Saturday, 29 October 2011

Supply chain shift and counterfeiting threaten Asia

In the once vibrant fishing port of Lowestoft, England, a small forklift company has changed its procurement model that reflects the start of a logistics trend that could have seismic implications for emerging Far East economies, particularly China. The driving force behind this nascent trend is supply chain fears and unprecedented intellectual property theft.

In a country where nearly all forklift production and sales is foreign owned, Britain was once a leading forklift producer. Today, a handful of niche specialist producers, mainly of articulated forklifts, is almost all that remains. But the Lowestoft company is not yet a specialist producer. Rather, it is selling main stream counterbalanced forklifts and is winning sales overseas. That company, Nexen Lift Truck Technology, took the bold decision to move the production of its X-range of forklifts and its entire R&D programme back from Taiwan to the UK.

The company, says MD, Tim Mason, "had been frustrated by progress at getting its X-range models in production at its Taiwan plant." Curiously, perhaps, it cited one reason as the shortage of a skilled workforce. "To overcome these delays and in response to several component suppliers reluctant to release specialised development items to Taiwan for fear that they may be copied in China we have taken the very big decision to move all our R&D activities to our European head quarters in the UK."

Nexen believes that the move will enable it to expand its forklift range at a significantly faster rate and also meet increased demand from the North American market. But how justified is concern over China's counterfeiting proclivities?

Counterfeiting could hammer China

There is no surprise that an emerging economy like China should avidly take to massive counterfeiting, partly as a quick-fix boost to its burgeoning economy. After all, other countries in their early development days did the same thing, like Japan in the 1950s and subsequently Hong Kong and India. That does not, of course, excuse their behaviour, but the scale of copyright infringement is breathtaking. From only about US$5.5 billion in 1982, the economic value in global counterfeiting had soared to an estimated US$500 billion in 2003. It is the fastest growing criminal enterprise worldwide and China is by far the worst offender.

The theft does not only deprive owners of intellectual property rights of huge revenues. It also means that such perpetrators have a huge advantage in bringing new products to market. Unlike their honest competitors, they can simply copy designs and so avoid huge sums invested in research and development. This subtle "pick off", as the scam is called, is a form of intellectual property theft that occurs at the high end of counterfeit sophistication and so poses a significant risk to established manufacturers. Is it any wonder, then, that copiers are able to offer cars, for example, under another brand name, at a fraction of the cost of the genuine article.

To their credit, the Chinese government has moved to remedy the situation through legislation and destruction of pirated goods but corrupt local officials fail to enforce the new laws. Aggrieved, genuine product producers, therefore, cannot expect any resolution some time soon. Only last year it was claimed that in China 78% of all software sold was pirated, according to the Business Software Alliance's 2011 Global Piracy Report. The global average rate is only 42%.

The extent of counterfeiting is far from confined to the end products, like autos and consumer electronics. There are now hundreds of foreign auto parts suppliers in China, for example, and this movement of the auto supply chain to China means intellectual property piracy is not only a risk facing other OEMs but also the supply base. Nexen's component suppliers to Taiwan, therefore, have every reason to be fearful.

Mini renaissance for UK manufacturers?

The concerns over copyright infringement, however, are now being augmented by bigger concerns over stretched supply chains becoming ever-more costly and unreliable. Labour rates in those Far East countries are rising fast, along with commodity prices. In Britain, a weak pound is adding to cost pressures. Consequently, UK retailers are sourcing more locally in Britain. One of Britain's biggest home shopping companies, N Brown, has more than doubled its base of UK suppliers, which boosted a handful of small textile manufacturers in Leicester and Manchester, though the company still sources less than 5% of its textiles from the UK. But according to a recent survey by the Economist Intelligence Unit, more than half of UK manufacturers expect to increase domestic sourcing over the next few years.

The attraction of overseas sourcing has always been low cost, which outweighed irritants like unreliable delivery, long supply chains and often unpredictable quality. But the recession has highlighted the risks of a complex global supplier network and long lead times. One UK company, for example, had a warehouse full of aluminium castings from an emerging markets supplier, for which the group had no orders. Renegotiating the contract proved impossible.

Businesses are now becoming more aware of the risks and volatility involved in a geographically large supply chain. There are signs that mid-ranged parts supply from the east are now shifting back to the UK supply sources, especially for products where labour accounts for a relatively low proportion of the total costs.

There is one risk, however, that took an earthquake and tsunami to bring home to the world the folly of JIT supply chains originating in natural calamity-prone regions. As a principle, there is nothing wrong with JIT supply and production provided certain ground rules are rigorously obeyed. One of those rules is to avoid putting all one's supply chain eggs in one basket. Japan was and remains a choke point for around 100 products essential the the electronics and auto industries. The destruction wrought by the earthquake and tsunami last March cost the global economy billions of pounds in lost production, and still continues, as JIT components quickly dried up and could not be supplied from elsewhere. Guangdong province in China is another serious choke point for many electronic products, in particular, and rare earths elsewhere. Thailand is yet another example of a hostage to nature. The continuing flooding there, the worst in 50 years, is the latest example of how nature's fury can disrupt a too tightly stretched global supply chain. Computer prices are set to rise because Thailand is home to about a quarter of the global hard drive assembly facilities. But other industries, like cars and cameras, are also seriously disrupted.

These regions will continue to be exposed to the inevitable natural calamities to come so western manufacturers must secure several other supply sources, preferably insulated from natural calamities, even if, initially, that raises procurement costs.

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