Evaluating the Contract Manufacturers
Damon is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Electronics Manufacturing Services (EMS) providers’ stocks often trade at low valuations relative to the broader market. This may be because of their thin operating margins, as well as often their reliance on a small number of customers, and sometimes frequent restructuring activities. Nevertheless, with numerous industries ramping up their outsourcing of production, there could be some upside to be found here. Factors to consider include in what end markets a company is situated and the array of service offerings it promotes. In terms of risk, it is worth researching a firm’s operating margins and customer diversification.
Flextronics International (NASDAQ: FLEX)
FLEX’s primary line of business involves catering to telecommunications infrastructure producers such as Cisco Systems and Ericcson. Demand has a bit been soft this year in that category. Its largest client is Hewlett Packard, where there have been challenges of late, too. FLEX’s recent exit from the original-design-manufacturing PC sector has allowed for margin improvements. It has a considerable mobile presence, as Research in Motion (RIM) contributed more than 10% of revenues last fiscal year. Some other positives consist of FLEX’s vertically integrated approach, global facility base, and the fact that it has only one 10% customer at this time (top 10 customers are 49% of total revenue). The approximately $4 billion market cap company trades at a subdued P/E ratio. Thus, it could be a good long-term holding. For now, we recommend awaiting a consistently upward earnings pattern.
Celestica (NYSE: CLS)
Celestica delivered a solid 2011 performance, but this year has not been as rosy and management is embarking on a restructuring. Enterprise communications original-equipment-manufacturers (OEMs) comprise its largest customer contingency. The story here, though, could be CLS’s completion of work with RIM as of this past June, cutting its consumer products exposure. As it incurs one-time charges to exit the RIM deal, operating margins might well remain squeezed. However, the ultimate goal is a more streamlined global production foundation. Celestica is less diversified than others, with 10 customers contributing 69% of revenues. But, it markets a “Total Cost of Ownership” strategy that addresses the total supply chain cost and is looking to expand its array of services, efforts that could be rewarded. In all, only the most patient investors should probably consider CLS stock at this juncture.
Jabil Circuit (NYSE: JBL)
Jabil’s revenues are growing, though last quarter’s profits took a hit from new program ramp costs. Its end markets are varied, while it, too, has a significant foothold in the mobile consumer sector. Jabil reports that 13% of last fiscal year’s revenues were derived from Apple. Cisco and RIM were also named as 10% customers. Indeed, five customers accounted for 48% of revenue last year, meaning it is dependent on a small number of clients. JBL has been out of favor with Wall Street in the past several months. It will be interesting to see what the company will tell investors in its December 19 earnings release. Disregarding this, it seems to be a decent near- or- long-term investment.
Benchmark Electronics (NYSE: BHE)
Benchmark is noteworthy for its focus on attaining new production contracts from both new and existing customers, a strategy currently supporting high-single-digit sales growth and gross margin widening. It had formerly relied heavily on Sun Microsystems for a hefty portion of revenues; that was until Sun was acquired by Oracle. BHE maintains a substantial presence in the computing market (around 30% of revenues) and its largest client is now the much more stable IBM. Benchmark’s ten largest customers were responsible for 53% of sales in 2011. Besides computing, it has sizable exposure to the industrial control equipment and telecom equipment sectors (27% and 28% of sales respectively). Benchmark shares look appealing for near-term price appreciation.
Plexus (NASDAQ: PLXS)
Plexus shares fell severely in November after its largest customer, Juniper, decided to exit its relationship with Plexus. Juniper contributed 16% of fiscal 2012 sales. The situation points out a risk prevalent among these companies. Like Flextronics, attributes a large portion of its top-line to networking/communication customers. However, its share of that market has been declining over several years. It also serves the industrial/commercial and healthcare/life sciences to substantial, albeit lesser, extents. PLXS’s earnings fell last fiscal year, and due largely to the aforementioned challenge its near-term prospects are unclear. The stock is therefore only a long-term choice at this time.
EMS providers’ share prices could benefit from upturns in telecom equipment or mobile consumer markets. Each should be considered on its own merits. Also, remember to weigh the risks of the failure of a major client or two.
dctotal has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!