The road to Industry 4.0 and advanced agri-business in the Philippines

 

Industry has made a sustained contribution to the Philippines’ economy in recent years, accounting for roughly 30% of GDP between 2017 and 2019. Sector growth was driven predominately by manufacturing, which comprised more than half of industrial output and 19% of GDP over the same period. Growth was constrained in 2020 as Covid-19 response measures impeded manufacturing activity and reduced global demand for industrial products. Even so, there were already signs that manufacturing activities had begun to recover in the second half of the year.

Meanwhile, agriculture comprised 9-10% of GDP from 2017-19. Given the sector’s importance to the economy and population – providing 22.9% of total employment in 2019 – increased emphasis has been placed on transforming traditional farming into a dynamic agri-business sector. These efforts align with the current administration’s Inclusive Innovation Industrial Strategy (i3S) and have been identified by the World Bank as key to the country’s economic rebound.

After a difficult 2020 – which began with the Taal Volcano eruption in January that caused severe disruptions to manufacturing, construction, agriculture and tourism activity – it will be necessary to address ongoing challenges to enable long-term manufacturing growth. Key among these are high production and electricity costs, inadequate infrastructure and limited basic industries. Supporting businesses in the adoption of Industry 4.0, which is the application of new digital and automated technologies to enhance production processes and service delivery, will further boost resilience and aid in the transition towards a more digitalised economy.

Structure & Oversight

The Philippine Statistics Authority (PSA) classifies firms in manufacturing, mining and quarrying, construction, and electricity, gas and water supply as industry. The manufacturing segment’s most important product in 2018 by gross value added at constant 2000 prices was food, at P721.2bn ($14.3bn), followed by radio, television and communication equipment at P378.3bn ($7.5bn), and chemical and chemical products at P251.4bn ($5bn).

Manufacturing and downstream production are overseen by the Department of Trade and Industry (DTI), whose responsibilities include increasing local and foreign direct investment; raising the competitiveness, innovativeness and resilience of industries and services; improving access to finance, production networks and markets; enhancing productivity, efficiency and resilience; and ensuring consumer access to safe and quality goods and services. The Philippine Economic Zone Authority (PEZA), which is part of the DTI, regulates and administers special economic zones, of which 74 are centred on manufacturing, 22 on agro-industry and 19 on tourism. PEZA also oversees 262 IT and two medical tourism parks, while liaising with foreign firms to attract new investment into critical industries.

Performance

Industrial revenue grew by 4.7% in 2019, down from a 7.3% expansion the previous year. The sector contributed 1.4 percentage points to GDP growth, according to the 2019 report from the central bank, Bangko Sentral ng Pilipinas (BSP). Though manufacturing grew by 3.2% in 2019, this was slower than the 5.1% seen the previous year and the lowest growth recorded by the segment since 2009. The slowdown was attributed to weak performances in a number of major products, including furniture, with production down 17.9%; coke and refined petroleum products (-15.7%); and computer, electronic and optical products (-4.3%). These downturns were somewhat offset by improved performances in recorded media, which grew by 15.2%; tobacco products (14.8%); and basic metals (13.6%).

The export of goods expanded by 2.7% in 2019 to $53.4bn, thanks to a 2.1% increase in the export of manufactured goods. One category driving this was electronic products, the shipments of which grew by 8.9%. According to figures from the PSA, the top industrial export category was electronics and electrical equipment, parts and telecom, valued at $37.6bn in 2018 and up from $36.5bn in 2017. The second-largest industrial export was machinery and transport equipment, the value of which remained consistent over the same period, at $5.1bn.

In the first quarter of 2020 industry contracted for the first time in almost a decade, by 3% year-on-year (y-o-y), reversing a 4.9% expansion for the same period the previous year. This was driven by a 3.6% contraction in the manufacturing segment, which was due not only to global value chain disruptions caused by the Covid-19 pandemic, but also to the eruption of Taal Volcano, which severely impeded manufacturing activity in Calabarzon – a region that accounts for almost 40% of the country’s manufacturing output. Industry’s contribution to GDP at constant 2018 prices fell from P2.9trn ($57.7bn) in the first half of 2019 to P2.5trn ($49.7bn) for the first half of 2020, according to data from the DTI. Manufacturing’s contribution to GDP also dropped over the same period, from P1.8trn ($35.8bn) to P1.6trn ($31.8bn).

