The computer industry is one of the most warranty-intensive of all, after the automotive sector. But although it accounts for more than a quarter of all warranty spending by all types of manufacturers, the computer industry has neither long warranties nor well-funded warranty reserves. So when something goes wrong, it really goes wrong.

Then again, over the past 13 years, most of the manufacturers in the computer, data storage, and peripherals industries have cut their warranty costs repeatedly and decisively. So as we embark on this year's report on warranty costs in the U.S.-based computer industry, we note that this group of companies has a very long track record of successfully living on the edge.

To compile this week's report we gathered data from three different but closely-aligned industry sectors. From the computer OEM category we tracked 25 companies over the past decade -- many of them now deceased, acquired or privately-held, such as Dell Inc.; Sun Microsystems Inc.; Palm Inc.; Gateway Inc.; and MPC Corp. But there are still a few that remain very much alive: Apple Inc.; HP Inc.; Hewlett Packard Enterprise Co.; and IBM Corp. Apple, of course, is primarily now a smartphone manufacturer, but its roots remain in desktop computing. Plus, aren't iPhones really more like hand-held computers?

We added into that mix the names of 44 data storage companies, currently led by companies such as EMC Corp.; NetApp Inc.; SanDisk Corp.; Seagate Technology; and Western Digital Corp. But there have been some notable departures from their ranks over the past decade as well, such as Maxtor Corp.; Storage Technology Corp.; Iomega Corp.; and Overland Storage Inc. We're counting all the old data as it was then reported, to keep the totals and averages intact.

And then we widened the ranks of the computer peripheral makers to include 89 companies. That expanded list includes not only copier and printer technology companies such as Lexmark International Inc.; Xerox Corp.; Dover Corp.; Electronics for Imaging Inc.; and Zebra Technologies Corp.; and not only point of sale technology companies such as VeriFone Systems Inc.; NCR Corp.; Diebold Inc.; and Digi International Inc.; but also sound and vision companies such as Harman International Industries Inc.; Daktronics Inc.; Planar Systems Inc.; and Turtle Beach Corp. And we included Microsoft Corp., because although the company concluded it no longer has to report its warranty expenses, a decade ago it was for a short time one of the largest warranty providers in the world.

Four Warranty Metrics

For each of these 158 companies we gathered four essential metrics from their annual reports for each of the past 13 years: the amount of claims they paid, the amount of accruals they made, the year-ending balance in their warranty reserve funds, and the amount of warranted product sales they reported. For the latter metric, we tried our best to not include any non-warranted revenue sources such as service, finance, rentals, software, or consumables, but some companies do such a poor job of segmenting their revenue that separation is impossible.

Figures 1, 2 and 6 below provide the raw annual totals for three of these metrics. Figures 3, 4 and 5 are calculations based on dividing claims and accruals by revenue. And Figure 7 is a composite of claims divided by reserves, and accruals divided by revenue.

Let's start with warranty claims. In Figure 1, it's clear that claims payments rose last year, compared to 2014. Granted, all of that came from the iPhone, because both the HPs and IBM saw claims fall dramatically last year. We detailed the emergence of Apple in last year's report, so we won't go over that ground again. But Apple's $886 million increase in claims paid more than offset IBM's $100 million decline and the HPs' combined $200 million reduction. Sadly, most of that was due to falling sales, and not rising reliability.

In data storage, there were nothing but reductions. EMC declined by $46 million. Seagate fell by $41 million. NetApp fell by $15 million. And Western Digital fell by $3 million. The entire group saw claims decline by 16%, which was actually a bit ahead of a 10% decline in product sales. So that's a bit less bad of a story than is true for the computer OEMs.

The peripheral makers saw claims fall slightly last year. Lexmark was down by $13 million and Xerox fell by $4 million. But barcode printer manufacturer Zebra Technologies saw a huge jump in claims payments from $13 million in 2014 to $33 million last year, an inevitable side effect of its rapidly-growing sales volumes. Harman saw claims rise by $5 million, but its speaker sales grew even more rapidly.

Warranty Accruals

Warranties tend to be short in the computer and electronics industries, so there's not as much lag time between claims and accruals as there is in either the aerospace or automotive industries. The result is that claims and accruals tend to move in the same direction at the same time. And that effect can be seen in Figure 2, though peripheral makers did see a decline in accruals as opposed to a gain in claims.

All the top OEMs saw accruals fall dramatically, even Apple. But the HPs led the way with a combined $333 million decline, as opposed to Apple's $288 million decline. IBM, meanwhile, saw a $67 million decline in accruals. And most of those drops were sadly tied to sales declines rather than improved product reliability, lower repair costs, or less-frequent failures.

In the data storage category, there was also a tight coupling between accrual reductions and sales declines. SanDisk saw a 37% decline in accruals and a 16% decline in sales. NetApp saw a 24% decline in accruals and a 12% decline in sales. Seagate saw accruals fall by 17% and sales fall by 19%. And Western Digital saw a 5% reduction in accruals coupled with a 15% reduction in sales.

The peripheral makers told much the same story, though there were a few exceptions. Harman, Lexmark, Diebold and Dover all saw accruals and sales fall together. VeriFone, Zebra Technologies, and Electronics for Imaging each saw rising accruals prompted by rising sales. But Harman cut accruals even though sales rose (a sign of rising reliability), while Daktronics and NCR increased accruals despite falling sales.

Warranty Expense Rates

It's perfectly normal for sales and accruals to rise and fall together, since accruals reflect the company's best estimate of the future costs of its warranties as the products are sold. If more are sold, there will be more warranty costs. If fewer are sold, accruals are reduced in proportion.

