NEW YORK-Manufacturers increasingly are planning to outsource production as more companies transition to the virtual manufacturing model, according to a recent Bear, Stearns & Co. Inc. study.
A substantial number of electronics manufacturers plan to outsource a collective average of 72 percent of production, a figure that far surpasses current estimates of 15 percent, said Bear, Stearns. Tom Hopkins, a managing director and electronics manufacturing services analyst for the New York-based investment bank, derived his projections from the answers of 103 of 200 original equipment manufacturers polled. These included “leading, mid-tier and emerging OEMs in computers and peripherals, data networking, telecom hardware, consumer and other electronics,” his report said.
Respondents included Motorola Inc., Nortel Networks, Hewlett-Packard Co. and Sony Electronics Inc. The companies that replied represented $2.3 trillion in aggregate equity market capitalization, $564 billion in sales and $373 billion in cost of goods sold. Within the group, there were 31 telecommunications equipment makers, representing $139 billion in cost of goods sold.
“The ideal example of an industry undergoing transition to the virtual manufacturing model is telecom hardware. Although most companies are choosing to retain their most complex, value-added manufacturing capabilities, there is clearly a rush to outsource a significant portion of the manufacturing, including printed circuit board assembly, testing and other such services,” the Bear, Stearns report said.
Within the last 18 months, Nortel, Lucent Technologies Inc. and Motorola have announced substantial outsourcing agreements in the multibillion-dollar range.
“Of the telecom hardware manufacturers that responded … 97 percent expect to increase their use of electronics manufacturing services over the next 12 months. However, weighted by cost of goods sold, only 25 percent of manufactured product from companies responding … is outsourced, the lowest percentage of all sectors.”
Hopkins said his research leads him to believe there are enormous opportunities in Western Europe for outsourced contracts with telecommunications companies like Alcatel Alsthom, Siemens AG and Philips Electronics NV. He sees a similar outlook for companies seeking to provide contract manufacturing for companies like Fujitsu, Mitsubishi, Hitachi and Matsushita. Likewise, he believes manufacturers of personal digital assistants are poised to boost their outside contracting for production.
While the largest and most established players plan a substantial increase in outsourced manufacturing within the next year, “virtually all of the start-up OEMs on the cutting edge of high-technology … are planning to rely totally on EMS providers,” Hopkins’ report said.
All respondents cited cost reductions, followed in order by capacity constraints and the need for fast time-to-market as the three most important reasons for their decision to outsource production.
“Companies in the telecom industry were most concerned with reducing costs (48 percent), followed by capacity constraints (28 percent) and time-to-market (23 percent),” the report said.
The responses imply that contract manufacturing of devices like cellular phones and computers could grow in five-to-eight years to a $350 billion industry, up from $75 billion today, Hopkins said.
“Both the rate and the magnitude of outsourcing is accelerating and accelerating rapidly,” he added.
“Given the enormity of the total available market to be outsourced and the commitment by leading technology hardware OEMs to adopt virtual manufacturing strategies, it is clear we will see a $50 billion EMS player in three-to-five years.”
According to Bear, Stearns, the top five contract manufacturers last year accounted for approximately 38 percent of the electronics manufacturing services industry. They include Solectron Corp., Milpitas, Calif.; SCI Systems Inc., Huntsville, Ala.; Celestica Inc., Toronto; Flextronics International, San Jose, Calif.; and Jabil Circuit, St. Petersburg, Fla. Since they are growing on average at twice the rate of their peers in outsourced electronics manufacturing, these five could increase their overall market share to 50 percent within five years.
In this, its third annual “Electronics Manufacturing and Supply Chain Survey,” Bear, Stearns asked companies for the first time about their preferred method of outsourcing. Of the 103 respondents, 84 percent said they would transfer production but would not sell their own manufacturing facilities.
“Given that outsourcing through OEM divestitures has dominated industry discussions lately, we were surprised that 84 percent … indicated a preference for outsourcing through traditional, non-asset-related agreements,” Hopkins said.
“Two great … examples are Motorola’s $30 billion, five-year agreement with Flextronics, which involved no OEM divestitures and Solectron’s ramp of cell phones in the last year, which have gone from 8 percent of sales to nearly 20 percent in outsourcing deals that were program transfers and/or new product introductions.”
Nevertheless, the number of manufacturing plant divestitures by original equipment makers in 2000 is on track to exceed the 36 transactions of this kind in 1999. By comparison, there were 24 in 1998 and 13 in 1997.
“With Lucent’s plans to divest roughly nine manufacturing locations over the next 12-18 months, we believe the number of OEM divestitures could easily exceed 40 by year-end.”
