Could India Manufacture the iPad?

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Luxury tax introductions on tablets and smartphones will shift part of the telecommunications supply chain to India

Op-Ed Commentary: Chris Devonshire-Ellis

Apple_India_300x230pixJul. 24 – In light of the Indian government’s recent announcements that import duties on luxury items are to be introduced – covering high-end smartphones and tablets – manufacturing polices aimed at targeting the domestic Indian consumer are quickly changing.

Luxury tax surcharges on imported smartphones and tablets costing more than the equivalent of US$37 are to be introduced – raising the duty payable from 1 percent to 6 percent. Samsung has immediately commented, saying the move “won’t have a positive impact” on India’s mobile phone industry, and will force customers to pay more. But then again, Samsung would say that as it will mean investing millions into their existing production facility at Noida, which currently handles only small volumes. Apple meanwhile, has not commented on the new luxury tax, and they have no production facilities in India at all. They have not invested in the country save their own retail outlets.

The reason for the introduction of the luxury tax is that India now wishes to discourage the importation of foreign products that do not add to India’s FDI or domestic manufacturing position – in my view a fair enough stance to take. But coupled with that is the question over Indian manufacturing capabilities. Could Indian companies manufacture the iPad? Are the competencies and financial strengths there?

Thus far, such a question has been answered solely by mainland China, where the bulk of the iPad component parts are either manufactured or imported, and then assembled into the final product. From China, that finished piece of kit is then distributed globally. That the China supply chain model has been working well up to this point is beyond doubt – Apple sold just under 30 million iPads last year, with that trend continuing into 2013 – Q1 figures showed 19.5 million being sold globally. The iPhone has been showing similar impressive figures just shy of 50 million units sold around the world in 2012.

Apple, in fact, hasn’t been treating the India market as a priority – until recently. However, it is now seeing its Indian marketing efforts pay off since introducing its iTunes store in India and slashing prices on older models like the iPhone 4. Shipments to India rose to a record 254,000 in the last quarter, from 52,000 in the previous three months, according to data provided by the Massachusetts-based researcher IDC. That has made Apple’s executives stand up and take note that India is a serious consumer target. They are, however, rather behind the curve.

But let’s examine Apple’s China experience so far. Of Apple’s currently China-based component manufacturers, many are Taiwanese owned, a factor that enables the manufacturer to enjoy a high degree of familiarity with the mainland Chinese market, and certainly in terms of operating and managing their factories in China. These companies include Foxconn, Catcher Technology, Cheng Loong, Chi Mei Innolux, Dynapack International, Novatek Microelectrics, Riteng Computers, Simplo Technology, Quanta Computers and Wintek, while several other mainland Chinese companies are also in the supply chain mix, including Anjie Insultating Metals of Suzhou, Kunshan Changyun Electronics, Suzhou Panel Electrics, Tianjin Lishen Joint Stock Battery among others. A full list of Apple’s suppliers (and their responsibility agreements) can be found here.

Supply chains of this breadth and nature require a great deal of energy, investment and time to establish, and both Apple and its suppliers have conducted a tremendous job in developing this in order to cater for an IT-hungry and rapidly-growing global market demanding high technology at affordable prices. Part of the success in China is the latent discipline instilled in Chinese workers. It may be a side product of what is effectively a single party state with a strongly policed management structure in place, but it keeps Chinese citizens by and large in good behavior and permits the establishment of such reliable supply chain structures as a result. However, as Apple is now finding out – even that can be damaged by an errant law suit or increases in luxury taxes in huge emerging consumer markets.

It is a natural consequence of investing in emerging economies that things can and do go wrong; a degree of unreliability comes with the territory. But even as Apple seems to have ticked all the boxes, there will always be challenges to financial success from envious eyes. This in fact occurred last year with the Proview trademark case, a legal argument that somehow seemed uniquely Chinese in origin – some dubious dealings and claims, some shoddy legal protection work, and the lack of consistency in Chinese courts led to bans on iPad sales in China for several months. Proview was a pain, but one that cost Apple US$60 million to make disappear. The Indian legal system may be bureaucratic, yet it at least tends to have a semblance of consistency, while Indian MNCs are usually a bit more globally savvy than the likes of Proview.

That lesson identified a risk in Apple’s China supply chain – too much emphasis on sourcing component parts from Chinese factories run by Taiwanese businessmen. Although on one hand it makes sense to have done so thus far as the cultural capabilities of the Taiwanese to run operations in China are generally far superior to alternatives, it can also be pointed out that the cultural aspects and language (leaving the politics aside) are largely of the same stock, yet that strength has also become a weakness. In hindsight, clearly Apple would have be better off by spreading their supply chain further afield to minimize the China risk.

However the imposition of import taxes in vital markets such as India – where tablet sales are expected to double this year – means the previous China-centric business model will need to adapt.

It is of interest to note that hand-in-hand with the luxury tax imposition goes a sweetener. FDI into the telecommunications manufacturing industry in India has just been increased to the 100 percent equity ceiling, two crystal clear signs over the Indian government’s intent: Manufacture here, or lose your market share.

The China alterative is therefore going to become part of global supply chain development – the question of where else to establish a network to hedge against things either going wrong in China, or in terms of external tax pressures coming to bear.

