Total Cost of Ownership, geopolitical instability, extreme weather conditions, and post-pandemic supply chain disruptions are some of the key considerations that are impacting supply chain strategy and driving offshoring & reshoring decisions for many companies.
In this two-part post, we are going to explore why Offshoring became popular and why for some companies reshoring or diversifying the supply chain is now a key business strategy.
In this installment, we focus on why companies moved their production and supply chains offshore and what started companies in 2007 to start thinking about reshoring. In part 2, we will discuss the recent rise in the reshoring movement and the factors and events driving executive decisions today.
Why Manufacturing Companies Started to Offshore Their Operations
Over the last few decades manufacturing in the US and UK has gone through a difficult time competing with China and other low-cost countries. Offshoring become a popular strategy for many companies looking to reduce costs and increase profits. The decision to offshore is often driven by factors such as lower labor costs, access to new markets, the rise of globalization, the growing complexity of manufacturing processes, and the availability of skilled labor. However, offshoring also came with its share of drawbacks, such as increased transportation costs, quality control issues, the loss of jobs, and the erosion of skills in the home country.
Countries such as China accelerated their prominence in manufacturing through significant investment in education and training, producing a large pool of skilled workers in technology and manufacturing. This program of investment paid off with companies in the US, UK, and Europe, selecting China as a popular destination for offshoring due to its large workforce and low labor costs.
By relocating production to countries with lower labor costs, companies were able to reduce their production overhead costs. When deciding to offshore, companies have typically focused on Ex Works or Landed Cost. However, this justification ignores the costs and risks that are associated with longer supply chain lead times; these being decreased responsiveness to customer orders, less flexibility, and the associated higher inventory holding.
The move to offshore to China was not without its challenges. One of the main early challenges was the language barrier. English was not widely spoken in China, and communication was difficult which led to misunderstandings and delays in production. Additionally, the Chinese business culture was very different from that of the US and Europe, which could lead to cultural clashes and difficulties in building relationships with Chinese suppliers and partners.
Another early challenge of offshoring to China was the quality of the products being produced. While China has made significant strides in improving the quality of its products, there were some concerns about the reliability and safety of Chinese-made products. This was particularly problematic for companies in industries such as healthcare or aerospace, where product quality is of the utmost importance.
Despite the early challenges, offshoring to China was still a viable option for companies looking to reduce their costs. For those companies that made the move to offshore, those that had solid plans in place to address the challenges were successful as they navigated the complexities of offshoring and reaped the benefits of lower costs and increased profits.
Why Manufacturing Companies Started to Reshore
Reshoring started to gain some popularity around 2007 with many companies attempting to bring production back to their home countries. Reshoring initiatives were being driven by factors such as rising labor costs in the offshore location, the increasing importance of quality and innovation or the desire to reduce supply chain risks, such as inventory exposure and delivery risks.
One of the primary factors that drove companies to reshore, or to think about reshoring, was the consideration of the Total Cost of Ownership (TCO). TCO looks beyond the product unit cost to consider all expenses related to production – from labor and logistics costs to tariffs, duties, and inventory holding expenses.
For companies that manufacture and source offshore, long supply chain lead times result in substantially higher inventory holding costs compared to domestic production. In addition, under or over-ordering of products can lead to shortages and obsolescence costs. Taking a more comprehensive approach to evaluating the true costs and benefits of offshoring, companies can make informed decisions that consider all factors, leading to more sustainable and profitable operations.
Once offshored, companies had to stock larger quantities of inventory to cover the expected levels of demand during the longer supply lead time period to replenish finished goods inventory. To reduce the overall unit piece price further some companies would order even larger quantities to reduce order frequency and the cost of logistics. Longer lead times and larger order quantities leads to increased inventory holding costs, including storage, handling, insurance, and obsolescence. Furthermore, if demand for the product decreases or changes, the company is more likely to be left with a surplus of inventory that cannot be sold, resulting in further costs. Moreover, higher inventory holdings tie up a company’s working capital and limit its ability to invest in other areas of the business, such as research and development, marketing, or training.
Longer lead times not only affect a company’s inventory levels but also its ability to adapt quickly to changes in demand and the competitive market risking stockouts and lost sales. There are further risks created by quality issues or defects in the products, such as shortages, returns, and cost of repair or replacement.
Various studies highlighted by the Reshoring Initiative show ignored costs, or as they describe “Hidden Costs,” account for an average 20% difference between the offshore Ex Works price and TCO
While manufacturing in the home country might result in a lower Total Cost of Ownership, it comes with its own set of challenges. Labor costs in the US, UK, and Europe tend to be higher than in offshore locations like China, making it difficult for companies to compete on price alone and still maintain their margins.
As companies considered reshoring, one of the biggest challenges they faced was the shortage of skilled labor in their home country. Decades of have resulted in a scarcity of qualified workers, making it increasingly difficult for organizations to find the talent they need to sustain their operations.
Reshoring was further complicated by the high costs of relocating production back to the home country. Companies may need to invest in new equipment and technology, retrain workers, and make other significant changes to their operations to bring production back onshore. This start-up investment coupled with decades of skill erosion and the lack of domestic supply chain ecosystems, many companies found it a lot more challenging to pull out of China than they were initially prepared for.
The limited interest and speed of reshoring in the past have been slow. Dan Gilmore at Supply Chain Digest observed that a JC Penney supply chain executive had commented that reshoring was a trickle compared to the tsunami that took place when offshoring gained its popularity.
In part 2, we continue to discuss reshoring and its recent rise in popularity along with the factors and events driving executive decisions today.
Demand Driven Supply Chain Solutions
Wherever you manufacture, High Impact Coaching & Strategies can help you to reduce your Cost of Goods Sold by up to 23%, increase productivity by up to 69%, reduce manufacturing lead times by up to 90%, and increase capacity by up to 66%. By ALIGNING manufacturing and the supply chain to customer demand, promoting AGILITY to meet customer demand volatility, and ADAPTING capability as change takes place, we deliver exceptional results for our clients worldwide.
We provide our customers around the world with solutions that create synchronization and balance through the entire supply chain creating a competitive advantage in their marketplace. Demand Driven supply chains drive operational capabilities generating sustainable bottom-line benefits.
In the factory, Demand Driven Flow Technology focuses on the design and operation of the manufacturing flow. It is a comprehensive mathematical-based methodology that balances resource capability to actual, or planned demand, enabling a company to improve response capability to customer orders, reducing lead time, working capital, and Cost of Goods while improving productivity and overall customer satisfaction. DDFT is the framework that enables manufacturing to be adaptive to daily changes in the required mix and actual demand.
Demand Driven supply chains focus on the optimization of strategically positioned inventory that absorbs demand volatility and supply variation we see in the bullwhip creating stability in supply downstream and demand creation upstream. Dynamic and statistically designed inventory levels based on current market conditions and will reduce overall inventory across the entire supply chain while improving customer service levels and response capability. By being able to quickly adapt to changes in customer preferences or market conditions, Demand Driven companies can improve their customer satisfaction and increase their market share.
For further information or to inquire how you can implement Demand Driven Supply Chains please email us at info@highimpactcs.com or send a message via our contact page.
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Talk to us today to learn more about how we can help your organization become Demand Driven through the adoption of our Demand Driven methodologies, DDMRP and Demand Driven Flow Technology.
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