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28 November 2018

iPhone slowdown hits Foxconn, making it urgent to reduce reliance on Apple

Apple’s ability to make or break its component suppliers is well known. The break-up of Imagination Technologies, when Apple decided to go inhouse for its graphical processor cores, was a high profile example, as was the iPhone maker’s recent acquisition of the biggest part of Dialog Semiconductors, its supplier of power management chips.

However, it is not just specialist component makers which are vulnerable to Apple’s decisions, and to any slowdown in sales of the mighty iPhone. Giant contract manufacturer Hon Hai Precision (Foxconn) has been busily diversifying its business to reduce its reliance on handset manufacturing in general and the iPhone deal in particular. But the process is slow, and the Taiwanese firm says it will be forced to eliminate nearly $3bn in costs in 2019 as it faces likely production cutbacks in the iPhone, as well as rising competition for its core business.

According to Bloomberg, which saw an internal Foxconn document, said the manufacturer plans to reduce its iPhone business costs by RMB6bn ($865m) next year and lay off 10% of non-technical staff, reflecting expected falls in revenue from this activity. The document said Foxconn faces “a very difficult and competitive year”.

This is the latest in a series of reports about iPhone suppliers, which have reported the negative impact of expected reduction in demand for the smartphones, at least until the fillip which Apple will target with a 5G model, anticipated for 2020.

In recent weeks, several known suppliers of components to Apple have cut revenue forecasts, citing uncertainty over iPhone demand. Japanese newspapers have pointed the finger, in particular, at the lower cost iPhone XR, for which Foxconn is a significant assembler.

Apple shipped almost 47m iPhones in its fiscal fourth quarter, which ended on September 30, which was flat with the same period a year earlier. There has been rising nervousness about possible slowdown in demand for the iPhone, on which the US firm is heavily dependent for revenue and profit. Apple has been central to a recent sell-off of shares in major Wall Street-listed firms.

A spokesperson for Foxconn said: “We regularly review our global operations. The review being carried out by our team this year is no different than similar exercises carried out in past years to ensure that we enter into each new year with teams and budgets that are aligned with the current and anticipated needs of our customers, our global operations and the market and economic challenges of the next year or two.”

These developments will add new urgency to Foxconn’s attempts to diversify its business and expand into markets with higher margins than contract manufacturing, a sector in which it faces significant and rising competition from low cost assemblers in China and elsewhere.

Earlier this year, Hon Hai’s first fiscal quarter figures (for the period ended on March 31 2018) were hit by the delayed launch, last year, of the Apple iPhone X, indicating how the Taiwanese firm’s fortunes remain too closely tied to those of its largest customer. Analysts said that, were it not for a one-time gain of $2.2bn from selling shares in Sharp, this would have been Hon Hai’s worst holiday quarter for at least seven years.

Hon Hai also missed analyst estimates in its gross margin and operating profit margin figures. Full fiscal year net income was NT$138.7bn, down for the first time since 2008, and profits were hit in the second half of the year, largely because of the delayed iPhone X shipments.

Hon Hai gets more than half its revenue from Apple, but  – though electronics manufacturing is still the heart of the business – it has diversified through a series of investments and acquisitions, and is now looking to invest heavily in new areas like 5G.

The company is also looking to mount an IPO, in China, of its Foxconn Industrial Internet (FII) subsidiary, which offers cloud services and smart manufacturing. The value of this unit could be US$43bn, compared with Hon Hai’s US$56bn.

That could make the company a powerhouse in emerging technologies, including 5G.
FII aims to use the proceeds of the IPO to support CNY27.3bn ($4.3bn) of investment in hi-tech projects. In particular, one public, the division is looking to fund eight new technology projects, according to its IPO prospectus on the China Securities Regulatory Commission website.

Two of the projects would enhance the core business, focusing on artificial intelligence in manufacturing and intelligent manufacturing capacity. However, others are more general – 5G, IoT, Industrial Internet, advanced data centers, cloud computing, and communications and cloud service equipment.

These could be harnessed commercially in various ways – for intellectual property licensing, or to accelerate Foxconn’s recent moves to become a designer of technology, not just a manufacturer of it.

Those moves have included the launch of a tablet based on Nokia reference designs and a new partnership with cinema company RED to work on smaller, cheaper professional quality 8K cameras.

But Foxconn has also been attempting to take full control of some of the components it uses in its manufacturing, such as screens and memory chips, which would give it an enhanced position in the value chain and better control over supplies and margins. It acquired Sharp and attempted to buy Toshiba’s memory chip division last year; and it is building a $10bn display factory in the US.

Its new projects would give it a bigger play in advanced technology at the R&D stage and enhance its role still further. Foxconn said it will support the projects with bank loans if share proceeds aren’t sufficient. The company is looking for something more than assets to bolster its core business. It wants to be a technology powerhouse – hence why, a year ago, it invested US$600m to buy a 54.5% share of Softbank Asia Capital, the regional technology investment fund run by the Japanese operator.

Foxconn said at the time that the fund would blend “SoftBank’s investment expertise” with its own “leadership in advanced manufacturing and technology services” and global presence. It added: “The establishment of this joint venture is in line with Foxconn’s overall investment strategy and will enable the company to explore and tap new investment opportunities that will drive Foxconn’s sustainable business development.”

Foxconn is also an investor in the far larger investment vehicle, Vision Fund, set up by Softbank and its chairman Masayoshi Son, which has raised $93bn so far and, according to Softbank’s latest financial reports, has already deployed one-third of that capital.
Foxconn may not be in that league but it has been making bold moves itself, epitomized by the acquisition of Sharp, the largest overseas investment ever made in a Japanese company.