Announcer: You’re listening to the Scotiabank Market Points podcast. Market Points is part of the Knowledge Capital Series, designed to provide you with timely insights from Scotiabank Global Banking and Markets’ leaders and experts. Please refer to the important disclosures on our website at gbm.scotiabank.com/disclosures.
Rodrigo Echagaray: Welcome to this episode of Market Points. I’m Rodrigo Echagaray, Managing Director, Global Head of Product Management and Head of Equity Research for Latin America. On this episode, I’m joined by my colleagues Andres Coello and Francisco Suarez, both who are based in Mexico City, where we’ll talk about the growth in the electronic manufacturing services industry, or EMS, in Guadalajara and the province of Jalisco, Mexico, and how that relates to nearshoring.
Hello Andres, how are you?
Andres Coello: I’m good, thank you.
RE: Francisco, it’s great to have you back here. How are you doing?
Francisco Suarez: Great, happy to be talking about nearshoring again.
RE: In our last nearshoring podcast, we focused on China’s increased growth prospects in Mexico and the risk that might imply for nearshoring. Today, we want to talk about the impact of EMS growth in Guadalajara and broadly across the state of Jalisco. And why it’s such an important part of the nearshoring story in Mexico.
Francisco, in your opinion, why is the electronic manufacturing system industry the new frontier in nearshoring in Mexico? And what are some of the global drivers behind this trend? And along that, do you expect nearshoring to be a priority for the new administration?
FS: Thank you, Rodrigo. Perhaps it’s best if we start by explaining a little bit about how the EMS industry is connected with a complex value chain of semiconductors.
Basically, the best or easiest ways to understand what the EMS industry is and the opportunity that we see in front of our eyes is to understand that the EMS industry is the link between the complex value chain of semiconductors and the end users of an iPhone, of an airplane, of an artificial intelligence, anything that goes in the cloud. That’s the role of the EMS industry.
So, lots of OEMs rely on the EMS industry to tackle costs to make sure that the logistics, including the procurement, is actually working, and in a way partner with them and even in the design of the final products, and to try to understand how the product might be delivered to the final customer.
Clearly there is a strong relationship between the end user or the OEMs on one end and a growing need from the demand side, from those data centers and other types of growing needs as the world goes more digital.
Only 12% of the semiconductors that are demanded in North America are actually manufactured in North America, and there is an even much more dangerous angle. When you think exclusively on the most sophisticated semiconductors, North America actually doesn’t manufacture anything at all.
Everything is manufactured in Southeast Asia, almost 60% in Taiwan by a company called TSMC and the other 40% is built by Samsung in South Korea. So, if you think about it, there's a potential security issue and several value chains could be impacted by geopolitical instability in the region.
There is the CHIPS and Science Security Act, roughly a $280 billion dollar bill that is trying to make sure that in North America, we can actually solve this potential vulnerability that we have due to geopolitics.
RE: Given that you’re based in Mexico, are you seeing some of those investments around semiconductors coming to the Americas and are we already seeing some of that having an indirect positive impact on the EMS industry in Guadalajara?
FS: Absolutely, Rodrigo. For instance, Foxconn is a very important player in the EMS industry, and it is a company that is based in Taiwan. Well, Foxconn has been actively seeking new industrial space in Mexico, particularly in Guadalajara to precisely de-risk from China. So yes, we are seeing major investments from Taiwan-based companies in Mexico. Foxconn is one of them, Quanta is another. And to give you an idea of the importance of Foxconn, there is no iPhone without Foxconn.
RE: Would it be fair to say that these geopolitical shifts and the de-risking is essentially a bigger force than perhaps the elections that we just had in Mexico, where there was a selloff in some asset classes in Mexico, and there was some weakness in the exchange rate, but from what I’m hearing from you is, this is much bigger than that.
FS: Absolutely. And I think that the next president, Mrs. Claudia Sheinbaum, actually addresses the importance of nearshoring because it is interesting to see that for her, it is a true priority. And she recognizes the importance of nearshoring and therefore, as a result, these geopolitical risks that you are referring to.
RE: Now let’s talk a little bit about Guadalajara. Maybe for some of the audience, it would be good for you to explain why is Guadalajara attracting some of these investments, and how is that different from the nearshoring growth that we’re seeing in other parts of Mexico like, like Monterrey.
