This has been a highly visible week for Apple and its supply chain ecosystem. Included was Apple’s announcement of obscene earnings for its latest fiscal quarter and perhaps too much visibility to supply chain related information related to the newly introduced Apple Watch.
On Monday, Apple reported operating results for the March-ending quarter reporting a 27 percent increase in revenues and a startling 33 percent increase in profits. Gross margin climbed to 40.8 percent above previous Wall Street estimates of 38.5 – 39.5 percent. The overall business media headline was that Apple’s iPhone line-up is gaining market-share while commanding higher prices. The average selling price of an iPhone has risen to $659, up $60 in the last year, while iPhone shipments were up 40 percent from the year earlier period to 61.2 million units. Emerging market demand, in particular China, Hong Kong and Taiwan is reportedly fueling this latest iPad sales volume increases. Revenues associated with the Mac personal computer lineup trended positively, up 10 percent in the latest quarter, bucking an overall industry trend of declining PC sales. Apple closed its latest quarter with over $193 billion in cash, up $15 billion from December.
However, there are some warning signs. Sales for the iPad declined by 23 percent in the latest quarter, an indication of a further sales decline trend.
Yesterday, The Wall Street Journal reported (paid subscription or free metered view) that one of the key technology components within the Apple Watch has experienced reliability issues. The taptic engine component, which controls the sensation of tapping the watch while transmitting heart-rate data, was sourced among two key suppliers. Citing people familiar with the matter, the WSJ report indicates that reliability testing has discovered that the taptic engines supplied by AAC Technologies Holdings of Shenzhen China, have demonstrated reliability problems, with Apple electing to scrap some completed watches. Engines produced by Japan based Nidec Corp. have reportedly not experienced the same problem, with Apple reportedly moving all remaining sourcing of this component to Nidec. However, it may take more time for the new prime supplier Nidec to increase production volumes.
Although the WSJ indicates that it is unclear whether the tactic engine reliability has contributed to short supply, by our lens, this may explain why existing orders for Apple Watches have been in a backlog condition since product launch. On Monday, Apple CEO Tim Cook confirmed that “demand is greater than supply” for the Watch.
The WSJ further indicates that Apple has now communicated to other watch component suppliers to slow delivery volumes until June, without explaining why, which has surprised suppliers who were in full blown ramp-up. Neither AAC Technologies nor Nidec elected to respond to the WSJ in a request to comment.
The WSJ cites additional sources as now indicating that Apple is further considering the addition of a second final assembly contract manufacturer to supplement Taiwan based Quanta Computer. That second CMS is rumored to be none other than Foxconn, Apple’s principal go-to contract manufacturer when supply chain volume output challenges occur. However, even if Foxconn is brought online, it will be several months before the CMS can make its contribution to boosting output. The WSJ sources indicated late 2015 as an estimate.
As Supply Chain Matters has frequently pointed out, Apple practices dual-sourcing of key technology components as part of its supply chain risk mitigation strategy. This is especially prevalent in new product introduction and ramp-up phases. There are currently three prime suppliers for Apple’s existing iPhone LCD screens with reports indicating the introduction of another for the next model iteration of iPhone. In the case of the tactic engine report, the dual-sourcing strategy has obviously proven effective.
Finally, today’s Wall Street Journal calls attention to IHS Technology’s recent teardown analysis of a 38-millimeter Apple Watch Sport, the entry level model for the product line-up. (Paid subscription or free metered view) The IHS teardown analysis indicates that overall costs of component materials and manufacturing labor cost amount to $83.70 contrasted to a retail selling price of $349. That according to IHS equates to a 24 percent ratio for parts and manufacturing cost, lower than the average 29-45 percent equivalent cost for Apple’s other product lines. This is an indication that the Watch is a product line with even higher profitability potential. The taptic engine component noted above has an estimated cost of $16.50, the second most expensive component. The touchscreen and display module was estimated to cost $20.50, the most expensive component.
In two weeks, analyst firm Gartner will again unveil its annual ranking of the Top 25 Supply Chains. Apple has consistently commanded the number one ranking for many years, and with these latest operating results, we suspect that the Apple supply chain will again command the top spot. Financial performance alone is compelling and when considering supply chain risk mitigation and segmentation strategy, the result is obvious.
Since the beginning of the 2014 holiday fulfillment surge period in September of last year, Supply Chain Matters has featured commentaries related to potential impacts to multiple industry supply chains located in the United States. This week, the ISM PMI Index provided quantification of such impacts.
