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The iPhone 5's Dirty Little Secret

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The iPhone 5 launch on Wednesday, Sept. 12, is sure to be the most important event for tech investors this year. The Motley Fool will be hosting a live chat where our top tech analysts will answer your questions and break down what the announcement means for Apple and tech investors everywhere. Be sure to swing by at 12:45 p.m. ET tomorrow for all your coverage of Apple's next big announcement.

Reports from two Chinese worker-advocacy organizations point to a darker side of the new iPhone 5 release. Less than a month ago, it seemed that Apple's (Nasdaq: AAPL  ) manufacturing partner had finally cleaned up its act, but new labor issues threaten to further tarnish the company's image. Is Apple's reputation sliding down a slippery slope it can't recover from?

The deets
A New York Times article published on Monday highlights further labor infractions by Apple's Chinese manufacturer, Foxconn International Holdings. Foxconn is Apple's largest supplier, but its 1.2 million-person workforce also builds devices for companies such as Cisco (Nasdaq: CSCO  ) , Hewlett-Packard (NYSE: HPQ  ) , Intel (Nasdaq: INTC  ) , and Nokia (NYSE: NOK  ) .

After several journalists first revealed gross misconduct at Foxconn's facilities earlier this year, Apple hired the Fair Labor Association to launch a full-scale investigation into its manufacturing practices. An August update not only reported that Foxconn had completed all necessary tasks on time, but also that the company was actually ahead of schedule on reforming its worker conditions.

Then this happened: China Labor Watch and Students and Scholars Against Corporate Misbehavior both revealed that Foxconn is using unpaid "interns" as labor on their assembly lines. Foxconn employs around 32,000 students, almost 3% of its entire workforce. Students receive a monthly $80 stipend, while Foxconn pays the rest of their would-be salary to the student's school.

Too much, too soon?
Although Apple and the Fair Labor Association might have been shocked to hear this news, Foxconn's labor shortage should have come as no surprise. With new regulations limiting worker overtime, Foxconn has had to dramatically increase its worker base in the past six months.

Unfortunately, Foxconn seems to have filled this need with hundreds of students pulled from school to assemble Apple products, including its new iPhone 5. China Labor Watch estimates that as much as 10% of iPhone assembly lines could currently be staffed by students to meet high short-term demand for Apple's newest device. 

Foolish bottom line
Labor costs account for just 5% of an iPhone's total cost. If we assume that half of that occurs in China, Foxconn's labor amounts to around $10 of an iPhone's final price tag. Not insignificant, to be sure, but Apple's brand and reputation allow it to price its products at a 25% to 50% premium over competitors. You do the math: Apple shouldn't be risking $25 to $50 to save $10.

Even though Foxconn was calling the shots, Apple ultimately failed us on this one. The company needs to play hardball and not let mistakes like this go unnoticed. It's playing a dangerous game, and although I love Apple today, I'd really like to still love Apple tomorrow.

Despite all the bad publicity Apple's received, its transparency and accountability give me reason to believe that this company will continue to excel in the manufacturing sector. To understand the full context of Apple's business, the Fool has prepared a special report outlining his criteria for Apple's ultimate success or failure. It's chock-full of excellent analysis and comes with a full year of free updates, so be sure to pick up your copy today.

Fool contributor Justin Loiseau owns shares of Apple and two really old iPods. You can follow him on Twitter, @TMFJLoand on Motley Fool CAPS, @TMFJLo.

The Motley Fool owns shares of Cisco Systems, Intel, and Apple. Motley Fool newsletter services have recommended buying shares of Intel and Apple and creating a bull call spread position in Apple. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days. The Motley Fool has a disclosure policy.

Read/Post Comments (12) | Recommend This Article (10)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 11, 2012, at 11:53 PM, prginww wrote:

    I don't know why Apple is getting racked over the coals on what Foxconn does and plenty of other well known mfg use Foxconn as well. The media picks on Apple because they design and sell a successful product and the majority of the media which are predominately PC users that are afraid to switch.

    I guess that Microsoft FUD sales tactics have worked on the masses of brainwashed people.

    Apple has to meet demand and they have not many choices in terms of how to make their products.

    I would LOVE It if the media would get on Foxconn's back directly and not lead the story with Apple. Because Apple's name can be EASILY interchanged with Cisco, Dell, HP, etc.

  • Report this Comment On September 12, 2012, at 1:31 AM, prginww wrote:

    Apple is reeking such huge profits that a doubling or tripling of the labor cost would be insignificant. Apple could well afford to have the iPhones manufactured in the United States. I for one contemplate to boycott iPhones as long as they are made in China.

