About the Authors: Anna Mansson is a
Principal and John Jullens is a Partner at Booz &
Company (Shanghai) Ltd., a global management
consulting firm focused on serving and shaping the
senior agenda of the world's leading institutions.



With costs rising and off shore locations becoming increasingly attractive,
manufacturing MNCs in China need to painstakingly re-examine their
supply chains to improve effi ciencies.


RECENT MONTHS have seen pundits
argue in the columns of such
reputable magazines as Forbes and
The Atlantic Monthly that China’s
days as a global manufacturing giant are,
if not over, at least past their peak. China,
they suggest, has reached the point where
its vast supply of surplus labour from the
countryside has been fully absorbed, where
its wages are rising substantially, and where
manufacturers across the board can only
become less competitive. Exacerbating this
trend are technological breakthroughs such
as fracking, which are dramatically lowering
factor costs in important export markets such
as the US. As a result, according to these
observers, China’s days as an export-based
economy led by low-cost manufacturing are
rapidly coming to an end.
There is certainly some truth to this analysis.
China’s cost equation indeed no longer makes
sense for a range of labour-intensive products
that are inexpensive to ship, while certain
low labour-content exports that are difficult
to transport may very well be “re-shored” to
their end-customer markets. Even for these
products, however, it remains to be seen how
much manufacturing capacity will actually
leave China, as other emerging countries such
as Vietnam and Bangladesh would likely see
their own labour costs rise long before they
can absorb all of China’s volume.
Required re-examinations
In reality, the combination of growing domestic
demand and significant untapped
opportunities to further raise productivity levels
and reduce costs suggests that China could
potentially even enhance its position at the
top of the world’s league of manufacturers.
However, this does not mean companies can
rest easily Instead of leaving the country en
masse, China’s manufacturing base will likely
begin to fragment, requiring multinational
and Chinese companies to fundamentally
re-examine their entire supply chains, from
inbound sourcing to outbound logistics, and
consider afresh where and how they operate.
To do so, companies will have to answer three
related questions:
• First, they will have to look at what changes
must be made to improve performance at their
operations in the traditional coastal areas as
well as in the newly emerging inland markets.
• Second, they must decide how to optimise
their footprint by relocating all or part of their
manufacturing and supply base to lower-cost
inland regions, or out of China altogether.
• Third, they must ask themselves what
organisational capabilities must be added or
developed to transform their newly reconfigured
footprints and operations.
For example, partially as a result of China’s
(until recently) ultra-low wage levels,
many companies have yet to optimise their
manufacturing, sourcing and supply chain
activities. It is therefore crucial to first conduct
a thorough assessment of all potential
productivity and cost reduction opportunities
in existing facilities before relocating a manufacturing
operation to a lower-cost location in
or outside of China. Typical performance
improvement opportunities include substituting
capital for labour, process automation
and adopting lean manufacturing practices.
Similarly, many companies can still realise
significant cost savings by designing parts
that can be manufactured more easily and
cost efficiently in China itself, and by helping
Chinese suppliers improve their ability to produce
such parts locally. Such firms can further
reduce costs by identifying where cheaper
local materials can be substituted for more
expensive foreign ones, or where off-the-shelf
components can replace custom-designed
parts. It is worth noting that several leading
Chinese manufacturers, including Galanz and
Mindray, are already quite adept at making
such product and process modifications. Foreign
firms who have also shown this aptitude
include Honeywell and P&G, who have set
up local innovation organisations focused on
designing low-cost products that use locally
sourced inputs.
Applying new methods
Most companies also have plenty of room
to improve their manufacturing or assembly
operations and optimise their machinery
and processes to reflect the new labour cost
realities, while simultaneously increasing
quality levels and speed-to-market. Likewise,
additional opportunities to improve supplier
performance may be found through cooperation
initiatives with suppliers aimed at helping
them achieve best-in-class lean production.
Other areas that companies typically find
useful to explore include planning and supply
chain procedures as well as working jointly
with their partners to reduce stock levels at all
points of the supply chain, from raw material
providers to stock in customers’ inventories.
While all of these activities are of course
common practice in developed markets, they
are often either still absent in China, or just
not set up in ways that effectively adapt global
operating standards and capabilities to local
conditions.
Once they have reviewed their manufacturing
and end-to-end supply chain practices,
companies can next turn to developing their
ideal operations footprint. This will require
a structured product-by-product assessment
that takes into account everything from cost
drivers to customer location. Simply relocating
to an inland site to pursue lower costs is
unlikely to be a strategy that alone will bring
positive returns over the long-term. In fact,
putting aside the government’s major role in
making the necessary infrastructure investments,
any such move will likely require
fundamental changes that extend well beyond
a relatively simple switch in location. As part
of their analysis, companies must look at
how doing so can allow them to rethink and
transform all aspects of their supply chain and
production, if they do not to find themselves
again facing the same challenges of rising
labour and other costs soon afterwards.
Sly moves by Foxconn
A good example of a company which has
optimised its coastal factories while simultaneously
expanding its footprint inland is
Taiwan’s Foxconn, the world’s largest electronics
contract manufacturer. At its older
coastal facilities – still primarily directed towards
producing goods for export – Foxconn
is looking at ways of raising productivity via
capital investments. In Shenzhen, it has plans
to invest in new robots and other automation
technologies that could see its workforce
there, now numbering a few hundred thousand,
fall by half. At the same time, to keep
close to its major customers, it has established
a series of major inland manufacturing operations,
and now operates 13 different facilities
in nine different cities, including factories at
Chongqing and Chengdu in western China
and at Zhengzhou in the central province of
Henan. As it has moved inland, Foxconn has
required its suppliers to follow and set up their
own plants – often helping them by working
with local governments to ensure such moves
are made smoothly and that the necessary
infrastructure is in place. In Chongqing, Foxconn
secured support from the municipality’s
government to lengthen its airport’s runway,
such that Boeing 747 freight aircraft could
land and take off.
As Foxconn’s experience highlights, the new
realities of China’s manufacturing and supply
chain environment will require a much broader
and ever-changing skill set. Companies
will have to look anew at the organisational
capabilities that their China ventures will
require, augmenting outdated practices and
introducing new ones. Managing such
increasingly complex and geographically
dispersed networks will naturally be a formidable
challenge, but is also simply the price
of admission to the world’s second-largest
economy and its increasingly affluent 1.5
billion consumers.