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Are Apple’s investments in PP&E extraordinary?

In his recent posts Horace took a look at Apple’s fixed assets and their development over the recent years. He also tested the hypotheses that Apple is making investments into machinery & equipment on which iOS devices are produced by overlaying iOS volumes with preceding changes in property, plant and equipment (PP&E).

The question that has arisen is: Are Apple’s investments in PP&E extraordinary?

To answer, I have compiled the capital expenditures (CapEx) for our previously established peer group [1].

But first we need to clarify what CapEx include and not include. CapEx includes investment into property, plants, equipment, office furniture, larger IT hardware and in some cases patents; CapEx do not include investment into long-term marketable securities or other long-term financial instruments, acquisitions or capitalized R&D. Furthermore, CapEx are gross values and are not net of any sold equipment [2]. CapEx are largely depending on a company’s business model and strategy. For example if you are a manufacturer you need equipment to operate, if you are a software company or a retailer, your business will not be capital intensive.

As the second calendar quarter of 2011 is the latest quarter for which all companies have reported figures, we will take a look at last twelve months’ (LTM) figures from Q2/2011 backwards. The following stacked bar chart shows the combined CapEx of our peer group:

 

The combined capital expenditures of our peer group for the LTM CQ2/2011 have outpaced even pre-crisis levels of investments and, combined, account for $34.7 billion. Samsung, a diversified manufacturer of IT hardware and other equipment, has invested more than $11.6bn with Google ($5.1bn), HP ($4.4bn) and Apple with $3.4bn following in line. While Google’s CapEx mostly account for its infrastructure of server farms and other IT hardware, HP’s CapEx mostly account for IT hardware it leases to its customers [3]. In absolute terms, Apple takes fourth place in CapEx spending for the last twelve months ending in CQ2.

Since the business model and sales magnitude varies largely in our peer group, we can also take a look at a common measure to compare CapEx intensity by dividing CapEx by sales achieved in the same period. For the last twelve months we can depict the following chart:

 

The average of the peer group accounts for 4.4% of CapEx over sales. Samsung’s and Google’s business model are clearly more capital intensive, while Apple’s CapEx ratio of 3.4% is below the peer group average but above some of its peers like Nokia, Dell, LG, HTC or Motorola Mobility. Interestingly, capital intensity of HP, Apple, Sony, Microsoft and Amazon is at a comparable level of around 3.4%.

As noted before, business models and strategies are significantly different among companies in our peer group. However, while Apple’s CapEx intensity is not extraordinary, Apple’s CapEx in absolute terms are among the largest in it this peer group and have grown constantly throughout a five year period.

Is this a good thing and why does it matter?

CapEx by itself does not tell us much. We still do not know in what companies specifically invest as financial regulations do not require detailed CapEx accounts. We know that even if a company is not growing assets they need to be maintained, upgraded and replaced – this spending is also called “Maintenance CapEx”. Everything else can be called “Expansion CapEx” associated with new product launches, entry to new business area or geographies or expansion of (manufacturing) capacity.

Therefore, Expansion CapEx is closely linked to expected organic sales growth in the future. So let’s go ahead and link CapEx ratio of the previous years with the sales growth of the following year. The following chart shows the cumulative average growth rate (CAGR) over the last four years versus the average of CapEx/sales ratio of the four last preceding years:

 

We can see that high CapEx efficiency has been achieved by Amazon, Apple and HTC with sales growth rates of 33-47%. RIM reached similar revenue growth but with higher CapEx intensity. Google and Samsung with high CapEx intensity have only reached modest growth rates. Dell, HP, Microsoft and Sony have not grown significantly but have close to average CapEx intensity.

We cannot state that CapEx in absolute terms have been extraordinary for Apple, but we can witness that with below average CapEx/sales ratio Apple outgrew in absolute terms Dell, LG, Microsoft, Nokia and Sony and has grown close to the revenue size of Samsung and HP in the last four years.

Notes:

  1. Excluding Lenovo (not reported) and Acer (extra-ordinary low numbers reported, to be investigated), Motorola Mobility figures only available for the last six quarters
  2. Minor differences may occur due to local Generally Accepted Accounting Principles (GAAP)
  3. HP assumes ownership of these assets and rents them to the customers who in turn have a smaller balance sheet and can run IT hardware CapEx through the income statement as lease expenses
  • Anonymous

    As I commented in the related thread, I think there’s a problem when trying to draw comparisons across different firms, even within the same business, because CapEx is so easily manipulated by means of leasing agreements.

    For a massive firm like Samsung there’s less motive for doing this, but smaller firms, such as perhaps Acer, may find it financially beneficial. Even for firms in Samsung’s class, property may be offloaded, HSBC famously sold their London headquarters and leased it, producing a negative capex of over a billion dollars, then a year later they bought it back.

    • http://twitter.com/disc1979 Dirk Schmidt

      I hoped to make that clear throughout the article.

  • http://teapartynews.us David H Dennis

    It seems unfair to compare Samsung with Apple, since Samsung is in extremely capital intensive industries such as shipbuilding, appliance manufacturer, etc. On the other hand, Apple’s capital investment rates are pretty high compared to other makers of cellphones.

    Why is Google so capital intensive? They don’t make anything, and a lot of companies have huge server farms.

