By Kasper Jade

Published: 03:50 PM EST (12:50 PM PST)

Morgan Stanley today upgrade Apple Computer to "overweight," saying it believes the Mac conversion rate within Apple’s iPod customer base is roughly double what the market currently expects.

Following the results of a survey of both iPod and non-iPod owners, Morgan Stanley analyst, Rebecca Runkle, said additional opportunities exist for Apple to follow-on sales of iPod accessories and to leverage the iPod brand into new convergence products.

iPod Halo Effect near 20%

The survey, which polled 400 consumers, found that 19% of PC iPod owners have purchased a Mac in the past year, compared to Wall Street's expectations of 10%. These results would imply two full points of global PC market share gain for Apple in 2005, from 3% to 5%, the firm said. Going forward, the firm believes the conversion rate of the iPod customer base from PC to Mac could track closer to 25%.

Of the iPod owners polled, 43% said they are considering purchasing a Mac, with 16% saying a Mac would be their first choice. "We estimate about 26% are actually likely to buy an Apple for their next computer," the firm said. An additional 15% of non-iPod owners also said they would consider a Mac for their next computer purchase.

It appears that the major factor driving PC iPod owners to the Mac has been positive experiences with the iPod. Nearly 90% of iPod owners replacing a PC with a Mac did so, in part, due to their iPod experience, the survey revealed. While 37% of the switchers said their iPod experience had a small impact in their decision to go Mac, a resounding 52% said their iPod experience strongly influenced their decision.

Hewlett-Packard Most at Risk to Apple Gains

Based on its analysis, Morgan Stanley believes that Hewlett-Packard is most at risk to Apple's share gains in the PC industry. "Only about 3% of those expecting to purchase a PC this year rank HP/Compaq as their first brand of choice," the firm said. These results pale in comparison to HP’s overall US PC market share of 20% and the aforementioned 16% of consumers who said a Mac would be their next computer of choice.

Potential for Increased Accessory Sales

The survey also found that consumers have a broader use for their iPod than other audio players. The firm sees this as an opportunity for Apple to leverage iPod accessory sales, a potential it believes the Street is underestimating. "The iPod customer base we surveyed purchased roughly 2.8 accessories to-date," Morgan Stanley analysts wrote in their report. "If we combine this purchase rate with an overage price of 15 accessories from Apple’s website ($52) it implies meaningful upside to iPod accessory revenue in our model."

Almost 50% of iPod owners said they have purchased both car connectors and power adapters for their iPods, and 44% said they own iPod cases, sleeves, or armbands. The abundance of iPod accessories appears to have aided consumers in making their iPod more a part of everyday life. The Morgan Stanley survey found that 49% of iPod owners use their iPod on a daily basis. By comparison, only 17% of consumers who own a competitive player use it every day.

The survey also found that iPod usage is more diverse than other portable audio players, with 52% of iPod owners connecting their iPod to their home stereo. Only 28% of owners of competitive players connect their music player to their home stereo, according to the survey. Likewise, the survey found that iPod users are more likely to listen to audio books, play games, and organize their contacts than owners of other MP3 players.

Leveraging the iPod Brand

In its study, Morgan Stanley found that the Apple 'iPod' brand scored higher in many respects than the 'Apple' or 'Macintosh' brands. "Given positive experience of iPod customers upon visiting the Apple store, we believe Apple has the ability to migrate the iPod brand to other product segments," the firm said. Additionally, its findings show there is consumer appetite to shift to higher functionality iPods such as the iPod photo.

While only 4% of iPod owners surveyed said they own an iPod photo, 17% said they are considering an iPod photo as their next MP3 player purchase. 42% said they'd stick with the flagship iPod offering, while 22% would rather have an iPod mini. However, only 5% of iPod owners surveyed said they were considering purchasing iPod shuffle.

Raising Estimates

Based on an iPod customer base of 18 million, Morgan Stanley is expecting a 19% iPod halo effect and increased accessory sales to boost Apple's 2005 fiscal year earnings to $1.31 a share on revenue of $16.9 billion. The firm expects Apple to earn $1.84 per share on revenues of $25.6 billion in 2006 as the iPod customer base surpasses 42 million. But if the iPod halo effect continues to swell upwards of 27% by 2006, Morgan Stanley projects Apple could see yearly revenues of nearly $30 billion.

"Regardless of where Apple chooses to leverage its brand, market share and knowledge base, the opportunity doesn’t end at audio players," the firm said.

Morgan Stanley upgraded its rating on Apple to 'Overweight' with a price target of $60.