Much of the focus on Apple's (NASDAQ: AAPL) business around the holidays is often centered on the iPhone. With new iPhone models launching in September and November and considering the fact that the product segment accounted for 62% of Apple's trailing-12-month revenue, it only makes sense for investors to watch Apple's smartphone business closely. But there's another Apple business segment worth giving some attention: services.
Not only has services grown into Apple's second-largest product segment, accounting for 16% of Apple's fourth-quarter revenue, but it's growing much faster than Apple's iPhone segment. In addition, the services it includes represent a more steady and predictable source of growth for Apple than its hardware segments.
Apple App Store. Image source: Apple.
Apple's services segment will likely shine brightly in the company's first quarter, potentially bringing over $9 billion in revenue. Here's a look at the segment, and why investors should keep a close eye on it in fiscal 2018 -- starting with Apple's first-quarter results.
Breaking down Apple's services business
Apple services segment includes revenue from digital content and services (iTunes, the App Store, and Apple Music), AppleCare, Apple Pay, licensing, and other services.
Its growth is unmistakable. In the trailing 12 months, services accounted for 13% of Apple's revenue, up from 11% in the fourth quarter of fiscal 2016 and 9% in the fourth quarter of fiscal 2015. Making things even more interesting, growth in Apple's services business has accelerated recently. When excluding a favorable one-time adjustment of $640 million for services revenue in Apple's most recently reported quarter, revenue in the segment rose 24% year over year -- the highest growth rate for the segment in fiscal 2017.
Apple's services business has primarily benefited from breakneck growth in its App Store, which hit an all-time record in Q4. But there are other strong catalysts for the segment.
Apple Music's growth is strong enough that it has helped Apple's overall music business -- including digital music sales on iTunes -- return to growth. Declining sales in digital music had been plaguing Apple's music business for years as users increasingly turned to streaming music services. But the number of paid subscribers for Apple Music has been soaring, up 75% year over year in Apple's fourth quarter.
Further, between Apple Music subscribers and subscribers to other apps on the App Store, Apple has seen huge growth in paid subscriptions across apps. Total paid subscriptions by the end of fiscal 2017 hit more than 210 million, up 25 million in 90 days.
Then there's Apple Pay, which Apple said saw its active users more than double and its annual transactions soar 330% in fiscal 2017 compared to fiscal 2016.
Sharp growth in Apple's services revenue is an extraordinary achievement, considering Apple's services business alone is the size of a Fortune 100 company. But this is only the start.
Apple Music on Mac and iPhone. Image source: Apple.
With so many positive catalysts for Apple's services business, combined with a wave of new products just before the holidays, year-over-year growth in the segment could accelerate even more in Q1. In the months leading up to Christmas, Apple launched the iPhone 8, iPhone 8 Plus, iPhone X, Apple Watch Series 3, Apple TV 4K, and the iMac Pro -- all products that could help drive services revenue higher.
Add in the underlying momentum in App revenue, Apple Music, and Apple Pay, and it's likely that Apple's services segment could see revenue rise as much as 30% year over year in Q1, to $9.3 billion.
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Daniel Sparks owns shares of Apple. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool has a disclosure policy.