Apple’s earnings based on a complex set of data that is hard to predict.

Sometimes analysts and bloggers have help from other sources like announcements from carriers about the number of iPhones sold. Sometimes rumors are the source of the predictions. However, for many quarters after the iPhone first launched, Apple managed to beat even the most optimistic numbers. This caused analysts and bloggers to set even loftier expectations on Apple, which Apple then proceeded to fail to meet partially causing the stock to drop. However Apple has been pretty consistent when it comes to beating their own numbers. For a previous article I made this chart and here will analyze it further to try to get a better view of predicting Apple’s earnings and join the prediction bandwagon.

So this shows that Apple is getting less conservative in their guidance, but still consistently beating their own estimates. Just based on this chart and using a 20% EPS beat and a 10% revenue beat we’d have predictions of $14.10 for EPS, and $57.2 billion for revenue.

Let’s look at another chart of their actual revenue and EPS:

The trendline numbers in this case are $46.5 billion in revenue and $14.20 EPS. Now the $46.5 billion in revenue is too low, so Apple will likely blow past this trendline just like last year where the Q4 number of $46.3 billion is way past the trendline number of $32 billion. However if you look at the EPS number of $13.87, that is also way past the trendline number of 8.75 in Q4 2011. If we assume $57 billion in revenue as above, keeping margins consistent we would have EPS of $17.

This implies some kind of change from Apple – a very low EPS for what is a very high revenue. That implies some kind of margin contraction. There are many theories about the problem amongst which the most prominent is “poor” iPhone5 sales. I put poor in quotes because poor is relative. Analysts expected Apple to sell 65 million iPhones in this quarter which have since been revised downwards to 43-63 million. Hence “poor.” Neither 43 million nor 63 million is in any way a poor number. But nobody has yet provided a convincing reason for the margin contraction. Initially my own reasoning for that was manufacturing difficulties of the iPhone 5. But now I believe that it is possibly a combination of factors the most important of which is the iPhone and iPad mix.

Apple severely overcharges for their middle model and slightly overcharges for the top end model. For example the 32GB model of the iPhone costs $100 more than the 16GB model. This $100 provides only an extra 16GB. However the 64GB model which provides an extra 32GB also costs another $100 more. Now as developing market sales become more responsible for Apple’s growth, the product mix will move towards the cheaper device that has comparatively lower margins.

However, knowing how conservative Apple is about numbers, we should assume that the numbers cover the possibility that the iPad mini was a dud. The iPad mini can be assumed to be a high margin device because it is made from older cheaper components and is far more expensive than the competition. The sales numbers are unknown and when the device was launched, Apple failed to separate iPad mini numbers from iPad numbers for initial sales. However based on current rumors the device was a success.

So I think the margin fears are overblown. So let’s say we stick with trendline numbers for EPS to be on the conservative side – $14. And if we are super conservative about the revenue, lets say Apple only beats their own estimate by 5%, we’d have $54.2 billion in revenue. Even these conservative numbers would imply great continued growth. Apple is of course likely to beat these numbers and my hope is for somewhere between $14-$17 EPS, and somewhere between $54 and $57 billion in revenue.

Looking beyond this quarter just based on the EPS and revenue trendlines, FY 2013 earnings would be $69/share on revenue of $214 billion. However, I feel that depends on Apple being able to produce devices that actually catch up and leap beyond the competition soon. The iPhone 5 and iPad mini were fairly poor specifications-wise, and newer larger phones from the competition and cheaper better specced tablets will provide significant competition. This is especially true because Apple product cycles are longer and Apple more often than not avoids newer technologies (like they are currently avoiding NFC, wireless charging and they previously avoided both 3G and 4G for a while). Also beyond the next year Apple’s continued growth depends on entering new markets.

Now the average analyst estimates for EPS is $13.41 ($11.97-$15.50) and revenues of $54.70 billion ($52.29-$59.55). If Apple misses, I think the stock would drop down to the $450 level. I find that event unlikely, but I have been wrong.

Disclosure: Own AAPL

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