Offshoring has certainly been a significant trend during the last two decades. As large manufacturers have responded to globalization and rising costs in the U.S., more and more firms have moved operations overseas. Globalization pundits tout this trend as the decline of United States manufacturing and the rise of manufacturing in emerging countries such as China, India, and Brazil. The data is certainly on their side.
Since 1980, all U.S. manufacturing has declined from
- 19 million employees to 14 million;
- 366,000 companies to 320,000; and
- 22% of GDP to 12%.
While some of this drop is due to consolidation of the market and improved productivity – automation, Six Sigma, lean manufacturing – an undeniable portion is due to companies shutting down U.S. operations and moving overseas. This is disconcerting for the American manufacturing sector, but not for all of its industry components. Offshoring won't affect every manufacturing industry. To see which segments it won't affect, let's take a look at the cases in which offshoring is beneficial or detrimental.
|Good in these cases||Bad in these cases|
|Products are in reliable demand, and usually commoditized (i.e., ball point pens, socks).||Companies rely on quick responses to changing demand and short lead times.|
|Labor comprises a high portion (40%-50%) of the cost of goods sold.||Firms are averse to or can't afford the risk of volatile exchange rates.|
|Inventory holding costs are low.||Production conditions and quality are tightly regulated (food, beverages, etc).|
|Manufacturers have less need to move finished goods quickly.||Companies have proprietary technology or processes that need to be protected.|
My last point may irk fans of offshoring. While we can recognize that emerging markets have stepped up their enforcement of international IP laws in recent years, the US and Europe are historically much more stringent. Manufacturers reliant on strong patent protection (e.g., pharmaceutical firms and their blockbuster drugs) will likely keep everything close to home.
So what manufacturing won't go offshore? I think it's safe to argue that the following segments of the market will remain primarily domestic:
- Food & beverage. These manufacturers have to deal with some of the tightest regulations in the entire industry. These regulations govern how items must be produced, shipped, packaged, sold, and recalled in the event of problems. Furthermore, they usually need to supply items to buyers quickly. Essentially, there is too little wiggle room for these companies to operate overseas. Shipping costs of rushed products from abroad would offset any cost savings gained from operating offshore anyways.
- Pharmaceuticals. Comparable to their food manufacturing counterparts, pharma companies deal with strict FDA regulations that would be tough to follow overseas. And as mentioned earlier, they are often developing secretive drugs that have the potential to drive business for the next several years. They certainly want the best patent protection possible for the secrets of their next big drug.
- Highly specialized, engineer-to-order firms. Engineer-to-order manufacturers typically require close collaboration with customers, specialized skills and equipment, customized (and sometimes on-site) installations, and occasionally service of products. These differentiated products are less susceptible to the forces of commoditization than products of repetitive manufacturers. This type of specialized manufacturing is especially common among aerospace, complex machinery, and capital equipment manufacturers.
- Small job shops working with local buyers. While these firms might suffer the most from effects of offshoring and intense competition, they're not likely to move overseas any time soon. Serving local buyers is key here. If I'm a small business and need a custom sign made, I'm not going to deal with the hassle of buying it overseas. I will buy local or from someone in North America I find online. This behavior will naturally limit small job shops' ability to grow, but it will keep their businesses safe domestically.
Recognizing that certain manufacturing segments will never go offshore, I think we can expect the emergence of a few trends:
- Offshoring of certain roles in the company. While some firms may be forced to keep the core manufacturing components of their businesses domestic, they may try to cut some costs by offshoring secondary processes. Customer support, research and development, and potentially sales and marketing are all departments that could move overseas while the rest of the company stays in North America.
- Further consolidation and specialization. Consolidation is a natural effect of any competitive industry that is shrinking. Companies will merge and acquire others as they seek economies of scale and synergies. And for firms that are determined to stay in the U.S., they may have to develop a strong specialization to keep themselves differentiated.
- Ongoing investments in software. Domestic manufacturers will continue to cut costs and refine lean manufacturing processes, and manufacturing software can be a great way to boost efficiency. We expect to see sustained demand for food manufacturing software and job shop software as these segments are not going overseas any time soon.
Like it or not, offshoring is certainly here to stay. Manufacturers determined to stay domestic may want to focus on one or more of the industry segments mentioned above. Think other types of manufacturing won't go offshore? Share your opinion below.