What Lies Ahead For The iPhone As It Turns 10

by Trefis Team
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This week marks the 10th year since Apple‘s (NASDAQ:AAPL) iconic iPhone first hit store shelves. The smartphone, which is viewed as one of the most successful consumer products in history, has likely sold around 1.2 billion units to date, helping to propel Apple’s market cap to over $750 billion (roughly 10x the since the device was first unveiled). While growth in the smartphone market is expected to slow down in the near future, with IDC projecting a CAGR of 3.8% per year over the next four years compared to the double-digit growth rate seen just two years ago, Apple could continue to garner much of the value in the industry. That said, there are some risks on the horizon as well. In this note, we take a look at what could lie ahead for Apple’s most valuable product.

We have a $154 price estimate for Apple, which is slightly ahead of the current market price.

See Our Complete Analysis For Apple Here

Services Will Drive Value Growth

The iPhone has helped Apple’s iOS become one of the world’s most dominant computing platforms, while spawning an enormous services business. Besides subscription revenues from its paid Apple Music and iCloud services, Apple earns a cut off third-party subscriptions and app purchases on the app store. Service related revenues (including iTunes and Music) have grown at a CAGR of around 20% from fiscal 2008, when Apple first opened the App Store, to around $24 billion in FY’16, becoming Apple’s second largest segment, ahead of the Mac. In addition to bringing in healthy profits, the services unit also increases the switching costs around the iPhone. Apple’s clout with developers, and its easy- to-use development kits could help iOS remain the platform of choice for new apps. For instance, early reviews of its augmented reality (AR) focused ARKit, which could enable a richer service experience on its devices, have been very positive, with reviewers praising the real-world use cases and quick development times.

Apple’s Investments In Proprietary Technologies 

While the smartphone manufacturing ecosystem is highly evolved – with even small manufacturers getting access to the latest components, ranging from SoCs and displays to contract manufacturing services that allow them to put together quality devices – Apple is one of the few companies (along with Samsung) that has the wherewithal to invest in more niche technologies that can keep it ahead of the curve. For instance, on the hardware front, the company has developed new technologies such as 3D-Touch, Taptic engines. The company’s 10th anniversary device is expected to take this trend further, with rumors pointing to an in-screen finger print sensor and 3-D sensing capabilities. Apple is also heavily invested in developing chips in-house, and is reportedly venturing into graphics and Artificial Intelligence-related chips as well. This should help the firm maintain an edge over its smaller rivals.

Tailwinds From The U.S. Wireless Market

Unlike the broader consumer electronics market, where prices of products typically decline over the long-term, iPhone ASPs have been increasing in recent years, driven partly by Apple’s clever management of its storage tiers and screen sizes. We believe that the trend should continue in the near term, supported by some tailwinds in the wireless markets. For instance, U.S. wireless customers are seeing deflation of their wireless bills, potentially giving them more money to spend on higher-end mobile device. The consumer-price index for wireless phone service declined by 12.5% year-over-year in May, per the Bureau of Labor Statistics. The increasing availability of equipment financing (installment plans, leases) from carriers should also help Apple as they allow customers to buy devices with no down payment, with the entire cost of the device paid over a year or two. For instance, a $100 price hike on an iPhone translates to just about $4.50 per month over two years.

Is Apple Equipped To Win The AI Race?

Artificial intelligence is likely to be a major growth area for tech companies, as they look to make their devices smarter and more perceptive. Apple got into the AI game early, launching the Siri voice assistant on the iPhone 4S back in 2011, while making multiple AI-focused acquisitions (Lattice Data, Turi and Perceptio). However, despite Apple’s early-mover advantage, competitors such as Google and Amazon now produce compelling products (Assistant, Alexa) that are generally viewed to be more relevant and functional compared to Siri. Access to big data plays an important role in machine learning, and companies such as Google and Amazon are well-positioned as they leverage data from their search, advertising and e-commerce operations, while relying on their massive cloud infrastructures for processing. In contrast, Apple has focused on the privacy aspect of its devices, with a relative unwillingness to work with user data, while carrying most of its processing on-device. It will be interesting to see if this approach pays off over the long run.

Google Emulates Apple’s Smartphone Business Model

Much of the success of the iPhone can be attributed to Apple’s model of offering well-designed hardware, with easy-to-use software and services. Late last year, Alphabet’s (NASDAQ:GOOG) Google took a page out of Apple’s playbook, launching its high-end Pixel handset that marries high-end hardware with its Android software and cloud-based services. Reviews of the Pixel have been overwhelmingly positive, with critics praising its cleaner implementation of the Android software, its AI capabilities and camera.  Google appears to be taking its smartphone hardware ambitions more seriously this time around, unlike previous attempts with the Nexus program when it partnered with various OEMs. For instance, there are reports that Google could be designing its own chips for the Pixel as well.  While there’s no guarantee that Google will be able to compete with Apple at scale in the premium smartphone space, it is a risk that is nevertheless worth noting.

 Apple’s Massive Dependence On the iPhone Poses Risks

The iPhone accounts for about 60% of Apple’s revenues and about 75% of its profits, per our estimates, meaning that the device remains the biggest driver of Apple’s valuation by far. The largest tech companies appear to be more diversified in this sense. For instance, Samsung derives under 40% of its revenue from smartphone, while Google’s revenues are distributed across YouTube, mobile search ads, PC ads and AdSense, with each product holding under a 25% revenue share. While Apple has executed well on its iPhone launch cycles for the most part, there is always a risk that even small missteps could hurt the company badly. For instance, Samsung’s smartphone business suffered a big setback following the Note 7 fire crisis, and any hiccups or issues of a similar nature could hit Apple hard.

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