How to select EMS providers: Factory tours, smoke, mirrors
Parking lots reveal a lot about EMS company management execution but EMS performance metrics don’t mean a thing. Understanding geographic value added revenue (VAR) models can help OEMs get the best price.
You’re now approaching the electronics manufacturing services (EMS) factory. As you do so, pay close attention to the outside surrounding area. Notice the condition of the grounds surrounding the EMS facility. You might ask: What’s a parking lot got to do with the manufacturing floor?
From the moment the OEM drives onto the EMS property there are clues to how or whether the EMS provider will or can perform when trying to meet or exceed quality, delivery and price requirements demanded by OEMs.
These clues, if the OEM is observant, can be seen in the parking lot and can set the stage for an entire OEM site visit.
Yes. The parking lot can make or break a site visit even before the OEM steps one foot in the EMS provider’s front lobby.
Enter Walt Wilson
Walt Wilson, a high-level Solectron executive and Company board member in the late 90s (Solectron was acquired by Flextronics, 2007), once stood before our entire Solectron sales force and told our group how important overall perceived appearances should be to EMS providers large and small. Walt was not talking about fancy, plush buildings and bleeding-edge equipment on shiny factory floors.
He was talking about parking lots.
Citing specific examples for us, Walt talked about the numerous times when he would exit his car in the mornings and see paper and trash scattered about on the Solectron lots.
In most cases, executives of Walt’s caliber simply walked past the trash. Sometimes they called maintenance personnel, telling them to pick up the litter.
Walt would grab a garbage can and proceed to walk around the parking lot, bending over to pick up each piece of trash with his own hands. Some might think: what does this have to do with an OEM’s EMS site visit?
This is significant. For one thing, keeping parking lots free of trash conveys to others the EMS provider cares about appearances and organization outside the building. This attention to detail outside can most likely be construed as the EMS provider also carrying about effective management of people and processes inside the building.
For another thing, if company executive personnel are willing to police trash outside, they’re also likely to engage themselves more easily in other areas of concern – like directly responding to pressing needs communicated by their OEM customers.
As anyone in industry really knows, electronics manufacturing is more art than science. It’s riddled with challenges. OEMs want to know EMS executives are not going to pass the buck. OEMs want to know EMS providers will address their needs in times of urgency — even if whatever supportive or corrective action taking place occurs at the EMS executive level, when in fact, it should have taken place one or two levels below but, for whatever reason, whatever needed to be done was not executed or at least it wasn’t done properly.
The bottom line is, it’s not about the EMS provider who has the best state of the art SMT equipment or, who has the fanciest buildings, it’s about the people and processes behind the equipment and building façade.
From top company management, to hourly employees working on the manufacturing floor, these individuals and the processes they put in place are the most important topics the OEM should be asking questions about once inside the building.
Matching EMS business model to OEM needs
Some OEMs may require a path-to-volume from alpha and beta build plus scalability into production. Do the EMS provider’s capabilities support this type of path? Can the EMS provider build initial new product introduction (NPI) prototypes and then scale to OEM volume production?
If the OEM needs help with front-end product design or design help post production launch does the EMS provider have an adequate engineering department that can help? If the OEM only needs a portion of these services does the EMS provider provide that particular portion?
Finding the right business model and manufacturing services match is paramount when choosing the right EMS provider. OEMs should not get engage EMS providers only to later find out they cannot meet certain product demand or price points the OEM feels it must be at to be competitive in their marketplace, whether in the initial NPI stage or in the full, low-cost production stage.
But, let’s say you have a short list of EMS providers that might be a good match. Now what?
The site visit.
Behind these walls
Once inside the building, EMS providers usually shuffle the OEM into a conference room and proceed to tell the OEM how great their quality and delivery is: 98.5% and getting better every month! Naturally, EMS providers have the graphs and charts proudly displayed on walls to prove this. This really means nothing.
The person who usually puts these metrics together typically sorts through the facility’s customer data, picks the numbers that look the best, enters them into a spreadsheet making the graphs and charts, and puts them on the wall as instructed to do so.
After EMS providers tell the OEM how great they are at quality and delivery, EMS ‘tour guides’ then shuffle the OEM to the manufacturing floor to showcase the building and equipment.
EMS providers want to show OEMs they have spent hundreds of thousands, or even millions of dollars on equipment. Again, this really means nothing except, at one time they may have had a lot of money.
Financing good EMS
EMS providers are hit especially hard in tough economic environments. OEMs should grill EMS management with questions to better determine how well an EMS provider can weather challenging economic times.
The financial health of publicly traded EMS providers such as Celestica, Flextronics, Jabil and Sanmina-SCI can easily be checked by pulling up ticker symbols on Yahoo! However, doing this can be much more difficult for regional players spread across the globe. This lack of financial transparency alone can be good reason for OEMs to be leery. OEM’s should require non-publicly traded EMS providers to respond to the following questions:
- How many years has the EMS provider been in business?
- How many total years of experience does executive management have in the EMS industry?
- What were annual sales (U.S. dollars) each year, for the past two years?
- Is a balance sheet review possible? If not, why not?
- Are there plans to expand? If so, what is the source of capital for expansion?
- Can the EMS provider show the company is financially stable using generally accepted accounting principles?
- Is the EMS provider able to demonstrate a trend of continuous sales and profitability over the past five years?
One reason EMS financial stability must be important in the mind of the OEM is because cash is required to establish proper supply chain infrastructure to adequately pipeline materials and serve OEM programs.
Without cash and relative financial stability the EMS provider will not be able to purchase the material and get it on site in time to meet OEM shipment schedule requirements.
The other reason lies in the fact a lot of time is invested in establishing and building supply chains and relationships. If the EMS provider goes out of business, the time and knowledge that went into building a particular OEM product could be lost.
