Hold the Phone

Foxconn Needs Its X Factor

Catching up on delayed sales from the handsets won't be enough to put the company back on track.
Updated on
Photographer: Justin Sullivan/Getty Images
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We've all heard that Apple Inc.'s iPhone X has been difficult to make.

Add to that one word: the iPhone X is difficult to make profitably.

Chief assembler Hon Hai Precision Industry Co. just reported iPhone-quarter earnings that missed estimates. What's more, third-quarter gross and operating margins were the worst in at least eight years.

Apple's late release of the iPhone X and supply-chain bottlenecks meant it missed out on potential sales. By extension, that also hit the flagship member of Terry Gou's Foxconn Technology Group.

Bygone Era

Hon Hai's iPhone-season sales growth this year was the slowest since Apple switched to a third-quarter release schedule

Source: Bloomberg

Exacerbating the problem for Hon Hai, whose shares sank as much as 2.8 percent in Taipei Wednesday, is its non-Apple smartphone unit, FIH Mobile Ltd. Earlier Tuesday that unit reported third-quarter revenue that more than doubled, yet income swung into the red. Two weeks ago that same division issued an earnings warning, pointing to a loss for the full year from a profit last year.

Ouch

Hon Hai's third-quarter gross and operating margins have plunged to their lowest in at least eight years

Source: Bloomberg Gadfly

Note: Data show only 3Q margins for each year.

Since FIH is consolidated into Hon Hai, those troubles also hit its parent's key profitability metrics. The result: Gross margin for Hon Hai came in at 5.83 percent, compared to expectations for 7.49 percent, while operating margin was 1.73 percent, missing a 3.91 percent forecast.

Looking at sales projections, it seems analysts believe iPhone X issues will result in delayed rather than lost revenue, considering they're forecasting a 45 percent increase in Hon Hai's fourth-quarter takings from the prior three months. This isn't without precedent: 2014 saw a quarter-on-quarter sales climb of 57.8 percent amid orders for the iPhone 6, resulting in net income beating estimates by 12 percent.

With October sales up only 7.6 percent from September, and a tepid 3.9 percent from a year prior, Hon Hai would need to post average revenue increases for both November and December of at least 10.5 percent. Sounds doable, except that the company hasn't delivered double-digit monthly growth since 2015.

Earnings at Hon Hai this quarter will depend a lot on either operating leverage, or non-operating items. While people have both praised and blamed iPhone sales for Hon Hai's good and bad quarterly results over the past year, I dug into the numbers to show that Apple's orders had little to do with those big swings. In one case, it was fiscal discipline on the part of Gou's team that boosted earnings, and in another it was Foxconn's investment in Indian e-commerce startup Snapdeal that dragged them down.

It's unlikely we'll see any major one-off items boost the bottom line in the current period; in fact Hon Hai is set to recognize a NT$8.8 million ($292,000) loss from selling equipment to affiliate Innolux Corp.

That means Foxconn's operations prowess will be crucial. Catching up on delayed sales from the iPhone won't be enough to put the company back on track. Gou needs to sort out all of that past mess, most of which had nothing to do with Foxconn, and then boost margins by an incredible degree. Essentially, what Foxconn needs now is some kind of X factor itself.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

    To contact the author of this story:
    Tim Culpan in Taipei at tculpan1@bloomberg.net

    To contact the editor responsible for this story:
    Katrina Nicholas at knicholas2@bloomberg.net

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