Last month we discussed
“re-shoring” along with the associated risks and rewards. Now we will discuss the advantages and disadvantages of “nearshoring” to help you decide if it's the most suitable out of the
shoring options. Let’s first take a look at what "nearshoring" is:
What Is Nearshoring?
Nearshoring mostly, though not exclusively, is used in the context of North America or Europe. In North America, nearshoring means sending production to Mexico or, to a lesser extent, Central America. In the European context, it means moving production from Western European countries to Central or Eastern European usually, though not exclusively, within the European Union.
Key Terminology to Note
Nearshoring: the practice of transferring a business operation that was moved overseas to a country in the same region from which it was originally relocated.
Re-shoring: the practice of transferring a business operation that was moved overseas back to the country from which it was originally relocated.
Offshoring: the practice of transferring a business operation to another, typically lower-cost country.
Outsourcing: The business practice of transferring a business operation to an external organization.
This article will focus on nearshoring either through finding a new supplier in a nearby country or creating a new facility in another country. As I mentioned in the previous blogs, there will be different costs and benefits depending on the setup. However, for the purposes of this blog, we are treating them the same.
Advantages of Nearshoring
Here are three advantages of nearshoring:
1. Labor rates are relatively low
Labor rates are cheaper than in the home country. Mexican labor is half of the US minimum wage of $7.25 and about a fourth of the average industrial worker's salary of $15.70. Similarly, wages in Poland and Romania are considerably lower than those in Germany and Italy.
2. The ability to establish concrete supply chains
Many nearshoring companies have well-developed supply chains due to their close interactions with their wealthier neighbors which
mitigates supply chain risks. Around $700B in trade crosses over the US-Mexican border every year and Mexico has a well-developed industrial sector, especially in the northern part of the country. Billions of dollars of goods travel between EU countries daily. To understand the extent of this trade, one only needs to look at the supply chain backups caused by Brexit. The reason for this is not only the proximity of the countries but the free trade zones established. NAFTA and the EU both facilitate mostly tariff-free trade and simplify cross-border movement. In the EU especially, crossing borders is more or less the same as traveling between states in the United States.
3. Time zone & travel times
Another advantage is operating in the same or close to the same time zone and quick travel times. This may seem small but anyone who has traveled regularly between North America and Asia or had conference calls can attest to the difficulty of 12-hour time differences and 12+ hour flights.
Disadvantages of Nearshoring
However, as with any other change, there are bound to be disadvantages of nearshoring:
1. Higher transportation costs
In the
Mexican manufacturing landscape, overall costs are cheaper, transportation costs are higher and, until recently, Mexican labor is still more expensive than Chinese labor. There are the costs of raw materials some of which need to be
imported from the very countries that nearshoring is trying to get away from. There is also a high turnover cost (though this is shared in China). It is not uncommon for Mexican factories to have turnover rates of 20% per month. High turnover has a strong impact on productivity.
2. Political risks and concerns
There are greater risks on the political front, especially in Mexico and Central America. Both areas have very high crime rates and serious problems with corruption. Just like China, they can bear the brunt of domestic political concerns. For example, Texas Governor Greg Abbot’s recent actions cost companies $1 billion a week. These events happen with some frequency. Russia’s invasion of Ukraine has made companies skittish about further involvement with neighboring EU members.
3. Strong dependence on currency fluctuations
The currency fluctuations are also an element to consider. A stronger US dollar makes Mexican goods a better deal. Having the Euro in Eastern European countries is helpful at times, but it also raises price levels in those countries higher than they would be if they had their own currencies and makes them somewhat less competitive.
The Bottom Line
Nearshoring has many advantages, but before making that move, it is vital to compare your company’s specific needs and costs to each potential location.
MTG is committed to providing you with the latest quality content and insights; read our 'Understanding Shoring' blog series to learn about each type of shoring.
