Supply Chain Matters has posted previous commentaries regarding Apple’s current supply chain challenges in competitive pricing and distribution of the company’s iPhones within China’s huge consumer market.
There was an interesting twist to this challenge as last week came reports that Chinese authorities discovered a narrow underground concrete tunnel built by smugglers to shuttle products from Hong Kong to Shenzhen.
According to a published report appearing in the Wall Street Journal (paid subscription or free metered view), this rather small sized tunnel was equipped with lights , vents and a rail track to ferry goods between the two locations. Hong Kong is designated a special economic region with tariffs that differ from mainland China. Thus consumer goods are cheaper, especially high-end consumer electronics. Authorities suspect that the discovered tunnel was smuggling smartphones, electronic tablets and other consumer electronics into Shenzhen.
Thus, when it comes to expensive iPhones, smugglers will find creative and monetarily attractive ways to distribute these devices within China. Pricing strategies indeed have consequences.
After long anticipation, tremendous speculation, endless rumor and the shuttle diplomacy of CEO Tim Cook himself, Apple and China Mobile have finally done the deal. The multiyear deal announced this weekend is huge for Apple in that the company’s iPhone products will have the opportunity to tap a huge market. It opens up a market in excess of 760 million China Mobile subscribers. As the Wall Street Journal pointed out in its coverage that is seven times as many subscribers as that of Verizon Wireless. Apple iPhones will be able to operate on both China Mobile’s brand new 4G network and its existing 3G network.
Added distribution and fulfillment needs include that phones will be available via China Mobile’s nationwide retail network as well as Apple stores located across that country. Availability begins on January 17th.
It will further afford Apple to opportunity to compete with existing in-trenched market players within China which include Lenovo, Huawei, Samsung and Yulong. It is a market where smartphones priced under $100 are plentiful while the Apple iPhone 5c retails unsubsidized for $739 and the iPhone 5s for $871. Because of this situation, many speculated that the new iPhone 5c model would be more competitively priced.
Obviously brand identity, will be an important determinant in the months to come.
Equity and markets differ on the added volume potential for Apple brought about by the China Mobile deal. Added volume from the China Mobile deal range from 10 million to as much as 24 million phones sold in 2014.
Apple has received a huge Christmas present- its coveted presence as an offering among one of China’s largest mobile networks. The coming months will be the new test in how the Apple supply chain responds to greater exposure to China’s dynamic and price competitive smartphone and complex channels market.
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.
Last week came word that The Fair Labor Association (FLA) issued its final verification report regarding its ongoing audit activities of contract manufacturer Foxconn, one of the prime manufacturing arms of Apple. As we have noted in commentaries on the Supply Chain Matters blog, Apple’s efforts in actively supporting audits by the FLA will have far reaching effects on the broader industry, and on the high-tech and consumer electronics supplier community.
According to a Bloomberg published report, while Foxconn did not comply with Chinese labor laws regarding acceptable amounts of worker overtime, the assembler met nearly all conditions set out by the FLA outlined in its ongoing audits over the past 15 months. Bloomberg quotes the president of the FLA as indicating that the government set limit of 49 hours a week was an ambitious goal to begin with. Foxconn reached levels averaging of 52-53 hours per worker. The report further indicates that Foxconn complied with 356 of 360 audit action items which appears to present considerable progress. The FLA further acknowledged that workers in China continue to rely on overtime to meet their monetary compensation and basic living needs.
A statement by Foxconn management validated the progress that has been made and further committed to reducing excessive overtime even further. None the less, Foxconn is not currently in compliance with Chinese labor law related to worker hours, especially in certain facilities such as the Longhua plant in Schenzhen.
Bloomberg also called attention to ongoing incidents occurring at Apple’s other new volume contract manufacturer Pegatron, where four workers recently died because of illness. The article draws inferences that the audit and remedial measures accomplished thus far at Foxconn will be extended to other Apple volume suppliers. The implications of what is occurring at Foxconn will also spillover to other China based suppliers as well as to their high OEM customers. Thus Prediction Six of our 2014 predictions calls for more implications from customers and/or stockholders regarding supply chain social responsibility adherence.
We just published Prediction Six of the Supply Chain Matters 2014 Predictions for Global Supply Chains which declared that supply chain social responsibility strategies would continue to become far more visible and have business and shareholder implications in the coming year. No sooner had we unveiled this prediction to our followers, yet another example of such implications has come to light.
