Offshore Manufacturing Definition: the Pros and Cons
What is Offshoring Manufacturing?
Offshore manufacturing is the transfer of the production or assembly of goods to another country. Companies often do this because of low labor costs in another country. Offshore manufacturing can also happen because raw materials are cheap in another country.
The term Offshore Production has the same meaning as Offshore Manufacturing. All specifically refers to moving manufacturing abroad and then selling the goods in the company’s home country.
Offshore manufacturing is part of the umbrella term “offshore.” Offshoring refers to moving any business process abroad. In most cases, companies migrate an operational process, such as product assembly or manufacturing. Businesses may also move supporting operations such as accounting abroad. Moving production and other parts of the company abroad is part of a process we call globalization.
What isn’t Offshore Manufacturing?
Offshore manufacturing or offshore production involves moving the manufacturing process overseas. For example, a U.S. automaker might move the production or assembly of vehicles to Mexico.
We don’t think the term means opening factories overseas for the local market. For example, if the goal is to sell to Americans, that doesn’t mean building a BMW factory in the U.S. BMW is a German car manufacturer.
Again, Offshore manufacturing specifically refers to moving manufacturing abroad and then selling the goods in the company’s home country.
British pharmaceutical company AstraZeneca (AZ) has production facilities in Mexico and China. AZ has not opened these facilities for sale to U.K. consumers. They manufacture goods for consumers in Mexico and China. So, in most people’s minds, AZ is not involved in offshore manufacturing in these countries.
However, American automaker Ford has a factory in Mexico. U.S. consumers buy most of the vehicles Ford makes in Mexico. So when Ford opened a production base in Mexico, it got involved in offshore manufacturing.
Why Do Companies Offshore Manufacturing?
Innovators often choose to produce or assemble in another country because of lower wages, lower material costs, and/or less stringent labor regulations. The cost of manufacturing goods is always the main factor affecting profits. If a product can be made at a lower cost, you have a better chance of getting the profit you need to be profitable.
U.S. News and World Report, in partnership with the BAV Group and the Wharton School of the University of Pennsylvania, surveyed more than 20,000 people from four regions, linking 73 countries to specific characteristics. In the Best Countries ranking, a subcategory called “Openness to Business” takes into account scores for five country attributes related to a country’s degree of openness to business. These attributes include bureaucracy, cheap manufacturing costs, corruption, a favorable tax environment, and transparent government practices.
Regarding cheap manufacturing costs, the following countries make the
Top 10 offshore manufacturing countries list.
9. Sri Lanka
The United States ranks 77th in the survey. Why? Back in 2011, Industry Week discussed a MAPI and NAM Manufacturing Institute report that analyzed U.S. production costs relative to its major trading partners. While the report is now outdated, the reasons cited in the report for holding back domestic manufacturing largely still apply.
“We found that structural costs — corporate tax rates, employee benefits, tort litigation, regulatory compliance and energy — continue to slowly erode the ability of U.S. manufacturers to compete effectively in global markets. While manufacturers face a range of challenges, but the data suggest that domestically imposed costs – through government commissioning or non-commissioning – further erode our ability to compete, increasing the cost of making things in this country by at least 20%.
It went on to say that the federal-state average statutory tax rate of 40% has not changed, even as other states have lowered their rates. The only other country at the time with a higher corporate tax rate was Japan.
Fortunately, due to the Tax Cuts and Jobs Act (TCJA) of 2017, the federal statutory corporate tax rate in the United States has declined since then. The U.S. tax rate is now 21%, more in line with many other countries. While China has a 25% tax rate, it can be reduced to 15% for eligible companies. It will be interesting to see what happens when the TCJA expires at the end of 2025.
Offshoring and NAFTA
A major incentive for offshore manufacturing emerged when NAFTA made it easier for U.S. manufacturers to relocate to Mexico. NAFTA is the acronym for the North American Free Trade Agreement.
Labor costs in Mexico are a fraction of those in the United States. So by relocating south of the border, American companies can save a lot of money. Lower production costs help companies become more competitive.
However, labor costs in China are even lower than in Mexico two decades ago. Therefore, the trend of offshoring shifted to China. China has fewer worker rights than Mexico, and its currency is pegged to the dollar. It also has cheap land and loans and few environmental regulations.
In addition, China offers a potentially huge domestic market. In fact, today, China’s consumer market is the second-largest in the world, after the United States.
Offshore Manufacturing and Intellectual Property
However, many high-tech companies are reluctant to manufacture their most advanced products in China. They are reluctant because China’s intellectual property laws are poorly enforced. In other words, there is a serious risk of copycat products.
High-tech companies think Mexico’s intellectual property is better than China’s.
What Are the Advantages of Offshore Manufacturing
The main benefit of offshore manufacturing is reduced operating expenses. Labor costs are lower in many offshore countries than in the U.S., but that doesn’t mean overall costs are lower than in places closer to the U.S., such as Mexico. You can usually find similar prices in nearby countries without paying for overseas shipping.
Offshore manufacturers also have access to cheaper raw materials, as many of the raw materials come from overseas. This reduces costs and also speeds up lead times. Keep in mind that parts required for certain products, such as those used in technology, often come from overseas suppliers. By working with an offshore manufacturer near these suppliers, you don’t have to wait to receive these parts or pay for expensive shipping.
Another factor to consider is the availability of a dedicated, skilled workforce. Many countries have an impressive depth and breadth of talent, including designers and engineers, as well as unique machines designed for certain products. Unlike the U.S., the average wages of these skilled workers are affordable for even the most complex manufacturing needs. You can save money, even while getting a high-quality product.
Disadvantages of Offshore Manufacturing
Offshoring is not without risk, even with the benefits of low-cost and high-quality products. Often, the biggest problem comes from finding the right offshore manufacturing partner. Through a site like Alibaba, you can gain exposure to a wide variety of manufacturing options; however, this does not mean that all listed are the ones you want or should work with.
For example, how do you verify an overseas manufacturer, especially if you’ve never worked with them before? You need to know that they can produce your product efficiently, but you also need to negotiate fair pricing and attractive terms. In addition to the parts and skills required, pricing is often based on quantity and repeat orders. Unless you are experienced with these negotiations and understand all the qualities to look for in a manufacturing partner, you will risk losing money and ending up with a substandard product.
Offshore manufacturing can also introduce language and cultural barriers, making it challenging to develop trusting relationships and establish good communication channels. Every country has its own cultural and social norms, and unless you understand these customs, you may miss important elements or even offend the manufacturer.
Quality control for overseas manufacturing can also be more challenging. It’s one thing to find a reputable manufacturer; it’s pretty different to ensure the quality is always up to your standards. Depending on the manufacturer’s distance, you may not be able to visit the factory as often as you should to keep an eye on the quality and speed of production.
Offshore Manufacturing Conclusion
Hopefully you have gained better insight into the offshore manufacturing pros and cons.
In fact, there are legit reasons for setting up factories overseas – to exploit certain natural resources, to expand export markets, or to be more responsive to local markets. But some voice is: managers should question the assumption that it is always true. It is possible that, in a rush to save on labor costs, many companies are giving up more than they bargained for, not least of which is their future competitive position.
In our opinion, Developing any product can be overwhelming. There are a thousand ways to screw up, and many innovators do. This is why the vast majority of new product ideas fail. The good news is, you don’t need to do it yourself. Product development companies like supplyia bring you the people, technology, and expert advice you need at every stage of product development. From research to logistics, you have one source for the many aspects involved in bringing a product to market.
Reach out to us with any questions you may have for offshore manufacturing when import from China.