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(originally published by Booz & Company)


Designing the Factory Footprint for Competitive Advantage

Make-versus-buy decisions need to answer the following questions:

  • What critical core capabilities do we want to keep in-house because they drive real differentiation in the product or the service level offered to our customers?
  • Which alternative, make or buy, produces the lowest total cost?
  • Which has the lowest supply risk?
  • How attractive is this business to us? How much capital do we have to invest in it to maintain these processes in-house?

• Develop the business case. The final step is to lay out required activities and financial impact over time in a detailed business case and migration plan. This plan should highlight organizational changes and define roles and skill sets of team members and key stakeholders. It should explicitly address such risks as supply interruption, political change, transportation delays, currency movements, etc. If, for example, Chinese authorities decide to float the yuan, the effect on the economics of Chinese manufacturing will be profound.

Finally, it is important to periodically monitor the manufacturing footprint, reevaluate network scenarios, coordinate research to identify changes and updates to relevant information, and develop business cases for adjustments to the global network.

Minimizing Risk
Manufacturing network design can improve a company’s cost structure even more than best manufacturing practices, but there are associated risks. There are ample opportunities to make costly mistakes when managing a network transition and putting in place global production and capacity planning. One of the most common mistakes is to ignore the broader strategic context. Supply networks have a lot of moving parts. Labor rates, productivity, product design, process technology, and raw material costs are only a few of them. Companies with cost-reduction tunnel vision have put at risk intellectual property and proprietary information worth many times the savings possible from reduction of production costs.

Any network redesign must take into account the stability of demand and the speed of technological change. Production economies that come only at the cost of long lead times are not worth the cost in fast-moving technology markets. Some telecommunications companies learned this lesson the hard way. Their long supply chains could not respond efficiently to a market slowdown. As a result, inventory swelled. Meanwhile, R&D moved technology ahead. When the market recovered, their inventory was obsolete.

Developing a manufacturing organization with a network in an emerging country is a challenge. Risks include local currency exposure, political issues, and variations in local taxes and penalties. Moreover, countries are developing so fast that some networks that made excellent economic sense just a few years ago are now on the road to becoming a competitive disadvantage. Labor costs in Hungary rose 17 percent from 2001 to 2003; in the Czech Republic, they jumped by 11 percent. Wage increases in South Korea outpaced productivity growth by almost 4.7 percent, on average, from 1986 to 1996, and in 2002 alone, hourly labor costs there increased by 17.3 percent. Beyond labor costs, companies also need to examine potential differences in productivity in low-labor-cost locations. However, bringing in sufficient management talent and the right infrastructure support can often minimize these differences.

Labor plays a role in another risk. The development of suppliers may be required when shifting a manufacturing footprint. That could lead to initial quality problems or delays in bringing a plant up to capacity. Intellectual property risks are also present, particularly when companies outsource important processes in countries where patents and intellectual property laws are not as strictly enforced as in the United States. Finally, change management difficulties can come with the transition, in terms of handling communication both internally and externally, as well as managing the move to minimize business disruption.

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