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Secret microLED laboratories, R & D on Apple and the future of product margins

Over the weekend, Mark Gurman of Bloomberg reported that Apple has apparently built a microLED display lab in California to test and manufacture small batches of next-generation screen technology, presumably for his iPhone and other devices. Apple had previously acquired the microLED startup LuxVue in 2014.

The news of a secret research lab fits into a broader narrative about Apple's deeper and more expensive focus on research and development. Neil Cybart of Above Avalon, an Apple-based subscriber's blog, noted that Apple "is about to spend $ 14 billion on R & D in 2018, nearly double the amount spent on R & D four years ago ". The amount of R & D expenditures that Apple will spend during the 2018 fiscal year will be greater than the amount spent by Apple in R & D from 1998 to 2011. "

These are incredible numbers for any business, but the scale of R & D production, even for Apple, is exceptional. More so, Apple's R & D spending as a percentage of revenue has been steadily increasing in recent years and is expected to reach a record 5.3% this year despite higher incomes, according to Cybart.

This percentage of revenue can be high for Apple, but it is remarkably low compared to its peers in the technology industry. Other companies like Google and Facebook are spending more than doubling and sometimes tripling the percentage of Apple's revenue in R & D. Part of that reason is the business figure and the size of the company. Apple, which allow Apple to amortize R & D on revenue higher than those of its competitors.

The most interesting observation is that Apple has always avoided having to do the kind of expensive R & D work involved in areas such as chip design and manufacturing. # 39; screens. Instead, the company has traditionally focused on the development and integration of products, areas that are certainly not expensive, but are less expensive than marketing. 39, a new LCD technology.

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Apple does not produce wireless modems or power management systems for its phones, but uses business components like Qualcomm, as in the iPhone X. Even the features the most popular ones like the iPhone X are not designed by Apple. instead are designed and manufactured by others, which in the case of the screen was Samsung Display. The added value of Apple included the display in the phone (this screen without edge) as well as the writing of the software that calibrated the color of the screen and guaranteed its exceptional quality.

For years, this model of R & D focused on integration has been win-win for Apple. The company can use the best technology available at low prices because of its bargaining power. In addition, the R & D costs of these components can be depreciated not only on iPhones, but also on all other devices using the technology. This means that Apple puts its resources behind the development of high value products and could maintain some of the best margins in the hardware industry by avoiding some of the more expensive research areas required for its products.

This model of R & D has changed after the purchase of P.A by Apple. Semi almost exactly a decade ago for $ 278 million. Apple has gone from a product development-driven R & D strategy to increasingly owning the key hardware components of its devices. No place is more visible than in the heart of the treatment center of the iPhone. The A11 Bionic processor from the iPhone X, for example, is entirely designed by Apple and manufactured by TSMC.

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Indeed, the processor is an obvious place to start vertical integration, because it provides much of the other features of the device and also has a great influence on the battery life . The FaceID feature, for example, is powered by a "neural engine" component of the A11 chip.

There is a direct line between creating differentiated features that consumers recognize and are willing to shell out for a premium price, and building custom types of components that Apple has avoided in the past. The display is obviously a critical point of differentiation, and so it should not be surprising that Apple wants more and more to bring this technology to the internals so that it can better compete with Samsung .

Okay, Apple is spending more on R & D to increase differentiation – it sounds good. Indeed, a narrative of these expenses is that Apple invests from a position of strength. Through its strength of will, it has become one of the most important companies in the world and it dominates many markets on which it is in competition, including smartphones. He has incredible brand loyalty with millions of customers, and he sees an opportunity to develop new categories of devices like the automobile in order to continue to grow and own more markets. In other words, it expands R & D to propel growth.

The most negative view is that Apple is struggling to maintain its hold on a shrinking smartphone industry, and the increase in R & D spending is a defensive move to protect its prices sales (and therefore its margins) against significantly cheaper competitors. almost equivalent functionality. Apple's custom hardware powers its proprietary features, which creates the differentiation needed to support future revenue.

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There is truth in both stories, but one thing is certain, the pressure on margins on Apple is increasing. While everyone makes educated assumptions about iPhone X sales, many analysts believe that sales have been and will continue to be lower than expected, because of the high cost of the device. If this is true, then higher prices will not offset the higher research and development costs, and the combination will put more of a flaw on Apple's future smartphone innovation than it is. company has already known.

It seems obvious that a company that has hundreds of billions of dollars in the balance sheet should simply invest more in R & D initiatives like microLED. But analysts do not only care about the front-line revenue, but also the margins of this turnover. Apple's rising expenses and declining sales of its devices are pointing to more difficult financial issues for the company.