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Apple earnings growth comes from transition to services

The transition of many tech giants into software and services vendors was apparent during Apple earnings on Tuesday night. The biggest tech company in the world, known for the Mac, iPhone and iPad, is in the midst of this transition.

Apple’s iPhones were still far and away the company’s biggest source of revenue in the quarter ending July 1. But Apple’s earnings call revealed only 2% growth in iPhone sales year over year in that quarter, a three-month stretch in which the overall smartphone market dropped by 3.3%, according to IDC.

Despite this slow growth in Apple’s biggest product segment, the company was still able to increase its revenue by 7% to $45.5 billion. That’s because Apple’s services segment saw 22% growth year over year, bringing in more than $7.27 billion — making it Apple’s second-most valuable product segment, beating out both the Mac ($5.59 billion) and the iPad ($4.97 billion).

Other tech giants are focusing on software and services as well.

“That’s the way the industry is going,” said Zeus Kerravala, founder and principal analyst at ZK Research in Westminster, Mass. “People underappreciate how much engineering it takes to make software easy to use. Apple offers an experience that’s unparalleled, and it changed the industry.”

In a much more extreme example, BlackBerry’s smartphone business fell off a cliff in the late 2000s, and the company survived on its savings account while transforming itself into a software and services company. Today, BlackBerry still makes phones, but it’s the enterprise mobility management software and QNX software for connected cars that pay the bills.

Another tech giant that adjusted its business model is Microsoft, which has always been a software company but now makes more money from Office 365 subscriptions than it does from on-premises Office licenses. Microsoft faced a huge problem when it would release updates to Windows or Office and few customers would buy the new versions right away, Kerravala said. Now companies pay the subscription fees for Office 365, Azure and other Microsoft software.

“They made that transition nicely,” Kerravala said. “This is a company people thought was dead under [former CEO] Steve Ballmer.”

Apple’s services segment is largely made up of revenue from App Store apps and in-app purchases. It also includes money made from organizations creating and deploying custom iOS apps. Apple made key partnerships with SAP and IBM over the last three years, allowing organizations to create these apps using its Swift programming language while taking advantage of those enterprise vendors’ back-end systems.

Highlight during Apple’s earnings call was the fruits of the company’s partnership with SAP. SuccessFactors Mobile, SAP’s first human resources app for iOS, shipped in June, and 47 million employees worldwide will use it.

Apple’s software and services business has plenty of room to grow, too, thanks to new offerings such as ARKit. With every iOS developer on the planet having access to this developer kit, augmented reality apps could soon be commonplace on Apple devices.

“It’s exciting to think of the possibilities,” Kerravala said.