How Apple Inc. Goes From a Product to a Platform Company

By Markets Fool.com

Today, Apple's (NASDAQ: AAPL) revenue comes primarily from products. The iPhone, in particular, provides most of the company's top line, accounting for 69% of total revenue in its first quarter of fiscal 2015. Since product revenue is inherently less predictable than service revenue, Apple tends to trade at a lower price-to-earnings ratio than platform peers such asGoogle and Microsoft. While Apple's recent increase in stock price has matched the company's P/E to Microsoft's, at 17 it still lags significantly behind Google's ratio of 28.

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But Morgan Stanley analyst Katy Huberty believes investors will soon begin to recognize Apple's value as a platform company, rather than as a less reliable and predictable product company. Predicting Apple's service revenue will grow substantially as a portion of revenue in the next few years, she is already pricing this platform mentality into her 12-month price target of $160 for Apple stock, up 25% from where it is trading today.

In a new report (via AppleInsider), Huberty pointed to recent speculation about a potential Apple television service to support her platform thesis.

Benefitingfrom cord cutters
Notably, the well-connected analyst acknowledged in her most recent note to investors that the sheer quantity and substance of recent rumors that Apple is working on an online TV offering to bundle content from major providers suggests the service is likely to become a reality. She also cited the recent price cut of the company's Apple TV hardware to $69 and HBO's surprising announcement of stand-alone access to its content through Apple TV as evidence the tech giant is thinking seriously about television content.

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HBO NOW on Apple TV. Image source: Apple.

Huberty said now is a great time for Apple to launch this service. In a recent Morgan Stanley study, 20% of cable TV subscribers said they plan to "cut the cord" in the next 12 months as an increasing amount of content becomes available online. If Apple launches a TV service, Huberty said she believes the company is positioned to attract 15 million subscribers in the U.S., or 8% of its install base.She said this level of new subscribers to the new service could increase Apple's revenue by 2%.

How Apple's service revenue will get a boost
Apple's services revenue, which includes revenue from iTunes Store, App Store, the Mac App Store, the iBooks Store, AppleCare, Apple Pay, licensing, and "other services," accounts for just 6% of the company's top line. While Apple doesn't break down how much earnings each segment contributes to the bottom line, its services segment likely accounts for 6% of the company's earnings or less.

But with the help of Apple Pay, fast-growing App Store revenue, and a new TV service, Huberty believes Apple's services segment could account for 20% of total earnings within the next few years. To illustrate exactly where she expects the growth to come from, Huberty shared this chart of her predictions of Apple's services generally accepted accounting principles revenue mix through 2017.


Chart source: AppleInsider.

While it could be argued Apple is already more of a platform company than the market admits given the loyalty of its customer base; the breadth of its ecosystem of products, software, and services; and its substantial pricing power, a growing services segment will only bolster the sustainability of the business and make it more of a platform company than ever before.

The article How Apple Inc. Goes From a Product to a Platform Company originally appeared on Fool.com.

Daniel Sparks owns shares of Apple. The Motley Fool recommends Apple, Google (A shares), and Google (C shares). The Motley Fool owns shares of Apple, Google (A shares), and Google (C shares). 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.