Samsung's (OTC:SSNLF) recent investment in Sharp could mean trouble for Apple (AAPL) down the road. The iPhone maker has been rumored to be diversifying its supply chain away from Samsung in order to reduce its dependence on a company that is also its fiercest rival in the mobile device space. But Samsung's decision to buy a 3% stake in Sharp, a struggling display maker that is also one of Apple's bigger supply partners, complicates its plans.
Apple is believed to source about a third of its display panels from Sharp, and it is therefore in its interest if the display maker manages to raise additional cash and stay in business. But Samsung's investment in Sharp, which secures it a steady supply of LCD display panels should raise Apple's heckles. Apple likes to tightly control its supply chain vendors, and having to compete with Samsung for Sharp's production capacities takes away some of that control.
Moreover, Samsung's growing smartphone business means that it is continuously looking to diversify its supply chain, and Apple will be threatened if its closest rival becomes one of Sharp's major customers in the future. While a rather small 3% stake doesn't give Samsung enough of a leverage on Sharp to affect Apple's interests in the near term, it does put pressure on Apple to look for ways to bolster its display supply chain outside of Sharp in order to protect its long-term interests.
Samsung Adds Pressure on Apple
What's interesting is that this is the exact reason why Apple might have been looking to diversify its supply chain away from Samsung in the first place. With Samsung's smartphone sales growing at a rapid pace and the company acting as its own supplier in many cases, it would be bad for Apple if Samsung were forced to choose between Apple and itself in case of a supply shortage at its factories (see "Apple Lowers Dependence On Samsung To Exert Greater Control Over Supply Chain"). Apple generally likes to exert control over its supply partners, by investing in production facilities in order to lock down capacity and ensure steady supplies. Such a strategy may not be easily implementable with a big supplier like Samsung, but is a possibility with a struggling display maker like Sharp. However, by spreading its tentacles toward other Apple suppliers, Samsung is looking to limit its competitor's choices of such partners and slow down Apple from diversifying away from them.
One of the biggest reasons why Apple has managed to keep its margins high is through its tightly controlled supply chain, which gives it a greater bargaining power while negotiating the cost of its supplies. However, increasing competition from Samsung and other smartphone makers could cause it to lose the kind of control it presently enjoys on suppliers. Our forecasts already incorporate the impact of this on iPhone's gross margins, which we expect to decline from around 53% in 2012 to about 35% by the end of the forecast period. However, if there is a further decline in margins to about 25%, there could be a downside of about 10% to our $650 price estimate.
The ongoing discussions between Foxconn and Sharp about a possible investment could be of interest to Apple since a positive outcome could give it more influence in Sharp's business (see "Foxconn-Sharp Deal Will Give Apple Greater Control Over Its Supply Chain"). Such a move could make Apple more comfortable about partnering with Sharp despite the stake that Samsung has acquired.
Disclosure: No positions.