India Bans Second Hand iPhones, the Services Narrative, Hardware Maturity

India will remain a key area of interest in the iPhone narrative. While we can chime in on the big debate of whether the iPhone will see growth again in 2017, we can’t ignore the reality that, even if it does grow, only single digit growth is to be expected. I say that with one massive and largely unpredictable caveat. Apple’s customer base fueled the anomaly we saw in Q1/Q2 2015 with the release of the iPhone 6/6 Plus and we can’t discount the possibility of some new innovation to get them to move in massive quantities again at some point in time. That being said, that is largely unpredictable and, even if it happens, it will be a one off instead of the norm. Which is exactly how we should view the growth engined fueled by the 6 and 6 Plus.

Long time subscribers and readers will know we have been talking about India for a while. Sales in 2015 crossed 2m in India and we believe there is growth to be had with Apple in India as the country continues to develop. I remain skeptical we will see anywhere near the same kind of rapid growth we saw in China, but growth will come in India for sure. It is interesting news that the country is not going to let Apple sell refurbished iPhones (or certified pre-owned iPhones) in the country. The main speculation is this could be a move to protect local brands. It’s not a secret that India wants to see their own homegrown brands succeed and grow, along with devices made in India. Those two variables continue to fuel some of the political moves made by local administrations. It is also no secret India is looking to get Apple into the country both with retail stores and to entice them to make phones there as well, in a hope to create more jobs and spur the economy. I read partially into this move the fact Apple does not have any local retail stores. iPhones are sold through “official resellers”, not by Apple directly in the country. Often times, these retailers may also dabble in grey market goods or fakes even if they are an official retailer. Arguments have been made by other analysts that India is concerned about the quality and trust of these devices, given some vendors may be shady. I doubt whether that is fully the case and have strong reason to believe, if Apple had retail stores in India, they would be able to sell refurbished (certified pre-owned) iPhones through their own official channel. So, as of now, my read of this is India regulators have done this specifically to get Apple to make strides in doing the things Indian officials prefer they do to compete in India.

The Services Narrative

At some point, I need to write out my full thesis on the Apple services narrative. But here are some things to chew on.

First, I’d like to submit this chart of total revenues by a number of key companies driving the industry today:

Screen Shot 2016-05-04 at 8.49.53 AM

I show this to highlight the outlier Apple is, thanks to their being a consumer-focused vertically integrated company from a hardware and software standpoint. It is the monopoly they have with iOS that is the sole driver of the position they are in to drive significant hardware revenues. Apple’s monopoly on iOS is a primary driver of why hardware margins are not at risk. Sales may be slowing and the category is maturing for smartphones, PCs, and tablets. Apple TV, Apple Watch, any VR play from Apple, and any other hardware endpoint will doubtfully ever see the scale of the iPhone. Hardware revenue is not as large a concern for Apple, just the rate in which it increases. This is why the services narrative starts to get interesting. I’m not going to chime in on if we are at peak iPhone yet but I will say, I do not believe Apple is at peak revenue. Besides new hardware categories, I think services is the big upside here.

Apple is making the case their customers are loyal. True. They spend money regularly thanks to the fact Apple sold them the hardware. My data confirms Apple customers, even if they convert from Android, spend more money the longer they are in the ecosystem. Many consumers don’t just own one Apple product — the average is between 2-3, with an intent to add more over time. I’d propose we view services in a similar light. As Apple acquires customers, these customers often become prime candidates for new hardware. I’d argue the same is true with services. As Apple adds new services these customers become prime candidates to buy them. $3.99 for cloud storage per month. $10 for Music per month. $25 for a TV subscription per month (speculation on my part). $30 a month for your iPhone. Maybe $60 per month for an iPhone, iPad, and Apple Watch. You get the picture. Note that’s per individual user. With over 600m people, this opportunity compounds.

For fun, I charted just services revenue for a few key companies we all agree fall into the services category against Apple’s services business:

Screen Shot 2016-05-04 at 7.03.27 PM

Looking at this chart, we need to make a few points. First, I looked at Comcast’s breakdowns of just TV subscription services revenue and estimated their quarterly revenue. I did this to make a point about the potential for TV subscription revenue. Comcast makes just over $5 billion a quarter from their TV subscription services and they do so with only 18-19% of the US market as their customers. We believe Apple will launch a subscription TV service at some point and ~50% of US customers are Apple customers. I broke out Amazon Web services just for comparison and scale, then Facebook and Google for your advertising/free services comparisons.

Services alone is a decent business but, by itself, it’s not really a gigantic business. Now, looking at the services revenue at scale and seeing what upside Apple can add to their hardware business starts to get to the root of how Apple can integrate services into their hardware and build a stable and growing business on top of an already massively profitable hardware business. My hunch is these two realities will be deeply intertwined.

Hardware Maturity

PC, tablets, and now smartphones are mature markets. Which means these three segments will begin to face dynamics of mature categories where growth is typically slower and the slowing pace of innovation also slows the growth cycle as existing customers hold onto devices longer due to a lack of need to get the shiny new object that won’t change their life as much as previous ones did. That is the reality and there is no escaping it. Growth can be had, for sure, it just won’t come at the same rate as before.

If you have not read this excellent post by Benedict Evans, I encourage you to do so. His observation is relevant in the categories I mentioned and it seems like we are certainly seeing this dynamic play out as innovation has slowed. There are new hardware categories, like wearables and VR, but again we question if they have the scale of the smartphone or even the iPhone. Looking back over the past 10 years, something unique happened. We saw the dawn of a purely global market for consumer technology and innovation happened at a pace not seen before. That was simply not sustainable and now we are seeing the pause as we wait for a new cycle. All of this is relevant to keep in mind as we think about the next few years in consumer technology.

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Ben Bajarin

Ben Bajarin is a Principal Analyst and the head of primary research at Creative Strategies, Inc - An industry analysis, market intelligence and research firm located in Silicon Valley. His primary focus is consumer technology and market trend research and he is responsible for studying over 30 countries. Full Bio

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