Penang’s Manufacturing Sector Grows, Despite Some Headwinds

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Production growth may have slowed, but manufacturers are cautiously optimistic.

Penang’s manufacturing sector has been the backbone of job creation and income generation in Malaysia since the 1970s. Its activities have evolved from low-end, labour-intensive assembly operations to export-oriented, capital-intensive industries, and it is now advancing into knowledge intensive activities – such as procurement, technological development and research and development.

In 2016 some restructuring in activities were seen in Penang’s manufacturing landscape, but it is still too early to measure their impact. The labour market in the state remains tight – with labour demand exceeding supply – and the effects this will have in 2017 are worth looking into.

Manufacturing Activities Remain Carefully Upbeat

Penang’s manufacturing sector is estimated to remain carefully upbeat this year. This may be attributed to the depreciation of the ringgit resulting in lower export prices – hence, greater price competitiveness – and also to a number of global trade and political events involving the Asean Economic Community (AEC), and the Trans Pacific Partnership Agreement (TPP).

Despite the fact that for the past five years, the services sector has been surpassing the manufacturing sector in Penang, the state’s manufacturing contribution to the national manufacturing sector is estimated to stay resilient in 2017. In fact, Penang’s manufacturing sector contributed nearly 13% of total GDP generated from the manufacturing sector in Malaysia (Figure 1). The contribution increased from 12.1% in 2012 to 12.8% in 2015. The sector softened its GDP growth at 6.9% in 2015.

Figure 1: Penang’s sector share in National gdP (2015)

Figure 2: stable oscillation observed in the Book-to-bill Ratio (January 2013-october 2016)

Figure 3: Lower approved capital Investment in Manufacturing Projects

However, the manufacturing sector is expected to be more subdued in 2017. For the first three quarters of 2016, Malaysia’s industrial production index (IPI) in the manufacturing sector grew at an average of 4.1%, registering a small reduction of 0.7% compared to the same period in 2015. The IPI for electronics and electrical (E&E) products, in particular, dropped by 1.8 percentage points to 6.9%. According to a report produced by electronics giant TTI, high inventory-to-sales ratio and the overvalued US dollar resulted in slow manufacturing production growth.[1]

Additionally, the book-to-bill ratio is a strong indicator for average global bookings and billings in the worldwide semiconductor industry. Semiconductor Equipment and Materials International (Semi)’s book-to-bill ratio saw a stable oscillation from January 2013 to October 2016 (Figure 2). In October, the ratio reached a weaker point of 0.91 below the threshold of 1.00. This indicates that US$91 worth of orders were received for every US$100 of products billed. It is interesting to note that a weaker demand in semiconductor equipment is observed in October every year, which is borne out in Penang’s case. Nonetheless, a rebound is expected in November 2016 to early 2017.

Manufacturers are always focused on competing for profitable growth, and many of their business strategies use as little resources as possible to leverage on new technologies as investment to grow their market share. The TTI report indicates that some buyers view the advancement of technology as a measure for economic optimism. For example, smarter and connected products and systems are in high demand across a wide range of industries. In addition, the merger and acquisition (M&A) of companies is often envisaged by business players to increase market share by consolidating strategic operations. A study by Douma & Schreuder (2013) found the overall net effect of M&A transactions is seen to be positive. It creates economic value to shareholders whereby investors will consolidate the buyers of their products and target firms to operate more efficiently.[2]

Unwavering Capital Investments in Approved Manufacturing Projects

Every approved investment manufacturing project is estimated to take about three to five years to commence. And so, the spillover effect on employment creation will only be reflected in a later period.

According to the Malaysian Investment Development Authority (Mida)’s investment figures, Penang recorded a smaller sum of capital investment in 2015 compared to 2014. As seen in Figure 3, total capital investment was reduced by about 18% from RM8.1bil in 2014 to RM6.7bil in 2015. The figure softened to a total of about RM3.7bil in the first eight months of 2016. However, Penang still ranked as the third-largest state receiving capital investment in Malaysia, only trailing behind Johor and Selangor.

Capital investment per employee ratio (CIPE) is used to measure the level of capital intensity. While Penang saw a lower investment in the first eight months of 2016, the CIPE ratio exhibited higher capital intensity in approved manufacturing investment. Figure 4 shows capital investment escalating from RM357,800 per employee in 2015 to RM442,500 in January-August 2016. General Manager of investPenang, Loo Lee Lian, opines that “the nature of the approved capital investment ranges from mid- to high-end manufacturing operations, in which R&D will come hand-in-hand with the operation in the new capital investment.”

