Hon Hai Precision Industry Co., Ltd. (hereinafter referred to as "Hon Hai"), the "King of OEM", has started its "buy, buy, buy" transformation under the increasingly meager foundry profits.

The situation is still getting worse. In the second fiscal quarter of this year, iPhone sales fell for the first time since its launch. As the largest iPhone OEM, perhaps no one feels the anxiety caused by declining iPhone sales to suppliers more than Hon Hai. Apple contributes about half of Hon Hai’s revenue. In the first seven months of this year, Hon Hai experienced negative revenue growth in five months.

Anxiety doesn’t just come from Apple. This year, global smartphone shipments ended rapid growth and entered a period of micro-growth, which directly led to a sharp decline in revenue and profits in the first half of the first half of Hon Hai's FIH Group Co., Ltd., which is responsible for OEM Android mobile phones, with profits falling by more than 80%.

Relying on successive OEM contracts for mobile phone giants such as Nokia and Apple, Hon Hai has become a giant in the OEM industry. However, the decline in the performance of its major customer Apple, as well as the sluggish growth of the smartphone industry and meager profits in the OEM industry, are like several mountains weighing on Hon Hai's head. Under internal and external troubles, Hon Hai has frequently started the "buy, buy, buy" model in the past six months, implemented countermeasures, and tried to transform from a low-end assembly OEM to a front-end brand.

Source of anxiety

Except for Apple, no one hopes more than Taiwan’s Hon Hai Group that the newly released iPhone 7 will be a hit.

At the moment, Hon Hai and Apple look like grasshoppers on a rope, both prospering and losing. Foxconn Technology Group (hereinafter referred to as Foxconn), a subsidiary of Hon Hai, is famous for its OEM iPhone. Foxconn accounts for 7 of Apple's 18 assembly manufacturers.

IDC analyst Gao Hongxiang told a reporter from the Economic Observer that about 70% of Apple’s iPhones are manufactured by Hon Hai, and about 65% of iPads are also manufactured by Hon Hai. The iPhone is Apple's largest source of revenue. Data shows that it contributed more than two-thirds of Apple's revenue in fiscal year 2015.

But things have not been easy for Apple this year. In the first fiscal quarter of this year, iPhone sales growth stagnated year-on-year, and revenue increased by only 1% compared with the same period last year. In the second and third fiscal quarters, Apple's revenue fell by an average of 15.5% year-on-year. The decline in iPhone sales was an important factor leading to the decline in Apple's revenue.

This is Apple's first revenue decline since 2003, and iPhone sales have declined for the first time since its launch. Although Apple has not announced the sales volume of each iPhone model, it is generally believed that the sales of iPhone 6s are not as good as expected. Some media reported that Apple has reduced the production of iPhone 6s and iPhone 6s Plus in the first quarter of this year, which may be reduced by about 30% from the original plan.

The chain reaction of this is that as one of the main OEMs for Apple's iPhone 6s and iPhone 6s Plus, employees at Foxconn in Zhengzhou, Henan Province encountered the embarrassment of "no overtime" on the eve of the Spring Festival this year. At this time in previous years, even going home for the Spring Festival was a luxury. At that time, even Zhengzhou, Henan ProvinceThe local government issued an announcement and distributed a total of about 80 million yuan in unemployment insurance and job stabilization subsidies to five companies owned by Foxconn.

As Apple’s largest OEM, Hon Hai’s performance has also plummeted. In the first seven months of this year, Hon Hai's revenue experienced negative year-on-year growth in five months, and the two months of positive growth did not exceed 0.5%.

Not just Apple, but the entire smartphone industry is feeling the pain of weak growth. According to IDC data, global smartphone shipments increased by only 0.2% and 0.3% in the first and second quarters of the first half of this year.

Fuzhikang, a Hong Kong-listed company owned by Hon Hai, is mainly responsible for OEM of Android mobile phones. Xiaomi, Huawei and Sony are among its customers. In the first half of this year, FIH's revenue was US$2.307 billion, a year-on-year decrease of 39.8%. The main reason was that the market share of major customers dropped sharply this year, so they cut outsourcing business and reduced demand.

Wang Yanhui, secretary-general of the China Mobile Phone Alliance, told the Economic Observer that on the one hand, the smartphone market is gradually becoming saturated, and on the other hand, smartphone innovation has reached a certain bottleneck period. It is difficult for mobile phone manufacturers to make breakthroughs in innovation, so consumers will not react particularly strongly.

When both suppliers and mobile phone manufacturers are facing performance pressure, Apple, the "source of performance", puts strong pressure on its supply chain manufacturers. On the eve of the release of the iPhone 7, Taiwanese news claimed that Apple asked Taiwan's downstream parts suppliers to lower their quotations by about 20% to a price similar to that of mainland suppliers. This was resisted by Taiwanese manufacturers such as ASE Semiconductor Manufacturing Co., Ltd. and a subsidiary of Hon Hai, claiming that they would not accept Apple orders without reasonable profits. The stalemate is still ongoing.

