The Booming Box-Build Business
by Darrell Dunn/Electronic Buyers News
The industry acronym OEM - original equipment manufacturer - is
increasingly becoming a misnomer as contract electronics manufacturers
(CEMs) expand their expertise to encompass everything from design
and prototyping to final assembly and distribution of finished goods.
The new buzzword among CEMs and OEMs that outsource has become
"box build," and virtually every significant player in the industry is
seeking to expand business and retain its customer base by offering new
levels of box-build, or assembly, service.
There appears to be no limit to the types of systems that OEMs are turning
over to their contracting partners. An informal survey of CEMs showed
these companies are building, among other products: personal, midrange,
and mainframe computers; semiconductor-manufacturing equipment;
medical-diagnostic machines and other medical instruments; video
cameras; and voice and speakerphones. And the OEMs counting on CEMs
to build these systems are among the biggest names in their industries.
"Contract manufacturers are clearly seeing that this is where the trend in
the market is going, and where customer demand is increasing," said
James Savage, an analyst with Alex. Brown & Sons Inc., New York.
Most analysts view the move to box-build services as a natural evolution
of the contracting industry.
A humble beginning
The business got its start in the 1980s, when OEMs began outsourcing
printed-circuit-board (PCB) assembly work on a consignment basis. As
OEMs grew more comfortable handing off work to contractors and the
contractors became more sophisticated, the relationships grew to include
turnkey PCB assembly. In the past three years, the larger contractors have
added design, test, assembly, and distribution to their service menus.
"The demand now is for full-system assembly, full-system integration,
and even direct-order fulfillment," Savage said. "Although the term OEM
may seem increasingly misplaced, the OEM is still the primary designer,
even though on the front end much of the engineering content is also
moving to the contract manufacturer. But certainly in terms of basic
product development, the OEM is responsible. And in the end, they're the
ones who take the risk on the products and technologies."
That OEMs are turning increasing amounts of design, manufacturing, and
distribution of their products over to CEMs is a testament to the
confidence the industry has instilled in its customers, particularly over the
past 10 years, observers said.
"This is ultimately being done to satisfy the customer," said John Tuck,
editor of "Manufacturing Market Insider" (MMI), Needham Heights,
Mass. "That's what contract manufacturers are in business to do, and that's
what keeps them in business. They are looking to provide value-add
whenever and wherever they can," he said. "From the OEM's perspective,
it really makes a whole lot of sense to allow the contract manufacturer to
do the box build, the final assembly and test, and shipping."
Getting accurate projections of
box-build sales has been difficult.
The Institute for Interconnect and
Packaging Electronic Circuits'
Assembly Marketing Research
Council, Northbrook, Ill., has
estimated that box build accounted
for about 20% of total CEM
revenue in North America in 1996.
The 1996 percentage was the same as in 1995, although there was overall
growth in both the total CEM market and box-build sales.
"I think that this year, box build as a percentage of the total revenue is
ready for a major acceleration," Savage said.
Tuck said a recent survey by MMI indicates that among the 50 largest
CEMs, the average percentage of box-build business in 1996 exceeded
15% of total revenue.
SCI leading the way
Among the earliest proponents of box-build services is the world's largest
electronics contractor, SCI Systems Inc., Huntsville, Ala. Box-build
services at SCI are growing steadily and now represent more than half of
the company's revenue, said Olin King, chairman and chief executive of
SCI.
"It will not become 100% of the business by any means, but it's an area
where we expect continued growth, and it could easily reach 65% of the
business," King said. "We believe this is an attractive business area if you
have the right systems to pursue it, and can provide key advantages to the
customer."
The primary investment for CEMs looking to increase box-build
opportunities is in the area of software systems to provide internal
processing capabilities, data collection, and automated shipping to give the
OEM the ability to accurately track the progress of its end product in the
CEM production flow, King and others said.
"Our customers, from their offices, can typically determine within a few
feet on the assembly line the location of an individual serial number. That
kind of capability gets fairly sophisticated," King said. "It's a big
investment in information technology. The big expense is in developing
the software, and it takes a lot of time and effort."
