In our four part series New Product Development and the Adaptation Curve dedicated to new product developers, innovators and inventors, we explore the 8 top considerations when developing a new product. Whether a seasoned marketing professional or first timer, these eight critical components include aspects related to product design, positioning, manufacturing, and distribution.
Product Development Costs
Most inventors underestimate the cost for designing a manufacturing ready product. Tools and molds can easily run into the five to six figure range and can dwarf first year profits. Most any product requires both two dimensional (2D) and three dimensional (3D) engineering drawings that specify material requirements, accurate measurements and tolerances which are very minute, allowable thresholds or variances in gaps, thickness, or practical limits without significantly affecting function of a component. These are the physical requirements of a product. There are also electromechanical tolerances which measure allowable ranges of energy output or resistance.
2D & 3D drawings are computer generated or Computer Aided Designs (CAD) are then used for creating the tooling for parts whether metal, plastic or other materials, even cut and sew projects. The first commercial applications were in the automotive and aerospace industries. Through the use of some of the most common software such as Solidworks and AutoCAD, two of the more widely used platforms, designers create the physical properties of a product. Depending on the complexity of the part and the actual quantity of components this cost can range from the low to tens of thousands of dollars.
Some products are ideal for Big Box retail but unless you know how to navigate this space, most category managers are not going to take a chance with a single line item vendor. Determining how to sell your product comes down to the “4-P’s” or Product, Promotion, Price and Placement. Entire marketing strategies are built around this. How you position your product will dictate your brand strategy. From there it is necessary to determine price, sales tactics and a marketing campaign and budget.
Products are sold through single or multiple channels. Often and most overlooked by new product developers is the benefit of working through wholesale/distributor channels. These organizations have years of traction and relationships with retailers and can be the best avenues for introducing your product. They have sales teams in place and assumedly the category expertise for not only implementing your programs but also helping positioning and building your brand. Your distributor is your customer and investing the time to work with and support this resource will pay off tenfold.
Think about all the valued functions that are fulfilled by a strong distributor partner. They have the infrastructure in place that includes:
- Sales; category expertise and feedback
- Warehousing; the ability to handle large single shipments
- Customer service and support—Activity based interface with multiple customers
- Inventory reporting; purchasing and replenishment
- Shipping and logistics
Nobody has an ugly baby. The same goes for new product developers. Whether an independent entrepreneur or seasoned marketing team, once a new product concept is developed and months, even years in some cases are invested, our babies become prettier every day. The same unconditional love and support that builds as our children mature and develop transfers into the professional mindset of innovators.
Creating a viable and robust market for a new product takes enormous resource, planning and resolve. The sheer capital to unveil and furthermore generate brand equity is often the most overlooked aspect of getting a product to market. Take the Segway for instance. This emission free, efficient mode of personal transportation has been around for over a decade. With some quick, simple training even children can master riding this marvel. Reaching top speeds of 12.5 mph it has a range of up to 24 miles on a single charge. Still commercial acceptance has been scant. Why wouldn’t every warehouse and airport have a fleet of them?
Recently two Swedish designers have developed an entirely new concept for biking safety in the form of the Hovding, an airbag which deploys vies-a- vie algorithmic intelligence protecting riders from head trauma in the event of a fall or crash. This revolutionary “bike helmet” is worn around riders’ necks and actually becomes a stylized accessory. At $520 prospects for commercial distribution of any scale in the next five years may be slim. However according to Forbes writer Jeremy Bogaisky this startup has already taken in $13 million in venture capital. He cites bicycle industry analyst Gary Coffrin who gives a great summation stating “The adaptation curve for such a unique product at this price point is not likely to be rapid.”
Taking the tech factor down a notch, in my own gym sits a clever form of a door stop called “James the Doorman.” I would imagine the designers, Black+Bum had their “Eureka” design moment and the wheels started spinning. Honestly I have never seen such a cool variety of a door stop and without knowing much about how they developed this unique version of an age old application, I can’t comment on what lengths they went to in commercializing their product. I do know that the one in my club is the only that I have ever seen.
Every week we hear from inventors and product developers who have put great thought into products which offer unique solutions to every day needs. Often though there are many missing pieces to their overall strategies. Below are the Top 8 Hurdles to Successful New Product Launches. In the coming months, I will be writing a series which individually expands on each of these, why they are often overlooked and how they are important for taking new products to market.
Product Development Costs
Most inventors underestimate the cost for designing a manufacturing ready product. Tools and molds can easily run into the five to six figure range and can dwarf first year profits. Developing engineering drawings—those that translate into production and material specifications require time and money.
Some products are ideal for Big Box retail but unless you know how to navigate this space, most category managers are not going to take a chance with a single line item vendor. It creates additional administrative work for the system, and most inventors don’t have the capital to market their products. Specialty and on-line retailers generally are better proving grounds for a products’ acceptance but you still have to generate interest and traffic. Oh, and did you get a UPC code yet?
