Earlier this month, PayPal Holdings Inc. (PYPL 3.04%) announced that PayPal could now be used as a method of payment for purchases made within Apple Inc's (AAPL 1.07%) App Store, iTunes, or Apple Music. Account holders will be able to make purchases across Apple's universe of devices including iPhones, iPads, iPod Touches, and Macs, and through iTunes on personal computers. The deal applies to customers in the United States, Canada, Mexico, Australia, Israel, United Kingdom, France, Germany, Italy, Spain, and the Netherlands.
To use PayPal, all Apple ID account holders need to do is select PayPal as their method of payment in their account settings. Once accomplished, future purchases on their Apple ID will automatically be paid through the users' PayPal accounts.
But beyond the basic mechanics of how PayPal will be integrated into Apple's ecosystem, investors need to know what the implications are for such a deal. Let's take a closer look at what this means for both companies going forward.
An obvious win for PayPal
With the arrangement, PayPal has added what amounts to one of the largest e-commerce markets in the world. Apple's second-largest revenue stream behind iPhone sales is its services segment, where the revenue from its App Store, iTunes, iCloud, Apple Music, and Apple Pay is reported. In the company's second quarter this year, revenue in this segment increased 18% year-over-year to just a shade over $7 billion; good enough to make it Apple's second-fastest growing division. As Apple CEO Tim Cook put it on the company's conference call following the second quarter earnings release, this segment alone is well on its way to becoming the size of a Fortune 100 company.
While PayPal's deal did not include Apple Pay, it does make PayPal a payment option for the majority of Apple's services which accounts for a good deal of the segment's growth. In the same second quarter conference call, Cook stated that App Store revenue increased an incredible 40% while iCloud and Apple Music revenues also both increased by double digit percentages year-over-year.
While it is impossible to tell how many of these Apple ID account holders will now use PayPal as their default payment option, any percentage will be a gain for the company. PayPal might be an especially attractive option for new users who might find it much easier to employ PayPal's One Touch feature than entering credit card numbers and billing addresses on an iPhone screen.
But what's in it for Apple?
Just because the new arrangement so obviously benefits PayPal, however, doesn't mean it was a bad move by Apple. In PayPal's latest quarter, it reported over 203 million active account holders averaging almost 32 transactions per year. While any merchant would have an interest in courting this amount of engaged customers, Apple has an even greater reason: Mobile payments is increasingly becoming PayPal's domain.
In its most recently reported quarter, almost a third of PayPal's total payment volume originated on mobile devices; good for $32 billion of transactions and representing a whopping 51% increase year-over-year. For Apple, capturing that growing segment of mobile commerce for its Services' segment makes too much sense to ignore.
Foolish final thoughts
Once again, PayPal has forged a new partnership and come out smelling like a winner. Since last July, when PayPal entered into a major agreement with Visa, PayPal has struck a number of deals with major credit cards, overseas wireless carriers, big banks, and mobile operating systems. After PayPal reported its last quarter, it was evident that PayPal's network effect is having an impact. As PayPal adds more merchants (16 million at last count), it becomes a more attractive option for account holders. As more account holders join, the more retailers want to add it as a payment option. This growth creates a cycle that feeds itself, creating a snowball effect where PayPal's past growth fuels faster future growth.
In addition to Apple and PayPal, however, consumers are the other big winner. Customer choice and expediency should always be celebrated in a world full of inconvenient hassles. Companies that put their customers ahead of other interests usually come out winners in the long run. When viewed in that light, it is little wonder that Apple and PayPal have enjoyed so much success.