    D

    • http://www.asymco.com Horace Dediu

      Regarding Google, it turns out search and web services in general are capital intensive and Google probably has an order of magnitude more servers than any other company.

    • Anonymous

      Regarding Samsung, I believe that those are just the capex for Samsung Electronics. Heavy industry, retail etc are reported completely separately.

      Of course even just the Electronics division has some very capex heavy businesses.

    • Anonymous

      Computers are also capital intensive. Apple just makes it look easy, but it is not easy.

  • Neil Kost

    Apple showing growth directly due to the iCloud strategy, requiring huge, new server farm in North Carolina. Otherwise, large majority of their PPE is in office buildings to house their ever-growing staff. I assume their retail ops are all leased, so that PPE would not show up on its BS.

  • Bill

    I find this post quite muddled in two areas. First of all, the “headline” question is a good one, “Are Apple’s investments in PP&E extraordinary?” According to the data, the answer is clear: No. (A bit more than Sony, $1b less than HP. Much less as a % of sales.) So why don’t you say this? Horace, don’t you want to add that your Samsung v Apple capex soundbite wasn’t exactly correct?

    The second area is more picayune. Please be careful about interchanging the concept of “capital intensity” and “CapEx intensity.” You rightly point out that not all capex is the same and the headline focus on PP&E is correct, but statements like “if you are a software company or a retailer, your business will not be capital intensive” are not true. Amortized R&D, marketing expenses, etc need cash. Working capital is still capital. Insurance companies, with very little capex, are very capital intensive (mainly for reserves, but that is another topic).

    • Anonymous

      Marketing is not a capital expenditure, R&D is not a capital expenditure, software businesses may require significant investment – but they do not necessarily have significant capital on their books, and thus are not capital intensive.

      • http://twitter.com/disc1979 Dirk Schmidt

        I think Eduardo answered hopefully already most of your concerns.

        Here is a link to Wikipedia regarding capital intensive industries and capital intensity: http://en.wikipedia.org/wiki/Capital_intensity. Capital intensity refers to fixed asset base, not cost structure or current assets. Cash is needed for all of them, but when you need to spend a lot of cash on fixed assets its called capital intensive. Therefore the link between CapEx intensity (spending on fixed investments) and capital intensity (accumulated fixed investment) is given.

        I also pointed out the capitalized R&D is not included in CapEx.

    • http://www.asymco.com Horace Dediu

      This was written by Dirk.

      Capital intensity is used correctly in the post. Capital goods are a class of assets and capital intensity refers to how much capital is tied up in such assets. Apple’s CapEx is extraordinary because a business model where it outsources manufacturing is not considered to be capital intensive.

      See definition of capital-intensive industry here: http://en.wikipedia.org/wiki/Capital_intensity

      “Capital-intensive industries use a large portion of capital to buy expensive machines, compared to their labor costs. The term came about in the mid- to late-nineteenth-century as factories such as steel or iron sprung up around the newly industrialized world. With the added expense of machinery, there was greater financial risk … Some businesses commonly thought to be capital-intensive are railways, airlines, oil production and refining, telecommunications, mining, chemical plants, electric power plants, etc.”

      • Brooke Callahan

        Perhaps the two of you could serve as each other’s editor. ;-)

  • Anonymous

    Not as extraordinary as Google’s capx considering that Google as substantially lower revenue, no retail, and is not in the manufacturing business.

    • http://twitter.com/disc1979 Dirk Schmidt

      Bigger is not necessarily better. I was aiming at the quality of CapEx with the last chart.

  • Jeff Silverman

    Horace;
    I am a regular reader and listener at 5by5 and have never posted. There are a few observations I would like to make:
    a) When looking at the iPhone 3gs- apple does not sell this at all carriers and this has to be because of compatibility however – this means they lose out on the benefits of the free (with plan) tier of customers at the carriers that do not sell it- this seems lacking
    b) The course that Apple took with the iPad seems to indicate that they were shocked by its success; they abounded the “form factor” very early on- seems they did not want to invest more in factory related equipment to make more (hence the supply constraint until the iPad 2 came)- also they did not follow course by leaving the first iPad on the market at a lower price
    c) When you talk of ramp up to new product- it is important to keep in mind that as older form factors are still in place not all the volume on iPhone sales is for the new form factor- nor will it be in the future (perhaps the same could be case for iPad some day as well)

    thanks for being there- very interesting

    • Anonymous

      Hmm, this is all pretty known stuff

      a) Only a handful of carriers to my knowledge have iPhone and not the iPhone 3GS. That would be Sprint, Verizon perhaps China Unicom. The problem will resolve itself when the iPhone 4 becomes the lowest tier model – probably 2012.

      b) The iPad-2 launched with significant component constraints, specifically the display module which it shared with the iPad-1. LG suffered from serious light leakage with a high proportion of modules. As such it would be have been counterproductive for Apple to keep making the iPad-1. Besides the iPad is an unsubsidized product and so the model is more like the iPod or the Mac lines, where Apple completely replaces each generation.

      c) We know that Apple sold more iPhone-4s than 3GS, 3Gs and originals combined. This has been the case for each model. We also know that new models rapidly come to dominate from the ASP.

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