SCI began an intensive effort in the box-build area about five years ago,
when the service accounted for just 10% of the company's total revenue.
From its earliest days three decades ago, however, SCI was completing
systems-level integration for its first customers in the avionics, military,
and government segments of the electronics industry.
At Jabil Circuits Inc., St. Petersburg, Fla., box-build sales have grown
from 10% of total revenue in 1994 to 24% in 1996, and are expected to
reach more than 50% in 1997, according to company president Tom
Sansone.
"It was not so much that the business was desirable, but it greatly
amplifies the value of our solution to our customers by being able to
eliminate a full stage of production," Sansone said. "[Box build] is not
particularly sexy, or even more economically gratifying, but it greatly
enhances our value to the customer.
"I think that in the way that manufacturing has evolved, really astute
OEMs have recognized they can be more focused and aggressive
competitors by putting all the wood behind a single arrow point," he said.
"They are focused on identifying, developing, sponsoring, and launching
their products without having to link those up to the enormous problems
of brick and mortar and staff. The biggest assets that most of those
companies have are product branding and the traditions of delivering
quality products," Sansone said.
In addition to identifying markets and developing products for
manufacture, one of the most important functions of a modern OEM is
picking the right manufacturing partner, he said.
"There is a lot of sophisticated business judgment being exercised by the
OEM," he said. "The benefits of external manufacture of boards has been
established over the last 20 to 30 years, and one of the biggest benefits is
the ability to reduce manufacturing cycle time. The next step is to
consolidate system assembly around the board manufacturer and further
amplify those benefits."
New charter for Solectron
Gary Weiner, vice president and general manager of the Systems and
Service Group at Solectron Corp., Milpitas, Calif., has been helping direct
the CEM to increase its box-build business from about 10% of total
revenue in the company's latest fiscal year.
Although Solectron has been involved in some box-build-level
manufacturing for more than 10 years, "it was about two years ago we had
an inkling that this was going to be very important in the future, and
started putting the structure in place to aggressively pursue the market,"
Weiner said.
It was a year ago that the company specifically chartered Weiner with
developing its box-build efforts on a worldwide basis.
Solectron chairman Koichi Nishimura has stated publicly that Solectron
would like system assembly to represent about half of its revenue.
"We recognize the importance of the market," he said. "We've got locations
in Asia, Europe, and the U.S.A. where we either have or are currently
putting in place systems-build kinds of services, and it's our intention to
continue to perform systems-build activities where it makes sense.
Weiner said: "Many of these customers will want systems built very close
to their end users, which means in-region, and others are wanting to build
systems where there is some other fundamental advantage, such as labor
cost or specific sourcing advantages."
Trying to derive what revenue percentage of a particular CEM, or the
industry as a whole, can be attributed to box-build services "can be apples
and oranges, but the important thing is that the OEMs recognize this as a
critical trend, and we've got to respond and move in the right direction,"
Weiner said.
"Systems build is the next logical step beyond turnkey in the evolution of
the contract manufacturing industry as the virtual production arm of the
OEMs," he said. "When was the last time a consumer or even business
user of a PC or other product really cared if the name on the product was
also the name of the company that built the product? They know that the
name on the product is the company that is going to stand behind it."
Not all design, box-build, and distribution efforts will move to the CEM,
Weiner acknowledged. There are OEMs with particularly difficult new
technologies only beginning to emerge from development stages that will
want to retain a level of board manufacturing or systems integration.
There are also OEMs with existing resources in the form of facilities,
equipment, and employees that are dedicated at some level to the
manufacturing process, and manufacturing will remain part of these
OEMs' core competencies.
The momentum in the electronic products industry, however, has been
toward divesting OEM manufacturing resources. And when OEMs divest,
they usually turn over their operations to contractors. Among the first
OEMs to do this was Hewlett-Packard Co., which sold a manufacturing
operation to Solectron a few years back. Since then, several other OEMs
have sold their plants to CEMs.
This was most recently put into effect when Ericsson Telecom AB moved
to sell its manufacturing facilities in Sweden to Flextronics Inc. and form
manufacturing partnerships with a number of key CEMs, including SCI
and Solectron.
