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Two Contrasts in Contract Manufacturing Direction for Apple Suppliers

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Supply Chain Matters has featured a number of commentaries regarding the challenges for being selected as a key component or contract manufacturing supplier to Apple.  On the one hand, the designation for being a key supplier in the Apple value chain can lead to enormous revenue potential and scale along with providing much cache for landing additional industry business.  On the other hand, Apple aggressive product margin   Apple Logogoals   coupled with steep and constantly changing production volume ramp-up or ramp-down requirements can challenge any supplier organization.  Apple sets high expectations and expects total responsiveness and virtual flexibility from its key suppliers, especially those residing in lower-cost manufacturing regions such as China.

The past two weeks have provided two interesting contrasts in terms of strategy and financial results among two of Apple’s key contract manufacturers. 

In May of 2013, Supply Chain Matters reinforced and amplified the observation that Apple had begun to actively pursue its own supply chain risk mitigation and supply chain segmentation plan by electing to dual source some of its contract manufacturing needs with the use of Pegatron, one of Taiwan’s largest contract and original equipment manufacturers, in addition to longstanding CMS provider, Foxconn. We cited a Wall Street Journal report indicating that Pegatron was willing to accept thinner profit margins in courting Apple’s massive business.

However, Pegatron was put to the test with last year’s massive pre-holiday production ramp-ups and ramp-downs to support the changing volume production requirements of the new iPhone 5c and iPhone Mini.  The market reception for iPhone 5c was not as originally planned, prompting Apple to cut-back on original pre-holiday production forecasts. The iPad Mini however, experienced high consumer acceptance. Pegatron had other challenges and there were reports indicating the alleged use of underage workers in some of this company’s factories in China, along with allegations from China Labor Watch related to excessive working hours and challenging working conditions. At the time, China Labor Watch alleged that worker conditions at Pegatron factories were worse than those of previous Foxconn conditions.

Last week Pegatron reported fiscal fourth quarter results and posted a 22 percent jump in net profits even though its overall revenues fell slightly from year ago results.  Revenues derived from the manufacturing of communications products, gaming consoles, smartphones and tablet computers rose 20 percent while those associated with PC’s and consumer products including televisions, declined.  In its latest reporting regarding Pegatron’s earnings, the WSJ cites a KGI Securities analyst as indicating that Apple now represents upwards of 40 percent of this company’s revenues, which is significant considering the brief history of relationship.  Further cited was that initially low yield rates in producing Apple’s products have now improved.  Operating margin improved to 1.9 percent from a previous 1.6 percent, but how many firms can sustain at such a low margin?  Once more, without any planned launches of new Apple products in the first-half of 2014, Pegatron is forecasting that shipments of smartphones, tablets and game consoles will likely decline in a range between 15 and 20 percent in the current first quarter.

The parent of Apple’s other longstanding prime contract manufacturer Foxconn, which is Hon Hai Precision Industry, last week reported that its profits rose 13 percent, boosted by increases in iPhone and iPad sales. Total revenues increased slightly to 3.95 trillion new Taiwan dollars. It is estimated that Hon Hai garners more than 40 percent of its revenues from its various supply relationships with Apple. 

However, this company continues to exercise a broader diversification strategy as revenues and margins derived from contract manufacturing continue to decline.  In a Supply Chain Matters posting in July 2013, we observed that Foxconn continues in its process for diversifying by moving downstream and upstream in the consumer electronics value-stream, possibly resulting in some Foxconn branded consumer electronics devices.

Last week, Hon Hai announced investments  of $90 million in various strategic manufacturing related projects with a focus toward higher value chain activities along with advanced automation.  These investments include $42 million to establish a trading and manufacturing unit for China based components, $30 million in a new software development unit and $15 million in a robot manufacturing and sales unit. In early February, Supply Chain Matters commented on Foxconn’s current collaboration with Google in the area of advanced robotics.

Foxconn is once again shifting some of its manufacturing presence into lower-cost, more interior regions of China. According to a WSJ report, facilities will be built in the central and western provinces of Chengdu, Wuhan and Zhengzhou where direct labor rates are as much as two-thirds less than those in the coastal regions.

