Compare and contrast export selling and export marketing.

Identify the stages a company goes through, and the problems it encounters, as it gains experience as an exporter.

Describe the various national policies that pertain to imports and exports.

Explain the structure of the Harmonized Tariff System.

Describe the various organizations that participate in the export process.

Identify home-country export organization considerations.

Identify market-country export organization considerations.

Discuss the various payment methods that are typically used in trade financing.

Identify the factors that global marketers consider when making sourcing decisions.

8-2

Export Selling vs. Export Marketing

Export selling involves selling the same product, at the same price, with the same promotional tools in a different place

Export marketing tailors the marketing mix to international customers

8-3

As organizations seek to move operations into other countries they need to make the basic decision regarding their level of involvement in the foreign markets. Two broad areas include export selling and export marketing.

Export selling does not involve tailoring the product, the price, or the promotional material to suit the requirements of global markets. The only marketing mix element that differs is the “place;” that is, the country where the product is sold. This selling approach may work for some products or services; for unique products with little or no international competition, such an approach is possible. Similarly, companies new to exporting may initially experience success with selling.

Export marketing targets the customer in the context of the total market environment. The export marketer does not simply take the domestic product “as is” and sell it to international customers. To the export marketer, the product offered in the home market represents a starting point. It is modified as needed to meet the preferences of international target markets; this is the approach the Chinese have adopted in the U.S. furniture market. Similarly, the export marketer sets prices to fit the marketing strategy and does not merely extend home country pricing to the target market. Charges incurred in export preparation, transportation, and financing must be taken into account in determining prices. Finally, the export marketer also adjusts strategies and plans for communications and distribution to fit the market. In other words, effective communication about product features or uses to buyers in export markets may require creating brochures with different copy, photographs, or artwork. As the vice president of sales and marketing of one manufacturer noted, “We have to approach the international market with marketing literature as opposed to sales literature.”

Requirements for Export Marketing

An understanding of the target market environment

The use of market research and identification of market potential

Decisions concerning product design, pricing, distribution and channels, advertising, and communications

8-4

After the research effort has zeroed in on potential markets, there is no substitute for a personal visit to size up the market firsthand and begin the development of an actual export marketing program. A market visit should do several things. First, it should confirm (or contradict) assumptions regarding market potential. A second major purpose is to gather the additional data necessary to reach the final go/no-go decision regarding an export marketing program. Certain kinds of information simply cannot be obtained from secondary sources. For example, an export manager or international marketing manager may have a list of potential distributors provided by the U.S. Department of Commerce. He or she may have corresponded with distributors on the list and formed some tentative idea of whether they meet the company’s international criteria. It is difficult, however, to negotiate a suitable arrangement with international distributors without actually meeting face to face to allow each side of the contract to appraise the capabilities and character of the other party. A third reason for a visit to the export market is to develop a marketing plan in cooperation with the local agent or distributor. Agreement should be reached on necessary product modifications, pricing, advertising and promotion expenditures, and a distribution plan. If the plan calls for investment, agreement on the allocation of costs must also be reached.

One way to visit a potential market is through a trade show or a state- or federally-sponsored trade mission. Each year hundreds of trade fairs, usually organized around a product category or industry, are held in major markets.

Organizational Export Activities

The firm is unwilling to export; it will not even fill an unsolicited export order.

The firm fills unsolicited export orders but does not pursue unsolicited orders. Such a firm is an export seller.

The firm explores the feasibility of exporting (this stage may bypass Stage 2).

The firm exports to one or more markets on a trial basis.

8-5

Exporting is becoming increasingly important as companies in all parts of the world step up their efforts to supply and service markets outside their national boundaries. Research has shown that exporting is essentially a developmental process that can be divided into the following distinct stages.

Organizational Export Activities (Cont.)

The firm is an experienced exporter to one or more markets.

The firm pursues country- or region-focused marketing based on certain criteria

The firm evaluates global market potential for the “best” target markets.

8-6

The probability that a firm will advance from one stage to the next depends on different factors. Moving from stage 2 to stage 3 depends on management’s attitude toward the attractiveness of exporting and confidence in the firm’s ability to compete internationally. However, commitment is the most important aspect of a company’s international orientation. Before a firm can reach stage 4, it must receive and respond to unsolicited export orders. The quality and dynamism of management are important factors that can lead to such orders. Success in stage 4 can lead a firm to stages 5 and 6. A company that reaches stage 7 is a mature, geocentric enterprise that is relating global resources to global opportunity. To reach this stage requires management with vision and commitment.

