How to Interpret Apple’s Revenue on Tuesday

| Analysis

There will be much ado about Apple earnings report on April 23. In order to better understand Apple's results, I want to analyze Apple's new approach to reporting its revenue guidance for the next quarter. The analysis involves computer models and Ferraris.

Yes. Ferraris.

What I want to address, eventually, is Apple's new way of predicting a range of revenue in its quarterly guidance.  But, to do that, I want to invoke an analogy.

Earlier this year, I was reading the February 2013 issue of Car and Driver. Starting on page 22 is a report on how various cars, in specific price ranges, performed at the Virginia International Raceway (VIR), a 4.1 mile course. It's a fun article, but what caught my eye was a comment on page 37 about the Ferrari 458. Ferrari has a computer simulation that can predict a lap time given the car and conditions, and in this event, the Ferrari team told C&D that a "good" lap time would be 2:49.0. (2 minutes, 49 seconds.)

I haven't checked with Ferrari, but from my own computer modeling experience, I'm sure that their digital model has inputs for the weather, elevation, course geometry, road surface and slant angles. And then there are the car parameters: horsepower and torque curves, tire size and adhesion, the suspension and so on. By integrating the forces on the car as it moves around the track, one can predict the lap time.

Image Credit: Ferrari

C&D's driver ended up with a 2:49.9, just a tad off the predicted "good" time. What that tells me is that 1) the magazine's driver almost fully exploited the capability of the car as well as 2) that the Ferrari team has a pretty good model, which they've probably tuned after many years of racing.

Of course, there are uncertainties in the data inputs to the model and there will be approximations to the details of the physics involved. Ferrari could have given C&D bracketed times, but for simplicity, the target time of 2:49.0 was good enough.

Even so, and this is important, lap times by experienced race car drivers vary by a few tenths of a second (if nothing has changed) not by five or 10 seconds. So if the same driver were to rerun the VIR, we'd expect to see, say, 2:49.5 or maybe 2:48.8. But not 3:05.0 or 2:40.0.

Apple's Historical Method

Turning to Apple now. Each quarter, Apple provides guidance to analysts and investors for its revenue in the coming quarter. It used to be that Apple would, like Ferrari above, provide a single number.

The historical problem with a single number, mathematically, is that it's very likely Apple would miss the exact number. Anything less is perceived as a failure. And in the racing example above, we know that there's an expected range given the driver, car and course conditions.

The Scotty Principle

At the last Apple earnings report, Apple's CFO Peter Oppenheimer announced that guidance for earnings would be reported differently from now on. Instead of a single number, Apple would predict a range. You can read more details about that in Jeff Gamet's terrific article from January 23, "Apple Dumps 'Scotty Principle' for Financial Guidance."

Basically, to avoid a misperception problem, Apple would, in the past, provide a conservative estimate, sandbagging, and the company would always exceed that conservative number, making them look very good indeed.

In time, analysts learned that Apple trick. Of course, the downside of the Scotty Principle was that no one could confidently predict how much better Apple might have done. External models were not likely to be as good as Apple's because Apple has access to all kinds of internal sales and customer data. Plus, there was no transparency into Apple's model and its predicted limits. In the end, analysts had enough of that game and so did Apple.

The key section in Mr. Oppenheimer's January 23 announcement was:

To further increase transparency we're changing our guidance approach. In the past, we've given a conservative estimate. Going forward, we plan to project what we are likely to achieve."

Those who are familiar and modeling and statistics will be keen on the word "likely." Another way of saying this is that it is unlikely that Apple's revenue will fall outside the predicted range. For Q2, 2013, to be reported on April 23, that range is [$41 billion - $43 billion].

Expectations of a Model

Any good model has a way of predicting a range of outcomes, based on the uncertainty of the inputs. In the combat models I've worked with that's called a stochastic process. A random number generator is used to vary uncertain inputs, the model crunches and the result is some confidence in a range of likely outcomes.

When Mr. Oppenheimer provides a range, and says he's confident that that represents the likely result, he's not just guessing. Instead, he has some confidence in the range based on expected variations in the input parameters. The better the model is, the narrower the range in expected results.

Because the range of the predicted results, $2 billion, is small compared to the total number, the model would appear to be fairly good.

