Sourcing Priorities: Low Cost Geography or Domestic On-shoring?

Sourcing Priorities

For many years the predominant priority in sourcing has been finding the lowest cost possible. This paradigm has driven an incredible the movement of a tremendous amount of production to lowest cost regions such as Asia.

However the continuity of supply issues caused by the pandemic has created a call to repatriate much of this manufacturing into domestic, albeit higher cost, regions.

What is the appropriate sourcing strategy going forward?

Should you keep work in low cost geographies, establish sources in multiple geographies, or on-shore work into high cost domestic countries?

Geographic Sourcing History

In the early days of the Electronics Manufacturing Services (EMS) industry, over 30 years ago, the majority of this type of final manufacturing and assembly work was performed in the U.S., Canada or Western Europe. Components and raw materials were generally sourced from low cost geographies.

But with increased competition, more demanding customer pressures, and the need to drive profits for the shareholders of these public EMS companies, the drive to move assembly sourcing too low cost geographies had begun. Within 10-15 years the entire EMS sourcing model had flip flopped from being predominantly in high cost locations to being predominantly in low cost locations.

Countries like China, India, and most other Asia countries, along with Eastern Europe and Mexico became the preferred location for manufacturing. Low cost labour far outweighed any concerns about increased shipping costs, delivery times, loss of line of sight control, or issue resolution delays due to distance.

With responsibility for Global Commodity Management and Procurement, and the sourcing of billions of dollars of goods and services, I saw this dynamic play out first hand. The trend was unrelenting and the drive was irreversible.

This scenario played out across numerous industries and is not limited to manufacturing. Services such as I/T, Accounting, Security, Call Centres, Software development and Human Resources have been major low cost outsourcing opportunities for companies.

The number one reason for outsourcing has always been cost. There are certainly other reasons but cost is far and away the biggest factor in these sourcing priorities and decisions.

Advantages and Disadvantages

The advantages for sourcing in low cost geographies are the disadvantages for sourcing in local, domestic and high cost geographies. Similarly the disadvantages of low cost sourcing are the advantages of local sourcing.

That being said, the factors which inform sourcing priorities and decisions are:

  • Labour cost
  • Total manufacturing cost
  • Landed costs, including freight and logistics costs
  • Lead time (order time, delivery time)
  • Source qualifications, capabilities, certifications and expertise
  • Inventory impacts
  • Cash flow
  • Available capacity, burst capacity, responsiveness and flexibility
  • Resource and governance requirements
  • Capital and investment requirements
  • Core competencies
  • Ease of, timeliness of, and costs of communication
  • Level of control
  • Time zones
  • Intellectual property control and protection
  • Ease of doing business

For each of these factors you can see how some are better served by sourcing to low cost geographies whereas other factors are more suitable with local, domestic sourcing.

The Go Forward Sourcing Strategy

The global Coronavirus pandemic has disrupted Supply Chains in every industry in every country. No one is immune. And the disruption continues to wreak havoc with continuity of supply everywhere.

One of the false narratives that has come out of the pandemic has been that of insourcing or on-shoring work that had previously been outsourced to low cost geographies. The argument goes that by having goods and services work done closer to home, that somehow all of these supply issues will be solved.

The fallacy of thinking that domestic sourcing is somehow a better solution than low cost sourcing should be readily apparent. The pandemic has been indiscriminate. EVERY geography has been hit by the pandemic. No one, no location, no company, no industry, no government and no country can avoid the ravages of the pandemic.

Moving work from Asia back to the U.S. to avoid the pandemic is not going to make supply better at all. It would bring work closer for U.S. based companies. And when people feel that they have no control, having this activity closer to home may give them a false sense of security and control. But the U.S. is just as susceptible to the virus, if not more so, then many of the countries that they would be bringing work in from.

On top of the fact that the reach of the pandemic makes the push for on-shoring as a supply solution a bad decision, the fundamental reasons for outsourcing and offshoring in the first place are still largely relevant. Lower costs are still an important factor, and as we’ve seen the increased cost of goods disrupted by the pandemic has been astonishing, and difficult for consumers to accept.

So making a sourcing decision in the hopes of avoiding the pandemic, in one geography or another, is a poor reason to consider on-shoring. But there are other considerations that may make some repatriation of outsourced work more appropriate.

One of the key factors which should probably affect sourcing decisions is technology. The vast majority of semiconductor chips are manufactured in Taiwan. The U.S., for instance, used to be a dominant player in this industry, but they have lost much of the infrastructure, the skill and the capability to do this work in the continental U.S.

Establishing on-shore capabilities to restore technological capability is a strong strategic factor in sourcing decisions. Without this domestic capability the time will come when the U.S. will be completely dependent on, and at the mercy of, Asian countries for computer chips. This sourcing decision is now a matter of national security.

Another reasonable consideration for on-shoring is logistics. The backlog in the unloading of overseas shipments at ports in the U.S. and in Europe has compromised not only continuity of supply, but the overall economy of the impacted countries. On-shoring would disintermediate the overseas shipping portion of the Supply Chain, reduce time, and theoretically improve supply lines.

An additional consideration is that there are other techniques that can be used to de-risk the continuity of supply issues that we have experienced during the pandemic. Dual sourcing, as opposed to single or sole sourcing, ensures that there is some level of redundancy and increased continuity assurance. Parallel, or duplicate, Supply Chains, while highly redundant and expensive, can also increase supply assurance.

Sourcing Priorities in Conclusion

On-shoring to domestic sources to somehow avoid the disruptions caused by the pandemic is a bad reason for resourcing. No geography is immune to the pandemic, and the high cost geographies such as the U.S. and Western Europe have shown that they are highly vulnerable to the virus.

Better reasons to on-shore goods and services are to restore strategic technological capabilities (eg. computer chip manufacturing) or to disintermediate the Supply Chain (ie. to eliminate unnecessary steps in the process, such as overseas shipping or shipping to middle men).

Practically speaking a dominant consideration in sourcing priorities and decisions these days should be to create highly resilient and robust Supply Chains. The more resilient a Supply Chain is will be a function of how sound the sourcing solutions are.

We expect that a balance of outsourcing to low cost geographies and on-shoring will create this resiliency. This would allow for the advantages of both outsourcing and on-shoring to be realized.

The imbalance from favouring one sourcing strategy over another will perpetuate the vulnerability of all Supply Chains, as we have all experienced during the pandemic.

Sourcing priorities article originally published on January 18, 2022.

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