Apple’s Services Challenge

With last week’s news that Apple Music will be available on Amazon Echo devices, I thought now was a good time to look at the challenge growing a services business will be for Apple. The narrative of upside and opportunity for Apple’s services business is both true and important. However, continuing to grow the services business is going to force Apple outside their comfort zone and to utilize aggressive techniques where their competitive advantage has not historically be as strong.

Apple’s Dependence on Services Growth
It is first important to establish how significant services growth is for Apple. At least for the foreseeable future, the growth of Apple’s services business will remain a key area of focus for anyone analyzing Apple’s business. For investors, the continued growth in services revenue will remain essential as much of Apple’s stock price will depend on this business until the next hardware hit comes around.

To that end, we can argue services, for Apple, is extremely important holistically. While, Apple’s customer loyalty was extremely high even before Apple’s first-party services, and growing services ecosystem was a thing, that customer loyalty is driven even deeper with subscription services. So continuing to maintain stickiness in the ecosystem is now, and has been for a while, been expanding beyond an app ecosystem and now into a services ecosystem. Strength in one of these would have already made a wide and deep moat, having both makes the moat much larger and harder for any competitors to cross.

But the harsh reality is hardware sales have peaked. It is also likely Apple’s ASP has peaked. This is particularly true if the iPhone XR is the volume seller of the mix as recent reports, and Apple commentary has suggested. Many will argue that peak iPhone means a downhill ride. As of now, I do not agree. Peak iPhone will correlate to iPhone stability, and I think we can reasonably assume relatively flat iPhone sales for years to come.

But a flatness of hardware business sales for years to come can be offset by services growth which blossoms naturally out of the stability, and sheer growth of the last decade, of Apple’s hardware business and specifically iPhone. All of that to say, Apple’s services business can, and likely will, benefit from an organic growth mechanism as have past ecosystem movements around Apple.

The Challenge May Be As Great as the Opportunity
In my mind, Apple’s services pose one of the companies greatest challenges as much as it does one of its greatest opportunities. While we should never be in the line of thinking that says Apple is becoming a services company, we should certainly understand service as a business and a potentially big one at that.

But from years of doing consumer research, subscription services have always highlighted unique challenges. This unique challenge is the one reason why I think the availability of Apple Music on Amazon Echo devices was a strong strategic move but also one of many I think will come.

A point about services I think is important to make is how a consumer will often separate the money they shell out for a service from the brand that offers it. To say it another way, services are neutral. The nature of subscribing to a service has historically assumed that service is widely available where the consumer wants it. The caveat being things like cable TV service (until late) or something like satellite radio, but neither of those models has ever yielded significant scale in the wider consumer market. Services that do scale take a more horizontal/modular approach and benefit from being as widely available on all shapes of hardware. This will be true of Apple’s first-party services as well. The consumer mindset is one of If I subscribe to Apple Music, I feel I should not be limited to just Apple hardware to get the most out of my monthly subscription. Or said another way, consumers will find subscribing to a service a harder sell if it is not more widely available. It is simply the new expectation in the digital age and wanting content anytime, anywhere.

It is, then, reasonable to assume, that anything Apple has up its sleeve with News and media (TV) subscriptions will likely follow a similar path and be available on more than Apple hardware.

Forcing Apple to Compete on Services
Lastly, I’d like to touch on the most interesting part of Apple’s services strategy. Growing a services business will stretch Apple in ways I’m not even sure they can comprehend yet. Apple is not a services company, the same way that companies they are about to try to compete with are services companies.

Apple still has not perfected their cloud services strategy with a range of first-party experiences like iMessage, continuity, Siri and a host of other things that still break and remain inconsistent at best. To compete in services, Apple is going to battle on ground where they don’t have the advantage and are up against companies who spend more, control more of the cloud platform, and have built teams and decades of core expertise building services companies.

I say this is fascinating, because I do think Apple knows what they are up against and that their first party services are often not as competitive. I hope that Apple is up to the challenge and will be forced to compete and thus their services will get better. In specific areas around hardware, and to some degree platforms and OS, Apple’s competition is limited. As they start to compete on services, they will enter a much more fierce market competitively than perhaps they have ever been in before. This will be a true trial by fire for Apple and if they succeed it will be hard to be anything but incredibly bullish on Apple’s future.

In truth, Apple’s services —broadly speaking— will have to get better if their services upside is to be fulfilled. Adding a viable, and sustainable services business may be more strategically important to Apple’s future than many appreciate.