For the latest contract manufacturing news and EMS industry trends, MMI is the place to go. But don’t take our word for it. Here are some important stories we’ve covered over the last year:
The number of M&A deals done in the EMS industry increased in the first half of 2017 versus the year-earlier period. According to MMI’s count, 15 M&A transactions closed in the EMS industry during the first six months of the year, up from 13 in the first half of 2016 (Chart 1). That’s an increase of 15%. If deal making continues at this pace in the second half, then 2017 will go down as the busiest year for industry M&A since 1995. Industry data presents a strong argument that the uptick in M&A activity has been fueled by corporations’ quest for growth. Rather than spin their wheels trying to do it all internally, it’s easier to buy another company’s existing products, profits, and market share. The availability of debt financing at historically low financing rates is also a boon for M&A activity, especially in the healthcare and tech sectors. In the tech sector, it’s large organizations that are using their significant liquid assets to continue buying up the products and intellectual property of their smaller competitors.
The last time there was any significant growth in the EMS industry was in 2011 when the market expanded by 11.3 percent, and then again in 2013 by 4.1 percent. But in 2015 and 2016 the market declined by 1.5% and 1.1%, respectively. To be fair, the overall growth of the electronics manufacturing industry has similarly stalled, with revenue growth in 2015 and 2016 coming in at 3.0 percent. What little growth occurred came from the automotive sector (4.1%), while all other sectors expanded between 2 and 3 percent. To this end, the computer sector declined to 1.9 percent growth in revenue, and this was offset by the communications sector, which grew 3.7 percent. The industrial market did second best, with growth of 3.5 percent. The consumer, medical, and defense/aviation sectors all expanded between 2.7 percent and 3.1 percent.
Outsourcing of electronic assemblies by Japanese companies has always been considered one of the “final frontiers” for EMS suppliers. Japanese OEMs have always considered manufacturing one of their core competencies, and for a long time resisted engaging EMS companies. Additionally, the supply chain was well established for the parts and mechanical assemblies that are essential to mechanical products like copiers, fax machines, and other office automation equipment. But a number of factors conspired to bring the Japanese to the outsourcing table. First, there were the rising costs of labor, land, and taxes that made manufacturing in Japan unaffordable. Electronic products coming out of Japan had always been expensive, but starting in the 1990s, they were becoming even more costly. Japanese OEMs watched as their Western competitors gained competitive advantage in price, supply chain, delivery, and repair as a result of their relationship with EMS subcontractors. Even worse, asset utilization was abominable—sometimes as low as 10–15%—as expensive manufacturing equipment sat idle and facility space was left empty, making for a very poor return on invested capital. The old business model of vertical integration was not holding up to a new world of the extended enterprise that hedged against changing technology and provided better expertise, thereby offering a solution to managing in-house capacity loads. More important, it made economic sense though it went against the grain of Japanese DNA. There was also the issue of quality. Japanese OEMs were known for their intense dedication to 100% total quality and didn’t trust any third-party suppliers to live up to their standards. And there were cultural issues that involved language and behaviors that were unique to the Japanese, resulting in these OEMs simply being more comfortable working with Japan-based companies. Breaking into the Japanese EMS market was like trying to break into Fort Knox for many Western EMS firms.
For the ninth time in the past 14 years, combined revenue for the top 25 contract manufacturers (EMS providers and ODMs) declined in 2016. Last year, top 25 revenue totaled $361 billion, down 4.4% from 2015 (Chart 1). Because the top 25 group accounts for 80–90% of revenue in the outsourcing space, this downward tick in revenue serves as an approximate indicator of how the contract manufacturing market behaved in 2016. Perhaps more disappointing than the lack of robust growth was the realization that the top 25 as a whole did not keep up with the global economy, which grew at a 3.1% rate in 2016, according to the International Monetary Fund. The top 25’s underperformance says something about the contract manufacturing space: It can no longer be relied on to outgrow the global economic baseline. Longer-term industry attractiveness is tempered by lack of near-term catalysts. This suggests that expectations have modestly risen, while the fundamental outlook could become more challenging due to slow growth in key end markets such as telecom infrastructure, computing, consumer/smart phones, and semi-cap equipment. Last year it was clear that softness among end markets, along with revenue losses from products at end of life and cost reductions, can offset gains from new programs.
