Why Apple’s low guidance has market disturbed

I will be updating this post as I fill in some details. So check back as I update. Right now Apple is trading at $485 and breaking through a neckline head and shoulders top pattern to the downside. The technicals here are not good.

Here’s what I wrote earlier today:

I am expecting a good quarter from Apple as we always see when they release new products. If there is any weakness it will be in term of margins and product mix. Where my concern lies is in the Apple product cycle. This MarketWatch article gets it right in talking about a boom-bust cycle for Apple of late, something I believe has wholly to do with the advent of Android as a serious competitor. In the past, Apple could release products and ride those innovative products through a full year’s product cycle without any hiccups due to the fact that they faced few competitive threats. But now, Android offers not just a major competitor in Samsung, but also a platform with a relentless product cycle of other manufacturers releasing product all year long.

So the problem for Apple is that its product cycles are too long and this leads to market share erosion. Apple has now moved to a multi-release product cycle as I previously wrote was rumoured. I don’t think this will be nearly enough. Android will take share, and this will pressure Apple’s revenue growth, margins, and earnings in 2013. My expectation then is that Apple has a decent or a good quarter, makes its numbers but releases disappointing guidance as it sometimes does. However, in contrast to in the past, this guidance will not be seen as a lowballing beat-the-number ploy on Apple’s part. Low guidance will be seen as a sign of weakness, margin compression and slowing growth.

That’s my thinking. Let’s see what we get.

Here’s the deal: Apple’s halo effect has gone and investors are not impressed by Apple’s earnings guidance. This quarter’s earnings is proceeding exactly as I indicated it would earlier today: poor margins and product mix leading to angst over the low Apple forward guidance.

Apple’s guidance for the quarter just ended was for revenue of $52bn and EPS of $11.75. I saw consensus expectations much higher with revenue of $54.5bn and EPS of $13.34. So, Apple guided low and consensus estimates were much higher, as is always the case. Apple then reported EPS of $13.81, beating estimates. The company sold 47.8 million iPhones compared to 37 million a year ago and 22.9 million iPads compared to 15.4 million in that period. So mobile is increasing sales volumes. iPods and Macs are not. Apple sold 4.1 million Macs compared to 5.2 million in the quarter a year ago. It also sold 12.7 million iPods compared to 15.4 million in that quarter.

Of significant note, the Q1 2013 gross margin was 38.6 percent compared to 44.7 percent in the year-ago quarter. And while revenue increased 18% from $46.3bn to $54.5bn, net income was flat at $13.0bn because of receding net margin. That tells you why Apple is under pressure. 

But forward guidance was weak for Q2 2013 on revenue and gross margin. Notice that revenue is significantly down:

  • Revenue between $41 billion and $43 billion
  • Gross margin between 37.5 percent and 38.5 percent
  • Operating expenses between $3.8 billion and $3.9 billion
  • Other income/(expense) of $350 million
  • Tax rate of 26%

Bottom line: Apple ALWAYS guides low. The difference now is that the market believes the guidance is weak because earnings will be weak. The halo effect is gone because people realise that the narrative I have given you of Android killing Apple’s top line growth and margins is going to lead to EPS under-performance.

Again, update coming. I am listening to the call right now.

I am going to finish the post with this: Apple is now telling us on the call that it is changing guidance to represent a realistic range that it believes it will achieve in the next quarter whereas in the past, it released conservative single number points. That reinforces the idea that the guidance is not good and that Apple’s coming quarter will be disappointing since the guidance is low.

I continue to believe that Apple’s earnings will be under pressure and that the stock price will fall.

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