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The State of On-Shoring: The Problem of China

When we discuss on shoring, the elephant in the room is always the People's Republic of China (PRC). China's economy is slowing fast enough to raise the issue of its future direction. The PRC has had a good run as a low-cost manufacturer with decent product quality, but labor costs have risen drastically over the last decade making the country vulnerable to re-sourcing decisions that take into account the logistics costs and risks associated with long pipelines.

From a nation-state perspective, China is a poor partner. Trade is very one-sided and, despite promises to open up, most companies find doing business in China very difficult. The state and party require large portions, usually a majority, of ownership to vest into their hands directly or indirectly, while treading through bureaucracy is a nightmare. In the long haul, China's success is unsustainable on this basis alone, especially with labor costs quadrupling in the last decade, bringing costs close to parity with low-wage areas in the US.

The electronics industry, including mobile phones, computers, and consumer durables, has migrated much of its manufacturing base to China over the last decade. This was a result in part of the lower Chinese labor costs, but a significant contributor was the ability of Chinese companies to operate on very thin margins. While U.S. companies, and especially mature large corporations, run with fat staffs, the ODM focus is on high-volumes and thin staff head-counts.

To put this in perspective, a couple of decades ago, I ran the PC division of a major company with just 30 people in operations and engineering, compared with my neighbor, IBM, with 7000 in engineering alone. They generated 10x my revenue, but made little profit. Another example, a major PC maker moved to a costly part of the U.S., built a huge HQ and hired four layers of management with vice president in their title. They no longer exist and that excess overhead is what killed them.

The South China Sea situation and all of the tensions around hacking point up the fact that computers are a strategic resource for developed countries. Good sense would have manufacturing and assembly capability at least partially on-shore to protect against political disruptions.

There's a good chance that, irrespective of the China Sea issue, China is facing serious economic disruption for a while which could make on-shoring viable, but these things are cyclical and preventing a return to off-shoring requires some radical thinking on what electronic products we make and how the businesses assembling them are run.

First, let's tackle the “what” part of the equation. We are hitting a sea change in computer technology. For the first time, the CSPs have each focused on a few design centers that are mass-produced. This migrates the production target to one of low variability and high volume, and away from the highly variable models of the past. Designs are themselves simplifying. SSD and hybrid memory/CPU modules will reduce the component count in a server and make assembly robot-friendly. If these two key elements are made outside of China, as seems to be the current plan, we have a ripe opportunity for on-shoring the assembly process.

Companies such as Synnex, Sanmina, and Seagate's Xyratex division all are experienced in configure-to-order fulfillment (they already do it for Dell, HP, etc.) so we aren't starting from scratch. Unfortunately, they aren't heavy into robotics yet, but labor content on the new designs should be very small and not the most pressing problem. The thought process of “regionalizing” manufacturing appears to be getting some traction as a way to speed up response to local market needs.

Though to China is the poster child for off-shoring, other countries contribute to the issue. India is the go-to place for call centers and software-on-a-budget, for example. There is evidence that many clients are not fully comfortable with off-shoring. As a result and with automation of commoditized tasks improving rapidly, the India model is changing to a hybrid where work is partially done on-shore as well. It may be that the large Indian service vendors own the on-shore efforts, too, but it does imply a reshoring of significant value.

This same issue of robotics may change the decisions in China too. A few years ago, FoxConn was talking up layoffs of over 1 million workers, with robots replacing them. As said above, the new designs should make robotics even more attractive. The question is where the robots go. With remote support one option, it may be a hybrid scheme where overhead and engineering is done in China, while robots are placed in the EU and US, but maintained from China. This reduces the serious risks of 12 to 16 week pipelines almost to an on-demand situation with little work-in-progress inventory and great agility.

Technologies such as 3D printing, digital manufacturing and IoT all improve the economics in favor re-shoring, while there is evidence that Chinese companies are interested in U.S. investment, with around $46 billion invested since 2000.

