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Techaisle Blog

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Davis Blair

Apple Moves Some Manufacturing back to the US – Techaisle Take

In a very interesting move, Apple announced that they would invest in returning some production to the US. At first blush, this seems like a bold tactic  which will certainly improve Apple’s brand reputation in the wake of long-standing criticism for moving skilled manufacturing jobs to China, where worker pay and conditions are bad enough to drive some to suicide. And as the number one technology company in the world it is also heartening to see some jobs come back home, but there are a few caveats:

The Apple MacBook is the top of the line notebook with a premium price point, out of reach for most small businesses unless there is strong justification, such as for professional designers and developers who need to pay double that of a similarly equipped Wintel device to do their work effectively. That share of the market has always been small relative to Wintel machines, both desktop and notebook. Apple manufactured Macs in the US until the mid-nineties, after most competitors had moved production offshore. The caveats include 1) whether this experiment will grow to the more strategic iPhone and iPad product lines, and obviously, 2) whether Apple can turn a profit that makes the decision stick after the first $100M is spent.

Apple cites the inability to find the level of skills and manufacturing equipment in the US to be able to turn out production rapidly and with high quality. No doubt Foxxconn, Apple’s Chinese production partner, who already operates some plants in the US, will be looking to expand operations here. They had issues ramping up production to meet demand for the new iPhone and there were hiccups, followed by reports of Foxxconn negotiating multi-billion dollar deals in Brazil, to manufacture there. Regardless of how that materializes, today’s announcement will dampen some criticism that would accompany the final press releases from Sao Paolo.

Enter the Dragon


Rise of LenovoAnother reason this makes sense to us is that China’s technology vendors are on the rise – no surprise there. But consider that within 7 years of buying the ThinkPad brand and manufacturing rights, Lenovo has become the #1 PC vendor in the world in unit shipments, (#1 by Gartner, #2 by IDC) squeezing 10% out of the global share in a stagnant market in the last few years alone while jumping to 30% share in China, 3X the nearest competitor.  It was also announced today by Reuters that Apple fell to #6 in the Chinese smartphone market, which is growing in leaps and bounds to 60M units per quarter, with intense domestic competition and Samsung leading the pack. Lenovo is number 2 in the smartphone market as well as having the overwhelming first place position in PCs mentioned earlier, #5 smartphone seller Huawei, is gobbling up global market share in the telecom equipment market at an alarming rate.

Married to China - Economist CartoonWe have written several times about the rising competition from China in the hardware manufacturing end of the IT market, and of its’ growing importance as the second largest PC, and largest Smartphone market in the world, with a billion users and 60 million units sold per quarter. As shared with our readers in a September article about Internet adoption and managed economies, China and Korea have many similarities that make for a reasonable scenario of things to come. Take it from someone who lived 15 years in Asia and has been watching Korea for 30 – the voracious appetite for material wealth, pragmatic style of government and East Asian capitalism will leave no stone unturned. Take Samsung for example: between 1990 and now they have become the number one maker of TVs in the world, starting from scratch and displacing the Japanese faster than they displaced American manufacturers, #1 in memory chips and some other semiconductors, #1 in Smartphone handsets (almost double Apple in unit shipments), a global leadership position in screen technology, squeezing Sharp, Toshiba and others for the keys to the future standard, and a global frontrunner in CE and white goods. These guys are US Steel in their heyday. And they are a major supplier to Apple for the most important products. And the legal battles are not over yet, according to this CNET News video. They have Foxxconn on the left and Samsung on the right. With friends like these who needs enemies?



CNET on Samsung Apple Lawsuit.

