Does Apple (AAPL) Get Platforms? - UBS

UBS analyst, Steven Milunovich, is concerned that Apple (NASDAQ: AAPL) isn't fully leveraging its platform and discussed a way for the company to get additional leverage in a note this morning. No change to Buy rating or $120 PT.

The role of Services must be understood in a platforms context. Apple has two types of platforms. iOS is an innovation platform, in which software and services support high margin device sales. The company also has a number of transaction platforms, such as the App Store, Apple Music, and Apple Pay, which monetize services more directly. We consider the innovation platform paramount—if Apple doesn't sell hardware then it doesn't enjoy services revenue. Consequently, emphasizing Services as the reason to own the stock has the relationship backwards, for the most important role of services is to create the ecosystem that makes devices attractive.

Services could be 20% of profit in 2020 but still tied to hardware. Services could increase from 10% of revenue and 13% of gross profit today to 12% of revenue and 20% of profit in 2020 as mix shifts to higher-margin offerings. Services likely are quite profitable with a 60%+ gross margin. In weak iPhone years, Services can provide as much as 30% of revenue growth and an outsized profit contribution. Still, total revenue growth will be low-single digit without hardware growth, and most services are tied to hardware success—no device sale, no services.

The iPhone alone is a pipeline product—the addition of the App Store makes it a platform. On one hand, Apple has turned iOS and various services into platforms requiring a more open way of thinking. On the other hand, Steve Jobs initially was against iTunes and the App Store, and management's recent emphasis of services

monetization is questionable. According to Bloomberg, Apple might charge developers for App Store search placement, a bad idea in that services should support device sales. Just as Intel's Andy Grove learned disruption theory from Clay Christensen, perhaps Cupertino should invite Professor Van Alstyne in for a platforms discussion.

For an analyst ratings summary and ratings history on Apple click here. For more ratings news on Apple click here.

Shares of Apple closed at $109.85 yesterday.

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