Using a China Agent vs Going Direct
As companies weigh the pros and cons of working directly with a factory vs. dealing through an agent for their China sourcing needs there are many points to consider.
Here are my top ten:
1. The scale or dollar volume purchased annually. (I published an article in M&A Magazine which argued it requires $40-$50MM in throughput for any ROI on a direct sourcing office.)
2. The number of varying categories and SKUs being sourced.
3. The complexity of products being sourced. Cotton socks are a lot less difficult to make and package than electromechanical items with sophisticated firmware and specialized components.
4. Experience levels, competence and proficiency with the language of the country with whom they're dealing.
5. The sheer number of factories the buyers/agents have worked with including access to the owners or very least factory bosses and relationships with those individuals; the length of time and history with those factories and dollars of business placed with them; the ability to get production bumped forward in the schedule; the ability to receive favorable payment terms which impacts cash flow of any business.
6. Competency with provincial government regulations and requirements. (How would a New Yorker fare in an Alabama factory or vice versa?)
7. Ability to travel to/from factory within one day for urgent matters, product/packaging changes, and production oversight.
8. Quality Control-Generally considered the most critical. The standard process for measuring QC and the depth of practices such as random and in production sampling, testing equipment and facilities, reports, photos, and now video.
9. Experience with logistics, freight terms and all export documentation and activities.
10. Does the agent or factory (for direct) share your sense of urgency and same philosophies and principals? Are they vested in the outcome and long term success of the business?
The year of the Black Snake
Legend of Chinese New Year
The 2013 Chinese New year is Sunday, February 10th with celebrations lasting the following week. Also known as the Spring Festival, Chinese New Year is the most important social and economic holiday in China. With origins dating back centuries, the event marks the end of the winter season. According to legend, every spring a monster would destroy villages and anything that came in its way. One spring, the villagers hung red lanterns and threw burning bamboo when the monster arrived. The monster fled never to return again, thus spring festival was born.
This year is the year of the Black snake and begins on February 10th ending February 24 and is named for steady progress and attention to detail. It is said that great prosperity will come to those who are silent and observant, waiting for the perfect moment. However, bad fortune will fall upon those who make quick hasty decisions.
Will China remain a strategic manufacturing destination?
We continue to hear about the dynamics affecting China’s place as factory to the world. Increased labor costs, currency fluctuations, and shipping cost increases have affected decisions about whether or not offshoring strategy makes sense. Certainly there are products that simply aren't feasible for contract manufacturing scenarios. Here are the top five reasons China is still an ultimate destination for products that are highly labor intense or are in the startup phase.
Labor vs other countries
Labor costs may be up to 30% lower in other countries like Viet Nam and India. However this is offset by superior supply chain advantages such as roadways and utilities. Skill levels are also higher thanks to Western training and a little osmosis over the past 15 years. This means China’s productivity continues to rise other countries in Asia are less efficient overall.
Flexibility
Because China’s manufacturing base tends to be cellular, meaning a production or assembly line can be producing one thing today and another tomorrow, China workers are frequently adaptable to ever changing tasks. Much of this can be attributed to the highly seasonal nature of Western retail needs such as Christmas lights or plush toys. China also presents many options for qualified suppliers whose initial minimum order quantities are less than traditional manufacturers. Often a China manufacturer will begin with molds having less cavitation than is generally required until volumes reach a critical mass. This all translates into less startup cost, quicker return on investment and greatly reduced risk.
Availability of materials and manufacturing
Because China now makes a fifth of the world’s manufactured goods, there is a ready source of supply for various components, parts and necessary materials. China is also home to thousands of industrial parks thanks to investment by not only the Chinese government but also foreign direct investment by Western firms. Shanghai and Guangzhou are known manufacturing hubs and have some of the heaviest investment and infrastructure along with some of the largest workforces in the country. Special Economic Zones created by the PRC have attractive tax incentives for FDI and are given more independence on international trade and economic activities.
China Innovation and Investment
Because as we mentioned China’s skill levels have vastly improved, China is now focusing more on innovation and creative manufacturing practices. Also, with labor increases have come increased capital investment in the form of automation—something that used to be last resort if a task or function could be completed manually. So what does this all mean?
Ideal Product Development
China continues to be an ideal partner for new product developers and innovators. While labor costs have increased over the past five years, China’s productivity has increased tenfold. China offers the flexibility required to take on a variety of new projects and with lower minimum order quantities. There is a steady supply chain for materials and different manufacturing services and China continues to invest in technology, facilities and innovation. While China may not be suitable for some manufacturing due to increasing freight costs and currency fluctuations, every project must be carefully weighed and evaluated on its own merit.