Strategically Apple’s move is understandable, at least from the outside looking in. Steve Jobs’ genius for aesthetic design, usability and commitment to quality helped create the PC revolution, arguably the single most important technological advance aside from the Internet since the Industrial Revolution. It also got him ousted from Apple as decisions about long term architecture were made. Although Apple always had (and still has) a very loyal following in the computing arena, they did not gain more than 10-12% market share from 1980 to 2000. This meant that Apple had to drive enough margin to support R&D for operating systems, a proprietary microprocessor, end user applications and non-standard chassis and other components.  By contrast, the rest of the PC market leveraged standards and Scale Economies as investments were diffused in the market. The Microsoft standard OS and a maturing suite of interoperable applications were the lynchpin of the ecosystem and resulted in hundreds of companies joining the competitive fray. White box and private label manufacturers sprang up everywhere, eventually producing branded competitors like Dell and Compaq who were selling practically as fast as they could produce. By 1996 Apple was being counted out by many analysts as an also-ran. Eventually in 1997, Jobs was brought back in to save the company, which was considered a very risky personal move at the time.

iPod 2G brings legal music to the massesIn his second stint as CEO, Jobs turned Apple around and helped solve a problem that almost put the recording industry into insolvency; how to make money in the music business when new technologies allowed free files to be distributed at will and pirated on a global scale. Apple introduced iTunes in conjunction with EMI, and solved the Digital Rights Management issue. Under Jobs they had to kowtow to Redmond and adopt compatible MS Office Application Suites, which were not interoperable to that point – no swapping files between Apple and Microsoft users, and move to an Intel architecture. Despite several earlier failures, such as the Newton, Apple achieved a breakout hit with the iPod, and iTunes began printing money. Next came the iPhone, which almost immediately become the third largest handset brand in the market, followed by iPad in 2010, and several versions of iPhones. The products have produced a ravenous worldwide customer base and made Apple the most valuable (tech) company in history with a half-trillion dollar war chest.

The point is that Apple’s meteoric rise is more a function of the transition to CE and Smartphones than its’ leadership in computing and now they are in a bind; they are stretching their existing supply chain, they rely on advanced manufacturing resources and skilled labor that have been developed offshore, their largest potential market (China) is controlled by arch-rival Samsung, with whom they are in a nasty legal battle and depend on for key components. Prepare to Repel Boarders.

Next Chapter in the Bits vs. Atoms Saga


The Crown JewelsApple’s success with iTunes came as a result of a property of the Internet that is now at the root of their problem: value moves at the speed of light when it can be digitized, and even when that value is in the form of an optimized supply chain, there are physical limits imposed by materials and the movement of products that ultimately make manufacturing a challenging business. On one hand you have companies like Apple, who source, manufacture, sell and distribute 125 million smartphones, along with millions of other devices. On the other hand there are companies like Google, whose value can be delivered over a network, relying on increasingly large server farms and unfettered access to electricity, but with much less need for operational infrastructure. Cisco and Oracle are another example although not as stark. Huawei is exerting substantial pressure on US firms as a global competitor and causing Congressional sabre rattling, as we noted here.  Telecom equipment has been a hardware-oriented business but is less at risk because of innovation toward software and network integration – moving toward bits and away from atoms, demonstrated by Cisco's recent alliance with Citrix. Earlier we discussed Lenovo, which has overtaken first Dell and now HP and is the global leader in PC unit shipments.

As noted, we think moving some manufacturing back to the US will bring some benefits, not least of which is the PR value of bringing some jobs back home. It is slightly diluted by the fact that production of the most important product lines will not be possible for some time to come and does not decrease reliance on Foxxconn or really help with the Samsung conundrum. However if the experiment succeeds and a profitable advanced manufacturing sector can be developed and others follow suit it will be a very good thing for all of us in the technology industry.

Davis Blair

Don’t Blame IBM - Blame Adam Smith

In this WSJ article, the Congress is investigating the meteoric rise of Huawei, China’s major telecommunications equipment provider and accusing it of using technology theft and government handouts as the path to its’ incredible growth. The article insinuates that IBM is a major cause of this situation because they have shared advanced technology and management best practice approaches as a shortcut, and summing it up with:

“U.S. government concerns culminated this week in a report by the House intelligence committee that labeled the company a security threat and warned U.S. telecom companies against doing business with it.”

