For almost two decades, China has been known as the “World’s Factory” largely because of its abundant low-cost labor. Today, China is sharing this spotlight with its neighbors in Southeast Asia, as more than 50 multinational companies have started moving parts of their operations from China into Southeast Asia, because of China’s rising labor cost and trade dispute with the US.
The rumors are true: “Made in China” is not so cost effective anymore. Since 2000, Chinese manufacturing labor costs have been growing by an average of 16% annually (vs 3% of that of the US). Nowadays, the average total labor cost in China is roughly more than double than that of most Southeast Asian countries.
The rising labor cost in China is a reflection of its economy having gone up the value chain from mass manufacturing. In effect, more and more labor-intensive productions have moved out of major Chinese cities into more cost-effective less developed areas in China (Center and Western part of the country) and in nearby countries in Southeast Asia: Cambodia, Laos and Vietnam.
Since the trade war between the US and China erupted nearly two years ago, the US has already slapped tariffs on nearly all Chinese goods. Together with the rising labor cost in China, the US-China trade war has put uncertainty and loss of confidence on China’s status as the “World’s Factory”. According to the Japanese business publication Nikkei Asian Review, around 50 global companies have already announced or are considering plans to move (parts of their) production activities from China.
The big question then for companies migrating out of China is: where to go next? Most of the companies that have shifted production capacity out of China have set their eyes on the ASEAN region (The ASEAN or Association of Southeast Asian Nations is composed of Indonesia, the Philippines, Vietnam, Thailand, Myanmar, Malaysia, Cambodia, Laos, Singapore and Brunei.). According to a survey conducted by the American Chamber in China on its member companies operating in China, majority of companies are considering to partially relocate to Southeast Asia.
Of the 250 respondents surveyed: 25% are heading to Southeast Asia, while 11% are going to Mexico, 8% to Indian subcontinent, 6% to the US, 4% to East Asia and 4% to Europe.
There are several factors that lure investors to operate in the ASEAN region:
1. Leaving China without completely leaving China
One of the key elements of Chinese manufacturing is the localization of supply chain. In China, suppliers are close to each other and therefore are able to be quicker, less expensive and more efficient. This is bad news for companies leaving China, because the extensive interconnected supplier base in China is making the process of moving production out of China costly and time consuming. For this reason, Southeast Asia, particularly Vietnam, has the location advantage due to its proximity to China. As an illustration, according to Lim Kian Peng, deputy general manager at Overland Total Logistics Company, a leading logistics company in the ASEAN region: “if the goods are dispatched at 6pm on a Monday from Dongguan (China), they can arrive at the border of China and Vietnam at 9am on Tuesday, at the industrial park in northern Vietnam at 10pm the same evening, at the industrial park in Bangkok on Thursday, and in Northern Malaysia on Friday…”
Accessing China’s supplier base from the ASEAN region has become even less costly and more efficient when the ASEAN and China signed a free trade agreement (ACFTA). Manufacturers in the ASEAN region can now obtain in many cases required materials and components from China without the additional tariffs and behind-the-border barriers that impede the flow of goods between the two.
2. Total labor cost that is half of that of China
China’s large pool of labor is undeniably not cheap anymore. In the Philippines and Vietnam, companies pay only one-third to one-half the minimum wage in Guangdong for blue collar workers. Meanwhile, for more skilled workforce, such as the mid-tech workforce, it is 60% less costly in Thailand and Malaysia than in China.
3. Relatively lower tariffs and lower risk of trade wars
Most of the major economies in the world have executed free trade agreements (FTAs) or have bilateral trade agreements with ASEAN member countries. Apart from having free trade agreements among its ten member countries, the ASEAN region also has FTAs with China, Japan, South Korea, India, Australia and New Zealand. Furthermore, in a landmark free trade deal this year, the European Union and Vietnam have slashed tariffs on 99% of goods between them. As the ASEAN region starts to open its borders, companies can expect more business friendly trade agreements coming up.
4. Perfect location to serve half of the world's population
The ASEAN region is centrally located to serve 19 countries with 3.8 billion people—this is half of the world’s population. The ASEAN itself is home to 650 million consumers, which is larger than either the EU or the US-Mexico-Canada combined. Furthermore, China, which has over 1.3 billion people is now more accessible from the ASEAN region, with the recent infrastructural developments in the region. In fact two years from now, a high-speed rail link connecting Bangkok (Thailand), Vientiane (Laos) and Kunming (China) will be up and running.
