How Apple Has the Best Supply Chain in the World

To any Mac owner over the past roughly five years: have you ever put much thought into that tiny green light that blinks on whenever the built-in iSight/FaceTime camera turns on? Didn't think so. I'll give you six guesses as to who has put in downright absurd amounts of time, thought, and dollars into it.

Bloomberg Businessweek provides an in-depth look at how Apple's (Nasdaq: AAPL  ) control-freak ways extend throughout its entire supply chain, and that its willingness to spare no expense in the name of perfection has given the company unmatched advantages in areas like component pricing and manufacturing capacity.

Physics, schmysics
The report describes how Apple's design head honcho, Jonathan Ive, came up with the green-light idea five years ago, but the pesky laws of physics threatened to hinder him, since light doesn't normally just shine through metal regardless of how nicely you ask it to. The solution was a highly specialized laser that could poke holes through the aluminum casing so fine that the human eye has trouble seeing them, but just big enough to let light get through.

In Apple's characteristic domineering ways, it found a company that made the necessary equipment -- which runs about a quarter million a pop -- and had it sign an exclusivity agreement and is now the proud owner of hundreds of such machines. The little green dots are now found in Apple's wireless keyboards, trackpads, and MacBooks.

While most PC makers like Dell (Nasdaq: DELL  ) typically try to cut manufacturing costs, Apple has no compunction spending for its designs, and relies on its operational prowess and efficiencies to reduce costs and expand margins. Much of Apple's operational accomplishments are directly attributed to CEO Tim Cook.

iExcellence
Businessweek quotes HP's former supply-chain head Mike Fawkes as saying, "Operations expertise is as big an asset for Apple as product innovation or marketing. They've taken operational excellence to a level never seen before." Fawkes remembers an HP colleague buying an iPod online, tracking it online directly from the manufacturing plant in China, and receiving it mere days later.

The life of an Apple supplier
With its weight, Apple is able to corner pricing and availability in key components like NAND flash memory. For example, the company entered into long-term flash-memory supply agreements in 2005, pre-paying up to $1.25 billion to lock down supply. Even now, Apple represents almost 30% of the NAND flash-memory market alone as the single largest company gobbling up the chips, and its nearly insatiable demand has helped grow the market in recent years.

The hefty prepayments that frequently top a billion dollars don't always sway potential suppliers. The life of an Apple supplier is a doubled-edged sword: The heavy volume is offset by Apple's bargaining power. The weight that Apple wields allows it to negotiate favorable pricing at the expense of the supplier's bottom line and margins. On top of that, Apple wants its component prices broken down in excruciating detail, including how much the supplier stands to profit.

Getting cozy with Apple isn't always a smooth ride, either, since suppliers end up relying on Cupertino for a healthy chunk of their revenue. Just ask tumultuous component providers like Cirrus Logic (Nasdaq: CRUS  ) , which sources audio codecs, Triquint (Nasdaq: TQNT  ) , whose recent miss can be blamed on Apple, or OmniVision (Nasdaq: OVTI  ) , which proved me wrong and is probably sharing the image sensor spot in the iPhone 4S.

Not the weakest link
The last link in the chain is Apple's vertically integrated retail stores, which provide insights into the action on the front lines. Store-specific demand can be tracked by the hour, which facilitates more accurate production0forecast adjustments. It's no wonder that Gartner has ranked Apple as the world's best supply chain for the past four years.

The best use of cash
This is one reason all the Apple dividend talk is so misplaced: Apple uses its $81.6 billion cash pile to invest in its superior supply chain. Plus, two-thirds of it is overseas anyway. Earlier in the year, Apple had reportedly dropped nearly $4 billion to lock up LCD-panel supply from providers like LG Display (NYSE: LPL  ) and Toshiba. Over the next year, the company has said it will be spending roughly $7.1 billion in supply-chain investments and prepaying $2.4 billion to critical suppliers.

If you ask me, this is one of the most effective uses of the company's hoard, far more useful than paying it out as a dividend. But then again, this is Tim Cook's Apple now, and although he is a supply-chain master, he's also more open to the dividend idea than the late Steve Jobs ever was.

