On Tuesday afternoon, Apple, (NASDAQ:AAPL) reported solid earnings for Q3 of its 2014 fiscal year. However, investors have a tendency to look past earnings numbers for the seasonally weak June quarter, instead focusing on guidance for the upcoming quarter.
On one level, this makes sense, as Apple has released new iPhones during the September quarter for the last two years -- and is expected to do so again in 2014. However, Apple's Q4 guidance is meaningless in terms of projecting demand for new products like the iPhone 6. Investors would be better off ignoring the guidance and waiting for more solid information.
Apple's Q4 guidance calls for revenue of $37 billion-$40 billion, compared to $37.5 billion in Q4 of FY13. Gross margin is expected to be 37%-38%, compared to 37% in Q4 last year. Based on the midpoints of these projections and the other parameters Apple provided, EPS would work out to approximately $1.22.
That's almost 10% below the average analyst estimate for Q4 EPS, which is $1.34. Even if all of the parameters came in at the favorable end of the guidance ranges, EPS would amount to about $1.32, still a bit shy of what analysts are expecting.
Uncertainty: the small caveat
One reason why investors shouldn't put too much stock in Apple's guidance is that Apple has not yet revealed the iPhone 6 launch timeline. (Indeed, it's possible that Apple hasn't nailed down a firm schedule internally.)
The exact timing of the iPhone launch matters a great deal. Last year, Apple sold 33.8 million iPhones during the September quarter -- of which more than 9 million were sold on the launch weekend for the iPhone 5s and iPhone 5c. Those two phones were on the market for just nine days during the September quarter, but likely accounted for about one-third of Apple's iPhone sales.
If Apple manages to accelerate the iPhone launch by a week, it would provide a big boost to revenue and earnings this quarter. On the flip side, if the launch slips by a week, Apple would only have two days to sell the new iPhone in Q4, pushing a lot of sales into the December quarter. It's also unclear if Apple will be launching a "phablet"-type phone in the September timeframe.
Thus, Apple's revenue and earnings for this quarter depend heavily on the timing of the iPhone 6 launch, and initial inventory levels. Creating projections for Q4, therefore, involves a lot of guesswork on Apple's part.
Last year, Apple's revenue came in above the high end of the initial guidance for Q4. Gross margin reached the high end of the guidance range, while operating expenses came in somewhat below expectations. It's quite possible that the guidance Apple just provided is equally conservative.
Supply vs. demand: the big caveat
An even bigger reason to take Apple's Q4 projections with a giant grain of salt is that it doesn't provide any information about projected demand -- let alone real demand -- for Apple's products. As noted above, in recent years, new iPhones have arrived near the end of Apple's Q4, and the same is likely to be true this year.
These iPhone launches are routinely characterized by supply/demand imbalances. Last year, the iPhone 5s was in short supply as late as December. Apple is expected to introduce larger screen sizes with the iPhone 6, which many customers have wanted. This has led to widespread expectations that the iPhone 6 launch will drive an especially strong upgrade cycle.
However, Apple's September-quarter results will bear little or no relation to demand for Apple's new products. Even if demand were uncharacteristically low, Apple would still probably face shortages of its new products within a few days of the launch. Instead, supply will be the key constraint on sales this quarter.
Supply constraints won't have much of an impact on long-term sales, though. People who have waited years for a big-screen iPhone aren't likely to defect to a different brand just because they have to wait an extra month or two due to initial shortages. Apple has consistently shown in the last few years that it can boost production rapidly to meet demand within a quarter or two of a new device launch.
Thus, Apple's September quarter performance will be determined primarily by supply issues, whereas its FY15 results will depend on demand for its new products. Investors are going to have to wait a few more months to get a better sense of what these new products will be, and how well they will sell.
Apple investors are sure to pick through the company's recent guidance for hints about its future earnings trajectory. However, this is a hopeless cause. Apple faced a high level of uncertainty in putting together a Q4 forecast, because so much depends on the timing of the iPhone 6 launch, and initial supply.
Most importantly, Apple's Q4 sales will be heavily determined by supply constraints, whereas demand will be the main determinant of sales in the following year. As a result, investors will need to be patient, and wait for more information to understand how Apple's new products will impact its financial results.