Part of the complaint alleges that Google uses its massive spending power to pay Apple (AAPL) anywhere between $8 billion and $12 billion per year in a revenue sharing agreement that requires Apple to use Google’s search services as the default search engine for everything from its Safari browser to Siri to its Spotlight search app.
And according to BofA Global Research analyst Wamsi Mohan, the lawsuit could have a significant impact on Apple’s important Services business. In a note this week, Mohan says any changes to the revenue sharing agreement could create “headwinds” for the services revenue stream.
Google and Apple are more tightly joined than you realize
While Google and Apple are serious rivals in the smartphone space, and Apple regularly needles the company and Facebook (FB) for profiting off of user data, the iPhone maker and search giant appear to have a rather chummy relationship thanks to the revenue sharing agreement.
According to the Justice Department’s complaint, the revenue sharing agreement incentivizes Apple to send search traffic to Google. In fact, the complaint cites Google as saying that nearly 50% of its search traffic came from Apple devices in 2019.
The complaint further says that Google CEO Sundar Pichai and Apple CEO Tim Cook met in 2018 to talk about how the two companies could generate greater search revenue growth.
“After the 2018 meeting, a senior Apple employee wrote to a Google counterpart: ‘Our vision is that we work as if we are one company,’ “ the complaint states.
And remember that billboard Apple posted in Las Vegas last year that said, “What happens on your iPhone, stays on your iPhone”? Well, that may be true, but if Apple is also explicitly sending users to Google’s service, it’s also arguably complicit in Google sucking up any data collected by those same users.
Ending the agreement could be painful for Apple
If Google is forced to revisit its revenue sharing agreement with Apple, it could have a major impact on the iPhone maker’s bottom line.
That revenue sharing agreement is part of Apple’s Services segment, which has been of increasing importance over the years as iPhone sales have slowed due to consumers deciding to keep their devices longer.
In 2016, Cook set a goal of doubling the company’s Services revenue by 2020. The firm accomplished the goal with time to spare thanks to, among other things, the growth of its Apple Music service, and the launch of its Apple TV+ and Apple Arcade services.
Apple has regularly celebrated growth in its Services segment, with Cook touting its “accelerating growth” in the company’s press release for its 2019 full year earnings report. More recently, the CEO called out double-digit growth in Services in a release for Apple’s Q3 2020 earnings during which the segment saw net sales of $13.2 billion.
In other words, that $8 billion to $12 billion a year that the DOJ notes as coming from Apple’s agreement with Google is an impressive chunk of the iPhone maker’s Services revenue.
Apple’s full 2019 Services revenue topped out at $46.3 billion. That makes the revenue sharing agreement worth between 17% and 26% of the segment’s total annual revenue.
“We estimate that Google TAC [traffic acquisition cost] payments have contributed more to overall Services and Services growth than many investors appreciate,” Goldman Sachs analyst Rod Hall wrote in a September research note.
“We believe these service payments are likely to grow more slowly looking forward as Apple’s user base growth continues to slow,” he added.
Mohan, while admitting he doesn’t know what would satisfy the government, says that one potential outcome could be that the companies make room for competitors on Apple’s devices.
“In effect users would have to ‘opt-in’ to using the Google search feature on Apple devices that would put other competitors on equal footing as a gateway to search,” he wrote in his note.
Wedbush analyst Dan Ives, meanwhile, says that there’s little chance that the threat to Apple’s agreement with Google will hit Apple’s stock price anytime soon.
As for Apple leaving the agreement, Ives says it’s unlikely.
“There is a better chance of me pitching in the World Series for Game 3 than Apple terminating this deal, although depending on the scale and scope of the DOJ Google suit it could be a cause for concern over time,” Ives said.
Still, it will take years for Google’s suit to make its way through the courts, meaning both companies have plenty of time to figure out their potential next moves.
We reached out to Apple for comment on its role in the Google lawsuit but did not receive an immediate response.
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