China as a global manufacturer powerhouse: A strategy that once worked well, but needs to be thought-through.
LYON, France — China’s manufacturing plants have resumed work, but it is far from business as usual. Will it ever be? Will China be able to remove the stigmata of the vicious Covid-19, and achieve full recovery any time soon?
With analysts on the ground in Asia, market research firm Yole Développement has a clear understanding of the supply chain disruptions triggered by the coronavirus outbreak.
On a visit at its headquarters in Lyon, EE Times had a discussion with Yole’s president and CEO Jean-Christophe Eloy. Given the potential risks, diversifying the supply chain is no longer an option, it is a primary necessity.
This wasn’t predicted
February 10th marked the first working day in most parts of China after the Lunar New Year holiday had been extended. STMicroelectronics resumed production at its Shenzhen plant, Airbus restarted operations at its Tianjin final assembly line, and Foxconn partially restarted production at its Zhengzhou plant.
Factories may rumble back into action, but companies continue to face labor shortages. “This is particularly affecting the electronics manufacturing services (EMS) companies, compared to the front-end manufacturing where there is a lot of automation,” said Eloy.
A second factor is slowing China’s efforts to revive the economy, one that was not forecasted, Eloy said. To contain the spread of the epidemic, the Chinese government has taken strict measures. Hubei province has remained sealed off for almost a month, restricting the movement of more than 50 million people. Roads are blocked. Airports are closed. Railway stations are shut down.
“That means the supply chain is broken, not because nobody is manufacturing, but because components are not moving from one part of China to the other,” said Eloy. “Nobody and nothing is moving.”
Companies anticipated that production would be severed in some parts of China and started to define alternative plans. However, they did not predict that transportation would be at a standstill for so long. “Even if plants are working, products can’t be shipped to the next level of the supply chain.”
In a well-oiled procurement management plan, system companies receive and assemble all the components that go inside their systems. Just a grain of sand in the machine, and it gets blocked. Just one missing part in the supply chain, and system companies can’t deliver. “It takes time to get all parts back on track, much more time than the workers coming back to the factories,” said Eloy. “All the supply chain has to be up and running to be able to restart, and when you have 200 suppliers across China, it is a huge problem. Even if the factories are able to produce, they are not delivering, and from what I have seen and heard from our customers, this was not planned as a risk management.”
Unblocking the situation and having the supply chain back on track, however, would not take very long, said Eloy. One month, or a month-and-a-half at the most, “because everybody will be pushing and rushing in that sense.” Once the Chinese government has decided to lift all the barriers to road, rail and air transportation, “it could go fast.”
To accelerate economic recovery, China’s central bank has recently lowered its benchmark lending rates for companies and injected liquidity into the financial system. Similarly, Eloy assumed, “if the Chinese government allows companies to work 6 or 7 days a week and to postpone all weekends, they will do it.” There is simply too much at stake.
Worldwide importers have, however, started to scramble for alternatives.
It will never come back
The U.S.-China trade war had prompted a debate over whether China should remain the manufacturing capital of the world. Multinationals, along with Chinese companies themselves, already started to take actions to move some of their production from China to other Asian countries. The coronavirus outbreak has accelerated the trend even further.
“The flow of investments in Vietnam and South-East Asia has been incredible for the past months,” said Eloy. Noting that none of them is a minor investment, he said that once the production in China shifted to other Asian countries, “It [production] will never come back.”
More than ever, diversification means securing supply chains. “It is a way to avoid putting all eggs in one basket,” said Eloy. “If there is a problem in China, you have plants in Malaysia, in Vietnam or in Taiwan to maintain production.” Concentrating all manufacturing activities in one place — just like Foxconn, which has hundreds of thousands of employees at its Shenzhen plant — makes little sense because it increases the risk of paralysis. What can Foxconn do now, but produce masks to respond to local government’s prevention implementation guidelines and reserve half of its daily production capacity for its workforce?
Memories of the SARS epidemic, which infected more than 8,000 people and killed 774 people between November 2002 and July 2003, are indeed still fresh and painful around the world. The new Coronavirus has revived global economic fears and posed concern about risks that China may be facing similar crisis in the future.
All companies must come up with a Plan B or an alternative to maintain production. “After all, this is China,” said Eloy. Covid-19 “won’t be the last virus epidemic” that originates in China.
Fundamentally, diversifying the supply chain means developing new standalone supply systems outside China. The key is “to have a supply chain that avoids China and the supply chain totally inside China,” Eloy advised. And the required investment to move plants to Vietnam or other parts of the world is so substantial that these production clusters will never come back to China. Eloy implied that China could lose its manufacturing lead.
There will be no collapse
Hard-to-miss news was Apple’s warning to investors last week that it would no longer meet its quarterly revenue projections due to production delays and weaker demand in China. Apple stock immediately dropped by 1.8 percent to $319 per share, but most likely it will not stay down for long.
“They admitted they had a problem, which will likely be fixed in the next quarter or within two quarters,” Eloy analyzed. The $1.4 trillion group has the necessary cash to overcome the slowdown.
What is true for Apple and other large corporations may not be true for others. Companies with limited cash flow or heavy loans to pay will inevitably face difficulties, said Eloy.
Another disparity exists between companies willing to diversify their supply chain and those trying to diversify their customer base. If Apple or Texas Instruments ask the EMS companies to have their manufacturing plants in Vietnam, they will do it, Eloy indicated. They could even support them by funding. However, “if you have names like Huawei and Xiaomi in your customer base, you can’t find alternatives and have to have enough cash to wait for the restart of the market.” Changing the supply chain is the simplest part. Diversifying its customer base is much trickier and it takes more time.
Eloy said he is confident there will be no collapse of the market. It’s because the financial market knows what caused the current chaos (Covid-19), and eventually “there will be an end to this crisis.”