The iPhone has been behind the phenomenal growth of Apple Inc.’s (NASDAQ:AAPL) revenue and the corresponding rise of AAPL stock. That era is coming to an end, though.
IPhone sales appear to have peaked. Stepping up to fill the void and maintain Apple’s revenue growth is its Services division. An investor report released by Morgan Stanley predicts Services will become the primary driver of Apple revenue growth for the next five years, which means it will also be key to Apple stock growth.
So keep a close eye on those Apple Music subscribers, App Store sales and Apple Pay transactions, because they are set to eclipse the iPhone in importance for AAPL investors.
IPhone Sales Struggle, While Services Revenue Grows
We’ve had a good idea for some time now that the Services division is becoming increasingly important as a growing source of Apple revenue –and thus a key component of AAPL stock growth.
We also know that the iPhone is entering a difficult phase in its product lifecycle. The era of snapping up easy sales with first-time smartphone buyers is over. And the days of existing smartphone owners automatically upgrading every year or two also seems to be coming to an end. That’s not just an Apple problem. The global smartphone industry marked its first ever quarterly decline in sales to close out 2017, and that’s despite splashy releases in the quarter like the iPhone X and Alphabet Inc’s (NASDAQ:GOOGL) Google Pixel 2.
Looking at the company’s Q1 earnings report, you can see the opposite trajectories the two Apple divisions are beginning to take. Services revenue was up 18%, making it the second largest in terms of revenue. The iPhone still dwarfs services and even managed double-digit revenue growth that quarter on the strength of the iPhone X launch. But… The actual number of iPhones sold declined compared to Q1 2017.
Report: Services to Drive Apple Revenue Growth for Next Five Years
Morgan Stanley released an investor report that was covered by Business Insider.
And this report quantifies those two trends that we’re seeing at Apple: slowing iPhone sales, with a steady growth in Services revenue. The report notes that over the past five years, a whopping 86% of Apple revenue growth has been attributable to iPhone sales. The popularity of the iPhone is the main reason why AAPL stock is up over 180% in that time.
However, the report suggests the slowdown in that iPhone business isn’t going to result in AAPL stock plateauing because the Services division is primed to help pick up the slack. The company predicts that over the next five years, Services will account for 50% of Apple revenue growth.
This is because Apple is building out services that are proving extremely popular –as shown by the consistent double-digit growth in quarterly Services revenue– yet they have been adopted by just a fraction of Apple customers to this point. So there’s momentum, plus plenty of room for growth.
For example, Apple Pay is now supported by 50% of U.S. retail locations, but recent estimates have pegged the number of U.S. iPhones with Apple Pay activated at less than 5%. Apple Music has turned into a streaming powerhouse that trails only Spotify in subscribers, yet Morgan Stanley says only 2.9% of Apple users have subscribed.
The report pegs Apple revenue from Services at $30 per device, up from $25 per device two years ago. And it suggests the potential is there for that to grow as high as $100 per device.
And that Services revenue is recurring, not reliant on selling new hardware in yearly cycles.
AAPL stock has dipped under $170, and it’s not likely to see a repeat of the phenomenal boom over the past five years of iPhone-mania. However, Morgan Stanley still sees room for growth –driven by Services– and is setting a price target of $203.
As of this writing, Brad Moon did not hold a position in any of the aforementioned securities.
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