Running out of time
I had a dear friend, Dr. Dick Bowers who played and coached basketball for the University of Tennessee Volunteers. He ultimately became athletic director at the University of South Florida and personally led the charge to bring the first football program to the school which in a meteoric fashion became members of the Big East and even jumped briefly to the #2 football team in the country—all within the first ten years of the program’s inception.
"We advance our customers goals in a fraction of the time compared to attempting to navigate China on their own."
When Dick passed away, dignitaries, business leaders, even the Mayor of Tampa were present at his service. He was the kind of man you loved and looked up to and made everyone feel important. Of all his sports accomplishments Dick used to say that he was most proud of the fact that while he was with the Tennessee basketball program they never lost a game. “We may have run out of time,” he would chuckle… and would continue, “but we never lost a game.”
Like so many things in life, our business success is measured within the framework of time broken down in eras, years, quarters, months, weeks and days and often tight one-hour deadlines. We look at financial results and measure our success by what we accomplish within the context of time. We can grow, stagnate or lose ground to the proverbial hourglass. For nearly a decade as we have continued to refine our message, the notion of what we best do has become clear. We don’t sell anything. We save our clients valuable time.
Your company is no different than a basketball team. You recruit and assemble the best players you can find, constantly plan and strategize and you play the game. Your financial results tell the story of whether you’ve won or lost and are determined by whether you’ve scored more points (profits) than what it costs to run your operation within a fiscal year.
In the new, flat global landscape low cost manufacturing hubs are found where labor is abundant in supply. China has continued to be forefront as factory to the world for products that require a high degree of labor. Productivity gains, improved quality processes, advances in distribution and know-how have kept China at the forefront of all low cost manufacturing countries. But with hundreds of thousands of factories, selecting the right manufacturer and executing on plans can be a daunting if not problematic and time consuming ordeal.
We have invested significantly in building a competent team of strategic thinkers, capable managers and dedicated partners who serve our clients in the areas of factory identification, manufacturing expertise and project management. We advance our customers’ goals in a fraction of the time compared to attempting to navigate China on their own. We do this all while meeting cost targets, providing on-time, accurate deliveries of products made to specification, of the correct materials, and of superior quality. Contract manufacturing is complex and challenging even when hiring third party factories in the U.S. let alone China. Without a prepared team that is coached and experienced, the game of doing business in China can be perilous.
We all have the same 24 hours a day to succeed. How we best allocate and use that time is our choice. Even if you play a little basketball yourself, would you be able compete with a well coached NCAA team?
Are China and the U.S. Striking a Balance?
Could we be striking a balance?
People fall into two schools of thought these days. There are those that think China outsourcing has run its course. They subscribe to the notion that the appreciation of China’s currency (RMB), labor shortages and cost increases and increased fuel prices mean cost savings opportunities have substantially diminished. In contrast, the other side of the coin spells out what others have believed for years—startup costs and tooling are less in China, products with high labor content have to be outsourced and China will always be “Factory to the World.” For several reasons, they are both correct.
Rising wages
In a December 15, 2011 Wall Street Journal article it was reported that China's Ministry of Human Resources and Social Security, announced 21 provinces and municipalities had, on average, instituted annual minimum wage increases of 22% by October of last year. Officials in Shenzhen, in China's southern manufacturing heartland, said in November that they would raise the city's minimum wage by 15% in January, to attract more workers. While wage hikes are nothing new, they have reached a point where factories are no longer able to absorb the increases meaning higher costs are passed on to consumers. However, with last year’s economy taking a turn for the worse, demand dampened driving commodity costs down. The result was China’s digging in its heels on allowing currency to rise against the dollar.
Since the mid-90s companies sought out the labor machine that China represents with its nearly 800 million strong workforce to remain competitive in Western markets. China’s family planning practices in place since the 1970s translate into a tightening demographic of available workers. This has also meant that China has moved more inland to expand its available workforce. Even so, the average hourly wage earner still makes only around $70 per week on the low end and up to $80 at the high end. While this is nearly double what it was around 2001, compared to the 2011 U.S. Federal minimum wage of $7.25 per hour/$290 per week the 275% premium speaks for itself. Add to that mandatory unemployment taxes, healthcare benefits and other layers of overhead U.S. companies have to absorb and the costs begin to add up.
U.S. Manufacturing on the rise
According to a February 1, 2012 Bloomberg report in which she sums up the U.S. manufacturing landscape, Caroline Baum states that “manufacturing employment peaked at 19.5 million in 1979, when it represented almost 22 percent of the workforce. Last year, the 11.7 million manufacturing workers accounted for less than 9 percent of total employment, according to preliminary data from the Bureau of Labor Statistics. During that time, the value of U.S. manufacturing output kept increasing, thanks to strong productivity growth.” So in other words, Advantage U.S.