Today’s Markeplace Section of the printed Wall Street Journal features a report headline: iPhone-Factory Deaths Dog Apple and Supplier Pegatron. (paid subscription or free metered view) The article describes how recent deaths of a 15 year old underage worker and the death of three other workers have occurred at the Pegatron iPhone production and assembly complex in Shanghai that employs upwards of 100,000 workers. It re-iterates the ongoing challenges that Apple and its suppliers continue to experience in managing the existence of underage workers in factories. Visibility to these practices are far more prevalent as labor watch groups continue to advocate for the safety of global workers.
In October, an underage worker, apparently utilizing a falsified identification card, became severely ill and subsequently died. Three other workers were confirmed by Pegatron as having died from recent illness. Family members of the 15 year old were quoted as indicating that the teenager worked 12 hour shifts. Apple has since dispatched medical experts from the U.S. and China to the Pegatron facility to conduct a further investigation. The reports apparently come from labor rights groups who communicate with workers.
Pegatron responded to WSJ reporters indicating it conducts strict measures to verify job applicant ages. The contract manufacturer also indicated that the 15 year old’s illness was not related to workplace conditions and that the company was not at fault. By our lens, that was not exactly the correct response. Words indicating regret and measures being taken to investigate and correct hiring standards and working conditions would have been far better. The WSJ further reported that Pegatron offered approximately $15,000 in compensation to the child’s family but that was turned down.
As a contrast to the above, a blog posting on the WSJ Digits blog, Apple Supplier Pegatron Seeks to Improve Labor Conditions, provides the more positive spin. While it confirms the deaths of the four workers it points out that both Pegatron and Apple investigations indicated that the deaths were not linked to working conditions. The posting quotes Pegatron’s CFO as indicating that four new dormitories had been built to ease crowding with the numbers of workers in dorm rooms dropping from 10-12 to 8-10. The rapid ramp-up of iPhone production had apparently necessitated the need to house workers in offsite living facilities. The posting further points out that Apple has been advertising job openings for “supplier responsibility” managers in recent months because of the recent changes in the base of suppliers.
Today, we exist in a 7 by 24 news cycle where social media either amplifies or counters headlines. Notice first the WSJ printed edition headline that links the key words of “iPhone”, “factory deaths” associated to the names, Apple and Pegatron, terms that will hence be incorporated in search engines for future reference in buying or sourcing decisions. The subsequent blog posting provides the more positive spin without reference to the published edition article. One would suspect that public relations teams were hard at work with storylines and interview further opportunities. We’ll let our readers make their own determinations as to what really occurred.
Yes, certain large OEM customers will continue to be extremely demanding on production timetables and ramp-up requirements. That seems to be the advantage of sourcing high volume manufacturing in a country with lower wages and suppliers not tethered to stricter labor laws. However, OEM’s need to be aware of the implications of their supplier sourcing and product management decisions, and suppliers need to be more transparent as to the implications. These efforts include assisting suppliers in making the monetary investments in worker and supervisory training, employment screening, and factory safety. Management investments come in the form of social responsibility practices and sensitivity to worker needs.
The essence of the intent of our 2014 prediction regarding social responsibility is that continued incidents of this kind will have stronger implications for both the supplier and the brand owner.
Social responsibility cannot be just a written statement but rather the way business is conducted. The deaths of any worker, are tragic and unacceptable. There is joint accountability for corrective action and for continuing to strive for exceeding acceptable standards of labor, factory and housing safety standards.
Once a year, just before the start of the New Year, the Ferrari Consulting and Research Group and the Supply Chain Matters Blog provide our series of predictions for the coming year. These predictions are provided in the spirit of advising supply chain organizations in setting management agenda for the year ahead, as well as helping our readers and clients to prepare their supply chain management teams in establishing programs, initiatives and educational agendas for the upcoming New Year.
In Part One of this series, we unveiled the methodology and complete listing of our 2014 predictions.
Part Two of this series summarized Prediction One related on what to expect in the global economy and Prediction Two, what to expect in procurement costs.
Part Three of this series summarized Predictions Three, continued momentum associated with the resurgence in U.S. and North America production, and Prediction Four, talent recruitment and retention as a continued challenge.
Part Four of this series addressed some unique industry specific supply chain challenges in 2014.
In this Part Five commentary we cover our sixth prediction which focuses on supply chain social responsibility trends.
