The Journal

30th December 2014

Border POST 3. Apple & Manufacturing

Apple is often cited as an example of the relative irrelevance of manufacturing in the modern value chain: “designed in California, assembled in China” is the catchphrase we see on Apple’s products. The value of design, technology, branding, intellectual property and distribution is held in higher esteem. I believe that, when you examine it closely, Apple tells us a more complex story.

Apple pays a significant price to have its products made

Let’s get the facts straight first of all. Apple pays a significant price for manufacturing. According to research firm IHS, the iPhone 6 costs Apple $200 to get made and it sells at retail for $649. The iPad Air apparently costs between $274 and $361 to make, with retail selling prices between $499 and $929. The retail profit margin of 60-70% is consistent with typical retail mark ups across a range of consumer products and is in fact lower than the 5x or more typically required by many luxury goods firms. If you still think these are not big numbers, think again: based on its published sales volumes, Apple is paying its suppliers $20 billion a year to make iPhones and about the same again to make iPads, so total $40 billion, equivalent to 1.6% of UK GDP! (Yes, we would rather be Apple than one of its suppliers, but still…).

What is the difference between assembling and manufacturing?

It tells us something that Apple uses the word “assembled” instead of “manufactured”. There is an implication that somehow assembling is different, that manufacturing implies some kind of value added which is absent from assembling. Is this distinction valid? More on this later.

Apples and pears

Before we get further into this, we need to clarify the difference between provenance and manufacturing. This post is about the importance of manufacturing to Apple, not where its products are made, which is a different issue I have posted about separately.

Manufacturing and technology

Technology is defined as the application of scientific knowledge for practical purposes. It can be distinguished from craft skills in that the latter generally rely on know how and experience, not necessarily science. The fact is that making things usually involves the application of both. One of the reasons is that making things invariably involves using a machine, and knowing how that machine behaves is often crucial to its operation. So back to iPhones and iPads. To make these products, you need to understand the underlying science, have machines to help build them and possess the know how to operate the machines. Apple is currently only involved in the first of these areas and relies on other companies to deliver the second and third, which is a deliberate strategy common to many technology companies.

Intellectual property and outsourcing

Apple aims to own the intellectual property associated with its products while outsourcing their “assembly” to other companies, focusing its efforts on design and other areas. The idea is that it’s fine for other companies to “assemble” its products because Apple “owns” the underlying technologies. The problems created by this approach, however, are exemplified by Apple’s relationship with Samsung. An important supplier of critical components for the original iPhone, Apple ended up suing Samsung for billions, accusing it of ripping off the iPhone with its Galaxy smartphone.

The so-called “Smartphone Wars” are a reflection of the massive sums being thrown by technology companies at owning the intellectual property underlying their products. For example, in addition to the huge investment in legal fees made to assert its intellectual property rights in recent years, Apple bought Fingerworks in 2005 for its touchscreen typing technology, and Siri in 2010 for its mobile voice recognition assistant.

One of the implications of the Smartphone Wars is that the distinction implicitly being made by Apple between “assembly” and “manufacture” is all very well, but in practice it’s extremely difficult to own all the pieces of science, manufacturing technology, hardware and systems which go into products like the iPhone and iPad; especially so if you sub-contract manufacturing to other companies and use commonly available components. Social issues like worker conditions in China, highlighted in a recent Panorama programme, may also come into play. All these factors may have influenced Apple’s recent decision to explore building an exclusive Sapphire crystal touchscreen plant in the USA with GT Advanced Technologies.

Moral of the Story?

The cost of manufacturing Apple’s products is significant, that’s the first point. The second point is that, in the race to “own” the technology underlying this kind of product, there is a trade-off between, on the one hand, outsourcing and investment in proprietary manufacturing technology and hardware and, on the other, effective ownership. The idea that competitive advantage can be achieved and maintained through superior design, marketing and branding alone has been undermined by the experience of the Smartphone Wars.

Next Time: The Importance of Being Labelled