Most of the news you read isn't good with respect to bringing manufacturing back into the United States from foreign countries. High labor costs and high corporate taxes are major deterrents to putting in new manufacturing plants or keeping manufacturing here. A 2008 survey by the Manufacturing Institute, the research and education arm of the National Association of Manufacturers (NAM), showed that among manufacturers, the top two priorities for government should be labor cost and tax policy. For many CEOs, when faced with those factors, the numbers favoring the United States just don't add up.
Yet for some companies, the decision is made easier by the increasing costs of doing business halfway around the world. The realities behind those higher costs include the extremely long supply chain and inventory pipeline, and the problem of intellectual property theft, an ongoing problem in China that drives some companies back to the United States.
In May of 2009, AlixPartners LLP, a consulting firm based in Southfield, Michigan, released its AlixPartners 2009 Manufacturing-Outsourcing Cost Index, which shows a significant change in the aggregate Low-Cost Country (LCC) manufacturing rankings within just the first six months of 2009, as Mexico surpassed both China and India for the components studied. Outsourcing has become "a whole new ball game" according to Stephen Maurer, a managing director with AlixPartners.
As a result of the challenges of outsourcing to China, India, and other Southeast Asian LCCs, U.S. companies are starting to rethink their outsourcing strategies and ask if offshoring really makes sense in light of extremely complex supply chains, quality, intellectual property issues, and higher costs of not only labor but of shipping goods and keeping the inventory pipeline filled.
The Diminished China Advantage
Gone are the days when OEMs could realize 30 to 50 percent cost savings in manufacturing their products, which today gives companies pause when they consider whether it makes more sense to manufacture in the United States. To develop its index, AlixPartners looked at the relative costs for a market basket of parts over the past three years, and the results showed that China, once the lowest-cost supplier for this market basket, dropped to third in LCC rankings, behind second-ranked India and the new number one, Mexico.
With new tariffs, taxes, and employee salary and benefits laws that took effect January 1, 2009, many OEMs have had second and even third thoughts about keeping manufacturing in China. Added up, China's manufacturing advantage as an LLC only amounts to about 5 percent. Given the other risks of manufacturing in China, is it really worth it?
Hy-Lite Blocks, a division of U.S. Block Windows since March 2009, molds acrylic architectural blocks for use in privacy windows, indoor radius walls, and partitions. The company recently moved its molding operation back from China to its company headquarters and manufacturing facility in Pensacola, Florida - a strategic decision that Roger Murphy, Hy-Lite's president, believes will improve the company's bottom line.
Murphy explains that about five years ago, the injection molds used to make the Hy-Lite blocks were moved to China and Canada from Mission Plastics, a custom injection molder in Ontario, California, primarily to save costs. "About 60 to 70 percent of the blocks we sold came from China," says Murphy. "[This involved] a long, complex supply chain, and complicated inventory planning and forecasting, and as oil got more expensive, so did shipping costs, effectively eradicating any cost savings that we were realizing."
This is particularly true of companies whose primary market for its products is the United States. The long supply chain and the huge inventory required means that companies cannot be as flexible in serving their customers. Demand fluctuations cannot be addressed easily or quickly. According to one OEM company president, if a quality problem is discovered in parts reaching customers in the United States, there are most likely quality problems throughout the entire supply chain stretching all the way back to China. That makes the true cost of manufacturing offshore in places such as China a whole lot more than the quoted price of the parts on the RFQ.
As Hy-Lite's Murphy says, "Molding costs look a lot less on paper, but by the time you add in all the other costs, including the material we were shipping to them, it didn't make sense. Since we had in-house molding, it wasn't a difficult decision." The company has purchased additional molding presses to accommodate the molds and do the molding in-house.
According to a report from Archstone Consulting, based on a 2008 Archstone/SCMR Survey of Manufacturers, nearly 90 percent of manufacturers report that they are considering or have already begun rebalancing their manufacturing and supply strategy. Nearly 40 percent of the manufacturers who responded to Archstone's survey said they experienced cost increases of more than 25 percent. And those figures came out prior to China's new tariff and wage laws took effect.
The Intellectual Property Problem
Nearly every OEM that manufactures products in China confronts must confront the ever-growing problem of a high rate of intellectual property (IP) theft and piracy. Farouk Systems Inc., headquartered in Houston, Texas, specializes in high-end hair care products, including its CHI brand hair irons and low electromagnetic field (EMF) blow dryers, and Biosilk hair care products. At one time, says company founder Farouk Shami, his CHI hair care products were manufactured in the United States. Or so he thought. He found out that the manufacturing company had subcontracted the molds to a Chinese molding company. Unhappy with that arrangement, he decided to move the manufacturing to another Chinese molder.
It wasn't long before the CHI products were "knocked off" by counterfeiters seeking to reap the profits of CHI's popular brand name. Shami spent several years fighting the counterfeiting rings, but says that as fast as he could shut one down, another would open up, sometimes right next door to the first one. The battle was costing Shami approximately $500,000 a month, including replacing defective CHI irons and dryers that turned out not to be manufactured by Farouk Systems. "I'm hoping that the U.S. will be more involved in checking for counterfeits at the border to make sure products coming into the country are authentic," says Shami. "The government should help manufacturers uncover counterfeits."
Shami has located custom injection molders in the Houston and Lubbock areas to mold the plastic components in the CHI products, working at about the same price the Chinese molder was molding them because Farouk has given them high-volume, long-term contracts. While Shami acknowledges that there is a cost advantage to manufacturing overseas, he's certain he'll be able to offset higher labor costs in the United States by using state and local tax breaks, eliminating the import duties and marketing his products as "Made in the U.S.A." "People want `Made in the U.S.A.' on the products they buy," he says. "I want `Made in the U.S.A.'"
It's tough to control a manufacturing operation in China from a U.S. headquarters. Just ask Rick Admani Abulhaj, COO of Diagnostic Devices Inc. of Charlotte, North Carolina. The company, which manufactures blood glucose monitoring systems called Prodigy, had 600 workers at its China facility, but problems with quality control, as well as rising costs, prompted the company to come back to Charlotte, where it will hire 200 employees at a new manufacturing facility. "Using cutting-edge automation and robotic technology will give us greater control of our operations, reduce costs and protect our intellectual property," says Abulhaj. "The primary benefit to taking manufacturing offshore is strictly for the cheap labor, not the technology. Robots, vision systems, other automation - even if you put all that in China, there's no one there who can fix the machines or service them. You go for cheap labor."