Analyzing the Results

If Apple's revenue lands inside the $41 to $43 billion range, that's a success. Because the model has an inherent range of likely results, one cannot claim that if Apple comes in at $41.1 billion that that's a failure because it's in the "low" end of the range. Instead, it's a success because Apple performed according to expectations, within the limits of predicted error.

It's like the race course analogy above. The Ferrari team prediction model is analogous to Apple's financial model. The driver's performance in lap time is like Apple's revenue performance. There's a range of expected times, centered on a "good" lap time, and statistics and human error result in a slight variation, by a few tenths of a second. Really bad lap times, a spin out, would be reflected in much bigger variations than the small statistical fluctuations. To put it another way, no other driver (Stig?) who achieved a 2:49.7 would seriously claim that he's a better driver.

Similarly, a "bad" result for Apple can only be declared if the revenue falls below the predicted number of $41 billion. That's an unlikely, unforeseen result. Something changed. Customers dramatically, quickly changed their behavior. A factory went on strike and parts weren't available. Something.

Similarly, anything greater than $43 billion, while a plus, is also unlikely. It would therefore be irresponsible to claim that Apple should have done better. It would be like, to put a dramatic point on it, like a fan at a car race, like the one cited above, saying:

"Well, that magazine's driver is an idiot. He should have been able to turn in a 2:30 lap."

Everyone, the magazine editors and the Ferrari team, would just shake their heads and declare the guy, with his beer can in hand, an uninformed idiot. They understand their model.

Summary of the Analysis

  • If Apple comes in at less that $41.0 billion, that's failure. Tim Cook will have to explain.
  • If Apple comes in between 41.0 and 43.0 billion, that's a success, without qualifications. Quibbling inside the predicted range is mathematically irresponsible analysis.
  • If Apple comes in at greater than 43.0 billion, that's also a success. But the number is exceptional, and was not foreseen by the model. Nor could anyone have foreseen it.

Even so, I predict that if Apple's revenue lands in the low end of the predicted range, untrained observers will be quick to declare Apple's failure. It will be sad to watch.

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I predict that if Apple’s revenue lands in the low end of the predicted range, untrained observers will be quick to declare Apple’s failure. It will be sad to watch.

Sad but true. I expect that no matter what Apple reports. No matter how many devices. No matter what their profit margin, the market will continue on their Apple-Is-Doomed-Without-Steve-Jobs meme and the stock will continue to sag. They will declare that margins are down even if they are still massively higher than anyone else. They will say sales are down even if units are up. They will say profits are down even if they fall within the projected range. They will say Apple has nothing new even though nearly everything was refreshed six months ago. I rather hope that Apple announces that they’ve been quietly purchasing their own stock back and now own 51% of outstanding shares. Then they can tell the ‘analysts’ that have been gaming the stock for years for their own profit to take a hike.



Nice analogy, John. And geoduck, I agree: Apple went from a death spiral to an amazing comeback, and now everyone expects a major miracle every month or so, be it a new market disruption or an iPhone with a 36-hour battery life, NFC, fingerprint sensor, bigger screen, amazing new form factor that looks like no previous iPhone, and a speed dial for God.


One of the things analysts are going to do is give more weight to one metric over any others. That metric is the number of iPhones sold. While it is true the report will be declared a failure if Apple comes out under 41B; the quarter will be deemed a failure if iPhone sales don’t meet or surpass their numbers even if revenues are good. It was much the same when these analyst saw weakness with the iPod. They need to take their blinders off so that they can see the whole picture.


What?! Analysts without blinders? Are you mad?

Bosco (Brad Hutchings)

The analysts and even the stockholders don’t give a rat’s ass about invention of the month. What they care about is that Apple management is proving impotent with its hoard of cash. That cash, enough to develop and bring to market 10+ iPad-scale products, ought to be developing products, fixing supply chain issues from Samsung breakup, not having 3 month lulls in iMac availability for creative customers, not returning 6M iPhones of who knows what generation over quality issues to Foxconn, etc. The cash can’t seem to solve any of Apple’s business issues. Alternatively, it could fund 4 companies the size of HP. Apple missing or making guidance is actually just a lagging indicator.

John Martellaro

Brad: There are several issues at work here.  You’ve expressed a theme I’ve seen from many others: if only Apple would spend some of its earnings to improve X.

