Apple Inc. (AAPL), the world's largest company by market value, is best known for its flagship iPhone -- including its latest, popular iPhone 11 model -- and other devices. But CEO Tim Cook is aggressively moving to offset the iPhone's slowing growth by boosting services revenue from streaming movies and TV, video games, music and other areas. Investors will be focusing closely on services growth when the company reports results for Q1 of fiscal year 2020 after the close on January 28. Apple is expected to announce modest results, posting quarterly revenue and diluted earnings gains of 4.5% and 8.2%, respectively, on a year-over-year (YOY) basis, according to consensus estimates. Nonetheless, investor enthusiasm about Apple's services strategy has helped the stock to dramatically outperform the market in the past 12 months, posting a 111% total return compared to a nearly 26% return for the S&P 500.

One Year Total Return for S&P 500 and Apple
Source: TradingView.

After the last earnings report, in which Apple beat consensus earnings and revenue estimates, the stock price quickly jumped. This trend has continued, leading Apple stock to a powerful upward surge into the company's new fiscal year.

Apple's revenue typically experiences dramatic fluctuations from season to season. Fiscal Q1, ending on December 31 and including the annual holiday shopping period, accounted for 33.2% of total revenue in FY2018 and 32.4% in FY2019. In FY2019 overall, Apple's quarterly revenue was disappointing, with YOY declines in the first two quarters and only marginal gains in the latter two. Over the same time period, diluted earnings saw larger variance, with gains of 7.5% and 4.1% YOY for fiscal Q1 and fiscal Q4, respectively, but declines in the other two quarters.

A big part of the reason that Apple's revenue has lagged is the company's flagship iPhone product, which saw a YOY net sales decline of 14.9% in Q1 FY2019. In the first fiscal quarter of recent years, Apple's iPad sales have grown modestly, but this has not proven sufficient to offset the slump in iPhone sales.

Apple Key Metrics
  Q1 2020 (estimate) Q1 2019 Q1 2018
Earnings Per Share (in dollars) 4.53 4.18 3.89
Revenue (in billions of dollars) 88.1 84.3 88.3
Services Revenue (in billions of dollars) 13.1 10.9 9.1
Services Revenue (% of total revenue) 14.9% 12.9% 10.3%

Source: Visible Alpha

Apple is making gradual progress in boosting its services revenue, thereby reducing its dependence upon the iPhone. The company's services include digital content stores like the iTunes Store and the App Store, streaming services like Apple Arcade and Apple TV+, as well as AppleCare, Apple Pay, and various other services. Sales from these lines make up Apple's services revenue, which is seen as a more stable and predictable revenue stream than hardware sales. The reason for this is that a subscription to a service requires a regular fee, while it is more difficult to predict when a customer will buy a new iPhone or Mac.

Apple's services revenue has made significant gains in recent years, but off of a small base. Analysts' estimate of $13.1 billion for Q1 FY2020 is approaching double the figure of $7.1 billion just three years earlier. Services sales are expected to rise by nearly 21% in Q1, more than four times faster than the growth rate of Apple's corporate sales.

However, the company still has a huge gap to close if it is going to successfully pivot from the iPhone. Last quarter, for instance, services revenue of $12.5 billion was an all-time high for the segment, but it still represented just 19.5% of Apple's $64.0 billion in total revenue for the quarter. While the analyst consensus figure of $13.1 billion for Q1 FY2020 means another potential all-time high, Apple's anticipated total quarterly revenue of $88.1 billion means services revenue could account for only 14.9% of all revenue in Q1. The company may have to grow its services segment at a faster pace in order to make a more sizable impact on the company.