The rise of smartphones hurt EMS and ODM

IHS iSuppli's research shows that the economic recession and the increase in smartphone sales will hit contract manufacturers in the global mobile phone market. In the next four years, the market share of these manufacturers in the mobile phone market will be less than 30%.

Contract manufacturers, including companies engaged in Electronic Manufacturing Services (EMS) and Original Design Manufacturing (ODM), accounted for 25.2% of global handset shipments in 2009, down from 27% in 2008. The impact of this decline will persist for a long time. In 2014, the share of mobile phones produced by contract manufacturers will be only 27.9%, which is only less than 1 percentage point higher than in 2009. Such a slight increase is a stumbling block to contract manufacturers. At the beginning, the share of these manufacturers in the field of mobile phone manufacturing has been steadily expanding. In 2005, the share of shipments exceeded 31%.

As the global economy has experienced the worst recession in decades, consumer demand for mobile phones has shrunk in 2009. As a result, some handset OEMs are trying to reduce costs and recoup some of the original outsourced production operations to optimize internal capacity utilization. Companies that take this strategy include the world’s largest handset OEM Nokia and Samsung Electronics, the second-largest handset OEM.

At the same time, OEMs with higher outsourcing ratios, such as Motorola and Sony Ericsson, adjusted their product mix to reduce their dependence on low-cost, low-margin mobile phones, which were mostly outsourced to contract manufacturers.

In either case, the contract manufacturer’s shipments will drop and the production capacity will be idle, which will prompt IHS to maintain a conservative outlook for mobile phone outsourcing.

The role of outsourcing dropped to the point when the economy began to show signs of recovery in 2010. The mobile phone market has already changed and smart phones have become the main force in the market. The factors that helped the contract manufacturers achieve success around 2005, including the design and production of highly commoditized mobile phones at competitive costs, are no longer seen as effective competitiveness for this market that has changed.

Many OEMs still want to maintain internal control over smartphone design and manufacturing activities. Not only do they want to maintain better control over quality and supply chain activities, but actually only a few contract manufacturers can adapt to the shift to smart phones. The only contract manufacturer with strong smartphone design and manufacturing capabilities, ODM manufacturer HTC, has decided to fully focus on its own brand.

Private-label smart phone OEMs, such as Apple and Research in Motion (RIM), currently use only contract manufacturers to provide EMS services. RIM and Apple's 2010 shipments and market share both increased, benefiting contract manufacturers' support.

However, although the operating income and profits of the EMS providers that provide services for the two OEMs have increased significantly in the past two years, the future EMS providers may not continue to receive such benefits. Apple, as a design company, is unlikely to find new contract manufacturers that have not previously worked with products such as the iPhone. At the same time, the growth prospects of RIM's BlackBerry are uncertain. The success depends on how it competes with the increasingly popular iPhone and Android smart phones. If RIM's shipments start to stagnate or decline, it will adversely affect EMS providers such as Flextronics.

Other contract manufacturers such as Foxconn, Compal Communications, and Arima Communications will not be able to cope unless they can further develop their smartphone capabilities and provide one-stop solutions to OEMs (especially OEMs based on the open Android platform). Shipment stagnation and profit margin decline.