Minimum order requirements (MOQs) by factories usually cause a lump in the throat. Even if you have the greatest gadget in the world, how do you plan on financing that first big order?
Educating the Masses
How will you announce the arrival of your new product to the world? Magazines? PR campaign? Put an ad in the paper? Direct Response Television (DRTV) is a great but often expensive form of advertising and one of the best ways to demonstrate a new application or use as well as building brand equity. It’s great to have a video on your web site but again, how will you drive viewers and a following?
Price vs. Value
In the initial phase of your product’s life-cycle there will likely not be the scale (volume) to drive down production cost. Unless you can convince consumers they should pay a premium retail price, break-even may be longer off than you expect. Plus, buyers will tell you whether your SRP (Suggested Retail Price) is in line with their category.
Regulatory and Testing Requirements
With your product in the public domain, most retailers will require some sort of regulatory or product safety testing and compliance with groups such as the Consumer Product Safety Commission (CPSC), Underwriters Laboratories (UL) and others. Depending on what industry you are in, your item may require testing and certification by default. To you this means additional time, red tape and money.
Patent and Intellectual Property Protection
This is perhaps the most critical and misunderstood area of product development. In many cases developers could have saved themselves months of work simply by doing some basic research and analysis. The United States Patent and Trademark Office site has become more navigable and efficient thanks to improvements in their search functions. There are three ways to begin your inquiry using key words, designs or a combination to see if someone else has registered a similar product. Even if they have you may be able to make some functional changes to distinguish yours but again, many underestimate the time and capital required to protect the investment of your innovation.
Aftermarket Sales and Support
Now that you’ve got a patent pending, finalized your business plan, raised early stage capital, have product on the warehouse shelf and are starting to generate traction don’t forget the basic administrative requirements. If you hit the lotto and are selling to Wal Mart, using retail link is a requirement. This entails sending a staff member for training and ultimately using their on line tool daily or weekly. Is someone manning the phones for product questions and concerns? How robust is your web site? Oh, we haven’t even discussed how much this will cost to build.
While these hurdles aren’t surmountable, it is critical to factor in all the critical and time consuming elements of bringing a product to life. Even this list is not comprehensive enough to account for the unexpected turns in the pathway to new product development. If it were easy, everyone would be doing it.
Be on the lookout for “The Adaption Curve” the follow up series which explores the product development lifecycle. We will break down each topic in greater detail. To sign up for our mailing list go to http://baysourceblog.com/contact-us/
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David Alexander is president of Baysource Global www.baysourceglobal.com and has a decade of experience with new product development and contract manufacturing.
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?
What is something you can think of that can’t successfully be outsourced in China? Think long and hard about this. Resist the temptation to veer toward intangibles or time sensitive services with obvious geographical barriers such as a haircut or plumbing repair. What product theoretically cannot be manufactured in China? How about a portrait? I have an acquaintance that has connected with amazingly talented artists who will take a family photo and reproduce a framed, hand painted, oil on canvas likeness taken from a photograph. It will have the same level of detail and quality as those done by artists in the U.S. costing a minimum of $1200-$2500 just for the painting itself. This does not include the frame which can be another $350-$500. The exact quality portrait from China can be delivered to your doorsteps for $450 or about a quarter or less that which someone would expect to pay here. Why is this?
If you said labor cost you are only partly correct. There are many more factors that play into “the China price” for which Westerners have had an insatiable appetite since the Wal Mart effect took hold in the early nineties. Yet now writers, politicians and economists say the tide is turning. Many assert that currency fluctuation, labor shortages near China’s coastlines, and a rising middle class, are quickly narrowing the cost gap between China and the West. They might be forgetting one thing though according to Mike Bellamy, author of The Essential Guide to China Sourcing , “there is no Next China.”
Rising labor costs in China
In a Roya Wolverson interview published in Time, May 16, 2011, Pin Li, President of the Wanxiang America Corporation stated that “rising labor costs in China will only cause inflation and not necessarily jobs returning to the U.S.” He further explained that what this means is “instead of paying $1 for latex gloves the price may rise to $2 and will still represent the lowest cost available in the world.”
In other words, assuming material costs are consistent globally, even doubling or tripling the average monthly wage of Chinese factory employees still does not bring total cost of goods in line with U.S. workers.
In a recent conversation, Bellamy, Chairman of the Advisory Board for China Sourcing Information Center begins to make the “No Next China” case with the notion that China’s economy is still vastly lopsided in its dependence on exporting. The Chinese and its neveaux riche’ have created the world’s second largest economy that many predict will be bigger than the U.S. within the next decade. The only fuel to keep this burning is the demand for cheap(er) exports. A growing middle class also means bolstered domestic consumption, particularly as brands become more prevalent with Chinese consumers. But to sustain economic growth, exports have to remain a big chunk of the equation.
