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When a Supplier has too much Reliance on a Key Customer

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Suppliers in many industries, particularly those residing in automotive, high tech and consumer electronics supply networks are often concerned with having too much business dependence on a particularly large OEM customer.  That risk is especially evident for key suppliers residing within Apple’s supply and services network.

This week, manufacturing services provider Jabil Circuit had its stock plunge 20 percent shortly after it warned that revenue within its manufacturing services business unit was expected to decline 25 percent in the quarter that starts in December. The firm attributed the drop to an unanticipated drop in product demand from a big customer.

Jabil has a relatively increasing presence in Apple’s supply chain, taking on supply requirements related to Apple’s new iPhone 5c smartphone. Reports indicate that Jabil produces the new plastic cases for the iPhone 5c as well as the metal exteriors for the iPhone 5s. Equity analysts have already speculated what the high tech supply chain and Supply Chain Matters community already knows that the sudden drop in demand originated from Apple.  Analysts estimate that Jabil has 19 percent of its FY13 revenues dependent on Apple generated business. For the current quarter, Apple shifted its supply requirements for the newly released iPhone, significantly cutting back on forecasted 5c production needs, in favor of increasing forecasts for the higher margin 5s model.

Jabil has had to also invest in more advanced automation equipment, doubling capital equipment expenditures to nearly $737 million.  Speculation is that this equipment will be utilized for Apple’s volume production needs.

Jabil’s CEO indicated to the Wall Street Journal that the drop in (Apple) demand is indeed temporary “a two to three quarter issue.” Contract manufacturers operate on very low margins, thus profitability is highly dependent on volume growth.  A two to three quarter drop has to be made-up by other business. The contract manufacturer has also been under the looking glass related to social responsibility practices as a labor watch group accused Jabil of labor rights abuses specifically related to its production facility supplying components and assembly services for Apple. The facility had been dramatically increasing its direct labor staffing to support Apple’s steep ramp-up needs and was accused of not paying employees for certain overtime hours.

According to the WSJ, Jabil’s second most influential customer was Research-In-Motion, now Blackberry Ltd. In October, Jabil announced that it would wind down is services to this customer as its financial situation has deteriorated.  That was an indicator that Jabil understands the need to balance too much reliance on very few OEM’s.

In tandem with this week’s announcements, Jabil further announced that it is selling its $1.1 billion aftermarket warranty services and repairs business for $725 million, including $675 million in cash. Company management indicated that this business was not aligned with its core strategy to focus on diversified manufacturing services. Proceeds will be utilized to invest in further engineering and design capabilities as an original design manufacturer.

Being a key member of Apple’s supply network comes with risks, rewards and tradeoffs.

The rewards are obviously significant volumes and the potential for considerable revenue and profit growth.  The risk is that when Apple elects to suddenly shift its demand from high-volume ramp-up to in-quarter dramatic reductions, to leverage Apple’ own product margin goals, some suppliers get thrown under the bus. The trade-off is not getting on Apple’s crap list for being perceived as a flexible or uncooperative supplier.

Bob Ferrari

 

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