Boring Portfolio

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"SeaMED" Like a Good Idea
Plexus to acquire SeaMED

By Dale Wettlaufer (TMF Ralegh)

ALEXANDRIA, VA (March 15, 1999) -- I am excited today. Very excited. Contract manufacturer Plexus Corp. (Nasdaq: PLXS) dropped $3 7/16 to $29 3/4 after announcing an agreement to acquire contract electronics manufacturer (CEMs) SeaMED Corp. (Nasdaq: SEMD). If you've noticed, we have most of the major contract manufacturers on the Bore radar. That's because we like the business model so much. The growth of the industry is very attractive and comes from two sources: A) organic end-user demand for electronics; and B) the sale by original equipment manufacturers (OEMs) of manufacturing facilities to CEMs. Put together, these equate to a 25% yearly revenue growth rate for the industry.

I know some people will say that just attracts flies to the honey, and that's a valid concern. But the fact is this is still a relatively young industry with lots of growth ahead, though 25% yearly in a smooth line for 25 years would, of course, be a ridiculous assumption. This has translated into excellent revenue gains for my favorite companies, Jabil Circuit (NYSE: JBL), Solectron (NYSE: SLR), and Sanmina (Nasdaq: SANM). What's nice about the industry, as well, is that the market goes non-linear at times when revenue growth worries arise. Just as in the PC sector, these companies reach very cheap prices once in a while, such as we saw last spring. Here's what Alex wrote last June:

"Is electronics contract manufacturing dead? With numerous original equipment manufacturers in various electronic equipment sub-segments forecasting softening end-user demand, the companies that supply them with "the guts" for that equipment are all getting hit hard. Many are at or near 52-week lows. Hadco, Jabil Circuit, SCI Systems, the list goes on and on, and where it stops depends to a large degree on investors' perceptions. The important thing to remember, however, is that OEMs are increasingly concerned about their capital returns, and are thus selling off manufacturing assets to get capital off their balance sheets, as well as reap all the traditional benefits of outsourced manufacturing: shorter product cycles, decreased expense, and greater flexibility.

"This imperative to outsource is stronger than ever. The contract electronics manufacturing industry currently accounts for only 15% to 20% of yearly electronics manufacturing, but it is gaining share each year thanks to frequent inventory corrections as well as the more recent specter of the Asian contagion. OEMs as large as handset makers Nokia (NYSE: NOK.A) and Ericsson (Nasdaq: ERICY) will continue to sell electronics manufacturing capacity for much the same reason that Motorola and Texas Instruments have exited the memory chip business -- outside contractors can manufacture things cheaper. Even with the markup, cost of goods sold decreases when OEMs use contract manufacturers who are specialists and who can operate much closer to capacity levels for a greater part of the year. Prescient comments were offered by Jabil Circuit president Tom Sansone when he recently assessed the OEM problem:

Companies that are fully vertical with deep bricks-and-mortar exposure to product lines wind up with real downside risk anytime that total markets slow down� [Asian macroeconomic problems] have an emotional impact on the vertical OEMs out there. I would expect that we will see a very high level of inquiries from OEMs who have historically been very committed vertical manufacturers.

"As it turns out, despite vigorous denials to the contrary, Hewlett-Packard sold printer parts manufacturing capacity to Jabil, which actually contributed to problems for Jabil due to start-up costs. However, the growth story for the CM industry remains intact. Long-term investors would do well to take a closer look at the segment now, which would go a long way toward dispelling inventory exposure myths and other popular notions that will not affect the segment going forward."

Now, Plexus is a bit different. It's not a top tier manufacturer, but we think it's an extremely well-run business despite the fact that it has not grown like the rest of the industry over the last year. Over the last four years, revenues have grown at a 13% compound annual rate while the stock has moved up 62.5% per year, compounded, since that time. Obviously, the thing was valued a bit differently at the end of 1994. Over the two years the company's growth is below that trend, and over the last year revenues grew less than 3%. So there is concern that there's something wrong with Plexus and that its competitive position is weak.

There have been some customer shifts at the company, as you can see from the table below:


        Fiscal Year % of Net Sales

Customer              1998   1997   1996
General Electric Co.  11%    13%    13%
IBM                    *     12%    26%
Motorola, Inc.         *     10%     *

*represents sales less than 10%

I've posted the company's management's discussion and analysis (MD&A) from the 1998 10-K on the Boring message board.

These are some issues we'll be looking at and asking the company about.

Steady as she goes elsewhere in Boringville.

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03/17/99 Close
Stock  Change    Bid
BRKb  +99      2500.00
CSL   +  1/16  44.25
CSCO  +  1/16  106.06
GTW   -1 1/4   72.50
                   Day    Month   Year  History
        BORING   +1.05%   5.26%   0.72%  35.25%
        S&P:     -0.65%   4.80%   5.90% 116.13%
        NASDAQ:  -0.42%   6.16%  10.78% 133.34%

    Rec'd   #  Security     In At       Now    Change
  6/26/96  225 Cisco Syst    23.96    106.06   342.75%
  8/13/96  200 Carlisle C    26.32     44.25    68.09%
 12/31/98    8 Berkshire   2244.00   2500.00    11.41%
   2/9/99  100 Gateway 20    72.38     72.50     0.17%


    Rec'd   #  Security     In At     Value    Change
  6/26/96  225 Cisco Syst  5389.99  23864.06 $18474.07
  8/13/96  200 Carlisle C  5264.99   8850.00  $3585.01
 12/31/98    8 Berkshire  17952.00  20000.00  $2048.00
   2/9/99  100 Gateway 20  7237.50   7250.00    $12.50


                             CASH   $7658.52
                            TOTAL  $67622.58

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