Thinking Space

Current state

Organisations and their respective procurement and contracting departments are constantly looking for ways to reduce costs and improve outcomes to attain a competitive advantage over competitors. One approach is to source good and services from low cost regions. Although not a new technique, in recent years Low Cost County Sourcing (LCCS) has become increasingly entrenched within the overall sourcing strategy, especially with the increased costs of wages and associated goods and services in Australia.

Yet with so much focus on LCCS, many companies still feel that they are not maximising the benefits, with supply risks, lack of internal experience and cultural barriers sighted as primary deterrents.

What is Global Sourcing and Low Cost Country Sourcing?

The term LCCS if often used interchangeably with global sourcing, however they are not necessarily the same thing.  LCCS is in fact a subset of global sourcing where companies take advantage of lower manufacturing / labour costs in overseas markets to reduce the overall sourcing expenditure [1]. These cost savings are achieved by procuring goods and services at a much lower cost than when provided locally, which may be a result of low cost materials, lower wages and overheads and lower tax and / or regulatory requirements.

Aside from price other reasons for engaging in global sourcing can include: improved manufacturing capacity / timeframes, quality of goods, improved customer services and logistics benefits.

Global sourcing was initially developed as a reactive strategy to reduce the threat of increased international competition entering the domestic market, but has evolved and is now predominately used as a proactive strategy to reduce procurement costs [2]. In recent years the use of global sourcing has increased dramatically, with evidence from the World Trade Organisation indicating that growth in global business transactions has outpaced domestic transactions by as much as three times as much since the 1990s [3]. This is little wonder given that purchasing costs can account for up to 60-70% of total expenditure in manufacturing and that LCCS is an effective way to reduce a company’s cost immediately [4].

Risks

Despite the increased usage and cost savings which can be achieved LCCS is not without its drawbacks and risks. Some companies have implemented LCCS without adequate planning and analysis of all cost inputs resulting in greater overall expenditure. Some of these risks include:

  • Increased / unknown logistics costs
  • Duty costs
  • Increased logistics timeframes
  • Material compliance and quality issues
  • Interface issues related to communication or cultural differences
  • Owners team costs for oversight of the manufacturing process / quality assurance / testing

A common reason why these risks occur and companies are unsuccessful in their attempts to source from lower cost regions is their lack of planning. The successful implementation of a LCCS strategy requires a detailed understanding of the overseas market and the complete supply chain and product lifecycle costs, in order to make an informed decision and maximise the overall benefit realised.

Success Factors

Implementation of any LCCS strategy requires experienced resources to develop the strategy, manage the tender process, negotiate the commercial terms and ensure effective contract implementation. Effective contract implementation may include development of the communication infrastructure, production schedule and milestones, milestone payments and, third party inspections.

The successful implementation of a LCCS strategy also requires a longer term focus, as many of the costs are incurred during the establishment phase (i.e. initial quality issues, language barriers, longer manufacturing timeframes for the initial product, imbedding of an owners team to oversee initial manufacturing, ), have the potential to cause an initial spike in purchasing costs before overall savings are realised.  Creating realistic expectations and undertaking proper due diligence is key to effectively planning and managing these risks.

Latest Trends and Developments

International markets are constantly changing, for example, in the last 10 years China’s minimum wage has trebled, with many local provincial governments setting minimum wages even higher than this and many employers willing to pay their workers a premium to retain them [5]. As a result, there is a rise in the utilisation of alternate low cost countries such as Vietnam, Indonesia and Bangladesh. Moving operations to these countries is not without its risks however, with productivity typically lower and lead times longer.

This example demonstrates that there is no one region which is consistently best for LCCS, but rather the choice of sourcing destination is dependent on the specific needs of the company and industry. For example, Eastern Europe performs well in its ability to deliver required stock in the correct quantities when required and to Australian standards, whilst China is known for having capacity to manufacture goods within shorter lead times and deliver high volumes of goods [6].

Key takeaway

LCCS should be an essential part of the supply chain, with companies not taking advantage of low cost regions missing out on opportunities to reduce expenditure while maintaining quality levels. To maximise the benefits of implementing the strategy however it is important that thorough and detailed research is undertaken. It is also fundamental that the procurement practioners are well experienced, to avoid unnecessary and costly mistakes being made.

RESOURCE2SOURCE have delivered LCCS to a range of clients and from different regions globally. If your business is seeking to undertake LCCS, please contact us to support you through this complex process.

References

A copy of the references is available Here

 

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