The electronics manufacturing services industry enjoys double-digit growth nearly every year, but contract manufacturers will be challenged to maintain that growth rate over the next five years.
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The electronics manufacturing services (EMS) industry enjoys double-digit growth nearly every year, but contract manufacturers will be challenged to maintain that growth rate over the next five years. One way they’ll try: Target automotive applications.
The EMS industry’s major customers—computer and communications OEMs—already outsource about 70% of their manufacturing. Most analysts believe that percentage will grow little over the next five years. As a result, EMS providers are targeting nontraditional EMS customers like automotive. Companies there and in medical, defense and aerospace are just beginning to outsource manufacturing and will be the next important drivers of the EMS industry.
Outsourcing by these industries will pose challenges for buyers at the OEMs doing the outsourcing and for buyers at EMS companies. OEM buyers involved in outsourcing decisions will have to identify EMS providers that have the manufacturing and supply chain capability that matches the needs of their companies. EMS buyers may find that the requirements of these OEM customers are different than requirements of their traditional computer and communications customers.
One example is the automotive industry, which research firm Technology Forecasters says will increase its outsourcing to EMS providers by about 13% per year from $4.2 billion in 2006 to $7.8 billion in 2011.
“The auto industry is very tight on quality requirements,” says John Yapp, vice president of global supply management for EMS provider Sanmina-SCI in San Jose, Calif. Sanmina-SCI builds a variety of systems for vehicles, including global position satellite systems and radios.
“In the automotive industry we ask suppliers to sign documents that say they will meet the requirements relative to QS 9000 or TS 16949,” says Yapp. “We find out whether they have them or are working to get them.”
Those standards require suppliers to develop a quality system that results in continuous improvement, defect prevention and the reduction of variation and waste in the supply chain.
Be on time
Delivery is also a bigger issue in the automotive industry for suppliers. There is often a financial penalty for late deliveries to an automotive OEM.
“You have to have some type of cost associated with not delivering products on time,” says Yapp. “It is not unusual to have that in your agreement. It varies depending on the customer. You seldom see that in the electronics sector.”
In the automotive business, sometimes EMS providers need to use suppliers they have not used before because the supplier is on the OEM customer’s approved vendor list. Other times buyers may have to deal with a division or unit of a supplier they have not done business with before.
“Take Tyco Electronics,” says Yapp. “They make all kinds of connectors for automotive and medical, and have different divisions within their company that specialize in different components. It is not a new company, but it might be a different division, or a specialized group within the company that we now have to deal with,” he says.
EMS suppliers need to understand that the automotive industry has different priorities than other industries, says Brian Althaver, vice president, automotive group for Jabil Circuit, based in St. Petersburg, Fla. Jabil is familiar with automotive priorities because it has a long history with the business segment.
“We have a legacy of manufacturing in automotive electronics,” says Althaver. “The company’s early growth years in the 1980s were pretty much fueled by the automotive business.” Jabil builds a wide range of body controllers, infotainment, telematics products and instrument clusters for tier-one suppliers to automobile OEMs.
A change of priorities
Jabil has learned over the years that in the automotive supply chain, “delivery of a product at launch with mature production yield and therefore mature quality levels is the most important thing,” Althaver says. However, in other industries getting the newest technology to market is often the biggest priority.
“The attitude in other industries is to get the product to market and we will fix it later if there is a problem,” says Althaver. “In the auto industry, there is a lot more investment up front to make sure that when a product launches, it is ready and there won’t be any problems,” he states.
He says a lot of EMS companies that are targeting the auto industry may not understand that.
Althaver adds that some “are confused about where they want to play, whether they should work directly with the vehicle manufacturer. We don’t believe that is a valid strategy,” he says.
EMS providers need to take a global approach, according to Althaver. He notes that Jabil has certified automotive facilities in the U.S., China, Eastern Europe, and Mexico—and has plans to build one in India and possibly in Russia and Brazil.
He says auto industry will always be a part of Jabil’s business. “It is something that has continued to grow for us albeit not as fast as some other sectors at times.”
While the auto industry will help drive EMS growth, so will medical, defense and aerospace OEMs. Companies in those industrial segments are deciding that manufacturing is no longer a core competency and they can significantly reduce cost by using EMS providers. As a result, the industrial segment of the EMS business, which includes automotive medical, defense and aerospace, manufacturing automation, semiconductor manufacturing equipment and test and measurement devices, will grow a healthy 11.5% per year from $19.2 billion in 2006 to $29.3 billion in 2011, according to researcher iSuppli, based in El Segundo, Calif. In fact, the growth rate of the industrial segment will be higher than the overall annual growth rate of the EMS industry of 9.1%.
“OEMs have found out that manufacturing is not core to them,” says Adam Pick, an iSuppli analyst. “Unless manufacturing is a core competency, it makes sense to outsource.”
He says many OEMs are deciding what is core to their business and what isn’t. It may be design and product development, intellectual property or customer service.
“OEMs need to define who they are and really leverage the EMS provider’s capabilities in a host of categories that may not just be manufacturing,” says Pick.