"There are companies today that still build their own PCB assemblies on a
captive basis, and I suspect that 10, 15, and 20 years from now there will
still be companies building systems on a captive basis," Weiner said.
"There is certainly a preponderance of companies, however, that are
moving into outsourcing systems."
The strategy at Reptron's K-Byte unit
Paul Plante, chief operating officer of distributor Reptron Electronics
Inc., Tampa, Fla., and its CEM subsidiary, K-Byte, said box build has
always been a part of the most successful CEMs.
"The desire among OEMs is to do less themselves, but it's like anything
else - they had to learn to walk before they were ready to run," Plante
said.
"Most OEMs have slowly let the contract manufacturers take over that
process, and I think, in their heads, they've known that it was the
direction they wanted to go.
"From our view, it allows us to become even more valuable to the
customer, and creates yet a higher barrier to entry from competition," he
said.
In addition to improved information technology systems, competing in the
box-build market can require capital investment for emerging CEMs such
as K-Byte, which had $101 million in revenue in 1996, about 25% of
which was in box build.
"When you get into that kind of assembly, quite frankly it takes up more
physical space because you're no longer talking about just stuffing circuit
boards," Plante said. "In the last year we moved to add about 100,000
square feet in manufacturing space to help us accommodate the growth of
box build."
Some had it in mind from the start
For a smaller set of CEMs, final assembly and often distribution of end
products have been a specific strategic initiative from inception.
"We're kind of a 'Boards Aren't Us' story," said Mark Stevenson, president
and chief executive of Electronics Manufacturing Services Inc. (EMS),
Longmont, Colo. "We've never done PCB manufacturing or fabrication at
all.
"When the concept for this company was presented to the investment
bankers, we were up front in saying that the world did not need another
competent board manufacturer," he said. "There are some seriously good
companies in that business. What the world was missing, and what the
customers were continually asking for, was a competent, professional way
for them to outsource the box builds."
EMS, which was created in 1994 in a leveraged buyout of an existing
business in Colorado, concentrates on contracts for end products that sell
in the $500,000 to $1 million range. Often the boards in the products can
cost around $25,000 each, and are still configured and built by the OEM.
"I do believe that what people consider box build in this business needs
better definition," Stevenson said. "We go to look at companies for
potential acquisition, and one of the criteria we set is that they have some
capability in the systems area. Yet when you get there, you find them
putting a latch on a door or attaching a fan, and saying this is a system
integration business.
"That's not system integration," he said. "We are building the bloody thing
from a frame to all the cabling, the backplane, the battery packs, and
anything else that goes into the box. When people talk about getting into
this business, they need to understand it isn't screwing stuff together that's
the issue. It's all the front-end materials management and engineering
design for manufacturability services. It's the ability to manage suppliers."
Mack Technologies Inc., Marlboro, Mass., was started in 1993 to
concentrate on the box-build business. Box build requires a business
model that is different from the traditional board-level CEM business,
said Ron Jellison, president of Mack.
"Often in the traditional world, if you get a bad component and it fails on
a board, you just throw the component away," he said. "If you get a trend,
you may go back and work with a supplier, but you typically aren't going
into Intel or Motorola and telling them how to change their process on the
component side.
"On the systems side, our customers fully expect that we will go in and
manage all the quality issues in the supply base," Jellison said. "If we start
getting parts from an enclosure standpoint, or cable assemblies or disk
drives, that have some problem, Mack Technologies has to go to the
supplier and correct the process issues. We must take full ownership and
responsibility for all components we utilize."
Mack has moved in the past year to add more PCB assembly capability,
because the company has found that with boards often representing as
much as 90% of an end product's cost, having control over the
board-assembly process can be key to remaining cost-competitive on the
system side, Jellison said.
Just as companies in other industries have moved to consolidate their
supply and distribution bases, electronics OEMs have begun looking to
consolidate their CEM bases, increasing the need for companies with
box-build capabilities, he said.
"The OEM is getting away from sending out people on planes and visiting
15 to 20 contract manufacturers for every quote," Jellison said. "They are
sorting out the CEMs by capabilities, and as that occurs, I'm not sure there
is going to be enough high-level box-build assembly requirements to be
divvied up amongst 100 different contract manufacturers."
