Part 1 of a report looking at the Philippine electronics manufacturing landscape and how regulatory issues could wreak havoc for the industry.
The semiconductor and electronics manufacturing industry is the biggest economic growth driver in the Philippines. Mainly composed of semiconductor manufacturing services (73%) and electronics manufacturing services (EMS) firms (27%), the industry employs around 3.2 million direct and indirect workers. In 2018, the segment accounted for about $37.57 billion of commodity exports—representing more than half or about 55.67% of the country’s total exports—up by 2.83% from 2017 figures, according to the Philippine Statistics Authority (PSA).
From January to September 2019, total electronics exports grew to $32.22 billion, up by 2.25% from the same period last year, and accounting for 61.3% of the Philippines’ total exports, data from the Semiconductor and Electronics Industries in the Philippines Inc. (SEIPI) shows. SEIPI is the largest organization of multinational and Filipino-owned semiconductor and electronics companies in the Philippines, with over 346 members, including manufacturing firms, allied and support industries, and the academe. For the full year 2019, SEIPI expects the country’s electronics industry to register a 3% growth in total exports despite the flat growth in the global semiconductor market.
The Philippines has several big, multinational and Filipino companies, who have significant design as well as R&D activities with substantial investments and have the critical mass of engineers and designers in the Philippines.
Majority of the semiconductor and electronics firms in the country are located around Metro Manila, the CALABARZON region (Cavite, Laguna, Batangas, Rizal, and Quezon provinces), Northern and Central Luzon, and Cebu, and have capabilities ranging from IC packaging, PCB assembly, and full product assembly. In terms of workforce, the Filipino talent pool is highly competitive, English-proficient, adept at technology, and has short learning curves.
Dr. Dan Lachica, president,
There are several homegrown electronics manufacturers in the country, whose competitiveness and capabilities are considerably at par with their peers in the region. For example, when it comes to full turnkey operations, the country has among the best manufacturers in the industry. Local companies can also provide consigned PCB assembly services, and even dedicated assembly lines.
“For the type of products that we export, for example, automotive electronics and consumer electronics, some Filipino firms are stepping up,” says Dr. Dan Lachica, president of the Semiconductor and Electronics Industries in the Philippines Inc. (SEIPI). “IMI [Integrated Micro-Electronics Inc.] has automotive cameras being designed and made here. Ionics EMS has contracts with global brands in smart home devices. For other subsectors, there are plenty of opportunities for homegrown electronics manufacturers to dare to compete.”
Regulatory Issues and CITIRA Woes
Despite its resilience amid the global industry slowdown, the Philippine electronics manufacturing sector continues to face challenges, and remains stagnant when it comes to homegrown technology development.
“Our industry faces many issues, spanning from legislative issues such as the Corporate Income Tax Reform and Incentives Rationalization Act (CITIRA), regulatory issues such as inefficiencies in permit issuance, and inconsistent surety bond computations for interzone transport, among others,” says Lachica.
Earl Qua, President of EIAPI
But right now, according to Lachica, the biggest challenge facing the industry is the CITIRA bill, which will affect the competitiveness of locators in the Philippines because all other major components in operating costs are already higher—power is 40% higher here than in Vietnam, while logistics services and labor costs are 10% and 28% higher, respectively, than the ASEAN average. This, on top of the impact of the growing number of special non-working holidays in the country.
“Changing the fiscal incentives will severely decrease the attractiveness of the Philippines as an investment destination for semiconductors and electronics. Passing CITIRA in its current form will result to the loss of an estimated 380,000 direct jobs and 2.66 million indirect jobs from 2022 to 2026,” says Lachica.
“If you look at manufacturing, about 70-90% of our cost is driven by direct materials, which are the components. Now, what CITIRA does is add friction to both the flow of goods and the cashflow of certain companies. When a company—either an EMS or a semiconductor company—quote a customer, the numbers calculated go to four zeroes after the decimal point. That is how razor-thin the margins are,” explains Earl Qua, President of Electronics Industry Association of the Philippines Inc. (EIAPI). “It is typical for our margins to be in the single digit range. Now, the inefficiency of CITIRA—with you having to monitor the HTS [Harmonized Tariff Schedule] codes, having to file for reimbursements of taxes—could potentially exceed the cost of our margins just by factoring in the frictional cost. And that’s not even counting the additional taxes. That’s just the inefficiency. A lot of companies will not be able to absorb that additional cost, given the already razor-thin margins. So, you could see this as potentially an existential threat, because if you are losing money at every transaction, that is not a sustainable situation for any company large or small. That’s one of the issues that we are concerned with.”
According to Qua, this is not a plus or minus situation because there is a cascading cost. “The friction will introduce additional costs apart from the net cap tax value, because you are introducing an inefficiency in the market,” says Qua. “We’ve had some conversations with our customers. The opportunity is there, but the impact to the Philippines will be hampered because of this. One, we don’t know how it is going to be, and so from a quotation point of view, we don’t even know how to factor that into our quotes. Being unsure is a problem in itself. If ever it is implemented, it will have that predicted outcome. It affects our ability to compete.”
Sherwin Nones, strategic planning and marketing head at IMI, says CITIRA will have some impact on the company’s local operations. He notes that this may become a downside in the local landscape rather than a tool to invite more investment in the local market. “As a global company, however, this will be cushioned by the fact that we have more than 21 factories in more than 10 countries.” IMI, one of the leading EMS firms in the country, is the fifth largest automotive EMS firm worldwide.
According to Qua, the Department of Trade and Industry (DTI) is currently negotiating a longer transition period to blunt the impact of the new law to PEZA locators. “They are trying to extend our incentives. We appreciate the support and are cautiously waiting for the final version of the law. We are watching for the effects of material flow as well as on cash flow on top of any potential changes to taxation,” says Qua.
Supply Chain Challenges
Another challenge facing the Philippine semiconductor and electronics manufacturing industry is increasing the amount of local content in materials used for manufacturing, directly or indirectly, in order to reduce dependence on imports.
Victor Gruet, vice president,
“We have, very little local components—about 80% of components are sourced. Even the likes of Intel Corp., for example, back when they were still here, about 85% of their inputs are imported, only 15% are locally sourced,” says Victor Gruet, vice president of EIAPI. “That’s one of the hurdles we should be working on.”
“Over the last decade, the level of revenues had no significant increase. It is mostly flat due to the unchanged business model and technology that has prevailed especially in the semiconductor industry. There are efforts to strengthen the local supply chain and the available manpower in order to improve the value offerings. But so far, there is little improvement in these areas,” says Nones.
“Most of what we import are electronic parts, such as ICs and wafers, which make up 80% of total import cost. However, indirect materials such as mechanical, plastic, or metal parts, and even packaging parts, wires and harnesses, can be sourced locally. To strengthen the linkages with the local enterprises, more of them must be introduced to the semiconductor and electronics manufacturers,” says SEIPI’s Lachica.