This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.
If you bought Apple (NASDAQ: AAPL) stock 10 years ago and held on, you'd be a pretty happy investor. Over the past decade, the stock has generated a nearly 800% return. As a result, a $50,000 investment would be worth about $450,000 today.
Apple is a tremendous story. The company was once on the brink of bankruptcy only to become one of the largest companies in the world. Now you may think given Apple's current size that the stock won't be able to turn in the same type of performance as it has the past decade. However, there are a few things to keep in mind.
One is that Apple's 10-year performance came when it was already the largest company in the world at the start of this period. Second, all of this outperformance occurred years after founder Steve Jobs had passed. With that in mind, let's look to see if an investment in Apple can set you up for life.
Reasons to be bullish on Apple
While Apple is best known for its popular iPhone, the real driving force behind its business in recent years has been its service business. Powered by its app store, Apple gets a piece of nearly every dollar spent through the platform. Currently, it gets up to 30% of every sale on its platform in most regions, or 15% from smaller developers.
While that may sound like a lot, it's similar to other distribution models. For example, Roku takes a 20% to 30% cut for streaming channels on its platform (excluding Netflix), while markups on certain goods from retailers can be quite high. However, the beauty of Apple's model is that its app store has very low overhead costs for app distribution.
As such, this leads to a very high-gross-margin business. Last quarter, its services business had 74% gross margins versus 35% gross margins for its product business. Its services segment includes other attractive high-margin businesses, such as Apple Pay, Apple Care, and cloud services, where users pay to get more storage on their devices. It is also home to Apple TV and Apple Music, which likely carry much lower margins due to content costs.
Apple has been able to become one of the world's most valuable companies by creating a walled-garden system over which it has a lot of control. This not only helps it create a smooth experience for users, but also a very sticky one. Once part of the Apple ecosystem, users tend to stay. As such, even as device sales have struggled recently, its high-margin service revenue has been still growing nicely, as evidenced by the 14% increase in revenue it saw last quarter.
Moving forward, Apple should have a nice opportunity with artificial intelligence (AI). This likely happens in two main ways. The first is that AI should spur a hardware upgrade cycle in the coming years as consumers upgrade their iPhones to newer models to run AI applications. Second, as users buy more AI-related apps from the app store, Apple should see a nice boost to revenue and profits.
Risks of an Apple investment
An investment in Apple is not without its risks.
The company has the potential to lose out on a big chunk of high-margin revenue it was getting from Alphabet to use Google as its default search engine on its devices. Alphabet recently lost an antitrust lawsuit, and one of the government's big contentions was the agreement between the two companies.
The Google deal has been estimated to be as high as $25 billion a year from analysts at Jefferies, as Alphabet was paying Apple 36% of its search revenue that originated from Safari to be the exclusive search engine for the web browser. While that is only about 6% of Apple's revenue, it is pure margin, so it has been projected to be nearly 20% of its operating profits.
The final remedy of the Alphabet antitrust case is still unknown, but the exclusive search deal between Apple and Alphabet will likely be impacted. I wouldn't expect all of this revenue to go away. There could still be a non-exclusive revenue share deal between the two, and it is likely that most users will stick with Google Search as their default, given the alternative options. In this scenario, maybe Alphabet pays a smaller percentage, or maybe it doesn't. Meanwhile, any other search providers would also likely have to pay a percentage of their search revenue as well.
Apple could also opt to use an internally developed search engine and keep all the ad revenue generated from searches on its devices. While the company prefers to use Google, the internally developed option can be used if it is not getting paid enough money due to losing its exclusive deal. Apple has been rumored to have been working on a search engine for a couple of years. If true, it could, at the very least, use this as leverage when negotiating non-exclusive deals.
Apple also faces a regulatory risk to its App Store business as well, as companies have complained about the cut the company takes. However, the tech giant has won lawsuits in the U.S. in the past and has come up with creative ways to keep app developers from using third-party app stores in Europe, after the European Union forced it to open up its business. This included charging third-party app stores a core technology fee of 50 euro cents ($0.54) per user per year. In addition, app developers that have more than 1 million installs per year would have to pay the same fee for every new install over 1 million. That can add up to a lot of money fast.
A long-term winner
While Apple is facing some risks, the company has shown to be resourceful in the past and should be able to mitigate anything that comes it way. The stock has been a long-term winner for a reason, and I don't see that changing. Meanwhile, AI could be the next catalyst to drive the stock higher.
While Apple's stock by itself may not set you up for life moving forward, it can still be a solid core position in your portfolio.
This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.