We provided numerous commentaries, insights and updates related to the U.S. west coast port disruption that dragged on past December and into early this year. Those ports are still trying to recover and multiple manufacturing and retail focused industry supply chains were impacted by the delayed arrival of components and finished products. We featured two commentaries on the current surge in the value of the U.S. dollar, and its impact on U.S. imports and exports. Finally, weather patterns brought severe cold and winter storm conditions across the U.S., particularly among the northeast states and across the New England region.
Earlier in the week, the Institute for Supply Management (ISM) disclosed the PMI value for March which indicated the fifth consecutive month of decline and the lowest reading since May 2013. The March value of 51.5 while a continued indication of expansion is considerably below the average PMI reading of 57.7 recorded for the 3 months in Q4. U.S. supply chain activity led all global regions throughout 2014 but has since fallen back due to headwinds.
According to ISM, PMI survey participants indeed pointed to lingering problems from the west coast port disruption, unusual winter weather and the stronger dollar as current challenges. Noted was that 11 industries reported slower supplier deliveries in March. Export orders declined for the third consecutive month. Eight industries reported higher inventories in March which could likely be an indicator of select shortages of key components or unplanned contraction in product demand. According to the ISM report, customer inventories were noted as being too low, yet another indicator of disruption. The Backlog of Orders index declined two percentage points from the February reading. There were mixed indications relative to the current lower cost of crude oil.
However, based on trending data, ISM indicates some optimistic news indicating a likely rebound in the index in the coming months. Of the total 18 industries reported in the index, 10 of these industries reported growth in March. Nine industries reported growth in New Orders as well as growth in Production.
We will have further insights when we produce our review of select global-wide PMI Indices in our March quarterly newsletter. All registered subscribers of this blog automatically receive a copy of our quarterly newsletter. You can register via the Join Our Mailing List box located on the right side panel.
Earlier this week, this author had the pleasure of delivering a JDA Software sponsored webcast titled: Supply Chain Segmentation- The Key to More Predictable and Profitable Business Outcomes. We have since received positive feedback regarding the content.
- Industry supply chains increasingly cannot support one-size fits-all supply chain fulfillment
- Supply chain segmentation continues to garner increased interest and multi-industry deployment
- This is a transformative level strategy and needs to be approached in this context
- Advanced technology is an ever more important key enabler
- Consider more predictive and prescriptive planning capabilities within your strategy framework
In the one-hour webinar, I provide grounding perspectives for today’s industry and business environments, convergence of technology trends, as well as insights on analytics focused strategies. I further provide a more succinct definition of supply chain segmentation and address the various process components to this strategy.
Among the key takeaways for supply chain segmentation teams were:
- Segmentation strategy has to be grounded in detailed analysis and intelligent on the entire value-chain.
- Consider the need for the process to be oriented toward externally focused, predictive and responsive capabilities focused on expected business outcomes in contribution margin, service levels and other key metrics as well as the velocity, clarity and context of information needed for more timely decision making.
- Focus on smarter data strategies when considering analytics in this process.
- Do not neglect the all-important skills impact that segmentation requires.
There is certainly much more and JDA Software has graciously made this webcast available on-demand, for viewing at your convenience. The webcast is available by accessing this web link and providing some basic registration information.
If your organization is considering a supply chain segmentation strategy or if your current efforts in this area are in need of a re-look, I believe you will gain some insightful learning within the webcast.
Bob Ferrari, Founder and Executive Editor
Disclosure: JDA Software is one of other sponsors of the Supply Chain Matters blog.
In the light of this week’s announcement of the mega-merger among HJ Heinz and Kraft, coupled with the new interest in zero-based budgeting techniques, we felt it was timely to provide a brief tutorial on the process.
A Google search can yield ample content and perspectives on this process.
In definition, zero-based budgeting (ZBB) is essentially a financial-driven process where budgetary resources are set to zero every year and must be justified for the new budget period. It was a process originally conceived in the seventies in an era where organizational bloat among large corporations was rather common. Instead of referencing the previous year’s budget, the slate starts over with managers having to justify their business assumptions and required expenditures for the upcoming period, as if they were a new business or support function. Every budget is viewed from a fresh perspective and evaluated and approved based on relevance to overall corporate goals and expected outcomes.