The value of production index (VaPI) – which measures the change in monthly production values of manufacturing – reflected the downwards trend, registering a 19.2% fall in June 2020 compared to a 7.7% decline in June 2019. Although this was the fourth monthly drop in a row, the rate was less severe than the 30.1% decline recorded in May 2020, showing a sign of recovery. “The declining trend slowed in June, reflecting the gradual easing of quarantine restrictions,” Karl Kendrick Chua, acting secretary of the National Economic and Development Authority, told local media in August 2020. More recent statistics show that y-o-y VaPI figures contracted more slowly in July and August of that year, registering a drop of 17.2% and 13.8%, respectively. Other positive indicators included a slower contraction in the volume of production index, which slowed from a y-o-y decline of 37.6% in April 2020 to a 9.9% drop in August 2020.

Construction

Construction is the second-most-significant contributor to industry in the Philippines. In 2019 the segment grew by 7.8%, although this was around half the growth recorded the previous year. The slowdown was due to a 3.6% contraction in public construction, down from 20.9% growth registered in 2018 and representing the slowest growth rate since 2011. The decline in public construction activity was attributed to the delayed passage of the 2019 budget and a public works ban during the midterm elections.

Nevertheless, the government remains committed to boosting public spending in pursuit of its flagship Build, Build, Build (BBB) development agenda, and officials continued to underline the importance of this programme during the pandemic. “We have not downgraded BBB. The programme is going to fuel our bounce back,” Carlos Dominquez, secretary of finance, told local media in April 2020. Despite reallocating some of the 2020 BBB budget to the Covid-19 stimulus package, by August the number of infrastructure projects under the initiative had expanded to 104, with 97 flagship projects retained and seven others added to suit the needs of the new normal, worth a combined P4.1trn ($81.5bn). These developments are expected to drive construction activity in the medium term (see Transport & Infrastructure chapter).

Construction activity will be muted in the more immediate term. The segment was valued at P525.6bn ($10.5bn) in the first half of 2020, a y-o-y decrease of 20.3% from P659.2 ($13.1bn), according to the PSA. Given the ongoing challenges, Fitch Solutions, the research and risk analysis arm of international credit ratings agency Fitch, announced in August that it expected construction to contract by 9.8% over 2020 – a downward revision from its June forecast of 2.9% expansion. However, the company expects the construction segment to recover with growth of 9.5% in 2021, contingent on the containment of the virus and the resumption of regular building activity (see Construction & Real Estate chapter).

Agri-Business

While the agriculture, forestry and fishing sector expanded by 1.2% in 2019, up from 1.1% in 2018, its performance remained sluggish. The slight growth was attributed to improvements in the output of key products such as maize, which was up 3.3% in 2019 compared to a 1.5% decline in 2018, and mangoes, which were up 4.3% in 2019 compared to a 2.9% contraction the prior year. Poultry and egg production also contributed to sector growth in 2019, registering a 5.8% increase on 2018. However, output of palay (unhusked rice), which accounted for 20.1% of total sector output in 2019, dropped for the second consecutive year – this time by 5.9% – as the El Niño weather pattern adversely affected the water-sensitive crop. Other products that weighed on growth included sugar cane and bananas, with production falling by 8.9% and 2.1%, respectively.

Given the vulnerability of agriculture to climatic conditions, the government has prioritised weather-resilient crops. To this end, officials are taking steps to encourage farmers to shift to high-value, short-maturing and high-yielding crops that can help boost production totals. For example, under the draft Philippine Rice Industry Roadmap 2040, areas not competitive in rice production will be shifted to high-value crops such as bananas, coconuts and certain vegetables.