Overall, re-shoring has slowed somewhat in the face of the world economic weakness and he strong dollar. With a very acrimonious election facing them, we may see some leadership in Washington appear out of all the rhetoric on the subject. While the U.S. Congress is currently absent any action on the off-shoring of jobs, a few states have begun to place tough limits on the process. California, for example, is considering a bill to restrict public utilities from off-shoring, combining a job-protection goal with security for critical infrastructure. 

7 comments on “The State of On-Shoring: The Problem of China

  1. John Benito
    April 15, 2016

    Dear Bill,

    Some of your coments are not quite correct!

    Issue No.1

    There quite a few of the companies that you mentioned in your article that are getting 4-5 days deliveries for make to order computers in China today!

    That is an order is entered in the system on Monday in NY and goods will be delivered on Thursday evening or latest Friday morning of the same week!

    Issue No.2

    The main problem with re-shoring in the USA is the fact that labour costs and indirect costs (The four layers of management that you mention is just one of them!) are still way above of those of China and many Asian Countries.

    The unions and the costs of having operations working 24/7 to improve Assets utilization make the equation highly uncompetitive in the USA!!

    Add to that transportation costs, at their lowest in Years from Asia to USA and Europe and then the equations become even more loopsided! On this subject, Transportation costs in the USA are still too high! Please make a comparasion of sending a container from HK or SZ or SH to LA and compare that to the cost of sending the same container from LA to NY!

    Issue No.3

    Most of the secondary suppliers, (Components makers) have establish operations in China to provide VMI / Just in Time deliveries and these have been fine tuned to a high degree of efficiency in China.

    for what is worth!!

    John Benito 

     

  2. JimOReilly
    April 15, 2016

    It's the first time I've been addressed as Bill O'Reilly! I'm not related!

    There are some interesting points here, Joh. First, the make-to-order issue is certainly true for a small quantity of product, shipped air-freight to the US, but the issue I reflected upon is the bulk quntity question. Here, shipments take 12 to 16 weeks by sea, which is time for a mix or demand change to occur. These long delays result in mountains of product that have to be discounted heavily or junked…just ask Acer!

    I agree about the fat US business model. That was my whole point on costs. The US can figure that out. I've headed operations that really understood “Lean” manufacturing. One did $500M annual revenue in PCs with 2 buyers, 2 QA guys and 3 manufacturing engineers, for instance and Gartner placed us just behind IBM in quality and service. We also were able to deliver up to 20 percent of our units 5 days ARO.

    We didn't have a union…just a happy workforce… and we didn't work 24/7. Our assets were mostly screwdrivers and really good DFM!

    The Just-in-time issue is important…that's how we got to 5 days ARO. It's used a lot in the US. We also all know that vendors will go where the customer is.

    Jim

  3. mrcircuit
    April 16, 2016

    I think the fact that we are down  to 100 to 125 Manufactures of the Blank Circuit Boards in the entire USA . We have waited to long and are Goverment doesn't care.  ITAR is a joke all the brokers are still buying from China and saying they are ITAR , Do you know that we have no more manufactures of the raw COPPER CLAD  material used to make any electronic devices number one.

    The talet is fading away, younger people not interested because of pricing. The money is not there. We as a county have failed and the last 8 years have been the worst.

    I perdict that in 5 years another 25 to 50 shops are gone again. 

    We are are almost the oldest single same owner left in the business , that has no partners and minimal debt. this battle of on-shring will come when you can't buy any electronic devives and someone says are airplanes are grounded and are Navel department says are ships don't work with a circuitboard we need , and China said no.

     HELLO !!! is someone listenng

     

  4. mrcircuit
    April 16, 2016

    I think the fact that we are down  to 100 to 125 Manufactures of the Blank Circuit Boards in the entire USA . We have waited to long and are Goverment doesn't care.  ITAR is a joke all the brokers are still buying from China and saying they are ITAR , Do you know that we have no more manufactures of the raw COPPER CLAD  material used to make any electronic devices number one.

    The talet is fading away, younger people not interested because of pricing. The money is not there. We as a county have failed and the last 8 years have been the worst.

    I perdict that in 5 years another 25 to 50 shops are gone again. 