In context it is rather important to note that ZBB is often a financial-driven process and can be undertaken and applied within companies or organizations that are required to considerably reduce costs and improve profits. As some are now pointing out, that is why it is garnering increased interest in among large consumer product goods producers.
It is rather important that organizations understand the pros and cons of this process. In our effort to do so, we are sharing our perspectives. We certainly encourage our readers to add their perspectives and experiences in the Comments section associated with this posting so that many can benefit.
Pros of ZBB:
- A mechanism that facilitates much higher levels of cost reduction than traditional budgeting methods.
- Relate costs to the specific mission and purpose of an organization at a given time.
- Garner much more detailed understanding of an individual organization’s role and purpose and that organization’s staffing and resource levels.
- Weed out duplication, ineffective and/or counterproductive activities.
- Uncover additional opportunities for cost synergies.
- Provide a means for prioritizing spending cuts
- Some would argue that it diffuses an entitlement mentality by requiring detailed justification.
Cons of ZBB:
- Clearly ZBB consumes a tremendous amount of time and organizational energy. Some would argue it can take up the bulk of organizational time, constantly having to justify and re-justify efforts.
- In many cases, ZBB can stifle bottom-up or supplier based product or process innovation, since there is little time or resource for such efforts.
- Consensus is difficult and often painful.
- The impact to employee morale can be substantial, not only in the dimension of perceived perks, but in individual value and promotional opportunities.
- Pits individual organizations in competition with one another.
- Cuts can be taken to an extreme.
- There can be a loss of focus to new, emerging or undiscovered opportunities among business, industry or new markets.
- Needs to be implemented very carefully and skillfully.
Now at this point, you may have discerned that this analyst and consultant may have biases towards the cons of ZBB. Contrary to the past, many industries and businesses have undertaken initiatives grounded in Six-Sigma, Just-in-Time or Lean Manufacturing methods. Thus, a lot of bloat or excess has already been analyzed and addressed. Some might argue whether these efforts were ultimately positive or detracted from business goal fulfillment or the overall reduction of costs. Others would argue that the above methods did not effectively address organizational overhead or layering. I believe that on the whole, they were successful.
In my career, I have found that ZBB methods must be carefully and methodically conducted in the light of a well understood mission and clearly articulated strategic roadmap. Talent recruitment, skills development and ongoing career opportunities must not be sacrificed by the process. ZBB can often bring foreword a “survivor” mentality where political skills outweigh either proven years of experience or sacrifice the required leaders of tomorrow. ZBB can sometimes be a panacea for wholesale human resource shifts. The process can further serve as a radical change to supplier relationship and collaboration practices.
The difference today is that certain private equity investment firms such as 3G Capital are setting a different, or perhaps more acute standard.
We now invite our readers to weigh in. Share your pro and con perspectives
Breaking News: H.J. Heinz and Kraft Foods Mega-Merger Portend Additional Tremors Across CPG Supply Chains
This morning, financial headlines reveal the rather stunning but not unexpected news that H.J. Heinz will merge with Kraft Foods Group in a combined public company that will be named Kraft Heinz Company. According to The Wall Street Journal, this deal will likely top $40 billion in valuation with the combined entity having revenues of approximately $28 billion. It would create what is expected to be the world’s fifth largest food and beverage company featuring many well-known consumer brands.
From the lens of this blog, this development reinforces a clear message to other traditional consumer product goods supply chains that business-as-usual is no longer acceptable, and that further industry changes and developments are inevitable.
This Heinz-Kraft deal is backed by infamous private equity firm 3G Capital Partners, and the financing of Warren Buffet’s Berkshire Hathaway, which are each contributing $5 billion in financing. The terms call for Heinz shareholders to hold 51 percent stake in the combined company while Kraft shareholders will hold a 49 percent stake. Once more, existing Kraft shareholders will receive a special, albeit hefty cash dividend of $16.50 per share representing a 27 percent premium over yesterday’s closing stock price.
Management of the combined company will consist of Alex Behring, current chairmen and managing partner at 3G Capital, as the new chairmen, and Bernardo Hees, current CEO of Heinz, assuming the CEO role. John Cahill, the relatively new chairmen and CEO of Kraft will assume the vice-chairmen role. Cahill assumed the Kraft CEO role in late December with a mandate to speed-up business change, after Kraft reported flat annual sales and declining profitability. Indeed, in a mere 3 months, business change has occurred and will accelerate. As has been the case with prior 3G Capital actions, the combined company’s management focus will solely be that of 3G.
