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Teardown Analysis of Tablets Provides Important Supply Chain Strategy Indicators

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The following commentary is the author’s weekly guest commentary appearing on both the Supply Chain Expert Community and Supply Chain Matters web sites.

Just over a week since Apple introduced its brand new iPad Mini to the market, we have a first glimpse at the value-chain components that make-up this new device.  On Monday, The Wall Street Journal published highlights of market research firm IHS‘s teardown analysis of the new Mini. (Paid subscription or free metered view).  The analysis includes a comparison to Microsoft’s new Surface tablet as well as Amazon’s Kindle Fire HD.  In our Supply Chain Matters view, the side-by-side comparison provides some insights as to how supply chain strategy is aligned to supply chain outcomes, which is best described by Professor Steven Melnyk of Michigan State University.

According to the IHS analysis, the iPad Mini equipped with Wi-Fi and 16 gigabytes of memory has total estimated component costs of $188 vs. the designated retail price of $329.  That equates to a 43 percent gross margin for this base model.  In the WSJ article, Apple’s CFO is quoted as indicating that this margin is significantly below Apple’s usual average product margin, yet the WSJ notes that the company’s overall gross margin in the latest fiscal quarter averaged 40 percent.  That number gets considerably larger when consumers opt for the more upgraded models of the Mini. Supply Chain Community readers residing in the consumer electronics or high tech industry supply chains may well be aware of the fact that Apple has considerable product pricing as well as component pricing leverage.  Apple garners such margins because of the power of the brand, and the pent-up pull from consumers to own an Apple product, regardless of premium cost.  Indeed, Apple indicated that this past weekend’s launch of the Mini was yet again, a sellout. A strategy of maximizing tablet product margin while leveraging supply chain component scale and negotiating power, combined with maximizing existing high margins on added content and services, yields the extraordinary overall profit margins that Apple can provide for its investors.

There are, however, some other supply chain focused observations when one views the three product comparisons.  The Kindle Fire HD, which arguably may not have all the glitzy features of the Mini, was reported to have a total component cost of $165 vs. a selling price of $199, resulting in 18 percent gross margin.  The WSJ rightfully points out that Amazon’s product strategy, and we would add, its corresponding value chain strategy, is to provide the hardware product with the slimmest of margins, because the broader business strategy is focused on leveraging much higher margin sales of electronic content and online goods.  In essence, Amazon’s business strategy is one of high volume platform concentration, de-emphasizing the device margin for the potential of penetrating the market with a higher concentration of volume devices that can generate recurring sales of content and services. In our view, Amazon demonstrates its willingness to forgo any attractive margins on the Kindle in favor of a much broader profitability strategy that is still playing out in the market.

Concerning Microsoft’s 32 gigabyte Surface, IHS estimates total component costs to be $271 compared to a selling price of $499, indicating a margin of 46 percent. The Surface, since its announcement, has been controversial for Microsoft since it is the first time that this software giant has decided to usurp its hardware partners by directly coming to market with a Microsoft version of what a tablet product should provide in both hardware and software functionality.  Many existing tablet and PC vendors remain frustrated by this strategy.  A scan of all the estimated major component costs provided by IHS and the WSJ would indicate that Microsoft was not initially able to take advantage of the component volume scale and negotiating power of what Apple or Amazon currently can leverage. From our point-of-view, this points to a different business and consequent value-chain strategy. Microsoft’s intent is to make a product functionality statement, and not upset the current pricing dynamics of the tablet market, which would alienate existing and future hardware partners. Thus, the supporting supply chain strategy takes on a different set of dimensions.

Sometimes, management teams can lose focus as to the alignment of supply chain strategy with business outcomes, including leveraging the levers of component sourcing, pricing, channel distribution, and integration with broader product strategy.  Our belief is that this latest IHS teardown analysis provides some important indicators as to the differences in supply chain business strategy alignment.

What’s your view? Do supply chain management teams have the attention and understanding of C-suite executives in understanding this alignment?

Bob Ferrari

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