Article

Is Flextronics a giant in the making?

Flextronics' plans to absorb Solectron by end of year.

June 18, 2007

Flextronics International Ltd. acquired self-service software company WebRaiser Technologies earlier this year, but the company didn't stop there. Just a few months after that purchase, Flextronics focused its attention on its main competitor in the manufacturing space — Solectron Corp.

 

The acquisition of Milpitas, Calif.-based Solectron, tagged at $3.6 billion, is expected to close by the end of the year. The deal will make Flextronics the world's second-largest electronics manufacturing and self-service powerhouse, trailing only Taiwan-based Hon Hai Precision Industry Co. in terms of annual sales, according to Forbes.

 

Terms of the deal

Flextronics International Ltd. acquired Solectron Corp. for about $3.6 billion in cash and stock, based on the closing price of Flextronics' ordinary shares on June 1, 2007. The deal is expected to close by the end of year. The combined company will have operations in 35 countries and a workforce of about 200,000 employees.

The merged Flextronics-Solectron company is expected to bring in more than $30 billion a year in revenue, with operations in 35 countries and a workforce of approximately 200,000 employees.

 

Flextronics manufactures Microsoft's X-Box and other electronics for companies such as Dell, Ericsson, Hewlett-Packard and Siemens. Two of Solectron's customers include Kodak and Redbox, two of the world's larger kiosk companies, said Francie Mendelsohn, president of Summit Research Associates.

 

"This acquisition makes Flextronics a bigger player than they themselves have ever been," she said.

 

Solectron in trouble?

 

Founded in 1977 by Roy Kusomoto, Solectron first designed and distributed an electronic controller for solar-energy equipment. Over the course of the next 25 years, Solectron secured a spot at the top of electronics manufacturers and self-service-technology players.

 

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For years Solectron was the industry leader in terms of annual revenue, says Jim Kelleher, an analyst with Argus Research Corp., which regularly watches Solectron. But Flextronics surpassed Solectron in 2002, when it recorded $12 billion in revenue. The company has already posted $18.9 billion in sales for 2006-07, putting it on track to hit $21 billion by the year's end.

 

Solectron, on the other hand, has struggled to push its revenue back above $11 billion.

 

"Flextronics has successfully leveraged its growth into steady profitability, while Solectron struggles to turn a profit consistently," Kelleher said.

 

Several factors played a role in Flextronics's ability to outperform Solectron, he said.

 

For one, after the technology-industry meltdown in 2000-01, Flextronics rebounded more quickly and effectively than Solectron. Flextronics restructured, moving all of its high-volume production to low-cost locales, concentrating much of its production in huge and efficient global campuses. It also broke into new industries, including automotive and medical.

 

Conversely, Solectron was slow to respond to change, pushing its annual revenue from its peak of $18.77 in 2001 to a low of $10.4 billion in 2004.

 

That headlong decline in revenue, coupled with a lack of vertical integration, knocked the company's operating structure out of balance.

 

Shake-up at the top

 

In early 2007, Solectron chief executive Mike Cannon left the company to join Dell Inc. Solectron's chief financial officer, Paul Tufano, took the post as interim CEO.

 

Despite the loss, Solectron pressed on with an operations-growth plan that included finding a new CEO.

 

In January, NCR Corp. awarded Solectron a five-year contract to manufacture NCR's ATMs and payment solutions in the Americas, as well as its self-checkout systems globally. (For more about NCR's deal with Solectron, click here.)

 

The timing was right for a buyout, however, Kelleher said.

 

"Flextronics believes that it is able to acquire Solectron at a time when that company has decisively turned the corner in its recovery efforts; it is still early enough in its turnaround efforts to benefit from a grander and more concerted joint-restructuring effort," he said.

 

It is unclear how long Flextronics has been pursuing Solectron. Phone calls to Flextronics were not returned.

 

But, from the tone of a comment released by Flextronics CEO Mike McNamara shortly after the merger announcement, it appears the two companies had been in talks for some time.

 

"Solectron is an extremely important strategic addition to Flextronics, and this combination transforms the landscape of our industry," McNamara said. "By joining forces, we expect the increased scale will enable us to further extend our market-segment reach and leverage an increased vertical integration opportunity, realize significant cost savings, and better serve the needs of our combined customers, employees and shareholders."

 

The combined future

 

Until the deal closes, both companies say they will continue to operate independently.

 

The deal requires approvals by both boards, as well as the customary regulatory approvals. Given that Flextronics is actually based in Singapore and that international considerations enter into any border-crossing deal, Kelleher said he believes the closing date could prove optimistic.

 

While some synergy will occur in the first year, it may take 18-24 months for the acquisition to fully realize its potential, said Thomas Smach, Flextronics' chief financial officer, in a statement.  

 

The two companies say they can attain a $200 million reduction in annual operating costs by merging. But, Kelleher said the full benefit of the acquisition won't likely be realized until the end of 2009.

 

Questions also remain about Solectron's facilities and whether they will be integrated into the Flextronics family. Flextronics operates roughly 100 facilities worldwide; Solectron has roughly 50 facilities throughout the world.

 

Mendelsohn expects some reduction in workforce, but hopes it is not in the self-service division.

 

So far, Solectron officials say the acquisition will help Flextronics lead the pack.

 

"This creates one of the largest and most complete electronics manufacturing companies," Solectron's Director of Public Relations Corey Olfert said. "You'd be hard pressed to find a company that can offer the services this combined company can offer."

 

For terms of the Flextronics/Solectron deal, click here.