I used to be the corporate controller for the largest (at the time) disk drive manufacturing company in the world. It was called Shugart Associates (yes, that would be Al Shugart). We made all our products in Sunnyvale and never had any issues getting good quality labor to make them. We were growing at 100% year over year when we were acquired by Xerox (but that’s another story) and continued to grow very rapidly after the acquisition. Soon after we were acquired, our parent company asked us how we were going to reduce manufacturing costs and be competitive on a worldwide basis. At the time our market share was over 50% and we were driving costs down per our 80% learning curve model. But, you listen to what your parent company says and we started a program to see what we could do to reduce costs.
To make a very long story short, the answer was we needed to offshore production to “reduce our bill of material costs”. Not to save labor; although we would save a lot of money on that too. It was the fact that over 80% of our production costs were contained in our bill of material and less than 20% labor and direct labor overhead. The study concluded that Asia would be the best place to go for these cost savings, but, the company went with Mexico to shorten the time and distance between the plant and the headquarters office. This happened in the early 1980’s and Silicon Valley companies have been offshoring production ever since then. Shugart Associates wasn’t the first company to do this, but the reason was the same: A lower bill of material could be found offshore.
One other reason that was just a footnote then but is getting the most press now was the ability to get a “tax holiday” from the Asian countries we moved our production plants to. When you are looking at state and federal tax rates in the 30% to 40% range, deferring your tax payments on earnings is a significant thing. As long as the company doesn’t pay dividends to the US corporation and can show the earnings are being reinvested, the tax may be deferred indefinitely. There is a real three-fold reason to offshore production: Lower labor rates, lower bill of material costs and an indefinite deferral of corporate income taxes. One other significant reason for offshoring is the assistance provided by the Asian countries to acquire and build factories at very low costs, reduced environmental regulations, health and safety regulations and very business friendly perks for doing business in Asia. Plus, ex-pats live like Kings and Queens in some of these locations. It makes things a whole lot better than visiting the plant in Mississippi.
US corporations save over $100 billion a year in direct labor costs from offshoring production (on 2.4 million jobs transferred from the USA.) On a worldwide basis, corporations have accumulated over $20 trillion in deferred tax benefits as well. It’s good business to do what these corporations have done. Shugart Associate made the correct decision to move production offshore, but choose the wrong place to go – - – - Mexico didn’t offer the same bill of material savings as Asia and labor rates became too high when compared to Asia. The companies that offshore production are just following the incentives that are offered to them.
We have one of the most productive workforces on the Planet and we have at least ten million of them available for work. The question is what do we do to tilt the rules towards bringing back the manufacturing and assembly jobs to the USA? Why couldn’t Apple make iPads in Fresno or Nike’s in Denver? Would a zero income tax rate do it? My guess is it wouldn’t, but what do you think needs to be done?
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