The rising labor costs in mainland China are also a problem that Foxconn cannot avoid. Finding low labor costs has been Foxconn’s consistent goal in building factories. Foxconn’s factory in Shenzhen was built in the late 1980s. At that time, Shenzhen’s land and labor resources were very cheap. But now these advantages are gradually disappearing. These problems have led to its OEM profits becoming increasingly meager.

For OEM companies like Hon Hai, costs must be strictly controlled. Market research company IHS once conducted a disassembly analysis of the iPhone 6, saying that Foxconn can only earn an OEM profit of US$4 to US$4.5 per iPhone6 ​​phone, which is equivalent to about 25 yuan in RMB. Last year’s financial report of Hon Hai Group showed that Hon Hai’s gross profit margin was approximately 5.8%.

Under heavy pressure, Hon Hai chose to acquire some once-glorious old technology companies, such as Japan's Sharp, and move from the downstream assembly foundry in the supply chain to the upstream supply of core components; for example, by acquiring Nokia, it may use its brand to gain a "piece of the pie" in the feature phone and low-end smartphone markets.

"Buy Buy Buy" layout

In August this year, Hon Hai’s acquisition of Sharp passed the review of the Ministry of Commerce of China. Hon Hai injected 388.8 billion yen (approximately 25.3 billion yuan) to acquire 66% of Sharp’s equity. Sharp became a subsidiary of Hon Hai, and the dust settled.

Sharp has relatively advanced technology in LCD screens and is known as the "Father of LCD" in the industry. It is generally believed that on the 10th anniversary of the iPhone next year, Apple will adopt an OLED screen for the 2017 iPhone, and the display is the most core component of the smartphone.One, occupying an important position in the supply chain.

Currently, Samsung occupies an oligarchic position in the OLED panel market. According to UBI Research, a Korean market consulting company, in the first quarter of this year, Samsung’s OLED screen shipments accounted for 95% of global OLED screen shipments. And Hon Hai seems determined to get a "piece of the pie" - Dai Zhengwu, the new president of Sharp and vice president of Hon Hai, said that of the 388.8 billion yen invested in Hon Hai, 200 billion yen will be used for the research and development of OLED screens. Dai Zhengwu also hopes to cooperate with Japan Display (JDI) to jointly develop products and form alliances to fight against Korean companies that currently have an advantage in the OLED industry.

Gao Hongxiang said that if Hon Hai can achieve mass production of OLED screens next year through Sharp's OLED screen technology, it may become Apple's second supplier of OLED screens, which is also in line with Apple's dual supplier strategy for the same components.

If Hon Hai can become a supplier of Apple's OLED screens, then Hon Hai's status in the supply chain and profits will be improved.

In May, FIH acquired Nokia's feature phone business from Microsoft for US$350 million. Dong Wenxin, chairman of FTZ, said that the Nokia brand is expected to account for 25% to 33% of the global feature phone market. There is still a huge demand for feature phones in the European market and markets such as the Middle East, Africa, Southeast Asia and India.

Sun Yanbiao, president of the First Mobile Phone Research Institute, told the Economic Observer that Nokia was once a major customer of Hon Hai Group. Nokia was the major contributor to Hon Hai’s ability to become a global OEM giant. The acquisition of the Nokia brand may have certain complex factors.

With this acquisition, Hon Hai also obtained from Microsoft a manufacturing plant located in Bac Ninh, Vietnam, which will also increase Hon Hai's production capacity and make Vietnam's labor cheaper. Gao Hongxiang believes that Nokia still has a high market share in the feature phone market, and the feature phone business does not conflict with the smartphone business of Hon Hai's main customers. In addition, it can increase production capacity, and this "move" is worthwhile for Hon Hai.

Dong Wenxin said that after the licensing contract between Microsoft and Nokia expires in October next year, Hon Hai will enter the design, manufacturing and production of smartphones. Nokia is an important strategy for Hon Hai to extend the value chain from hardware manufacturing to design, sales and services. Wang Yanhui believes that whether it is acquiring Sharp or Nokia, it shows Hon Hai's awareness of moving from low-end assembly OEM to front-end brand.

"But it is impossible for Nokia to regain its past glory," Sun Yanbiao believes. Drawing on TCL Communication's experience in operating mid-to-low-end brand mobile phones Alcatel, it is more feasible for Hon Hai to make some profits by using Nokia's brand to make mid-to-low-end mobile phones based on its own manufacturing industry chain. However, if it wants to go high-end, it lacks feasibility from the perspective of mobile phone product innovation and Hon Hai's experience in operating mobile phone brands.

Looking for cheaper labor resources is also Foxconn’s consistent strategy.

China's once low manufacturing costs are gradually losing its advantage. According to "The Great Economic Shift in Global Manufacturing" released by the Boston Consulting Group in 2015, due to the rise in wages of Chinese workers, the appreciation of the RMB exchange rate and the increase in China's energy costs, the cost of China's manufacturing industry is only 4% lower than that of the United States, while that of India is 13% lower.

Perhaps for this reason, FIH's financial report for the first half of this year showed that FIH's new factory in Maharashtra, India, will begin operations in the second half of 2016, and Foxconn's total future investment in the factory will reach US$5 billion. Terry Gou, chairman of Hon Hai Group, also said that he will continue to seek other opportunities to build factories in India.