In one week, Apple (NASDAQ:AAPL) will announce its first-quarter results. Up more than 100% over the past year, Apple stock continues to be a godsend for Warren Buffett and Main Street investors alike.
I don’t know what you’ll be looking for when Tim Cook discusses Q1 2020, but I’ll be trying to understand how its Services segment is affecting the top and bottom lines. With 5G phones coming, I’m confident iPhones will make a substantial contribution to Apple’s financials in 2020.
However, it’s the company’s Services revenues that will move the Apple stock price higher over the long term. In the fourth quarter of 2019, the number of paid subscriptions from services offered on the Apple platform hit 450 million. CFO Luca Maestri expects that to hit 500 million this year.
As Apple builds a services juggernaut, I believe a $2-trillion valuation within two to three years is entirely possible. Here’s why.
Confessions of an Apple Paid Subscriber
I helped Apple hit 450 million paid subscriptions at the end of Q4 2019. I played a small part in that success by paying for my monthly Apple News+ and Netflix (NASDAQ:NFLX) subscriptions. I’m sure there are plenty of iPhone users out there with monthly bills for hundreds of dollars. By this metric, I’m a small change.
I’m a tiny piece of an enormous pie. Apple would prefer if 75% of the 217 million iPhones sold in 2018 utilized one paid subscription such as Apple News+ rather than 25% using a couple of paid subscriptions. Ultimately, it’s in the company’s best interest to make a little from a lot of people.
In October, CNBC published an article that discussed the idea of Apple selling iPhones on a subscription basis so that the company’s revenues would be more recurring and not so transactional.
It makes sense.
The more consumers are tied into Apple’s ecosystem, the better. Of course, the wireless carriers wouldn’t like it because they’d lose a good chunk of business from people who don’t buy their iPhones direct. However, if you haven’t noticed, the world’s biggest brands are selling a lot more products directly to consumers, eliminating the middleman.
Amazon Killer
In February 2019, Goldman Sachs (NYSE:GS) estimated that Apple received $9.5 billion in Services revenue in calendar 2018 from Google for traffic acquisition costs. To protect against an overreliance on this stream, Goldman and many others recommended Apple create a Prime membership bundle like Amazon (NASDAQ:AMZN) to ensure its services revenues continue to grow.
Tim Cook discussed the idea of bundling hardware purchases with its catalog of services during his Q4 2019 conference call. “In terms of hardware as a service or as a bundle, if you will, there are customers today that essentially view the hardware like that because they’re on upgrade plans and so forth,” Cook said. “So to some degree that exists today.”
They do this with cars, which are a heck of a lot more expensive, so why wouldn’t Apple do this with phones? The answer is, they will. Soon.
I, for one, would be all over a monthly Prime plan that includes an iPhone, Apple News+, Apple TV, and Apple Music. I’m confident, so would many others. Call it the Amazon killer.
Anyway, I think you get the picture.
For Apple stock to continue appreciating, the company needs to improve its revenue stickiness with iPhone users. Over the next 12 months, I think we’ll learn more about Apple’s plans in this area.
What Would Paid Subscriptions Mean for Apple Stock?
To simplify things, let’s consider the Services revenue per paid subscription between fiscal 2019 and fiscal 2018. In the past fiscal year, Apple had $46.3 billion in Services sales compared to $39.7 billion a year earlier. Based on 450 million paid subscriptions (Q4 2019) and 330 million paid subscriptions (2018), the average monthly paid subscription in 2019 was worth $8.57 in revenue [$46.3 billion divided by 450 million] compared to $10.04 in 2018 [$39.7 billion divided by 330 million].
At first glance, that seems like a step backward. However, a real step back would be if there were a decline in Services revenues or the number of paid subscriptions on a year-over-year basis. That’s not the case here.
So, imagine if the number of paid subscriptions were to increase to 1 billion. If we assume a monthly average of $6, services revenue would increase to $72 billion. Given Services revenue increased by 17% in 2019, let’s assume that rate holds for the next few years.
Don’t think they will? Apple Prime would make it a certainty.
Based on a 17% growth rate, the number of paid subscriptions would have to grow 31% in each of the next three years to hit one billion.
If it does, a $2-trillion valuation is a no-brainer.
At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.