Bring it on
EMS providers welcome the trend of non-traditional OEMs planning to outsource. For instance, Flextronics, headquartered in Singapore, opened its Special Business Solutions (SBS) group to handle the industrial business. In addition, it is also acquiring Solectron, which has a strong presence in automotive and medical industries.
“The move of Flextronics to sub-brand itself as SBS is brilliant. It appeals to a different customer segment,” Pick says. “Jabil also is getting more aggressive in the nontraditional market. The opportunities are significant.”
The industrial segment is very attractive to EMS providers for several reasons. “Product lifecycles are not six months, but three to 20 years,” says Pick. “You get complexity of the build. When it costs more, you get a bigger look at the revenue.” That means EMS providers have a chance to build equipment that has higher margins for a long period of time.
The chance for a long lasting higher-than-average revenue stream has EMS providers licking their chops. Industrial OEMs currently outsource very little, so there is nowhere to go but up from an EMS provider’s perspective.
“The level of outsourcing for nontraditional markets is very low,” says Peter Lindgren, senior vice president and general manager of Celestica’s industry market segment. “It is virtually untapped.” Celestica is trying to grow its business with aerospace and defense and industrial OEMs.
“The level of penetration for outsourcing for aerospace and defense is only about 5–6%, while industrial is about 11%,” says Lindgren. “Both of those markets in terms of outsourcing are growing at a rate of 10–11% per year so there is a lot of potential.”
Who do you trust?
Lindgren says industrial OEMs will outsource based on to what degree they “trust their supply base in terms of their ability to execute.” After all, some of the OEMs have been around 75–100 years and have not outsourced, Lindgren notes.
“They are very risk averse. Building relationships and trust are important to them,” he says.
Lindgren says industrial OEMs will likely follow the same outsourcing path that computer and communications OEMs did. They will use EMS providers to build printed circuit-board assemblies initially and then subsystems and box builds.
“It is an evolution that is going to happen,” says Lindgren. “We would expect outsourcing in the industrial segment to evolve to where 60–70% could be achievable,” he says.
While some EMS companies are just starting to service the industrial segment, Plexus of Neenah, Wis., has had industrial OEM customers for years. It builds medical equipment, high-end networking equipment, defense and aerospace systems and test and measurement equipment, all of which are low-volume, high-mix products.
“Plexus does not play at all in high-volume space,” says Ginger Jones, vice president and CFO for the company. “We’re not building one million iPhones. We are focused on nontraditional markets,” she says.
About 20–25% of Plexus’ business is with medical equipment manufacturers. Plexus builds ultrasound equipment and insulin pumps.
“Medical is less mature in outsourcing. They (medical OEMs) are doing some, but are not as far along the path, so we see a lot of growth potential there,” says Jones.
She says medical is challenging because it involves complicated products. “They can have long lifecycles and we do a fair amount of engineering. We have 400 engineers on staff that do design development and test for customers,” says Jones. “But we see growth in all of our end markets.
What it Means to Buyers: James Carbone
OEM buyers involved in outsourcing decisions will have to carefully evaluate the capabilities of EMS providers that will be vying to be their company’s EMS provider of choice.
As industrial OEMs outsource more, many EMS buyers will need to make sure the suppliers they choose will meet quality and government regulatory requirements pertaining to defense and aerospace and medical industries.
Buyers at EMS providers servicing the auto industry will need to make sure suppliers meet tough delivery requirements to avoid financial penalties for late deliveries.
Lessons to Learn James Carbone
Before they come together, buyers at automotive OEMs and EMS providers will have some homework to do. Here are a few action items:
1. Identify new suppliers
1. Understand quality is king
2. Investigate supplier capabilities
2. Enable immediate high production yields
3. Suppliers’ manufacturing capacity
3. On-time delivery, or pay a penalty
4. Global presence of suppliers
4. Source from OEMs’ approved vendor lists
EMS providers expand globally James Carbone
While many electronics service providers are expanding their customer base, many are also expanding or shifting their geographic footprint by opening new facilities around the globe.
“China is always the epicenter, but there has been some shifting out of China,” says Adam Pick, an analyst with researcher iSuppli in El Segundo, Calif. “There are capacity expansions by a number of providers in Vietnam and Malaysia that include big guys like Flextronics and smaller guys like Plexus.”
He says in some cases Eastern Europe is being viewed as an alternative to Asia.
“We found that a number of industrial guys who caught a bug and said ‘let’s go to Asia with our outsourcing’ are now saying ‘why did we do that?’ When you get to cultural differences, program management issues, time needed to travel back and forth with engineering teams, people have questioned whether it is worth it,” he says.
He says Western European EMS providers are extending capacity into Eastern Europe. “It’s a nice offering in terms of proximity to customers,” says Pick.
He says some original design manufacturers such as Wistron and Quanta are now bringing on capacity to service customers like Sharp and HP in Eastern Europe.
EMS providers or ODMs have facilities in Hungary, the Czech Republic, Poland, Ukraine, Estonia, Turkey and Romania.
The bad news is that while EMS providers are expanding in Asia and Eastern Europe they are reducing their manufacturing footprint in North America.
“If you look at where big EMS guys are reducing capacity, 37 of them had plant reductions,” says Pick. “Of those 37, all of them are in Western Europe and North America.”
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