Apple (AAPL) shares have advanced for nine straight sessions. While a lot of this move could be contributed to the broader market sentiment ("the market looks so bad that it's good"), we want to discuss the latest rumor about Apple and how that has changed Wall Street’s perception of Apple, and ultimately what investors are willing to pay for the stock. We are talking about the report from Bloomberg on Thursday saying Apple plans to launch an iPhone subscription plan. You can compare this rumor of a potential service to a car leasing program, but for iPhones.

The iPhone is already Apple’s primary monetization vehicle for its other services, like the App Store and Apple Music. Therefore, finding a way to bring phone sales under the recurring revenue umbrella would be an important development. If the type of service described by in the report were to happen, here’s why it’s important for the stock and why it supports our investment thesis:

• Investors generally place a higher multiple on revenues generated through subscriptions because they’re more predictable and less susceptible to dramatic, up-and-down swings.

• An iPhone subscription service would be Apple’s latest foray into recurring revenue streams.

• As Apple has grown its subscription business, investors have been willing to pay up for its stock compared with years prior.

• Converting at least some of its iPhone sales to a subscription basis would further support Apple’s higher multiple since traditionally, investors view hardware purchases as more cyclical.

• Remember: iPhone sales are, by far, Apple’s largest single revenue source, accounting for more than half of the company’s sales in fiscal 2021.

* The P/E ratio on a stock is calculated by dividing the share price by its annual earnings. The earnings part of equation can be 12 months trailing — meaning the latest four reported quarters; or 12 months forward — based on estimates for the next four quarters. The forward P/E is more useful in trying to forecast where the value of a stock based on earnings is going rather than where it’s been.

Consumer Discretionary vs Consumer Staples

Tech hardware firms have lower multiples because their revenues are considered cyclical (they fluctuate based on the economy: when the economy is strong, people have a lot of disposable income to buy technologies such as computers or phones). Meanwhile, a consumer staple stock like Procter & Gamble makes products people need and buy consistently. When you run out of P&G’s Crest toothpaste, you go to the store and buy another tube.

Take a look at the forward P/E, on a five-year average, for a few companies in the tech hardware category:

• Cisco Systems, trades at 14.8x.

• IBM: 10.8x

• HP Inc.: 9.4x

These are consumer staple stocks:

• P&G: 22.1x

• PepsiCo: 22x

• Colgate-Palmolive: 23.3x

You see that the consumer staple stocks, because of their stable, less economically-sensitive income stream, get higher forward P/E (in simple terms, investors are willing to pay a higher price for the same amount of revenue).

The case for Apple 

Prior to the fall of 2019, Apple’s stock generally received a mid-teens forward multiple. For example, in September 2019, Apple traded at 16.5 forward earnings.

Since then, its forward P/E has trended higher as investors reconsider what they’re willing to pay for the company’s future earnings stream.

• Apple’s forward P/E, on a five-year average, now stands at roughly 20.

• The stock closed Friday around 27.3 times the next 12 month’s projected earnings.

We believe Apple’s higher multiple can be maintained, and our conviction in this belief would grow if an iPhone subscription service gets launched to consumers.