Here Comes the Contract-Manufacturing Crunch

(MoneyWatch)  Any time contract manufacturing (CM) in electronics feels pressure, it's only a matter of time before the effect hits the rest of the industry. According to an iSuppli study, there's been a sharp contraction in CM growth that will result in major consolidation. It will only be time before the impact transmits to everyone, from a Microsoft, Apple, Cisco, or HP to start-ups.

Contract manufacturing companies have seen a a 15.9 percent compound annual growth rate from 2002 to 2007 -- enviable to many businesses, but a sharp down-shift from the 49 percent of the 1990s. Some of the reasons:

• When an industry hits $305.7 billion, as CM did in 2007, it's tough to keep growing at a high rate, because there's only so much business out there.
• Electronic manufacturing services (EMS), companies to provide a broad range of manufacturing capabilities to companies that have their own product designs, and original device manufacturers (ODMs), which focus on specific types of products and do everything from the engineering to manufacturing, are trying to move into each others business, increasing competition.
• As EMS companies move into higher margin ODM work, they find it's a difficult shift that will distract management.
• OEMs are changing their procurement strategies, presumably to keep costs in line.
• A contracting economy and shrinking consumer demand will translate into lower needs for manufacturing.

Already CMs are feeling the pinch in markets like smartphones. At least one planned merger has already been suspended. And yet, consolidation will ultimately be the result. According to iSuppli's interviews with top CM executives, at least one of the major suppliers will cease to exist by 2013. A little imagination suggests that consolidation could affect prices to customers, as there would be fewer competitors for purchasing departments to play against each other.

It's easy to forget just how pervasive CM is in high tech and how many companies would feel the effect. For example, ODM firms create and build the laptops for HP and Dell. Cisco, Microsoft, Nortel Networks, Xerox, Dell, and Eastman Kodak all use EMS vendors.

Production floor image via Flickr user st3ve, CC 2.0