Make Phase I of the U.S.-China Trade Agreement an Opportunity for FDI and Reshoring
By Harry Moser
The Phase I U.S.-China trade agreement gives companies some breathing room to optimize and implement long-term sourcing and siting plans. The agreement prevented a Dec. 15, 2019, Section 301 tariff of 15 percent on $160 billion in Chinese goods from being imposed, and reduced tariffs on $120 billion in Chinese goods from 15 to 7.5 percent. An additional $250 billion in Chinese goods still are subject to 25 percent tariffs. Most observers don’t expect a Phase II agreement until after the November 2020 elections; they also don’t expect new tariffs in 2020. So instead of rushing out of China to Vietnam, Cambodia, or India, each with its own problems, use this year to optimize sources, including reevaluating the United States. For decades American companies followed each other offshore in pursuit of cheap labor and then imported products to sell in the U.S. market. But today’s supply chain and site selection decisions have become more complex. Rising Chinese wages, low U.S. energy costs, intellectual property concerns, advancements in technology and automation, and the ongoing trade dispute with China have been influencing companies to reevaluate their sourcing and siting decisions. About 25 percent of what is being sourced or produced offshore for American consumption would be more profitable if reshored, even without Trump’s tariffs. With 15 percent tariffs, about 48 percent of products imported from China would be more profitably sourced at home. In view of tariff uncertainty and a general plateauing of global trade, this is an excellent time for U.S. companies to reshore. A record number of companies return The number of U.S. companies reporting new reshoring and foreign direct investment (FDI) in 2018 was at its highest level in history at 1,389 companies, up 38 percent from 2017, resulting in the addition of more than 145,000 U.S. jobs. Knowing what drives reshoring and FDI can help companies identify siting solutions that overcome the problems experienced offshore. Reasons cited for reshoring and FDI The reshoring trend has been bolstered by companies becoming familiar with a broader range of previously ignored costs and risks. Understanding the reasons other companies have decided to reshore helps firms determine whether they should as well. Data from the Reshoring Initiative, collected from thousands of companies across the United States from 2007 to 2018, finds quality, rework, and warranty to be the number one area of dissatisfaction with offshore sourcing, about two-thirds higher than the number two area of dissatisfaction, freight cost. The number three area of discontent is total costs—an aggregation of all relevant costs and risks—which is consistent with previous conclusions from the Reshoring Initiative library and total cost of ownership (TCO) user databases. Changing conditions favor reshoring According to research by the World Bank, the adoption of new technologies such as the Internet of Things (IoT), 3D printing, and smart factories is transforming the manufacturing process and fueling domestic manufacturing and sourcing. As labor begins to represent a smaller share of total costs, companies that once offshored to take advantage of cheaper labor are beginning to favor close proximity to the markets they serve. Apple used a windfall from the 2017 tax cuts to create a blueprint for $30 billion in U.S. capital spending that is expected to create more than 20,000 U.S. jobs in five years. The investment includes a new campus, $10 billion toward nationwide data centers, and an expansion from $1 billion to $5 billion in investment for advanced U.S. manufacturing. Toyota and Mazda established a new joint venture company, Mazda Toyota Manufacturing, U.S.A. The $1.6 billion investment for a new auto plant in Huntsville, Ala., is expected to create 4,000 jobs. Proximity to the U.S. market and higher productivity were the factors that made a U.S. location attractive. An $850 million incentive package secured the much sought-after plant for the state. The value of TCO in site selection Most companies use oversimplified methods for deciding where to make or buy components and products. For example, they decide based solely on the factory price, or at most they add in freight and duty, often resulting in a 15 to 30 percent understatement of offshoring costs. The TCO Estimator, a free online tool, guides companies through a comprehensive system for recognizing and quantifying all costs associated with offshoring and reshoring. TCO analysis helps companies objectively quantify, forecast, and minimize total cost. It takes into account freight and duty; travel expense and time; inventory carrying cost; warranty; intellectual property risk; impact on product innovation from having manufacturing distant from engineering; losses from stock-outs due to long delivery times; and the value of a Made in USA label. Surveys suggest that as many as 30 to 40 percent of consumers are willing to pay a premium of 10 percent or more for Made in USA products. Making the trade war a local opportunity The Reshoring Initiative’s Import Substitution Program (ISP) and Supply Chain Gap Program create opportunities for U.S. companies to compete against imported products. The ISP is designed to enable companies, industry associations, equipment suppliers, and economic developers to cooperate on prioritizing domestic production over imports. ISP identifies and characterizes major relevant importers and can help convince companies to reshore using TCO as a sales tool. The Supply Chain Gap Program identifies products with high national and regional imports and zero domestic sources. As part of the ISP, offshore suppliers are identified and targeted for FDI. ISP finds the best opportunities for reshoring, and the Supply Chain Gap Program identifies opportunities for local or foreign companies to become the dominant or only U.S. source in a significant market niche. Localization strengthens as global trade plateaus China is the source of 20 percent of U.S. imports and 59 percent of reshoring. Globalization is slowing as a result of digitization and higher offshore labor costs. International trade costs are increasing due to lengthy supply chains, tariffs, trade barriers, and environmental initiatives. Reshoring Initiative data shows that in 2018 and 2019, approximately 30 companies brought production back to the United States due to tariffs, creating about 3,800 jobs. As work flows out of China, companies that choose to relocate to Southeast Asia are likely to find a less robust industrial infrastructure and rapid wage inflation due to a smaller workforce. They will likely exceed capacity in a few years and be forced to shift work to India and then Africa. In many cases, it would be more profitable and sustainable to return to the United States now. Selecting the best manufacturing location to serve the U.S. market As companies adopt a more comprehensive total cost analysis, they are finding that the hidden costs of offshoring often cancel out savings from cheap labor abroad. Careful examination of total costs can lead to new opportunities in sourcing. We call on EDOs to help local companies use TCO to see if reshoring makes sense for them. Recommended reading includes How to select the best manufacturing location to serve the U.S. market. Harry Moser is founder of the Reshoring Initiative and can be reached at info@reshorenow.org or 847-867-1144. - - -