Apple Inc.'s Growing iTunes Revenue Isn't As Impressive As It Seems

Apple's iTunes revenue is growing at a rapid pace -- does Google have any chance of poaching Apple's customers?

Feb 15, 2014 at 12:30PM

Apple's (NASDAQ:AAPL) iTunes revenue just keeps growing. As Asymco points out, Apple's iTunes Group is now grossing about $7 billion per quarter, and growing at a rapid pace. Traditionally, Apple maintained that it ran iTunes near breakeven, but as the number of iOS devices in existence has increased, iTunes has become quite profitable. Perhaps that's why Google (NASDAQ:GOOGL) has increasingly emphasized its rival Google Play offering.

Still, I don't think it's impressive as it seems. In fact, although total iTunes revenue is growing, there's a number of trends in the composition of that revenue that is actually quite disturbing, suggesting that Apple's control of the mobile market might not be as guaranteed as previously assumed.

David Einhorn on why he owns Apple
In theory, iTunes is Apple's secret sauce. It's why this time is different, and why Apple will not be the next Nokia or BlackBerry -- two once-dominant smartphone makers rendered irrelevant by Apple's rise.

"People look at Apple and ask, 'Is it the next Motorola or BlackBerry?" hedge fund manager David Einhorn told CNBC (via AllThingsD) last year. "Apple's a bit different from those companies, because the ecosystem component [drives] recurring sale[s]."

Indeed, he's right to a large extent. If you've bought a lot of music from iTunes, books from iBooks, and apps from the App Store, then you're likely to stick with Apple when it comes time to buy a new smartphone. You could switch to a rival device running Google's Android, but you'd lose access to the all the content you purchased on iTunes -- a strong incentive not to switch.

That's something those other companies never had. In that context, the growth of iTunes revenue should be seen as truly encouraging -- the more money that gets spent on iTunes, the less likely Apple is to lose customers to Google.

Not all iTunes revenue is the same
But that's not really the case. Most of the growth, in terms of Apple's iTunes revenue, is coming from apps -- up more than 100% last year. In fact, music downloads and books actually fell on a yearly basis. That's fine, you might say -- if customers are buying a lot of apps, that's still content they don't want to risk losing migrating over to Google's platform.

Except they're not really buying many apps -- according to research firm Gartner, 65% of what constitutes mobile app revenue is coming from games, and most of those games are free titles supported with in-app purchases.

Someone who spends $100 on extra lives playing Candy Crush is, from Apple's perspective, much different from someone who drops $100 on iTunes music. The former is no more loyal to Apple's platform than any other user, while the later might stick to the iPhone, lest he lose his 100 song collection.

iTunes as a profit driver
It's difficult to judge how much money Apple brings in from iTunes. The company has never been forthright with the information, leading analysts to speculate. Last year, Horace Dediu pegged Apple's iTunes income at about $2 billion for 2012 -- a number that's no doubt increased significantly. But relative to Apple's other operations, it's hardly important -- Apple earned $13.1 billion last quarter alone.

That isn't to say iTunes has no value-- it remains an integral part of Apple's business model. iTunes purchases are what keeps Apple's customers coming back, preventing them from switching to Google's Android.

In that context, the recent growth of Apple's iTunes revenue really isn't that impressive -- freemium games don't result in repeat buyers.

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Sam Mattera has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Apple and Google. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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