The Virtues of Vertical Integration

I am in the business of price benchmarking and cost reduction, but even so, I am amazed at what supply chain professionals have achieved.

With specials and deals of all kinds during the holiday season, it is astounding the value that is being passed on to customers at very low prices in electronic products. Thirty-two-inch LCD TVs under $200 and microwave ovens at $50 are ridiculously cheap. I know these are loss leaders, but even the prices of the regular stock show that the management and execution of the planning, sourcing, manufacturing, and logistics functions of the chain are incredibly well tuned.

Note that these products are mostly Asian — predominantly Japanese and Korean (increasingly Korean, but let’s not forget Taiwan and China). Almost all are from companies with high levels of vertical integration; that is, they own the technology from design through end product, and if they don’t own or control all of the technology, they control the most important bits.

It is interesting that these companies don’t force their product groups to use their own component brands. This direction keeps their sourcing competitive while at the same time forcing the inhouse component groups to be aggressive on price and quality. It is a win-win strategy if you happen to be them! These companies dominate these product segments to the point that I find myself skipping over domestic brands with a perhaps unfair sense of their inferiority.

There are segments where domestic companies continue to do well or have not yet conceded defeat to foreign competitors. Autos (Ford, GM, Chrysler), cellphones and tablets (Apple and RIM), and games (Microsoft’s X-Box) are examples, but cracks are showing and those with the largest cracks seem to be the least integrated. What is it about vertical integration that makes such a difference? Or, is vertical integration a factor at all?

I believe competitiveness derived from knowledge is likely at the root of the vertical integration advantage. Can you get this knowledge without technology and manufacturing ownership? Fabless semiconductor company success might suggest one doesn’t need manufacturing ownership, but this by itself is not convincing. Technology knowledge seems vital as I can’t think of a successful product company without technology control. What I am convinced of is that companies with more knowledge will outperform rivals if they are capable of acting on that knowledge.

Domestic (Western) companies tend not to be vertically integrated, although there are exceptions. While the offshoring trend seems to be reversing along with some manufacturing repatriation, most companies remain a long way from being truly vertically integrated.

This year my New Year’s resolution is to create jobs through my company and within my customers’ companies by making them more competitive. While these jobs will be created globally, I hope that the majority are created domestically because a stronger economy at home is good for all. I plan to do this with a series of new product releases aimed at creating knowledge and transparency around pricing and supply chain risk. I will be showing the first of these new products, a component cost estimation tool, at theConsumer Electronics Show in Las Vegas next week.

This show will be a telling event for competitiveness, as many hot new electronics products will be unveiled. While many attendees will be looking at how cool the new products are, I will be considering their supply chains and how they derive competitive advantage from them. I will be at the Lytica booth and would love to talk with any of you planning to attend this event.

By Ken Bradley – Lytica Inc. Founder/Chairman/CTO

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