Is Diversification Apple's Answer to iPhone's China Struggle?

Apple’s AAPL struggle with falling iPhone demand and poor price performance has compelled it to diversify the services businesses at a fast pace, in a bid to ride out the alarming drop in China’s iPhone sales.

Apple has been forming an array of partnerships with its competitors in its service businesses segment such as video streaming and making its services available on other platforms to generate revenue growth apart from its commission-driven services business operations.

This new approach to diversify the company’s operations in order to eliminate risks indicates Apple’s changing mindset about expanding its reach beyond the iPhone.

Sluggish iPhone Sales Threaten Apple Revenues

China’s weak economy has been instrumental in pulling back iPhone sales throughout last year, largely owing to the ongoing trade war with the United States. Declining popularity of iPhone among Chinese consumers, who feels that iPhone, seeks a higher price than it’s worth and now have homegrown brands such as Xiaomi and Huawei to choose from also played a part.

China is a competitive market for smartphones by virtue of its population and accounts for nearly a third of the iPhone’s total sales worldwide. Thus, the importance of an affirmative stand in the Chinese market cannot be understated for the iPhone maker.

Although iPhone was exempted from U.S.-China trade tariffs, poor pricing strategy and lack of innovation on its part has made Apple lag Samsung and Huawei in the global smartphone market.

Fourth-quarter iPhone shipments to China witnessed a 20% decline from the year-ago period as sales are expected to decline 4.8-5.5% in 2019 against decrease of 2.9-3.3% in 2018, reflecting iPhone’s poor demand in the Asian nation. This makes it prudent for Apple to dip its toes in other revenue-generating spaces rather than depend on iPhone sales alone.

Quality Services to Dominate New Partnerships

According to a Forbes report, services businesses have been Apple’s major growth driver, expanding about 20% over the past few years. Commissions from third parties, licensing, for app sales etc., generate about two-thirds of the services revenues.

Apple’s first key partnership was with Amazon AMZN in November, when Apple Music was made available on Echo devices. This allowed users to control streaming using Alexa, a competitor to Apple’s Siri. A few months before this partnership, Apple had tried to take on Echo with its HomePod speaker, but failed to establish itself in a way it could compete with Alexa.

Earlier this month, Apple announced a partnership with one of its fiercest competitors Samsung SSNLF, which makes available iTunes movie and TV content on Samsung smart TVs. In addition, iPad and iPhone users can send content from their screens to Samsung smart TVs using AirPlay 2. Although the two companies have been rivals in the smartphone space for years, Apple receives many of its key components such as hardware for its gadgets.

Apple formed a partnership with Verizon VZ this week to offer free Apple Music with selected premium data plans of the latter. Apple’s willingness to make its content available on other platforms is indicative of its understanding of the vast consumer base that doesn’t own an Apple device and thus isn’t able to access Apple content.

Apple is also going to unveil a TV service toward the end of this year that offers both free and paid content.

Apple’s bid for diversification could ultimately provide a significant boost to the company’s growth and revenues if it can generate quality content that can compete with industry rivals such as Netflix NFLX, Amazon and Hulu in the video streaming space.

Amazon carries a Zacks Rank #2 (Buy). Apple and Verizon carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank stocks here.

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