I have just finished reading an article in a local paper that said “Made in China” no longer means what it did in the past, that is, cheap, low-quality products. The article argued that as China’s middle class has expanded and wages have risen, cheap products – in terms of costs and quality – are becoming scarce. Whereas the article is correct in that the quality of products from China has continually improved, the issue of “Made in China” is an intricate and complicated picture. There is a Chinese saying, yi fen qian, yi fen huo, i.e., the more you pay, the better quality you will get. This month, we outline a few procurement issues to be aware of.
Complexity in the categories of items to be procured: Although China is known as the “factory of the world,” not every factory/company can produce an unlimited set of products. This means if one is purchasing a gamut of products or product series, one may have to deal with multiple manufacturers. Depending on the type of item to be procured, the manufacturers may vary in size, capacity, geographic location, level of internationalization etc., which adds to the complexity of procurement.
CAMAL recently worked on a project to procure different types of steel casings. The client’s requirements were so diverse that it was practically impossible to find one manufacturing plant that produced all items. The result was that we chose to work with the largest plant, which in turn subcontracted other parts to other plants. We negotiated for a contract where all the quality assurance work was to be done at the large plant (along with an international third-party testing agency) with the final responsibility for quality issues being the main supplier’s.
This type of procurement where one supplier plays the lead role can reduce complexity and costs/time in due diligence work and consolidate risk and responsibility. The downside is that the final invoice price may be higher than the individual suppliers’, but this may be outweighed by reduction of transaction costs.
Specialization of suppliers: Specialization in China attains levels that would make Adam Smith, the Scottish economist who regarded increasing division of labor as the key to prosperity and proud. There are factories, companies and even towns dedicated to producing a single component that may end up being used in only one product in one industry in one sub-sector. This is a double-edged sword for procurement. If one is to procure the single component, identifying the right partner may ensure unlimited access to the component and ensure attractive cost savings. On the other hand, it also increases the complexity, particularly if one is not present in China and not an expert in the local industry, as finding the right factory requires a lot of research and ground work.
Number of suppliers: Given the massive size of the “world’s factory,” suppliers of a given product are in the range of hundreds to thousands, which increases the complexity of narrowing down a legitimate and reputable supplier.
A client recently wanted to procure a crushing machine for mineral processing. Our initial research indicated there were over 2,500 companies that could produce the product and these were spread over at least six key manufacturing bases. Also, the 2,500 included traders, manufacturers, assemblers and briefcase companies. With the aid of desk research, supplier visits and primary research by industry experts, we were able to narrow down the key companies to about 10. It is still a very high figure, once again underscoring China’s specialization in manufacturing
Finally, one key issue to consider when procuring from China is whether or not to use trading companies. Traders are essentially a black box linking the manufacturer and the buyer, and at times, there could be multiple parties in between a transaction. Once again, the appropriateness will depend on the type of procurement required, time constraints and budget allocations. A trader can be an effective solution in reducing the complexity, especially in dealing with all the sub-contractors. However, traders’ markups can be extremely high; and even then, some traders may be unwilling to carry the manufacturing risk on their books. So in China, finding the right trader may entail some research. But they can be a beneficial partner down the line.
This article originally appeared in the Chinafrica Magazine, Made in China: Still a Complex Scenario