Potential Export Problems

8-7

Top 10 Clothing Exporters 2011 ($ billions)

8-8

National Policies Governing Exports and Imports

Most nations encourage exports and restrict imports

In 2014, the total was $2.8 trillion

European Union trade, domestic and foreign, is $3 trillion +

8-9

US based Zippo Manufacturing Co., was awarded the President’s “E” Star Award for export expansion in 2012.

In 1997 total imports of goods and services by the United States passed the $1 trillion mark for the first time; in 2014, the combined figure was $2.8 trillion.

China’s pace-setting economic growth in the Asia-Pacific region is reflected by trends in both exports and imports. Exports from China have grown significantly; and they are growing even now that China has joined the WTO. Historically, China protected its own producers by imposing double-digit import tariffs. These are being reduced as China complies with WTO regulations.

For centuries, nations have combined two opposing policy attitudes toward the movement of goods across national boundaries. On the one hand, nations directly encourage exports; the flow of imports, on the other hand, is generally restricted.

Government Programs that Support Exports

Governments concerned about trade deficits or economic development should educate firms about possible gains from exporting

Done at the national, regional & local levels

After WWII, Japan’s trade ministry developed export strategies

The China triangle (People’s Republic, Taiwan, & Hong Kong), & the four tigers–Singapore, South Korea, Taiwan, & Hong Kong) learned from Japan and built strong export-based economies

8-10

Government Programs that Support Exports

Tax incentives

Subsidies

Governmental assistance

Free trade zones

The Milan Furniture Fair held in April attracts 300,000 visitors from 160 countries .

8-11

Governments commonly use four activities to support export activities of national firms. First, tax incentives treat earnings from export activities preferentially either by applying a lower rate to earnings from these activities or by refunding taxes already paid on income associated with exporting. The tax benefits offered by export-conscious governments include varying degrees of tax exemption or tax deferral on export income, accelerated depreciation of export-related assets, and generous tax treatment of overseas market development activities.

Governments also support export performance by providing outright subsidies, which are direct or indirect financial contributions that benefit producers. Subsidies can severely distort trade patterns when less competitive but subsidized producers displace competitive producers in world markets.

The third support area is governmental assistance to exporters. Companies can avail themselves of a great deal of government information concerning the location of markets and credit risks. Assistance may also be oriented toward export promotion.

In an effort to facilitate exports, countries are designating certain areas as free trade zones (FTZ) or special economic zones (SEZ). These are geographic entities that offer manufacturers simplified customs procedures, operational flexibility, and a general environment of relaxed regulations.

Governmental Actions to Discourage Imports and Block Market Access

Tariffs: 3 Rs—rules, rate schedules, & regulations

Import controls

Nontariff barriers (hidden)

Quotas

Discriminatory procurement policies

Restrictive customs procedures

Arbitrary monetary policies

Restrictive administrative & technical regulations

8-12

Measures such as tariffs, import controls, and a host of nontariff barriers are designed to limit the inward flow of goods. Tariffs can be thought of as the “three R’s” of global business: rules, rate schedules (duties), and regulations of individual countries.

A nontariff trade barrier (NTB) is any measure other than a tariff that is a deterrent or obstacle to the sale of products in a foreign market. NTBs are also known as hidden trade barriers. A quota is a government-imposed limit or restriction on the number of units or the total value of a particular product or product category that can be imported. Quotas are designed to protect domestic producers. In 2005, for example, textile producers in Italy and other European countries were granted quotas on 10 categories of textile imports from China. The quotas, which ran through the end of 2007, were designed to give European producers an opportunity to prepare for increased competition. Discriminatory procurement policies can take the form of government rules and administrative regulations that give local vendors priority. The Buy American Act of 1993 says federal agencies must buy American products unless a domestic product is not available, the cost is unreasonable, or it would not be in the public’s interest.

Customs procedures are considered restrictive if they are administered in a way that makes compliance difficult and expensive.

