Advertisement

Blog

Apple Defies Risk-Management Convention

{complink 379|Apple Inc.}'s decision to invest billions of dollars to guarantee its supply of advanced LCD screens runs counter to conventional wisdom in the electronics supply chain. Apple is taking an unusual risk by in essence paying in advance for about $3.9 billion in unbuilt inventory. One way or another, this move is going to have a significant impact on the LCD supply chain.

Electronics companies for decades have been moving away from the “pay in advance” practice to hedge inventory risks. The danger of that model was reinforced in post-bubble 2001 when electronics companies found themselves sitting on piles of paid-for inventory they no longer could use. Some OEM and EMS companies tried to push excess inventory back on their suppliers and distributors. Others ended up taking massive write-downs. OEMs and EMS providers have since been emphasizing just-in-time and build-to-order models where they pay for inventory when it's consumed. Manufacturers also work with distributors on consignment programs where inventory is set aside and customers pay only for what is used. The driving force behind this is to not front cash in a situation where demand might suddenly drop off.

According to IHS iSuppli, Apple has executed long-term supply agreements with three vendors. These agreements are expected to involve about $3.9 billion in inventory component prepayments and capital expenditures during a two-year period.

Based on an analysis of Apple’s existing supplier relations, intellectual property ownership and licensing and technology, IHS iSuppli believes {complink 3074|LG Electronics Inc.}'s Display unit, {complink 4907|Sharp Electronics Corp.} and {complink 5648|Toshiba Corp.}'s Mobile Display business are the beneficiaries of the deal. “The agreements would involve the supply of Apple’s retina display, used in the iPhone and iPad,” according to IHS iSuppli. “The retina display employs the use of advanced in-plane switching (IPS) and low-temperature polysilicon (LTPS) technology that provides extremely high resolutions in small displays by using pixels that are smaller than the human eye can perceive.

“With sales of smart phones booming and a flood of new entrants into the tablet market this year, competition among original equipment manufacturers (OEMs) for available supplies of high-end small and medium displays has reached a fever pitch, straining availability of critical types of displays,” says Vinita Jakhanwal, director for small and medium displays at IHS iSuppli. “Because of this, Apple has moved to invest some its enormous cash reserve in securing the supply of advanced displays.”

Moreover, Apple's investment could leave its competitors standing in line if display supplies runs short.

“Rather than simply purchasing displays from suppliers, Apple may provide money that LG Display, Sharp and Toshiba Mobile Display can use to invest in the production of IPS and LTPS LCD panels,” adds Jakhanwal. “By doing this, Apple should be able to lay claim to a major share of global output of IPS LCD and LTPS LCD panels.”

Since IPS LCD production is limited to suppliers that own or have access to the IPS license, it is a challenge to match demand to suppliers that own production capacity and IPS licenses, IHS iSuppli reports. Manufacturing yields associated with IPS LCD are still poor. The major alternative to IPS wide viewing and power saving features in smart phones currently is the active matrix organic light- emitting diode (AMOLED) display, used in many Android operating system-based models. At present, Samsung Mobile Displays and LG Display represent the only sources for AMOLED panels. Given this limited supply base, AMOLEDs have gone into a state of critical shortage.

“With Apple trying to invest in assuring IPS supply, and {complink 4751|Samsung Electronics Co. Ltd.} having preferential access to small- and medium-sized AMOLED supply, the rest of the smart phone makers are caught between the two giants,” Jakhanwal says. “This has left other OEMs to resort to other technologies when it comes to advanced displays, giving Apple and Samsung a huge edge in product differentiation in a highly competitive market.”

Apple’s capability to reshape the display chain springs from its massive cash reserves, according to IHS iSuppli. In the grand scheme of things, $3.9 billion may look like a drop in the bucket to Apple. But just because Apple can make this investment, should it? Similar relationships—in which supply chain partners invest in fab capacity to guarantee a portion of upcoming production–have ended badly. Apple's apparently willing to take the chance and defy conventional risk-management strategies. In other words, it's Apple being Apple.

