How much profit will Apple suck out of its own supply chain as it moves deeper into making key components for its products? And as it increases its take, might it force changes in its supply base that will actually result, over the long term, in greater risks for its own business?
Those questions were brought to the fore again this week with reports that Apple is moving ahead with plans to replace iPhone wireless communications chips made by Broadcom and Qualcomm, and to make its own displays. Those changes are still some way off, according to Bloomberg. But they are part of a seemingly inexorable progression that has already seen Apple take charge of the silicon “brains” in the iPhone and iPad, as well as an increasing number of Macs.
The answer to the first question — how much profit can Apple extract — seems to be: a lot. Broadcom and Qualcomm, two of the chip sector’s most profitable companies, each look to Apple for around a fifth of their sales, presenting a juicy target.
Yet the push deeper into component technologies is not primarily about claiming a bigger share of the cake for itself. As always with Apple, technology strategy is determined by the needs of the product: the premium prices that mean the profits take care of themselves.
Tim Cook laid out the goal in 2009, two years before he became chief executive, when he said that Apple wanted “to own and control the primary technologies behind the products that we make”. He also said it would “participate only in markets where we can make a significant contribution”.
Producing its own chips has been the most visible result of this strategy. That has contributed to longer battery life and better overall performance of the iPhone. The M1, the first Apple-designed processor for the Mac and iPad, stunned the chip industry with its high performance when it was unveiled in late 2020.
Yet even if not the primary incentive, the financial effects are likely to be significant. To say that Apple “makes” anything is to stretch the meaning of the word: It designs the product and controls the process, but subcontracts the actual assembly or manufacturing to others.
As a result, the recent surge in its sales — and profits — has come without the need to pour more capital into its operations. Its return on capital employed jumped nearly 20 per percentage points in 2021, to 48 per cent. Last year it leapt again, to around 60 per cent.
That is roughly double the ROCE at Alphabet and Microsoft — companies often thought of as being founded on a software business model that is inherently superior to that of a “hardware maker” like Apple.
Yet Cook’s stipulation that Apple only enter markets where it can make “a significant contribution” sets a high bar. Beating some of the tech world’s most successful innovators at their own game takes heavy investment and plenty of time.
It is nearly four years since Apple bought the Intel division that makes wireless modems used inside smartphones, raising expectations that it would quickly displace Qualcomm. Even now, that move is still probably two years away, according to Bloomberg. Qualcomm had expected its 5G modems to be in only a fifth of the new iPhones launched by Apple later this year, but said recently the components will now be in a “vast majority” of the phones.
The move into screens has also taken time. Apple bought LuxVue, a specialist in low-power screens, in 2014, leading to repeated speculation over the years that it would soon replace suppliers like Samsung and LG. Yet if progress can be slow, the direction of travel is clear.
The impact of all of this on suppliers has been profound. As Apple has claimed more of the design work, suppliers have been pushed towards lower-margin and more capital intensive activities. That has led to a focus on scale and a concentration of the supply base.
The risks in Apple’s business from this concentration have started to become more evident. They include the violent protests last year at Foxconn’s giant iPhone plant in Zhengzhou over China’s Covid-19 policy. Meanwhile, the potential security threat to Taiwan has highlighted its dependence on chipmaker TSMC.
Some diversification looks likely, both in the range of suppliers as well as their location, but the effects of Apple’s technology strategy will be hard to offset. Large parts of the global electronics supply chain have already been remade around the iPhone. The process is far from over.
richard.waters@ft.com
Source: Economy - ft.com
