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Materials and Cost Benchmarking

Rise of Smartphones Upends Business Prospects for Outsourced Manufacturers

31 March 2013

Outsourced manufacturers are facing new challenges in the making of mobile handsets, especially as the primacy of smartphones has overturned previous models of design and production outsourcing and also because handset brands conventionally relying more heavily on outsourced manufacturers for lower-end  feature phones have now become more focused on internal production for their smartphones, according to an IHS iSuppli Global OEM Manufacturing & Design market tracker report from information and analytics provider IHS.

The majority of mobile phones last year continued to be made in-house by original equipment manufacturers, compared to the amount produced by outsourced manufacturers such as electronic manufacturing services (EMS) providers on the one hand, and EMS rivals original design manufacturers (ODM) on the other.

In-house OEMs that possess their own facilities for making mobile handsets-a group that includes the likes of Samsung Electronics, LG Electronics and Nokia-accounted for 73.4 percent of all mobile phones manufactured in 2012. That level was slightly down from the 74.5 percent posted in 2011, largely because Apple continued to outsource the making of iPhones entirely to EMS providers, sending production share toward the EMS sector. 

Meanwhile, EMS providers accounted for 19.6 percent of global mobile phone production, down from 20.1 percent in 2011, primarily due to BlackBerry's lackluster performance in the smartphone segment; while ODMs saw a slight increase in share to 7.0 percent, up from 5.5 percent.

No rapid changes are expected in the handset production market moving forward, given that OEMs are not likely to drastically change their outsourcing strategies. By 2016, in-house OEM handset production will retain dominant control at 72.1 percent share, compared to EMS share of 21.1 percent and ODM share of approximately 6.7 percent.

OEMs scale back-so EMS and ODM suffer

Overall, OEMs have been scaling back their use of outsourced manufacturers as many beleaguered brands seek to optimize product portfolios toward smartphones. OEMs like Nokia, LG, Sony and Motorola all have trimmed their use of outsourced manufacturers to ensure that internal facilities are being fully utilized and not being idled, and also to safeguard the quality of the smartphones being produced in-house. Nokia and LG, both suffering in the smartphone segment, will experience little change in their overall outsourcing strategy. Motorola, on the other hand, with its divestiture of manufacturing facilities in China and Brazil, will fully outsource its smartphone production in the future.

In contrast, Chinese handset OEMs will focus their outsourcing relationships on low-cost outsourced manufacturers to address intensified competition in the Chinese market and other emerging economies. Here, OEMs such as Huawei Technologies and ZTE will increase their use of contract manufacturers in the making of low-cost feature phones and entry-level smartphones, leaving the brands to focus on higher-value production activities, such as those geared toward high-end smartphones.

Among the two groups of outsourced manufacturers vying for what handset-production business remains, EMS providers will have an edge over ODMs. The primary reason is that Apple, which is well-positioned in the growing smartphone segment, will continue to retain design in-house and engage either EMS providers or traditional ODMs on an EMS basis for production and assembly.

Challenges ahead remain for both EMS and ODM

Even so, EMS providers will face their own challenges moving forward. In particular, the once-successful formula for handset production created in the mid-2000s by Foxconn International Holdings-the subsidiary created by Taiwanese manufacturer Foxconn to focus on mobile handset manufacturing-is no longer working. That model relied on three factors, including the deployment of manufacturing in low-cost countries, a vertically integrated supply chain that allowed for production synergies; and reference design capabilities that bolstered EMS strength.  

But because many handset brands that relied heavily on EMS missed the opportunity to develop smartphones early on, these handset OEMs have been caught up instead with restructuring efforts that include managerial changes, layoffs and capacity reductions-leaving their EMS partners with little to do.

ODMs are also encountering the same difficulties. Taiwanese ODMs such as Compal Communications and Arima Communications have suffered reduced outsourcing opportunities as their primary OEM customers, including Motorola and Sony, went through rounds of restructuring and then cut down previously established outsourcing business to the ODMs.

For growth to occur in the future, outsourced manufacturers should concentrate on core capabilities, IHS iSuppli believes.

 For EMS providers, this means going back to basics and focusing on servicing OEMs that retain proprietary product designs in-house but outsource the manufacturing of their products. Examples of such successful collaborations are Foxconn with Apple, Jabil with BlackBerry, and Flextronics with Motorola.

For ODMs, putting more resources toward developing entry-level and midrange smartphones could be a key factor, especially since smartphones will be driving growth in the mobile handset space overall. This means ODMs should decouple from the entry-level and feature-phone production process for which they have been renowned in the past.

If entry-level smartphones become further commoditized in the future, however, EMS providers and ODMs may see an increasing number of programs outsourced by brand companies. Still, the same challenges posed by feature-phone production will inevitably resurface: those relating to low margin, intense competition, and little customer loyalty.

Read More >> Smartphone Commoditization Generates Bitter Opportunities for EMS/ODM



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