A shift by coastal manufacturing regions
The question may not be so much about “Made in China” as it is “What will be Made in China?” Sure there is great capacity and infrastructure in coastal regions but there may be a shift developing with the evolution of improved skill sets and wage increases. Dr. Eric Thun , lecturer in Chinese Business Studies at the University of Oxford China Center, says "pushing manufacturing into high value-added activity is very much what the government wants. This kind of cost pressure stimulates upgrading."
Bellamy adds, “because China’s economy is still heavily export dependent at present, over the past years there have been concerns about the China government promoting the interior too fast at the expense of the coast. This could have major side effects on the much needed revenue stream gained by supplying product to overseas buyers. But, as April data demonstrates to policy makers, the development of the interior is not having a major impact on exports. “
The role of appreciation in Chinese currency to U.S. job creation
Since June, 2010 when currency truly began floating, the RMB has appreciated 6% against the US dollar. Depending on whom you talk to however, the RMB is still undervalued by as much as 25%. Add to this CPI inflation and productivity growth rates (Chinese worker productivity is growing faster than U.S.) and the RMB will continue to be undervalued for five years or more.
Pin Li argues that “currency can help but it also can hurt. Structural issues are more fundamental for the U.S. and China. This is more of a political question than any economist can even measure. Politically we have to pretend it's an issue. But the reality is that jobs from China won't come to the U.S. They'll go to Mexico, Korea, and Indonesia. And that means the imports that came from China will now cost more which also doesn’t solve the deficit issue.”
Bellamy claims “we can expect that the US government will probably use the April export record to put pressure on China to allow their currency to appreciate. The China government has a plan in place for a slow but steady increase as opposed to a dramatic adjustment as desired by the US. Don’t expect China to change their plan just because of this April data and any related pressure from the USA.”
China as a market
Li’s passive reference to the deficit is interesting and should not go unnoticed. While many grip about jobs, only a small percentage of Western companies have invested in growing market share in China.
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,” said Erin Ennis, vice president of the U.S.-China Business Council.
Beijing has a $145 billion trade surplus with the U.S., more than its deficit with the next seven- largest partners combined. But is this solely due to undervalued currency and cheap labor? Could it be more the apathetic or myopic strategies of only selling into North American and European markets and not breaking from traditional business models?
Pin Li makes a bold statement when he asserts, “Firms’ access to Chinese should be their more of a concern than an unbalanced currency.”
The next five years
China remains a factory to the world. Government subsidized infrastructure has ensured overcapacity of manufacturing availability. One needs to simply travel from town to town; cranes as far as the eye can see. Staggering development continues in all sectors such as transportation, industrial, housing, recreation, hospitals, shopping centers, and resorts. Innovation and branding are now woven into the next generation’s mindset with Beijing’s full support. There is no next China. Whether as adversary, trading partner, or ally the future will depend on setting priorities and building mutual trust.
David Alexander is President of BaySource Global www.baysourceglobal.com
Not that 60 million users wasn’t proof enough. But when the most noted business social networking site in the world gets blocked from 1 million of its subscribers, you know you count. That’s what apparently has occurred in response to the recent Jasmine Protest gatherings which coincidentally got a guest visit by potential U.S. presidential candidate John Huntsman at a Beijing McDonald's.
Via Tech Crunch
“The idea that China could succumb to the kind of unrest rocking authoritarian governments across the Middle East was absurd,” a senior Chinese official said. According to a Reuters report, “Long-term disruption to the site would exclude the company from the world's biggest Internet market by number of users -- about 450 million and growing. That could hurt its planned initial public offering in New York and anger the United States, which has criticized Chinese Internet censorship.”
According to a report in the February 24 edition of Wall Street Journal Asia many Internet users are becoming increasingly aware of the extent of the censorship system, as well as how it works, and are either seeking new ways to get around it, or becoming increasingly frustrated at their failure to do so.
One of the most damning critiques of China's censorship system came Tuesday from Murong Xuecun, a popular Chinese Internet author.
"Our mother tongue has been cut into two parts: one safe, and the other risky," he told an audience at the Foreign Correspondents' Club in Hong Kong.
"Some words are revolutionary, and others are reactionary; some words we may use, and others belong to our enemies."
via Tech Crunch
Can you tell me how to get to China? David Alexander
Head West and turn...
Let’s be clear on one thing. This piece is a completely self-promoting call to action. If you were in charge of business development for your organization; and here is the one qualifying caveat—for a product or service you absolutely knew would help other businesses reach their targets while delivering a heady ROI, would you not pound the war drums?
In a January 31 API wire the #1 manufacturing country was reported. Many would assume China leads the way by a commanding margin yet it trails the $1.7 trillion output of the United States by a whopping 40% meaning we produce more with less labor. It also indicates that low value added jobs with less profit margin have gone overseas. So what does that mean for us? It means that China is still the factory to the world and if operations decision makers haven’t developed a competent model to outsource redundant, high labor and low value add processes, they are tempting fate. Is it finally time for your organization to embrace a synergistic offshore-onshore manufacturing & distribution strategy?
