I recently asked two industry representatives for their opinions regarding a reversal in interest and investment in foundries in the U.S. Jessica Gomez, founder and CEO of the rapidly growing MEMS foundry Rogue Valley Microsystems, and Rory Rohan, managing director at Source Capital Group, participated in the discussion. Rohan operates within the investment banking division of Source, and is focused on mergers and acquisitions and private placements for technology and medical technology companies.
When asked what has changed recently in MEMS manufacturing in the U.S., Gomez started off with a historical look: “I think the big difference is in how companies and investors are working together to commercialize new technology-based products. In the past, companies would utilize investment dollars to build manufacturing capability and capacity. The thought process behind taking this approach was two-fold. First, to protect the company’s IP [intellectual property], and second, to gain maximum efficiency during the product development process. If your engineers had 24/7 access to everything they needed to develop the product, then being the first to market was more realistic.”
The benefit of building their own MEMS, Gomez explained, was that IP and trade secrets resided within the company instead of being shared with manufacturing partners. “The problem with this scenario is that in the MEMS and semiconductor industry, building and maintaining a manufacturing facility is extremely expensive. Companies spent millions of dollars building and staffing these fabrication facilities and then running out of money before the product development was complete.”
The resulting impact on the segment was that investors shied away from capital intensive startups, requiring portfolio companies to develop a supply chain for product development, not just volume manufacturing. University labs play an important role during the early stages of product development from a manufacturing standpoint. Once a company outgrows university/shared lab space, however, they must develop an external supply chain — and therein lies the challenge.
“IP protection is still critical to companies and their investors. Most U.S. based companies would prefer to work with U.S. based manufactures, where IP protection is easier to enforce. Yet, there are limited options in this area and even less for those companies who need to manufacture ITAR [international traffic in arms regulations] regulated technology. We need more MEMS manufacturing capacity in the U.S., especially need manufacturing companies who are willing to support earlier stage projects. This is the reason investors are beginning to consider the MEMS foundry a viable investment opportunity,” said Gomez, adding, “The MEMS foundry model is really the best of both worlds when it comes to generating manufacturing revenue. Unlike a captive fab, they are not reliant on a parent company to provide them with a steady flow of product to make. MEMS Foundries can work with multiple companies, building a diverse and stable portfolio of customers.”
Rohan’s take from the investment point of view is that, “There’s clearly a resurgence, but not in the sense of what we historically consider 'U.S. manufacturing.' It is important to recognize that after World War II, the U.S. didn’t have a lot of global competition in manufacturing. This led to a distinct competitive advantage as the world began to demand higher quality products for less. As industrialized nations in Europe and Asia recovered from war, the U.S. 'rustbelt' states lost their edge. The decline in U.S. manufacturing since the ’70s has led to a political narrative about globalization’s impact on the American middle-class. Some blame U.S. conglomerates for adding to manufacturing’s decline by outsourcing cheaper, well-educated labor from around the globe. Would the outcome have been better for the U.S. economy if legislation restricted U.S. companies from taking advantage of global resources? Personally, I believe that would have been a major misstep, likely making other sectors of the U.S. economy globally uncompetitive, not just manufacturing.”
Evidence of Resurgence
Companies are looking for partners that have flexibility as well as the infrastructure to support volume manufacturing. It’s an interesting mix and a challenge to keep up with at times, but there isn’t a shortage of foundry work. The internet of things and healthcare are driving innovation, and companies are working to develop strong supply chains early to support the growing demand for their products. Customers are also moving to large wafer diameters even with just a small volume in order to use some of the newer generation fabrication equipment. “We definitely see a growing demand for manufacturing capacity,” explained Gomez.
