Richard read this it is very enlightning,reguarding how the pro's value the emc's.Patroller Investors should adjust focus
By J. Keith Dunne; Robertson, Stephens & Co.
Over the past year, the average stock price in our 26-company electronics
manufacturing products and services (EMPS) universe has more than
doubled. Despite more widespread interest in EMPS, I find many investors
do not understand the basic business models underlying its various segments,
and tend to pay too much attention to operating margins and not enough to
returns on value-add and invested capital (ROIC)
In the past year, EMPS operating margins have varied from a low of 3.6%
for SCI Systems Inc. to 12.5% for Hadco Corp., 14% for Sanmina Corp.,
and 22.7% for Vicor Corp. Unfortunately, some investors equate low
margins with commodities and shy away from these investments, since
commodities offer little protection from competitors.
The single biggest factor for the variance in operating margins has to do with
the level of pass-through material content. For example, for every sales
dollar, a printed-wiring board contains an estimated 25% to 30% of
materials, compared with an estimated 87% to 92% for a PC assembly.
Investors would be better served by focusing on the value-add that EMPS
companies provide by producing, testing, and delivering high-quality products
in a very cost-effective, responsive, and flexible manner. Return on value-add
is a much more effective tool in assessing the importance of a company's
products and services, because it adjusts for variances in materials content.
Return on value-add can be calculated by dividing operating margins by the
value added, which can be defined as sales less the percentage of
pass-through material content. The underlying principle is similar to the
concept used in Europe to assess value-add taxes. More important, it works.
The return on value-add for turnkey electronics manufacturing services
operations is 30% to 35%, regardless of whether the company participates in
the high-mix, low-volume; low-mix, high-volume; or PC-assembly
subsectors.
Importantly, most EMPS companies are able to supplement these high
returns on value-add with strong asset utilization to achieve ROICs of more
than twice the 10% rate of the S&P Industrials. On average, the EMPS
universe that Robertson, Stephens surveys is expected to generate ROICs of
23% in 1997.
We believe valuing companies using ROIC compared with the ratio of
enterprise value to invested capital (EV/IC) is much more enlightening than
traditional P/E-to-growth measures.
Copyright (c) 1997 CMP Media Inc.
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