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Apple Is Living on the (Margin) Edge

NEW YORK (TheStreet) -- In real estate it's "location, location location" but Apple (AAPL - Get Report) has always been evaluated on "margin, margin, margin." Apple has met or exceeded its margin guidance for three consecutive quarters but analysts have never been content.

Apple will report fiscal second-quarter results Wednesday, so to what extent will Apple's margins play a role in the stock's direction? We know when it comes to Apple's unit sales for iPhones and iPads the Street will be obsessed over quarter-to-quarter average selling price (ASP) figures and try to dissect what they mean in terms of margins and market share.

Apple shares are trading around $530, down 5.6% for the year to date. I've already begun to hear rumblings about how Apple will disappoint investors. But what constitutes a "disappointment?"

Declining margin is a reality for all electronic companies, including Samsung (SSNLF). It's an industry where it is impossible to maintain high margins for a sustained length of time. Whether it's in computers, TVs, music player or video game consoles, no one has been able to maintain high levels of profitability.The fact that Apple still has margins hovering around 37%-38% is a testament to the quality of the company's products and management's ability to market to those who can see the value in those products.

Last week, Toni Sacconaghi of Bernstein Research offered caution, suggesting there's more downside risk to these shares -- the stock is off more than 26% from its all-time high of $705. Aside from warning about possible weakness in Wednesday's earnings report, Sacconaghi believes Apple will also disappoint investors in the July quarter.

There is a growing belief that Apple's gross margins could see a decline with the new iPhone 6. But I wouldn't get carried away. According to reports, Apple will release two iPhones in its upcoming product cycle. One will have 4.7-inch screen while the other will sport a 5.5-inch screen; this bigger phone is where Apple plans to maintain its hefty margins.

I'm going to assume that Apple will price the 5.5-inch version at a $100 premium to its 4.7-inch version, which is a reasonable expectation. Given that Apple is not radically altering the casing material of the larger phone and adding unnecessary features to drive up its costs, Apple will be able to realize higher margins by driving higher average selling price.

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