In previous commentaries penned on Supply Chain Matters, I have noted the implications of increased labor activism and subsequent raising wage rates within mainland China. Even last week, the financial news media continued noting incidents of new work stoppages occurring within China’s automotive plants, now involving Japanese brand Toyota as well as Honda.  Much financial media and blogosphere commentary revolves around the recent decision from the government of China allowing the Chinese yuan to “tolerate a gradual appreciation” within currency markets.  The combination of these two significant developments has caused some to declare that the era of cheap manufacturing in China is coming to an end.

My view is that it is too early to be making such broad reaching statements, or more importantly, significantly altering supply chain strategy.  Both developments, in my view, are driven by pragmatic business and political considerations.  The raised labor activism and consequent wage hikes are driven by the reality that workers within China’s major Pearl and Yangtze River coastal manufacturing regions are becoming more frustrated with their economic plight, and the government of China, thus far, is de-facto not interfering with this new wave of labor activism. Foxconn, China’s largest manufacturing employer’s recent announcement of doubling base pay for employees was the benchmark event that has led to more demands for wage increases in other industries.  The real question, however, is when or if these increases will be passed on to major manufacturing-driven customers.

The long awaited government decision to allow the Chinese currency to appreciate against major currencies such as the U.S. dollar was a political decision, timed to come out just prior to this weekend’s G-20 Economic summit meeting.  Many long-time political observers have noted that the word “gradual” is the operative word, and note China’s senior economic leaders have managed to allow the yuan to appreciate no more than a certain percentage in any given year, and that will most likely continue.

More important to the currency decision is the potential that foreign imports, such as consumer electronics, could become more attractive within China’s huge market. Additionally, as noted, the very goods that U.S. and Europe based firms manufacture in China might now become more affordable for China’s evolving middle class consumers.

Thus, in supply chain strategy context, both developments should be evaluated in the primary context of future product demand within China’s internal market, and secondarily, any impact that may come in the overall cost of manufacturing.  A recent Financial Times article (free preview account may be required) makes the observation that the increased pay raises will only accelerate a move of manufacturing from the coastal region to other interior regions.  For instance, Chongqing is becoming the new base for the electronics industry.  Foxconn is reported to be in talks with the local government in Zhengzhou, the capital of Henan province, to build its next mega-plant in that region.  If other component suppliers continue to shift their manufacturing to the interior regions, than a new manufacturing hub will be created.

My advice to manufacturers is to continue to monitor developments, but also differentiate supply chain strategy within China on the basis of first supporting China’s internal market potential, and second, as a hub of competitive manufacturing cost.  It’s apparent that China’s desire to be a world leader in more high technology areas such as autos, electronics, information technology and alternative energy manufacturing will continue, and a more pronounced shift within manufacturing toward the interior regions will occur.

As always, the notions of manufacturing cost are a tradeoff of direct labor vs. material cost.  The combined occurrence of increased labor activism and a floating Chinese currency should be viewed on long-term impact to material cost.

What’s your view?

Bob Ferrari

In a recent Kinaxis Supply Chain Expert Community posting, (free sign-up required) I made the observation that perhaps the endless success of Apple’s various products portends broader problems.  Apple’s outsourced supply chain has been long admired, but one has to wonder how much Apple’s executives and marketing teams want to put Apple’s value-chain to the ultimate test. 

On the heels of the very successfully hyped iPad product launch, where worldwide orders remain in various forms of backlog, Apple is now in the midst of a highly oversubsribed pre-launch of the new iPhone4 due later this month.  The company and its wireless carrier, AT&T, booked more than 600,000 pre-orders on June 15 alone, causing a suspension of sales because of the sheer volume of activity.  The number is the largest Apple has taken in a single day, ten times higher than the previous iPhone3 launch last year, causing a sellout of all designated product allocation. 

Adding insult to injury, partner AT&T experienced two embarrassing order entry failures, with some consumers placed in other people’s customer data. The company also had a recent embarrassing security breach exposing email addresses of pre-order iPad customers, including some very high profile individuals.  Both Apple and AT&T have felt compelled to apologize to consumers for this series of events. AT&T reported that its web site had in excess of 13 million visits on June 14 by consumers making inquiries as to whether their existing iPhone was eligible for upgrade to the new model.

Let’s attempt to put all of this activity into a supply chain capability perspective.  First, one would suppose that most of you reading this would be thrilled to have your firm’s products experiencing such an overwhelming consumer response as the cult of Apple consumers line-up to be the first to have the latest and greatest device.  Give credit where credit is due, Apple’s design and product marketing teams have the uncanny ability to come up with innovative products that fuel such demand.  However, as I noted previously, the pressure to execute again passes to Apple’s extended supply chain community.

With two products now under everyone’s looking glass, the news of each of the subsequent snafus spread fast through social media outlets.  Apple’s supply chain planners have to be under enormous pressure as they continue to scramble to align supply and fulfillment with consumer demands. Prime contract manufacturer Hon Hai Precision (Foxcon) just recently granted new wage concessions to stem the tide of worker suicides, and the pressures for production volume will certainly continue through the coming weeks. As we all know, increased production demands will surely cascade to component suppliers who may have to face difficult capacity and  workforce decisions. As previously noted, wireless partner AT&T is struggling to take orders, let alone add more subscribers to an already taxed carrier network.

