All Eyes on iPhone

Earlier this month, Taiwan's financial newspaper Commercial Times provided some evidence of just that. Citing industry sources, the article said Taiwanese manufacturing powerhouse Hon Hai Precision Instruments received an order from Apple to make 12 million mobile handsets by early 2007. There have also been some small, but meaningful hints coming from Apple itself. During its quarterly conference call in July, an analyst asked Apple's finance chief, Peter Oppenheimer, about his thoughts on Sony's (SNE) Walkman phone.

"We don't think that the phones that are available today make the best music players," Oppenheimer said. "We think the iPod is. But over time, that is likely to change. And we are not sitting around doing nothing."

"That's a tacit endorsement," says ThinkEquity analyst Jonathan Hoopes, who believes Apple is "definitely going to pursue the phone market." An Apple spokesman wouldn't comment on the speculation. Of course, nothing will be certain until Jobs says it's so — a move that many anticipate will happen on Jan. 9 when he's scheduled to take the stage at Apple's annual Macworld Expo.

Say the buzz turns out to be true and Apple breaks into the wireless phone biz. It could undoubtedly prove to be a huge opportunity for the Cupertino, Calif., company. (Independent research outfit Gartner estimates that almost a billion mobile handsets will be sold world-wide this year). However, Apple's success will greatly depend on how it structures the venture.

"The handset business is a real bloodbath. No newcomer just comes into the handset industry," says Steve Wilson, principal analyst of consumer electronics at ABI Research in an interview earlier this month. To start a mobile phone business from scratch means owning cell towers, receivers and radio spectrum, all of which are expensive and complicated prospects. Then there's the fact that a new entrant would immediately face fierce competition from the major wireless service providers like AT&T's (T) Cingular, Verizon Communications' (VZ) Verizon Wireless and Sprint Nextel (S).

Like a Virgin Mobile
A less formidable scenario is that Apple becomes a mobile virtual network operator, or MVNO, like Virgin Mobile, says ThinkEquity's Hoopes. MVNOs buy wireless services from providers like Cingular or Sprint and then slap their brand name on it and resell it to customers, taking care of things like customer service and billing. MVNOs also tend to target specific audiences. Walt Disney's (DIS) Disney Mobile MVNO targets families, for example.

Apple already has one of the most loyal fan bases around and a successful chain of retail stores at the ready. Not only could it get a nice profit from the sale of a mobile phone device (word is it will be priced in the $300 range), but a recurring subscription fee as well. Of course, the whole MVNO scenario will leave people wondering exactly which wireless service provider Apple will team up with. Apple has had a past relationship with Cingular from its first tentative foray into the wireless phone world. The pair teamed up with handset maker Motorola (MOT) to sell the first mobile phone that could download and play iTunes. The three companies still sell iTunes-enabled phones like the Motorola SLVR. However, that's no guarantee that Cingular is a shoo-in.

Based on a prediction that Apple could move 29 million handsets next year, the iPhone business could add $6 billion in incremental revenue and 70 cents per share in earnings, according to a Nov. 15 research report by Bear Stearns analyst Andrew Neff. He notes that the iPhone, which many believe will include iTunes music capabilities and probably some cool WiFi wireless Internet features, will eat away at a chunk of Apple's iPod sales. Neff suggests about 30% of iPod unit sales will be cannibalized by the iPhone.

Deutsche Bank analyst Chris Whitmore is much more conservative with his projections. He estimates that the company would ship 12 million units. Assuming the iPhone would cannibalize half of the company's current iPod business, Whitmore estimates that the iPhone would add an incremental 12 cents to 15 cents per share in earnings.

It's a Macworld After All
No matter which model you want to follow, many analysts see great potential in the iPhone as long as Apple plays its cards right. Even if Jobs doesn't unveil a mobile phone device at Macworld, the company has plenty of groundbreaking products in the pipeline for 2007. Apple is not only releasing its next-generation operating system called Leopard, but it'll also finally unveil the much-anticipated online video download box, the iTV.

A vast majority of the analysts who cover Apple have Strong Buy or Buy recommendations on the stock. Not because of the potential for the iPhone, but because Apple's computer business is growing in leaps and bounds and its iPod sales remain stronger than expected, especially going into the holiday shopping season. In fact, Apple's stock hit a new 52-week high of $93.16 on Monday due to exceptionally strong iPod sales over the Thanksgiving weekend.

ThinkEquity's Hoopes believes Apple's shares could climb to $110, reflecting a 33 times multiple on his fiscal 2008 earnings per share estimate of $3.35. (ThinkEquity makes a market in the company's shares.) Meanwhile, Deutsche Bank's Whitmore and Bear Stearns's Neff both have a $100 price target on Apple's stock. Whitmore says $100 would be 30 times his calendar 2007 earnings per share estimate for the company, excluding cash.

When and if the iPhone is a reality, analysts will most likely revise their projections even higher. If Macworld comes and goes without an iPhone in sight investors may have to brace for a short-lived selloff due to mere disappointment. With all of the other new products at the ready, I doubt that disappointment will last for long though.

If Apple does pursue the mobile phone business, it'll have its work cut out. That said, the computer maker that took the digital music world by storm might just be able to pull off another coup in the mobile phone world.