By BF Editors
From the May / June 2023 Issue
Reshoring is no longer just an idea. Real job growth in the U.S. indicates the trend is upward and sustainable. A recent survey by Kearney Consulting reported that 96% of responding CEOs are considering reshoring their operations, or have already done so.
This reshoring activity has left many companies scrambling to find manufacturing sites in the U.S. and personnel to staff the factories. Today, manufacturing requires skills beyond the simple assembly jobs of the past, and a nationwide skilled labor shortage continues to be a problem.
But even when a company finds a good U.S. location and can hire the personnel it needs, other issues must be addressed including leaving a foreign location to bring manufacturing back home. If you are planning to pack up operations in China and are rethinking your global manufacturing strategy, consider what the consequences will be of leaving your foreign location.
There Is A Lot To Consider
Moving to another low-cost country, nearshoring, or reshoring are real possibilities under consideration by American companies. Manufacturing in multiple countries is the newest, most popular of global strategies and may include manufacturing in the U.S. if you can make the economics work.
The Tax Reform Act of 2017 helped. U.S. manufacturing tax rates are now 21% while the average tax rate for manufacturers around the world is 24%. This has leveled the playing field for American manufacturers in terms of taxes. It’s also easier and less costly to repatriate funds to the U.S., making money available for capital investment—at least that was the intent of the Tax Act. The 301 China penalty tariffs gave a little push to consider manufacturing in America to avoid the now-costly Chinese imports. But the global pandemic made executives acutely aware of their global supply chain risks and vulnerabilities and provided an opportunity to rethink global manufacturing strategies.
But how easy is it to extract your manufacturing from China or end your relationships with suppliers and contract manufacturers in favor of new ones in the U.S.?
Attitudes Have Changed
If you are currently doing business with manufacturers in China, you have probably noticed some changes over the past couple of years. During the “golden years” of manufacturing in China, (approximately 2000-2015), Americans were welcomed and encouraged to do business in the country. Despite communications barriers and sometimes difficult contract negotiations, it was relatively easy and a sound cost-cutting decision to move operations or sourcing to China. But the more recent anti-China rhetoric during the Trump administration and continuing under Biden, and the deteriorating government relationships with China have ignited a parallel change in Chinese attitudes toward Americans.
Behind the scenes, it’s been reported that some Chinese manufacturers were instructed to stop doing business with American customers, particularly in high-tech industries.
Once the penalty tariffs escalated into a trade war, anti-American sentiment began to take root and grow in China. The Chinese government and the Chinese Communist Party (CCP) began to instruct its manufacturers to focus on other customers and markets besides America. Behind the scenes, it’s been reported that some Chinese manufacturers were instructed to stop doing business with American customers, particularly in high-tech industries.
These attitudes further complicate an already difficult process of untangling company supply chains and manufacturing in China.
Leaving A Foreign Location
Companies cannot expect to simply pack up shop, lock the doors, turn out the lights, and move back to the U.S. or another country. It’s more complicated than that.
1. Growth Markets. With nearly 350 million people in China’s middle class and growing, this is likely to be your company’s biggest target market over the next 20 years. The growth rates across all of Asia are expected to be as high as 10-12% over the next few years. As the Asian middle class grows, so does its disposable income and the desire for all kinds of products, particularly those with Western brand names. Even though China’s growth has slowed to 6-7%, it is still astounding compared to most developed nations including the U.S.
To serve these markets, many manufacturers are deciding to leave at least some of their production in Asia. This strategy allows for the avoidance of trade issues that may come in the future and for proximity to Asian customers.
2. Employee Factors. In China, most workers are hired under employment contracts lasting one to two years. If a company closes its factory in China, the expectation is that all employees will be paid until the end of their contracts. This is often a costly surprise to Western companies. Before deciding to leave, companies should carefully check their responsibilities outlined in their employment contracts.
3. Tooling and Molds. Packing up and shipping tools and molds from a Chinese manufacturing site can also be problematic. In the past, Western manufacturers would send machine tools or molds to a Chinese original equipment manufacturer (OEM), or their manufacturing site in the country. These tools and molds, sometimes worth hundreds of thousands of dollars, are needed to produce products.
If a company does not take steps to identify ownership and sign a specific agreement to that effect, including serial numbers positively identifying each item, it may never see the tools and molds again. This is because the Chinese believe that they have been given this equipment and it becomes part of the manufacturer’s infrastructure. Further, the Chinese government may not allow the machines, tooling, and molds to be exported. Your contract, which you thought clearly defined ownership, may not be honored in a Chinese court.
You may find your company competing in global markets with counterfeiters and companies that have registered your trademark in China.
Blueprints and molds that are made in China for your production line are yet other issues to consider. If a Chinese manufacturer has your blueprints and they outsourced the mold-making to a subcontractor, it’s a safe bet that they will continue to produce your goods long after you are gone. The Chinese mold maker is likely to claim ownership of the mold, even though you paid to have it made. The Chinese company may have registered your trademark and logo in without your knowledge. You may find your company competing in global markets with counterfeiters and companies that have registered your trademark in China.
4. Manufacturing Methods and Other Intellectual Property. When a company leaves China, it also leaves behind its manufacturing intellectual property (IP) if the workers there have been taught confidential production methods. We’ve all heard horror stories about IP theft, copying, and counterfeiting in China.
To protect their IP, most Western companies now register their patents and trademarks in China. But production methods and raw materials aren’t always as well-protected. Your company may have taught the Chinese factory how to make your product—methods that factory is likely to continue to use to produce the same product under a different name. In addition, the factory knows all of your raw materials and parts suppliers and potentially could source the same materials from the same suppliers after your company has left.
5. Taxes and Fees. In addition to paying out employment contracts, there may be other financial regulations that must be considered. China’s Commerce Department has issued guidelines for withdrawal from the country by foreign investors. China law requires that foreign investors inform creditors of the closing, settle all outstanding taxes, pay all pending debts, liquidate property, and de-register the business. In addition, companies may be required to pay closure taxes. All this takes time and money and often comes as a surprise to Western companies in the process of reshoring.
Obtaining a permit to leave may be yet another hurdle. Depending on your industry, the Chinese government may not want you to leave the country. High-tech companies, in particular, may be subject to extended exit permit times. Anything that would be considered a strategic industry or strategic technology is likely to experience delays in the permitting process.
What Comes Next?
For 11 consecutive years, the U.S. has ranked as top destination for foreign direct investment. Here’s a look at several hot spots across the nation. Read more…
There is a lot to consider when developing a new global manufacturing strategy. So many companies make the mistake of simply comparing labor costs when determining their reshoring pathway. But there is so much more to a reshoring decision. Microeconomics of each individual company will drive the final decision to reshore or not.
Coates is the Executive Director of the Reshoring Institute and President of Blue Silk Consulting, a global supply chain consulting firm. She is author of five books on global supply chain management including 42 Rules for Sourcing and Manufacturing in China and Legal Blacksmith- How To Avoid and Defend Supply Chain Disputes. She is also an expert witness for legal cases involving global supply chain matters.