On the flip side, the ratio between sales and accruals should therefore be constant, unless there are changes in price, reliability, repair cost, or the frequency of failure. There's less of a correlation between claims and sales, because products sold in one year might be replaced in another year, or fixed in multiple years. But as was mentioned, warranties tend to be shorter in the computer industry, so the lag time isn't as much of a factor.

In Figures 3, 4 and 5 we're taking the raw data in Figures 1 and 2 and dividing it by warranted product sales data. That produces a pair of percentage rates for each industry that reflects the proportion of revenue that's going towards warranty expenses. Because of the small lag time, the lines tend to be relatively close together, except in unusual circumstances. But the really good news, as seen dramatically in Figure 4 but also somewhat visible in Figures 2 and 5, is that expense rates have generally been declining over time.

The lines in Figure 3 are shaped somewhat like a check mark, declining from 2003 to 2012 but then going up a bit in 2013 and 2014. Most of that is due to Apple letting iPhone warranty expenses get a bit boisterous, but they were back under control last year. And warranty expense rates were back down; almost back to record low levels.

The really good news, however, is in Figure 4. The data storage companies are simply making better products that last longer and fail less often, which for computer users is a welcome development. Though the expense rates meander through the four quarters of each year, their direction has been definitively downward for 13 years. And while average accrual rates have been below one percent in five of the last six quarters, claims rates hit a new low in 2015's final quarter.

For the peripheral manufacturers, one percent is more or less the baseline, although items such as printers are always far above that expense level. Those peaks in Figure 5, meanwhile, are almost entirely due to the Microsoft Xbox 360. That problem-plagued gaming console was also responsible for the 2007 and 2008 bulges in peripheral claims and accruals seen in Figures 1 and 2. But by 2010 they were no longer much of a factor.

The Xbox 360 also sent warranty reserves for the peripherals makers over the $1 billion level in 2007 and 2008, as can be seen in Figure 6. But once again, the effect faded over time, with peripheral makers' warranty reserves ending 2015 at their lowest level ever. But also notice that at the end of 2015 the data storage companies kept their smallest reserve balances since 2004. Though falling sales is part of the reason, the declining expense rates as seen in Figure 4 are more culpable for this welcome news.

Now we get to a busy and rather convoluted chart comparing clams vs. reserves and accruals vs. sales. Figure 7 contains 156 data points for three industry groups over the four quarters of each of the past 13 years. The ratio between claims and reserves reflects the closing balances in the reserve funds divided by the amount of claims being paid per month. The ratio between accruals and sales follows the same methodology as the green lines seen in Figures 3 through 5.

Average Warranty Reserve Levels

For all manufacturers in all industries, the average ratio between claims and reserves is 19 months. In other words, the average warranty reserve fund contains an amount of money equal to 19 times what the companies paid per month in claims. It strongly suggests that the average warranty is 19 months long, although some companies don't fully fund their liabilities so the true number could be somewhat higher. But the point is, anything below this line reflects shorter-than-average warranty durations and/or lighter-than-average funding levels.

Meanwhile, the average accrual rate for all manufacturers in all industries is 1.3%, meaning that for everything from airplanes to air conditioners, manufacturers tend to set aside about 1.3% of their product sales revenue to fund anticipated warranty liabilities. Everything to the right of this line reflects higher-than-average accrual rates while everything to the left reflects lower-than-average expenses.

While there are outliers here and there, the pattern is clear: the computer OEMs generally keep less than a year's reserves on hand while their expense rates range from two to four percent. The data storage companies are closer to the all-industry averages on both counts, though they're predominantly in the lower-right quadrant. And the peripherals makers are generally to the lower left, implying both low expense rates and lighter reserve levels than average.

What does this mean? In the March 31 newsletter, we showed that the car and truck manufacturers had above-average accrual rates and warranty reserve capacities generally in the 12-to-24-month range. In the Aerospace Warranty Report last week, we showed that airplane manufacturers and their suppliers had below-average expense rates but far above-average reserve levels. This week, we're showing that the computer industry prefers much lower reserve levels despite generally higher expense rates.

It has much to do with the average duration of the warranties in each industry. Aerospace warranties can last a decade or more, especially on items such as the airframes. Passenger car warranties can last for four, five or even six years on components such as the engines and transmissions. With computers, one year is standard and three or four years is typically reserved for the business and educational markets. So you simply don't need 18 or 24 months of warranty reserves in your fund.

Keeping A Year's Reserves Handy

Among the largest warranty providers we're examining this week, Apple as usual sets the pace, keeping 12 months of reserves on hand at the end of 2015. Hewlett Packard Enterprise Co. is a bit above that mark while HP Inc. is a bit below it, reflecting, perhaps, their respective business vs. consumer customer bases. IBM and EMC are at 11 months, while Daktronics, Diebold, NetApp, Seagate, and Western Digital are each close to 17 months.

When it comes to outliers, SanDisk is currently at 44 months, while Harman is at 34 months. That's perhaps a sign that they're being too cautious, that they're not reacting quickly enough to their recently reduced expense rates, or that they see warranty problems on the way that are not yet visible to outsiders. Or it could be, as with SanDisk, a reflection of the fact that their expense rates are incredibly low and their warranties are incredibly long. But we may never know, because Western Digital is buying the company soon.

At the low end of the spectrum, both Zebra Technologies and NCR are at only 7 months; Eastman Kodak Co. and Quantum Corp. are both at 6 months; Xerox is at 5 months; and Lexmark is at 4 months. However, they've kept their reserves at these low levels for multiple years, so perhaps it works for them? But if their product ever run into unexpected reliability problems, their profits are history, because their reserves may not be sufficient.