In a case such as Apple’s, the obvious answer would be India. The nation is famously IT savvy, has a huge latent pool of workers, and is developing its own infrastructure to take advantage of their new labor demographic dividend. The average age of an Indian worker is 23 while in China it is 35, and this affects worker supply as well as salary expenses. However, Apple has not as yet made moves into India in terms of establishing a manufacturing hub and iPads in India are all imported and sold (just as in China) through official stores.

Apple stores will soon become as familiar a sight in India as they are in China. The Indian government liberalized the single brand retail market to 100 percent investment by foreign companies in December 2012, and foreign brands are rushing to get into a consumer market almost as large and dynamic as the one found in China. India’s middle class is roughly the same as China’s at about 250 million. Yet with luxury taxes increasing, even the single brand retail outlets may not be enough to meet domestic demand. In order to properly sell to India, that luxury tax will need to disappear – and that means domestic production.

India is a market that purchased US$31.5billion worth of imported electronic goods in the fiscal year 2012-2013. Not exactly something to be sniffed at, and supply chains will need to start manufacturing in India if they wish to continue to sell to this market. Finance Minister Chidambaram’s luxury tax is a push in that direction for MNCs like Apple.

In dealing with the supply chain dynamics in Apple’s case study, an obvious question to ask when assessing India as a hedge against China in this particular scenario is whether any of Apple’s China suppliers are already in lndia. Indeed they are – Foxconn has a facility in a special economic zone in Chennai. This could possibly be the start of an Apple cluster in India, in much the same way that both Apple and their Taiwanese suppliers have clustered together in China. However, they remain the odd man out in terms of Apple’s Taiwanese suppliers in India. In order for Apple to hedge against China and develop a supply chain there, it also needs companies in India to supply its components – and in quantities catering for a massive global demand.

In China, Foxconn’s factories employ up to 100,000 workers. Are there Indian companies in the same business that have these or similar mass production capabilities? It turns out there are: including Bharti (22,000 employees), HCL Technologies (83,000), Reliance Communications (28,000), TVS Electronics (30,000), Videocon Industries (5,000), and Wipro (137,000). And where are they? Chennai.

The other interesting point about Apple’s suppliers in China is that they are almost all listed companies. That is important as it demonstrates a high degree of business sustainability – important in a supply chain – and the ability to gain access to funds quickly. Obtaining a major contract from Apple may require immediate financing in order to upgrade and expand production facilities. The Indian companies mentioned above? The same. All are listed on the Bombay Stock Exchange and all are billion U.S. dollar turnover businesses in their own right. In the case of Reliance, the communications company, their global income reached US$296 billion in 2011.

Chennai, meanwhile, is India’s second largest port (after Mumbai) and is on India’s east coast alongside the Bay of Bengal across from Sri Lanka, Burma and Thailand, therefore facing the rest of Asia. Possessing some 26 berths, the port handled some 1.7 million TEUs in 2011, with capacity set to rise by an additional 60 percent by 2014.

The answer then to the question posed is this: Could Apple hedge against China by developing a supply chain in India? The answer appears to be yes, it could, providing that Apple can convince Indian suppliers to fund their own developments and cluster together. The Indians certainly appear to have the financial capability to do so. Quite when that hedge appears is probably just a matter of time, however it may not be long before a “made in India” mark appears on an iPad. Clearly, issues posed to global brands such as Apple by impositions of luxury taxes in fast growing markets and the realization that India intends to encourage FDI by abolishing previous equity ceilings are set to dictate that strategic moves to develop manufacturing plants and supply chains in India begin sooner rather than later.

In fact, it is already happening. Ford has just announced plans to develop their plant in Gujarat as a global manufacturing hub, with the first cars set to roll off the production line next year. These vehicles will be sold 50-50 on the domestic and export markets. Apple – and many other MNCs – have some catching up to do.

Chris Devonshire-Ellis is the Managing Partner for Dezan Shira & Associates in India. The firm provides foreign direct investment advice, including legal structuring and tax planning for foreign investors throughout India. Established in 1992, the practice has 17 offices throughout Asia. Please email the firm’s India offices at india@dezshira.com or visit www.dezshira.com.

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3 thoughts on “Could India Manufacture the iPad?

    John Broaders says:

    Fascinating case study Chris. Do you see the manner in which India has handled the Vodafone sale wrt tax obligations as a major concern for the likes of apple? You make the point above that the legal system is consistent ….. That could be consistently terrifying 🙂

    @John – The Vodafone case is being sorted, so that’s not going to be an issue moving forward. India is a democracy and complex tax cases like that had not previously been debated. You want a legal system that allows a fair discussion on the issue, India has that. So although it garnered a lot of media attention – after all it was a massive amount of money – no, I don’t see anything wrong with India’s legal system allowing both parties (Government vs. Vodafone) to argue their merits. That is what a democracy and independent judiciary do. The decision is in Vodafone’s favor, so what’s the issue – other than the fact it took litigation to force a result?
    Best wishes – Chris

    Subodh Saxena says:

    Interesting perspective. India has been trying hard to develop Foxconn like operations and Apple could facilitate it. There are entrepreneurs and skilled work force. Lethargy on the part of Government in creating infrastructure (ports, highways, power) and corruption scandals have impeded unleashing of the vast potential. It will be a blessing for India’s manufacturing sector if Apple like corporations decide to have their production here and oblige Government agencies to wake up and entrepreneur & work force to come together for win win game.

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