As Apple stock heads lower still, following an early April rally that faded after earnings, one concern about the company’s business model becomes more salient. To many a key tenet of the investment thesis on Apple, the App Store could become a source of bearishness this time.
The importance of the App Store
Apple’s revenues are still quite exposed to quarter-to-quarter lumpiness. Even though consumers tend to upgrade tech devices every so often, product sales can fluctuate in the shorter term, creating some uncertainty in financial results that investors are unlikely to reward.
The services segment in general, and the App Store in particular, are different. Revenues are often recurring and driven, in great part, by total number of Apple device users and their engagement on the platform.
Unlike quarterly sales, the user base figure does not change much from period to period, other than modestly but consistently higher over time. Therefore, service revenues tend to be more predictable, while usually producing better margins.
See the graph below. Notice the stability of services segment (orange line) vs. total company (blue line) year-over-year growth in the past couple of years.
For this reason, the App Store, which I estimate to represent roughly one-third of Apple’s services segment, has been often cited by Wall Street experts as a source of bullishness. This is especially true during a 2021 in which iPhone, iPad and Mac sales are expected to encounter tough comps very soon.
Change in commission coming?
Here is the first problem. Early May marked the beginning of the Apple vs. Epic Games trial. The latter has been accusing the former of using the App Store in a way that discourages competition and rewards the Cupertino company over developers.
Any of several outcomes could derive from this legal fight: from an Apple victory in court to a settlement between the two parties. The most destructive consequence to shareholder value, in my view, would be a change in the App Store’s monetization model that hurts Apple’s future financial performance.
I talked about the risk in more detail back in November 2020, when Apple lowered its commission charged from certain, smaller developers to 15% from 30%. The move turned out to be largely irrelevant to Apple’s P&L, since most of the App Store’s revenues come from the largest developers whose commissions have not been impacted by any adjustment in the policy so far.
Should this change because of the Apple-Epic battle, investors could see an undesirable move in Apple stock’s price in the foreseeable future.
The post-pandemic headwinds
Lastly, but probably more impactful to short-term results, evidence begins to surface that App Store revenues will not be as strong as previously expected in fiscal third quarter. This could be the beginning of a six-month period of challenges for the App Store, as:
- comparisons against early COVID-driven demand toughen and;
- discretionary dollars begin to shift towards away-from-home spending in a post-pandemic environment.
Could the App Store turn into a bigger headache for Apple, or will the concerns subside without much of an impact to share price? I asked Twitter for an opinion, here are the responses:
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(Disclaimers: this is not investment advice. The author may be long one or more stocks mentioned in this report. Also, the article may contain affiliate links. These partnerships do not influence editorial content. Thanks for supporting The Apple Maven)