Certainly, challenges still loom for companies that have moved or planning to move to Southeast Asia from China. In view of this, most companies relocated only some—and not all—of their operations in China into Southeast Asia.
Compared to China, most countries in Southeast Asia still lag behind in terms of: the presence of a massive domestic market and scale akin to China, availability of skilled labor, access to an extensive network of suppliers, and highly developed logistics infrastructure.
1. China is a big and complex market that demands a China-for-China strategy
Companies are still keeping operations in China to serve the Chinese market, primarily because the Chinese consumer market is just too big for companies to ignore (a population four times the size of the US). And because of its sheer size, China is indisputably a complex market to deal with. China may at first seem as a uniform and homogenous market, but the truth is that it is not: the 26 provinces of China display huge variations in terms of income levels, unemployment rates, languages, consumer spending habits, lifestyle, literacy rates, etc. Therefore, for companies to efficiently and successfully thrive in China, they have to be there on the ground—in China.
2. Availability of skilled labor
ASEAN’s 647 million population still pales in comparison with China’s 1.3 billion population, and that is already taking ASEAN as a whole (10 countries). What makes the matters worse is that majority of companies that have moved out their operations from China into Southeast Asia flock only to Vietnam, which alone has just over 95 million people. According to a study conducted by JP Morgan, majority of the firms that decided to leave China for Southeast Asia mentioned Vietnam the most (47% of the respondents), followed by the Philippines, Indonesia and Cambodia (with 8% each). Thus, it will not be uncommon to hear companies that have moved out of China and set-up in Vietnam to feel the labor pressure, especially for skilled workforce. For example, Japanese furniture maker Muji experienced production delays for six months due to labor shortages in Vietnam this year.
In terms of talent, the labor pool of the ASEAN region is not as experienced and diversified as that of China today. As the Operations Director of Omnidex Group, supplier for industrial equipment manufacturer McLanahan Corp. explains: “China has a 15-year head start—whatever you want, someone’s doing it…” Unlike in China, companies (especially tech companies) will still have to train workers in most of the countries in the ASEAN region.
3. Access to an extensive network of suppliers
At this point, the ASEAN region still lacks the presence of specialized supply chains that could satisfy global safety requirements and the access to capital-intensive machineries—all of which China is proud to say it has. For example, in Canon’s network of 175 suppliers in Vietnam, only 20 of them are Vietnamese companies. Most of these suppliers are from China, Japan and Taiwan. Another example is Electrical tools company ECM Industries. The company had trouble in procuring multimeters, which measure voltage, in Vietnam where they relocated, so much so that they had to develop a cross-border supply chain between China and Vietnam from scratch.
4. Highly developed logistics infrastructure
With the exception of Singapore and Malaysia, the other 8 member countries still lag behind China, in terms of the quality and capacity of seaport infrastructure, which is an important determinant of business growth opportunities. Vietnam is already feeling the logistics pressure, as its ports struggle to cater to the needs of the wave of companies migrating from China. For example, Tapestry, the owner of the Coach and Kate Spade brands, said that some of their containers got stalled on the waters of Vietnam, because of port congestion.
With a robust China+ASEAN Strategy, many companies are able to cope with the challenge of diversifying their manufacturing locations in Asia to overcome the effects of the rising labor cost in China and the escalating US-China trade war.
For now, it is unlikely that companies can easily abandon operating in China altogether. It will take some years before the ASEAN region can catch-up with China in terms of availability of skilled labor, access to an extensive network of suppliers and highly developed logistics infrastructure.
Manufacturers in China looking to reduce the troubles caused by the rising labor wages in China and the escalating US-China trade war should consider employing a “China+ASEAN” strategy to serve the rest of the world, and not just rely on China alone—because there is more to Asia than just China.
Last but not the least, companies should consider diversifying in the ASEAN region beyond the popular Vietnam, by including other low-cost locations, such as: the Philippines, Cambodia and Indonesia—because there is more to Southeast Asia than Vietnam.
As the world adjusts to a shifting geopolitical landscape, so should you. This is the right time to check whether or not your manufacturing footprint is still future-proof by making sure that you are operating in in a location that is both cost effective, has a good quality of business environment and offers low risk to business not only today but also in the near future. BCI Global can help you with this.
To know more how exactly BCI Global can help make your business future-proof, please do not hesitate to connect with one of our experts below in the Global Site Selection and Location Strategy.
For more information about this article contact Jeremiah Abesamis, Consultant BCI Global via jeremiah.abesamis@bciglobal.com or call +31 24 3790222.
