Can App Store Become Apple’s Next Growth Driver?

  • Apple has announced impressive revenue numbers for App Store in 2015.
  • App Store revenue is about three times as much as Apple Watch revenue.
  • App Store has good potential to become Apple's next major growth frontier if the expected slowdown in iPhone sales becomes a reality in the coming years.

The growth narrative keeps getting better for Apple (NASDAQ:AAPL) App Store. Apple has reported that more than $20B was spent on App Store apps in 2015, 33% more than the $15B spent in 2014. Apple also disclosed that it had paid out more than $40B to developers over App Store’s lifetime. Since developers take a 70% cut on App Store sales with Apple taking the rest, it implies that App Store has brought in gross revenue of $57.1B over its lifetime. It also implies that Apple booked net revenue of $6B+ from App Store in 2015.

Apple lumps sales of iPods, Apple Watch, Apple TV and other products in this category. During Q4 2015, Apple reported revenue of $3.048B for its Other Products. This means that even though investors have generally been focusing on new products such as Apple Watch to become Apple’s new growth frontier, App Store is probably the company’s best bet. The consensus is that Apple sold ~4 million Apple Watches during the quarter. Assuming an ASP of $500 for Apple Watch, Apple realized revenue of $2B from its smartwatch.

Apple-2

Source: AppAdvice

Apple Watch has not caught fire as earlier expected due to intense competition from the likes of Fitbit and Jawbone. Even though the smart wearables market is expected to grow at around 30% CAGR through 2018, Apple might not be able to grow its smartwatch sales at the market average since it’s a high-end niche player.

Apple’s App Store continues to show a clean pair of heels to Alphabet Inc-C (NASDAQ:GOOG) Play Store. It’s ironic that Google Play enjoys 90% more downloads than App Store yet App Store enjoys 80% more revenue than Google Play.

I therefore believe that App Store, not Apple Watch, has the best potential to become Apple’s next growth frontier. This is important now since the general consensus is that Apple is going to have an increasingly hard time growing its smartphone sales as the market nears saturation. Apple stock has been selling off ever since Japan’s Nikkei has reported that several Apple components suppliers expected to reduce production of iPhone 6s/6s Plus by 30% in the Jan-March quarter. Even though Apple has warned investors in the past about using supply chain rumors to predict Apple’s iPhone sales (most turn out to be inaccurate anyway), there is a good chance that there is some element of truth in those reports.

The Nikkei report seems to correspond to similar reports by Apple’s component suppliers in the U.S., and has earned Apple stock several downgrades lately including this one from Rosenblatt Securities:

"We believe iPhone 6S sales have slowed down during the holiday season reaching high market inventory levels. Therefore, we believe iPhone production has been reduced again in the past two weeks to 43M units for the March quarter. Now, we expect March quarter iPhone sales to be around 45-46M, considering enough inventory in the retailing channels ... Normally, iPhone sales resume normal seasonality in the June quarter, but it is in our view that the overall China smartphone market is slowing down to flattish YoY growth in 2016, which will affect iPhone sales growth in China. We do not believe India will become a meaningful iPhone market in the short-term.’’

China has been hailed as Apple’s last growth frontier and once the company saturates that market, growth is not going to be easy to come by. India is growing, but at less than 2% of Apple’s smartphone sales, the market is still too small to have a tangible effect on Apple’s top line.

The good thing about mobile apps is that they are not directly tied to new smartphone sales. People typically upgrade their smartphones maybe once every two or three years but continue downloading apps all the time. A slowdown in Apple’s iPhone sales might therefore not have a huge effect on the growth of App Store. App Store might therefore start playing a critical role in Apple’s growth a few years down the line.

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