On-shoring
It has been our experience that a wage difference of 50% or greater is a benchmark for moving jobs from the developed nations to the developing nations. As the wage difference disappears – a result of more companies competing for scarce human resources in the developing nations – those jobs return to the developed nations if the wage difference drops to only 25%.
Because the cost of the programmers and engineers in some markets has risen to about 75% of those in the North America and Europe, some work outsourced to Bangalore, some design work sent to Italy, and some call centers in the Philippians and Costa Rica are coming back to the United States. In cases where there is value added – the cost difference is less of a factor. Independent of where they are located, groups that add positively to the bottom line are of value.
The jobs are most at risk for poorly run shops where work has been transferred as it was – our mess, your house – with no value added. Here, a cost savings of 25% is not enough do deal with several differences. Those include time, work quality, and, in embarrassingly few cases, the fear of loss of the IPCI.
It is important to note that he focus in off-shoring has been on the “process cost” that includes labor, materials, overhead, and regulation. None of this addresses the cost of origination. What did it cost to originate an idea or a product or a design? How, when you transplant the process to far-off lands will you be able to keep the exclusivity of the origination? In fine, the cost of the loss of the IPCI has not generally been considered.
On a recent radio program, the interviewer was questioning the head of the American Chamber of Commerce in China. The question put was clear and to the point. “How much have the American operations in China been able to make?” The answer was equally clear and to the point. “Nothing – the locals copy designs and manufacturing technique, undercut the original owner, and remove the profit from the market.” If companies followed the SEC mandate to have internal controls in place to track these losses, it would also be interesting to see how that IPCI loss has affected the income statements and balance sheets to those who went to China.
In addition, other costs are frequently overlooked. For example, the opportunity cost of goods that take a month or more to be shipped can sometimes be significant. Another consideration is the future cost of onshoring. We recently heard of a company that moved its IT support entirely to India. Some time after disposing of all their in-house knowledge workers, they were told by their contractor that not enough money was being made, and that their contract was being cancelled. It will be costly for them to build a new department here starting from scratch.
As wages rise abroad we can expect the same scenario in the manufacturing sector. We imagine that re-starting your manufacturing from the ground up, having given your existing plant to the Chinese, will be difficult and costly. The conclusion one must come to is that a company’s senior managers must not only take into consideration the process of cost of manufacturing a product, but also a wide variety of other costs, not least of which is the cost of the loss of the origination and of the value of exclusivity. IPCI is at the core of the value of modern companies. It should be a consideration in making any decision.