Wall Street and business media has increasingly been skeptical of Apple amid stronger competition in smartphones, tablets and other consumer electronics devices. Doubt has been raised as to whether Apple has lost its mojo in product innovation cycles.  In exercising a supply diversification and segmentation strategy among its contract manufacturing supply base, other dynamics are underway. While Pegatron has pinned its fortunes on Apple to offset other areas of declining business,  Hon Hai is exercising a broader diversification strategy that will likely lessen its dependence on Apple.  How both fare in these different strategies will be certainly worth observing in the coming months.

Bob Ferrari

©2014, The Ferrari Consulting and Research Group LLC and the Supply Chain Matters Blog. All rights reserved.

 


FAA Releases its Report on the Boeing 787 Dreamliner- A Consistent Theme

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In January of 2013, The U.S. Federal Aviation Administration (FAA) announced a thorough formal review of Boeing’s 787 Dreamliner aircraft after a series of incidents, including electrical fire incidents in both Boston and Japan occurred. Supply Chain Matters readers are well aware that the 787 has been the subject of multiple commentaries on this blog.

This week, the FAA finally released the results of that study.      

Boeing 787 first ship from South Carolina facility

Source: Boeing Website

 

The review team consisted of a team of engineers and inspectors from both the FAA and Boeing.  The report indicates that the 787 is soundly designed and that processes exist to identify and correct manufacturing issues. Media coverage has cited a specific report statement: “The global fleet’s reliability during the first 16 months of service was comparable to previous new Boeing models.” We suppose you can interpret that statement in a number of ways but from our lens, it does not seem to reference an industry-wide benchmark of reliability metrics for newly introduced aircraft.

Several recommendations and some concerns were also put forward in this report. The FAA was cited for relying too much on Boeing to ensure the safety of the 787 design and manufacturing processes. The Wall Street Journal reported that Boeing senior executives acknowledged that they lost some control of the manufacturing process because of the nature of the global supply chain, and placing too much reliance on suppliers for the overall quality of 787 components and systems.  The most comprehensive coverage we found was a report filed by The Seattle Times which provides broader insights from the FAA report. One statement cited was: “in some cases complete and accurate design requirements did not flow down from Boeing to its primary supplier and then to involved subtier suppliers” resulting in “communication and verification issues along the supply chain.” Boeing’s sometimes ambiguity in stating what was required of partners led suppliers to believe that they had met requirements.

From our lens, that translates to a lack of continuous two-way information linkages from design and product management to manufacturing and value-chain partners.

Another recommendation reported is that the FAA must step-up oversight of foreign and “high-risk” subcontractor facilities to insure that suppliers are fully aware of their responsibilities. 

Hmm… are all the above statements consistent with a theme of throwing suppliers “under the bus”?

Supply Chain Matters has not as yet had the opportunity to dive into the FAA report and we will reserve any other direct observations or viewpoints until we can do so.  However, there seems to be a very consistent pattern from Boeing regarding overall supplier management.

The detailed report can be downloaded from this FAA web link.

We welcome comments from readers residing in multiple tiers of aerospace supply chains on how they perceive these recommendations.

Bob Ferrari


Supply Chain Matters Guest Contribution: Three Must-Dos for Procurement in 2014

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A Supply Chain Matters Guest Posting

By: Mickey North Rizza, BravoSolution

 Supply Chain Matters is thrilled to feature the following guest contribution from Mickey North Rizza, recently voted Top Female Supply Chain Executive 2013.

We’re almost through the first quarter of the year, can you believe how time flies? It seems like just yesterday we were making our new year’s resolutions and sifting through predictions of what 2014 would hold for us. I won’t ask about your commitment to the gym, but I did want to check-in on your resolutions for your procurement team.

Have you fallen back into your old habits? Maybe you’re like many of the procurement teams I work with, and you’re just not sure where to start. If so, here are three areas to focus on this year, which if done successfully, will bring about measurable improvements, move you up the maturity curve, and put you ahead of your competitors.

1. Work Hand-in-hand with CFO’s

On a scale of 1 to 10, how would you rank your business relationship with your company’s CFO? If it’s anything less than an 8, it’s time to take a step back and find out why.

According to a recent survey of CPOs and CFOs from Ernst and Young, 70 percent of CFOs say their relationship with CPOs has become more collaborative over the past three years. This alone demonstrates that finance teams see the financial impact that procurement can have, and that developing a strong tie between the two departments can only help. The same study also found that when a strong business partnership between the CFO and the supply chain leaders exists, companies report stronger alignment with the broader business strategy and improved supply chain visibility.