In past commentary, I posed the question: Has Apple introduced too much increased risk in too few value-chain partners? 

I believe Apple has, and I predict more snafus to come.  The signs are unmistakable, and the pressures are building. Good process and the best technology can only take you so far. The rest comes down to the combined supply chain capability of partners. In the coming weeks Apple will have to demonstrate what being number one really means.

 Bob Ferrari

A recent and timely Wall Street Journal article. Recalculating the Cost of Big Layoffs, (subscription may be required) notes that some companies have learned some important competitive lessons from cutting too deep in previous economic downturns. It specifically cites Honeywell International, which in the last decade laid off one-fourth of its workforce (about 31,000 employees) and later suffered what its current CEO described as the effects of a “decimated industrial base”.  During this recent recession, Honeywell took a far different tack by limiting layoffs to 6000 people, about 5% of its workforce.  With the economy improving, Honeywell is better positioned. It has already introduced 600 new products and raised its forecasts for sales and profits for the remainder of the year.  The article goes on to cite business academics who point out that those companies that cut the deepest can suffer the after-effects long after the business recovery cycle improves, in some cases, eroding their competitive standing in their respective industries.

After reading many articles over the years that point out how certain companies become too zealous in the need to preserve profits in times of severe business conditions, I continue to believe that this same effect may well play itself out in crippled supply chains.  As many Supply Chain Matters readers know, the number one business goal for the past 18 or so months has been reducing overall supply chain costs across the board.  I would venture a guess that senior supply chain managers have spent more time interacting with their CFO’s, suppliers and airline employees  rather than their spouses and families. While most have done an extraordinary job of helping to reduce material, overhead and other costs, my gut tells me that there are some companies that may well have cut too deep.  Now, as the first signs of an upturn in business begin to present themselves in certain industries (review our Q1 snapshot series), corporate senior managers now speak of growing top-line revenues and seizing the momentum.  The problem is that many will have too few resources, capacity and inventory to be able to outwit the competition, or will not have a foundation of building in agility into their supply chain structures..

You may agree or disagree with my observation, but the real test will come in the months ahead.  For our part, Supply Chain Matters will be keeping a keen eye out for examples of companies like Honeywell who have done their homework well and limited cuts to surgical areas vs. wholesale cuts to insure the bottom line numbers look good or to preserve cash for that next acquisition.

Financial engineering has its benefits, but also has many critical tradeoffs.  Like an agile surfer on a Hawaiian beach, the test is about to unfold as companies try to catch the next “big wave”.

Bob Ferrari

As a follow-up to my attendance at the recent Sterling Commerce Customer Connection 2010, I had the opportunity to provide a more detailed overview of my impressions and conversations held at the conference, particularly in the perspective of the current state of global supply chains.

You are welcomed to view this commentary in my guest posting on the Infosys Supply Chain Management Blog.

Bob Ferrari

This past week brought out a series of counter salvos in an apparent price war that broke out between Amazon.com and Wal-Mart.com.  A posting appearing in SiliconValley.com summarizes the week’s events, noting how both outlets are now offering a select group of ten upcoming book titles for under $10.  These events are being characterized as the first salvo in positioning the predominant holiday book sales online shopping destination.

With the opening salvo’s positioning of these books at below publisher cost, this could be a very harmful “game of chicken”. All of this is also on the heels of stepped efforts by Amazon, Google, Sony and others to position e-book readers and content as attractive gifts for the upcoming holiday season.

I’m going to offer my own supply chain management and sales channel disruption perspectives, specifically, how I would handicap the potential winners and losers after the first initial salvos. 

If this was a horse race, and I was the handicapper, I would tend to favor Amazon with the highest odds for winning endurance.  The reasons come down to proven capabilities in online commerce, order fulfillment and supply chain infrastructure capabilities.  More evidence of that fact came later in the week with Amazon’s announcement that it would offer select same-day shipment delivery services for select cities.

Amazon continues to navigate itself through good economic times and bad, with an ability to adapt its online commerce business model to the current needs of the market. In the latest June quarter, Amazon reported a 14% increase in net sales and a free cash flow increase of 89%, to $1.54 billion.  While operating income declined 27%, the company is still profitable, which is a condition that many large-scale retailers cannot match. 

One could also certainly argue that Wal-Mart has been just as successful in overall financial terms.  There is, however, one very important difference, which reflects more on the core competency of each company’s supply chain network.  Amazon’s network has been designed and tuned to support nothing but online commerce.  Wal-Mart, on the other hand, may be in a situation where marketing strategy has not been grounded in current supply chain capability.  We all know and admire Wal-Mart’s supply chain prowness in supporting a brick-and mortar retail network. Not many companies have proven success in their ability to pull-off a high volume sales fulfillment business model for both brick and mortar and online commerce.

What about the potential casualties of this type of war?  Industry observers point to book authors as the targets of collateral damage.  I agree.  Add existing book retailers to the collateral damage list as well.  Retailers such as troubled Barnes and Noble, or Borders can ill afford to face an upcoming holiday season with customers expecting aggressive discounting or endless bargains. 

The real victims of this book price war are going to be the bystanders, namely the classic book retailers and longer-term, the individual authors. That is the real tragedy of this affair.  Wal-Mart gets to boast, Amazon reaps the benefit, and yet another set of victims succumb to the perils of win-lose marketing destruction.

Bob Ferrari