MMI’s annual list of the 50 largest EMS experienced a decrease in revenue of $2.8 billion in 2016. Combined sales of the MMI Top 50™ EMS providers came in slightly behind 2015’s $272.5 billion mark with a revenue total of $269.7 billion. Over the last few years, we have separated out the ODM business among the largest companies; this year it accounted for approximately $18.6 billion in revenue. In recent years, Top 50 growth has declined and EMS giant Hon Hai Precision Industry can be partly blamed for it. Last year, Hon Hai generated consolidated sales of $135.2 billion, which represented a decline rate of 4.3%. When Hon Hai’s contribution to the Top 50 is excluded, the growth rate for the rest of the group still declined 0.2%.
In 2016 the number of EMS industry mergers and acquisitions increased from the year before. A total of 28 M&A transactions closed during 2016, up 7.7% from a revised count of 26 in 2015. Transaction totals have been in decline since a postrecession high of 45 in 2010 (Chart 1). The lackluster macro environment and associated uncertainties that followed the recession have not encouraged deal making. The most common deal in 2016 was the service or supply chain extension (marked S on the Scorecard). With these transactions, EMS providers acquire a horizontal or vertical capability. Back in the pre-recession days, capability deals were more commonplace. Last year, there were 12 instances of EMS providers buying competitors’ operations to extend service or supply chain capabilities, decreased from 20 the year before (Chart 2, p. 4). As the industry has matured and providers have built out their service offerings, fewer companies generally need to acquire capabilities.
January 2017. There was once a time when the EMS industry seemed to have no limit in terms of revenue growth, starting in the 1990s and continuing into the next decade, yet all this head-spinning growth ended abruptly in 2012. Now the industry seems to be closely following the growth projection of the overall OEM electronics market, which has been 2–3% a year lately. It’s not as though there hasn’t been any growth, but most of it has been channeled into the commodities market—smartphones, PCs, tablets, and digital televisions—dominated by the largest EMS and ODM suppliers. But of more interest to the broader industry is that there has been some good growth in the high-complexity industries such as industrial, medical, aerospace, and automotive. This expansion in outsourcing is expected to continue as the benefits of subcontracting production become increasingly proven to the OEM world. Slowly but surely, Asian OEMs are starting to realize that they can’t keep up with the significant capital investment to run their own in-house manufacturing. This is going to become increasingly apparent as the lines between IC foundries, advanced packaging, and EMS assembly blur.
December 2016. As most readers of MMI are aware, Foxconn Technology Group is in preliminary discussions to make an investment that would expand the company’s US operations. The disclosure came hours after an announcement by US President-elect Donald Trump and SoftBank Group Corp’s Masayoshi Son to invest $50 billion in the US and create 50,000 jobs. A document that Son held up after the meeting in Trump Tower also included the word “Foxconn.” Restoring thousands of manufacturing jobs to the United States’ struggling Rust Belt communities was one of President-elect Donald Trump’s biggest campaign promises, and Apple has begun exploring the possibility of moving smartphone production to the United States.* Speculation began with an interview with The New York Times in which Trump recounted a phone conversation with Tim Cook, during which he urged the CEO to move part of Apple’s production line to the US. In this conversation, president-elect Donald Trump apparently said, “I think we’ll create the incentives for you, and I think you’re going to do it. We’re going for a very large tax cut for corporations, which you’ll be happy about.” Trump is a vocal supporter of US companies that build their products in the US, and has proposed levying steep tariffs—potentially as high as 45 percent—on competing Chinese importers. But China’s reaction could be severe. In an opinion piece published in a state-backed newspaper, the Chinese government warned of retaliatory measures if such trade restrictions were to go into effect. “A batch of Boeing orders will be replaced by Airbus. US auto and iPhone sales in China will suffer a setback, and US soybean and maize imports will be halted. China can also limit the number of Chinese students studying in the US,” a Global Times article read.