 Often times this “stronger alignment” doesn’t come from a sudden increase in savings, or spend under management; rather it’s a matter of finding the best way to communicate success. As procurement works closer with finance, they become more familiar with financial metrics and see that they can measure themselves against the same KPIs.

Standardizing the language used across departments makes it easier for stakeholders to get a snapshot of the company’s health, as well as dig into how each department is contributing to the company success. Of course, it’s important to remember that it’s not just the language that you’re using – it’s also what you’re telling your stakeholders, and how to communicate its importance.

2. Place equal importance on savings and sales

Too often, procurement has a narrow focus on cost savings, creating a perception that they’re a back-office function doing a tactical role.

Of course, you and I know that is far from the truth. And even though cost savings will probably always be important – it’s becoming increasingly challenging, and requires more strategic thinking than ever. In fact, last year 60 percent of procurement teams delivered 10 percent or less in savings, according to a survey from the Institute for Supply Management. Delivering marginal savings is a major red flag and a trigger for procurement teams to reevaluate the effectiveness of what they’re doing and whether they’re in need for a change.

 If you feel that it’s a lack of resources or other internal obstacles that are holding you back from realizing significant cost savings, I’d recommend developing a business case that demonstrates why savings are equally as important as sales. Look beyond the amount of money that you hope to save, and instead demonstrate how those savings will impact the business. For example, instead of just saying that with more resources you’d be able to save X amount on office supplies, explain how this money could be invested into other business initiatives like research and development or infrastructure improvements.

Once you’re confident that your organization is supporting your efforts, it’s time to look outward at your suppliers and see where there’s room for improvement.

 

3. Give control back to suppliers

Imagine if you had an industry expert at your disposal, who knew the technical aspects of your business and well as the larger initiatives that you were working towards. Now what if I told you that you already do?

There is a huge strategic opportunity available to you with each of your suppliers, and it all starts with the selection process. Rather than just going through the motions of an RFP, agreeing on a bid and contract requirements, ask them how they’d solve a problem that you’ve been facing. Doing so will provide you with more information than just product specs – it’ll tell you if they can be your partner.

Moving forward, invite your suppliers to join your planning meetings, introduce them to your R&D team and share with them the pressures that you’re facing. The suppliers that you’ll want to work with will vie to be your go-to resource. Why not let them?

Undergoing a transformation can be overwhelming and confusing. I hope that these three initiatives: developing a business relationship with your CFO, improving cost savings, and working strategically with your suppliers give you with the necessary framework for your most successful year yet. 

 

About the Author:

Mickey North Rizza is the Vice President of Strategic Services at BravoSolution. She is a key member of BravoSolution assisting companies accelerate procurement performance, increasing strategic value contribution, driving more spend under management and increasing technology adoption. Mickey has over 25 years of senior-level procurement, sourcing and supply management experience.


Breaking News- Boeing Indicates Manufacturing Defect in Some Dreamliner Wing Structures

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The Wall Street Journal is reporting (paid subscription or free metered view) that Boeing and a key supplier, Mitsubishi Heavy Industries,  are inspecting the wing assemblies of 43 yet to be delivered 787 Dreamliner aircraft after discovering hairline cracks caused by a manufacturing process.

According to the report, the supplier informed Boeing that a change in its manufacturing process may have caused the cracks. Inspections are being carried out at Boeing assembly facilities near Seattle and Charleston South Carolina.  Boeing indicated to the WSJ that none of the 123 Dreamliners delivered to-date are affected by this wing issue.

The WSJ quotes sources as indicating that the latest problem stems from fasteners use to connect shear ties to the carbon composite wing panel. Boeing indicates that it will take 1-2 weeks to inspect and correct this situation on the impacted production aircraft. Boeing further indicated to the WSJ that it fully expects to maintain its schedule for customer delivery of 110 787’s this year although Q1 shipments could slip beyond March.

The saga of the 787 supply chain glitches continues.


Product Demand Response Challenges Among Aerospace Supply Chains Showing New Market Realities

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Four weeks ago, Supply Chain Matters called attention to the good news – bad news world of today’s aerospace focused supply chains.  We cited a Bloomberg Businessweek report that posed a fundamental question- with over 10,600 firm orders for new commercial aircraft among Airbus and Boeing, when Boeing 787 production lineis order backlog too big?