OEM’s should ask EMS providers the following questions to assess on-time deliver capabilities:
- How many shifts are currently staffed?
- How many hours worked per shift?
- How many days worked per week?
- What is the current on-time delivery performance relative to customer request?
- What is the current on-time delivery performance relative to EMS provider commit?
- Does the EMS provider have a process for identifying and notifying customers of manufacturing alerts for non-conformance product or late deliveries?
- Are written procedures in place for including proper packing lists, invoices with each shipment?
- What experience does the EMS provider have with pull systems? (i.e. Kanbans)
- Does the EMS provider implement lead-time reduction programs?
- Is accuracy of EMS provider orders monitored?
- Does the EMS provider track feedback on these concerns from the OEM? If so, is it available for review?
The questions above are significant because delivery commitments can vary greatly even across the same product family. Taking a closer look, if the OEM requests a delivery date and the EMS provider is committing to a different date because of material lead-time issues this is usually a good reason to measure performance based on commit date.
However, if the EMS provider commits to the OEM based on request date and then later comes back and says he cannot deliver in the time-frame previously committed to…this is usually an internal EMS problem.
Re-commitments by EMS providers usually signal problems in the EMS provider’s internal processes. If the program is turnkey, and the EMS provider is purchasing the material on behalf of the OEM, the problem is usually centered around how the EMS provider procures his material.
Effective procurement and materials management
OEM’s should ask EMS providers the following questions to assess effective procurement and materials management practices:
- Does the EMS provider have incoming materials control systems?
- Are methods for handling product to prevent damage or deterioration in place?
- Is material properly identified and controlled by part numbers, test, and processing steps throughout the manufacturing process?
- Does the EMS provider employ cycle counting techniques?
- When the OEM notifies the EMS provider of defective product, how long does it take the EMS provider to contain that product? 24 hours? 48 hours?
- Does the EMS provider have a contract review process?
- Does the EMS provider track PPV (purchase price variance)?
- Does the EMS purchasing team actively seek cost reductions?
Building quality into the product
OEM’s should ask EMS providers the following questions to assess quality commitment and capabilities:
- Is a documented quality system in place?
- Is the EMS provider ISO 9000 registered?
- Are clearly defined processes for inspection and test in place?
- What sort of escalation processes are in place for yields below threshold minimums?
- Does the EMS provider measure number of defects?
- Does the EMS provider have a written procedure for corrective and preventive action when defects occur?
- Does the EMS provider have a process for internal audits?
Competitive pricing and the Holy Grail
Because of the general make up of the EMS business model, providers are afforded a multitude of ways to target outsourcing cost reductions. Servicing multiple OEM customer programs in one facility, or across multiple locations, is one way they can do this. Having EMS factories in low-cost regions is another helpful benefit in lowering the EMS provider’s cost of doing business. Whether he passes on these savings to the OEM is not always certain. OEM’s should ask EMS providers the following questions to assess competitive pricing capabilities:
- Is the EMS provider willing to share a raw, costed bill of materials (BOM) to help the OEM understand actual material costs?
- Is the EMS provider willing to show historical examination of actual costs and projected costs?
- Does the EMS provider have methods to drive down material costs over the long-term?
- Are EMS provider margins competitive with the industry?
- Is the EMS provider willing to set-up quarterly cost meetings to discuss methods to help drive down pricing charged to the OEM?
Pricing with EMS providers can vary widely depending on the overall quantity and type of product the EMS provider builds. The best method for truly understanding EMS pricing and measure pricing worldwide is to look at the value added revenue or VAR structure of the EMS provider.
This is the ‘Holy Grail’ in how to analyze the competitiveness of an EMS provider and the end pricing (or cost) to an OEM.
A simplified VAR explanation for building an OEM turnkey manufacturing product, for instance, you need at least two things to execute the build: 1.) the material provided in a BOM, and 2.) the labor required to assemble the material together thus creating the OEM end product.
The cost of the material is a fixed cost the EMS provider pays directly to his suppliers. The material mark-up plus the labor and possibly any test is considered VAR which is in addition to the material cost incurred by the EMS provider. Simply put, VAR is everything added to actual material or BOM cost to build the OEM end product.
Any EMS provider building OEM products in North America less than 20% VAR is most likely losing money, and will most likely not be around for the long-term. OEMs should examine this pricing structure closely since it is a guide to the long-term financial health of the EMS provider.
VAR is usually higher on NPI products because it is a time-to-market equation verses a cost-to-market scenario. OEMs do pay for getting the product to them quickly when they need this service.
EMS VAR structure pricing is different depending on various regions of the world.
- North America prototypes: 50%+
- North America low-volume / high mix production: 30% to 45%
- North America production: 20%-30%
- Mexico production: 15% to 20%
- China production: 10% to 15%
China and Mexico VARs are typically below 20% because of lower labor rates in these ‘low-cost’ countries, which is why these destinations are so attractive to high-volume / low-cost OEMs.
If the OEM understands this pricing and VAR structure, he can negotiate smartly with any EMS provider from an upper hand perspective and ultimately have a greater chance of securing the best deal.
Ask the right questions
No two EMS providers are alike. Furthermore, using a standardized EMS provider evaluation, or audit checklist, while helpful, cannot always cover every concern. Above all, finding the right match for the OEM is indeed important when looking at providers.
While being guided through EMS facility tours, OEMs must keep in mind it is the EMS provider’s processes and the people that manage such processes that truly make the difference when it comes to quality, delivery and price.
OEMs need to ask very specific questions in order to truly understand the predicament they could be finding themselves in once the smoke clears and the mirrors in a typical EMS factory tour are gone, to determine if there really is anything left except a dirty parking lot and plush buildings filled with expensive equipment.