  • Report this Comment On September 12, 2012, at 2:17 AM, prginww wrote:

    Do not support products made in China.

    If Foxconn was manufacturing these things in Taiwan it would adhere to proper working conditions.

    Boycott made in China goods.

  • Report this Comment On September 12, 2012, at 2:37 AM, prginww wrote:

    Come-on guys, you can boycott until you're blue in the face and six-feet under. I don't agree with buying made in China either, but American companies love cheap labor, and American people love cheap goods as long as their are under-developed and developing economies lowest bidders get the go a head...

    and boycott ....good luck!

  • Report this Comment On September 12, 2012, at 3:20 AM, prginww wrote:

    Because some American companies such as Apple love cheap labor, the USA has a huge and rising foreign trade deficit, federal budget deficit, unemployment etc etc. All these things are bad for the national economy and the American people.

  • Report this Comment On September 12, 2012, at 4:51 AM, prginww wrote:

    I don't care about Americans, those guys have their own problems and are capable of addressing them.

    Boycott goods made in China needs to apply globally, including people in China.

    It will even save the consumers money in the end as low quality goods such as the iPhone (shatters when you drop it a short distance, gets "water damage" from humid weather, etc.) don't last as long as quality goods so you end up paying much more.

  • Report this Comment On September 12, 2012, at 5:38 AM, prginww wrote:

    I'm going to say what many of you are thinking but will not say.

    I really don't care.

    We are a population ( globally ) full of good intentions. If someone asks you how you feel about world hunger, dictatorships or slave labour, you'd certainly tell them you're against all those.

    It's not Apple's responsibility to police, it's the local law enforcement's. This story could run any time of the year and use any of Foxconn's clients. Instead it's about Apple on the eve of their once yearly iPhone announcement.

    Boycotting does nothing because at the end of the day, people don't care. Did any of you boycott non-FairTrade coffee, chocolate or wine? Personally, I refuse to pay a "guilt tax" for Eco products when my local retailer sees fit to stock the regular variety.

    Doesn't make sense that beef from Argentina is less expensive than local grown beef here in Sweden, but as long as it is cheaper I'm a buyer.

  • Report this Comment On September 12, 2012, at 7:52 AM, prginww wrote:

    Just more Apple bashing. Apple does not manufacture in the U.S. because of our government and our unions.

  • Report this Comment On September 12, 2012, at 10:15 AM, prginww wrote:

    @applefan1 - *raked, but yeah I agree. You know, if you are a net buyer of AAPL (and you certainly seem to be), let the rumor mill flourish!

    @investmentexpert - *REAPing, not reeking.

    Everybody else - sorry, I stopped reading after 'reeking'.

  • Report this Comment On September 12, 2012, at 11:38 AM, prginww wrote:

    , investmentexpert,

    You seem to have made the same move as the writer. He could fill in the Headline name with a dozen other Foxcom clients and it would still be the same. So he has deliberately slanted the article so it seems Apple is the only bad guy. After all, Foxcom has over 1,000,000 employees. Don't you think they make stuff for alot of companies.

    You on the other hand that Apple is just going for the cheap labor and I see foremen with whips and chains. You state: " Because some American companies such as Apple love cheap labor". Implying Apple stands out. I have news for you, EVERY BUSINESS loves cheap labor. Apple is the same as EVERY business. So you try to make Apple look worse than it is. Odd. Why would anyone want to do that...

  • Report this Comment On September 12, 2012, at 11:45 AM, prginww wrote:

    My son was a USA college intern this summer.

    It cost $1200 in tuition for him to perform unpaid labor for two months, and he had to commute an hour to the jobsite. He didn't even get an $80 stipend like the Chinese interns received.

    Can't we just stop the "bashing Apple because they have deep pockets when they whip the lazy media into a frenzy with a new product" grandstanding. Oh, that's right, any $AAPL story, no matter the quality, will get clicks and pageviews!

    Other than scanning a yellow journalism piece in the NY Times, what effort did Justin Loiseau make? Shame on the Motley Fool for poor journalism standards. Come on Justin, how much less were the interns paid than the actual workers?

    "...Apple ultimately failed us on this one."

    No, the Fool failed us by not presenting original thought or a balanced point of view.

  • Report this Comment On September 12, 2012, at 3:41 PM, prginww wrote:

    There is a lot of talk of interchangeable company names when talking about Foxconn. I don't have all the facts but according to our beloved media, it sounds like Apple is the one pulling kids out of school, and not all those other companies. If that is the case, then this article should be targeting AAPL.

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