November 2016. A mid-single-digit decline for the first nine months of 2016 raises the possibility that the top 12 EMS providers as a whole will not end up with annual growth in 2016. For the first nine months of 2016, revenue for the 12 largest EMS providers by total sales amounted to $179.5 billion, down 6.2% year over year. This is in sharp contrast with 2015, when there was an increase of 6.6%. Unlike in 2015, when Hon Hai gave a boost to top-12 sales, so far this year Hon Hai has exerted a drag on sales. For the first nine months, top-12 sales without Hon Hai were down 3% versus a decline of 6.2% including the company (Chart 1). So Hon Hai made the decline worse by 3.2 percentage points. While top-12 revenue is not all EMS—ODM, component, and other types of revenue are mixed in—the majority of it is, enough so that this decline serves as a rough gauge of how well the EMS industry did in the first nine months, based on the belief that the top 12 account for about half of industry revenue. Nine-month sales results can give one a partial view of how the top-12 order will shape up at the end of the year. The first three companies in the current standings—Hon Hai, Pegatron, and Flex, in that order—will easily retain those positions at year end, barring the entry of any potential new candidate. Jabil, Sanmina, and Celestica will remain in fourth, fifth, and sixth place, respectively. However, Cal-Comp is a member of the New Kinpo Group, whose 2015 sales might challenge those of Sanmina in the annual ranking of the MMI Top 50.
October 2016. As the Internet of Things (IoT) becomes increasingly common, there is an emerging trend in favor of “module manufacturing,” which includes IC packaging and compound semiconductor assembly. The recent success of system-in-package (SiP) and multichip module (MCM) solutions is leading top-tier EMS and ODM companies to explore alliances with IC packaging and optoelectronics firms. The logic behind this is clear: IC packaging firms have operating margins more than double those of EMS firms—averaging around 18% to 20%—whereas EMS firms have gross margins of only 2% to 10%. Foundry chip companies that are farther up the supply chain maintain gross margins of 40% to 50%, and may offer attractive opportunities for outsourced semiconductor assembly and test (OSAT) and EMS providers to improve earnings. How far up the supply chain these companies will go remains to be seen, but MMI has observed that there is currently quite a bit of activity going on in this space.
September 2016. Based on first-half results of 20 of the largest contract manufacturers, neither the EMS model nor the ODM approach exhibited growth this year so far. Combined first-half sales of 11 large EMS providers declined 8%, whereas the aggregate sales of six large ODMs dropped 10.3%. Apparently, both groups were buffeted almost equally by the macroeconomic headwinds swirling about the global economy. But that is not the end of the story of the first six months. There is a third class of contract manufacturer—the hybrid provider—that does substantial amounts of both EMS and ODM business. In conformity with the decline of the ODM group, combined sales of three large hybrid CMs dropped in the first half. The hybrid group’s revenue declined only a minor 2.2% year over year, more than 50 percentage points better than the performance of the other two groups (Chart 1). If this comparison can be generalized, it would seem that the hybrid model did a better job of withstanding the vicissitudes of the first half.
August 2016. Based on MMI’s estimates for the first nine months of 2016, the six largest US-traded EMS providers, as a group, will need a double-digit gain in the fourth quarter in order to turn 2016 into a growth year. In the current demand environment, such growth may be a tall order for the final quarter, although providers have been working diligently to boost sales with new program ramps. MMI is projecting that third-quarter sales for the group will total $14.73 billion by setting the sales estimate for each provider equal to the midpoint of its Q3 guidance. At that level, Q3 sales will have risen 1.5% sequentially, marking the second straight quarter-on-quarter increase. Since the sequential increases will have started two quarters back, 1Q2016 looks in the rear-view mirror like a revenue bottom (see chart).