China once was the stronghold for cheap labor and low-cost manufacturing. Companies flocked there to outsource their operations.
Recently, however, China’s reputation as a top exporter has been badly bruised amid a series of product safety problems. And while it is working to repair the damage that has been done to the ‘Made in China’ label, Beijing may have bigger problems ahead.
China is no longer the cheap manufacturing center it used to be -- an issue that had been brewing long before any recalls.
Call it globalization at work.
According to a survey by consulting firm Booz Allen Hamilton and the American Chamber of Commerce (AmCham) Shanghai, wages have increased at a rate of 9 to 10 percent per year, with raw materials prices rising over 7 percent.
Moreover, as China’s currency continues to rise, companies say its competitiveness is falling. Fifty-four percent of the companies that participated in the survey feel China is losing its edge.
Seven out of 10 companies blame the rising yuan, 52 percent say it’s due to wage inflation, and 33 percent cite staff retention behind China’s decline.
Adding to the problem, the study also found that China is lagging in some key operational dimensions including:
- Logistics infrastructure
- Trade environment
- Access to technology
- Management capabilities
- Protection of intellectual property
In response, one in five companies participating in the survey have plans to relocate some of their China-based operations to other countries. The top choices were Vietnam with 63 percent and India with 37 percent. Vietnam ranked higher due to lower factor costs, primarily labor costs.
“Vietnam is closer to the U.S., so shipping time and costs are lower -- an important factor because most companies export to the U.S. Vietnam is also closer to China to serve the Chinese market,” added Ronald Haddock, Vice President, Booz Allen Hamilton.
Despite the declining competitiveness, eighty-three percent of participants say they will maintain their China-based operations. However, to be successful, companies will have to change the way they do business.
“Beijing is encouraging companies to invest in the western part of the country, where cheap labor is abundant and it is making a major effort to build infrastructure to support this,” Haddock said. “Unfortunately, the governments of Vietnam and India have learned from China and are employing some of the same methods to attract investment, and as a result, China has more competition.”
However, cheap labor is only half of the problem. For those companies that choose to stay, failure to fully leverage China as a growth market and as a labor and production source can hurt profit margins.
“In manufacturing, foreign companies are struggling to deploy best practices and harmonize their production/supply chain systems to serve dual markets -- China and exports,” Haddock noted.
Haddock says there is ‘latent productivity potential’ in China that companies can use to their advantage by using best practices in operations strategy and management.
“The right best practice will be driven by the industry a company is in and how the company chooses to compete,” Haddock said. “For quality, six sigma is a relevant best practice. For time to market, rapid changeovers and workforces team/empowerment would be the most important. For cost, minimizing factor costs while trading these off against the benefits/costs of quality would be the most important.”
When it comes to best practices currently employed by companies in China, only 11 percent of the survey respondents use internal planning systems like ERP and material requirement planning (MRP). Seven percent use analytical inventory calculation tools and processes, and only 4 percent employ best practices for supply chain risk management.
In today’s changing global marketplace, companies need to adapt to survive. China’s days as a cheap, manufacturing-for-export destination are numbered. Companies need to revamp their approach to be successful amid the country’s loss of competitiveness in low value added work. But while the end of one era is near, another is just beginning.
“China is increasing its competitiveness as an overall economy as consumers have more spending power, the infrastructure continues to improve, and the work force is acquiring skills in the area of innovation,” Haddock commented. “This is a good news story for China, as it signals its emergence as a player in higher-value-added activities, such as R&D and other types of innovation -- and signals China’s gradual but certain emergence as a developed country.”
“China Manufacturing Competitiveness 200-2008” is available at http://www.boozallen.com. Booz Allen Hamilton provides consulting services in strategy, operations, organization and change, and information technology. AmCham Shanghai’s mission is to create a better business environment for U.S. companies and to help foster China’s overall economic development.