Malaysian manufacturing sector expanding but faces challenges

Crucial to Malaysia’s economic development is the continued transformation of its industrial base into one predicated on high value-added products and driven by innovation, automation and increased productivity. Such a shift is important to ensure the country is well-placed to compete in an increasingly competitive and open global market, a trend exemplified by the commencement of the ASEAN Economic Community (AEC) in 2015 and the signing of the Trans-Pacific Partnership in February 2016. However, a growing reliance on external markets has inevitably left the economy more exposed to external shocks, and Malaysia’s industrial sector has been hampered by the slowdown in both China, its largest trading partner, and the global economy at large. At the same time, a depreciating ringgit and the introduction of a goods and services tax have eroded margins.

Growth Figures

According to the Department of Statistics Malaysia (DoSM), the manufacturing sector expanded by 5% year-on-year (y-o-y) in 2015, mirroring Malaysia’s overall economic growth of 5%. This was impressive, considering softening global economic conditions. As per central bank figures, GDP for the fourth quarter of 2015 was RM303.8bn ($75.2bn) at current prices, with manufacturing accounting for RM69bn ($17.1bn), or 22.7%, making it the largest sector of the economy by value.

In terms of sales value, manufacturing accounted for RM55.3bn ($13.7bn) in January 2016, according to the DoSM. While this was down on the previous month, it was within the norm for 2015, which saw monthly sales peak at RM58.6bn ($14.5bn) in October, with a yearly low of RM50.8bn ($12.6bn) in May. The decrease in January was also due to falling oil and gas prices, which affected sales in the petroleum, chemicals, rubber and plastic products segment.

A Key Contributor

Manufacturing accounted for 81.5% of Malaysia’s total exports in 2016, according to the Malaysian External Trade Development Corporation (MATRADE). DoSM figures show that the number of people directly employed in manufacturing in January 2016 was 1.03m – 0.4% down on January 2015, although up on the previous month, by 0.3%. In the first month of 2016, the total labour force was 14.65m, giving manufacturing a 7% share.

Impact On Earnings

Salaries and wages have also been rising in the sector, indicating the industry’s important role as an engine of growth for household consumption throughout the Malaysian economy.

In January 2016, salaries and wages in the sector were up 8.9% in total on January 2015, while on average, they were up 9.4%. The average salary or wage paid to employees in the Malaysian manufacturing stood at RM3156 ($781) in January 2016. To put these figures in a regional context, average salaries for the sector in Singapore at the start of 2016 were around S$6653, or $4851, although in Thailand, they stood at some BT12638.90 ($358).

Productivity

Raising productivity is a key challenge for the sector, and one which successive national plans and business models have been tasked with addressing. Under the 11th Malaysia Plan (11MP), the government aims to increase productivity in manufacturing through a two-pronged strategy of “increasing automation and enhancing workforce skills development”. Measured as average sales value per employee, productivity declined 3% in January 2016 in comparison to January 2015. However, productivity has been stable in recent years, with the Malaysian Productivity Corporation measuring labour productivity at RM61,708 ($15,300) in 2014, up from RM59,622 ($14,800) in 2013.

Strategic Vision

The government has singled out three “catalytic” subsectors under the 11MP – chemicals, E&E and machinery and equipment (M&E) – to drive the manufacturing sector’s transition to high-value, high-technology production. Along with these industries, medical devices and aerospace (see analysis) have been identified as segments with potential for substantial levels of growth. According to the 11MP, “The manufacturing sector is expected to grow at 5.1% per annum and contribute 22.5% to GDP, as well as 18.2% of total employment by 2020.”

E&E

Crucial to the technology sector’s supply chain and highlighted as one of Malaysia’s strongest and most competitive segment under the Economic Transformation Programme’s 12 National Key Economic Areas, E&E’s economic contribution has gone from strength to strength in recent years.

According to the Ministry of International Trade and Industry (MITI), in 2014 the E&E segment produced a gross national income of RM44.1bn ($10.9bn), up from RM38.7bn ($9.6bn) in 2013. E&E made up 33.4% of all exports in 2014, and 23.7% of the working population were employed in the subsector either directly or indirectly. Furthermore, MATRADE cites E&E as having accounted for 24.5% of the manufacturing sector’s contribution to GDP in 2014, with a 49.2% share of manufacturing exports. More recent figures from MITI show E&E exports over the first 11 months of 2015 at RM253.12bn ($62.7bn), up 8.7% on the same period in 2014 and representing 44% of total manufacturing exports (RM569.89bn, $141.1bn).

Major overseas markets include Japan, where MITI figures show E&E exports up 9.3% over the first 11 months of 2015 to RM16.77bn ($4.2bn); the EU – where E&E contributes 50.4% of Malaysia’s total exports; China; and neighbouring ASEAN countries. In recent times, the US has also been a key market for Malaysia’s exports of highly specialised products, such as photosensitive semiconductor devices and scientific equipment. E&E is also a major importer, given that much of the trade is assembly or manufacture of products using materials sourced overseas. MITI figures show that the segment was responsible for RM183.6bn ($45.4bn) in imports in the year-to-November 2015, which equated to 36.8% of all manufacturing imports. This was slightly higher than the 35.2% share of the first 11 months of 2014.