Huawei counters that they have spent over $400M with US consulting firms like IBM, Accenture, BCG, PWC and others since 1997, and at one point after signing a strategic agreement, they had 200 IBM consultants onsite to optimize core systems and train management in the most efficient approach expand internationally. If there is real evidence of technology theft (none in the article), that would be basis for retaliation, but it did not seem like IBM and others were complaining during the bonanza: Gerstner’s IBM made the transition from antiquated mainframe manufacturer, about to be broken up, into the world’s largest professional services provider on the back of international deals like this, and probably got a couple of large US government contracts in the process. McDonalds, Wal-Mart, Oracle and Boeing have done pretty well also, and American consumers have been blessed with an abundance of all the “stuff” they can buy for the absolute lowest price (not cost). According to the venerable Adam Smith:

“Consumption is the sole end and purpose of all production; and the interest of the producer ought to be attended to, only so far as it may be necessary for promoting that of the consumer.”
-Adam Smith, The Wealth Of Nations, Book IV Chapter VIII, v. ii, p. 660, para. 49.


This is a technology blog and we try to steer clear of politics, but sometimes you have to scratch your head when you read articles like this. We have written on the effects of optimization on society, including the leading role of IBM with its’ Smarter Cities initiative to build global intelligent and optimized networks.

Married to China - Economist CartoonThe telecom services and equipment segment is a cornerstone of a country’s infrastructure and economic development, which is why virtually every country controlled it through government monopolies and trade barriers until global trade pressure forced them to open it – through direct pressure or infrastructure loan programs that directed spending. There was certainly value to opening the markets, as it is impossible to function in the global economy without a robust telecommunications infrastructure; the point is that there is a balance between internal development of capabilities and purchase of imported materials. We discussed this last week in our post comparing the evolution of the Internet in China and Korea. The article also hinted that trade friction was caused by onerous conditions that went into the negotiations between GM, GE and Google: “Companies such as General Snatching the Pebble?Electric Co. and General Motors Co. have had to contribute valuable assets and technology to participate in markets such as aviation and automobiles that China considers critical to its economy. Google Inc. lost market share after moving its Web- search and other services to Hong Kong to avoid complying with China's censorship policies.”

Some might find it difficult to find sympathy for those three - didn’t GM get a public bailout to prevent it from disappearing? And doesn’t Google own the market in virtually every country in the world except China? And how many times does GE fail to negotiate profitable terms in international infrastructure projects? By making them such a large trading partner and buyer of our national debt, we have become inextricably linked to China economically. Decisions have long term consequences.  They are flexing their muscles and  it is not the first time, nor will it be the last, especially as their economy continues to slow.

Again, from the Father of Capitalist thought:
“It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our necessities but of their advantages.”
-Adam Smith, The Wealth Of Nations, Book I, Chapter II, pp. 26-7, para 12.


In other words, China is going to do what is good for China and America is going to do what is good for America. Don’t be surprised when the pupil tries to snatch the pebble from the master’s hand.

 

Davis Blair

The Internet in China - Will it Follow Korea?

Looking at the Mashable.com infographic on China’s Internet speed and other stats, we started noticing similarities between where China is now and Korea was 10 years ago. Growth of broadband Internet availability is already remarkable in China, but we only need to look across the Yellow Sea - a one-hour flight - to Korea to see the real potential.

According to an Organization for Economic Cooperation and Development (OECD) report published in July 2012, South Korea's high-speed Internet penetration rate topped 100 percent for the first time among the group's 34 nations, making it #1 in the world for broadband usage. Exceeding 100% is possible based on the connected devices per capita rather than each individual in the country having broadband access. For comparison purposes, the US is at 76%

After a 10 year break, I visited Korea in 2010 for a month-long project with one of the National Universities. In the decade between 2000 and 2010, the level of infrastructure build out and ubiquity of free broadband wireless access, even in the smaller cities, was incredible.