FS: Absolutely, Rodrigo. Guadalajara is located in the western part of the country. And this is where it starts to see some of the difference between Monterrey that has been very successful to attract a lot of investments linked to nearshoring. Because in the case of Monterrey, it is a market where the end market exposure that you see there, it is much more towards the auto industry. In the case of Guadalajara is basically about electronics. Since 1960, the first EMS players began to put investments in Mexico. So, there is a history of industrial cluster formation that has evolved since then, that is totally biased towards electronics in general.
So, there are lots of companies like Benchmark that is positioned more to medical devices, for instance. As I mentioned, Foxconn has been actively investing much more in Guadalajara, and of course there are companies like Flex that have a history in Mexico, and particularly in Guadalajara.
And this is precisely the opportunities that we see. There’s a lot of imports that are coming from China or other parts of Asia that are pouring to the state of Jalisco, where the city of Guadalajara is. And that actually results in far more sophisticated exports of electronic devices in the state of Jalisco, compared to the city of Monterrey, that is far more biased towards the auto industry.
RE: And are there any incentives or initiatives at the state level in Jalisco, in Guadalajara, that are attracting or helping attract some of these foreign direct investments?
FS: Absolutely, Rodrigo. There’s the so-called Jalisco Tech Hub Act that basically tries to make sure that the state is offering anything that is needed for not only the EMS players but also aiming high to the semiconductor players.
There is a huge and growing role between the academia, the governments at the state and local levels, and the private industry, because this is a very successful symbiotic relationship that has started from several decades ago.
So, yes, the state of Jalisco has dedicated a special amount of money that is trying to link the needs of education for these new and emerging value chains. There is also money in place in to make sure that the companies can have land available with electricity and the like in order to put more capacity in this state, for instance. And of course, the private sector, they are always telling what is needed from their end. So, you have to think that players like IBM, which is a very important anchor tenant for many real estate players in the state of Jalisco, is very, very carefully telling the academia and the local officials on their growing needs, related with labour skills linked to research and development and cloud services, that now IBM is investing far more compared to other years.
RE: And I know you touched on this briefly, but I wonder if the new President elect has any specific initiatives similar to what you’ve mentioned on the state of Jalisco to attract more FDI (foreign direct investment) to Mexico in general?
FS: The next president, Mrs. Claudia Sheinbaum, has aimed to grow the amount of industrial parks in Mexico by 25% over the next six years. So that implicitly tells you a little bit about how she sees the importance of the industry and nearshoring in all her programs. In the case of the state of Jalisco and the views that she has is more towards the industry 4.0, so in other words, making sure that we have the right industry that precisely makes these connections with growing and next generation value chains that are needed in North America. And this is something that is already stated on her aims as a goal she publicly mentioned.
RE: Andres, you also cover education. None of this growth is achievable for the global companies looking to manufacture in Mexico if they can’t find the right skill set and the right labor supply. Given your experience covering the education sector in Latin America, Andres, I wonder if you see the right pieces in place for many of these global companies to be able to set up shop in Guadalajara.
AC: So, one of the first questions that you’re going to get from investors when discussing the nearshoring opportunity in Mexico is whether we have the human resources and the capability of training those human resources.
Our research suggests that Mexico is well prepared to take advantage of the nearshoring opportunity. We have here major education institutions and they’re taking advantage of this opportunity.
But before anything else, let’s just review where are we in terms of the global education industry. Right after the COVID-19 pandemic, you may remember many education institutions were forced to close down, and this led to a major technological breakthrough in the industry. Basically, education institutions invested significant resources in developing online capabilities. Today, to give you an example, Laureate, around 60% of the courses take place on the campus, but 40% of the courses take place online. This has given education institutions a flexibility to create new courses and also giving students more flexibility in terms of choosing whether they want to go or not to campus.
I will say that the most important takeaway from the major changes that took place in the education industry in recent years is that all of a sudden, education institutions found themselves with significant available capacity. If they were using 100% of the classrooms, you have 40% of those classrooms empty because the students are taking courses online.
So, in the last few years, I will say between 2022 and 2024, we’ve seen very little new campuses. But in recent years, we’ve seen education institutions filling that capacity. And so going forward, we are expecting education institutions to begin building new campuses in Mexico once again. They may not be the same as the old campuses. In fact, the feedback that we’re getting is that new campuses may actually be more focused on technical schools and technical abilities as opposed to traditional campuses. But it is clear in our opinion, that we will see new openings of campuses in coming years.
