How Important Is Services To Apple?

Apple (NASDAQ: AAPL), the first U.S. company to be valued at $1 trillion in 2018 and $2 trillion earlier this year, saw sales decline for its flagship iPhone from $56 billion in Q1 2020 to $26 billion in Q3, nearly a 54% drop. The loss, which can be attributed to supply chain disruptions and factory and retail store closures from the COVID-19 pandemic, is really just a continuation of declining sales that started in 2016. The trend is expected to continue as millions of people have lost their jobs and are opting to hold on to their older iPhones for longer periods of time as the costly device is priced upwards of $700. Revenue from Apple Services however, is up more than 60% in the same time period and has more than tripled since 2014 to over $13 billion.

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Apple Services, which include over-the-top (OTT) streamer Apple TV+, Music, Arcade, News, Fitness, and cloud storage are now available in a tidy package called Apple One. This collection is offered in different tiers from Individual to Premier and is billed to one invoice at a discount compared to subscribing to the products a-la-carte. With this lower price point, I expect Apple will gain more subscribers and analysts agree as they’re projecting the division to reach $100 billion in revenue by 2024.

Michael Olson, a Piper Jaffray analyst, estimates that Apple’s services business is worth roughly $500 billion, while its hardware sector is valued at around $400 billion. Makes sense, as Apple saw that its hardware business had limitations and adapted to support a subscription-based model, much like Amazon has with Prime and Microsoft with its 365 suite of products. In addition to offering subscriptions, the Apple Services division encompasses the App Store, iTunes Store, Apple Care, Licensing, and Apple Card, with the App Store and iCloud being the biggest contributors to the services revenue for the company thus far.

With Apple One, the company hopes to gain subscriptions to more Apple Services, thereby securing customer loyalty and recurring revenue. That last point is important as Apple needs to partner its cyclical hardware sales with something consistent. Additionally, gross margins for Apple Services is over twice that of Apple’s Products division at 67.2% versus 29.7%. The company’s overall paid subscription number is 550 million, which it expects to increase to 600 million by year’s end. Later this year, Apple is launching its Fitness+ service to compete with the likes of Fitbit and Peloton. This will help the Services segment claim more of Apple’s overall revenue than the 22% it currently holds. 

Apple’s Q2 2020 report showed revenue from Services to be $13.3 billion, a 15% increase from the quarter prior and an all-time high for the company. Another important thing about this number is that it showed that Apple hit a goal it set in 2016 to double its annual Services revenue in four years. The company will be releasing its 5G-compatible iPhone 12 models on October 23, about a month later than originally anticipated. In the meantime, its Services division will continue to contribute to Apple’s bottom line as the company sets its sights on crossing new thresholds.

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