In highly competitive consumer markets, it’s difficult to increase prices without seeing a precipitous drop in sales. The result is that a company in search of greater profits must save money on the other end, by reducing costs.
It sounds simple but rarely is. Obviously, they can make changes in product design to streamline assembly or to reduce input requirements. They can also improve their production processes to reduce labor requirements or power consumption.
But the big reductions come in the cost of those inputs more than in the quantity used. At best, a better assembly line will reduce energy costs for one tiny segment of the operation; but if the cost per kWh is lower, the company saves money on every electrical item.
So the real savings come in the big-ticket items, and companies need to be cautious to examine these options before making a decision. Assumptions can be very costly in this situation.
A big-ticket item that is often considered is labor. Many companies make the assumption that moving a facility to China instead of Mexico will be more financially advantageous.
But the research in NAPS’ Mexico vs China comparison shows that this conclusion is inaccurate. In a wide range of areas–everything from energy costs to the synergy of placing firms in areas with similar types of manufacturers–the perception of China as far superior in cost is proven inaccurate.
There are also logistical concerns. Placing a facility in China creates communication issues, time zone complications, and language barriers. It’s true that Spanish-speaking employees will be needed in Mexico as well, but Chinese languages are far more difficult for native English speakers to learn, and translators are far less plentiful.
Another option often considered is outsourcing. Getting product components or having services done elsewhere in a lower-cost location is a good way to utilize the comparative advantages of different locations.
For example, many aluminum products are cheaper to manufacture in an area where bauxite, the ore that is used to make aluminum, is being mined and refined. This allows the company to pay only the expense of shipping the final product instead of bulky raw materials that will undoubtedly include some waste material.
But here again, a trans-Pacific movement of these goods not only undermines the cost savings but is also inefficient. If you are outsourcing assembly of automotive parts, for example, and assembling them closer to home, you are unlikely to see real cost savings on shipping as compared to simply assembling the entire vehicle overseas.
But with Mexico so close by, and with all the advantages of the North American Free Trade Agreement, it can be practical to get parts made elsewhere and have them shipped to an assembly point. The logistical simplicity we noted earlier is also on the field of play for outsourcing.
China is also unpredictable. With their drastically weaker environmental standards, an international agreement could put unexpected compliance costs on their manufacturing, further eroding any competitive advantage they have. And with a communist government still in place, there is always long-term uncertainty about the regime’s plans.
When the economy gets tight, firms sometimes make knee-jerk reactions to try to reduce costs. There’s nothing wrong with reacting quickly, but you must also react correctly. In the absence of a deeper exploration of the ramifications of a course of action, it can turn out to do more harm than good. An international relocation is just the kind of decision that can come back to haunt a company. Proper planning is key to making sure the operation is set up on the right shores.
