Businesses in all industries and markets have felt the impact of the recent contraction in the global economy. One strategy enterprises are using to position themselves for supply management success is to expand their strategic scope beyond familiar shores to capitalize on growing opportunities abroad through Low Cost Country Sourcing (LCCS).
Low Cost Country Sourcing has grown in popularity within businesses' management directives as an effective strategy to reduce costs across the supply chain. Although the slowdown in global spending had shrunk international trade, the flow of goods and services has begun to recover – supported further by unscathed free trade agreements and trade zones.
LCCS Risk & Mitigation Strategies
As the Mattel recall of lead-painted products and the more recent Chinese manufactured drywall controversy have shown, the cost benefits from LCCS initiatives are not without their risks and pitfalls. Defective products cost companies millions and more importantly can also damage their reputation and competitiveness in the marketplace. Lacking oversight, ongoing risk mitigation and due diligence strategy, the upfront savings were grossly outweighed by the future costs of poor LCCS execution. Overseas transportation, currency fluctuations and import duties can quickly erode the benefits of lower production costs and labor rates. Furthermore, LCCS introduces new complex risk factors which vary depending on the category and country in question. Some of the risks are as follows:
1. Regional Risk & Mitigation Strategy
The first risk factors that must be considered and analyzed effectively are those originating from the low cost countries and/or regions offering the product or service of interest. Unlike more industrialized nations, low cost regions tend to have more volatile economies displayed through their key macroeconomic indicators such as unemployment, inflation and industrial production. Fluctuations in these indices tend to be more pronounced during periods of business cycle growth or contraction.
2. Regulatory Risk & Mitigation Strategy
The international processes which need to be in place for any LCCS initiative require an understanding of the existing regulatory frameworks and their potential impact on the target product or service. The country's multilateral trade policies and relationships such as quotas, prohibitive tariffs or other regulatory red tape must be understood completely because they play a critical role in the area of LCCS. Similarly, standard duties will add a percentage-based cost which must be factored into the total cost of ownership for any imported goods as they can significantly impact savings projections. Conversely, an absence of governmental oversight can be a source of risk and a lack of local standards control can lead to costly and damaging consequences. An understanding of international policy trends and more specifically the United States trade-related regulations will diminish risks in this particular area.
3. Firm Risk & Mitigation Strategy
The United States has well established mechanisms in place to verify most firms' financial and performance metrics through credit rating agencies and external auditors. Developed regions also benefit from mature debt and equity markets which provide companies with financing structures that inevitably place them under the scrutiny of a reputable third party. However, such verification tools and resources may not be readily available to verify LCCS resources, further complicating the standard due diligence procedure. As discussed, developing regions have more profound economic growth and contraction cycles – the latter of which can wreak havoc on low cost country's firms' sustainability. More troubling, some emerging markets lack efficient bankruptcy procedures which can lead to costly supply chain disruptions if the restructuring process lags significantly or the firm is shut down completely. Low Cost Country Sourcing
4. Product Risk & Mitigation Strategy
The next critical risk area lies in the production process and resulting output as LCC suppliers may have unique technologies along with their own regional standards of classification. As such, the functionality and nuances in other areas of the world may follow separate standards affecting their viability within a LCCS context. Similarly, regional terminology and measurement miscommunications can have dire consequences for any sourcing initiative. Through a well-organized and comprehensive evaluation process, a procurement team will be able to minimize these risk factors to ensure an optimal LCCS result. By fully understanding language and definition standards complemented by effective communication, the chances for costly misunderstandings can be reduced.
5. Logistical Risk & Mitigation Strategy
From a transportation perspective, the majority of physical goods will be moved via ocean freight to reach one's production line, plants or other facilities. This additional layer of complexity increased risk of loss and/or lead time delays to and from the ports of departure and entrance. Given the volume of global trade, the busiest hubs can have significant off and on loading delays due to the sheer shipment volume they must accommodate and process. In addition to costs from time lags, this new level of logistical sophistication will increase the probability of transit loss or damage resulting in supply shocks. Moreover, in crossing greater territory, ocean freight exposes import goods to more diverse climates with potential natural disasters such as hurricanes or other storms depending on the route.
LCCS Strategies for Success
Given the aforementioned complex risk factors, an effectual strategy necessitates consistent due diligence and commitment of resources. As such, implementing a successful LCCS program requires upfront management commitment and a clearly outlined company vision for LCCS. Some of the preparation steps are:
Necessary Objectives for LCCS Successes
• Articulating goals from LCCS with clear milestones and timeliness
• Obtaining management commitment up-front
• Identifying an internal team and LCCS Key Performance Indicators (KPI’s)
• Demonstrating initial success with quick-wins and building internal support
• Tapping into the right level of expertise, potential options being:
• Establishing full-time internal positions for LCCS
• Partnering with local company in the low cost country
• Establishing an Internal Procurement Office (IPO) in the low cost country
• Partnering with a LCCS expert in the supply chain domain
Once a company-wide LCCS strategy has been defined with clear objectives and resource commitments – whether in-house or from an external partner – project-specific LCCS implementation can be initiated (Figure 1- go to whitepaper for more details )
Conclusions: LCCS Looking Forward
Low Cost Country Sourcing has undergone a marked transition in the recent years. By off-shoring supply base, the value-add of international suppliers was generally limited to their lower labor rates and cost of operations. Presently, LCCS has expanded its scope to include a wide gamut of inputs from direct raw materials to increasingly complex and critical goods and services. In the current recessionary environment, emerging market countries have become the first to return to growth and will be a driving force in the recovery of economic activity.
Such an outlook for global development makes Low Cost Country Sourcing all the more imperative as a critical resource for companies to shift future growth and market strategies globally. Firstly, the synergies are clear as the research, due diligence and regional familiarity gleaned from LCCS processes provide a firm foundation to leverage opportunities within these markets. As a business develops knowledge capital in these areas, it is only natural that they will be well-positioned to apply such expertise to venture into these proverbial “uncharted seas.”