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Global Supply Chains: The Regional Dynamic

May 19, 2010

The need to compete effectively on cost is driving many firms in developed countries to source materials, products, components, and services from developing countries with low cost structures. Since developing countries view this as a driver of economic growth, they often compete vigorously to become suppliers to affluent economies.

In the past decade, the sourcing success stories have been in Eastern Europe and Asia, but major buyers are now seeking alternative sources to reduce their vulnerability to supply disruptions and cost increases. Indicative of this development, Chinese toy manufacturers have experienced strikes and quality problems while local protests forced Tata to relocate a factory in India. The likely evolution of regional capabilities is now part of the global strategy equation.

We recently interviewed lead buyers, suppliers, and intermediary firms operating globally to understand their expectations of sourcing geography over the medium and long term. Specifically, we collected data from buying firms based in the United States, Scandinavia, and United Kingdom; an intermediary company based in Scandinavia; and suppliers based in Estonia and Kenya.
All manufacturer and intermediary personnel had direct responsibility for choosing and working with partners in transitional, newly industrialized, and developing countries. These countries included Poland, Estonia, Romania, Mexico, China, and Kenya. Our research participants also offered their thoughts on other developing economies based on their past experiences in those economies.

We found that both buyers and suppliers perceived differences in both customer orientation and sourcing potential among firms in Africa, Eastern/Central Europe, and Asia/China.

Three different sourcing roles
It appears that the three regional areas will play fundamentally different roles in the global economy and sourcing over the long term. Eastern and Central Europe will be integrated into Europe and may become the postponement platform for the rest of Europe, especially for manufacturers who want continuing control of their intellectual property. Southeast Asia, China, and India will become economically more independent; buyers within the region will be a primary long-term factor in Asian development and will work to support both export-driven and regional supply networks. Sourcing from Africa will gradually increase, focused on the consumer goods industry and low-value and commodity product networks such as primary commodities (petroleum, minerals, etc). We are already seeing sourcing shift as China and India aspire to higher value manufacturing and wages increase in these key markets.

As for Eastern Europe, it appears that its initial success in leveraging low cost, skilled labor to attract European manufacturers is not sustainable. In fact, some Eastern European countries are already considered higher cost than alternative Asian locations. Instead, Eastern Europe locations may be assigned the duty of quick response to short lead-time customer orders. Warehousing of subassemblies and configure-to-order capabilities may be left in Eastern Europe, but high volume sourcing and manufacturing will likely be transferred to Asia. Conversely, it is unlikely that African suppliers (except South Africa) can aspire to produce high value or highly engineered items in the near future.

The drivers of continuing reconfiguration and shifting patterns in sourcing across different regions include the following:
- Unit costs are lower in Asia and will remain lower because of demographics. The limited labor pool in Eastern European countries is relatively well-educated and will be looking for opportunities in knowledge-intensive activities, rather than production jobs. On the other hand, the large rural populations in China, India, and other Asian countries remain very interested in manufacturing jobs.
- Asian countries represent a large potential market. The Scandinavian and American brand-owning companies were expanding in Asia to supply their sister plants in the region as well as to support demand outside of Asia. Some of these manufacturers are setting up separate Chinese operations, one for domestic Chinese markets and the other for export items. As East Asian economies grow, demand for sophisticated products will also grow. India’s markets are also reaching critical mass and will require local manufacturing capacity.
- Final assembly of components for manufactured products, or at least final configuration, is likely to remain in Eastern Europe for European markets. Some manufacturers continue to make their most advanced products in the original European factories to preserve expertise and intellectual property. These companies will need a just-in-time source of outsourced subassemblies, and Eastern Europe is a logical location for these staging operations.
Also, the European market is complex. Power sources, languages, and label requirements still vary from country to country. The most efficient way to cope with this complexity is to reserve some percentage of total inventory for final customization for European customers.
- Low-value product supply chains provide the entry points for companies in Africa (except South Africa). With an under-developed infrastructure, a perceived lack of skilled labor, and political instability in some countries, African locations have to prove themselves in low risk areas such as consumer goods.
However, the low labor cost and abundant natural resources of Africa are already attracting interest from both advanced economy firms and others (notably Chinese and Indian companies) who are used to operating in less stable environments. For example, Mauritius has become a key location for making garments in the apparel industry that are sold worldwide.

Intraregional differences abound
Business environments and markets also vary within regions and countries. Thus, there is growing movement to open new operations in western China vs. the coastal cities, especially where labor cost is a major concern. In Eastern Europe the movement is from north to south (e.g., Poland to Romania) and may eventually be from west to east (Poland to the Ukraine, Russia, and Turkey).

In Africa, sourcing geography will depend on such factors as political stability and economic development. For example, Kenya is presently seen as a preferred sourcing location for agricultural products. However, there may be migration to Zimbabwe, Nigeria, and Ivory Coast as the situations in those countries improve.  The significant variations from country to country and within countries can be the result of labor differences, material costs and availability, market potential, cultural and religious differences, and levels of corruption. All of these factors were mentioned as criteria for choosing among sourcing locations in developing countries.

As various potential sourcing locations develop, supply chain professionals will need to continuously evaluate when and how to reconfigure supply networks. Global purchasing managers will be expected to act as they gain more intelligence on currently little-known areas such as Africa. Locating and training suppliers in these regions will become part of the supply chain charter. Further, it will be up to supply chain professionals to use research such as ours and others to make optimal use of the resources, human and otherwise, that will become available as the economies of the world continue their progress toward interdependence and development. 
Arnold Maltz, Adegoke Oke, Poul Erik Christiansen, and Fred O. Walumbwa contributed to this article.

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