Reshoring is more than a buzzword. There is a strong case for consumer goods companies to rethink their manufacturing strategy - as long as they drill down to the detail.
Kenai Sports creates 100% sustainable clothing. Like so many others in the labor-intensive fashion industry, this American company started off manufacturing abroad. “Hats that cost 45 cents to make and T-shirts that came in at under $1/piece were a siren’s song for an upstart apparel company,” says Kenai founder Charlie Bogoian.
With cheap oil, low labor costs in many developing countries and new technologies making it easier to manage these relationships, offshoring has been the strategy of choice for many businesses for more than a decade, especially since China joined the World Trade Organization in 2001. Yet in the past two years, moving manufacturing back home (reshoring), or to other low-cost regions closer to key markets (near-shoring), have become fashionable.
Bogoian’s experience helps explain why. “With issues like unreliable communication and extended lead times, customer satisfaction was quickly waning,” he says. “Avoidable mistakes prevented us from realizing the cost advantages we anticipated. Those problems were coupled with an overall lack of accountability that showed little sign of changing.” Kenai’s leadership decided the best way to fi x those problems was to return production to the US.
In a survey published last year, the Massachusetts Institute of Technology found that 33.6% of the 340 respondents were considering bringing manufacturing back to the US, with 15.3% definitely planning to reshore. Some American businesses ave led the charge. Tailors Brooks Brothers, for example, moved 70% of its suit production to a plant in Haverhill, Massachusetts, rather than offshoring production to Thailand. Easybike Group, which makes electric bicycles, is moving production from China to Saint-Lô in Normandy at the start of 2014 to benefit from government subsidies and tax breaks, and to build on the Solex brand’s French heritage.
Home grown products project such desirable values as quality and sustainability because of a shorter distribution network, while tapping into consumers’ patriotic sentiment. Recent research suggests that 76% of US shoppers notice ‘made in the USA’ labels. Last year, Karen Kane dresses, blouses, and jackets promoted with ‘Made in the USA’ posters at Dillard’s department store posted 15% higher sales than similar non-promoted clothing.
When Jack Welsh was chief executive of General Electric, he said the ideal strategy for a global company would be to put every factory it owned on a barge and fl oat it around the world, taking advantage of short-term changes in economies and exchange rates. Reshoring, offshoring and nearshoring, or the most efficient combination of the above, are a more realistic way of maximizing growth opportunities. Yet Boards need to consider the big questions: What are the strategic goals? Does a shift in manufacturing support the strategy? Have we truly considered all costs?
“Many businesses failed to assess the costs associated with offshoring correctly, with error margins of around 20% in some cases,” says Andrew Underwood, Head of Supply Chain at KPMG in the UK. “When considering reshoring, the mistakes should not be repeated.”
Five factors that every company should consider before they recalibrate their manufacturing strategies
1. Cost analysis
The catalyst for most companies’ decisions to offshore their manufacturing was cost, driven by cheap labor. Yet in many emerging economies, labor is more expensive than it used to be. Better educated workers are increasingly aware of their bargaining rights, and low-skilled labor is becoming harder to find. Wages in China, for example, have risen by 15 to 20% per year over the past four years. In comparison, US salaries have fallen by 2.2% since 2005.
The relentless automation of the manufacturing process – the International Federation of Robotics predicts global robot sales will rise by 2% to 162,000 units in 2013 – has also meant that labor accounts for a diminishing proportion of total cost. These factors have prompted several manufacturers to mull over reshoring.
But before taking the plunge and bringing production home, it’s important to assess how such a move would influence costs across the business, from exchange rates and taxation to energy charges, organizational overheads and distribution. After careful consideration you may find that taking only a proportion of your manufacturing home makes the best financial sense.
Rather than pulling manufacturing out of China altogether, for example, some companies – especially textile producers – are adding another production base in a lower-cost Asian country, such as Bangladesh, Cambodia, Indonesia, Malaysia, the Philippines, Thailand or Vietnam.
To make the right decision, it’s crucial to have an in-depth understanding of the exact cost to serve across each line of product and channel in your business. Much of the necessary information tends to be available within organizations’ enterprise resource planning (ERP) systems, yet too many companies struggle to use this data to run effective programs and projects.
2. Customer centric
The question every company considering reshoring should ask is: where are our customers? This was a key factor in Karen Kane moving most of its manufacturing back to the US and Mexico.
