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Home » Opinion » Foreign Views
New challenges for 'Made in China' label
January 5, 2009, Monday
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Print Edition
Print Edition
A NEW report sets out some of the new challenges for foreign producers in China: High costs are forcing some operators to leave, but advantages remain strong.
The report, China Manufacturing Competitiveness 2007-2008, was produced by the American Chamber of Commerce (AmCham) Shanghai and conducted by consulting firm Booz Allen Hamilton after surveying 66 manufacturing companies, most of them foreign-owned.
"The vast majority, 83 percent, don't have any plans to leave China," says Ron Haddock, greater China vice president for Booz Allen Hamilton, which conducted the study.
"They still see advantages in China, but what's disturbing here is that 17 percent actually do have concrete plans to move manufacturing capacity to other neighboring countries."
The companies surveyed said wages are rising 9 percent to 10 percent per year, with the cost of raw materials up more than 7 percent per year.
Since the fixed peg was removed in July 2005, the yuan has appreciated 15 percent against the US dollar, and there is near-unanimous agreement that it will continue to rise.
Further appreciation would mirror the trend in other Asian countries and regions that followed a similar path to industrialization, including Japan and South Korea, and to a lesser extent, Thailand and Malaysia.
Those countries and regions, which started out decades ago as low-cost, export-oriented economies and evolved into producers of high-value goods, all logged large annual trade surpluses for many years, causing a steady rise in their currencies.
The rising yuan is the most serious worry for the 66 companies that participated in the study, but it is not the only worry, says Haddock. "In companies that have concerns about China losing its competitiveness, No. 1 was the appreciation of the yuan, No. 2 was inflation price increases both in commodity prices and cost of property and facilities, and No. 3 was wage increases."
In addition to moving outside China, another option is to move somewhere cheaper in China.
These internal moves have the unexpected side effect of raising labor costs near Shanghai, because most workers would prefer to work in factories in their home provinces, and Shanghai-area owners have to raise their own wages to compete.
In addition, there is growing evidence that the hinterlands are not as cheap as they used to be, because the same trends are at work everywhere in China.
Advantages remain
The extent of China's declining competitiveness should not be overstated. It remains an excellent place to do manufacturing and it has a huge domestic market.
In addition, say experts, for the country as a whole, a shake-out of cheap production may not be such a bad thing. "When the yuan gradually appreciates, those low-margin, labor-intensive, heavily polluting and low-value-added industries will be forced out of China, and enterprises will start upgrading themselves into high-value-added businesses while also trying to improve their efficiency," says Scott Chu, head of strategy and business development for Pioneer Investment.
"Mainstream enterprises still have room for profit growth."
As an example, Chu cites Zhenhua Harbour Infrastructure Co, a Shanghai-listed exporter of heavy harbor equipment.
"It is trying to make high-value-added products with more technical elements to improve its profit margin, and at the same time, it is listing its price in yuan to promote exports," he says.
There are strong reasons for factories not to leave China: Moving a production base is expensive and time consuming, and new markets, especially those outside China, have their own unique and unknown risks.
"One part of the survey showed that there was reluctance to exit because of the fixed assets that were already in place," says Haddock.
Another strong reason to stay in China is the size and scope of the domestic market. A third reason is the high quality of Chinese labor.
In the AmCham study, China's labor quality scored well, compared to some of its other manufacturing variables. Companies were asked: How do you evaluate these parameters in China compared with your existing footprint around the world?
In response, IP protection in China received a low score, as did government efficiency, logistics infrastructure, and legal compliance. Labor quality, by contrast, received a high score.
The high quality of the Chinese workforce is often cited by factory owners, especially those with experience in other countries.
Among the companies that excel in China are those that not only manufacture here, but also sell their products to the domestic market.
In selling locally, those companies are more insulated from the rising yuan and rising labor costs, because sales are in yuan and because paying higher wages creates more disposable income.
Recipe for success
In addition, the domestic market is fast growing and increasingly wealthy.
The underperformers, on the other hand, are either too sales-centered or simply prefer to source and manufacture products for export, while ignoring the potential of the domestic market. That puts them more at the mercy of the rising currency.
Successful companies are also good at what they do. Their operations are efficient, they have smooth supply chains and they make use of "global best practices," such as Lean Six Sigma. Companies that wish to move up the value chain, says Haddock, should become more efficient.
"Some companies are just starting to realize that you have to be pretty good in China manufacturing to succeed," he adds, "because the days of low-cost manufacturing are increasingly coming to an end. In fact, the game has changed."