Discriminatory exchange rate policies distort trade in much the same way as selective import duties and export subsidies. As noted earlier, some Western policymakers have argued that China is pursuing policies that ensure an artificially weak currency which results in Chinese goods having a competitive price edge in world markets. Restrictive administrative and technical regulations can also create barriers to trade. These may take the form of antidumping regulations, product size regulations, and safety and health regulations. U.S. safety and pollution regulations in the auto industry have forced some auto makers to withdraw certain models and are generally expensive with which to comply.

Examples of Trade Barriers

8-13

Harmonized Tariff System

Developed by the World Customs Organization

Effective January 1989

Adopted by most trading nations

Importers & Exporters have to determine the classification number for any product moved across borders

Import & export numbers are the same on Schedule B

Meant to simplify tariff procedures but problems still arise

8-14

In spite of the progress made in simplifying tariff procedures, administering a tariff is an enormous burden. People who work with imports and exports must familiarize themselves with the different classifications and use them accurately. Even a tariff schedule of several thousand items cannot clearly describe every product traded globally. Plus, the introduction of new products and new materials used in manufacturing processes creates new problems. Often, determining the duty rate on a particular article requires assessing how the item is used or determining its main component material. Two or more alternative classifications may have to be considered. A product’s classification can make a substantial difference in the duty applied. For example, is a Chinese-made X-Men action figure a doll or a toy? For many years, dolls were subject to a 12 percent duty when imported into the United States; the rate was 6.8 percent for toys. Moreover, action figures that represent nonhuman creatures such as monsters or robots were categorized as toys and thus qualified for lower duties than human figures that the Customs Service classified as dolls. Duties on both categories have been eliminated; however, the Toy Biz subsidiary of Marvel Enterprises spent nearly 6 years on an action in the U.S. Court of International Trade to prove that its X-Men action figures do not represent humans. Although the move appalled many fans of the mutant superheroes, Toy Biz hoped to be reimbursed for overpayment of past duties made when the U.S. Customs Service had classified imports of Wolverine and his fellow figures as dolls.

Tariff Systems

Single-column tariff

Simplest type of tariff

Schedule of duties in which rate applies to imports from all countries on the same basis

Two-column tariff

General duties plus special duties apply

Normal Trade Relations (NTR) means that countries in the WTO apply the Column 1 rates most favorable or lowest rates to all nations (with exceptions). Column 2 rates are for non-WTO countries

8-15

Tariff systems provide either a single rate of duty for each item applicable to all countries or two or more rates, applicable to different countries or groups of countries. Tariffs are usually grouped into two classifications. The single-column tariff is the simplest type of tariff; a schedule of duties in which the rate applies to imports from all countries on the same basis. Under the two-column tariff (Table 8-4), column 1 includes “general” duties plus “special” duties indicating reduced rates determined by tariff negotiations with other countries.

Sample Rates of Duty for U.S. Imports

8-16

Under the two-column tariff, column 1 includes “general” duties plus “special” duties indicating reduced rates determined by tariff negotiations with other countries. Rates agreed upon by “convention” are extended to all countries that qualify for normal trade relations (NTR; formerly most-favored nation or MFN) status within the framework of the WTO. Under the WTO, nations agree to apply their most favorable tariff or lowest tariff rate to all nations—subject to some exceptions— that are signatories to the WTO. Column 2 shows rates for countries that do not enjoy NTR status.

Preferential Tariff

Reduced tariff rate applied to imports from certain countries

GATT prohibits the use, with three exceptions:

Historical preference arrangements already existed

Preference is part of formal economic integration treaty

Industrial countries are permitted to grant preferential market access to LDCs

8-17

A preferential tariff is a reduced tariff rate applied to imports from certain countries. GATT prohibits the use of preferential tariffs, with three major exceptions. First are historical preference arrangements such as the British Commonwealth preferences and similar arrangements that existed before GATT. Second, preference schemes that are part of a formal economic integration treaty, such as free trade areas or common markets, are excluded. Third, industrial countries are permitted to grant preferential market access to companies based in less-developed countries.

