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Offshoring - Are the Savings Worth the Cost

By: James Cavalluzzi

Mr. Cavalluzzi is the founder and owner of CONSOLUTE, LLC engineering support and consulting services providing site search, industrial, manufacturing and design engineering support. His extensive background in engineering dates back to 1978 and includes the robotics, automotive, aerospace, metals and plastics industries. Visit us at: Consolute, LLC

As the competition gets tougher, more and more companies are looking overseas to reduce costs and remain competitive in the marketplace. Off-shoring used to be an option reserved for the very large corporations who had the money, resources and global experience to pull it off successfully. These days, with a myriad of companies providing advice and direction, it seems the doors are open to just about anyone looking to increase profits by moving production into low cost countries, but is it a good idea?

There are arguments on both sides. Some will tell of the huge profits realized by off-shoring, while others have tales of near disaster. You need to look at your own position in the market, determine if you have truly done everything possible to reduce costs and improve productivity, and then examine the options that off-shoring present to see if and where you should be expanding. Though overseas labor rates can be quite attractive depending on the country, there are a multitude of other factors that can make or break you.

The trend has been to locate in the low cost countries, those with extremely low labor rates, tax breaks, utility costs and favorable customs regulations. As times goes on, however, these low cost countries become higher cost countries as they need to add infrastructure, training and other amenities and, as a result, companies move on to yet another country to take advantage of the lower labor rates. As an example, NAFTA caused a wave of expansion into Mexico, but lately more companies are leaving Mexico for the lower labor Asia can offer.

How can you pass it up? Fully loaded labor rates for low skilled workers in China, for instance, are a few dollars per day as compared to the few dollars per hour in Mexico; and then there are the wages in the US with the additional burden of ever rising health care costs and the wide range of benefits we demand along with them. So why not hurry overseas to reap the rewards before our competition beats us to the punch?

There are many factors that need to be considered before you expand overseas. Just about every country has a long list of reasons why going there might not be the best option for your particular situation. It is important that you study your target countries with an open mind and dig deep to determine if the scenarios these countries offer are really as good as they are claimed to be. What is lucrative for one type of industry or company can be a death sentence for others.


Industry

Certain countries shun certain forms of industry. India prefers high tech jobs and will not be very cooperative if you are looking to move heavy industry there; Mexico prefers higher skilled jobs these days rather than the mindless manual labor jobs of the past; and China will take pretty much anything right now. As a result you will find that many of the incentives used to lure you to these countries will not be available to you unless you fit into their little niche of desirable industries.


Resources

If your industry requires large quantities of electricity, natural gas or water or if you use rare and exotic materials in your processes, you are in for rude awakening. Most overseas countries are severely lacking in energy and resources. This limits your options for location and adds high purchase costs and taxes for these resources. Even if you are lucky enough to find a source for your utilities, you will soon find out that the quality is quite poor. Natural gas for instance, often times will yield much less energy per cubic foot overseas than it does here at home. Electricity transmission will be intermittent, with frequent interruptions, and you will usually have to foot the bill to erect the transmission lines and distribution gear. In addition, you usually pay for your maximum energy requirements, regardless of how much you actually use.


Transportation

Transportation is another big issue in many of these countries. Industrial parks usually shoot up everywhere, as fast as they can build them and anywhere they can squeeze them in, therefore, when it comes time to add the roads, there usually is not much room left. This leaves transportation infrastructure scarce and inadequate in all but the largest cities where, incidentally, the labor rates are the highest. This not only makes it difficult to move goods, but it limits access to your facility by the workforce. There may be a large available workforce in the surrounding area, but most canít afford transportation so only those living within walking distance or on the bus routes will actually be able to get to your facility.


Labor


Those low labor rates are quite attractive, but as the old saying goes, you usually get what you pay for. If your process requires only menial hand labor to perform the simplest tasks then labor is readily available and abundant. If skilled labor is what youíre looking for, then things get a bit more complicated. Highly skilled labor is a luxury in many overseas locations. For the most part, you will need to train your workforce, to do everything, and most workers do not readily understand or accept the concept of standardization, paperwork, quality control, and documentation.