Now, keep in mind that the state of Jalisco actually has the third largest share in terms of enrollments for undergraduate programs in Mexico, we’re on 6.5% of the total student base. Surprisingly, this is actually higher than Nuevo León, which has 6%. So, in other words, there are more university students in Jalisco than there are in Nuevo León, which is remarkable. And really Jalisco is only behind Mexico City, and the state of Mexico in terms of enrollments. So that gives you an idea of the human capital potential for this region.
Now that said, one of the key findings of our nearshoring report is that not all jobs in the semiconductor industry necessarily require an undergraduate degree. The feedback that we’re getting from education institutions, and from the government is that we really need to focus more on technical schools.
Keep in mind that Jalisco has a strong presence by Laureate. Laureate is Latin America’s biggest education company. They have almost half a million campus students in Mexico and Peru. Its universities are ranked among the top 10 in the country. So, they are focused on the high-end segment of the market. Specifically in the state of Jalisco, they have 13,000 students and they offer in the state of Jalisco more than 100 undergraduate degrees of which most of them have implications for the nearshoring story.
RE: Any other sectors, Francisco, that you think might benefit, any other companies, that you think might benefit from this specific growth in Guadalajara?
FS: Within real estate, we see other opportunities in the office space because in contrast to other markets, vacancies in office in Guadalajara are really low; that results from the angle of the value chains that are connected to the needs of these offices. To give you an idea, roughly a third of all coding that is built in Mexico comes from Guadalajara.
But there are many other important industries here that benefit from this angle. Consider a Mexican airport operator called GAP. It is headquartered in the city of Guadalajara, the overall network is in the Pacific and the Western portion of Mexico, but clearly what we see and what is happening in the city of Guadalajara, there’s a lot of value in the cargo shipped in contrast to the low value that we see in Mexico City.
So even though that the amount of tons shipped is higher in Mexico City compared to Guadalajara, the value of the cargo is actually far higher. It is the highest in the country. And why is that? Because precisely there are electronics in between, value added products that are required to be shipped by air.
And of course, there is also even the need of more traffic between the United States, Canada and Mexico towards these value chains that are growing so rapidly. So yes, I will highlight GAP as one of those companies that are benefiting from this.
RE: Thank you for that, Francisco. Andres, anything worth mentioning on the telecommunications side?
AC: Well, look, connectivity is going to play a very important role in the nearshoring opportunity for Mexico. And here we’re thinking about two separate things. First of all, the new government intends to increase the number of towns on their wireless coverage, small towns on their coverage to 60,000 from 3,000.
And with that, the government really intends to give an impulse to an increased wireless penetration across the entire territory of the country, and that’s obviously going to be good for the nearshoring story. On the other hand, we’re also seeing impressive broadband growth throughout Mexico.
Mexico now has the highest broadband penetration in Latin America, 80% of homes. So that’s very impressive. And companies such as Megacable are developing fiber infrastructure in the state of Jalisco. Megacable also recently launched a huge data center close to Guadalajara. And other companies such as Totalplay, even Telmex, is now building fiber in the state of Jalisco.
So, in our opinion, from a connectivity and telecoms standpoint, we believe that the Jalisco area is going to be able to monetize the nearshoring opportunity.
RE: Thank you for that, Andres. It is clear that Jalisco and Guadalajara are fertile ground for the global semiconductor and the EMS industries to lay down new roots and continue to grow as part of the broader global trend towards value chain de-risking and security, which is fascinating.
Francisco, any additional thoughts?
FS: Yes, well let’s talk about ESG. Value chain security as such, it is a big, important theme within nearshoring. But you have to think as well about the contrast between China and Mexico.
There is no forced labour issues in Mexico compared to what you see in China, for instance, and despite the fact that Mexico has to do far more in terms of making sure that the country is doing the investments in clean energy. All the framework, all the legal framework that applies in Mexico is far more compatible to Canada and the United States compared to what you see in China.
That is important because investors do worry about what is the exposure along the entire value chains. And they are less patient to companies that do not have the right exposure in terms of making sure that you don’t have exposure to either forced labour, for instance, or perhaps to the CO2 embedded in the logistics.
RE: That’s fascinating, Francisco. Ultimately, it seems to be a relative game between Mexico and China. And if Mexico is better positioned, even at the margin, that would go a long way, especially if the new President elect is able to tackle some of those roadblocks that you talked about.
Thank you both, Andres and Francisco, for your insights today, and looking forward to hearing from you in the future.
AC: Thank you, Rodrigo.
FS: Thank you, Rodrigo.
Announcer: Thanks for listening to Scotiabank Market Points. Be sure to follow the show on your favourite podcast platform. And you can find more thought leading content on our website at gbm.scotiabank.com
