iPhone: “Made in China -> India?”

I always try to live by the framework of “strong opinion, weakly held”. That’s how I treat all my thoughts shared on Interconnected. I write, not just to share what I know, but also to learn from others, absorb new information, and update my thinking.

Back in March, during the height of the coronavirus pandemic, I wrote a piece called “Is Leaving the China Supply Chain a Pipe Dream?”, where I shared my skepticism of how quickly and how much Apple’s manufacturing would “decouple” away from China to India. It looks like that shift is happening faster than I’d thought, with the newest iPhone 12 possibly being assembled in India as early as 2021.

Time to update my thinking, dig into what’s driving this shift, and what I missed from before.

Taiwan

While geopolitical narratives have always influenced the conversation around supply chain decoupling, they are usually in the context of the so-called “major-country” relations between the US and China. One element that has always been important, but hasn’t been prominent until recently is Taiwan.

I have written quite a few posts about Taiwan’s dominance and strategic importance in the semiconductor industry, almost becoming the global single point of dependence. What I failed to realize is how important Taiwan is in Apple’s supply chain, and how that is being impacted by the recent deterioration of the triangle “romance” between China, the US, and Taiwan.

Although it’s well known that the bulk of Apple’s manufacturing is in China, the companies who run those manufacturing plants are mainly Taiwanese -- Foxconn, Pegatron, Wistron. When geopolitical relationships are stable (not necessarily good, just stable), manufacturing in China as a Taiwanese outfit to supply American tech companies, is straightforward enough. However, stability is no longer the default when it comes to Taiwan.

Just in the last few months, a US cabinet secretary conducted an official visit to Taiwan (the highest level visit in four decades), President Trump submitted proposals to sell advanced weapons to Taiwan ($1.8 billion of which was just approved), and DC’s policymaking circle is openly talking about updating the US’s position on Taiwan from “strategic ambiguity” to “strategic clarity” (“clarity” here means if China attacks Taiwan, the US will definitely intervene, as opposed to an angry face and shrug emoji).

Also in the last few months, Foxconn announced a $1 billion USD investment in expanding its factory capacity in southern India. Pegatron registered its own Indian subsidiary a few days after Foxconn’s announcement. Wistron, which already began assembling lower-end iPhones in 2017, plans to hire 10,000 more Indian employees to make iPhone 12.

Of course, there are business motivations to make these investments too, which we will discuss later. Taiwan’s geopolitical significance is just one of many factors at play. As I wrote in the most recent Interconnected Weekly issue, “we shouldn’t over-apply geopolitics to explain everything.”

But with geopolitics in flux everywhere, and especially between the US and China, no one really knows what the rules of the game are anymore. For these giant Taiwanese manufacturing companies, some geographical diversity and redundancy away from China to India seems prudent.

A New Tariff World

The worldwide erection of tariffs has been underway for the last four years, between US-China, US-EU, US-Canada, etc. The impact of these tariffs on things like farm goods are straightforward, but more convoluted when it comes to consumer electronics, with components and assemblies from a variety of regions.

What I failed to think deeply about before was that even in a tariff-filled world, it’s not necessary to make wholesale shifts away from China to circumvent them to keep a product’s cost low. If you know which batch of products are being sold to a tariff country, just shift the manufacturing of those products to a non-tariff country!

A crude, hypothetical example: if iPhone 12’s with serial numbers 1, 2, and 3 are ordered by American customers, make sure *those* iPhones are made and assembled outside of China.

(This example obviously does not apply to current conditions, because Tim Cook has been deft at maneuvering the Trump administration to make sure Apple products are exempt from the latest presidential tariff temper tantrum, but you can extrapolate this to all other electronics with a heavy supply chain reliance on China.)

So far, the beneficiaries of these “partial decouplings” are Mexico, Vietnam, and of course India. The benefactors are not just American companies, but any company (Chinese, South Korean, Finnish, pick your favorite country) that seeks to avoid tariffs when selling their products to either the US, China, the EU, or any country with a tariff problem.

Now, there are legitimate concerns about how these middle-income countries can rise to the occasion. The overall manufacturing quality, support infrastructure, density of component suppliers, and labor cost versus skills tradeoffs (comparable Indian workers cost about 75% less than their Chinese counterparts) are all poor compared to China. There are other hard constraints like availability of land to build more factories, as well as local government regulations. China’s powerhouse status as the world’s manufacturer did not materialize overnight, thus it will take many years for any country to develop into a full-fledged alternative.

However, this move doesn’t need to be wholesale, but just enough to offset the impact of tariffs on cost while maintaining product quality -- a complex dance that more and more electronic brands and their contract manufacturers will have to figure out. I think that’s partly what’s driving Apple’s manufacturing shift to India, as well as circumventing India’s own tariffs in order to grow in its domestic market (more on that in the next section).

As this graphic by Reuters shows, Apple’s slow, methodical manufacturing shift has been happening for the last five years:

If these tariffs are here to stay, regardless of who wins the American presidency, I see a “balkanization of the supply chain”, where manufacturing capacities are replicated in certain countries that can both circumvent export tariffs and have a large enough domestic market to sell to, in order to make the redundancy worthwhile.

India most definitely has a large enough domestic market.

India: Apple’s Next Story

The final piece of Apple’s shift to India is to position the country as its next growth story. Currently, Apple’s smartphone market share there barely registers; close to 90% of the market is split up between Xiaomi, Samsung, Vivo, Oppo, and other players.

But if we dig into the footnotes, there’s more optimism for Apple. In the “ultra-premium” segment (defined as phones that cost ~$600 USD), Apple has a 55% market share. It also grew 78% year-over-year (albeit from a tiny base), driven by strong shipments of the iPhone 11. This growth will only continue, as Foxconn begins assembling iPhone 11’s in India and Wistron prepares to assemble iPhone 12’s next year, all of which will remove the 22% in import duty imposed by the Indian government. This means more affordable new iPhones, not just the cheaper ones, for India’s humongous consumer market that is bound to get richer over time.

With its main markets -- the US, EU, China -- all fully matured or declining slightly, India has to be Apple’s next growth story. And Apple has the cash and patience for India to grow. Even though the country has been on a growth trajectory for decades, its GDP per capita is still roughly half of China’s.

Not only will personal income have to increase, India’s government and institutions will also have to mature. Despite being the world’s largest democracy, India is laden with corruption and lacks strong campaign finance regulations (no one ever said democracies can’t be corrupt). On Transparency International’s Corruption Perceptions Index, India is ranked 80 out of 180 countries with a score of 40 out of 100 (coincidentally the same score as China’s).

The Ministry of Electronics and Information Technology’s production linked incentive (PLI) plan is an interesting way to localize production and boost income growth. How it works (simplistically explained) is an incentive of up to 6% on all incremental sales of all electronics priced at Rs 15,000 (~$200 USD) or more. An iPhone would certainly qualify. Coupled with its strong, nationalistic “Make in India” initiative, not unlike “Made in China 2025”, I believe India’s manufacturing capabilities will improve to handle more iPhones and other high-end consumer electronics.

How fast India can get there will depend on its officials staying true to the mission with integrity and not being seduced by the largess and power of top-down government programs -- and more than a few clever tweets from a Minister.

I’m optimistic of India’s future, not in place of China, but in addition to China. On a 10 year horizon, if you are bullish on Apple, then you have to be bullish on India. And if you are bullish on India, then you have to be bullish on Apple.

Apple’s $2 trillion dollar market cap will only be the tip of the iceberg.

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