Apple Will Depend on Services for Revenue Growth: Morgan Stanley

Investors should not panic about falling iPhone sales as Apple Inc.’s (AAPL) services platforms are more than capable of stepping up to become the company’s main growth engine, according to Morgan Stanley.

The tech giant’s shares have fallen over the past few weeks, following CEO Tim Cook’s revelation on a first-quarter earnings call that the iPhone X isn't selling well. In a research note, reported on by Barron’s, Morgan Stanley’s Katy L. Huberty urged investors not to be disheartened, claiming that services such as Apple Music, iCloud, Apple Pay and the company’s App store can easily compensate for this shortfall in revenues.

“Over the last five years, the vast majority (86%) of Apple’s 8% annual revenue growth was driven by iPhone sales,” the analyst wrote in the note. “But as replacement cycles extend further and device installed base growth slows to single digits (from 14% over the last two years), it is through monetization of Apple’s Services business that we see the company still generating mid single digit revenue growth.” (See also: Apple Making Its Own Screens: Report.)

Huberty slapped a price target of $203 on the stock, representing 20% upside on Wednesday’s close price of $168.85.

Services Untapped Potential

Huberty predicted that the proportion of revenues generated from the iPhone will drop from 86% to 22% over the next five years. However, she also forecasted that services sales will increase to 56% from 23% and that turnover generated from wearables, such as the Apple Smart Watch, will similarly soar.

According to her estimates, Apple currently generates about $30 of service revenue per device, up from $25 two years ago. Over time, Huberty is confident that this figure could double to $60 and even “approach $100 or more" because only about 18% of Apple's total device installed base are paid subscribers.

In the note, the analyst backed up her bullish projections by revealing what some of Apple’s peers charge their users. Amazon.com Inc.'s (AMZN) Prime has about 106 million subscribers who pay about $99 per year, she said, while Netflix Inc. (NFLX) has roughly 111 million members who pay about $120 per year.

Apple Music, she added, is growing considerably, and has significant headroom to expand as only 2.9% currently use it. The analyst was also bullish about iCloud subscribers growing, noting that Apple is set to launch two new data centers in China, and commented that Apple Play, used in 50% of US retail locations, is yet to fulfill its full potential. (See also: Data Furor Show's Apple's Competitive Edge: UBS.)