Nevertheless, the Department of Agriculture (DA) recognises the importance of rice to the economy: not only is it a staple, it is the source of income for some 11.5m farmers and their families. The DA has advocated for the use of hybrid rice seeds to increase yields, a move that has been well received by the business community. In mid-April 2020 the DA announced that it would launch a Plant, Plant, Plant programme to help farmers and fishers weather the impact of the pandemic. The aid, worth P31bn ($616.6m), is to be used to enhance inputs, provide seeds and increase production in Luzon, Visayas and the Bangsamoro Autonomous Region of Muslim Mindanao.

Value Chain

Agri-business is among the industries prioritised by the i3S, which aims to foster innovation by creating industrial clusters in an enabling environment. The establishment of linkages between large agro-industrial firms and conglomerates, as well as the empowerment of farmers through education and technology, will be pivotal to industrialising and modernising agriculture. To this end, the Investor Relations Office, in partnership with the DA and the Department of Finance’s Strategy, Economics and Research Group, organised the Sulong Pilipinas Agri-business Summit in Davao City in December 2019. The event was attended by over 800 sector players, who were informed of the public policy agenda and programmes aimed at improving efficiency and productivity, as well as government support available to widen access to financial services, export markets and farming technology.

Also key to modernising agriculture and boosting its competitiveness is the youth, as the average age of farmers is 56-60 years old. As such, the government initiated several campaigns to attract young people to farming by cutting red tape. For example, the DA partnered with digital financial services provider PayMaya to launch a programme in July 2020 that allows Filipinos aged between 18 and 30 to access loans of up to P500,000 ($9940) for agri-business through cash cards, thereby expediting the bureaucratic process.

Disruptions

The transition to agri-business rapidly accelerated during 2020 as the agriculture sector responded to global supply chain disruptions and restricted access to inputs and services during the pandemic. While the country effectively managed potential large-scale disruptions to the local food supply chain in the short term (see analysis), the World Bank suggested that planning beyond the current health crisis could provide an opportunity to become more resilient, inclusive, competitive and environmentally sustainable over the longer term. In its “Transforming Philippine Agriculture – During Covid-19 and Beyond” report published in June 2020, the international institution suggested shifting from a supply-oriented approach that protects specific products to a demand-driven strategy whereby most of the income-earning and job-creation opportunities would originate in subsectors other than rice. The report also called for more investment in agri-business, and suggested the launch of an agri-business innovation and education centre to help the segment align itself with Industry 4.0.

Challenges

Although the government has prioritised industrial development, hurdles to realising the country’s full potential remain. Stakeholders often point to the high cost of electricity as a key hindrance to industrial progress. Indeed, electricity prices in the Philippines are among the highest in South-east Asia, although they have been on a downward trajectory since early 2020. In September 2020 the Manila Electric Company, locally known as Meralco and the country’s largest power producer, cut its rates for the fifth month in a row to P8.43 ($0.17) per KWh (see Energy chapter).

Another barrier is inadequate logistics and infrastructure that is needed to perform complex industrial activities. For example, the Philippines does not produce steel – only rebar – and depends heavily on Chinese imports. The groundbreaking of the country’s first steel mill was anticipated to take place in 2020, but had been postponed as of October due to the pandemic. Located in Mindanao, the $4.9bn project is a joint venture between Philippine and Chinese companies HuiLi Fund, China Baowu Steel Group and CISDI Group, a subsidiary of China Metallurgical Group Corporation. The construction period will generate roughly 20,000-30,000 jobs, and once fully operational the mill is expected to produce approximately 5m tonnes per year of flat products such as steel plates, as well as long products such as billets, round bars and wires.

The country also lacks major production capacity for agricultural chemicals and remains reliant on imports, which weighs on the competitiveness of local crops. Fertiliser comprises about 12-17% of Filipino rice farmers’ production costs, the total cost of which was P12.72 ($0.25) per kg in August 2019, compared to P6.22 ($0.12) in Vietnam and P8.86 ($0.18) in Thailand. According to the Fertiliser and Pesticide Authority, the Philippines imported nearly 2.5m tonnes of fertiliser, worth a combined $680.7m, in 2019. As a result of the high costs for imported fertiliser, many farmers either use sub-optimal levels of fertiliser or none at all, which limits output and inhibits food self-sufficiency efforts.