Consider Sure Power of Portland who increased their employment by 53% after embarking on a manufacturing outsourcing strategy to free up valuable plant space. They increased sales 188% by re-dedicating valuable assets to R&D and higher margin products. This translated into a 204% increase in tax contributions to the state of Oregon in one year. Getting to China however can be a daunting and expensive undertaking for the inexperienced and timelines are usually doubled when going it alone. Does your company have any KPIs for lost opportunity cost?
Assume for a moment that you are the SVP of Operations for a U.S. firm in Des Moines that manufactures some sort of metal and plastic assembly. Sales have been flat and finally in that Monday morning meeting the inevitable question arises. “What are we doing about China?” your boss asks. You have a solid team of purchasing professionals, none of which can point to Hong Kong on a map. However, through the internet one of your go-getters, Bill, has begun to put a spreadsheet together of die cast and injection molding companies in the Guangdong Province, which he’s researched as being a hotbed for these industries. Since Guangzhou is a FTZ (Free Trade Zone) Bill with his Operations Management degree, has identified this as the logical place to start. He’s shared a couple of months of emails with “agents” posing as direct factory managers and is ready to take his associates to China. Just say the word.
Assuming that Bill and the others now have passports and visas in hand, they begin booking flights, hotels, trains, and ferries to venture out into the Middle Kingdom. In all they’ll be gone for just under three weeks. Since this is the company’s first sojourn to Asia, you’ll undoubtedly accompany them on this exciting new foray into the land of the dragon along with your Ops VP. Now you and your four valuable employees will be out of pocket the majority of a month leaving yours and their day to day responsibilities to others or to simply take a break from existing projects. How much time and capital do you think this will require? You may be surprised.
The following lists conservatively typical expenses by line item for a 2 ½ week trip to China.¹ Remember, you’ll require a full 24 hour day of travel to and from and a day of recovery once you’ve arrived.
Cost for single trip, five personnel, to China
The good news is there are competent firms in place to assist in your project management initiatives. In a recent poll on Linked In, 150 Supply Chain professionals weighed in with their response to the question, What is the best way to manufacture outsourcing in China? (See diagram below). 57% of respondents chose “Establish a trusted partner in China.” Perhaps a good portion of the voters had already been through the trial and error process. Or it could be that those who have succeeded in tandem with a firm watching out for their best interests can easily quantify the decision to engage a reputable partner for monitoring manufacturing, quality control, packaging, labeling and logistics.
Linked in Poll-150 respondents
In his article 10 tips to better sourcing William Atkinson of Purchasing Magazine explains that regardless of their China story, those who have enjoyed a successful relationship with China have done so through proper guidance and preparation. In this critical juncture of global commerce, fluctuating currencies, and competitive pressure, it is imperative to select a reliable partner whom you can trust, knows the local governments and regulations, has engineers on staff who understand your products and who can help you gain a foothold in this valuable region of the world.
¹Airfares, four star accommodations and RMB exchange rates as of February, 2011 for travel in March, 2011
Baysource Global President, David Alexander can be reached at firstname.lastname@example.org
Each day we read and hear more and more about the co-mingling of China and the U.S. as these two interdependent nations refine their geopolitical position with each other and the rest of the world. China is a vast nation teeming with industrious minded entreprenuers who are seeking their fortune much in the same way as U.S. pioneers in the early 1900s. Our countries are indissolubly linked from an economic standpoint and nothing on the horizon seems to contradict this long term description of our relationship. China, while still "factory to the world," will forge ahead in Western style to build consumer brands, capitalize on the meteoric rise of a middle class market, and play a vital role in world financial markets. It is a story that will be amazing to see unfold and in no way does the ending have to be a negative one as both nations continue to innovate and lever their strengths and resources.
If you or your colleagues and associates have the need for a competent and experienced partner to manage your company's China business, we want to be just that. We have a China staff of over 30 who have working knowledge of hundreds of industries and disciplines. Our specialties are complex manufacturing assignments, supply chain management, fulfillment and distribution in China, greenfielding, and highly competent project management. We are integrity driven, quality focused and have an ardent desire to see our clients succeed in every undertaking.
Thank you for allowing us to continue to reach out to you with newsletters and emails. Should your business plans include any aspect of dealing with China, please don't hesitate to contact us for a free, no-obligation consultation.
China to continue RMB exchange rate reform Chinese President Hu Jintao reiterated on May 24th that China will continue to steadily advance the reform of the formation mechanism of the RMB exchange rate under the principle of independent decision-making, controllability and gradual progress. Hu made the remarks at the opening ceremony of the second round of China-US Strategic and Economic Dialogue in Beijing.
Hu said China will continue to pursue a win-win strategy of opening up. The country would expand market access in keeping with established international economic and trading rules, support the improvement of international trading and financial systems, and askance trade and investment liberalization and facilitation.
