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Apple and Alphabet Are in the Driver’s Seat of This Soon-to-Be $100 Billion Market

By Jamal Carnette, CFA - Feb 20, 2016 at 7:01PM

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One word: apps. Four words: Who could benefit more?

Source: Alphabet

Apple's (AAPL -0.14%) recent quarter resulted in a rare rebuke by the market. While the company exceeded expectations on both revenue and EPS, Wall Street was disappointed with iPhone unit sales, and left wondering where future growth will come from. In a supplemental release, Apple played up service-related revenue from its 1 billion active installed base as a source of future growth.

And there's a good reason for the pivot. According to app-analytics firm App Annie, the global mobile app market is projected to expand 24%, from $41.1 billion in 2015 to $51 billion this year in gross revenue across all app stores. This is not a one-off surge, but rather a trend, according to App Annie. By 2020, mobile app revenue is projected to grow 20% annualized to a $101 billion market. With a combined operating-system market share of more than 95%, Apple and Alphabet (GOOG -0.55%) (GOOGL -0.61%) are sitting in the driver's seat of this rapidly growing market.

If only there was an app to find out Apple's and Alphabet's app-related revenue
Unfortunately, neither Apple nor Alphabet specifically break out revenue attributable to their respective app stores. Alphabet files revenue attributable to its Google Play store in its Google other revenues subsegment, along with service fees from Maps, Google Chromecast, and other licensing revenue.

During the last two years, the company has grown revenue in the catch-all subsegment 27% annually, from $4.4 billion in 2013 to $7.2 billion in fiscal 2015. As a result of growth above Alphabet's total revenue growth, this segment is now nearly 10% of the total revenue haul.

Apple also doesn't release specific results from App-related revenue, reporting results in its services segment alongside iTunes, Apple Care, Apple Pay, and iBooks results, among others. Apple's services division posted 11% annualized growth during the last two fiscal years, lower than Google's torrid pace, growing from $16 billion in 2013 to nearly $20 billion last year. Apple made a point to disclose that App Store net revenue grew much larger than the segment overall, with 29% growth, last fiscal year.

So investors can expect huge revenue growth, right?
On the surface, this sounds great. Between Apple and Alphabet, App Annie's estimates indicate nearly $60 billion in incremental annual revenue during the next four years. However, much of this revenue will not show on financial statements. For example, Apple reports its app-based revenue on a net-revenue basis, deducting the 70% it pays to third-party app developers.

App Annie estimates that Apple will produce nearly $45 billion of gross App Store revenue in 2020, but $13.5 billion will be reported in revenue. This is up substantially from the $22 billion gross ($6.6 billion net) App Annie estimates Cupertino made in App-based sales in 2015. For a company as big as Apple, though, with a top line rapidly approaching $250 billion, growing incremental revenue $7 billion annually in the next four years wouldn't be a huge revenue driver.

Apps may be a significant revenue driver for Alphabet, however. App Annie expects Google Play and third-party Android stores -- mostly in China -- to grow from $18.3 billion in 2015 to nearly $56 billion in 2020. If Google is able to enter the country, as rumors are suggesting, and consolidate market share, the company's 30% revenue net in 2020 would be nearly $17 billion. Compared to Alphabet's current top line of $75 billion, this becomes a more-intriguing proposition for Mountain View.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Jamal Carnette owns shares of Apple. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), and Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not 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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