If products are mainly exported – especially to markets close to existing production facilities – reshoring could lengthen the supply chain, ramp up distribution costs and lengthen the time taken to reach the market. Do you really want to cease or cut production in a market like China where, by 2022, 630 million middle-class consumers could provide a huge potential audience for your products? As Professor Ann Vereecke of Belgium’s Vlerick Business School says: “If you want to sell in China, you had better be in China. To compete you must use the same weapons as those already in that market.”
“You’ve got to think about the markets where you are likely to see growth – where you might regret pulling back,” says Underwood. “If you follow the herd for short- term cost benefits, you may find later that these are exactly the places you want to be.”
Another option is to nearshore: to locate facilities in a country close to the company’s base and/or key markets. Swedish furniture manufacturer IKEA is planning to start production in the US to cut delivery costs, while some British manufacturers are choosing to nearshore in Poland and the Czech Republic. For American fi rms, Latin America (especially Mexico) is proving particularly appealing. Siemens is focusing on Indonesia and Thailand as it seeks to expand in these emerging markets.
Speed to market is vital for producers of fast-moving consumer goods (FMCG). Spanish retailer Zara’s fashion-forward reputation rests on how quickly it gets designs from the drawing board to stores: just two weeks for the 60% of products it manufactures in Europe. The remaining ‘basics’ – items such as plain T-shirts whose demand is less influenced by shifting trends – are made in Asian and African countries where the benefits of cheaper labor outweigh shorter lead times.
There is some evidence that consumers’ spending habits have become more stop- start and less predictable since the global financial crisis, prompting companies to seek shorter, more flexible supply chains. Technology has also driven this behavior as customers test out new channels, some of which make demand more volatile, such as the rise in returns stemming from customers over-ordering online to ‘try out’ products.
3. Hazard warning
“Organizations are waking up to the challenges of offshore manufacturing in distant parts of the world – and the risks,” says Underwood. Many CFOs believe that reshoring helps them manage these risks more effectively. Relying on one region can be dangerous. The 2011 tsunami in Japan disrupted the supply chains of many of the world’s electronics manufacturers, while 2013 floods in Thailand shut an area that makes almost half the world’s disk drives.
Yet reshoring production has its own hazards. The changeover period will cause instability in the supply chain and could disrupt orders. A manufacturer’s tier-one, -two and -three suppliers may not decide to follow, meaning the component supply chain lengthens and becomes more exposed to risk. The other option is to source new suppliers, which can be very time-consuming and has pitfalls of its own, such as no shared history, contracts that may be misunderstood and differing expectations of service.
Nor should companies assume a plentiful supply of skilled labor in home markets. A 2012 survey by recruitment firm Manpower found that 81% of Japanese companies had struggled to recruit qualified technicians and engineers to fill vacancies. A shortage of appropriate labor could harm product quality.
4. Reputation management
Manufacturing thousands of miles away can have a profound influence on your reputation, especially if something goes wrong. It’s not just the plant at the end of your supply chain: your brand is out there, too.
KPMG research has found that many global manufacturers had little confidence in their supplier risk audits, while many have looked to localize/regionalize supply chains to manage their risks better. Such concern was brought into tragic focus when a textile factory in Bangladesh collapsed in April 2013 killing more than 1,100 workers. One major UK clothing retailer, which used the plant, featured in news headlines for all the wrong reasons when protesters waved placards outside its flagship store in London. Another European brand that denied using the factory had to change its statement after its labels were photographed in the rubble.
All the firms implicated in the Dhaka incident have vowed to get a clearer view of their supply chains, but Underwood says this is “remedial and reactive. A good chunk of people are not doing enough due diligence.”
5. The importance of R&D
Companies should not underestimate the synergy between manufacturing and R&D. The quality of products, your ability to innovate before your rivals, and how quickly you can bring goods to market are all at stake. “There is an appetite to bring manufacturing and R&D closer together,” says Underwood, “but this doesn’t mean all production facilities will necessarily be reshored. PZ Cussons, a London- listed healthcare and consumer goods manufacturer, produces soap bars in Eastern Europe, but reshored liquid soap to Salford, near Manchester, because it has greater value added and demands more R&D.”
You also need to gauge how straightforward your manufacturing process is. The simpler it is, the easier you might find it to manufacture some distance from your R&D. If the process is complex, it may be safer and more efficient to keep it near R&D. The US is home to a third of the world’s high-tech researchers, which is why so many firms whose revenue is driven by R&D are based there.
Reshoring is in vogue but Underwood says we have “yet to reach a tipping point”. Market instability means many companies are reluctant to move production at all; 97% of respondents to Area Development’s 2012 Annual Corporate Survey did not expect to move a foreign facility back to the US, while 98% didn’t expect to relocate a domestic production plant off shore.
