Advertisement

Blog

Asia Freight Costs Spur Competition: In Spain

A report by the Financial Times makes an interesting claim this week about Asian shipping costs and European labor. The product at hand is, of all things, high-tech windmills.

According to the report, Denmark’s Vestas, which makes power generating wind turbines, plans to lay off a third of its Danish workforce. Sales are down, and Danish labor is expensive. “A turbine manufactured in China and shipped to Denmark costs about the same as making it at home,” writes the Financial Times .

That’s a pretty common situation — outsourcing jobs to Asia. But it’s not the whole story this time. Though labor costs in China are greatly less than in most of Europe, the balance between the shipping costs and the European labor situation is hardly static. “Vestas must always be able to compete against what we call Asia cost plus freight,” the company’s CEO told the FT . But he added that the company has other options outside Asia — and within crisis-wracked Europe.

Building a windmill in Spain — where unemployment is nearing 20 percent — and shipping it to a customer in Sweden, is cheaper for Vestas than building one in Denmark, he said. What that means is that “Asia cost plus freight” has competition now: Let’s call it, a little awkwardly, “Spain cost, or Greece cost, or the cost of any other place with crippling unemployment and a convenient three-day trucking distance from Denmark.”

Labor for building a windmill in China may cost less than Spain’s Euro-compensated workers. But with Europe still reeling financially, at some point companies like Vestas are going to wonder if shipping from Shenzhen is really cheaper than from Seville or Slovakia. Sofia. St. Petersburg. OK, enough with the S’s; you get the point: Labor’s cheap everywhere these days.

Just how cheap is part of the issue. The gap between China’s labor savings, and the cost of the long supply chain to reach it, is still very wide. Last summer, speaking to The Economist, Stephen Roach, {complink 7075|Morgan Stanley}’s chair in Asia, argued that even as China develops, its labor remains virtually free, and could stay that way for the visible future:

    According to research published in the Monthly Labour Review of the US Bureau of Labor Statistics in April 2009, compensation of Chinese manufacturing workers was only $0.81 per hour in 2006—just 2.7% of comparable costs in the US, 3.4% of those in Japan, and 2.2% of compensation rates in Europe. While these figures are now out of date by nearly four years, they underscore the magnitude of the gap between China and the developed world—and how difficult it would be to close that gap even under the most excessive of Chinese wage inflation scenarios.

By comparison, minimum wage in Spain for 2005-6, the same period as the Roach-cited study, was just under €500 (US$700) per month. It currently stands at just over €600 per month, minimum. That’s about eight times more than the Chinese wage of US$0.81 an hour, which is about $120 a month.

Still, Vestas, which is the world’s largest manufacturer of windmills, in an era of strong investment in clean energy, thinks it's worthwhile to look into building closer to home. As Chinese labor costs rise, and wages stagnate in crisis-era Western Europe and still-emerging Eastern Europe, the part that has to give is in the shipping (and the port taxes; keeping supply chain costs between EU economies competitive is, of course, part of the point of the European Union).

Asia’s advantage, wages, have to rise eventually, and Europe’s, these days, don’t. When labor costs rise, a company like Vestas is naturally going to start wondering whether a windmill loses more value spending two weeks on a boat from the Pacific, than it does in three days on a truck from the Mediterranean.

11 comments on “Asia Freight Costs Spur Competition: In Spain

  1. Anna Young
    November 1, 2010

    Spain isn't doing any better simply because one company has decided to manufacture its products there. A low wage Western European nation-and that's what Spain is relative to Germany and the U.K.–won't win enough manufacturing projects to compete with China. The supportive supply chain infrastructure in place, for instance, does not exist in Spain. It has taken years for China to build up the critical network of component suppliers, raw material vendors, and contractors required for a well-oiled system to emerge.

    Simply because the average Spanish worker's wages may be less than those of counterparts in Germany will not guarantee the shift of production to the country because there are so many other issues to consider. Labor cost, as most involved in outsourcing evaluation would concede, is only one single factor in the total cost of production consideration. Other elements may weigh considerably heavier than labor costs.

    What this means is that if the Spanish are going to take on the like of China and attract manufacturing they will have to do a lot more to improve the country's attractiveness. Then there is the one single thing Spain really cannot do anything about to match China and that is the large and growing domestic market. Spain's production will be mostly for export whereas an increasing portion of Chinese production is now for local consumers.

  2. Marc Herman
    November 2, 2010

    Anna, thanks for your comment. What surprised me about the windmill example wasn't that it suggested Spain was somehow going to become China. For all the reasons you identify. I think it's interesting, nevertheless. It's an example of a medium-sized European company identifying what it claims is a supply chain savings, sufficient enough to make it worth paying a higher labor cost. Like you say, China is the perfect place to do this work. And according to the article in the FT, the windpower company already has relationships there. What did Spain do right to get in on this business? It's not a shock that it's cheaper to build in Spain and ship to Sweden than it is to build in Denmark and ship. But it's also cheaper to build in Spain and ship to Sweden than to do so from China? That's interesting to me. What I'm saying is “Mira ! Here's an interesting example of a company choosing to pay higher labor costs than they would in China. The article doesn't say it's because Spain for some reason makes better windmills. It just talks about shipping. What has this company figured out? Interestingly, they are also hiring, reportedly, 3000 workers in the United States, to produce turbines for the US internal market. Why not build those in China too? Why not, indeed, build everything in China (or somewhere in east Asia, with all the advantages you cite)? That's the discussion I think the windpower example, uh, generates.