On China's effort to accelerate the transformation of its economic development pattern, he said, "We will make great effort to expand domestic demand and increase household consumption, vigorously promote sounds and balanced growth of external trade, and reject protectionism in all manifestations."
China's trade back into surplus After a US$7.2bn deficit in March, China's trade retuned to surplus in April but shrank 87% from a year earlier due to faster growth in imports. The trade surplus stood at US$1.68bn in April, according to the General Administration of Customs. Exports rose 30.5% you to US$119.92bn in April, while imports surged 49.7% to US$118.24bn.
Harley Sales Up Harley Davidson Inc has reported that sales in China doubled last year, according to Rodney Copes, VP of international sales. Since it entered China in 2005, Harley has developed four dealers nationwide - one in Shanghai - and plans to open four new dealerships this year in Wenzhou, Xiamen, Dalian and Chengdu.
Foreign Investment Reflecting the determination of China's central government to attract additional foreign investment-and to direct that capital towards industries and regions that serve the government's broader social and economic goals-the State Council issued Several Opinions on Further Utilizing Foreign Capital (Foreign Capital Utilization Opinions) on April 6, 2010. The Foreign Capital Utilization Opinions set priorities that encourage foreign investment in research and development centers, high-end manufacturing, high and new technology, alternative energy, and other environmentally friendly industries while discouraging investment within industries that consume large amounts of energy, pollute the environment, or are already over capacity in China.
Shanghai Pudong - new policy on JVs On 13th April 2010, The Shanghai Pudong People's Government issued the Tentative Measures On Setting Up A Sino-foreign Equity Joint Venture ("EJV") and Cooperative Joint Venture ("CJV") In Pudong ("Tentative Measures"). The Tentative Measures have been introduced to allow domestic natural persons to establish EJVs and CJVs in the Pudong New Area. The Tentative Measures came into effect on 1 May 2010 for a trial period of 2 years.
The Chinese laws on joint ventures, which were initially issued in 1979 and 1988 respectively, do not allow domestic natural persons to set up EJVs or CJVs with foreign companies or individuals. Such restrictions do not conform to the principle of "national treatment" and so have been seen as being an obstacle to domestic individuals hoping to cooperate with foreign entities and/or individuals. As the Chinese people are becoming more prosperous, pressure has increased to abolish the existing restriction.
The usual way to circumvent the restrictions is for a Chinese natural person to set up a limited liability company (normally a one-person company), and to use the new company as a vehicle to partner foreign parties. However this route is very inconvenient and the issue of the "invisible investor" has led to many disputes between contracting parties.
Foreign investors have encountered difficulties when trying to partner with a Chinese citizen they trust. There has been rapid growth int he need for cooperation between individuals from SMEs and foreign individuals in high-tech and creative industries. As the officials from Pudong said, "We have changed because such change is required."
Highest Level of Confidence Chinese consumer confidence rose int he first quarter of the year to the highest level since 2007 as people became more optimistic over their future, a survey by Nielson Co and the National Bureau of Statistics. The Consumer Confidence Index in China climbed to a three-year high, bolstered by better employment prospects. However, people's willingness to spend fell slightly due to soaring asset prices.
World Expo Opens Shanghai kicked off the 2010 World Expo with an extravagant opening ceremony and fireworks show. The two-hour performance at the new US$270m Expo Culture Centre ended with a spectacular outdoor multimedia show punctuated by a parade of hundreds of national flags carried by boats along the city's Huangpu River. The city has spent US$45bn, more than Beijing spent not he 2008 Olympics, to put on what it says will be the biggest Expo ever.
David Alexander is President of BaySource Global, a U.S. based manufacturing and project management firm with offices in Shenzhen and Shanghai. www.baysourceglobal.com
The following is a recap of a January 21, 2009 panel discussion hosted by the Orlando Chapter of ACG (Association for Corporate Growth) on the ins and outs of doing business in China. David Alexander, president of BaySource Global www.baysourceglobal.com was one of the featured speakers along with Brian Su of Artisan Business Group and Jim Gaynor, CEO of Lightpath Technologies.
ACG Moderator: Discuss how this global recession has impacted doing business with and in China
Alexander: The Credit crisis affecting all industries. Volumes are down and many factories dependent on U.S. retail and consumer volume have closed. People are strongly revisiting “In-Sourcing” due to attrition in volumes. A local trade association predicts that by late January, Dongguan and its neighbors Shenzhen and Guangzhou will lose 9,000 of their 45,000 factories.“Many factories are looking at completely empty order books," warned Stephen Green, head of China research at Standard Chartered, who believes the export sector may even shrink next year. Green believes China will see 7.9% growth in 2009 - well below the double digit figures of the past five years.“Government statistics show that 67,000 factories of various sizes were shuttered in China in the first half of the year,” said Cao Jianhai, an industrial economics researcher at the Chinese Academy of Social Sciences. By year’s end, he said, more than 100,000 plants will have closed. The wave of factory closings began in Guangdong province, where the nation’s economic reforms were launched three decades ago. The region accounts for about 30% of China’s exports, but over the last couple of years, Shenzhen, Dongguan and other cities in the area have sought to clean up the environment and create an economy based more on services and higher-value products. Makers of labor-intensive goods such as shoes, garments and furniture no longer felt welcome.”Stanley Lau, deputy chairman of the Federation of Hong Kong Industries, a trade group with 3,000 members, has estimated that as many as 15% of the 70,000 factories run by Hong Kong businesspeople in the mainland will close this year. He says many more are likely to shut after Chinese New Year in February, when millions of migrant laborers will return home for several days. “Once workers go home, they can close down the factory quietly,” he said in an interview in Hong Kong.