As to offshore manufacturing, “I doubt U.S.-multinational corporations ever expected global labor costs to remain low into perpetuity. As the economies of China and India grow, so do their respective middle-class populations. Eventually, that phenomenon was bound to drive labor costs higher. All else being equal, why would high-tech U.S. companies prefer to manufacture their goods on the other side of the earth? For many types of manufacturing requiring advanced skills, it seems they wouldn’t,” said Rohan. “Despite taking longer than any American would have liked, there seems to be light at the end of the tunnel. While I believe it’s unlikely for us to witness (at least during this lifetime) the return of what we would historically consider U.S. manufacturing jobs — labor intensive commodity manufacturing — there’s a new wave of U.S. manufacturing innovation that I believe complements the U.S.’s great resource — its advanced education system,” he added.
The Impact on MEMS Manufacturing
According to Rohan, “I know of a rapidly growing, and truly MEMS-based fab, in Oregon. They offer the capacity for innovation, but also the optionality for high-volume production. This facility has absolutely no lack of manufacturing demand. The company is required by customers to provide a highly specialized engineering team, respect for U.S. patent law and flexibility for innovation. After years of hearing about the ‘balancing-act’ difficulties for U.S. fabs, I was greatly encouraged to hear this company does it … and does it profitably. From the perspective of the investment community, this is exciting, but it begs the question of how profitable the next leg of growth can be for this company. The honest answer is that it depends on a lot of factors, including the development of proprietary products, but consider a publicly traded Midwest fab. The U.S. manufacturer trades at 13 times revenue with a near 60 percent operating margin, and a 45 percent profit margin. They also pay a quarterly dividend. You’re not getting those margins, or that growth from Apple.”
Also, there are just some products and market segments that require strict security, such as military and defense. Military applications for MEMS gyros, infrared imaging and pressure sensors need to be developed, but it is unlikely that it won’t be domestic development.
Trump or No Trump?
So what impact, if any, does President Trump have? Gomez expects the administration to ultimately have a positive effect on U.S. manufacturing, especially given the trends over the past two decades towards increased labor and manufacturing expenses for domestic companies, and reduced tariffs for overseas companies. New laws and regulations resulted in higher health care costs, increased labor costs, such as the currently suspended rule that doubled the exempt salary threshold, putting U.S. manufacturing at a competitive disadvantage. The Trump administration plans to make a series of strategic changes, including tax reform, geared toward eliminating this disadvantage. “For the MEMS and Semiconductor business sector, manufacturing is extremely capital-intensive and requires a highly educated workforce. Any policy changes that help level the playing field between domestic and overseas manufacturing would be a welcome change,” said Gomez.
In contrast, Rohan states that, “For decades we’ve heard every multinational emphasizing their ability to ‘offshore’ labor and supply-chain costs. Now it seems we’re hearing a lot about ‘reshoring.’ General Electric, Apple, Boeing and Ford have all made recent headlines for bringing manufacturing jobs back to the U.S. When market leaders take action, the second and third tier players all follow. While I believe it makes for good political fodder, I doubt these companies are doing it to highlight their patriotism. Again, in my opinion, it’s a function of lower labor costs, energy costs, transportation costs … combined with the ability to hire a highly educated workforce and mitigate IP risks.”
“The political landscape makes it interesting,” said Rohan. “I often wonder whether Trump will eventually garner popularity and political favor as he piggybacks the momentum U.S. manufacturing already has. Clearly, his saber rattling is directed heavily toward U.S. multinational’s manufacturing abroad. Since it’s finally economically and technically feasible for Apple and other high-tech manufacturers to rehome jobs into the US, who will be the beneficiary? Maybe Michigan and Wisconsin are already sensing the benefits. It’s common knowledge that presidents get too much credit and too much blame. Sometimes it’s just a matter of controlling the narrative.”
Technology-driven manufacturing is definitely on an uptick, with plenty of room to grow. Globalization, unfortunately, guarantees that global inefficiencies will occur. The cost of labor, energy, and transportation, for example are cyclical and while some manufacturing jobs flee the States, economic incentives including low tax rates are created to keep and attract others.
“The only major barriers I see are related to tax and regulatory environments. Unfortunately, neither is market determined. I worry about the unintended consequences of forcing tariffs on foreign producers of goods, as has been politically theorized. It makes sense in a vacuum, but emotion dominates most decision-making. We need to tread lightly,” Rohan warned.