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Apple Spells Relief

Disappointing guidance is forgiven as investors anticipate a bright second half.

Normally, the newsflow surrounding

Apple Computer

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in recent days would have been a recipe for disaster.

The ingredients were all there: skepticism on the Street, a mixed earnings report relative to expectations, disappointing sales of its most important product and worse-than-expected guidance, which analysts reacted to by reducing their price targets and full-year earnings estimates.

But instead of spoiling Apple's stock, the news seemed to sweeten it. In recent trading on Thursday, Apple's shares were up more than 3%; earlier in the day, the stock was up nearly 7%.

So what happened? While many factors were likely at play, the key ingredient, according to investors, could be summed up in one word: relief.

"It's a relief rally," says one fund manager who went long Apple following the company's report Wednesday afternoon. "You have people thinking the quarter wasn't great, but it wasn't a disaster, either."

Indeed, setting aside the Street's expectations and forecasts ahead of the financial update, there was much to like about Apple's report. Overall sales were up 35% from the same period a year earlier. Earnings jumped 41% as the company's gross margins swelled by 2 percentage points as a portion of sales.

While Apple didn't ship as many iPod music players as the Street had predicted, the 8.5 million units it did ship were up 61% from the same period a year ago. Although the company's computer shipments grew at their slowest rate in nearly three years, its new line of


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processor-based Macintosh computers appear to be selling well.

Even though the company didn't start shipping two of its three new Intel computer models until late in the quarter, Intel-based units comprised more than half of Apple's computer sales.

That success points to a larger point about Apple and its stock. Even if the company's near-term results were disappointing relative to expectations, few expect Apple's growth to hit the brakesanytime soon. In fact, many investors and analysts are counting on the company to see big sales and earnings toward the end of this year, as it completes its transition to Intel-based computers and likely introduces new iPod products.

"I'm in the camp of liking it for the second half" of this year, says the fund manager.

Other investors are looking at the longer term. Apple CEO Steve Jobs is the leading visionary in the tech industry, says a second fund manager. As such, it's a good bet to invest in where he's taking the company, says this fund manager, whose company has had a long-term stake in Apple.

Apple's growing number of retail stores, its potential in handheld video players -- of which the current video-playing iPod is just a first iteration -- and the new Intel-based computer models are all big growth drivers for the company, the second fund manager says.

"I've got a $100 price target. Whether it takes three months or three years, I don't care. It's going to outperform


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Still, most observors acknowledge that Apple's report Wednesday was relatively disappointing. Even though Street analysts had consistently ratcheted down their forecasts throughout the quarter on rumors and reports of disappointing iPod shipments, Apple's top line was still about 3% lower than the Street's last consensus figure.

And the iPod shipment number was far below the more than 9 million units analysts had generally expected and the 10 to 11 million they had been predicting earlier in the quarter.

Apple's guidance for its third quarter -- which was about 9% below top-line expectations and 13% below bottom-line forecasts -- could be chalked up to management trying to be conservative. But that was the explanation analysts gave for the company's guidance for the just-completed quarter. Instead of being conservative, Apple's forecast turned out to be spot-on, at least on the revenue line.

The market hasn't been terribly forgiving of companies that have had similar disappointments to offer investors, noted the second fund manager.



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all got punished. This is the first one that got a pass," the long- term Apple holder said.

But at least with Apple, the stock had already plunged some 20% between the last financial report and this one.

The company's report was "bad, but it was already in the stock," says Jim Grossman, a fund manager at Thrivent Investment Mangement, which has $65 billion under management and is long Apple.

Meanwhile, there are better times ahead, say many. With the Intel transition going on, "that was probably the choppiest of choppy quarters," Grossman says.