And she goes on. “Manufacturing employment has increased 334,000 since the low in December 2009. Southern, non-union states offer an increasingly hospitable environment for factories. NCR Corp. opened a new plant in Georgia to produce automated teller machines. Caterpillar Inc. plans to build a new construction- equipment factory in the U.S. Ford Motor Co. is bringing 2,000 jobs back from China and Mexico after reaching an agreement with the United Auto Workers union. Even a family-owned North Carolina furniture manufacturer decided to reopen a factory that has been shuttered for more than a decade.”
Advantage-U.S.
China’s Innovation
What comparative advantages China may be giving away in labor and productivity however is being bolstered by innovation which takes China to an entirely new level on the global playing field. China has doubled the number of international patents created since 2005 and is launching products at a fraction of the time as its Western counterparts. Mckinsey Quarterly's February report cites their government’s emphasis on indigenous innovation, underlined in the latest five-year plan. Chinese authorities view innovation as critical both to the domestic economy’s long-term health and to the global competiveness of Chinese companies. China has already created the seeds of 22 Silicon Valley–like innovation hubs within the life sciences and biotech industries. In semiconductors, the government has been consolidating innovation clusters to create centers of manufacturing excellence. And the report goes on to say that because of its large market, much of China’s innovation is staying there.
Advantage-China
Striking the balance-bringing it together
Because of the cross pollination of U.S. industry standards, quality processes and knowledge transfer, more and more firms are combining China’s vast low cost labor machine, ingenuity and speed to market to become multi-national in scope. Solar power companies, the auto industry and a new medical initiative sponsored by the Chinese and U.S. governments are creating opportunities for both our countries to leverage their strengths. Read the joint statement here.
China wins because they gain access to medical innovation and improved standards of healthcare. The U.S. gains access to an untapped market for highly profitable products and services. This bi-lateral agreement fosters long-term cooperation with China in the areas of research, training, regulation and the adoption of an environment that will increase accessibility to healthcare services in China. Participating U.S. companies initially include 3M, Abbott, Chindex, Cisco, General Electric, IBM, Intel, Johnson & Johnson, Medtronic, Microsoft, Motorola, and Pfizer. Supporting organizations include AdvaMed, the Alliance for Healthcare Competitiveness, the American Chamber of Commerce in China, and the American Chamber of Commerce in Shanghai, PhRMA and the U.S.-China Business Council.
As we continue to increase trust, enhance communication, and cooperate in developing life improving technologies and innovations, a new frontier of collaboration is emerging that will change the world as we know it.
David Alexander is the founder of Baysource Global and Executive Vice President of Direct Source China, a strategic sourcing and strategy firm with offices in Miami, Tampa and Shanghai.
Are You Marketing to China?
It's a simple question, but it does carry a lot of weight...
With the middle-class consumer demographic growing rapidly in China, companies who are not including China in their target audience could find themselves falling behind in the years to come. Here's more...
Is your offshore operation staffed by U.S. based professionals?
One of the greatest perceived disadvantages of Chinese based manufacturing firms is the lack of having a U.S. contact who is knowledgeable about and engaged in your business. Our firm, with its intimate understanding of China is based in the U.S. with a China based operating staff.
Things can and do go wrong and having the peace of mind that you have a contact in the U.S. is invaluable. This goes a long way, particularly in the start-up phase of a project as you require hands on involvement with your project. It is important that you have a day to day contact in your time zone for trouble shooting, planning and preparation. Too often small but critical details can be lost in translation as operators try to work through cultural barriers, time zones and misunderstandings. Even those dealing with a satellite factory right in the U.S. have to deal with production issues, timing and other miscues. If you’ve ever played the secret game as a kid, where one person begins a story, then passes it around a ring of people until the last one hears it, then you have seen how details are lost and the story is altered from its original concept. The same is true when passing along instructions to your offshore manufacturing partners. Unless you have a consistent source, who speaks your language and understands the objectives, you can end up with a mess.
Dramatic Bottom Line Reduction
There is one reason and one reason only that decision makers elect to have products manufactured in China and that is cost savings. Assuming that manufactured costs are lower in China due to labor savings, there are many other cost levers to consider when manufacturing offshore in China. Here are the top five:
1. Freight costs—Freight and logistics should not exceed 10-12% of your total cost of goods. In other words, if you ship a 40 foot container to the U.S. this will cost on average $5,000 including import fees, duties, tax and drayage (overland transportation to/from a shipping port). So if you can’t move approximately $50,000 of product, that should already be 20-30% below existing manufactured cost, you need to re-evaluate whether it makes sense.
2. Carrying cost of capital—Cash is king in any business. It is critical to produce inventory that will move once it gets to the U.S. otherwise each month that inventory is tying up capital and not producing top line sales revenue, you are eating into your cashflow.