     

     

  3. Jennifer Baljko
    November 2, 2010

    Hi

    I see both of your points. Obviously, many countries in Europe and elsewhere are looking to improve their tax base, get people back to work, and make themselves attractive spots for local or foreign investment. And, Spain's worrisome situation won't go away because one – or even 20 – companies change their manufacturing direction. The problems in Spain, Portugal, Greece, and in other places around the EU go deeper than that.

    But as Mark points out, shipping versus outsourcing costs has long been debated in the electronics industry. I remember sitting in on all sorts of meetings, conference calls, and luncheons where this exact issue – the tradeoff between total-landed costs and cheap labor far from home – has been a key discussion point. Forward-thinking companies previously made manufacturing and shipping decisions not only on labor costs, but also on customer delivery expectations, quality standards, and inventory management capabilities (or so they said). That's why high-tech companies previously invested in places like Mexico, Bulgaria, and Romania – they wanted to take advantage of other cheap labor locations and serve the local market from a closer manufacturing hub. I even remember a couple companies deciding to invest in Vietnam instead of China because it made better financial sense and more effectively aligned to the company's global strategy at the time.

    It's not surprising to me that companies like Vestas are running the numbers and re-assessing their manufacturing and shipping options. That's a smart thing to do every few years given the constantly changing global market dynamics. Arguably, it was this kind of cost-management analysis that led companies to China in the first place. What surprises me, though, is that more companies aren’t doing this kind of figure-crunching or making these kinds of announcements. It seems to be a good time to do so.

  4. Marc Herman
    November 2, 2010

    What she said.

  5. Barbara Jorgensen
    November 2, 2010

    I second that (what Jenn said). Thank goodness someone is running the numbers and comparing freight costs. One of my biggest problems with the run to China is labor is such a small portion of many electronics manufacturing costs. I won't go so far to say that low-cost labor doesn't make a difference in many cases, but it is far from the full picture.

  6. Marc Herman
    November 2, 2010

    Or at the very least, labor's a particularly fluid part of the overall picture. Part of the issue with some of these technologies appears to be that it's not strictly heavy industry or light; not exactly assembly and not base manufacturing; not clearly high or low tech, even. Is a modern windmill a piece of electronics, or is it a piece of heavy equipment? It's both. And I suspect that's part of the cost issue that's causing labor costs to be a small enough part of the equation to allow for a factory in Europe. (and as an aside, isn't it great that it's Denmark and Spain that are into windmills? I should see if the Dutch are in on this too. )

  7. Ariella
    November 2, 2010

    You prompted me to look this up.  It seems that technology actually drove most of the windmills out of business and use as mills in the Netherlands, down to only 1,000 today from 10,000. See http://us.holland.com/e/7779/The%20land%20of%20the%20windmills.phpThey may still be standing, but many are just used for storage.  The original windmills there were built to drain water out of land that was to be used for crops.”The mills did not originate in Holland but were said to have been introduced to Europe by the Middle East during the times of the Crusades.”  

    I would add an ironic note on that.  Sir Moses Montefiore reintroduced the windmill to the Middle East by having one built in Jerusalem in the mid-Nineteenth Century.  It was not a success, though it remains a curiously incongruous part of the city's landscape. See http://en.wikipedia.org/wiki/Montefiore_Windmill  Of course, the windmills of today are used for different purposes, but they also require engineering that takes the wind pattern of the area into account.

  8. Marc Herman
    November 2, 2010

    Well thank you for that. I would be lying if I said I wasn't slightly deflated to learn that the original windmills weren't mills, they were pumps. I have no idea why that bothers me. I suppose windpump is way too ugly a word to bother coining.

  9. Ariella
    November 2, 2010

    You're right that the terms sound misleading.  Perhaps the Dutch word is different and can connote pump, as well as mill.  The windmills did become a distinctive feature identified with the Netherlands, and they do look picturesque.  Unfortunately, the modern windmills — if you think about it, they aren't technically mills either but turbines — do not really enhance the landscape in the same fashion.

  10. Ashu001
    November 6, 2010

    Marc,

    The Answer to your question-“Why not build everything in china?” Lies in crude oil prices.Crude Oil prices are rising and continuing rise very significantly today because of a weakening Dollar as well as huge demand from Asia.

    As Crude Prices rise,transporting Goods over long distances(thats what Globalization is all about),becomes increasingly expensive and unviable for most large manufacturers.So you will increasingly see them establish specialist factories which cater to Internal Demand with some additional capacity which can be ramped up to take care of demand elsewhere as it arises.

    Regards

    Ashish.

  11. Marc Herman
    November 8, 2010

    Hi there, thanks for you comment. Did you happen to see that report a couple of months back about how Maersk, the shipping line, had slowed their ships down so much — owing to both fewer orders to fill, and more concerns about fuel costs — that goods were moving across the Pacific at roughly the same rate they did in the era of clipper ships? I found that pretty astounding. It would be interesting if all this comes down someday to whether or not a cargo ship captain receives orders from the port office to floor it.

Leave a Reply

This site uses Akismet to reduce spam. Learn how your comment data is processed.