After Apple (AAPL -0.81%) reported earnings and operating results that fell short of some of the lofty expectations that had been set by analysts, the stock immediately tumbled in extended-hours trading. The question you must now ask is whether the sell-off is justified, or whether it's an overreaction that creates a great buying opportunity. Ultimately, when you remove the expectation element from the figures, what remains is a great company that is trading at a very attractive multiple. While there are certainly risks from the downward momentum of the stock, over the long haul, Apple is a buy at current levels.
The hard numbers
When Apple announced after Wednesday's bell, much of the reporting focused on the fact that Apple had missed revenue expectations for the third straight quarter. The company reported revenue of $54.5 billion, which was below the average estimate of $54.73 billion. For anyone doing the math at home, that is a staggering 0.42%, which totally justifies the nearly 10% the stock shed in after-hours trading... except, no -- not at all.
To put some of this into perspective, the company reported net income of $13.07 billion, which translates to $13.81 of earnings per share – the average analyst estimate had been for EPS of $13.47. Net income was, therefore, roughly flat compared to the $13.06 billion in the same period a year ago, although much has been made of the fact that last year's quarter was nearly a full week longer. Gross margin slid from 44.7% to 38.6%, which, while representing a significant decline, is above the danger level. In a recent Bloomberg article, contributing editor Paul Kedrosky suggested that 37% was the magic number for Apple in terms of staying above the a level that would warrant concern.
The most-watched iDevice
While it is unusual for a sales figure to trump the actual earnings numbers in terms of importance, there was a wide consensus that the number of iPhones sold was the headline statistic of consequence. This was not good news for Apple. The company sold an impressive 47.8 million iPhones – which represents a 29% increase from the same period a year ago– and still the market was extremely displeased. The average analyst estimate had been for 50 million units.
All eyes on China
The brightest spot of the release was the figures pertaining to China and the announcement that moving forward, Apple will break out the statistics on China as a part of regular reporting. The region accounted for $6.83 billion in sales, which represents a two-thirds increase over the $4.08 billion in sales a year earlier. Tim Cook also stated that iPhone sales in China doubled in the quarter as he made clear the importance of the country for Apple's future growth.
Deciphering the results
By nearly any estimation, the results achieved by Apple in the quarter go well beyond solid to land squarely in the realm of enviable. It is hard to imagine how selling over 47 million iPhones can become a clear indication that Apple is losing its "dominance" in smartphones. On the one hand, that dominance is a myth, when one considers that Google Android commands a 68.3% market share, according to IDC. Perhaps more important, however, is the fact that Apple sold over 47 million iPhones.
While a legitimate question exists as to whether Apple's strategy of remaining a purely premium product is advisable in the emerging markets, where Google has a huge lead based on price, 47 million is nothing to sneeze at. I do not mean to suggest that the 50 million device average was purely arbitrary, but it was just that -- an estimate. Apple solidly demonstrated its ability to sell a lot of smartphones; the figure represents a 78% sequential increase over the September quarter (but you must figure in the release of the iPhone 5).
If we want to stay on real concerns, you could equally question the role of Apple in China given the major win by Nokia (NOK) to partner with China's largest wireless provider, China Mobile. With much of China just making the transition from 2G to 3G, the release of a premium smartphone like the iPhone 5 will not have the same impact as Nokia's wide range of product offerings, many of which are specifically designed to interact with the Chinese wireless infrastructure. Given the importance of China, Nokia's first-mover status qualifies as a legitimate concern moving forward.
As the stock is currently trading, Apple has a forward P/E ratio of around 9. For reference, Google is trading at a forward P/E of 13.8. Almost any way you slice it, Apple shares look very cheap at current levels. While meeting expectations is a critical part of the trading cycle, it is not the only measure. With that in mind, one must wonder if Apple's move to begin giving a forward range for guidance, rather than a static number, may be driven by analyst expectations that clearly ignore overly conservative guidance. Ultimately, the earnings results look much better than the market is giving the company credit for, and the stock is a buy.