This is my opinion:

Historically, Apple has kept its development teams lean, a startup mentality. Adding money and manpower to a software project almost never works. This is discussed in, I believe, the book “The Mythical Man Month.”  Adding money and programmers to a project usually slows things down and just introduces more bugs.

Another thing that Apple does is focus on just a few projects and tries to deliver excellence there. Remember when TIm Cook bragged about how he could place all of Apple’s products on the table before him?  Some companies think that you make more profit by shipping more products, but that’s tricky business in the tech industry. I’m thinking of Sony and Samsung.

Finally, Apple’s earnings, once logged, I don’t think, can be extracted to finance in house OpEx or R&D.  So Apple has to work out how to spend more in an effective way, up front, and then log less earnings.  How do they precisely do that when everything they make now is flying off the shelves?

I think it’s a difficult proposition to say that because Apple has earned so much for the shareholders that they have misappropriated funds better spent a priori on internal R&D, development and an expanded product line.  One would have to have much more insight into Apple’s detailed finances to see where the failures were to apply more funding.

Bosco (Brad Hutchings)

Actually John, I have a different twist on the theme. Apple management is rudderless and impotent. It’s a function more of where they are than who they are. I do not think that a team of managers could be assembled who would do much better in the 18 month term. There are knots that need to be undone before Apple will be able to use much of that cash on hand for productive purposes.

Apple is in a bind on two fronts. One is the legal/patent shennanegans and the whole “Google stole from us” narrative. The downside of acting the whiney victim is far greater than $1B rounding error they might or might not net out of lawsuits. Injunctions aren’t happening in any actionable timeframe. They need to settle this and focus on competing. Wise leadership would publicly declare the strategy a failure, giving a clear public signal that it will not be a source of future uncertainty. Second, Apple needs to create two way bridges between Android and iOS, as well as Window mobile and iOS. Right now, all the bridges lead out of town. As maps has definitely shown (and Siri isn’t far behind showing), Apple can’t blow up those bridges.

In the meantime, while the fix the basic approach, the best thing Apple can do is expedite getting cash back to shareholders. It’s worthless in Apple’s hands and a serious drag on the share price.


Apple stock has not gone down to the current level by real selling!  It is not over sold, it is over shorted.  Today the Short Sellers drove it down from $402 to $398 in the last 8 minutes.  It looked like it took about 900K shares for the $4.00 drop.  Apple stock is the vehicle for the Apple Options Market manipulated by unrelenting short selling.  It is the favorite yo-yo of the Hedge funds and momentum traders.  You can hammer it down $5-$10 per share rapidly with quick intense shorting of a few thousand shares. The stock is not being sold off by real shareholders except on stops.  The naked short selling roller coaster with puts at the bottom for the drop, and calls at the top as they cover is done several times a day.  Two things would stop it.  An up-tick rule or splitting the stock 10 for 1.  If the above described action netted a drop of 40 Cents instead of 4 Dollars, I think the manipulators would go find a new yo-yo.  These manipulators want to drive Apple so low, no matter good good their earnings are, the upside will be limited.  They are in a very poor position for a big upside surprise.

Bosco (Brad Hutchings)

That’s a nice conspiracy Dandy, except they’re doing us all one hell of a favor, no? Buy low, sell high, and all that?


These manipulators want to drive Apple so low, no matter good good their earnings are, the upside will be limited.  They are in a very poor position for a big upside surprise.

Lets see. Tomorrow Apple comes in above guidance for units, profits, and margins. The stock goes up. A lot. The manipulators are caught in a cash pinch so they have to dump other stocks to cover their losses. The result is on Wednesday the DOW and NASDAQ drop 50%, and then…

wait for it

The analysts can blame the crash on Apple!!

It’s ALWAYS Apple’s fault in their eyes.



Brad said:
> That cash, enough to develop and bring to market 10+ iPad-scale products, ought to be developing products, fixing supply chain issues from Samsung breakup ... Alternatively, it could fund 4 companies the size of HP

John said:
> I think it’s a difficult proposition to say that because Apple has earned so much for the shareholders that they have misappropriated funds better spent a priori on internal R&D

If Apple is earning so much for the shareholders, why isn’t it giving that to the shareholders? That was one of the big fusses around the Apple shareholders meeting (wanting bigger dividends). If instead they’re using it to improve business, then they should be doing (some of) what Brad says.

