What are the Obstacles to More Companies Reshoring?

While there is still a debate about how much reshoring is actually taking place, there is no doubt it is happening, especially in the seven tipping-point industries that the Boston Consulting Group  predicted would reshore: transportation goods, appliances and electrical equipment, furniture, plastic and rubber products, machinery, fabricated metal products, and computers and electronics.

 

For example, we've read about General Electric reshoring appliances such as water heaters, washing machines, and refrigerators to a factory in Kentucky, and Caterpillar is opening a new factory in Texas to make excavators. And, yes, even furniture manufacturing is coming back. At the High Point Furniture Show in April 2012, where the Made in America Pavilion housed 50 U.S. manufacturers, Ashley Furniture announced that it was building a new factory in North Carolina. Lincolnton Furniture also announced they had broken ground on a new furniture factory.

 

Earlier this year, Apple's CEO  Tim Cook said the company would invest $100 to build a factory in Texas to assemble Macintosh computers, which would include components made in Illinois and Florida, and rely on equipment produced in Kentucky and Michigan.

 

The results of February 2012 survey from the Boston Consulting Group (BCG), showed that 37 percent of U.S. manufacturers with sales above $1 billion were considering shifting some production from China to the United States, and of the very biggest firms, with sales above $10 billion, 48% were considering reshoring. The factors they pointed to were not only that wages and benefits were rising in China, but the country is also enacting stricter labor laws and experiencing more frequent labor disputes and strikes.

 

According to BCG, pay and benefits for the average Chinese factory worker rose by 10% a year between 2000 and 2005 and speeded up to 19% a year between 2005 and 2010. Wages have been predicted to rise by 60% this year alone after additional strikes.

 

So, we might ask, "Why aren't more companies reshoring? There are three main reasons:

 

  1. Most companies don't conduct a Total Cost of Ownership Analysis when making a decision to outsource manufacturing.
  2. The United States has a high overall cost of manufacturing.
  3. There are still tax incentives to offshore manufacturing.

 

Total Cost of Ownership Analysis


In spite of the fact that I have spoken to hundreds and hundreds of people about the importance of doing a Total Cost of Ownership Analysis since my book came out in 2009, and Harry Moser, founder of the Reshoring Initiative, has spoken to thousands and thousands of people since releasing his free Total Cost of Ownership Estimator™ in 2010, we have only reached a small portion of the people making the decisions about outsourcing.

 

Most manufacturing companies that have sourced and are still sourcing parts and products offshore don't do a Total Cost of Ownership (TCO) analysis. They base their decisions largely on low pieces that are based on cheaper foreign-labor rates and government subsidies by the governments of foreign countries to their manufacturers as part of their country's predatory mercantilist practices.

 

If a company chooses not to practice TCO, it will impact their success or failure in the long run. It would be better if more companies would move forward by utilizing the freely available TCO spreadsheets, such as the one developed by Harry Moser that will allow you to quantity even the hidden costs and risk factors of doing business offshore.

 

After doing a thorough TCO analysis on all of outsourced parts for your products, the next step is to build an integrated team will periodically refine and refresh the analysis. You can even expand the definition of TCO to include the physical length of the entire supply chain and the lead times associated with the entire process.


American manufacturers need to embrace the New Industrial Revolution recently written about in the June 11, 2013 Wall Street Journal by columnist John Koten. He wrote, "Welcome to the New Industrial Revolution ─ a weave of technologies and ideas that are creating a computer-driven manufacturing environment that bears little resemblance to the gritty and grimy shop floors of the past. The revolution threatens to shatter long-standing business models, upend global trade patterns and revive American industry."

 

Koten quotes Michael Idelchik, head of advanced technologies at GE's global research lab, who said, "The future is not going to be about stretched-out global supply chains connected to a web of distant giant factories. It's about small, nimble manufacturing operations using highly sophisticated new tools and new materials."


High Cost of Manufacturing in America

 

While the difference in labor rates between the U. S. and Asia is diminishing, the U. S. has the highest corporate tax rates now after Japan reduced their corporate tax rate last year. In addition, the U. S. has high health care costs that are getting worse instead of better under the Affordable Care Act, and the U. S. has the most stringent environment regulations in the world.

 

In his November 2011 column in Industry Week, Stephen Gold, president and CEO of the Manufacturers Alliance/MAPI,  wrote, "While manufacturers face a host of challenges, the data demonstrate that domestically imposed costs ─ by commission or omission of government ─ further undermine our ability to compete by adding at 20% to the cost of making stuff in the country...The single most significant drag on manufacturing competitiveness is the United States' high corporate tax rate ─an average federal-state statutory rate of 40% that has not changed in decades."

