Apple Shifts Focus To Services As iPhone Plateaus

Apple's strategy appears to be that customers loyal to its products - and locked into its ecosystem - will provide consistent revenue growth of more than enough heft to sustain the company.

The challenge is that the public perception of Apple is based on its magic, not on traditional metrics more attuned to utilities or banks. So the hope is that this will suffice until, presumably, the next big product for which customers and investors are really waiting makes its debut. JL

Tim Bradshaw reports in the Financial Times:

Revenues from online services such as the App Store, iCloud and Apple Music rose 24 per cent to a record $6.3bn, making it the company’s second largest source of income after the iPhone. Revenues were up in the “strong double digits”, boosted by games such as Pokémon Go, while music revenues grew by 22 per cent thanks to the growing popularity of its subscription service. Apple Pay saw a 500 per cent year-on-year increase in transactions
Fifteen years ago this week, Apple launched the iPod, unleashing a wave of disruption over the music industry and reviving the fortunes of what was then a struggling computer company. Thanks in part to the growth spurred by the iPod, Apple has never since posted a decline in annual revenues — until this week, when it revealed an 8 per cent drop in sales for 2016.
Now, the company is looking towards another digital-media revolution to galvanise its business. With sales of its iPhone, iPad, Macs and even the Apple Watch in decline during its fiscal fourth quarter, Apple sought to focus investors’ attention on the one bright spot in Tuesday’s earnings report: its services business.
These days, that means much more than just the iTunes store that powered the iPod. Revenues from online services such as the App Store, iCloud and Apple Music rose 24 per cent to a record $6.3bn, making it the company’s second largest source of income after the iPhone. That was faster than the 18 per cent growth that analysts at Piper Jaffray had predicted.
Luca Maestri, Apple’s finance chief, called services the “highlight of the quarter”. “Momentum is very good,” he said in an interview.
Mr Maestri repeated a prediction first made earlier this year that, if it were a standalone entity, Apple’s services unit would be a large enough business to reach the Fortune 100 rankings of the top US companies by next year. Already, its most recent quarterly sales outstripped Facebook’s second-quarter advertising revenues of $6.2bn.

Apple first put the spotlight on services in January, at the same time as it said that iPhone revenues would go into decline for the first time. It said then that more than 1bn Apple devices had been in use over the past 90 days.
“They certainly want a narrative that not all of Apple’s future is tied to the iPhone,” says Ben Bajarin, analyst at Creative Strategies. “The underlying tone there is they are emphasising the consistency.”
However, investors have been slow to shift their view of Apple as a volatile hardware maker, vulnerable to the fluctuations of the consumer electronics market, rather than a software company with stable recurring revenues. After all, the iPhone still makes up almost two thirds of Apple’s revenues, a ratio that is changing only slowly.
“Investors we talk to are largely dismissive of the long-term impact that services can have on the Apple model,” Piper Jaffray said in a recent note. “We believe the multiple on shares of Apple will rise over the next two years as investors slowly appreciate the sustainability and profitability [of the] services business.”
In Tuesday’s call with analysts, Mr Maestri tried to emphasise the predictability of the services business.
“Over time [customers] tend to spend more and more on our services,” he said. “Customers are very engaged with our products, they are very loyal.”
App Store revenues were up in the “strong double digits”, boosted by in-app payments from games such as Pokémon Go, while music revenues grew by 22 per cent thanks to the growing popularity of its subscription service, which now has 17m subscribers. Apple Pay, commission for which is also included in the services line, saw a 500 per cent year-on-year increase in transactions in the quarter ending in September.

They certainly want a narrative that not all of Apple’s future is tied to the iPhone.

Ben Bajarin, analyst, Creative Strategies

One kind of digital service that does not yet make much of a contribution to Apple, however, is television. Over the past few years, Apple is said to have discussed various potential TV services with content and cable companies but so far it has not come up with an alternative to the standard cable or satellite bundle. Instead, the latest version of its Apple TV box, released a year ago, focuses on standalone apps, such as HBO Now, to which customers can subscribe without a cable contract.
Apple has not released sales figures for its TV set-top box but it does not yet appear to have made a meaningful contribution to the iPhone maker’s business. Apple TV is grouped alongside iPods, Beats headphones and Apple Watch in the “Other Products” division, where sales saw a 22 per cent decline in the last quarter.
Pressed by analysts on his vision for TV, Tim Cook, Apple’s chief executive, said that it remains an area of “intense interest”. After a few standalone videos related to Apple Music, such as a Taylor Swift concert, Apple now has exclusive shows in development such as Planet of the Apps, a reality TV show for software developers, and Carpool Karaoke, a spin-off of CBS’s The Late Late Show with James Corden. Mr Cook suggested that these are just the start.Boost from strong demand for new iPhone 7 and rapid growth in services business
“I think it’s a great opportunity for us, both from a creation point of view and an ownership point of view,” he said. “It is an area that we are focused on.”
Earlier this year, Apple executives considered an acquisition of Time Warner, the FT reported in May. Following AT&T’s planned $85.4bn takeover of that media group, Mr Cook did not rule out a large-scale deal that might transform Apple’s content business, just as the iPod and iTunes transformed the company 15 years ago.
“We are open to acquisitions of any size that are of strategic value where we can deliver better products to our customers and innovate more,” he said. “We look at a whole variety of companies … We are definitely open [to doing deals] and we definitely look.”