9 comments on “Apple Defies Risk-Management Convention

  1. Anand
    February 2, 2011

    Nice article Barbara,

      Why did Apple adopt this stratergy ? Is it in anyways to create artificial scarcity in display supplies or it just wants to strengthen its position. The following lines looks scary to me :

     “Apple's investment could leave its competitors standing in line if display supplies runs short.”

     This would be kind of building monopoly in the market by artificially creating the scarcity. Needs to be seen how the competitiors will react to this.

     

     

  2. saranyatil
    February 2, 2011

    Anandvy

    Apple always wants to be different in any market it plunges into, definitely as you said they want to dominate the market, as of now competitors have all geared up to react to such situation and set to face it.

  3. elctrnx_lyf
    February 2, 2011

    Considering the importance of an LCD display which is like a face of any consumer electronics there is huge demand for displays in small size which is from 4″ to 9″ displays. Apple investing money to avoid the LCD shortage sounds completely meaningful. First they have a right product, then they are strengthening the supply chain for the LCD displays. Over all they are always leading in front to teach how to run a business.

  4. Ariella
    February 2, 2011

    It's possible that Apple's strategy is intended to guarantee that it won't disappoint its customers by telling them they are out of stock.  But edging out the competition, certainly, may be a factor in its calculations.

  5. eemom
    February 2, 2011

    This is a huge strategic move by Apple.  With so many competitors entering the smartphone and tablet markets, Apple seems to be protecting itself and it's market share by ensure LCD supplies.  Apple's strategy has always been first to market with new innovative technology.  They don't want to see that position jeopardized by inventory issues.  While Apple is protecting itself here, their move puts others at risk of obtaining the product they need for their technology.  I believe that Apple is trying to protect themselves and to their advantage, they have the cash to do it.

     

     

  6. mfbertozzi
    February 2, 2011

    I am really convinced scenario mentioned by eemon is right and one more key point from Apple is to increase a lot feeling on customer services; past summary the center shop launched in London at Covent Garden has brought innovative services in the sense of customers support feeling in real time. Have you ever experienced?

  7. Barbara Jorgensen
    February 3, 2011

    Great points all. I don't think Apple intends to create a shortage–that would be an idea if Apple was in the display business–but I think this is another instance of Apple flexing its muscle with its suppliers and service providers. Apparently, EMS companies await Apple's next move and the heck with scheduling, and Apple has the same clout with supplirs. I think the key thing here is yield–it sounds like the technology it is targeting could still stand some improvement production-wise. And, as displays are so important to products such as the iPad, Apple doesn't want to take a step backward. All sound strategies if you have a couple of billion to spend, whihc Apple does.

  8. Hardcore
    February 5, 2011

    Personally I would have to say it is dangerous thinking on Apple's part, it starts with a few Billion here and a few billion there, then several billion for a Silicon Fab, then  as people get complacent  tens of billions tied up in business decisions, stock, future infrastructure.

    If we go back into Apples past , they made similar mistakes, but  in the old days it was of the order of hundreds of millions, It does not take many  wrong dicisions for the whole house of cards to come down in a spectatular crash.

    People seem to think it is not OK when banks do it, but it is ok when Companies such as apple do it. No matter how 'smart' people think Apple are, no one can foresee the future, the financial crash should have highlighted that situation nicely.

    By tying up  resources in this manner, they are in danger of loosing the edge should there be a radical shift in technology or market trends, really I just hope the shareholders are happy with this turn of events, or just maybe the 'contracts' are flexible enough for Apple to pull out if there were to be a radical shift in LCD technology, but it still is one hell of a  dangerous business course to take.

     

    HC.

     

  9. stochastic excursion
    February 7, 2011

    That's an interesting point that Apple is becoming a TBTF company.  Should it be considered Too Big To Exist? 

    The difference between the crisis of valuation with respect to banks and AEG on the one hand, and a company like Apple on the other, is that even with an abrupt failure of Apple's business plan, its assets have an intrinsic value that is based on their functionality.  The value of banks is softer and based on a pyramid-type structure, where faith in the credit of the lower foundations is key to the whole system.

Leave a Reply

This site uses Akismet to reduce spam. Learn how your comment data is processed.