Figure 4: Higher capital Investment per Employee Ratio (January-august 2016)

With the exception of 2012 and 2013, foreign capital made up a large part of the total capital investment in the manufacturing industry (Figure 3). This can be classified in two forms: new investments and expansion investments. An investment is new if it comes from a new investor, while expansion investment refers to expansion in the fixed assets of existing manufacturing establishments. “There are some lapses in Mida’s investment figures as it is only able to track firms that apply for incentives provided by Mida,” says Loo. “Some local manufacturing firms carried out expansion plans without applying for Mida’s incentives; hence, the investment figure did not take those into account.”

Figure 5: Largest approved Manufacturing Investment Projects from china counterparts

In the first eight months of 2016, E&E products made up the largest share of capital investment (44.2%), followed by scientific and measuring equipment (25.5%). Out of RM2.8bil worth of foreign investment, Chinese investment contributed 23.4%, followed by Luxembourg (19%), Germany (18.7%) and the US (13.7%).

“Our target investment sectors include those that Penang has already established – the semiconductor and E&E industries – and other fast-growing industries such as medical devices and avionics,” says Loo. Apart from the manufacturing sector, global business services (GBS) are also a current niche area of focus for investment promotion. “Penang is very successful in bringing investments to the services sector. Multinational manufacturing firms are setting up higher-end support services in Penang.”

Tight Job Market coupled with Reshuffling in the Workforce

Penang has been consistently experiencing a low unemployment rate due to the availability of jobs and continued investments by domestic and foreign investors. To a certain degree, the available labour might be insufficient to meet the requirements of new investments. Drawing talent to Penang is of utmost importance growth in the state’s manufacturing sector is to be sustained. “Penang is still scarce with sufficient engineers, particularly in the fields of E&E, mechanical, software and embedded software engineering. The shortage is also found in finance and information technology positions, such as global business supply chain analysts, financial analysts and IT engineers,” says Loo.

While layoffs do take place – often due to firm closure and the relocation and contraction of operations – continued new and expansion investments attract job seekers. For instance, about 1,600 workers and 860 workers were affected in redundancy exercise and voluntary separation scheme (VSS) programmes respectively from manufacturing in the first eight months of 2016 (Figure 6 and 7). Part of this pool can potentially be absorbed back into the employment market, since more than 10,000 jobs will be created from the capital investment that were approved three years ago.

Figure 6: Reverse Relationship between gdP growth Rate and Retrenchment Patterns in Penang

Figure 7: Workers on Vss Programme under control

“Some structural change might happen in the labour market,” says Loo. “It is not possible for the affected workforce to be fully absorbed back into the employment market. It is dependent on the job categories and preferences of workers.” As such, some retraining and upskilling programmes may be required for their skills to fit to the operations in the new organisations.

It is evident that the relationship between labour retrenchment and output growth is negative. As labour retrenchment increases, a smaller growth in GDP is expected. Penang has experienced the same: in 2015 a lower GDP growth rate of 5.5% was recorded with the increased number of labour retrenchment (by 35%) from the previous year. The same inference – an expected lower GDP growth rate – can be made if labour redundancy is higher in 2016. Tables 1 and 2 show companies with new investments and are on expansion investment, and companies that exited their operations in Penang, respectively.

Conclusion

Penang’s manufacturing sector is highly reliant on global events. Firstly, newly elected US president Donald Trump’s promotion of protectionism policies may change the business landscape of US offshore companies in Penang. Secondly, the volatility of the ringgit against the US dollar may affect local and foreign business sentiments. Thirdly, Brexit may lead to more uncertainty in EU.

Nevertheless, Loo believes that “manufacturing investment and output are expected to grow cautiously optimistic in 2017.” Penang still sees new and expansion manufacturing investment, and there could be more firms on expansion but were not captured in Mida’s investment data. Slower production growth is predicted, coupled with lower business confidence level. Labour shortages or talent scarcity is a challenge for Penang’s manufacturing sector to move its operation upwards and provide higher income jobs. Therefore, creating a conducive and balanced ecosystem to live, work and play in is important if the state is to attract a higher-end talent pool to serve companies in Penang.

  • [1]Victoria Kickham, “2017 Manufacturing Outlook Improves,” TTI, accessed November 20, 2016, http://www.ttieurope.com/object/mekickham-20161101.html.
  • [2] Douma, S. and H. Schreuder (2013). “Economic Approaches to Organisations”, 5th Edition, Pearson Education Limited.

Table 1: List of Manufacturing and services firms Reported for New and Expansion Investment and Number of Jobs created as of october 2016

Table 2: List of Reported firms Exiting Manufacturing operations as of october 2016

 
Ong Wooi Leng is a senior analyst at Penang Institute. Her interests lie in industrial economics, consumer behaviour and labour economics.



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