Expect opportunity, risk in China's supply chain
James Carbone -- Purchasing, 5/20/2004 2:00:00 AM
For many electronics purchasers, China has become a huge sourcing opportunity as well as a significant challenge. It is an opportunity because the amount of electronic components including passives, connectors, semiconductors and printed circuit boards being made in China continues to grow. For instance, the worldwide electronic connector market grew 11.2% in 2003. However, China led all regions of the world with a 30.6% growth rate, according to connector industry researcher Bishop & Associates.
Many U.S., Japanese and European suppliers have opened factories in China to take advantage of low-cost labor and to support the growing electronics equipment manufacturing industry in Asia. Some component companies have entered into joint ventures with Chinese companies to produce parts.
The growth of component manufacturing in China is the reason that component prices have continued to fall even though unit shipments are rising.
However, while many low-cost components can be sourced in China, there are issues that often can be a thorn in the side to buyers. Product quality from indigenous suppliers is often an issue. Price is often the main concern and component quality takes a back seat.
Counterfeit components continue to be a problem. In some cases components being sold in China are just shells, or sometimes a part may not have the performance requirements that they are supposed to have. In other cases, a part carries the name of a leading manufacturer, but it is in fact a knockoff.
Another challenge is a lack of understanding of how business in the West is done. Western companies often require a supplier to provide a lot of information about its operations before deciding to do business with the vendor. In China, indigenous suppliers are often leery of providing detailed information about their operations.
The issues involved in sourcing in China can be daunting for any size OEM or EMS provider. However, large OEMs are often better able to deal with the issues because they have more resources. Often they have international procurement offices (IPO) to evaluate and manage suppliers.
But purchasers at smaller companies often lack the resources to do the supplier evaluation needed to avoid getting stuck with defective or counterfeit parts. However, there are strategies that any size company can employ to reduce risk when sourcing in China.
Supplier breakdown
To determine what the best strategy is, buyers need to know that there are three categories of electronics suppliers in China, says Karlheinz Totz, senior vice president and chief procurement officer at Celestica, a Toronto-based electronics manufacturing services provider.
"First there is the strategy of a western manufacturer like Motorola or Intel which goes into the low-cost geography and opens up their own plants. That has occurred over the last five years in China and is ongoing," says Totz.
The second category is western component manufacturers that have merged with Chinese companies. For instance, many western chip companies have gone into joint ventures with Taiwanese companies.
The third category is local indigenous suppliers who are building components such as resistors and capacitors, which are often used in locally built equipment.
Celestica's strategy is to not purchase from category three suppliers. "We have stayed away because of the maturity of those suppliers. We use category one and two suppliers," says Totz.
The indigenous suppliers may have the cheapest price for parts but may not have the quality systems that western suppliers do.
Totz says suppliers in China are at different levels concerning their operations. "Some have total manufacturing there but not test. Some have test and manufacturing, but not test development. Some have all of that, but not reliability verification and testing," he says.
Totz says buyers going into China for the first time should know that doing business with Chinese suppliers is different than doing business with North American and European suppliers.
He says in the West there is an openness in dealing with suppliers. "If you have a relationship with a western supplier, anything to do with a product concerning quality is open to you. You can verify it. With category three suppliers in China, they want to know why you want that information," he says.
For instance, if an OEM or EMS provider is considering doing business with a supplier in China and asks for a complete list of equipment at the supplier's facility, the supplier will be reluctant to answer.
"The supplier will say 'we have no relationships with you, we don't have any dealings with you. Why should we tell you?'" says Totz. "We tell them if you want to do business with us in the future, we need to know what type of equipment you have to help us make our sourcing decision," he says.
Totz says having a local supplier engineer who has the same background of the Chinese supplier helps in the gathering of information about the supplier.
"Chinese suppliers have to learn how business is done, how a western company operates. They are going up the learning curve," says Totz.
Buyer beware
Lee Ackerley, vice president of Smith and Associates, a Houston-based independent distributor, says buyers need to do due diligence before buying from a Chinese supplier. Smith buys and sells components in China.
"In China, we send someone out to visit the supplier, which we don't have to do in the states or most of the time in Europe," says Ackerley. "We check their physical presence, including how big the office is, what kind of procedures they have in place. We make sure the vendor is what they say they are."
Smith also does financial and credit checks on the supplier. "Typically it's the other way around. The supplier does the credit checks on the customer. We do it in the Chinese market to make sure the companies have some substance, if there is a problem we are not going to lose our money," says Ackerley.
He adds that quality continues to be a problem and that anyone doing business in China needs to have the right procedures in place to prevent being stuck with defective or counterfeit parts.
"Quality is the biggest issue with buying product," says Ackerley. "We have put systems in place to make sure we buy quality parts."
If Smith buys a product from a distributor or broker in China, it calls the component manufacturer and gives them the part number, lot code and country of origin information about the part.
"We ask, 'Does this match your information?' Most of them are happy to work with us because they don't want their products sullied in the marketplace," says Ackerley. "There are a lot of knockoffs in the Chinese market. It is definitely our experience, and everything that we hear says that China has more problems in that area than anywhere else."
Buyers just getting their feet wet with sourcing in China sometimes use online auction tools and services to help evaluate suppliers and gather information about them.
Freemarkets, Emptoris, and Procuri, among other online sourcing tools, can be used to pre-qualify Chinese suppliers for bidding events.
The tools can also help buyers determine the total cost of ownership in buying from a Chinese supplier rather than just piece price.
"Many customers are coming to us aware that sourcing in China can provide them with a competitive edge," says John Madrid, senior vice president of Procuri. "Even though a product can be made in China cheaper, you have to analyze the transportation cost and leadtimes to see if it translates into a reduced total cost of ownership for the company," he says.
Online tools can help buyers gather more information about suppliers in China and can qualify suppliers to a certain level of acceptance.
In the request for quotation or bidding process, buyers can collaborate with suppliers online. "Buyers can bring a group of suppliers online and ask them questions about their capabilities," says Madrid. Suppliers can be kept anonymous from each other and buyers can discuss their requirements.
"Documents can be sent back and forth during the chat as well," says Madrid.
Many tools allow buyers to look at total cost. "Buyers can evaluate leadtimes coming from China, evaluate duty costs and switching cost from incumbents, relative quality and performance that they would see in using Chinese suppliers and determine what their optimum award scenario would be," says Madrid.
Such analysis will become more important in the next few years because the Chinese electronics supply base will continue to grow as will the sourcing opportunities for buyers.
"There is so much production and sources of supply for everything in China," says Ackerley. "The companies that are price sensitive all have factories there. It's a great place to source, but you have to be careful."
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