ACG Moderator: Given this recession, specifically, how has the outsourced manufacturing space been impacted?
Alexander: People have been forced to re-analyze bringing manufacturing back due to lower volumes. Less scale means reduced leverage with factories. Reduced demand = longer lead times with higher volume/less frequent orders. Carrying costs of capital increases; customer response times impacted. IKEA for instance has recently opened a plant in Virginia.In an April survey of nearly 1,000 companies by RSM McGladrey, the number planning to move offshore fell by 20% from a year earlier
ACG Moderator: Further explore the costs of shipping/freight as they impact this model
Alexander: Increased energy costs toward the end of 08 meant freight as a % of COGS increased. There were fewer containers coming into port—first declines since 2006; down 1.5% from Nov 07. At $150 barrel 40’ container $8,000 vs. $3,000 a year ago or $100. At $200 it would be $15K. Through July 19, U.S. railroads had carried 5 million shipping containers, down 3.4% with the same period last year. Containers that slow to 23mph from 29MPH save 20% but this means freight lines have to add containers. However, freight increases alone not cause in wholesale trade pattern shift back to US mfg. The Economy is key driver. Higher fuel costs will also cause a shift in Lean inventory. May see proliferation in warehouses to be closer to customers. The Freight Transportation Services Index dropped 1.4 percent from October to November to 107.6, the lowest level since January, 2004. The index is down 4.9 percent from its historic peak of 113.1 reached in November, 2005, the Department of Transportation's Bureau of Transportation Statistics reported.
ACG Moderator: Discuss the Chinese economy both how it's being impacted by this economy internally and how externally the commodity markets are being impacted around the world.
Alexander: China's exports fell in November for the first time in seven years and manufacturing activity shrank in December for a third straight month. Material costs will always fluctuate globally and are consistent around the world. With fuel and energy costs subsiding a bit and with material costs softening, Labor is still the key driver for the feasibility of offshore manufacturing.
Still it seems like the economy is chugging along normally though. In the city where one colleague lives there were more than 4000 cars newly registered in the first week of Jan alone. This is a city of 3M people and the roads are already crowded. We are not sure how many weeks like that one in Jan. we can survive and still keep cars moving along. Also, remember, the Chinese are good at saving money. The China economy is predicted to be as large as U.S. by 2030. All this said, this crisis has been a time of reckoning. Americans are buying fewer Chinese DVD players and microwave ovens. Trade is collapsing, and thousands of workers are losing their jobs. Chinese leaders are terrified of social unrest. Having allowed the renminbi to rise a little after 2005, the Chinese government is now under intense pressure domestically to reverse course and depreciate it. China’s fortunes remain tethered to those of the United States. And the reverse is equally true. The Treasury conducts nearly daily auctions of billions of dollars’ worth of government bonds. For the past five years, China has been one of the most prolific bidders. It holds $652 billion in Treasury debt, up from $459 billion a year ago. Add in its Fannie Mae bonds and other holdings, and analysts figure China owns $1 of every $10 of America’s public debt. The Treasury is conducting more auctions than ever to finance its $700 billion bailout of the banks. Still more will be needed to pay for the incoming Obama administration’s stimulus package. The United States, economists say, will depend on the Chinese to keep buying that debt, perpetuating the American spending habit.Many firms in the auto, luxury, travel & tourism and real estate industries have begun reporting a significant decline in spend. Where the greatest opportunity lies, is in the rural economy. It is the economy that has lagged far behind the others - It is the economy that has more than 700 million people - It is the economy were small nominal gains can equate to large.
ACG Moderator: Discuss the idea of building markets in China coming from the U.S. or Europe
Alexander: According to The Kiplinger Letter, for 2009, trade will shrink worldwide by 2.1 percent to $115 billion and U.S. exports will drop 0.5 percent. It said the hardest hit areas will be machine tools, chemicals, plastics, mining gear and turbines, while medical products, farm goods and construction equipment should weather 2009 relatively well. Kiplinger predicted no worldwide growth for gross domestic products in 2009, and negative growth in the U.S. There are still good opportunities for growth. Certain products that sell well in China and come from USA are mostly niche items. Examples: Zippo Lighters, cosmetics from famous names like Estee Lauder cars, and famous brand clothing. Western brands will always be in demand.