The United States is now a signatory to the GATT customs valuation code. U.S. customs value law was amended in 1980 to conform to the GATT valuation standards. Under the code, the primary basis of customs valuation is “transaction value.” As the name implies, transaction value is defined as the actual individual transaction price paid by the buyer to the seller of the goods being valued. In instances where the buyer and seller are related parties (e.g., when Honda’s U.S. manufacturing subsidiaries purchase parts from Japan), customs authorities have the right to scrutinize the transfer price to make sure it is a fair reflection of market value. In the late 1980s, the U.S. Treasury Department began a major investigation into the transfer prices charged by the Japanese automakers to their U.S. subsidiaries. It charged that the Japanese paid virtually no U.S. income taxes because of their “losses” on the millions of cars they import into the United States each year.

Customs Duties

Ad valorem duty

Expressed as percentage of value of goods

Specific duty

Expressed as specific amount of currency per unit of weight, volume, length, or other unit of measurement

Compound or mixed duties

Apply

8-18

Duties on individual products or services are listed in the schedule of rates in the previous slides. As defined by one expert on global trade, duties are “taxes that punish individuals for making choices of which their governments disapprove.”

Before World War II, specific duties were widely used and the tariffs of many countries, particularly those in Europe and Latin America, were extremely complex. During the past half century, the trend has been toward the conversion to ad valorem duties; that is, duties expressed as a certain percentage of the value of the goods.

Customs duties are divided into two categories. They may be calculated either as a percentage of the value of the goods (ad valorem duty), as a specific amount per unit (specific duty), or as a combination of both of these methods.

Other Duties and Import Charges

Anti-dumping Duties

Dumping is the sale of merchandise in export markets at unfair prices

Special import charges equal to the dumping margin

Countervailing Duties offset subsidies of the exporting country

Variable Import Levies apply to agriculture

Temporary Surcharges protect local industries and are used to adjust balance of payment deficits

8-19

Antidumping duties are almost invariably applied to products that are also manufactured or grown in the importing country. In the United States, antidumping duties are assessed after the commerce department finds a foreign company guilty of dumping and the International Trade Commission rules that the dumped products injured American companies. Countervailing duties (CVDs) are additional duties levied to offset subsidies granted in the exporting country.

Variable import levies apply to certain categories of imported agricultural products. If prices of imported products would undercut those of domestic products, the effect of these levies would be to raise the price of imported products to the domestic price level. In 2001, the ITC and commerce department imposed both countervailing and antidumping duties on Canadian lumber producers. The CVDs were intended to offset subsidies to Canadian sawmills in the form of low fees for cutting trees in forests owned by the Canadian government. The antidumping duties on imports of softwood lumber, flooring, and siding were in response to complaints by American producers that the Canadians were exporting lumber at prices below their production cost.

Temporary surcharges have been introduced from time to time by certain countries, such as the United Kingdom and the United States, to provide additional protection for local industry and, in particular, in response to balance-of-payments deficits.

Key Export Participants

Foreign purchasing agents

Export brokers

Export merchants

Export management companies

Manufacturer’s export agent

Export commission representative

Cooperative exporter

Freight forwarders

8-20

Anyone with responsibilities for exporting should be familiar with some of the people and organizations who can assist with various tasks. Some of these, including purchasing agents, export brokers, and export merchants, have no assignment of responsibility from the client. Others, including export management companies, manufacturers’ export representatives, export distributors, and freight forwarders, are assigned responsibilities by the exporter.

Foreign purchasing agents are variously referred to as buyer for export, export commission house, or export confirming house. They operate on behalf of, and are compensated by, an overseas customer known as a principal. They generally seek out a manufacturer whose price and quality match the specifications of their principal. Foreign purchasing agents often represent governments, utilities, railroads, and other large users of materials. Foreign purchasing agents do not offer the manufacturer or exporter stable volume except when long-term supply contracts are agreed upon.

An export broker receives a fee for bringing together the seller and the overseas buyer. The fee is usually paid by the seller, but sometimes the buyer pays it.

Export merchants are sometimes referred to as jobbers. These are marketing intermediaries that identify market opportunities in one country or region and make purchases in other countries to fill these needs. An export merchant typically buys unbranded products directly from the producer or manufacturer. The export merchant then brands the goods and perf

export management company (EMC) is an independent marketing intermediary that acts as the export department for two or more manufacturers (principals) whose product lines do not compete with each other. The EMC usually operates in the name of its principals for export markets, but it may operate in its own name. It may act as an independent distributor, purchasing and reselling goods at an established price or profit margin. Alternatively, it may act as a commissioned representative, taking no title and bearing no financial risks in the sale. It performs all other marketing activities, including distribution.

