Excerpts from CLSA Asia-Pacific Markets' July 22 report…

Analyst: Oliver Campbell

We spent the last 2 days visiting factories across a range of industries
- software development, hardware components, consumer electronics, automotive and apparel/footware - in Shenzhen/Dongguan. Unsurprisingly margin-pressure from wage increases dominated the conversation.

Rather more surprising was
factory managers’ pragmatism about perceived headwinds. Having spent the past 5 years working through ongoing wage hikes, currency appreciation, demand volatility and raw material inflation, managers did not appear particularly concerned about the outlook for 2H10.

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Average manufacturing wage growth in China (YoY %)


Guangdong is evolving

Ø  Guangdong is a dichotomy of high-tech R&D and commodity manufacturing.

Ø   Margin pressure dominated discussion, specifically wage hikes.

Ø  Other margin debates centred around RMB appreciation, raw material costs, pricingand end-demand.

Ø   We came away feeling that concerns are overdone, as these so-called headwindsare not new to the tech industry.

Image Wage concerns overdone

Ø  Wages are rising (10-15% per year), staff turnover is high (5-20% per month) and retention is tough.

Ø  Wages have been rising at 15% per year over the past 5 years anyway.

Ø   Many firms’ overtime puts them between RMB1500-2000 for unskilled labour.

Ø   Wage hikes are across the board, a degree of costs can be passed onto customers.

Currency, raw materials, pricing and demand

Ø   RMB started appreciating in 2005 and is resuming in 2010.

Ø  Commodity prices boomed in 2008, yet firms remained profitable.

Ø  Tech ASPs drop around 10% every year, manufacturers have been able to deal with it via automation and input cost reductions.

Ø  Outlook for 2H10 seems positive with TV channel inventory at Skyworth “lower than the market believes” and two PC component makers suggesting 20-30% QoQ shipment growth in 3Q10.

Chinese takeaways

Ø   In Guangdong manufacturing, labour as % of Cogs not as high as other components like raw materials

Ø   Moving “inland” or “to Indonesia/Vietnam is not as simple as it sounds.

Ø  Consensus among manufacturers is that wage-hike can now be passed on in higher ASPs.

Ø   We believe concerns are overdone. Regarding tech we remain positive on Hon Hai, Compal, Quanta.

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Source: CLSA Asia-Pacific Markets

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