What’s with the Irrational Preoccupation of Apple’s Guidance?

Seriously now! What's with Wall Street's obvious narrow-mindedness when it comes to Apple's guidance? We all know that Apple guides conservatively every quarter, and every quarter we all know that Apple handedly beats its proffered estimates. Yet, for some reason unbeknownst to anyone with at least a shred of intelligence, the media, Wall Street and the uninformed investor get completely caught up in the same old obtuse story: "Will Apple's conservative guidance disappoint investors?" To that I answer: only if the investor is an idiot. Wall Street is like a child who hasn't realized that touching a hot stove burns until after the fifth attempt at doing so.

Every management team in the financial world has its own unique way of doing things. Apple just tends to be overly conservative in its projections. Investors should be lucky that Apple even offers guidance at all. Yet, instead of praising Apple's management for its outstanding job in managing expectations over the past few years, the media, Wall Street and its investors "sells apple short" (pardon the pun) by continuing to be transfixed on this inconsequential rubbish.

It's up to the investor to try and interpret how management really feels about the company's prospects by following trends in management's guidance. Just because Apple's management projects that Apple will earn $1.00 in EPS doesn't mean that's what management "really" believe Apple will actually earn. One should always take Apple's guidance with the biggest grain of salt.

Take OpEx for example. Apple has consistently reported operating expenses about $40 million above its estimates over the past year (give or take $1 million). Should one really have me believe this is a mere coincidence? I think not. Apple's management knows ahead of time how much it will likely expend in administrative and R&D expenses, and sets its guidance according to what it believes will be the best way to manage expectations. Likewise, Apple's management has a pretty darn good idea of how much it will earn in any given quarter, and guides with bias toward managing expectations.

Apple's management almost certainly had a meeting sometime last fall regarding how conservative or aggressive it plans to be in 2008 vis-à-vis its guidance. And based on what it concluded to be in the best interest of the company, management decided to be a little less conservative than it has in the past. This is evidenced by the obvious shift from the regular 50% beats Apple would report on its EPS guidance during 2007 to the mere 23% beat it reported in each of its first two fiscal quarters of 2008. Management likely correctly determined that expectations had gotten so out high that it had to be a little more aggressive in managing expectation – and I emphasis only a "little more" aggressive. The table below exhibits the obvious shift in Apple's guidance strategy with regards to EPS:

Fiscal Quarter	Apple's Guidance	Apple's Actual	Percentage Beat
FYQ2, 2008	$0.94	$1.16	23.4%
FYQ1, 2008	$1.42	$1.76	23.9%
FYQ4, 2007	$0.65	$1.01	55.4%
FYQ3, 2007	$0.66	$0.92	39.4%
FYQ2, 2007	$0.55	$0.87	58.0%
FYQ1, 2007	$0.73	$1.14	56.0%

As anyone can see, the table above implies that Apple has shifted its strategy from being ultra-conservative with its EPS guidance to being just conventionally conservative in the ordinary meaning of the term. Based on the trends above, Apple probably expects to report anywhere from a $1.20 to $1.24 in EPS; or at least that's what Apple's expectation were heading into the quarter. The investor shouldn't be so shocked to see about $1.24 in EPS this quarter. Yet, analysts will do what they do best—mess up an easy call and get it complete wrong; and investors will do what they do best—be as surprised as they are uninformed and act in a correspondingly irrational way.

Finally, if you're even wondering whether Apple will guide below consensus estimates this quarter, then you should probably rethink whether equity investments is the right thing for you. Don't hold your breath. Apple is probably going to guide well below consensus estimates. It has generally done so in the past and will probably do so in the future. The table below compares Apple's guidance with analyst consensus estimates at the time of Apple's earnings report.

Fiscal Quarter	Apple's Guidance	Consensus Est.	Difference	EPS Actual
FYQ3, 2008	$1.00	$1.10	10.0%	N/A
FYQ2, 2008	$0.94	$1.08	14.9%	$1.16
FYQ1, 2008	$1.42	$1.39	-2.2%	$1.76
FYQ4, 2007	$0.65	$0.82	26.2%	$1.01
FYQ3, 2007	$0.66	$0.72	9.1%	$0.92
FYQ2, 2007	$0.55	$0.64	18.2%	$0.87
FYQ1, 2007	$0.73	$0.78	6.8%	$1.14

Despite the fact that Apple consistently guides below expectations, it still easily beats the consensus. In Q4, Apple guided a full 26% lower than the street, and yet beat those estimates by 23.17%. So what's the point of being concerned with guidance that Apple always beats? Guidance should be used as a "guide" to help determine what Apple will report in any given quarter based on understanding the thoughts and predispositions of Apple's management. Not as an indication of whether Apple believes business has slowed.

Thus, Wall Street, investors, and the media really need to stop focusing on Apple's guidance as if it were the boogie-man of the technology sector. It's not the end all and be all of anything. If you need a reason to sell Apple, then blame it on your fabricated recession. Blame it on Apple's write downs of its subprime loans. But blaming it on the guidance thing is really starting to get old.

Disclosure: I own long term 2009 and 2010 call options in Apple. The information contained in this blog is not to be taken as either an investment or trading recommendation, and serious traders or investors should consult with their own professional financial advisors before acting on any thoughts expressed in this publication.