Thursday, October 19, 2006

Color on quarter: Apple Computer (NASDAQ:AAPL)

Mostly positive comments on Apple Computer (NASDAQ:AAPL) following results:

- Piper Jaffray thinks the formula is working. The 68m iPods sold in the past five years (39m of those were sold in the last 12 months) are translating to the resurgence in the Mac platform with worldwide Mac market share increasing from 2.1% in March of 2006 to 2.8% today. They believe in 6 months the halo effect will expand beyond a simple iPod-to-Mac correlation into a four-way relationship with iPod, Mac, iPhone, and iTV benefiting from each other's success. If this plays out, Apple's growth rate should accelerate in 2007.

While the firm was modeling for Mac to benefit from pent-up & back-to-school demand in September, the magnitude of the pent-up & back-to-school demand exceeded our expectations. They view December as the "rubber hits the road" quarter for Mac, given December will not benefit from as much pent-up demand from the Intel transition.

The company shipped 8.7m iPods in the quarter, which was above the "in-print" consensus
iPod unit estimate for the quarter of 8.6m. Most importantly, Mac units were also ahead of the Street's 1.47m consensus expectation, coming in at 1.61m.

The company's outlook for the December quarter is GAAP EPS of $0.70- $0.73, which includes $0.03 of stock-based comp expense, leading to proforma EPS of $0.73-$0.76 on $6,000m-$6,200m vs. Street estimates of $0.77 on $6,455m. The Street had generally been expecting Apple would provide conservative guidance, but the firm would note that the company has exceeded its revenue outlook by an average of 8% over the last 7 quarters.

Reits Outperform and $99 tgt.

- JP Morgan notes that as they anticipated, robust Mac shipments were the highlight in the
quarter, with 56% growth in notebooks. Overall growth of 30% exceeded market growth of 7% for the quarter. Surprisingly, even with this strength Apple exited the quarter with lower than normal channel inventory levels.

iPod shipments of 8.73 million in the September quarter were a bit short of firm's estimate of 8.78 million. Nevertheless, this was likely better than consensus expectations, and management's commentary around demand patterns exiting the quarter was encouraging.

They are adjusting their estimates upward primarily to reflect more conservative iPod unit and ASP assumptions. But this could reverse once Apple's branded cell phone is launched, since this product is not included in firm's model.

The stock is currently trading at 23x calendar 2007 EPS (ex-options) estimate. Firm expects the iPod's momentum to improve through the holiday season as we get a full quarter of the sales from the refreshed products. In addition, they believe the company's Mac share gains will continue to gain momentum over the next year. As a result, they are reiterating Overweight rating.

- Banc of America notes that one major issue they identified was gross margins. - mgt did indicate that gross margins would be down q/q about 100 basis suggesting that firm's thesis on recent product price cuts negatively impacting margins is appropriate - though they
believe that they may have overestimated the magnitude. Net, the firm is modestly increasing their gross margins by 10-30 basis points in the back half of the year, though largely offset by higher op ex, leaving operating margin little changed.

Near-term, a reversal of negative sentiment (helped by better iPods) will help support the stock. As they look out to MacWorld in Jan 07, they see a plethora of potential product launches to keep investors engaged in the long-term story. Firm retains Buy rating with the potential of product launches, plus continue strength in CPUs, as the major catalysts, with a key focus on MacWorld product launches.

Notablecalls: I suspect some pretty large short poistions were built ahead of the results. Most of these will now be covered. The logic behind these positions was that there would be a gap between the iPod and the iPhone that the co would have hard time filling. Didn't happen this time. I continue to suspect it will happen in CQ4.

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