AAPL 2Q13 Preview; Expect Ugly Guidance

Revenue: $41.1 billion (AAPL guidance: $41-43 billion/Consensus: $42.5 billion) 

• I expect Apple’s revenue to increase 5% year-over-year.

GM: 38.1% (AAPL guidance: 37.5-38.5%/Consensus: 38.5%)

• Apple continues to feel margin pressure from its current product lineup. Management’s margin guidance is approximately 940 basis points less than the 47.4% margin reported in 2Q12. 

EPS: $9.55 (Consensus: $10.07) 

• I expect Apple to report a 22% yoy EPS decline. My $9.55 estimate is less than the Street’s $10.07 average.

Product Unit Sales and Commentary

Macs: 3.7 million (8% yoy decline)

• Mac sales continue to slow as tablets and smartphones satisfy many consumers’ computing needs. I assume declines in both desktops and portables.

iPad: 15.5 million (31% yoy growth)

• I expect Apple to report solid iPad sales for 2Q13. My iPad estimate assumes approximately 8-10 million iPad mini sales and approximately 1-2 million units added to channel inventory in order to meet management’s target range. 

iPod: 6.1 million (20% yoy decline)

iPhone: 36.5 million (4% yoy growth)

• With iPhone channel inventory already within management’s target range, I expect Apple to report a significant slowdown in iPhone unit growth (30-90% unit growth over the past four quarters vs. 4% in 2Q13) as the smartphone market matures. Verizon activated 4 million iPhones in 2Q13 and if Verizon represents a similar share of total iPhone sales during the quarter, my 36.5 million unit estimate may be too optimistic on the order of 20%. If iPhone sales are trending closer to 30 million units, I think Apple may resort to stuffing the channel by at least 1-2 million units, resulting in a bear case of approximately 31-32 million iPhones (resulting in EPS around $8.60).

Unless earnings estimates come down drastically in the coming days, I expect Apple to miss consensus EPS on Tuesday.  

In terms of 3Q13 guidance, I am expecting revenues of approximately $30-32 billion and 38-39% margins (which would equate to EPS of approximately $6.20-$6.40, or a 30% decline from 2012). The prospect of no new product launches until CY3Q13 (i.e. after June 30) will pressure iPad and iPhone sales. 

Apple is currently in somewhat of a financial funk as the company battles Wall Street’s expectations game. The high-end smartphone market is becoming saturated, while the booming success of the tablet market is resulting in difficult yoy unit sale numbers. Heading into 1Q13 earnings, I thought the market was already expecting bad news, including weak guidance. I was wrong.  Heading into 2Q13 earnings, consensus is for an EPS decline, but I am not convinced the Street is being realistic with 3Q13  and 4Q13 expectations as consensus numbers still look aggressive.

Quick Note on Capital Management

Some observers are predicting Apple management may try to shift attention away from weak guidance on Tuesday by announcing its latest thoughts on capital management.  While anything is possible, I’m not convinced of that tactic’s effectiveness. Instead, Apple may be better suited to let the dust settle from the current earnings cycle before acting on its updated capital plan.  At the current trajectory, Apple may be in a position to announce a multi-year share buyback authorization representing up to 20% of outstanding shares. More importantly, management will probably have to address its $94 billion of offshore cash as Apple has “only” $43 billion of cash currently available for capital management.  A growing number of industry observers think raising debt is part of Apple’s solution to its offshore cash “problem”.  While there may be financial merit in raising debt in the current environment, such an action would mark a significant new chapter in Apple’s history.