Commentary: Why Singapore Is Unloading an Icon

Just a couple of years ago, NatSteel Electronics Ltd. was an exemplary Asian success story. Under the guidance of Chester Lin, an imaginative CEO who is anything but risk-averse, the Singapore contract manufacturer did brilliantly at assembling name-brand computers for high-class clients that no longer wanted to run their own factories. NatSteel Electronics was paid in hard currency and boasted such rapid profit growth that it managed to weather the Asian crisis.

But NatSteel Electronics has become a parable of how difficult it is for Asian players to compete against outsize global corporations in the fast-growing contract manufacturing business. Quick though it was to latch on to industry trends and identify best-selling products, NatSteel Electronics fell behind its U.S.-based competitors, which have deeper pockets, are geographically closer to their clients, and are better at cutting costs.

PRETTY PENNY. As a result, the Singapore government, which owns NatSteel Electronics' parent, NatSteel Ltd., agreed on Oct. 31 to sell out to industry leader Solectron Corp. in Milpitas, Calif., for $2.4 billion. The sale is part of Singapore's long-stalled initiative to force sprawling, unwieldy government-linked companies (GLCs) to offload noncore assets. In fact, NatSteel Electronics is superior to many other GLCs, but its sale will make it easier for Singapore Inc. to make other painful decisions.

To their credit, Singapore's policymakers are unashamed of letting a big fish swallow one of their fastest-swimming minnows. Having decided to sell, the government's goal was to get a premium for NatSteel Electronics' shares, which dropped by 80% between Mar. 9 and Oct. 18. After two months of shopping the company around, NatSteel Ltd. sold its 33% stake to Solectron for twice the market price.

It's not hard to see why Solectron paid a premium. Much of NatSteel Electronics' value can be attributed to CEO Lin. Before leading a management buyout of the company in 1994, he ran the Singapore operations of SCI Systems Inc. (SCI) of Huntsville, Ala.--the company that practically invented contract manufacturing. After taking over NatSteel Electronics, Lin demonstrated a knack for spotting trends and sniffing out the right product lines. In 1997, he acquired a plant from Apple Computer Inc. (AAPL) at a time when that company was in trouble. Soon after, Apple rolled out the best-selling iMac, for which NatSteel made motherboards.

Sudden success prompted Lin to embark on a global expansion binge. NatSteel Electronics began buying up and opening factories from Mexico to Hungary. At first, the strategy seemed to be working. NatSteel Electronics' profits rose 100% in 1997 and 80% in 1998. But last year, they were up only 20%--and suddenly the company was vulnerable.

Over the past three years, Solectron (SLR), Flextronics International Ltd. (FLEX), and other players have bought plants from such clients as IBM (IBM) and Ericsson (ERICY). By building up economies of scale, they manufactured products more efficiently than their clients could have done themselves. And they spread their risk among various customers. By contrast, NatSteel Electronics became addicted to one client--Apple, which made up 53% of its annual revenues of $2.5 billion until October, when Apple announced a projected 15% drop in sales. Clearly that would badly dent NatSteel Electronics' bottom line.

IN THE LOOP. And so a Singaporean icon of national development became takeover bait, an increasingly common occurrence. Over the past two years, companies from Flextronics to Jabil Circuit Inc. (JBL) in Detroit to Dii Group Inc. (DIIG) in Niwot, Colo., have acquired Asian contract manufacturers or plants. The only companies to buck this trend so far are the mainly Taiwanese ''original design'' manufacturers that add value by actually developing new products for their clients.

Until recently, Asia seemed to own contract manufacturing. But cheap labor and engineering costs are no longer a big advantage. Nowadays, the key is a strong presence in Silicon Valley and Western Europe, where most decisions are made. Because NatSteel Electronics was a Singaporean company, Lin was out of the deal-making loop. In the end, the winners in the contract manufacturing game will be companies like Solectron and Flextronics that can tap Wall Street for capital and boast tight client relationships with the world's biggest electronics and telecom companies. Unfortunately, NatSteel Electronics and its ilk simply cannot compete.

By Michael Shari
Shari is Singapore bureau chief.

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