Citigroup upgrades Apple on Tuesday's weakness

"We see worst-case near-term downside to $115, but view the probability of a pull back to these levels as low," lead analyst Rich Gardner wrote in a research note. "With upside to $160, we would increase positions at current levels and simply use any near-term weakness to buy more shares."

Gardner noted that Apple shares declined some 6.8 percent or almost $10 Tuesday following rumblings of iPod and iPhone production cuts in Asia, but said the Street shouldn't have been alarmed by such cuts.

"iPod production cuts reflect normal channel inventory drawdown ahead of new product introductions in August or September," he explained. "More specifically, we expect higher-capacity Shuffles and nanos with lower price/GB, as well as a video iPod with an iPhone-like 3.5-inch diagonal screen and touch-screen controls."

Gardner also said at least one of the new video iPod models could use NAND flash memory instead of a 1.8-inch hard disk drive. While the move would undoubtedly cut into Apple's iPod margins, the analyst said his current estimates already factor in the shift.

On the other hand, Gardner said the rumored iPhone production cuts would reflect a return to more-reasonable estimates after very aggressive initial estimates from Apple to suppliers before the product's launch in June.

"We note that our estimate and consensus was 3.0 million iPhone units for 2007 before Tuesday’s talk of a reduction in build plan from 7 to 8 million units to around 4 million units," he wrote. "In our view, lower price points, 3G, and broader geographic distribution will be required before Apple can hope to sell 7 to 8 million units in six months, so this was never a reasonable expectation."

In his note to clients, the Citigroup analyst was also quick to remind investors that virtually all of the $310 million revenue upside to his June quarter Apple estimates came from higher-than-expected Mac sales. This strength in Macs, he said, should continue for the balance of this year for several reasons:

"First, Apple ended the June quarter with Mac channel inventory of three to four weeks, one to two weeks below the company’s target range. This clearly suggests imminent product transition(s) within the Mac line," he wrote. "Indeed, Apple announced Tuesday a 'Mac-related Press Event' at the company’s headquarters on Tuesday, 7 August, which likely will yield newly-redesigned flat-panel iMacs and perhaps other new Mac-related products as well."

The continued expansion of Apple’s relationship with Best Buy should also boost Mac volumes between now and year-end, in the analyst's opinion. Apple has said that it expects to expand its Best Buy distribution from 75 stores at the end of the second calendar quarter to more than 200 stores by the end of third, and more than 300 by the end of the year.

"Simply stocking these locations could add 50-100K units to Apple’s quarterly run rate between now and year-end," he explained.

In upgrading Apple shares Wednesday, Gardner maintained his $160 price target and made no changes to his estimates.