A manufacturer’s export agent (MEA) Much like an EMC, the MEA can act as an export distributor or as an export commission representative. However, the MEA does not perform the functions of an export department, and the scope of market activities is usually limited to a few countries.

An export commission representative assumes no financial risk. The manufacturer assigns some or all foreign markets to the commission representative. The manufacturer carries all accounts, although the representative often provides credit checks and arranges financing.

A cooperative exporter, sometimes called a mother hen, a piggyback exporter, or an export vendor, is an export organization of a manufacturing company retained by other independent manufacturers to sell their products in foreign markets. Cooperative exporters usually operate as export distributors for other manufacturers, but in special cases they operate as export commission representatives. They are regarded as a form of export management company.

Freight forwarders are licensed specialists in traffic operations, customs clearance, and shipping tariffs and schedules; simply put, they can be thought of as travel agents for freight.

Organizing for Exporting in the Manufacturer’s Country

Exports can be handled

As a part-time activity performed by domestic employees

Through an export partner

Through an export department

Through an export department within an international division

For multi-divisional companies; each possibility exists for each division

8-21

Home-country issues involve deciding whether to assign export responsibility inside the company or to work with an external organization specializing in a product or geographic area. Most companies handle export operations within their own in-house export organization. Depending on the company’s size, responsibilities may be incorporated into an employee’s domestic job description. Alternatively, these responsibilities may be handled as part of a separate division or organizational structure.

Organizing for Exporting in the Market Country

Direct market representation

Advantages: control and communications

Representation by independent intermediaries

Advantages: best for situations with small sales volume

8-22

In addition to deciding whether to rely on in-house or external export specialists in the home country, a company must also make arrangements to distribute the product in the target market country. Direct market representation does not mean selling directly to the end user but selling to wholesalers or retailers. Every exporting organization faces one basic decision: To what extent do we rely on direct market representation as opposed to representation by independent intermediaries?

Trade Financing and Methods of Payment

Documentary credits (letter of credit)

Documentary collections (bill of exchange)

Cash in advance

Sales on open account

Sales on consignment basis

8-23

The appropriate method of payment for a given international sale is a basic credit decision. A number of factors must be considered, including currency availability in the buyer’s country, creditworthiness of the buyer, and the seller’s relationship to the buyer. Finance managers at companies that have never exported often express concern regarding payment. Many CFOs with international experience know that there are generally fewer collections problems on international sales than on domestic sales, provided the proper financial instruments are used. The reason is simple: A letter of credit can be used to guarantee payment for a product. The export sale begins when the exporter/seller and the importer/buyer agree to do business. The agreement is formalized when the terms of the deal are set down in a pro forma invoice contract, fax, or some other document. Among other things, the pro forma invoice spells out how much, and by what means, the exporter-seller wants to be paid.

Documentary Credit-Letter of Credit

8-24

This is a two slide diagram of the documentary credit process.

A letter of credit (L/C) is essentially a document stating that a bank has substituted its creditworthiness for that of the importer-buyer. Next to cash in advance, an L/C offers the exporter the best assurance of being paid. That assurance arises from the fact that the payment obligation under an L/C lies with the buyer’s bank and not with the buyer. The importer-buyer’s bank is the “issuing” bank; the importer-buyer is, in essence, asking the issuing bank to extend credit. The importer-buyer is considered the applicant. The issuing bank may require that the importer-buyer deposit funds in the bank or use some other method to secure a line of credit. After agreeing to extend the credit, the issuing bank requests that the exporter-seller’s bank advise and/or confirm the L/C. (A bank “confirms” an L/C by adding its name to the document.) The seller’s bank becomes the “advising” and/or “confirming” bank. Whether it is advised or confirmed, the L/C represents a guarantee that ensures payment contingent on the exporter-seller (the beneficiary in the transaction) complying with the terms set forth in the L/C.

