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Tuesday, October 30, 2012

What New Zealand Agriculture Can Learn From The iPhone


I've never owned an Apple product. I was tempted to buy a Macbook Pro recently, but the temptation evaporated when I saw the price tag. Now that the new Windows 8 ultrabooks with touch screens are here, my next laptop will definitely not be a mac.

This got me thinking about Apple and why they are so successfully. 

It goes without saying, Apple is a hugely successful company. When people analyse Apples success, they talk about Apples design focus, their pursuit of perfection, the innovative thinking, the drive to make technology simple or the Steve Jobs factor. All these factors explain why they have great products and such brand loyalty, but it doesn't explain why Apple is the most valuable company in the world.



This graph shows that if you consider an iPad a computer then Apple has 25% of the US computer market. Which is a huge percentage. But if market share was the key to financial success then HP and Dell would be just about as profitable as Apple. The fact is Apple makes just about as much profit as Microsoft, HP, Dell, Google & Facebook combined





The reason Apple is so profitable is that Apple have total control of their value chain. This means they control the design, manufacture, distribution, retail and after sales service of their products. This doesn't mean that they do all of these things themselves, but they certainly control it.

For the past 8 years I have been involved in the retail sector and I know a bit about the margins on electronics. On average a retailer will make a margin of 8%-10% on products such as televisions, computers & home theatres etc. Generally a manufacturer will have a recommended retail price that they expect retailers to follow, but the retailer is free to sell the item for whatever they like.

The next time you visit your local appliance retailer you will see that the computer section is filled with "Sale" or "Reduced" signs all over the PCs. A quick glance over to the Apple display and you will see no such thing. I have never seen an Apple product on sale at a discount. This is because Apple set the retail price of its products and the retailer can not sell it for anything other than that price, secondly Apple only gives retailers a 3% margin on its products. So the latest 32gb wi-fi iPad retails for $879.00, the retailer will get $26.37 including GST.

Why would a retailer stock Apple products if they only make a 3% margin?  Because Apple products bring customers too their stores. Apple can treat retailers like this because their brand is so strong and their products are popular. The retailer can try and make their money by selling you an extended warranty (never buy an extended warranty), the protective case, the charger or docking station. The accessories have healthy margins.

To become an authorised Apple reseller you have to jump through hoops, once you are approved, you are then fortunate enough to be totally controlled by Apple.

My point is Apple have total control of the retailers and they apply this same control to every aspect of their supply chain.

Samsung have been putting in a good effort to compete with Apple in the smartphone and tablet markets. Samsungs Galaxy S 3 smartphone sales are matching Apples iPhone sales, but total sales are not even half the story.

This research paper called: Capturing Value in Global Networks: Apple’s iPad and iPhone, is quite interesting.

The report outlines Apples supply chain and details where the money from Apple products end up.
Who captures the financial value?
Like the iPod, the iPad and the iPhone are big money makers for Apple. While other companies are thrilled to be part of the supply chain for these highly successful products, their benefit in dollar terms pales in comparison to Apple’s.
They go on to say 
In the case of the iPad, Apple keeps about 30% of the sales price of its low-end $499 16GB, Wi-Fi only model (and more if the unit is sold through Apple’s retail outlets or online store). We estimate that Apple keeps a healthier 58% of the sales price of the iPhone 4. In both cases, these are far greater than the amounts received by any other firms in the supply chain.
Apple publicly acknowledge that they make an overall margin of 40% on its products. This is an average across all their products. What this figure means is if a product retails for $1,000, Apple receives $400. 40% is high for consumer electronics company. Samsung has an average margin of around 16%-20%.

Assuming these averages are correct, Samsung needs to sell twice as many products as Apple does in order to make the same amount of money.

So how does Apple actually make these large margins?

Its because they control the whole process of their product. Apple design the products, they design and create the software, they source the components and have the products assembled in China. 
You can be sure that Apple will not pay more than they have to. 

An excerpt from the reports says:
we estimate that only $10 or less in direct labor wages that go into an iPhone or iPad is paid to China workers.
(the estimated factory costs of an iPhone or iPad), the portion retained in China's economy is a tiny fraction....
 Apple are in control of the distribution of their products. This means they can control when every market receives shipments and this can be tied into their marketing and product release strategy. 
Compare this to the launch of Windows 8, because Microsoft generally don't make hardware (ignore the Surface) they are reliant on other manufacturers like HP, Toshiba and Sony to get their Windows 8 products to market. A quick wonder around Harvey Norman and Noel Leeming last week showed a distinct lack of Windows 8 touch screen laptops available in the week Windows 8 was launched. This would never happen with an Apple product launch. They keep it all in house and control all the releases.