Many of these new and technology laden fuel efficient aircraft orders are destined to support expected explosive Asia focused air travel growth. But, what happens when the CEO of Asia’s fastest-growing discount airline and other airline executives begin to communicate an air of caution.  A more recent Bloomberg published report now indicates that Asian aviation guru Tony Fernandes, CEO of AirAsia has cautioned that the jet buying frenzy among Asian based carriers may give way to a more sober approach that reflects the current airline challenges of intense competition, pilot shortages and inadequate infrastructure. That is significant since AirAsia has reportedly 350 in unfilled aircraft orders.  The report further quotes senior executives of prominent aircraft lessor firms indicating that there may well be a thinning of order volumes. 

Carriers operating across Asia are responding to pressures to sustain 30 to 40 percent growth rates while having to deploy new aircraft on newer routes. Intense competition has raised concerns for overcapacity, especially if marginal airlines start to succumb to faster growing operators. Terminals, runways and air traffic control systems are reportedly not keeping pace with current demands for airline expansion across Asia. Euphoria has made way to the realities of hyper-growth.

The question posed by the January Bloomberg report was that elongated aircraft deployment plans can be impacted by ever changing business conditions motivating some aircraft owners to consider alternative aircraft deployment or deferred procurement strategies. When senior executives of the most influential customer stakeholders for new aircraft orders begin communicating such caution, than supply chains need to be cautious and diligent. Suppliers have a special take since OEM’s continue to practice financial compensation when aircraft are shipped.

We again echo our prior advisory, namely that an enviable industry position awash with order backlog does not condone a business-as-usual focus on product introduction and supply chain management. Rather, dynamic and responsive capacity management, end-to-end value chain intelligence, enhanced supplier collaboration and goal-sharing will all come into play as aerospace supply chains continue to adjust to extraordinary and constantly changing industry dynamics.

Bob Ferrari


Out of the Ashes- Japan Display Prepares for IPO

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In late August of 2011, three of Japan’s liquid crystal display (LCD) component producers, Sony Corporation, Toshiba Corporation and Hitachi Ltd. merged their, at the time, money-losing LCD manufacturing operations to form a single company that was named Japan Display.  Each of the former suppliers could not financially afford to continue to compete with the likes of other industry competitors such as Samsung Electronics and Sharp Corp., who were major suppliers to Apple and some other consumer electronics OEM’s. This new venture was financed primarily by $2.6 billion in funding by The Innovation Network of Japan, a government backed agency with strong industry influences. Each of the merging companies was reported to hold 10 percent ownership in the new venture while the government agency held 70 percent ownership. The goal at the time was to position Japan Display and its technology in strategic markets related to small and mid-sized LCD displays, and to have the new company operating as an independent entity by early 2016.

This week, Japan Display announced its intent to raise upwards of $4 billion in an initial public stock offering (IPO) which the Wall Street Journal characterized (paid subscription) as the largest IPO from Asia this year. The WSJ further noted that if successful, it would represent a rare turnaround for Japan’s manufacturing industry. The report indicates that Japan Display currently supplies LCD displays for Apple’s iPhone 5S and iPhone 5C and its customer list now includes other top Asian and U.S. smartphone makers. The supplier has been skillful in improving the overall energy efficiencies of its LCD products while integrating touch sensors directly into the display, eliminating the need for a separate touch screen layer. Japan Display also appears on Apple’s 2013 listing of its top suppliers, and according to the WSJ report, garners up to a third of its current revenues from supply agreements with Apple.

While Japan Display made a small profit for its fiscal year ending in March 2013, it has not indicated to business media what its profit figures are for the current fiscal year.  That information should presumably come with the IPO disclosures.

Reports indicate that $1.7 billion of the IPO proceeds will be utilized to enhance production capacity and develop new technologies. The remaining proceeds will be directed at current investing shareholders who will be unloading their stakes

With this announcement, it would appear that the timetable for Japan Display to become an independent operating company may be accelerating. Then again, with current favorable basis of Japan’s currency, the IPO may have more to do with opportunistic timing.

In either case, this IPO marks a significant positive milestone in resurrecting previous un-competitive LCD suppliers in Japan into a singular entity that is now holding its own. It represents another positive indicator that industry and government came come together to resurrect a supply eco-system, similar to what has occurred in Europe and the U.S..  It provides a reference model for other suppliers and supply ecosystems as well.


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