It shouldn’t have come as such a big surprise; Korea has been making deep investments in national communications for over thirty years, beginning with a strategic move in the mid-1980s that separated voice and data traffic, effectively taking data away from the government voice monopoly, Korea Telecom, and giving a data monopoly to a company called DACOM, with the charter to develop a national plan for data networks. The economy was regulated at the time and the political system still very authoritarian. National policies (successive five-year plans initiated by strongman Park Chung Hee) dominated decisions about investments, especially in areas of finance, technology and industrial infrastructure.

One of the strategic initiatives was the national development of Value-Added Networks (VANs) that the conglomerate companies – Samsung, Hyundai, Lucky-Goldstar (LG), etc. - could use to connect their manufacturing operations with suppliers using ISDN technology. This telecom foundation was critical to the contribution of these companies in building an economy that grew from $2.7B in 1962 to $230B in 1989. GDP passed $1.5T (PPP) in 2011.

This brings us back to the point. There are a lot of similarities between China and Korea that could help us understand the potential explosion of Internet adoption and application in the PRC. Among the most relevant are:

Rapid economic growth: Korea’s economy grew at a compounded rate of over 8% between 1962 and 1989, laying the groundwork for it to be the 12th largest in the world today, despite a population of less than 50M. As seen in the Economist chart here, China’s GDP growth has grown at a rate above 10% since the early 1990s, and although it slowed significantly with the US downturn in 2008, it is still forecast to grow at an 8-9% rate through the end of next year, according to the IMF and major trading houses.

Infrastructure investment: Korea’s economy was managed through successive five-year plans that directed Bank of Korea investments deep into all areas of infrastructure and heavy industries, and these continue today, in a much more democratic - yet still pragmatic way, with huge projects to position the country as a commercial hub that can grow on the back of China’s emerging leadership role. In order to re-energize China’s economy the government poured over $630B into infrastructure projects in 2008/9. The second round, which seemed a little more cautious represented another $157B this year involving an additional 60 major projects. Even with this level of investment, there is a substantial IT gap that needs to be filled for SMBs to be able to automate effectively. Of the 3.7M SMBs in China, only 56% currently use PCs, while virtually all of Korea’s 3.2M SMBs have at least one PC and an internet connection.

Managed Economy: A large part of Korea’s success came from the ability to resist pressure to open up the economy and maintain a trade balance that spurred growth of a middle class, driven by domestic rivalry in the areas of steel, cars, consumer electronics, construction equipment, etc., followed by an explosion of exports in these areas. Korea’s strategic and geographic and political boundaries during the Cold War allowed them to resist this trade pressure. Situated between Japan, China and the Soviet Union, Korea’s security role superseded global corporate interests in agriculture, manufacturing and heavy industries allowing managed capital flow, political selection of winners, focus, hard work and sacrifice to build a robust economy from the ashes of the Korean Conflict. Also important was that the GDP per Capita only reached $5K in 1989, making it a little difficult to argue for changes that might have a destabilizing effect on the impressive string of results.

Now China has emerged as the new regional miracle and holds strong political, economic and military cards that will allow it to resist similar pressures and continue to exert control over its’ economy. While it remains very vulnerable to external forces such as financial volatility in Europe and the US, it has managed to control the areas of technology adoption and control of the mass (and individual) communications  For example Google’s only true global competition outside the US is Baidu; the leader in the PRC so far, and let’s not forget that Lenovo, the PC brand that IBM sold less than 10 years ago to its’ major Chinese ThinkPad OEM, is poised to overtake HP and Dell this year as the global leader in overall PC shipments, not just notebooks. Another relevant example is that Samsung was a strategic HP OEM for high-end workstations and low-end servers in the 1980s using PA-RISC architecture.  Intel won the war of the processors, making PA-RISC obsolete and Samsung became a global leader in memory chips and disk drives, which is now giving way to solid state memory, a fundamental component in the new generation of tablets PCs and other end-user devices. Oh yeah - Samsung is also a global leader in smartphones, shipping twice as many as Apple did last quarter; 50M vs. 26M. Oh yeah - they also supply Apple with a lot of important components. I would be scared too. But more to the point, Apple manufactures in China, just as IBM did with their flagship Notebook. Ironically, in the last few years Samsung emerged #1 in television shipments and has only been in that game since the late 1980s. This is not an argument for a managed economy - just some observations about long tail trends. My personal opinion is that Korea benefited from resisting pressure to open their economy too soon. I’ll let readers draw their own conclusions here.