Localisation

With an eye to reducing dependence on imports and boosting industrial competitiveness, the DTI has emphasised the need for localisation. In 2014 and 2015 policymakers presented the “Industry Roadmaps and the ASEAN Economic Community Game Plan: Roadmap Localisation for Competitiveness” strategy at stakeholder conferences to encourage the development of local industry.

The push for localisation became more urgent in light of the global disruption to supply chains. In August 2020 Ramon M Lopez, secretary of the DTI, urged lawmakers to include support for manufacturing and construction in the proposed Bayanihan to Recover as One Act – also known as Bayanihan 2 – a P140bn ($2.8bn) recovery package. Lopez noted that manufacturing recorded the most significant decline in demand, labour force productivity and cost escalation. Among the DTI policy proposals were preference for the purchase of items such as personal protective equipment (PPE) from local firms; infrastructure projects, particularly those under BBB; public utility vehicle modernisation; and a revamp and expansion of telecommunications infrastructure.

Bayanihan 2 was signed into law in September 2020 and included some of the DTI’s proposals. The stimulus prioritised locally manufactured products and included P3bn ($59.7m) for the procurement of PPE, P9.5bn ($188.9m) for transport programmes and P4.5bn ($89.5m) for the construction of temporary isolation facilities. Another P24bn ($477.3m) was provided as loans for farmers and an allowance for micro-, small and medium-sized enterprises (MSMEs) to access loans via government financial institutions. According to the Small Business Corporation, the financing arm of the DTI, 50,000 MSMEs should benefit from the P10bn ($198.9m) in financial support. Bayanihan 2 also includes a standby fund worth P25.5bn ($507.2m).

The absence of a local PPE industry meant that the Philippines was dependent on imported face masks and ventilators during the early stages of the pandemic. However, local players quickly seized the opportunity to help the Covid-19 response by adapting manufacturing capacities to products in high demand. For example, Philippine supplier EMS Group repurposed its contract manufacturing business to incorporate the production of medical-grade face masks, and as of early October 2020 it had localised some raw materials. EMS retrained a portion of its staff in medical standards, US Food and Drug Administration processes, and medical terminology. By that month approximately 8m-10m N88 face masks and 3m KN95 masks had already been allocated for export. Another local manufacturer, Integrated Microelectronics (IMI), also began producing medical equipment for export markets. Given that around 90% of Covid-19 patients do not require a comprehensive ventilator, IMI developed the Ventura Flow Generator ventilation system for patients with mild symptoms.

As the country continues to adapt to the new normal, developing a local PPE ecosystem, including the establishment of testing laboratories, is also an aim of the DTI’s Revitalising Businesses, Investments, Livelihoods and Domestic Demand (REBUILD) initiative. The forward-looking strategy seeks to leverage technology to revitalise consumption and empower production capacities to meet this demand – with a focus on securing a modernised and integrated industrial capacity, with high-value Philippine products and services integrated into global value chains. REBUILD priorities include: accelerating investment in sectors that support Industry 4.0, address supply chain gaps or generate high value creation or employment opportunities; encouraging digital transformation; developing innovative start-ups that capitalise on disruptive business models and technologies; and launching an international investment promotion campaign.

Outlook

The prioritisation of some infrastructure projects, ongoing agricultural development initiatives and shifting industrial activities look set to help the economy partially offset lower construction and manufacturing revenues for 2020, while activity in these areas is expected to rebound in 2021. Momentum in the rollout of Industry 4.0 resumed after the peak of the pandemic, as the government emphasised the importance of developing key segments, pushed for the promotion of locally manufactured products and ramped up support to help small companies adapt to a changing business environment (see Economy chapter).

Manufacturers continue to innovate, launching new business lines that meet growing local and global demand for health-related products, with increased productivity and higher-quality standards set to boost competitiveness. At the same time, forced adaptation during the strict lockdown period when worker mobility was restricted could lead to an accelerated uptake of automation solutions and remote work where possible, two trends that are expected to boost long-term productivity. Meanwhile, the urgency to further develop agri-business is anticipated to add value to agricultural products and improve farmers’ incomes, as well as enhance self-sufficiency and boost resilience against any future global shocks or supply chain disruptions.

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The Report: The Philippines 2021

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