E&E’s largest subsector is electronic components, with semiconductor devices the leading item within this group. MATRADE put the share of E&E exports attributable to these, along with integrated circuits, transistors and valves, at over 38% in 2014. After this comes industrial electronics – computers, computer peripherals, telecommunications and electronic office equipment – while consumer electronics and electrical goods take third and fourth place.

Many multinational corporations (MNCs) active in the segment are based in Malaysia, including Intel, Texas Instruments, AMD and STM icroelectronics. Local outfits include Silterra, Unisem, Inari and Globetronics. In consumer electronics, the major Japanese and Korean firms are present, such as Sony, whose largest TV production plant is in Kuala Lumpur.

Machinery Of Growth

The machinery, appliances and parts segment of the manufacturing sector is also a strong export leader. MITI figures for the first 11 months of 2015 show RM32.73bn ($8.1bn) in exports from the segment, up from RM27.3bn ($6.8bn) in the same period of 2014. The subsector is an even bigger importer – with the corresponding figures standing at RM54.27bn ($13.4bn) and RM52.1bn ($12.9bn) for the same two periods.

In addition, the segment is one of the important growth areas outlined by the 11MP, as it affects many other areas of the economy. Machinery and equipment (M&E) accounted for RM36.6bn ($9.1bn) in production and RM30bn ($7.4bn) in exports in 2014, according to MIDA figures. Some 1250 companies were active in M&E, and a total of 1103 firms were involved in engineering support industries.

The four areas of the segment are power generating machinery and equipment, metalworking machinery, specialised process machinery, and general industrial machinery, components and parts. Under the 11MP, which runs to 2020, the government is likely to make efforts to incentivise the development of more sophisticated products within the subsector. Some incentives already exist for targeted M&E production, including a tax exemption on 100% of statutory income for up to 10 years or an investment tax allowance of 100% on certain capital expenditures.

Chemicals & Chemical Products

With the decline in oil and gas prices, Malaysia’s second-largest export, petroleum products, is rapidly losing ground to third-placed chemicals and chemical products in terms of export revenues. MITI figures for the first 11 months of 2015 show this subsector accounting for RM50.45bn ($12.5bn) in exports, up from RM46.73bn ($11.6bn) in the same period of 2014. The 2015 figure represented around 10% of all manufacturing exports, up from 9.4% in the same period of 2014.

Oil and gas is the foundation of the Malaysian sector, with the country’s abundant hydrocarbons resources being channelled increasingly downstream into higher-value-added areas. The country’s Economic Transformation Programme, initiated in 2010, made the subsector a target for government support, too, and Malaysia now possesses one of the largest oleochemicals sectors in the world, alongside its major petrochemicals and polymer industries.

The most recent data available from MATRADE, for 2014, shows the subsector’s exports breaking down into 43.6% petrochemicals and 21.9% oleochemicals, with the latter’s share, at RM112.9bn ($27.9bn), up 21.4% on 2013 while the former’s share rose 7.2%, to RM224.6bn ($55.6bn). According to the Chemical Industry Council of Malaysia, in 2014 the sector built 75 new, approved projects around the country, with a total capital expenditure on these of RM26.7bn ($6.6bn). This created some 121,763 jobs.

In petrochemicals, a wide variety of products are manufactured, with some of the most significant by value being polymers of ethylene in other forms, p-Xylene, methanol and urea. In oleochemicals, industrial fatty alcohols, palm fatty acid distillates, stearic acid and soap noodles are among the top products. Major MNCs operating in the sector include BASF, Eastman Chemicals, Mitsubishi, Idemitsu and Shell.

Pharmaceuticals

The pharmaceuticals sector has also been experiencing robust growth in recent times. The subsector breaks down into two broad streams – largely local companies focusing on traditional medicines, vitamins, supplements, over-the-counter drugs and generics, while the MNCs bring in internationally tested and proven drugs that are made available by pharmacies and health centres. These MNCs include Bayer, GlaxoSmithKline, Johnson & Johnson, Pfizer, Roche and many others.

All sector players are regulated by the Drug Control Authority under the Ministry of Health. There are also three key professional associations – the Pharmaceutical Association of Malaysia (PhAMA), which represents companies mainly involved in research and development (R&D); the Malaysian Organisation of Pharmaceutical Industries, which represents manufacturers; and the Malaysian Association of Pharmaceutical Suppliers. According to PhAMA, only 13% of MNCs manufacture their products domestically, however, with around 7% sourcing products from local companies. The MNCs thus rely heavily on imported finished products, with as much as 70% of local demand for pharmaceuticals being met by imports. The government and sector professional bodies have been trying to encourage more R&D in Malaysia and investment in local product development. The 11MP, thus includes a major focus on chemicals research, with chemicals one of the plan’s catalytic subsectors.

