Riding the bouncing Apple

(Note, this article was originally written with Apple at $95. Within 24 hours it had dropped 5%)

After my cautions last week on Apple stock having a high price I sold some covered calls on my position. That caution seems well placed today. The company reported a blowout quarter but tempered expectations for the future and the stock fell.

During the final three months of 2006, Apple said it earned $1 billion, or $1.14 per share, compared to $565 million, or 65 cents a share, in the year-ago period.

Revenue for the quarter hit a record, reaching $7.1 billion, up 24 percent from $5.7 billion the previous year.

Analysts, on average, were expecting earnings of 78 cents per share on sales of $6.42 billion, according to a Thomson Financial survey. That means Apple beat earnings targets by 46%. Much more importantly they reported profit margins of 14% versus 10.6% predicted (why, oh why doesn’t the financial press report these numbers).

The reasons for all those earnings were roughly in line with what was predicted here during initial stock coverage. In particular this was part of the original analysis: “Because Macs are still only 3% of the computer market, so if they grow to just 4% of the market it means growing 45% of Apple’s sales by 30% -- or an overall 13.5% sales growth right there.” Guess what? The IDC market research firm reported Wednesday that Apple's share of the PC market in the U.S. had grown to 4.7 percent in the quarter, up from 3.6 percent a year ago.

Despite all this I am calling the next six months for apple as “choppy and bouncy.”

Why? Well, for starters Apple forecast fiscal second-quarter revenue of $4.8 billion to $4.9 billion and earnings per share of 54 cents to 56 cents. Analysts had projected revenues of $5.22 billion and earnings per share of 60 cents, according to Thomson Financial. Lowered earnings will damp the stock upside in the immediate future.

In the intermediate term I think Apple TV has great promise and the iPhone could be the next iPod, but both are farther from profits than the market is pricing in right now (see here for a primer on net present value). The iPhone won’t even launch for 6 months and there are a number of issues that may prompt many people to wait until the second version comes out (example: many road warriors want a cell phone that accepts a spare battery).

All the good news is priced in. Potential bad news could come from the iPhone rollout (delays?) or the SEC investigation into Steve Jobs’ role in stock backdating, for example. Apple is one of the most volatile stocks around, so expect an appropriate ride.

That’s why I think Apple stock will be a rollercoaster for a while. If you bought when I called it near $50 you can sell and watch or ride the coaster, or try to make some money selling covered calls like I am. I’m not too worried about having the stock called away because I believe there will be buying opportunities as we move forward.

Invest Well,

FW