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Wednesday, January 19, 2005, 01:50 pm PT (04:50 pm ET)

Merrill Lynch: iPod shuffle demand to outstrip supply

In a research note sent to clients today, Merrill Lynch analyst Steve Milunovich said his firm has been testing Apple's new iPod shuffle over the last week and believes it will be met by strong demand, likely exceeding the 0.5-1.0 million units most firms have modeled the company to sell during the quarter.

"Every extra 500,000 units could add $62.5 million" in revenue or about a penny to the company's earnings per share for the quarter, the analyst said. The firm also believes that demand for the new players will outstrip the available supply, which is believed to be in the arena of 1.2 to 1.5 million units per quarter.

In testing the iPod shuffle, Merrill Lynch notes that one area of concern has been the download speeds. "Our tests show the key is to use AAC compression in combination with either USB 2.0 or Firewire 400. In typical usage, iPod shuffle download times should run 6 minutes (USB 2.0) to 18 minutes (USB 1.1). The worst case iPod shuffle scenario (using AIFF over USB 1.1) ran over 200 minutes on a low-end machine due to conversion time but only 19 minutes on a high-end machine."

From its experiences with the shuffle, the firm suggests the player will see strong demand from novices and new-to-iPod users, while existing iPod owners may prefer the larger capacity and display of existing iPods. "New-to-iPod users tell us the price points ($99 and $149) and ease of use are attractive," the firm said.

Merrill Lynch reiterated its 'Buy' rating on AAPL with a price objective of $85 per share, noting that Apple's net cash per share represents one-quarter of the company's market cap.

The firm cites poor execution, an absence of compelling new products, lack of PC share gain, and increased iPod competition as some of the risks associated with investing in the iPod maker.