Medical Devices

Under the 11MP, the medical devices subsector is identified as a key growth area, and Dzulkifli Mahmud, CEO at MATRADE, told local media in January 2016 that he expects the AEC and Trans-Pacific Partnership to help launch the segment to double-digit growth figures in 2016. Even without the aforementioned agreements in place, medical devices achieved export growth of 15% over the 2014-15 period, according to Lee Chee Leong, deputy minister of international trade and industry. With RM651m ($161.4m) of investments secured for the medical sector in quarter one 2016, up from RM194.7m ($48.2m) in the same period of 2015, and strong links to supporting industries such as manufacturing, Malaysia is well-positioned to become a medical devices hub in Asia, particularly if export revenues hit the RM26bn ($6.4bn) figure projected by the National Export Council for 2020. RUBBER A long-standing producer of natural rubber, Malaysia is also now one of the world’s leading manufacturers of both natural and artificial rubber products. The country is the world’s largest producer of natural rubber and nitrile, or synthetic, gloves. In 2015 Malaysia exported 52% of all the world’s rubber gloves, a trade which was worth RM13bn ($3.2bn), 22% more than in 2014, according to the Ministry of Plantation Industry and Commodities. Most of the exports go to Europe and North America. According to the Malaysian Rubber Export Promotion Council, demand for rubber gloves has been increasing worldwide at a compound rate of 5.74% since 2005, with this set to hike to 6-8% in the next few years. The rubber gloves segment employs 41,000 workers, while the subsector is to receive RM7bn ($1.7bn) in further investment up to 2020. Local outfits in the subsector include Kossan Rubber Industries, Hartalega Holdings, Top Glove and Supermax Corporation.

Heavy Metal 

The M&E sector is able to leverage Malaysia’s home-grown metals industry, which was responsible for RM31.6bn ($7.8bn) in exports in the first 11 months of 2015, up from RM23.6bn ($5.8bn) in the same period of 2014. This was less than the imports accrued by the sector, which stood at RM40.59bn ($10bn) in 2015 and RM37.4bn ($9.3bn) in 2014. These figures excluded imports of iron and steel products, which were valued at RM20.24bn ($5bn) and RM23.2bn ($5.7bn), respectively.

The Malaysian Iron and Steel Industry Federation (MISIF) is the sector’s main professional association with 150 members. Despite cheap Chinese steel continuing to push prices and demand downward, MISIF expects M&E to grow at an annual rate of 4% up to 2018, though the infrastructure projects driving these growth projections are likely to be affected by budget cut backs and slowdowns. For 2014 MISIF reported that bars, wire rods, and coated sheets and strips were the three most produced products in the sector’s portfolio, with manufacturers producing 2.78m, 1.03m and 1m tonnes of these, respectively.

One of the sector’s chief challenges is the relative expense of manufacturing steel. Much of this stems from a lack of raw materials. While there is coal, it lacks the quality needed for steel-making, and iron ore deposits are widely dispersed. The recent hike in electricity prices, due to a switch to a new form of billing (see Energy chapter) also compressed margins. Despite this, the market continues to show promise as the economy expands. In late 2014 Brazil’s Vale opened a $1.4bn port terminal at Lumut, which can receive and export 30m tonnes of iron ore every year.

SMES

Constituting over 99% of business establishments, SMEs also make up more than 90% of Malaysia’s industrial firms. The government announced in June 2015 that it will introduce performance-based incentives for SMEs in 2016 to increase productivity and innovation and boost growth in the sector. Prime Minister Najib Razak said the performance-based package would have enhanced incentives, in addition to those already available for SMEs. In 2014 SME growth of 13.6% continued to outpace the expansion of the overall economy, with SMEs’ share of GDP rising to 35.9%. SMEs’ contribution to GDP grew thanks to strong domestic demand and a revised definition of SMEs which came into effect in January of the same year, putting 8000 larger companies into the SME category. Najib told press the SME Development Council is urging SMEs to become export-ready so as to take advantage of the AEC. “SMEs’ share of exports stands at 17%, and we want to increase it to 23% by 2020,” he said. In 2015 the SME sector was expected to grow by between 6% and 7%.

Outlook

With much of Malaysian industry focused on exports, the state of the global market is clearly key to its fortunes. At the same time, much of the country’s industry relies on imports, with these refashioned for re-export, or sold to the domestic market. This exposes the sector to foreign exchange risks, which have been a headache as the ringgit has slid in recent times. Furthermore, energy and labour costs have been rising, even though the costs of many raw materials have been falling. However, the industrial sector still has many advantages to leverage.

Malaysia has a well-educated workforce, infrastructure superior to many of its ASEAN neighbours and a strong base of government incentives and schemes aimed at pushing the sector to the next stage of higher-value-added products. The 11MP makes this an explicit goal, but it may increasingly have to be the private sector that takes the initiative in raising the bar. The year ahead will be key in discovering how this challenging task can be achieved.