In its briefing to Wall Street analysts, 3G Capital executives indicated that the strategic intent for the combined company is to leverage product innovation and international reach. However, cost-trimming is indeed part of the agenda with $1.5 billion or above in potential cost synergies being identified as likely opportunities.
Readers may well recall 3G’s prior track record with its prior acquisitions of AB In-Bev, Burger King and H.J. Heinz. The firm actively practices a zero-based budgeting approach and every single year, 3G managed firms have to justify their cost and resource needs. In the situation of Heinz, the original goal of $600 million in cost savings amounted to near $1 billion in savings. Expenses were aggressively cut and production facilities were soon closed. Thousands of jobs have been shed among all of 3G’s prior acquisitions. In a Supply Chain Matters January commentary we echoed UK blogger David Weaver’s commentary on supplier bullying tactics occurring in Europe that specifically named 3G Capital managed companies such as AB In-Bev and Heinz’s practices for delaying payments to suppliers in some cases up to four months.
Once this latest mega-deal is consummated 3G will likely place an emphasis for expanding current well-known North American Kraft food brands to more global offerings among emerging markets while shedding other considered non-performing or non-strategic brands. Product innovation will indeed be the emphasis but more in the context of product formulation. Have you tasted Heinz ketchup of late? From this author’s taste buds, it is far sweater and sugary in composition.
The irony here is that Kraft was once a food, beverage and snacks company with global aspirations. Activist pressures precipitated the 2012 breakup of Kraft into two companies, Mondelez International and Kraft Foods Group. The declared strategic intent of the split was to create two smaller consumer products companies focused on different growth objectives, one being international snacks and convenience foods and the other, North American cheese and food brands Post split, Mondelez continues to struggle with sales and profitability growth after considerable cost cutting actions that impacted supply chain operations. An activist investor recently garnered a Mondelez board seat.
In a September 2013 Supply Chain Matters commentary related to Kraft’s supply chain profile at that time of the split, we outlined the significant business process and systems challenges that the Kraft supply chain team inherited. We were tremendously impressed with the leadership of its integrated supply chain team at the time, as well as its direction, but now, more change can be anticipated. That indeed is the initial takeaway from today’s mega-merger announcement.
Our Supply Chain Matters Predictions for Global Supply in 2015 called for continued CPG industry turbulence because consumers are demanding healthy choices in foods and our shunning traditional brands that emphasize processed foods. Compounding this trend has been activist investors seeking accelerated shorter-term shareholder value, along with the shadow of 3G Capital and its track record of wholesale cost-cutting. The announced Heinz-Kraft deal obviously sends yet another troubling message to the consumer products sector, namely that financial engineering is a more preferable method of approach vs. continuous improvement.
Expect and anticipate more industry change to occur in 2015 and beyond. The emphasis is now focused on product innovation, doing more with less and market agility.
© 2015 The Ferrari Consulting and Research Group LLC and the Supply Chain Matters blog. All rights reserved.
We are pleased to announce to our global based Supply Chain Matters readership audience that Kinaxis has returned to be a Named sponsor of this blog in 2015. Kinaxis was one of the very first sponsors of this blog upon our founding in 2008, and we look forward to a renewed relationship during the coming year.
With origins that date back to 1984, and with its founding in 1995, Kinaxis and its flagship RapidResponse supply chain planning and rapid response technology has been adopted by industry-leading companies across multiple industry verticals, including aerospace & defense, automotive, high tech, industrial, and life sciences. Kinaxis delivers a collection of highly-configurable cloud S&OP and supply chain applications which are at the very heart of supply chain planning and decision making for large manufacturing companies with complex supply chains and volatile business environments. Kinaxis recently completed a successful initial public offering and is now a public company listed on the Toronto Stock Exchange.
As part of this new sponsorship arrangement, this author will be featured as a periodic guest blogger on the Kinaxis 21st Century Supply Chain blog where I will be contributing thought leadership on timely topics. Supply Chain Matters will additionally feature periodic thought leadership provided by select Kinaxis executives.
Join me in welcoming Kinaxis as our new Named sponsor of Supply Chain Matters.
For further information regarding Kinaxis and its technology capabilities, click on the logo included in our Named sponsor panel.
Bob Ferrari, Founder and Executive Editor