(Reproduced with permission from Knowledge@Wharton, http://knowledgeatwharton.com.cn. All rights reserved.)
The report, China Manufacturing Competitiveness 2007-2008, was produced by the American Chamber of Commerce (AmCham) Shanghai and conducted by consulting firm Booz Allen Hamilton after surveying 66 manufacturing companies, most of them foreign-owned.
"The vast majority, 83 percent, don't have any plans to leave China," says Ron Haddock, greater China vice president for Booz Allen Hamilton, which conducted the study.
"They still see advantages in China, but what's disturbing here is that 17 percent actually do have concrete plans to move manufacturing capacity to other neighboring countries."
The companies surveyed said wages are rising 9 percent to 10 percent per year, with the cost of raw materials up more than 7 percent per year.
Since the fixed peg was removed in July 2005, the yuan has appreciated 15 percent against the US dollar, and there is near-unanimous agreement that it will continue to rise.
Further appreciation would mirror the trend in other Asian countries and regions that followed a similar path to industrialization, including Japan and South Korea, and to a lesser extent, Thailand and Malaysia.
Those countries and regions, which started out decades ago as low-cost, export-oriented economies and evolved into producers of high-value goods, all logged large annual trade surpluses for many years, causing a steady rise in their currencies.
The rising yuan is the most serious worry for the 66 companies that participated in the study, but it is not the only worry, says Haddock. "In companies that have concerns about China losing its competitiveness, No. 1 was the appreciation of the yuan, No. 2 was inflation price increases both in commodity prices and cost of property and facilities, and No. 3 was wage increases."
In addition to moving outside China, another option is to move somewhere cheaper in China.
These internal moves have the unexpected side effect of raising labor costs near Shanghai, because most workers would prefer to work in factories in their home provinces, and Shanghai-area owners have to raise their own wages to compete.
In addition, there is growing evidence that the hinterlands are not as cheap as they used to be, because the same trends are at work everywhere in China.
Advantages remain
The extent of China's declining competitiveness should not be overstated. It remains an excellent place to do manufacturing and it has a huge domestic market.
In addition, say experts, for the country as a whole, a shake-out of cheap production may not be such a bad thing. "When the yuan gradually appreciates, those low-margin, labor-intensive, heavily polluting and low-value-added industries will be forced out of China, and enterprises will start upgrading themselves into high-value-added businesses while also trying to improve their efficiency," says Scott Chu, head of strategy and business development for Pioneer Investment.
"Mainstream enterprises still have room for profit growth."
As an example, Chu cites Zhenhua Harbour Infrastructure Co, a Shanghai-listed exporter of heavy harbor equipment.
"It is trying to make high-value-added products with more technical elements to improve its profit margin, and at the same time, it is listing its price in yuan to promote exports," he says.
There are strong reasons for factories not to leave China: Moving a production base is expensive and time consuming, and new markets, especially those outside China, have their own unique and unknown risks.
"One part of the survey showed that there was reluctance to exit because of the fixed assets that were already in place," says Haddock.
Another strong reason to stay in China is the size and scope of the domestic market. A third reason is the high quality of Chinese labor.
In the AmCham study, China's labor quality scored well, compared to some of its other manufacturing variables. Companies were asked: How do you evaluate these parameters in China compared with your existing footprint around the world?
In response, IP protection in China received a low score, as did government efficiency, logistics infrastructure, and legal compliance. Labor quality, by contrast, received a high score.
The high quality of the Chinese workforce is often cited by factory owners, especially those with experience in other countries.
Among the companies that excel in China are those that not only manufacture here, but also sell their products to the domestic market.
In selling locally, those companies are more insulated from the rising yuan and rising labor costs, because sales are in yuan and because paying higher wages creates more disposable income.
Recipe for success
In addition, the domestic market is fast growing and increasingly wealthy.
The underperformers, on the other hand, are either too sales-centered or simply prefer to source and manufacture products for export, while ignoring the potential of the domestic market. That puts them more at the mercy of the rising currency.
Successful companies are also good at what they do. Their operations are efficient, they have smooth supply chains and they make use of "global best practices," such as Lean Six Sigma. Companies that wish to move up the value chain, says Haddock, should become more efficient.
"Some companies are just starting to realize that you have to be pretty good in China manufacturing to succeed," he adds, "because the days of low-cost manufacturing are increasingly coming to an end. In fact, the game has changed."
(Reproduced with permission from Knowledge@Wharton, http://knowledgeatwharton.com.cn. All rights reserved.)
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