Barbara Rosner, outsourcing operations manager for Apple Computer
Inc., Cupertino, Calif., said Apple has increasingly turned to
box-build-capable CEMs such as Mack over the past 10 years.
"The question has always been what is the best model from an
asset-management perspective," she said. "I think Apple has always
invested a lot in our supplies, and we have looked to our suppliers to
provide a lot of added value, from the component level to higher levels,
such as full systems manufacture."
As an OEM, Rosner said, Apple has looked to align itself with CEMs that
have expertise in critical areas, such as mass storage in relation to Mack.
With a large company like Apple, often a portfolio of partners is
developed to bring differing capabilities to the table, depending on the
specific end product being built.
"Often in a sense you're going to look for a partner that is going to mirror
perhaps some of your own internal expertise, but instead of having to
make all that investment on your side, you'd rather see that investment
made on their side," Rosner said.
"In day-to-day interaction the [CEM] can come to mirror very much the
same kind of personality that we enjoy over here," she said.
An eye on margins
As box-build services have grown in the CEM industry, companies
increasing their stake in the business have been carefully watching their
bottom lines, concerned over whether such a change in direction will
affect the industry's already thin profit margins.
Early indications of the impact of box build on margins seem to suggest
that it is neutral, although there is potential for dwindling margins.
"There are some box-build projects that can have an enormous materials
content in relation to manufacturing content, with the result that the
margins on the system assembly will be much lower," said Jabil's Sansone.
"But from a return-on-assets-employed standpoint or overall profitability
measure, it can be very attractive," he said. "Gross margin can be a
deceptive measure of determining the attractiveness of the business."
Sansone said Jabil has been able to keep its increase of box-build services
margin-neutral by keeping a close watch on inventories.
"System assembly includes high-velocity sale of disk drives, memories,
processors, and software. The resold materials content, if you run it really
well, can be kept to an internal ownership of a couple of days," he said.
Solectron's Weiner said that CEMs that are increasing box-build efforts
"clearly have less room for error, and a great deal of emphasis needs to be
placed on material logistics," but that the potential reward is great.
As box build increases as a percentage of CEM industry revenue, CEMs
will start realizing a greater percentage of the total available market
(TAM) for electronics production. Industry estimates show the CEM
industry currently is tapping only about 12% of the TAM.
"If you look at the entire size of the electronic equipment market, and
look at how much is actually being outsourced, the vast majority of
equipment is still being done on a captive basis," Weiner said. "System
assembly is coming in bigger chunks than PCB assembly - bigger dollar
chunks. There is so much growth there that is just beginning to be
realized."
SCI's King warned that while his company has enjoyed great success in
this arena, not all newcomers to the business can be successful at system
assembly.
"There have been some who have made a lot of noise about this and have
not been terribly successful," he said.
"Customers have to have confidence in our ability to do this, and the
customers have to believe they are going to save a bunch of money by
doing it. That's the key issue.
"Some customers will never go to box build," King said. "Some customers
are open to this, just like some customers have been open to outsourcing
subassemblies and some customers are not. The big advantage to the
customer is in reducing capital costs and reducing inventory exposure -
the same advantages that outsourcing has in general. We can do it cheaper,
faster, and at less total cost to the customer."
In addition to CEMs, OEMs are looking to other parties to perform
system assembly services.
Industrial electronics distributors, for instance, are aggressively pursuing
system contracts from top computer markets. Wyle Electronics Inc., for
instance, builds various systems for Intel Corp. and Digital Equipment
Corp.
At its Value-Added Distribution Center in Phoenix, Wyle has added a
significant amount of space for its assembly business, said Karl G.B.
Stjernquist, the plant's general manager.
Other top distributors, including Bell Industries, also have expressed
interest in increasing their assembly offerings.
So far, much of this work has been isolated to computer systems, but some
analysts say distributors will offer this service to OEMs in other industry
segments as well.
In addition to distributors, value-added resellers are performing system
assembly. A number of major computer makers are counting on "channel
assembly" to get products to their customers quicker, as well to help cut
costs. |
