News Flash! Long Lead Times, Safety Stock, Backorders Etc. All Cost Money

Tom Wallace

Tom Wallace

What goes around comes around. Many years ago, when I was young, people in the Northeast and Midwest were upset because they were losing jobs to the South. Let’s call that Phase 1.

Later, people all over the U.S. were upset because so many jobs were going to Mexico. That’s Phase 2, and it was followed by Phase 3: jobs going to Japan. After that, we saw Phase 4: people in Japan deeply concerned about their jobs going to China.

Now we’re in Phase 5, where the Chinese are worried about jobs going to Southeast Asia and, lo and behold, also to North America: Mexico, Canada, and the U.S. And Phase 6, when it comes, will be – anybody’s guess. What goes around comes around.

I am most definitely not making light of job loss, but rather the reverse.  I feel the current unemployment situation keenly, as our brothers and sisters both biological and otherwise, our friends and neighbors, our former colleagues and co-workers are looking for work and just can’t find anything open. Brutal.

Here’s a tiny bit of good news. The June 15 issue of Business Week ran an article titled: “China’s Eroding Advantage.” The article cites increased costs in China as pushing up their prices and hence decreasing the once sizable advantage tied to the “China Price.” A 2005 study showed that Chinese-made parts were 22% cheaper f.o.b. port of entry. By 2008, this cost advantage decreased to about 5%. I think that qualifies as good news.

Further, as the article points out, North American purchasers today are putting greater emphasis on total purchase cost as opposed to merely the raw purchase price. These additional costs involve such things as:

  • longer and more variable lead times, requiring
  • more safety stock, and causing
  • more stock-outs, less flexibility, and more thus more unhappy customers
  • less assurance over quality
  • more cumbersome engineering changes
  • and on and on

Yes, there is a bit of good news here: manufacturing is starting to come back on shore. We surely need more than that to solve this crushing unemployment problem, but maybe it’s a start.

Winston Churchill said after the Battle of El Alamein in World War II: “This is not the end, nor is it the beginning of the end, but it is perhaps the end of the beginning.” I hope that fits our current situation.

The Institute of Business Forecasting & Planning – IBF and I look forward to your comments and thoughts.

Tom Wallace

4 Responses to News Flash! Long Lead Times, Safety Stock, Backorders Etc. All Cost Money

  1. It seems like being the relative low cost producer is part of the ‘coming out party’ that every 3rd world country goes through. There is a stage in the process where the means of production (the technology, the company leadership and the people resources) are in place at a point before the general population has enough of a taste of the good life to demand higher wages and benefits (which tends to erode any relative cost advantages over time). It’s a temporary advantage and with the velocity of seemingly everything increasing, the window of opportunity will get smaller with every iteration. Perhaps at some point, the window will become so small as to be not even worth taking advantage of. I think that India is the current posterchild for IT outsourcing but is there a future for them on the manufacturing side? And what about Africa and South America? Something tells me that alot more ‘phases’ are in our future.

  2. Bob, we seem to be fairly well aligned on this issue. I’m certainly no expert on India, but my very surface impression is that they may lack the intensity of the Chinese, and before them the Japanese.

    Africa, unfortunately, is anyone’s guess. I surely hope they can start to get things together.

    I don’t see South America in total going through these kinds of phases. The “pareto” countries seem to be Brazil and Argentina, and they’re most definitely not third world.

  3. In my role, I try to identify lowest cost to source locations. While material, labor, transportation, and energy costs are easy to compare site by site, I have a lot of difficulty in trying to quantify the costs involved due to the length and reliability of the supply chain. I guess these comparisons would be easier if I could include working capital costs (maintaining the same customer service level) by site. Fluctuating exchange rates, tariffs, etc.. all make this analysis difficult. We often are willing to accept lower customer service levels when we extend the length of the supply chain but do not consider the costs due to lower service levels. We believe our customers will accept lower service levels to achieve the lower product costs while maintaining the same volumes. Would be interesting to hear a “Best Practices Approach” to this analysis.

  4. Richard, I don’t know about best practices on this issue, but it occurs to me that you could try presenting that customer service/cost trade-off the customers and see what you get back.

    Can anyone give Richard a hand here re Best Practices?

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