Strategic Risk Management in Apple Inc - Case Study Example

Strategic Risk Management: A Case Study of Apple Inc. Introduction Apple Inc. is a diversified multinational corporation which has production establishments in different countries that are either horizontally or vertically integrated. Apple is now one of the leading innovators in the field of computer technology. When Apple Computer started its vision, everything then referred to technology. But its founders realised it has to be more than just technology: Apple has to survive as an organisation to meet the needs of its customers not just in technical ways. It changed its name to Apple Inc., a more accurate and competing name. It is a leader when it comes to products and services. Apple started its humble beginnings in a garage, met ‘turbulences’ and tests along the way as an organisation, and now is a leader in the marketing of PCs, iPods, iPhones, operating systems and software. Apple uses aesthetic and elegant designs in many of its products. It is the basis for adapting its business model over the last three decades. This will continue for the next five years, and even for the many years ahead for it is what makes apple different. Apple seeks to “change the way people behave” versus just competing in the market-place for traditional products. In doing so, it has been able to establish first mover advantages through radical concepts using elegant design, and relatively perfect market timing recently to establish its advantage. Others seem to compete in commodity businesses with incremental innovations, while Apple creates a new concept in the consumer’s mind. It is most likely for this reason that other executives see Apple as a strong innovator in consumer electronics. Apple relies on its own strategies of innovations, captivating the customers’ way of looking at things. This age is an age of technological innovations, and Apple seems to answer the call of the masses that are hungry for new things, and new innovations in technology. For the next five years, and beyond, Apple Inc. will continue to introduce new aesthetic and elegant designs. Steve Jobs will continue to rule Apple, backed up by a pool of expert and creative team. Apple has a strong foundation of innovation. Apple’s successful products will determine its future in the world market Apple introduced many innovations on the personal computer, such as distinct and aesthetic designs, features which have been embraced widely within the industry (e.g., mouse, graphical user interface, etc.). The transformation from being a computer company (Apple Computer in 1997) to being an enterprise with a broader scope and bigger ambition (Apple Inc. in 2007) is clearly rooted in Steve Jobs’ focus on distinctive, elegant design. Apple has consistently won awards and accolades for its design – beginning with the Macintosh, then with iPod and now with the launch of iPhone. (Venkatraman and Henderson, 2008, p. 266) Apple started its regeneration in 2001 with its introduction of the iPod, a portable digital music device, and then followed up with its complementary iTunes online music store, a service for downloading songs and other digital music and video clips. Apple intends to continue its success in the future with the iPhone and Apple TV devices. It has excelled in marketing its aesthetic or elegant designs, which seem to please the customer and create a “market buzz” for Apple products. While Apple focused on new product innovation, many other firms in the industry focused on cost control. Apple’s Entertainment Technology Apple went up with the entertainment technology: iTune and iPod. The music sales soared for Apple. Apple’s revenue increased 29 percent in 2005 and 2006 quarter-to-quarter, gross margins, as of January 2007, have reached 31 percent, up from 27 percent during the previous year’s comparable performance (Rosen and Turano, 2008, p. 56). It retained 35 percent on music sales (iTunes downloads), and at 5 million songs a day, downloads account for several hundred million dollars in gross margin annually. Microsoft doesn’t have these figures. In the first quarter of 2006, iPods’ sales reached 14 million, but this was superseded by iTunes which sold more than a billion, from 800 million. Sales for iPod had gross margins nearly four times higher than the sale of music, which means it increased quarter-to-quarter, to 22 million. It has been estimated that one third of all song purchases are preceded by a thirty-second sampling, and added to this is an estimate of 2,000 years of listening time. In our five-year forecast, we can therefore multiply this with twenty because there are four quarters in a year. That would mean 40,000 years of listening time. Problems in our chart above (low supply chain, climate change, etc.) could just be minimal. For the first quarter of 2007, Apple’s revenues reached $7.1 billion, with estimated profits of $1 billion. Previous to that year, Apple’s earnings already recorded $565 million, believed to be the highest in company history. (Rosen and Turano, 2008, p. 56) Apple has historically relied on a set of partners to produce its products and, over time, has innovated its supply chain process as well. In a recent survey by AMR Research, Apple was considered #2 in supply chain management – ahead of Wal-Mart and just behind Nokia – reinforcing Apple’s attention to the product supply chain’s importance in translating design dominance to business profitability. With China as one of Apple’s source in the supply chain, there might be a problem because everybody is going to China. But there is India and the rest of Asia. This is not a problem in the next five years. Beyond that, it remains to be seen. Apple’s Business Model Innovations Apple expanded its business scope from