Although earnings are driving the markets lower on Tuesday, one key analyst sees Apple Inc. (NASDAQ: AAPL) pushing its all-time highs even higher. Most of this gain is expected due to a big contribution from the firm’s Services segment. Credit Suisse took a bullish stance and also noted that the market currently underappreciates Apple’s growth potential.
Credit Suisse maintained an Outperform rating for the iPhone giant, but raised its price target to $170 from $160, versus a $141.83 closing price.
Ultimately, the brokerage firm believes that the market underestimates the gross profit contribution from the Services segment, but more importantly, that it underappreciates its growth potential and the annuity-type business it drives in terms of retention and replacement across the business.
Credit Suisse’s Kulbinder Garcha detailed in the report:
Services doubling revenue by 2020, to rise to 33% of GP. We estimate that with the existing slate of services, Services revenues could rise to $52bn long term from $26bn today (although we believe this will need a more direct video offering) driven by a high quality, affluent, digitally transacting user base of 1.1bn devices and around 650mn users. Given that GMs are around 70% for this business, it would suggest that services will contribute $39bn in GP long term from $19bn today. We see several financial benefits of this. First, we believe it will drive GM over 40% longer term suggesting upside to our projections. Second, it makes the cash-flow stream higher quality. Third, it gives an opportunity and platform from which Apple can launch new services offerings.
While a change in Apple’s valuation approach may take some time, considering Apple’s Services growth and an installed base that could grow to roughly 1.5 billion long term, Credit Suisse sees an annuity-like free cash flow that seems to be sustainable at about $75 billion in the long term.
Shares of Apple were trading at $141.59 on Tuesday, with a consensus analyst price target of $147.61 and a 52-week trading range of $89.47 to $145.46.