 

According to the second quarter 2013  survey of 317 manufacturers by the National Association of Manufacturers (NAM)/Industry Week, concerns over health care and insurance costs caused by the Affordable Care Act are mounting. Key survey findings include the following: 82.2 percent of manufacturers identified rising health care and insurance costs as their top challenge, an increase from 74.0 percent in the previous survey and 66.9 percent identified the unfavorable business climate due to taxes and regulation as an important challenge.

Other pressures for American manufacturers are revealed by the results of a joint  survey conducted by MSC Industrial Supply Company and Industry Week Custom Research, nearly half (49.3%) of the manufacturing executives polled listed "raw material costs as one of the top market pressures, followed by "attracting and retaining talent" at 36.6%, "competition from countries offering lower costs" at 31.5%, and "expansion into new markets" at 31.0%. To help them be as competitive as possible in the global marketplace, 46% have implemented lean practices, and 26.5% have plans underway to implement lean.

 

Tax Incentives for Offshoring

 

According to an  article in the Houston Chronicle, the U.S. tax code provides the following deductions, offsets, tax credits and incentives to corporations to "offshore" their profits overseas:

 

Tax Havens ─ "The Organization for Economic Cooperation and Development (OECD) defines a tax haven country as one that imposes no or low taxes, does not exchange information about economic activity and lacks economic transparency." Tax havens are used by a majority of the largest American corporations.

 

Offshore Deferral ─ U.S. citizens and corporations are supposed to pay tax on income earned abroad, but "multinational corporations are allowed to "defer" paying income tax on profits made overseas until - or if ever - those profits are repatriated back to the United States." U.S. corporations take advantage of this offshore deferral rule by setting up subsidiaries in lower tax countries. Subsidiaries, even when they are wholly owned by a U.S. parent company, are not subject to U.S. taxation. The deferral clause has been in the tax code for more than half a century and has outlasted numerous reform efforts. A USA Today article states that in April 1961, President Kennedy asked Congress to rewrite tax provisions that "consistently favor United States private investment abroad compared with investment in our own economy."


Profit Shifting ─ A U.S. corporation can also avoid paying taxes on its income by shifting its income to its foreign subsidiary in a practice called profit shifting. "Profit shifting involves an accounting practice of transferring assets, such as intellectual property rights and patents, to subsidiaries in tax haven countries. All royalty income earned from these assets is booked by the foreign subsidiary and so is not subject to U.S. taxation." This practice is particularly prevalent in the pharmaceutical and computer industries; for example, pharmaceutical company Merck made more than $9 billion in profits in 2010 but paid no U.S. taxes.

 

Earnings Stripping ─ Earnings stripping is a practice in which a U.S. parent corporation undergoes a corporate inversion so that its foreign subsidiary in a tax haven country becomes the parent company and the U.S. corporation becomes the subsidiary. This "paper inversion" allows all of the corporation's global income to be booked by its new foreign parent. In addition, the new foreign parent can "loan" money to its U.S. subsidiary. Because it is a debt of the subsidiary, the money is not taxable. What's more, the interest on the "loan" that the subsidiary pays to the foreign parent is tax deductible in the United States for the subsidiary.


The same USA Today  article states, "Corporate lobbyists say that any move to eliminate deferral would have to be packaged with a significant cut in the 35% corporate tax rate...Otherwise, the largest companies, facing an effective tax increase, would have an incentive to switch their legal residence to another country." Obviously, no one would want large American corporations to move totally out of the U. S. so the only way to address this problem is to eliminate these tax loopholes while significantly reducing the corporate tax rates. We are long overdue for comprehensive tax reform for both personal and corporate taxes.

At the "Manufacturing in California - Making California Thrive" economic summit that was held on February 14th in San Diego, attendees voted regulatory reform and a national manufacturing strategy as the top two critical issues to be addressed. A national manufacturing strategy would encompass such issues as corporate taxes, intellectual property protection, trade reform, and other factors adding to the high cost of manufacturing in the U. S. If you have a strategy that supports manufacturing, it will alleviate these other issues. A Manufacturing Task Force was formed after the summit, of which I became chair. We have been visiting the elected representatives in our region to provide them with our Task Force report and make them more aware of the needs of American manufacturers.


Michele Nash-Hoff is President of ElectroFab Sales and Author of Can American Manufacturing be Saved?  Why we should and how we can 
Available at www.savingusmanufacturing.com or www.amazon.com