The actual payment process is set in motion when the exporter-seller physically ships the goods and submits the necessary documents as specified in the L/C. These could include a transportation bill of lading (which may represent title to the product), a commercial invoice, a packing list, a certificate of origin, or insurance certificates. For most of the world, a commercial invoice and bill of lading represent the minimum documentation required for customs clearance. If the pro forma invoice specifies a confirmed L/C as the method of payment, the exporter-seller receives payment at the time the correct shipping documents are presented to the confirming bank.

The confirming bank, in turn, requests payment from the issuing bank. In the case of an irrevocable L/C, the exporter-seller receives payment only after the advising bank negotiates the documents and requests payment from the issuing bank in accordance with terms set forth in the L/C. Once the shipper sends the documents to the advising bank, the advising bank negotiates those documents and is referred to as the negotiating bank. Specifically, it takes each shipping document and closely compares it to the L/C. If there are no discrepancies, the negotiating or confirming bank transfers the money to the exporter-seller’s account.

The fee for an irrevocable L/C—for example, “1/8 of 1 percent of the value of the credit, with an $80 minimum”—is lower than that for a confirmed L/C. The higher bank fees associated with confirmation can drive up the final cost of the sale; fees are also higher when the transaction involves a country with a high level of risk. Good communication between the exporter-seller and the advising or confirming bank regarding fees is important; the selling price indicated on the pro forma invoice should reflect these and other costs associated with exporting.

Documentary Credit (Con’t)

8-25

Methods of Payment

Documentary Collections (Sight or Time Drafts) use a bill of exchange(draft) which is a negotiable instrument that easily transfers from one party to another

A Bill of Exchange is a written order from one party (the drawer)directs one party (the drawee) to pay a third party (the payee)

Different from a L/C in that the bank has no risk

The exporter-seller bears all the risk

Fees are lower than L/C so used in low value transactions

8-26

After an exporter and an importer have established a good working relationship and the finance manager’s level of confidence increases, it may be possible to move to a documentary collection or an open-account method of payment. A documentary collection is a method of payment that uses a bill of exchange, also known as a draft.

With a documentary draft, the exporter-seller delivers documents such as the bill of lading, the commercial invoice, a certificate of origin, and an insurance certificate to a bank in the exporter-seller’s country. The shipper or bank prepares a collection letter (draft) and sends it via courier to a correspondent bank in the importer-buyer’s country. The draft is presented to the importer-buyer; payment takes place in accordance with the terms specified in the draft. In the case of a sight draft (also known as documents against payment or D/P), the importer-buyer is required in principle to make payment when presented with both the draft and the shipping documents even though the buyer may not have taken possession of the goods yet. Time drafts can take two forms. As the names imply, an arrival draft specifies that payment is due when the importer-buyer receives the goods; a date draft requires payment on a particular date, irrespective of whether the importer-buyer has the goods in hand.

Methods of Payment

Cash in Advance

Credit risks abroad are high

Exchange restrictions in destination country may delay return of funds for a long time

Any other reason the seller will not extend terms

Not used if competitive pressures or substitute products exist

Sales on Open Account

Payment is after delivery

Used for intracorporate or subsidiary sales, exchange controls are minimal, or with longstanding customers

Can create a legal problem in collection without a tangible obligation

8-27

Customs Trade Partnership Against Terrorism

The U.S. Customs and Border Patrol inspects cargo

C-TPAT aims to have businesses certify their security and that of their partners

They get inspection priority

8-28

As noted on the Customs and Border Protection Web site, “C-TPAT recognizes that U.S. Customs and Border Protection (CBP) can provide the highest level of cargo security only through close cooperation with the ultimate owners of the international supply chain such as importers, carriers, consolidators, licensed customs brokers, and manufacturers. Through this initiative, CBP is asking businesses to ensure the integrity of their security practices and communicate and verify the security guidelines of their business partners within the supply chain.”

Duty Drawback

Refunds of duties paid on imports that are processed or incorporated into other goods AND re-exported

Reduce the price of imported production inputs

Used in the U.S. to encourage exports

After NAFTA, U.S. reduced drawbacks on exports to Canada and Mexico

China had to reduce drawbacks in order to join the WTO

8-29

Sourcing

The Sourcing Decision

Does the company buy or make its products?

Where?