computers to include media and entertainment through iPod (supported by iTunes software and the iTunes store). With this innovation, the sales curve of products typically slopes seriously downward five years after introduction. But the trend has continued to go up. In the last twenty-four months seven-eighths of all the 100 million iPods have been sold. Apple orchestrated a network of partners involving music labels (Warner Music, EMI, and others) who saw iTunes as a way to combat illegal piracy of legitimate content. The success of iTunes is driven by technology and demographics. This is a combination of broadband Internet availability with music industry. This business model innovation also involved multiple ways to monetize content through digital rights management (DRM)-enforced pricing (99 cents per music track) and a DRM-free pricing with a premium. Apple’s design-and-dominate model went beyond music but also with video iPod and Apple TV. Apple created Apple TV with elegant design and simple to use in contrast to clunky set top boxes that come bundled with cable and satellite services. Apple has also partnered with YouTube, introducing music video through the internet. Theoretical framework The theoretical framework for risk management is provided primarily by finance theory. Finance theory, however, provides only the modeling of how financial markets work. As risk management evolves from a control function to a financial optimization function, the role of both economic theory and data analysis grows. Economic theory and data analysis allow us to identify and forecast risk factors. To determine the risk factors of Apple Inc. in the next five years, we have to explore the relationship between finance theory, factor analysis, and the forecasting of factors. For Apple management, risk planning and management is not too difficult. They just have to continue innovating and applying what has been done in the past. The term risk could mean deviating from the normal course of a particular activity or establishment, as the case maybe, which means it is probable that something could happen and this is within a range, which is from zero to a hundred percent probability. In other words, it could happen but it’s not a hundred percent certainty. To be successful is to manage risk and foresee future dangers. Hillson and Simon (2007, p. 4) define risk as ‘any uncertainty that, if it occurs, would have an effect on achievement of one or more objectives.’ When we talk of risk, we talk of the outcome or result. However, the results can be modified by at least determining what these risks are. This can be done through management and planning. The risks for Apple Inc. are stiff competition and the risk of entry for the coming years. Vaughan (1997, p. 8, cited in Brewer & Huque, 2004, p. 78) states: ‘Risk constitutes a condition in which there is a possibility of an adverse deviation from a desired outcome that is expected or hoped for.’ Risks cannot be avoided, even if they ‘can be transferred, accepted, managed, minimised, or shared’ (Latham, 1994, cited in Rahman and Kumaraswamy, 2002, p. 131). The core of Apple’s risk management process needs to focus on quality (and more quality), meaning that its products ‘perform as it was designed to, defects are eliminated, customers stay happy and liability is reduced’ (Kent, 2004, p. 31). Risk management (RM) is the protection of all of a company’s assets, including people, property, productivity, and profits. Managing risks involves taking care of the safety and security of individuals or organizations. (Saied, 1990, p. 46) Risk management has evolved as a way of preserving income and assets for minor losses, to protect business from danger and harm. It is the job of management to protect the organization from more risks and further damage and losses. Risk managers have devised ways to do this by applying a scientific approach to deal with risk. This may require a step-by-step process. (Gallati, 2003, p. 11) Risks are a part of implementing a project such as launching a product, producing an event, or other major activities. Big and small organisations or businesses encounter and experience risk, and it is how they plan their activities that they become triumphant in the end amidst unexpected risks. Businesses face risks everyday in the course or their operations. These risks can range from economic downturn and adverse market conditions to losses arising from natural calamities or man-made accidents, or as a result of corrupt practices of employees and managers of companies, or with stiff competition in the industry such as technology. Each contingency may generate financial losses that undermine businesses in achieving what must, no matter what other objectives are pursued, be regarded as the primary objective – namely maximizing profits. (Brewer & Huque, 2004, p. 78) Effective risk management reduces the risk of bankruptcy and makes it possible to increase financial leverage (Miller and Modigliani, 1958, 1963, cited in Andersen, 2006, p. 17). Effective risk management will dampen the volatility of corporate cash flows and thereby reduce the cost of potential financial distress, which in turn should reduce the average cost of capital. Best practice Quality, design, innovations are the success factors of Apple Inc. In 2007, with more than 100 million products sold, the closest competitor to Apple’s iPod has only 8 percent of the market share, leaving Apple with the vast majority. Although others are seeking to simply duplicate the complementary and innovative relationships between iPod and iTunes, Apple continues to innovate with products such as the iPhone and Apple TV. Apple’s focus on innovation has helped it maintain a competitive advantage and marketing prowess over other industry