But the biggest factor to their profitability is they control the retailing of their products. As discussed earlier they don't give up much margin to their authorised resellers, but the strategy of setting up their Apple destination stores has meant that they retain all of the margin that may have gone to a retailer. The Apple stores are hugely successful. In this interview with the Harvard Business Review. Ron Johnson, who was the VP of Apples retail division says;
Look at the Apple Stores, which have annual sales averaging $40 million per store in a category that in 2000 everyone said would move entirely to the internet. Today the Apple Stores are the highest performing stores in the history of retailing.
 In keeping with all other aspects of their business, they don't pay their staff more they have to either.
Apple also have their on-line store which is popular, they make it easy for customers to download their software from their on-line store therefore retaining the margin on software as well.

Whether a customer buys an iPad from a reseller, and Apple store or Apples on-line store. The fact remains Apple retains almost all of the retail margin.

Then there are the little things that people don't think about. Apple has designed its products to get the maximum amount of money out of its loyal customers. Take the battery replacement for your iPhone as an example. The iPhone is designed so that you can't open it, you have to send it away to Apple and have them replace the battery for you. Of course that will cost you $145, compared to $39.00 for a replacement battery for a Samsung Galaxy S3 where you just open the back cover and do it your self.
Then there are the accessories like the standard Apple mouse which costs $82, and that's not even wireless. The standard Microsoft mouse costs $25.
Then there is Apple Care which is Apples extended warranty program. An Apple care plan for an iPhone will cost you $132 and extends your warranty for an extra year to a total of two years. Which is another great way to extract more money out of their loyal fans.

Finally we get to the most obvious part of the supply chain, which is the retail price. Apple products are always the most expensive when compared to a comparable product. The iPhone 5 32gb model retails for $1199, the comparable Samsung Galaxy S3 retails for $1049. The iPhone 5 is 14% more expensive.

Samsung can probably build a Galaxy S3 for the same price as Apple can have the iPhone 5 built. They may even be able to do it cheaper as Samsung supply a significant amount of the components for the iPhone. But Samsung have to pay a margin to a retailer (8%) and then they also have a product that retails for 14% less than the iPhone. If you add these two figures up you get 22%, which is about the difference between Apples 40% margin and Samsung's 20% margin.

Even if the retail price of the iPhone 5 & Galaxy S3 were the same, the design of the supply chain dramatically increases the profitability of the iPhone, because Apple have more control of  the entire supply chain.

Apple can operate a supply chain in this manner because of the power of their brand. Samsung don't have the brand power to force retailers to sell you product for next to no margin, they can't also ask customers to pay the premium that Apple can. 

Samsung is a very broad brand, they do lots of things from supplying components to other brands, through to an entire range of household electronics and of course smartphones and tablets. 
Apple just do computers (iPhone & iPad are computers) and they make sure they do it very well and they own and control the entire process, from design through to the after sales servicing. They have designed the entire process to make them the most amount of money possible.


New Zealand's agricultural sector could do well to study Apples business model and supply chain design. I'm really struggling to think of a major NZ agribusiness that even attempts a vertical supply chain.

Fonterra is New Zealand's economic saviour, but Fonterra is a commodity supplier. It is equivalent to a Korean company that supplies a component to Apples iPad or iPhone and receives less than 7% of the final retail price.
The red meat sector is in the same, farmers are relegated down the value chain and as a result receive only a small fraction of the retail price.
Australian dairy farmers are at the mercy of the supermarkets because they don't control their supply chain. The same is true for our UK dairy farming friends too.

Is it possible for New Zealand's agricultural sector to have a vertical supply chain?

Why does Fonterra stay as a commodity supplier to the world? 

How can sheep/beef farmers control their value chain?

The answers to these questions are complex and the solutions are not easy. If it was easy it would have happened long ago. But if it can be done, it has the potential to really boost the New Zealand economy.

Steve Jobs picture from www.uproxx.com

6 comments:

  1. What proportion of final retail price do red meat farmers receive?

    ReplyDelete
  2. I don't know, can you tell me? Dairy farmers receive about 60c of a $2.50 litre of milk.

    ReplyDelete
  3. I don't know, can you tell me? Dairy farmers receive about 60c of a $2.50 litre of milk.

    ReplyDelete
  4. Yes I can - did you guess it was a loaded question? :)

    pic.twitter.com/Gj04TQZe

    Am I correct in saying that is not too far off Apple's 40%? For lamb in Britain, at least.

    ReplyDelete
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