Global outsourcing or offshoring refers to moving work to another country

Call Centers were first nonmanufacturing moved

8-30

Call Center in Bangalore, India

Factors that Affect Sourcing

Management vision

Factor costs and conditions

Customer needs

Logistics

Country infrastructure

Political risk

Exchange rate, availability, and convertibility of local money

8-31

Factor costs are land, labor, and capital costs. Basic manufacturing direct labor costs today range from less than $1 per hour in an emerging country to $6 to $12 per hour in a developed country. In certain U.S. industries, direct labor costs in manufacturing exceed $20 per hour without benefits. German hourly compensation costs for production workers in manufacturing are 160 percent of those in the U.S. while those in Mexico are only 15 percent of those in the U.S. Labor costs in nonmanufacturing jobs also vary. A software engineer in India may receive an annual salary of $12,000; an American with the same educational credentials might earn $80,000.

Customer needs: Although outsourcing can help reduce costs, sometimes customers are seeking something besides the lowest possible price. Dell recently rerouted some of its call center jobs back to the United States after complaints from key business customers that Indian tech support workers were offering scripted responses and having difficulty answering complex problems. In such instances, the need to keep customers satisfied justifies the higher cost of home-country support operations.

Logistics: To facilitate global delivery, transportation companies such as CSX Corporation are forming alliances and becoming an important part of industry value systems. Manufacturers can take advantage of intermodal services that allow containers to be transferred between rail, boat, air, and truck carriers. In Europe, Latin America, and elsewhere, the trend toward regional economic integration means fewer border controls, which greatly speeds up delivery times and lowers costs.

Infrastructure includes power, transportation and roads, communications, service and component suppliers, a labor pool, civil order, and effective governance.

Protectionist laws may cause political risk. Japanese auto makers established production facilities in the U.S. partly out of concern for market access. U.S. produced vehicles are not subject to tariffs or quotas.

Change in commodities price and currency fluctuation: If the dollar, the yen, or the mark becomes seriously overvalued, a company with production capacity in other locations can achieve competitive advantage by shifting production among different sites.

Other Export/Import Issues

Management Vision

Some CEOs want to keep manufacturing at home (Swatch)

Some CEOs focus on high-value-added products rather than manufacturing sites (Canon keeps 60% in Japan)

Factor Costs & Conditions

The cost of land, labor & capital costs

Labor in emerging markets less than $1 hr.,

But $6-$12 in developed countries

Sometimes the cost of land, materials, & capital offset each other

8-32

Management Vision Some chief executives are determined to retain some or all manufacturing in their home country. The late Nicolas Hayek was one such executive. When he was head of the Swatch Group, Hayek presided over the spectacular revitalization of the Swiss watch industry. The Swatch Group’s portfolio of brands includes Blancpain, Omega, Breguet, Rado, and, of course, the inexpensive Swatch brand itself. Hayek demonstrated that the fantasy and imagination of childhood and youth could be translated into breakthroughs that allow mass-market products to be manufactured in high-wage countries side by side with handcrafted luxury products.

Costs and Conditions Factor costs are land, labor, and capital costs (remember Economics 101!). Labor includes the cost of workers at every level: manufacturing and production, professional and technical, and management. Direct labor costs in basic manufacturing today range from less than $1 per hour in the typical emerging country to $6 to $12 per hour in the typical developed country. In certain industries in the United States, direct labor costs in manufacturing exceed $20 per hour without benefits. German hourly compensation costs for production workers in manufacturing are 160 percent of those in the United States, whereas those in Mexico are a fraction of those in the United States.

Volkswagen’s business environment includes a significant wage differential between Mexico . and Germany, the strength of the euro, and growing worldwide demand for compact and subcompact vehicles. Taken together, these factors dictate a Mexican manufacturing facility that builds models destined for the United States, China, Europe, and other key markets. Assembly-line wages for Mexican workers start at about $40 per day; by contrast, German auto workers average $60 per hour in pay and benefits. Volkswagen has invested $1 billion to design and produce the next-generation Jetta at a sprawling plant in Mexico City.

The other factors of production are land, materials, and capital. The costs of these factors depend on their availability and relative abundance. Often, the differences in factor costs will offset each other so that, on balance, companies have a level field in the competitive arena. For example, some countries have abundant land, and Japan has abundant capital. These advantages partially offset each other. When this is the case, the critical factor is management, professional, and worker team effectiveness.

