October 20, 2010
Intel announced today that it will invest $6-8 billion in the U.S. to build a new plant in Oregon and to improve existing manufacturing facilities. (See WSJ 10/19/10). This investment will give them the capability to produce chips with 22 nanometer circuits, whereas the previous wave of investments gave it 32 nanometer capability. (A nanometer is one billionth of a meter – a couple of billion dollars to produce lines that are a billionth of a meter wide!)
The interesting part of this story is that Intel is sticking with U.S. production. The potential allure of overseas production is not from the typical “cheap labor” issue, but rather because foreign governments are willing to hand out considerable subsidies for building a chip plant in their territory. Intel estimates that the potential subsidies are equivalent to $1 billion, a considerable portion of the cost to build the plant.
So why is Intel sticking with the U.S.? Unlike apparel, they are not concerned about “made in America” – they will gain no premium in the market for made in America. Unlike autos, their product is not expensive to move around the world, so local production to avoid higher transportation costs is not a concern. Nor is there a concern about tariffs or labor unions.
The issue is production yield – when you first start making chips, some of them, maybe even most of them, don’t work. The trick to make an investment in capacity pay off is to improve yields as fast as possible. And yields don’t improve because of better equipment, but rather because the equipment is used more effectively – engineers and line workers need to find out what particular recipe generates the best yield. Thus, improving yields requires intelligent experimentation, i.e., a skilled workforce. It follows that Intel must believe that a U.S. workforce can improve yields faster than an overseas workforce, fast enough to justify the additional $1 billion in cost. It will be interesting to see how long that U.S. advantage can last.
October 19, 2010
Apple just announced some impressive profit numbers: it’s first quarter with $20 billion in revenue and profits that exceed those of IBM, HP and Intel. Only Microsoft had higher profit, but not a higher market capitalization. The following graphic comes from the WSJ 10/19/2010:
The focus in the popular press on Apple’s success has been on how the consumer market loves their products and technology. For example, the WSJ article discusses how Apple’s bet on the consumer market has paid off relative to IBM’s focus on the business market. I agree that Apple has been remarkable at design. But to me, they don’ t get enough credit for how well they execute.
Consider the iPad. It went on sale April of 2010. We have sales numbers from the first two quarters – by the end of Q2 (Jun 26) they sold 3.3 million and in Q3 (ended Sep 26) they sold 4.2 million. That is 7.5 million units in the first 6 months of selling a product. The fact that they sold that many units means that they were able to produce that many units, which is the amazing untold story.
How many iPads might they be able to sell in Q4 of this year. Let’s look at the sales history of the iPod. Notice that they sold about 2.5 times as many iPods in Q4s as they did in the previous Q3. That means that Apple is on track to be able to sell about 10-11 million iPads in Q4. How can they ramp up the necessary capacity to make all of them? They don’t talk about their capacity management strategy, but I suspect the following are the keys to their strategy. First, they must be tracking sales weekly if not daily and making updated forecasts and comparing them to previous sales trajectories, like those of the iPod. Second, they have outsourced production to a flexible firm who can switch labor from other products to the iPad if necessary. Third, either they are securing component supplies or their supplier (Foxconn) is securing component supplies – you cannot assemble a product if you don’t have the components. Fourth, the iPad must be made with components that are either standard (hence there is lots of available capacity in the market) or easy to make (in the sense that the yields are high and stable already). On the last point, if the iPad were made with a component that is unusual or hard to make, Apple simply would not be able to ramp up production as quickly as they seem to be able to do.
Apple executes so well that they make it look simple. But it is a mistake to assume it so simple. To relate this to baseball, Mariano Rivera (the closer for the Yankees, i.e., the pitcher that comes in very late in the game with the job of defending a small lead) has two pitches that he throws with deceptive ease. It might be tempting to conclude that there should be many pitchers that could throw Mariano’s two pitch combo. Many can, but none have thrown them as successfully as Mariano. Quality execution is often underrated.
October 8, 2010
The annual flu season provides many interesting lessons and observations for operations management. It was reported today in the WSJ (10/8/2010) that Novartis has teamed up with Synthetic Genomics to develop a process that will allow them to reduce the lead time to produce flu vaccines. The traditional process takes about 6 months from the time the WHO identifies the flu strains for the coming season to the time the flu vaccine hits the market. “If Novartis’s venture is successful, the time savings would be dramatic, analysts say”.
The idea behind the new technology is to do some pre-processing. Novartis will “develop a bank of synthetically constructed seed viruses ready to go into production as soon as the WHO identifies the flu strains”. In short, they will artificially create a bunch of potential viruses in the hope that one of them will turn out to be the useful one for production.
What will this extra time give them? The biggest advantage seems to be additional capacity. If a facility can make X doses per week, then adding 4 weeks to the schedule means 4x more doses for the season, pretty much with the same overhead as before.
It is also important to note what this doesn’t give them – they still face forecast uncertainty and this extra time doesn’t seem to help them on that dimension. Nevertheless, the extra capacity lowers the cost to produce each dose, which makes forecast uncertainty less costly (the lower the cost, holding the selling price fixed, the less costly are demand/supply mismatches on a per unit basis).