Why isn't Apple at $125 now?

Apple Inc. (NASDAQ: AAPL) announced its earnings this week and absolutely crushed the estimates. Apple reported $0.87 per share, while Wall Street expectations had ranged between $0.63 and $0.66 per share. The stock has moved up very nicely to around $100, but if one extrapolates the earnings momentum, which puts a $4.50 earnings number for 2008 and a PE multiple of 30 times (which Apple deserves), the stock should be right above $125 per share. Simple math, easy projection, so why is the stock only at $100?

Apple did indeed crush analysts estimates, but a huge part of the "extra earnings" are either not sustainable or predictable. Every company that trades in the public markets has a financial business model that the chief financial officer and research analysts work from. One dollar of revenues should equal how much profit on a pre-tax basis, or the operating profit margin. In the case of Apple, the financial model is for 27 to 30%, or 27 to 30 cents per dollar of revenue should be at the pre-tax profit line. That's Apple's model. So what happened?

This quarter Apple reported an operating profit margin of 35% -- a huge, huge increase. Reason to celebrate and uncork the champagne bottles? Not exactly. The reason Apple had a 35% operating margin was because of their enormous savings in semi-conductor chips and equipment. Every Mac and iPod is run by a set of integrated circuits that Apple outsources to various semi-conductor manufacturers. Apple was able to take advantage of an oversupply in the semi-conductor world driving down pricing, therefore generating the extra pre-tax operating margin. It may just be a one- or two-quarter pricing advantage, not something that can be taken for granted and made part of the permanent financial model.