Maybe I’m slightly misunderstanding what John said. Are you saying that they can’t have used their profit for R&D because they didn’t have the profit until the end of the quarter? Doesn’t that ignore the profit they made and didn’t use from the previous quarter? They should still be re-investing this money into the business, just delayed a quarter.

I agree that you can’t just throw more developers at the software. I assume it’s true of hardware. So to use their money to speed things up all they can do is buy things that are separate enough to do in parallel. They can’t do that by creating 4 HP-sized divisions, because the only thing those new divisions could work on is either competing with Apple itself by making similar devices of varying feature sets or engage in a completely new business distracting Apple from it’s “core competency” which is considered bad business. (This assumes Apple is already working on the “next big thing” under it’s current expenditures.)

I do think they could use their money to make a new Mac Pro. They could also buy their own factories if that’s the only way to solve supply problems.  They also have plenty of money to spend on lawsuits, so that doesn’t stop them from innovating at all unless it’s too big a distraction for upper management.


I notice that I am extremely long winded. Does anyone even read my comments? grin

Bosco (Brad Hutchings)

@webjprgm: You’re not long-winded. I don’t think that Apple’s executive team is misappropriating the capital per se. It’s actually good that they’re conservative when they have no idea what to do with it. And that’s why stockholders want it back. Stockholders feel they can make more productive use of it than it just sitting idle.

What’s bad here though is that Apple has huge problems and it has huge cash, and there is no connection between those two huge dots. That is the naked emperor to behold.

Neil Anderson

Why break out product sale numbers? Just report revenue and earnings dollars.

Lee Dronick

I notice that I am extremely long winded. Does anyone even read my comments?

They could also buy their own factories

I read your comments.

Building, or otherwise controlling, their own factories in someplace other than East Asia is probably a real good idea. I hope that I am wrong about that.



Lee said: “Building, or otherwise controlling, their own factories in someplace other than East Asia is probably a real good idea.”

Not really. Managing the supply of goods from contract assemblers is a very different skill than actually managing the assembly plant. Apple is arguably better than any other large company in the world at supply chain management. It doesn’t have (that I am aware of) any skill/experience at actually managing a large scale factory, let alone many factories.

East Asia’s contract assemblers have many decades of solid experience running factories. They got started in the 1950s after Mao took over China and the Korean War ended, with both events displacing massive numbers of people, creating new labor pools in what became the “Asian Tigers.” And mostly American companies saw the opportunity and exploited it.

Bringing assembly of Apple’s products may work if sufficient automation is applied that the high cost of American labor can be avoided. That might eventually happen, but I think not soon.

Much more probable is Apple (and others) doing more product assembly in South America (time zone advantage for the North American markets), while continuing to use East Asia as the base for supplying Asia, Africa, and Europe.

Apple has in the past helped finance the factories it uses, and is likely to continue doing that where they think it will help. I think it is also probable that they will invest in automated facilities for the production of some key components. Not because of cost savings, but to make IP theft ahead of product launch more difficult.

I see Apple as a very sophisticated R&D operation which, after deciding “this will work for us” launches a new product, but doesn’t manufacture it themselves. With each truly new product, they have the flexibility of either giving it to an existing assembler to produce, or working with a new company whose skills and existing equipment are a closer match for the new item. Take the possibly real “iWatch” product. If that does become a product, Apple may well elect to use the facilities of on of the (very large) makers of electronic timepieces and not, say, Foxconn.

I seem to be joining webjprgm in the length stakes.

Lee Dronick

Ric, I am talking about the potential for military conflict.


Submitted a longer post that vanished. But I’ll post a summary:

@Dandy, you are right on.
Please, no 4 HP divisions or build your own manufacturing.
Double please, no multiple versions of each product. Hold the line at 2 or 3.
By all means invest in technologies that will leverage iTunes, Siri and yes, Maps. Every indicator points to Apple doing just that.
If the IP battles are intended to divert and tie up the competition, then keep them sweating.

Been following Apple’s stock almost 25 years and investing in it since 1998. Making this the opinion of one interested investor.

Sincerely, Skip Paquette or skipaq


Lee, okay, that is a very different factor. While it is possible there could be conflict (North Korea = the highest risk), i don’t think it likely, and it would impact every company in the sectors in which Apple competes. I don’t see China allowing N. Korea to go beyond its current hand waving posture. But I could be wrong.

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