Conversations with a reshoring agnostic: Why reshoring isn’t the answer for everyoneConversations with a reshoring agnostic: Why reshoring isn’t the answer for everyone
While the reshoring advocates see a trend of companies moving work back to the U.S., John Biagioni, VP of Supply Chain & Operations for Dynisco, a Roper company, says, “Not so fast!” In fact, Biagioni tells people, “Do the math.”
December 11, 2012
Going offshore for the past two decades has become the thing to do. Why should a company go offshore to have its components and/or products manufactured? In too many cases it’s been the answer that your teenager gives you when ask why they want to do something: “Because everyone else is doing it.”
However, just because everyone else is doing it does that make it the right thing for your company to do? Does it make it the best thing for your company to do?
Biagioni believes that offshoring to foreign suppliers can have rewards. However, he also believes that companies must make that decision for the right reason. “Most are only concerned with the piece-part cost in the MRP [material requirements planning] system,” he says. “Someone looks at what they paid the last time those parts were ordered and that’s what drives their thinking.”
What purchasing and supply chain management people fail to include is the cost to get the parts or products to their North American destination, or the cost to move molds from one country to another. There’s also the risks involved in having a supplier half-way around the world, which means that the cost that buyers and supply chain managers should be looking at is the total cost of ownership (TCO).
“TCO takes into account all the factors involved in having something manufactured offshore,” says Biagioni. “When you take the cost of something and look at where it’s manufactured, you have to also take into account the inventory required to maintain supplies because of extended shipping logistics, paying in a different currency and currency inflation risk, and the fact that moving products from one geography to another involves risk. You have additional costs for that product or component that go beyond the price on the MRP sheet.”
In the supply chain, “a fulfillment line should be envisioned as a piece of spaghetti stretching from the customer to you and then to your supplier’s supplier,” Biagiaoni explains.
“In making this piece of spaghetti as short as possible you are reducing lead times to your customer while minimizing the risks.”
Managing cash flow is also critical in supply chain management. “Managing my cash means having as little inventory as possible,” Biagioni adds. “Extended supply chains and lead time blow the budget. Using inventory buildup as a ‘decoupler’ between demand variation and supply is an old and expensive strategy.”
The frenzy to manufacture in China was driven in large part by the cost of labor. Many large OEMs made the leap because hourly labor rates were a small fraction of what they paid in the United States. The result of this narrow way of thinking was that many OEMs lost their intellectual property, and experienced massive quality problems resulting in brand-damaging product recalls.
Quality can be very costly in offshore manufacturing. “If you don’t roll the cost of quality into the individual parts, you’re not understanding your true costs. We do that in the TCO model,” said Biagioni. “It’s very important to do because the cost of quality can be high. If the products or components you’re manufacturing in Asia are driving 30% of your quality problems, but that’s not factored in, then the parts in Asia are getting a free ride, so to speak.
Biagioni says that Dynicso has a system that shows them the true cost of a product, locally vs. globally. “Using local suppliers where you manufacture is beneficial to your cost structure,” he adds. “We’re able to sell more of our products into China, for instance, because we lowered our cost structure in manufacturing there.”
Biagioni explains that because Dynisco manufactures complex, highly engineered products, “demand variation is through the roof.” And because of that, Dynisco can’t just focus on labor. “That’s short-term thinking,” he says. “I’m not a huge a proponent of reshoring, per se. You have to do the math. But there are situations where I’d build a highly technical product or component in the U.S. anyway, just because of the intellectual property issues in China. I know it will be copied once it’s [in China].” In certain technologies Biagioni will retain a critical component of the technology in the U.S. or another country with good intellectual property control.
Dynisco’s business model is one of regional manufacturing and distribution, meaning the company tries to satisfy regional demands within every major global market. “If demand comes from China, we build in China and use designs that are suitable for that region’s experience,” Biagioni said. “It’s harder to take a U.S. design for the U.S. market and implement it in China. Their engineers and managers aren’t familiar with our regulatory and business practices. If my demand comes from U.S., I design for the U.S. and try to build here. The goal is to get products to customers quickly.”
Looking toward the future, Biagioni believes that while there is evidence of reshoring, more and more companies will also adopt the strategy of ‘China for China’ or made in China for the China market, because it’s such a rapidly expanding growth opportunity. “China is a huge consumer market as well as being a giant producer of parts and services – it’s its own ecosystem,” he adds.
As a pure export vehicle for American markets, China is becoming less attractive. Biagioni notes that the cost structures in cities such as Shanghai are going up. Labor costs going up 8% per year there, while in Malaysia labor costs are up only about 4%. Using a TCO model for these trends allows global companies to understand the big picture and make better sourcing decisions.
“Looking at direct labor isn’t where you want to focus exclusively,” he says. “As a percentage of payroll, your indirect costs are about 5 to 1 in terms of direct costs. As such, if you’re supporting your low-cost foreign production with engineers, managers and some remaining factory workers in the U.S., it’s likely not worth it. You often have to build and do most of your activity where you sell. Satisfying the demand from within the target geography is the best way to get the benefit from that market. Unless, perhaps, you’re a toy maker or in the fabric industry.”
One clear problem with offshoring, says Biagioni, has been that as more and more parts are shifted to manufacturing in Asia and returned to the U.S., the previous company support structure continues to stay in the U.S. and is burdened against the remaining product. That means that year-over-year a smaller domestic product portfolio has to carry the same or worse overhead costs because of offshore sourcing.
“You have to recover the costs of your existing infrastructure,” he states emphatically. “Unless you can change the size of your domestic footprint, outsourcing to a low-cost geography has to be added to the cost of the region you are taking it from. You can’t simply create an impaired asset in the plant and equipment back home. That’s what’s driving some of the math of reshoring right now. People forgot the full accounting so they are retrenching.”
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