Hardware is dead in Silicon Valley. (Not)

A recent PBS documentary on the roots of Silicon Valley was really a story about Fairchild Semiconductor and the birth of the microchip industry. However, over the past 10 years, the Valley has continued to transform, becoming dominated by Internet and software companies like Google and Facebook. Venture capital funding has followed suit: during the last 10 years, funding for semiconductor and networking companies declined more than 70 percent, and Internet funding grew 83 percent.

The semiconductor and hardware companies are still here, but now they are behemoths like Intel and Cisco. Today, many exciting new hardware companies are focused on the consumer. Kickstarter has enabled companies like Pebble and Ouya to raise millions from people directly before actually shipping a product. Venture capitalists are funding consumer product companies like Jawbone and Roku. A new wave of digital health-oriented companies will also be coming on stream. Many are innovating around the changes brought on by the Affordable Care Act and are based on business models that combine hardware devices with software and services.

Let’s face it: we still love hardware, especially consumer products. Products we actually use. We follow new product announcements from Apple as closely as we follow Kim and Kanye or The Voice.

What does the new consumer focus of hardware companies in Silicon Valley mean for finance and accounting teams? We still have the traditional inventory, costing and working capital management issues of the old guard. But teams today need a broader palette of financial skills. Product sales and distribution now include direct end-user sales in addition to online and traditional retail. Finance teams need to understand credit card processing, third-party logistics, outsourced manufacturing and fulfillment, complex revenue recognition and warranty liabilities. Accounting approaches used in mature hardware businesses must evolve to cover new business models that combine hardware, software and services sold across multiple distribution channels.

Cost accounting is still a critical need for today’s hardware companies. But the focus on standard setting, variances and overhead rates is almost quaint now that most manufacturing is outsourced to a contract manufacturer. Today’s cost accounting must reflect more than just the cost to build a product. A holistic approach to profit margins needs to go beyond the traditional GAAP gross margin line. Companies must understand channel profitability, cost per acquisition, advertising and service cost, and technical support to best understand marginal profit contributions.

There may be fewer Silicon Valley companies designing chips today than there were 10 years ago. But hardware is far from dead. It’s right up front, and it’s the whole device, not just the chips. Isn’t that a whole lot more interesting?

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