ACG Moderator: Discuss how the Chinese government is impacting companies that want to either invest in China financially or via a joint venture or with manufacturing facilities - VAT rebates, and clean industry versus smokestacks
Alexander: In July, 07 VAT rebates were rescinded for 553 industries. The gov't just increased the VAT refund for exported goods to help with the economy. The price of raw materials is way down now so batteries, and other items have gone down in price about 30%. China will increase the export tax rebates for some machinery products as of Jan. 1, 2009, in a bid to alleviate cost burdens on exporters (back to 17%). The most recent increase took effect on Dec.1, covering 3,770 items of labor-intensive, mechanical and electrical products, or 27.9 percent of the country's total exports.
ACG Moderator: Discuss product quality concerns in Chinese manufacturing
Alexander: Any U.S. concern marketing a product manufactured in China is ultimately responsible for product/project management. This means clearly stating product specs and tolerances, material specs, defect rates, etc When we leave too much in the hands of Chinese manufacturers is when we run into issues.China does need better IT and process control. There is a lot of opportunity for IT/IS but also the Chinese don't know they need this. They don't even use part numbers in most businesses... Our biggest opportunity from US to China is to engrain our production management know-how. One of the main problems in producing quality here is that the workers and managers themselves don't know what to expect in a quality product because they don't consume such items. "They have no feel for what quality is."There is also little accountability for goods that fail after some time in service. Example: If you buy a new house, everything will be perfect when you buy it but things will soon start to break because they weren't made well. They might try to fix it but how can you fix a tile floor if all the tiles were installed following a standard that is not up to par? Example: they paint bare wood or walls without priming the wood first. The paint looks great for a year, then it lifts off in big sections but it’s too late for anyone to be accountable then. Your average Chinese homeowner has no idea how to paint or do other home repairs compared to the average American.This is why you need to have your interests well looked after. Also, a serious weakness of Chinese engineers is their reluctance to ask questions. This has to do with the cultural myth of “lose face.”Because of the importance of relationships and family sometimes they will hire their friend/family member instead of hiring the best person for the job. This also limits their success in some ways. Take Auto parts for instance. The Speed at which China has been industrialized means quality concerns and recalls are growing. Their revolution happened in a quarter of the time that ours did.The Chinese are unfamiliar with or don’t care about U.S. auto quality standards. Under federal law the importer of record is responsible for recalls and quality concerns. Many small importers (anyone can be importer) aren’t familiar with regulations and suppliers don’t have the capital to handle recalls.We also have to communicate the long term implications of the business opportunity to the Chinese factory. If they think a project is ‘one and done’ then this impacts price Everything is a negotiation.
ACG Moderator: Discuss the cultural differences especially as it relates to building relationships in China.
Alexander: The Chinese always consider their relationship with another person when they do business with that person. For example, they can never turn away from doing business with a friend even if there is a better product they should be seeking. At least they can't do it in front of everyone so they might do it secretly. The Chinese prefer to deal with people they know and trust. Western companies have to make themselves known to the Chinese before any business can take place. Furthermore, this relationship is not simply between companies but also between individuals at a personal level. The relationship is not just before sales take place but it is an ongoing process. The company has to maintain the relationship if it wants to do more business with the Chinese. The relationship sometimes begins based on money then moves to integrity and trustworthiness. Frequent contact is important.
ACG Moderator: Discuss other emerging markets such as Vietnam, South America and Mexico briefly as they relate to the evolution of the Chinese markets and increased shipping costs.
Alexander: Much is predicated on fuel costs. Also higher expenses, plus higher taxes and stricter enforcement of labor and environmental standards, are causing some manufacturers to leave for lower-cost markets such as Vietnam, Indonesia and India.Despite its huge pool of unskilled rural laborers, China's supply of experienced, skilled talent falls far short of demand. The gap has been pushing wages up by 10 percent to 15 percent a year.Inland cities like Luoyang and Wuhan, outside the traditional export zones of Guangdong and the Yangtze River Delta, near Shanghai are emerging. In inland China, wages still lag far behind the richer eastern and southern coastal areas.
Knockout Body System
Sign Manufacturer Cuts Manufacturing Costs in Half by Outsourcing to China
By John Harney, Business Writer January 2009
Outsourcing manufacturing work to China is a cost-saving but often not a hassle-free undertaking, especially if your company does not have a liaison in place. This liaison must understand the manufacturing practices, expectations, culture, and pricing in China and how they differ from those in the United States and be able to effectively communicate that information to the U.S. office.
Creative Mailbox & Sign Designs is a manufacturer of mailboxes and signs that does $8 million a year in revenues and employs 65 personnel. It has three lines of business. The Residential line manufactures mailboxes and street signs for master plan communities; the Commercial lines does signage for office buildings; and the Department of Transportation line takes care of Department of Transportation signage for interstate and other highways.