Prediction Six: Supply Chain Social and Environmental Responsibility Strategies Continue to Become Far More Visible and will have Business and Shareholder Implications
Throughout 2013, business headlines were focused on the occurrence of highly visible incidents of perceived or alleged labor abuses, coupled with environmental safety concerns among production facilities supporting multiple industry supply chains.
Number one rated supply chain Apple continues to be especially targeted for continued reports of labor abuses involving supplier factories in China. While long-standing contract manufacturer Foxconn (Hon Hai Precision) remains under the scrutiny of multi-year audits and action plans, Apple’s newest contract manufacturer Pegatron is additionally under the looking glass. In November, a Bloomberg Businessweek article, An iPhone Tester Caught in Apple’s Supply Chain penned by Cam Simpson, painted a disturbing web of subagent migrant labor brokers who feed off the high-tech industry’s culture of excessive demands for high-volume production ramp-up cycles by locating large numbers of workers and charging these workers excessive broker fees. Supply chain executives may sometimes come to terms with these practices as a reality of business requirements, however, consumers and customers view these practices in a different light, one associated with the brand and its associated products.
The apparel industry had probably the most visibility culminating with the tragic Rana Plaza apparel factory fire that occurred in Bangladesh that killed more than a 1000 workers. In 2013, global retailer Wal-Mart received direct inquiries from its shareholders regarding that retailer’s social responsibility practices and later responded with a formal briefing to update shareholders on current and future plans. One of the largest apparel sourcing firms Li & Fung came under the looking glass in a New York Times expose article in early August. The Times article drew a direct connection for Li & Fung’s garment sourcing involvement tied to several factory calamities, including the Tazreen Fashions factory fire that resulted in 112 deaths and re-raised the global awareness to sub-standard factory conditions across Bangladesh and other low-cost regions. In late 2013, three industry groups were involved in developing a set of common factory safety and labor standards for apparel and garment related factories across Bangladesh:
- Accord on Fire and Safety in Bangladesh, led by mostly by a consortium of European based retailers
- Alliance for Bangladesh Worker Safety, led by Wal-Mart Stores, Gap, and a consortium of other U.S. based retailers
- National Tripartite Action Plan, an agency of the government of Bangladesh
The Europe based consortium of member retailers will inspect 1600 factories, and to its credit has offered to sign 5 year contracts with factories that offer financial assistance as well as some procurement commitments. The U.S. alliance is overseeing 600 factories and has offered some financial assistance. The government has reportedly pledged to assess and upgrade 1200 factories not covered by the consortium pacts.
In the food sector, a devastating fire broke out at a poultry processing plant located in Jilin Province in northeastern China in early June and was reported as one of the worst China factory disasters in years, killing 119 workers with scores of others injured. Reports indicated that an explosion preceded this fire, as workers began to panic and rush toward closed or blocked factory exits.
In the online fulfillment, Amazon came under the looking glass on multiple occasions for its temporary and flex labor hiring and work practices in U.S. and European based facilities, particularly across Germany, where labor unions have been protesting Amazon’s actions.
The visibility among customers, shareholders and global media to the existence or repulsion of these practices will have far more business implications in the months to come.
In 2014, sourcing, procurement and supply chain leaders across many industry sectors can no longer turn a blind eye toward existing supplier direct labor or operational safety conditions. This includes unauthorized supplier sub-contracting processes that occur among groups of suppliers who take on orders beyond the existing capacity or with condensed delivery requirements. It further includes added incentives for suppliers to adhere to generally acceptable standards of labor and safety practices. The risks are far more apparent, and include damage to the brand and loss of consumer loyalty. For procurement teams themselves, continued intolerance to social responsibility leads to loss of the business benefits and efforts gained from other supplier collaboration or joint sustainability product development programs.
Suppliers, especially those that reside in lower-cost manufacturing regions have to become more proactive in adherence to existing laws and customer contract requirements and need to work more closely with established industry groups, audit teams and other standards agencies to improve labor and safety practices.
No longer is it acceptable to have a social responsibility statement published on the company’s website. There must be a detailed plan with quantified goals and/or milestones. The year 2014 will bring further visibility to those supply chains proactively addressing social responsibility, and unfortunately, those that are accepting the past status-quo.
This concludes Part Five of our 2014 Predictions series.
Keep your browser focused on Supply Chain Matters as in our upcoming posting, we highlight Prediction Seven, which predicts increased dimensions of risk impacting global sourcing strategies.
As always, readers are encouraged to add individual or their own organizational perspectives to these predictions in the Comments section associated to each of the postings in this series
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