An iPhone generates approximately $650 in revenue for Apple. This figure has remained fairly steady over time. Using deduction from overall margins, it’s possible to estimate the gross margin on the product to be around 55%.
That means that the cost of goods sold (COGS) for the iPhone is about $293. Is that a lot? Where does that money go? What else does it tell us about how the company operates?
To find out we need to understand the cost structure of phone building.
Typically there are four main categories of costs for a phone:
- Bill of materials (BOM). This represents the cost of the components that go into the device. These are paid to suppliers.
- Transportation/warehousing. This is the cost to transport and store the product before sale. This is paid to shipping companies and warehousing.
- Manufacturing cost (including labor). This is paid to contract manufacturers.
- Warranty expense. This is paid back to customers for returned product that can no longer be sold.
We can estimate a device’s BOM through a teardown analysis and there are firms that do this. Usually this offers enough competitive insight into the cost structure and hence gross margin because the other items are predictable in that they do not vary greatly from product to product.
In the case of the iPhone the BOM has been fairly steady around $200 for a new model. That leaves quite a big gap to the overall COGS of $293.
Could transportation, manufacturing and warranty costs really add up to $90 for an iPhone?
The manufacturing costs are not usually discussed in detail openly because the processes used are secret. However, thanks to and ABC Nightline report, some clues have emerged about how iPhones are built and, although incomplete, they offer some interesting bounds.
One data point recently published is that the iPhone takes 24 hours to be built. Of that 6 to 8 hours is spent in “burn-in” to install and test the software and components automatically. This leaves about 17 hours unaccounted for in the throughput time. Could this time be spent in labor intensive operations? In the ABC report the wage of workers on the line is given as $1.78/hr. 17 hours of labor input would imply $30 labor cost per iPhone. That seems a lot higher than the industry (i.e. iSupply’s estimate is $8 for manufacturing cost.) This is an upper bound. Obviously, those 17 hours could be spent in automated operations which were not shown or simply sitting idle, waiting for a process to begin.
Is there another way we can check this?
There is. The ABC report also mentioned that there were 141 (presumably labor) work steps in the production for an iPhone. If we knew the time each step took we could obtain another estimate. For example, if each step in the human assembly process took 3 minutes then human hands will touch the iPhone for 423 minutes or about 7 hours. This would imply a labor cost for an iPhone of about $12.5. If each step was longer or shorter, the cost would vary accordingly.
Unfortunately we can’t be sure of the exact cost. However, these recent clues offer some interesting bounds and observations:
- Manufacturing costs for the iPhone are likely to be much higher than comparable devices. This is partly because of the design of the product and partly because of the quality testing needed.
- Those costs are likely to range between $12.5 and $30 per unit.
- The iPhone manufacturing costs are likely to be twice or three times the average.
- Labor costs are still a small part of the overall cost structure at between 2% and 5% of sales price.
- The high level (141 steps) of human interaction in the process could be automated however, the fact that it isn’t implies that the cost of automation would be higher and the flexibility of the automated process would be lower. It’s much more likely that the process is a mixture of labor and robot intensive sub-processes.
- Even if we assume a $30 manufacturing cost, there is still $60 that needs to be allocated to transportation and warranty expense. These require sanity checks as well.
- Note that R&D (engineering and development) and Sales, General and Administrative (e.g. Marketing) costs are not part of this cost structure. They are considered fixed costs and are not allocated to individual units of production.
- Note that during the ABC video there was mention of automated instructions being broadcast to the line. This implies that each worker is working on a “clock cycle” and each work stage is timed to take an equal amount of time. This clock cycle time is crucial in understanding the cost structure. One further clue to this cycle time comes from the iPad output rate per worker. This was mentioned in the slide show to be up to 6,000 units per day. Assuming 10 hours of working time per day means 600 units per hour or 10 per minute. This seems extremely high as the worker would have to handle the product for only six seconds. [UPDATE: Apple clarified this point: "In manufacturing parlance this is called deburring. Her line processes 3,000 units per shift, with two shifts per day for a total of 6,000. A single operator at Ms. Zhou’s station would deburr 3,000 iPads in a shift"]
- As this post shows the amount of information that can be obtained from observing operations can be significant and lead to competitor advantage. It should be clear why this is not something done willingly.
- UPDATE: In a statement Foxconn clarified wages as “We have over 75 percent of the employees in the category of earning at least 2,200 RMB ($349/month) basic compensation standard. That means they are earning 13.75 RMB ($2.18) per hour”.