players, who have historically been much stronger than Apple. Principles in reducing risks Enterprise Risk Management An enterprise risk management function is responsible for direct management of certain risks in an organization, coordinate risk management activities, and provide overall risk monitoring for senior management. (Lam, 2003, p. 44) Committee of Sponsoring Organizations of the Treadway Commission (COSO) COSO is a criteria used for evaluating the effectiveness of internal control over financial reporting. COSO is one of the comprehensive frameworks implemented by countries and organizations for internal control and enterprise risk management. It was formed in 1985 as the Committee of Sponsoring Organizations ‘to address challenges arising from a documented increase of fraudulent financial reporting’. (Landsittel and Rittenberg, 2010, p. 455) COSO is a virtual organization, which can be itself considered a strength and a weakness. It has a board of directors composed of a representative from each of the five sponsoring organizations. COSO’s mission, as adopted by the board in 2008, states: … To provide thought leadership through the development of comprehensive frameworks and guidance on enterprise risk management, internal control, and fraud deterrence designed to improve organizational performance and governance and to reduce the extent of fraud in organizations. (Landsittel and Rittenberg, 2010, p. 457) Applying the COSO’s Enterprise Risk Management – Integrated Framework Enterprise risk management – Integrated Framework was conceived by COSO to enhance corporate governance and risk management in member organizations. However, COSO issues guidelines but should be supported with legislation in countries where the organizations are operational. For example, Apple Inc. has its presence in the United States. The law that supports Internal Control – Integrated Framework in the United States is Sarbanes-Oxley Act of 2002. This law provides guidelines for internal control, requiring management to certify and the independent auditor to attest to the effectiveness of the systems. (Enterprise Risk Management – Integrated Framework, 2004) Apple Inc.’s internal auditing system should be focused along this line, with its auditing system to be certified and attested by an independent auditor. Enterprise risk management can be applied to Apple Inc. to reduce uncertainty and maximize value. The following factors of enterprise risk management can be applied on Apple: Aligning risk appetite and strategy Apple has survived through the years because it has implemented strategies, such as introducing aesthetic and elegant designs in its various products. Steve Jobs, CEO, was fired before but again was reappointed due to his strategies. He will have to continue to be the ‘boss’ for the next years. Steve Jobs is known for his ability to implement strategies that have catapulted Apple to success. He has managed risks for the organization with much success. Enhancing risk response decisions Apple’s forecast of 500 million products to be sold in 2014 and a billion in 2015 should be supported with hard evidence and more strategic innovations by management. However, this is doable considering the past sales of Apple’s iPod and iTunes, and Apple TV devices. Risk avoidance can be applied on Apple with strategies that can be copied from other leading innovators in the computer industry, for example Dell Computer’s custombuilt computers. Computers built on customers’ specifications have been effective for Dell Computer. Apple can introduce to reduce risks. Reducing operational surprises and losses – Apple’s experience in the marketing of PCs, iPods, iPhones, operating systems and software can enhance its capability to determine market risks. This is the basis for our five-years forecast for the company. Identifying risks – Steve Jobs can do it once more in identifying Apple’s risks pertaining its various products, but Apple’s innovative team can aid in the process. Conclusion Apple Inc. will succeed with its introduction of products with continuous business model innovations and new designs. It has also applied effective risk management capabilities through financial leverage and superior economic performance. Corporate risk management practices have been a trend under the leadership of Steve Jobs, with the support of an effective and creative team. To succeed in the complex environment, corporations must develop processes to understand how uncertain events might impact their organisations and supply chains, and other environmental factors such as competition, new market entrants, and government legislations. The Board of Directors for Apple Inc. has to implement the strategies provided by COSO for a more risk-free future. Apple Inc. has taken hold of the future by continuously introducing innovations in marketing and strategic moves. It has continued to handle risk management with ease and determination. It has made some moves like mergers, acquisitions, and diversified with new products. Strategic decisions have made Apple an innovator of not only products but of its plans for the years ahead. References Andersen, J., 2006. Performance effects of risk management. In J. Andersen, Perspectives on strategic risk management. Virginia, USA: Copenhagen Business School Press. Brewer, B. & Huque, A. S., 2004. Performance measures and security risk management: a Hong Kong example. International Review of Administrative Sciences 2004; 70; 77. DOI: 10.1177/0020852304041232. Carlton, J., 1997. Apple: The Inside Story of Intrigue, Egomania, and Business Blunders. New York: Times Business/Random House. Gallati, R., 2003. Risk management and capital adequacy. New York: McGraw Hill Publishing, Inc. 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