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Apple Watch Could Be Accessory to Profits

The Apple Watch will help create more stickiness in the iOS ecosystem and help drive repeat sales of high-margin iPhones, writes Morningstar’s Brian Colello.

Mentioned:

 Apple's (AAPL) product launch event centered around the company’s new Watch and touted innovations in both hardware (new MacBook) and services (Apple Pay, ResearchKit), but offered few surprises from already-speculated features and pricing, in our view. We think the most important takeaway from the event is Apple's 99% customer satisfaction rate for the iPhone 6 and 6 Plus, as the iPhone remains the far more important, and lucrative, device in Apple's expanding product portfolio. We continue to view Apple Watch as a product category that will drive incremental revenue for Apple, but more important, will offer especially strong stickiness to the iOS ecosystem that will enable Apple to make repeat sales of high-margin iPhones to these customers over time. We will incorporate Apple’s Watch pricing, product segmentation and launch timing into our valuation model, but we do not anticipate a change to our $120 fair value estimate or our narrow moat rating for Apple at this time.

Given our view of the Apple Watch as an accessory, rather than a stand-alone device, for the foreseeable future, we’re encouraged by the firm’s previously announced pricing on the Watch Sport at $349 for the 38-millimeter version ($49 more for the 42-millimeter device). Pricing of the regular Watch, with a steel case and sapphire screen, of $549 (38-millimeter) and an effective price of $699 and up for any non-Sport band, could still be palatable to early adopters (versus the gold Watch Edition starting at $10,000) while being lucrative for Apple as the various bands appear to be high-margin add-ons to the device. Apple touted several new apps that will be available for the device, and we anticipate robust innovation and developer support in the years ahead in order to appeal to a broad audience.

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Brian Colello does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.