The application of advanced computer controls and other new manufacturing technologies has reduced the proportion of labor relative to capital for many businesses. In formulating a sourcing strategy, company managers and executives should also recognize the declining importance of direct manufacturing labor as a percentage of total product cost. It is certainly true that, for many companies in high-wage countries, the availability of cheap labor is a prime consideration when choosing manufacturing locations; this is why China has become “the world’s workplace.” However, it is also true that direct labor cost may be a relatively small percentage of the total production cost. As a result, it may not be worthwhile to incur the costs and risks of establishing a manufacturing activity in a distant location.

Other Export/Import Issues

Customer Needs

Needs can trump low cost; Dell moved call centers back to U.S. when customers complained about problems with Indian tech support

Logistics

Improved transportation systems & intermodal services cut time & lower costs

Country Infrastructure

Power, transportation, roads, communications, service & component suppliers, a labor pool, civil order, effective government

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Logistics In general, the greater the distance between the product source and the target market, the greater the time delay for delivery and the higher the transportation cost. However, innovation and new transportation technologies are cutting both time and dollar costs. To facilitate global delivery, transportation companies such as CSX Corporation are forming alliances and becoming an important part of industry value systems. Manufacturers can take advantage of intermodal services that allow containers to be transferred among rail, boat, air, and truck carriers. In Europe, Latin America, and elsewhere, the trend toward regional economic integration means fewer border controls, which greatly speeds up delivery times and lowers costs.

Country Infrastructure

In order to present an attractive setting for a manufacturing operation, it is important that a country’s infrastructure be sufficiently developed to support manufacturing and distribution. Infrastructure requirements will vary by company and by industry, but minimally, they will include power, transportation and roads, communications, service and component suppliers, a labor pool, civil order, and effective governance. In addition, companies must have reliable access to foreign exchange for the purchase of necessary material and components from abroad. Additional requirements include a physically secure setting where work can be done and from which products can be shipped.

A country may have cheap labor, but does it have the necessary supporting services or infrastructure to support a high volume of business activities? Many countries offer these conditions, including Hong Kong, Taiwan, and Singapore. In scores of other low-wage countries, however, the infrastructure is woefully underdeveloped. In China, a key infrastructure weakness is the “cold chain,” a food industry term for temperature-controlled trucks and warehouses. According to one estimate, an investment of $100 billion will be required to modernize China’s cold chain.

Other Export/Import Issues

Political Factors

Political risk is higher in less developed countries in Africa, South America or Asia than in the Triad

Protectionism at the state and federal level

Senate passed an amendment that would prohibit certain agencies from hiring companies that used offshore call centers

Foreign Exchange Rates

Companies try to use global sourcing to limit risk of volatile exchange rates or price levels of commodities

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political risk is a deterrent to investment in local sourcing. Conversely, the lower the level of political risk, the less likely it is that an investor will avoid a country or market. The difficulty of assessing political risk is inversely proportional to a country’s stage of economic development: All other things being equal, the less developed a country, the more difficult it is to predict political risk. The political risk of the Triad countries, for example, is quite limited as compared to that of a less-developed country in Africa, Latin America, or Asia. The recent rapid changes in Central and Eastern Europe and the dissolution of the Soviet Union have clearly demonstrated the risks and opportunities resulting from political upheavals.

Other political factors may weigh on the sourcing decision. For example, with protectionist sentiment on the rise, the U.S. Senate passed an amendment that would prohibit the U.S. Treasury and Department of Transportation from accepting bids from private companies that use offshore workers. In a highly publicized move, the state of New Jersey changed a call center contract that had shifted jobs offshore. About one dozen jobs were brought back to the state—at a cost of about $900,000.

In deciding where to source a product or locate a manufacturing activity, managers must take into account foreign exchange rate trends in various parts of the world. Exchange rates are so volatile today that many companies pursue global sourcing strategies as a way of limiting exchange-related risk. At any point in time, what has been an attractive location for production may become much less attractive due to exchange rate fluctuation. The dramatic shifts in price levels of commodities and currencies are a major characteristic of the world economy today. Such volatility argues for a sourcing strategy that provides alternative country options for supplying markets. Thus, if the dollar, the yen, or the mark becomes seriously overvalued, a company with production capacity in other locations can achieve competitive advantage by shifting production among different sites.

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