Reuters Summit-China claims sweet spot in tech food chain

By Kirby Chien

TOKYO, May 23 (Reuters) - China's crucial role in the global technology supply chain, with its army of suppliers churning out parts for computers and TVs and, increasingly, software, will expand as world economic growth slows and multinationals eye outsourcing to preserve shrinking margins.

"There's going to be an increase in China outsourcing," Senior Executive Vice President Chiaki Ito of Japan's Fujitsu Ltd (6702.T) told the Reuters Global Technology, Media and Telecoms Summit in Tokyo.

"We have plans to outsource more to our subsidiary in China and to companies like Neusoft," said Ito.

Fujitsu's consulting and outsourcing business has been lucrative, but has not yet been able to keep up with price falls in its loss-making chip and hard drive operations.

While some companies in China producing low-end, commoditised products are themselves being forced to relocate to Vietnam or China's vast interior, those with breathing room in their margins are seeing order books fill up.

"There's an opportunity for Neusoft," said Liu Jiren, founder of Neusoft Corp (600718.SS), China's largest software outsourcing firm and a Fujitsu supplier.

Hong Kong-based Glenn Maguire, chief Asia economist at Societe Generale (SOGN.PA) said rising input costs were shifting the focus toward outsourcing. "Structurally, things are still in favour of China," he said.

With the United States, traditionally the world's economic engine, teetering on the brink of recession and the price of key raw materials soaring, the fear is that the financial credit crunch is spreading into the underlying economy.

CLIMBING VALUE LADDER

China's expertise in manufacturing for the world has been augmented by software firms like Neusoft, and increasingly by those catering to more innovation applications.

A week ago, top video game publisher Electronic Arts Inc (ERTS.O) posted higher-than-expected profits, but issued a disappointing outlook as a move to improve the quality of its games weighs on margins.

"We do an increasing amount of outsourcing in India and China," EA's executive vice president Gerhard Florin told the European leg of the Reuters summit.

"India has a very good 2D and 3D industry. Of course, there is a cost advantage. China has a high level of programmers on the PC side rather than the console side," he said.

But China's huge electronics industry is the focus for global manufacturers that worry about price competitiveness.

Taiwan's High Tech Computer Corp (HTC) (2498.TW), the world's top smartphone maker whose high-end touch phones compete against Apple's APPL.O iPhones, is building a new factory in Shanghai that will start production later this year, as it shifts more manufacturing to China from Taiwan.

CEO Peter Chou said at the summit that the 85 percent of HTC's global output that comes from Taiwan will be gradually reduced. "Hopefully, we will not be growing our manufacturing facilities in Taiwan, so the growth will come from the China factory."

INVESTMENT RISING

China's attraction is not limited to electronic gadgets.

China drew $35 billion in foreign direct investment in January-April, nearly 60 percent more than in the same period last year, according to state statistics.

A part of the structural advantage that SocGen's Maguire referred to stems from the huge variety of components and parts produced on the mainland, offering global manufacturers a vast choice of suppliers.

You can find most of the electronic components you need in China and in many instances they will be located within a short distance of each other, said Helen Chiang, analyst with research firm IDC.

And, while some manufacturers have shifted some production out of China because of rising labour costs and incentives that Beijing no longer offers, the mainland's complete supermarket of suppliers will keep most tied to China.

At least in the medium term.

In 2007, Taiwan's Hon Hai (2317.TW), the world's largest electronics parts maker, and Compal (2324.TW), the second-biggest contract laptop manufacturer, announced a combined $5.5 billion in investments in Vietnam.

"Many (rivals) are looking at Compal to see if their supply chain to Vietnam can be successful," said IDC's Chiang. ($=6.99 yuan) (Additional reporting by Tova Cohen in PARIS; Editing by Louise Heavens & Ian Geoghegan)