“You’ve got to think about likely growth markets,” says Underwood. “Making a quick, trend-led decision purely on cost is very dangerous. You must carry out a full, detailed assessment of all associated costs and factors before making any changes.
“Some of the desired benefits of near-shoring – increased agility, shorter lead times and improved information flow – can be achieved in an existing company structure by a renewed focus on operational and distribution efficiency.”
Organizations may notice their competitors reshoring production and increasing their market shares,” says Andrew Underwood, Head of Supply Chain at KPMG in the UK. “But this does not mean it is right for their businesses. Any move must be supported by an assessment of all factors associated with reshoring.”
Reshoring can help companies to exert more control over their suppliers, and to rejuvenate their supplier network. But reinventing supply chains can be traumatic, disruptive and prove more of a drain on resources than forecast. Companies need to be robust about challenging the case for moving manufacturing. Do your figures still make sense if your assumptions about quality control or reliability turn out to be 5% worse than forecast?
Less apparent or hidden expenses – such as exchange rates, taxation, real estate, and organizational overheads, which can have a big impact on profit – must be considered.
One of the strongest arguments against reshoring is market access. Many offshoring hubs are fast-emerging economies with a burgeoning middle class. “You’ve got to think about the markets where you are likely to see growth – where you might regret pulling back,” says Underwood. “If you follow the herd for short-term cost benefits, you may later find these are exactly the places you want to be.” Swedish white goods giant Electrolux, for example, is still manufacturing in China and Thailand while closing plants in Australia, Europe and North America, partly because it believes that many of its future customers will be in Asia’s emerging markets.
With recent research suggesting that by 2025 developing economies will account for nearly 70% of global demand for manufactured goods, some multinationals are taking a broader long-term view, seeking a deeper local presence in countries they previously regarded as sources of cheap labor. One Swiss corporate giant has moved on from what it described as a ‘cost arbitrage’ strategy for countries such as China to an ‘in country for country’ approach that encompasses not just manufacturing but the location of product management and R&D functions. This thinking can persuade organizations it is better to stay close to rapidly developing new markets.
Failing to consider social responsibility can seriously damage your brand. “Awareness of sustainability means you might prefer not to ship products long distances,” says Professor Ann Vereecke of Belgium’s Vlerick Business School. Manufacturing close to your markets makes environmental sense. This will become increasingly important as carbon taxes rise. It will be interesting to see how Australia’s expansion of the carbon tax to encompass the transportation sector impacts on supply chain costs when it comes into force in 2014.
Reshoring may look like a viable option, but do you have to manufacture all your goods in a single market? Manufacturing in different countries might reduce the risk of being caught out by fluctuations in consumer demand, political instability, natural disasters and exchange rates. Offshoring and reshoring are not mutually exclusive.
Will moving production cost or save you money?
This is the first question every Board asks but they don’t always come up with the right answer. You can’t just calculate wages and shipping costs. The aspects that are too often ignored – or not investigated properly – are inventory carrying costs, quality, speed of communication, government policy, impact on innovation, and travel costs. If these aren’t considered, you can’t get a true picture.
Will the move enhance or damage your brand?
Making products at home may help you market the quality of your products – but you have to deliver. Similarly, unless you keep close control of your supply chain, if you let cost override every other factor in your manufacturing strategy, you run the risk of a Bangladesh-style disaster.
How much confidence do you have in your supply chain?
The horsemeat scandal in the UK led some supermarkets to source their products from close to home. Horsemeat was an especially emotive issue but the wider point remains: if you have a very complex global supply chain, you run the risk of similar quality issues. The other concern for companies is resilience: some supply chains are becoming so interdependent that it is hard to isolate them from the impact of events such as the earthquake in Japan.
How significant are your logistics costs?
Cheap oil was the magic ingredient that made many long supply chains work a decade ago. That era is over; although some manufacturers have been attracted to the US by headlines suggesting the shale gas boom will slash industrial energy costs. Some sectors look set to gain more than others but, in general, it is important that companies should not exaggerate the competitive benefit to be derived from lower energy prices.
Wherever you manufacture, how easy is it to do business there?
This is one factor that is too often overlooked, even though the World Bank runs an authoritative global competitiveness index. Torsten Slok, Chief International Economist at Deutsche Bank Securities, says: “If you ask how many days it takes to open a business, to get electricity, things like that, you realize there are a lot of reasons why the business environment is much better in the US than in places where labor happens to be really cheap.”