It sounds like a simple enough business -- design a sign, send the design to China, and have them make it and send it back in quantity. Jamie Harden, CEO of Creative Mailbox & Sign Designs, says it's not that easy. "We had a relationship with a stamped aluminum outsourcer and manufacturer in China. We found quality inconsistency issues, poor communication, and lack of connectivity into their Asian organization," he says.
Harden might convey specs and other data and instructions to the U.S. liaison but had no direct communication with the Chinese portion of the business. The result was miscommunication and mistakes, which cut into Creative Signs' margins and held up manufacturing schedules. "We felt like we were buying a product instead of being in a situation where we could go through a more collaborative design process. It was not a real partnership," says Harden. "No pun intended, but we often felt like something was lost in translation," he adds. As a result, the company sought an outsourcing partner elsewhere.
Collaboration is key
Understandably, says Harden, "we were really looking for a service provider that would help us develop a partnership that would give us reliability, quality, effective communication, and good connectivity into Asia." Harden's company found exactly that when it phased out the existing outsourcing contract and teamed with BaySource Global www.baysourceglobal.com in June 2006. The company used BaySource to manufacture mailboxes for distribution into its Residential market, and BaySource proved to be both consultative and communicative from the get-go. "From the beginning they went out of their way to understand our needs," says Harden.
"We had e-mails and conference calls not only with David Alexander, president of BaySource, who runs the domestic side of things, but also with his partners in China; so we really had great connectivity right into that organization," says Harden.
Creative Mailboxes has in-house graphics designers who come up with images of the product, which they send via the Internet to Alexander. His team takes engineering drawings and specifications, and drops them as CAD drawings into BaySource manufacturing program. This helps the Chinese supplier determine the tooling process, which is necessary to be able to get a quote, according to Harden.
If the buyer can't provide CAD drawings, BaySource’s China team -- all trained in professional CAD shops in China -- can develop them for the client. BaySource then comes back with a proposal that states the tooling costs as well as the cost of the product. The supplier also provides a timeline, including how much turnaround time it will take from delivering initial drawings to providing a sample to finally delivering the product.
According to Harden, "We gave them the specifications but said, 'If you can add any value to the process, feel free to offer it.' So they came up with a few tweaks here and there to help us come up with a superior product. For instance, they designed a new latch for the mailbox and even went out of their way to find the paint we wanted to use."
Basically, Harden adds, "As they were doing design, they were sending us pictures to see if it looked right. Sometimes what happens is you lose so much time to market because the manufacturer wants to just do a sample -- with no pictures beforehand -- and send that to you." This is an advantage because if the sample is not right, the manufacturer has to repeat the new sample process.
The price is right
Harden readily admits that BaySource delivered "a quality product." What's more, the pricing was "extremely competitive." By outsourcing to China, his company was able to keep design/manufacturing cost of each unit to just $8. Harden estimates that if he'd have attempted manufacturing in the United States, it would have cost twice that.
The lower cost also gives Harden's company a healthy sales margin to work with since it sells the mailboxes for $30 a unit. Better margins obviously keep the company more competitive since it's now also coping with a weak U.S. economy.
A one-stop shop
According to Alexander, his company takes over the project from the start. "All we need to understand is whether a customer has ever outsourced a product before or if it's a product that's currently something its procurement department is obtaining from a domestic distributor." This gives BaySource a baseline from which to estimate its own and the customer's needs.
The China office handles the specs, engineering drawings, and samples as well as sets cost targets and annual volumes and the like. Then, says Alexander, "we take that project and match it with a capable factory in China."
BaySource therefore acts as a liaison between its customer and any of 50 factories it has bid on jobs. And Alexander acts as liaison between American customers and the BaySource Chinese operation.
The China team is manned with Chinese-speaking personnel as well as engineers. When BaySource visits the factories to explain the job and later to confirm that the factory is making products to the customer's specification, the personnel have to talk to one another in the same language. "I don't mean Chinese," says Alexander, "so much as one engineer talking to another. Because of the specialized terms, it takes an engineer to talk to an engineer."
For its efforts, BaySource nets a profit margin in the high single digits to low double digits. This keeps its services cost-competitive, particularly in an underperforming economy.
As Alexander is quick to point out, "More companies are doing business in China, so competition is increasing. The market will dictate what the costs will be. If we gouge a customer, we may lose them for good." At BaySource, therefore, good business strategies dovetail with ethical business practices, a situation that is increasingly rare these days.
Lessons from the Outsourcing Journal:
• Customers that outsource manufacturing to China should have an outsourcing supplier there that understands Chinese manufacturing practices, expectations, culture, and pricing and how they differ from those in the United States
• Ideally the outsourcing supplier should be a company that helps the customer develop a partnership that gives the customer reliability, quality, effective communication, and good connectivity into Asia.
• The supplier should present the customer with designs throughout the design and manufacturing process to ensure that the sample that results is correct. Otherwise, if the sample is defective, the customer loses valuable time to market in the process of creating a new sample.
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Publish Date: January 2009
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