3. Warehouse space—every square foot of a warehouse used to store products has a fixed cost. Unless you have excess space available, you need to be certain you are allotting this valuable real-estate to products that are generating revenue. Otherwise the savings will be offset by the additional cost of warehouse space.
4. For items #2 and #3 it is imperative that analysis be given to not only finished goods but also raw material and components. Often overlooked is the advantage of using China to absorb the financial burden of not only managing but paying for commodity purchases, raw material, components and works in progress. Every month of financial responsibility taken on by your China producer is a month of cashflow freed up for your business.
5. Start-up costs—your China factory will absorb many intangibles associated with start-up costs including learning curve, purchasing coordination, and in many cases tooling not to mention infrastructure such as plant, property and equipment.
Quality, consistency and timing should only be the “cost of admission” and no sacrifices should be made in these areas.
Interested in learning more? You can right here.
Selling Ice to Eskimos and Chopsticks to the Chinese
We’ve all heard the term “he could sell ice to Eskimos” to describe the consummate salesman who is able to convince someone to buy something for which they either have little need or likely have ample supply on hand. Or perhaps we’ve heard “he could sell them the shoes off their feet.” In either case the idea is that for those with the gift of persuasion, it is possible to convince someone to purchase something based less on need and more on charisma and charm. There may soon be a new term in our vernacular that could describe one U.S. company, Georgia Chopsticks—“They can sell chopsticks to the Chinese.”
In a town ironically named Americus, Georgia two hours south of Atlanta, that is precisely what Jae Lee has set out to do, producing 2 million Chopsticks each day destined for Japan, Korea and yes, even China. In May of this year, the Americus-Sumter County Payroll Development Authority (PDA) made a formal announcement that Georgia Chopsticks, LLC would open a production facility in Americus that employs 150 people. According to Lee, China with its 1.3 billion population lacks ample natural resources to support demand for chopsticks and on Tuesday, May 31 a formal ribbon cutting ceremony was held to mark the opening of their plant.
According to the Atlanta Journal Constitution Lee who started his chopsticks business in Cochran last November, sent a couple of samples overseas, and within a few months needed to expand. Said Lee, "I knew there was a need and I thought I could make a profit." Imagine that.
"We tend to think that the Asians take care of that pretty well," said David Garriga of the Americus-Sumter Payroll Development Authority, the economic agency that owns the plant that Lee rents in the city's old industrial park. “For Americus, the chopsticks factory represents a flashback to its days as a manufacturing center,” Garriga said. But as many companies shifted work overseas, many shops shut down.
So why aren’t more companies strategizing to include China in their plans? In an October 6, 2010 Bloomberg Press report it was estimated that China market was valued at $150 billion in potential goods and services or a top ten global opportunity for U.S. companies. “U.S. companies have experienced tremendous commercial success in China's market and the prospects for future growth are significant,” says Erin Ennis, vice president of the U.S.-China Business Council.
China has become the U.S. third largest customer for things like Greentech, machinery, luxury items and even wine. China's expanding consumer market clearly has an appetite for Western brands. Thanks to the gateway of information available through the internet, television and other media there is almost built-in demand for products from the West. As long as companies are focused on things like quality and safety the market is stronger now than in the history of our trade relationship.
“The Chinese appetite for fashion has become voracious,” says Farooq Kathwari , chairman, chief executive officer, and president of Ethan Allen Interiors. “The observation that ‘we first dress ourselves, then we dress our homes” applies equally in China. For years, French, British, Japanese, and American clothing designers have taken China by storm. It was a natural evolution that consumers so immersed in couture and inspired by the biggest names in fashion would turn next to fashion for the home. The demand is there and growing.”
Kathwari should know. He’s been in China since the 1970’s when he began buying arts and crafts there. Today they are marketing Ethan Allen —a quintessentially American brand—in 53 locations in major cities across China. They ship 60 percent of what they sell there from their well-established U.S. manufacturing base and in turn buy Chinese products to be marketed in Ethan Allen Design Centers in North America.
The U.S. exports about $100 billion annually to China in goods and services, supporting about half a million American jobs. According to the White House new deals in the works with China will support up to 235,000 new jobs in the U.S. In addition to major players such as General Electric, Honeywell and Navistar, there are opportunities for companies of all sizes to exploit increased demand by the growing Chinese middle class.
For now, the man who would sell chopsticks to the Chinese quietly goes about his business of working toward a goal of producing 10 million chopsticks per day. As of June he’d received 450 job applications. For many of those Americans out of work in the little Georgia town, the Chinese market for their products could soon mean the good fortunes in their cookies may very well come true.
Diving into the China Pond
Diving into unknown waters
Many have asked me what it's like doing business in China. I've always said that if you are doing it by yourself it can be as dangerous as swimming with croccodiles. I finally came across a photo that captured the essence of this concept.
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