    We are are almost the oldest single same owner left in the business , that has no partners and minimal debt. this battle of on-shring will come when you can't buy any electronic devives and someone says are airplanes are grounded and are Navel department says are ships don't work with a circuitboard we need , and China said no.

     HELLO !!! is someone listenng

     

  5. JimOReilly
    April 16, 2016

    I believe that the knowledge of how to make smartphones or computers is still around. Even so, we've reached the point where the computers that control our submarines and Navy ships are mostly made in China.

  6. Sandy Montalbano
    April 18, 2016

    We agree that many times reshoring makes economic sense.

    Manufacturing is returning to the U.S. from offshore. We have gone from losing about 140,000 manufacturing jobs per year in 2003 to net breakeven in 2014 and 2015. That is huge progress to celebrate!

    Companies are recognizing that with the use of the refined metrics of total cost of ownership (TCO) to uncover the hidden costs and risks of offshoring and by reducing costs with sustainable strategies such as robotics, innovation, automation and LEAN, they can increase competitiveness and manufacture in the U.S. profitably.

    Of particular interest was the number of 2015 studies documenting the strength of the Reshoring trend:

    • BCG: Multinational industries actively reshoring increased 140% from 7% in 2012 to 17% in 2015

    • Medical Design Technology: 49% of medical device companies outsourced offshore. Almost half of those, 45%, are returning

    • Plastics News: 70% of plastics industry manufacturers have or will soon reshore

    • Alix Partners: U.S. is favored over Mexico 55% to 31%

    • Walmart continues to make good progress towards its $250 billion 10 year goal

    • Reshoring Initiative's 2015 Data Report on the ReshoreNow dot org website

    The Reshoring Initiative Can Help

    In order to help companies decide objectively to reshore manufacturing back to the U.S. or offshore, the not-for-profit Reshoring Initiative's free TCO Estimator can help corporations calculate the real P&L impact of reshoring or offshoring. TCO can be found on the ReshoreNow dot org website.

  7. John Benito
    April 25, 2016

    Dear All,

    We can all talk and discuss these issues for hours, but eventually there are three major items that will have a major impact in the reshoring process for all concern and these in my view are:

    1) Company taxes in USA are too High and regardless of the good intentions of many people that earn a lot of money advising companies forthwith. The Ugly reality is that many large and important manufacturing operations in the USA are moving overseas for tax minimization PURPOSES. The greed of shareholders and CEO's is unstoppable!!

    The problem could easily be fix if the “Government” decide that from fiscal year 2017 all companies will have to pay a 16 % Company tax across the board. Sounds so Simple but it will work!!! 

    2) Education: American Kids don't necessarily want to get into Mechanical or Electrical engineering anymore! Why? There are no Jobs, there are no jobs well paid, etc. If you want to use statistics please measure how many Engineers graduated in the USA in 1970's and how many graduated last year, then ask yourselves the question WHY?

    University and Colleagues have constantly decrease the number of engineering courses because the demand is just not there! so let's have more Financial courses instead!!

    This problem should be easier to fix too!! Force universities and colleagues to supply X Numbers of engineers / year!! Provide good scholarships for students undertaken these subjects, etc.

    3) Finally, few people in this world realize that for over 20 Years, every Western company of note have invested huge amounts of money in China, (The government Provided many of them even with Free land) to build their operations. Add to that a work force that is getting better educated (400, 000 Engineers graduated from Chinese Universities Last Year!) The fact that Chinese company owners have constantly invested in State of the art machines in all industries and you have operations which are very much Profitable. Making good quality products and have in most cases unlimited capacity.

    The fact that Oil Prices have decreased significantly means that also shipping costs worldwide are at the lowest in years!

    Meaning that Transportation costs in most cases have to be taken out of the Re-shoring equation. Because they will be comparable to the local transportation costs in the USA. (A Chinese Truck driver today still receives 25% of what a USA driver gets for the same work!!)

    The problem for years was created in the USA, it is up to the USA to fix it the best way they see fit!! Meanwhile more USA companies move to Ireland, UK, HK and so for and so on!!!

    For what is worth!!!!

    JB

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