Based in San Jose, California, Sanmina-SCI Corporation (SANM) was formed as a result of the merger between Sanmina Corporation and SCI Systems. The company provides end-to-end electronic manufacturing services (EMS) including product design, engineering, testing, volume production of systems, components, and subassemblies, as well as after-market services and support. Sanmina-SCI manufactures complex electronic components like printed circuit boards (PCBs) and backplane assemblies. It also offers product designs, which are branded and/or incorporated by its customers into their own systems. Most of its products are targeted at the communications and computing markets, though the company is increasing its presence in the semiconductor, medical, industrial, defense, and automotive sectors as well. EMS accounted for 69.4% of fiscal 2007 (ended September 2007) revenues and Personal Computing accounted for 30.6%. Original equipment manufacturers (OEMs) like IBM, Lenovo, Hewlett-Packard, Cisco Systems, Dell, and Nokia are its largest customers. The company derived 75.9% of fiscal 2007 revenues from its non-U.S. operations.
Although Sanmina-SCI was able to successfully grow its revenue base through the technology and telecom downturn, revenue peaked in 2004 at $12.2 billion, and has declined steadily to $10.4 billion in 2007. Even more troubling is the fact that gross margin peaked in 1999 at 17.4%, falling to 5.3% in fiscal 2007. While Sanmina-SCI has had some company specific problems, we believe that much of what is ailing the company is an industry-wide phenomenon. The industry was able to grow rapidly through the 1990 as EMS companies, including Sanmina-SCI, acquired manufacturing assets of electronics companies that no longer considered manufacturing a core competence and were instead focused on developing intellectual property. In return for purchasing these factories, the EMS would get a purchase commitment from the seller. With a focus on manufacturing, the EMS companies were able to make operations more efficient and achieve greater economies of scale, thus achieving profitable growth. At this point, most potential customers have already sold-off all their manufacturing operations and easy growth has come to an end. In order to grow now, companies in the EMS business must fight amongst each other for market share, resulting in more competition and less profitable programs.
Sanmina-SCI's Personal Computing segment has reported quarterly revenue declines since the loss of IBM's computer business when it was bought by Lenovo in 2005. This segment was down 6.1% year-over-year in the fourth quarter of 2007, and fell by another 11.6% in the first quarter of 2008. The overall decline has been 20.8% in fiscal 2007 when compared to fiscal 2005. Gross margin in this business is also well below the corporate average, running at 2%. The company expects to sell or otherwise dispose of this business, which has declined to 30.6% of 2007 revenue, within the next six months. This business unit includes its personal computing and industry standard server businesses, its related BTO/CTO operations in Mexico and Hungary, and the associated logistics activities.
Additionally, Sanmina-SCI has struggled with its enclosures business, which has been struggling for over a year now with poor operational efficiencies and was the biggest contributor to the company's third quarter disappointment. Further, the company is highly dependent on a relatively small number of customers. SANM derived 61.5% of its fiscal 2007 net sales from its ten largest customers, three of whom accounted for greater than 10% of sales.
Sanmina-SCI's attempt to penetrate the highly competitive design market through the acquisition of Newisys was unsuccessful as it chose to leave the business. The company had faced stiff competition from market leader, Flextronics. Developing designs is an expensive business and requires higher research and development (R&D) spending. Instead of the ODM business, Sanmina-SCI will jointly design products with its OEM customers, or Joint Development Manufacturing (JDM).
With the sale of the PC business, Sanmina-SCI expects to raise $650 to $750 million in cash in fiscal 2008 that it will use to pay down debt. The company is close to selling a 25% stake in the PC business, and is in early conversations with a number of potential buyers for the remaining 75%, but has yet to announce anything concrete. Sanmina wrapped up much of its restructuring efforts including the closing of inefficient operations such as PCB operations in Phoenix and Arizona and excess capacity during fiscal 2007, which should result in $65 million to $75 million in charges over the next six months. We believe that Sanmina still has a lot of work ahead of it before it returns to growth. Moreover, the stocks' removal from the S&P 500 index means that is won't be in consideration as a holding for a number of fund managers.