Investors should continue to buy Apple shares because the market will soon start to recognize the value of the company's powerful services business, according to UBS, which reiterated its buy rating. Although Apple is "tied to hardware, [its] services probably is undervalued," analyst Steven Milunovich wrote in a note to clients Monday. "We consider the installed base and retention rate the primary drivers of device and services value. … If Apple services were valued similarly to PayPal , the stock would be at least 10% higher." Milunovich reiterated his Apple price target of $138, representing 5 percent upside from Friday's close. The shares are up more than 10 percent this year and are less than $2 from a record. The analyst said the market is valuing Apple's services business at 15 times earnings, which is a substantial discount to PayPal at 23 times earnings. "Consequently, a PayPal multiple applied to Apple services would add about $15 to Apple's stock price," he wrote. Milunovich noted how the company's services business generates more "profit than all non-iPhone segments combined." He cited how Apple's services business is now roughly equal to all of Facebook in terms of revenue. The analyst forecasts the services segment will add 2 percentage points of revenue growth and add an incremental 40 basis points of gross margin per year. At this rate, he estimates the services business may generate 17 percent of the company's sales and 25 percent of its profits by 2020 versus the 11 percent and 16 percent respectively in 2016. "The App Store really distinguishes Apple as a platform company. Without it, Apple would look much more like a traditional pipeline vendor, with a linear supply chain, inventory, and distribution," he wrote. — CNBC's Michael Bloom contributed to this story.
