EMS industry Q2-07 DealReader summary - Lincoln International

August 22, 2007

There were fifteen completed transactions in Q2 2007 compared to fourteen in the previous quarter. EMS consolidations represented seven transactions, or 47% of total activity in the second quarter of 2007, as compared to six transactions, or 43% of total activity in Q1 2006.

OEM divestitures decreased in number from one in Q1 2007 to zero in Q2 2007. Vertical / horizontal convergences increased from four transactions in Q1 2007 to five in Q2 2007, representing an increase in percentage of total transactions from 29% to 33%.

There was one EMS divestiture closed in Q2 2007, the same as the number in Q1 2007. There were also two private equity investments in Q2 2007, the same number as in Q1 2007.

As is illustrated in Chart C below, three, or 20%, of the deals in Q2 2007 were cross-border. Within this category, one transaction was between high-cost regions compared to three in Q1 2007. Two transactions in Q2 2007 were completed between high-cost and low-cost regions, compared to zero in Q1 2007.

For Q2 2007, seven transactions occurred within the U.S. / Canada region compared to five transactions in Q1 2007. Four of the closed transactions in Q2 2007 occurred within Europe and one was reported from within Asia, compared to five and one, respectively, in Q1 2007.

Note: “High / High” indicates cross-border transactions between Japan, Taiwan, Western Europe and U.S. / Canada; “High / Low” indicates cross-border transactions between high-cost regions and low-cost regions.

Transactions for the quarter were led by the Micro Tier, totaling ten, or 67%, of all transactions. Large Tier EMS providers closed a single transaction, representing 7% of the total. There were two Small Tier transactions (13% of total) and two Mid Tier transactions (13% of total) closed in Q2 2007.

Margin Squeeze and Expansion: An Exploration of Margin Performance in the EMS Industry

With corporate restructurings a thing of the past for many EMS companies, margins have flattened across all four tiers. In order to increase margins, EMS companies are looking to make moves both internally (operational improvements) and externally (acquisitions).

The three graphs below provide a summary overview of gross margin, operating income margin and EBITDA margin performance from 1997 through today.

Each graph shows the margin performance by size tier.

In terms of margin performance, every tier showed declining performance from FY 2006 to Q2 2007 LTM in gross margin, operating margin, and EBITDA margin. This compared to the Micro and Small groups improving both gross margins and operating margins from FY 2005 to FY 2006.

On a relative basis, the Large group had the lowest LTM margins of all the tiers due to its high volume/low mix business model. The Small group, which had the highest LTM margins of the four tiers in all three categories, have experienced slightly declining margins.

As demand increases and capacity utilization reaches higher levels, we would expect to see slight margin improvements in the second half of the year. While typically the most volatile group, the Micro group’s margins were only slightly lower.

On a percent change comparing the Q2 2007 results with the same period a year ago, Solectron Corp. showed the most improvement in operating margin from 1.1% to 1.6% in the Large Group; Plexus Corp. led the Mid Tier with operating margins improving from 4.0% to 5.8%; for the Small Group, SMTC Corp. improved operating margins from 3.2% to 4.2%; and in the Micro Tier, IEC Electronics Corp. led all others improving operating margins from 1.3% to 3.0%.

Source: www.lincolninternational.com