Concentrated Population and Vertical Architecture: Korea’s Internet leadership benefited at least as much from the urban architecture as the government policies; maybe more. A small country with a rapidly-growing population and standard of living, Korea was transformed from a country of 1, 2 or 3 story cement block houses to a “Republic of Apartments” since the mid-1980s. In preparation for the 1988 Seoul Olympic Games, thousands of post-Korean War tenements and lower quality housing was razed and hundreds of 20-30 story modern apartment blocks took their place. The current apartment complexes have everything needed for comfortable living, including underground shopping centers and subway stops – almost like small cities. And typically they are modern and very well built - think New York - not $700 a month on the other side of the tracks. By concentrating 20M people into Seoul, the vast majority of whom live in these towering apartment blocks, the challenge of providing the last half-mile can be solved by bringing fiber to the curb and connecting hundreds of families at a time. Now consider that according McKinsey, China will have 221 cities with over a million inhabitants by 2025, adding more urban population than the total US population.

To accommodate this growth, the country needs floor building space equivalent to the land mass of Switzerland, or up to 50K 30-floor+ skyscrapers. If that is not enough to make the point, one of the megacities planned is supposed to combine 9 existing cities in the Pearl River delta into a single megalopolis of 40 million inhabitants, ringing Hong Kong with China’s largest manufacturing center. This optimism has been slightly dampened by the bursting of the property bubble that came with the anticipated growth of the area, lots of empty office space and apartments. Despite the local setbacks, analysts at Goldman Sachs expect a “soft landing”. Personally, I don’t think anyone can accurately predict where any economy will be in two years, but we use the tools we have.

There are other similarities such as national pride, a hungry population that is willing to sacrifice, work ethic and cultural bonds, but for the sake of brevity we don’t need to go into a lot of detail here.

The Elephant in the Room: Most people would agree the biggest single risk to China following Korea’s lead on Internet adoption is whether the government can hold the population down while they become increasingly affluent and aware of the personal freedoms and opportunities in other advanced economies. In Korea, the catalyst for the explosive growth between 1990 and 2007, when per capita GDP reached $20K from $5K, was the first peaceful transfer of power to a civilian government. All of the Internet adoption and high tech growth followed this major political reform, and would have been very unlikely without it.  As described in our post about Managed Services adoption in the PRC Mid-Market, there is very quick adoption of the best new technologies (as long as they do not pose too much risk to the powers that be).  China could take a much faster path to prosperity by relaxing the political control on personal freedoms - but speed is not the priority and the problem with making political predictions is that it is much too complicated to get right. But it only takes one person, a Gandhi, Gorbachev, Aquino, or in China's case Deng Xiaoping to make history jump instead of crawl. It is good to keep in mind that stranger things have happened; none of the experts predicted the fall of the Soviet Union in 1992 and nobody could have imagined Korea bailing out Russia – the patron of their arch rivals in North Korea.

As might be more evident in this post, I am a Korea watcher, not a China watcher. For an expert view on what is happening in China related to Internet adoption and social issues, this TED presentation by Michael Anti (aka Jing Zhao)  is a good place to start.

Anurag Agrawal

How HP's Possible Spin-Off Could Impact SMBs

Major changes at the tech giant will have a trickle-down effect on smaller companies. Here are four things to keep in mind. As the world's largest technology vendor overhauls its business, much smaller companies are certain to feel the effects. That will perhaps be most apparent in the potential spinoff of HP's personal systems group. HP accounted for more than 18% of PC purchases made by small and midsize businesses (SMBs) in the United States in 2010, according to market researcher Techaisle. That was second only to Dell, which sold one in four PCs bought by SMBs last year.

Read on Reprint from Techaisle interview with InformationWeek and article by Kevin Casey of InformationWeek.

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