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Here's How Apple Inc. Plans On Doubling Services Revenue Over 4 Years

By Evan Niu, CFA – Feb 7, 2017 at 10:30AM

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Services could be the hidden growth driver that investors are looking for.

If you've been paying close attention, you'll notice that Apple (AAPL 0.36%) has been very conscientiously trying to shift investor focus away from things like iPhone unit sales in favor of recurring revenue sources like services.

That's why the iPhone maker even introduced a non-GAAP metric for installed base-related purchases in early 2016, only to stop reporting it just a few quarters later (likely due to the SEC cracking down on companies abusing non-GAAP metrics). The iPhone sold rather well over the holiday quarter, setting a fresh quarterly record, but Apple is still very much wanting investors to better appreciate its services business.

iCloud running on multiple devices

iCloud. Image source: Apple.

For 2016, Apple's services revenue hit a new milestone, crossing $25 billion in revenue for the first time. Services should even be large enough to be a stand-alone Fortune 100 company in 2017. Not one to rest on its laurels, Apple is ambitiously hoping to double services revenue over the next four years.

150 million subscriptions and counting

On the earnings call, CEO Tim Cook noted that Apple now bills over 150 million paid subscriptions through the various content platforms that it operates. That includes both Apple's own services as well as third-party subscriptions. This is a new metric that Apple has not disclosed previously, and it will be important to see this number grow (if Apple continues providing updates, that is). There was no update on how many Apple Music subscribers the company now has, but the most recent update from December was 20 million.

Apple Music on iPhones

Apple Music. Image source: Apple.

More color surrounding these subscriptions would go a long way toward analyzing the services business. I have no shortage of questions. Are those 150 million subscriptions all discrete users, or are there multiple subscriptions per user? What's the average monthly recurring amount? What categories (such as video, audio, or other) are seeing the most interest? Has there been any uplift from the reduced 15% cut on long-term (longer than one year) subscriptions? Many enterprise-oriented apps utilize subscription models; how much is the enterprise contributing to subscriptions?

When asked how Apple will get to its goal, CFO Luca Maestri did add some additional detail:

And what is particularly interesting to us is to see that the number of people that are transacting on our stores is increasing strong double digits, and we're also seeing that the [average revenue per user] per paying customer is increasing double digits, right? So it's a combination of the two, obviously the quality and the quantity of content that we make available in our services improves all the time. And we also see that as people getting to the platform and start transacting on the platform, and we keep track of their behavior over time, we actually see that they tend to spend more and more over time.

Interestingly, Maestri also noted that iCloud storage and AppleCare are growing "very well" and are at all-time highs as well. Apple last cut iCloud storage prices in late 2015, making the service more competitive with rivals (iCloud storage used to be overpriced). Meanwhile, services like iCloud Photo Library increase the need for cloud storage. On the AppleCare front, more customers tend to buy Apple's extended warranty when newly designed products come out due to the higher initial repair costs, and those new MacBook Pros with Touch Bars are both new and pricey.

Take what you can get

Here's another way to look at it: Product sales are unlikely to be major growth drivers at this point since the businesses are already so large. The only new product that could theoretically start taking off is Apple Watch, but we know the smartwatch market is in the dumps and Apple still aggregates its wearable in the "Other Products" segment. It's unlikely that Apple Watch will suddenly become a $25 billion business within the next couple of years (the entire Other Products segment is under $11 billion).

If total revenue remains relatively flat, but services can add another $25 billion in sales over the next few years, that would represent over 10% growth. I'll take that.

Evan Niu, CFA owns shares of Apple. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: long January 2018 $90 calls on Apple and short January 2018 $95 calls on Apple. The Motley Fool has a disclosure policy.

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