Mexico is one country that stands out in the area of quality workers. The labor rates are higher in Mexico than they are in Asia, but you will get much more bang from your buck there. The Mexican labor force has become highly skilled in a very large cross-section of industries. They not only require little or no training, but work well together and readily accept the concepts of teamwork, quality control, lean initiatives and the like. The labor force in Mexico, as well as India, is fluent in English for the vast majority of the skilled workforce. Not so in many of the Asian countries so in addition to the training burden you will have the language barrier to deal with.


The Almighty Dollar

When it comes down to the money there a few things you need to keep in mind. First, how do you get the money out of those countries? It is not an easy task in many locations to take your profits. Depending on the type of business structure, it can be difficult and you can be taxed severely. You will get breaks to reinvest, but thatís not why you went there in the first place. There are certain business structures that will allow you get your money out easily, but there are other consequences that come into play which greatly affect your bottom line.

Secondly, you will need to determine how you will set the exchange rates you use. Typically you will have agreements which set the rate for a specified time period since you donít want to calculate for every transaction. Depending on when your transactions take place and the actual exchange rate at that particular time you can win or lose. You will also need to agree on the currency you will use. Again, the actual rates at the time of your transactions will affect your bottom line.

And letís not forget that in China, the value of the Yuan is not a real value. The Chinese government sets the Yuan where it is the most attractive to outside markets. The time will come when China is forced to set the Yuan at a fair value, and when this happens, many of those lucrative expenses will suddenly become much less attractive.


Intellectual Property


As you probably are already aware, some countries are not opposed to piracy of your intellectual property rights, patents or trade secrets. China is notorious for outright criminal behavior when it comes to usurping your property for their gain. The majority of the government is run on pirated software. China not only turns a blind eye, but actually condones and supports the piracy of foreign property rights.

In China you will be assigned government personnel who will be at your side, in your meetings and monitoring your every move at all times. Because of this there can be no trade secrets. Chinese companies will begin to copy and market your products, under your name, but with significantly less quality. You will be spending a great deal of your time and money defending your image and profits in courts around the world. I have a significant number of close friends whose companies operate in china and I would estimate that nearly 70 percent of them spend a large portion of their time these days traveling to countries across the globe to defend their employers in lawsuits brought about by knockoff products. Although they prevail more often than not, this is an expense that you need to take into consideration. If you believe that this will not happen to you, then I will tell you that you are not ready to do business in China.


Getting Out


Starting a business overseas can take some time, but getting out takes much longer. The World Bank states the time to close a business in Mexico is 1.8 years and the recovery rate is 63 cents on the dollar. In China it takes 2.4 years at 31.5 cents and in India it will take you 10 years to dissolve your business and recover a whopping 13 cents on the dollar. This is something to think about while you are re-investing those dollars overseas.

Off-shoring is not for everyone, and the underlying factors are too numerous to cover them all here, but there is money to be made, especially if your presence there creates access to a new marketplace, just make sure you do your homework. Take the time to perform thorough investigations and comparisons. Talk to people who are operating in the target countries. If you are new to this, get help. Spending time and money up front to get a clear picture of the true costs and risks is well worth the price. Hire an experienced search firm to present you with all the facts and, most importantly, make certain to obtain a competent legal representative in the proposed country who knows the laws, understands the ins and outs of contracts written a foreign language, and will work on your behalf to ensure you are getting what you expect.

Article Source: http://www.ArticlesAlley.com/

© Copyright 2007, James Cavalluzzi

Other Articles by James Cavalluzzi

The author assumes full responsibility for the contents of this article and retains all of its property rights. ManagerWise publishes it here with the permission of the author. ManagerWise assumes no responsibility for the article's contents.

 

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