If you're really interested in dividend stocks, don't wait up for Apple. Instead, get access to this free report on 11 rock-solid dividend stocks you can count on.

Fool contributor Evan Niu owns shares of OmniVision Technologies and Apple, but he holds no other position in any company mentioned. Check out his holdings and a short bio. The Motley Fool owns shares of TriQuint Semiconductor, Apple, and Cirrus Logic. Motley Fool newsletter services have recommended buying shares of Dell and Apple and creating a bull call spread position in Apple. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (6) | Recommend This Article (8)

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  • Report this Comment On November 08, 2011, at 11:28 PM, arenasolutions wrote:

    Yes, we posted on this same topic recently on our blog (http://blog.arenasolutions.com/apple-ipad-bom-can-manufactur....

    Apple definitely has an excellent supply chain. But their overall manufacturing strategy, which requires requires volume, power, adamant control of the supply chain and attitude, is pretty impressive too. When tracing Apple’s path as a manufacturer, there are clear differentiators that have led it to success in addition to the unparalleled dominance over its supply chain, including a strong and focused design aesthetic and perfectionism in execution.

  • Report this Comment On November 09, 2011, at 1:34 AM, SimchaStein wrote:

    Good stuff. Thanks. So many folks prattle about AAPL's brilliant marketing even to the point of implying that Apple customers are somehow mesmerized by slick UI and stylish design into paying a premium. Actually, it is precisely Apple's investments in supply chain, chip design, and HW/SW integration that allow it to deliver better value - And that creates loyal customers. And that is why Apple has 53% of the profit in the smart phone business, despite having about 17% share.

  • Report this Comment On November 09, 2011, at 9:35 AM, contrarian304 wrote:

    You complain about the green light highlighted in the bloomberg article. It is the little things that make the product. do you care if your speakers can hit notes you cannot hear? probably not, but you will notice it and not know why.

    yes, you may not notice the green light and may not care, but Apple does care about these things and I am glad it does.

    i have an ipad and use it every day. I no longer use my laptop in part because it is not as useful. I think it is the millions of little things like the weight and balance that i am not aware of.

    There are things I can measure, like the decision to make it a slate and not a hinge, the decision to spend the money on flash and have instant on and a lack of buttons.

    it is beautiful and simple to use. It is a year and a half old and was made better by iOS 5.

  • Report this Comment On November 09, 2011, at 2:45 PM, TMFNewCow wrote:

    @contrarian304,

    Just to clarify, I'm not complaining about the green light at all. I own way too many Apple products and appreciate its perfectionism and attention to detail as much as the next Apple loyalist.

    -- Evan

  • Report this Comment On November 09, 2011, at 7:30 PM, rfaramir wrote:

    This power over suppliers is similar to that which Wal-Mart wields. Let's continue to monitor that they use this power for good, but at least it's being used for our (shareholders') good.

    This use of cash is excellent, but as cash continues to be piled higher despite this use, I still think some of it ought to be returned to shareholders. US bonds are a much more dangerous investment than is thought. I think I can invest it better than Apple is (the *excess* to this insightful supplier lockup use, to be clear).

  • Report this Comment On November 10, 2011, at 12:32 AM, ConstableOdo wrote:

    Apple and Wall Street are at serious odds. Wall Street doesn't give a damn about green lights or corner cutting. Wall Street is betting that Amazon's Kindle Fire will kick the crap out of the iPad 2 in sales this Christmas holiday. You watch when Amazon's share price takes off and Apple's share price doesn't do a damn thing but sink.

    Wall Street continues to give preference to low-priced junk being moved in volume without regards to how cute some tiny and useless green light looks. The Kindle Fire has absolutely nothing noteworthy about it. It's just a near-featureless tablet built on less than razor-thin margins. It was probably thrown together in a few months with little concern about fine-tuned design while using the cheapest manufacturing equipment possible.

    But I'll assure you one thing. Amazon will be highly rewarded by Wall Street and investors are going to get their money's worth out of every dirt-cheap tablet Amazon sells. Apple investors will get next to nothing back from sales of a finely-crafted iPad. Wall Street firmly believes that a $199 tablet is far better for consumers than a $499 one.

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