Global footprint design – Mastering the rules of international value creation

The Rhineland-Westphalian Technical University (RWTH) in Aachen examines offshoring practices in German industry

• 90 percent of German industrial companies are planning further offshoring in the next five years
• Two thirds of them believe the quality of production abroad is as good as or better than that in Germany
• 13 percent are already transferring complex technical systems, and the number is increasing
• 71 percent of smaller companies (with sales of up to EUR 100 million) will manufacture abroad five years from now
• Four distinct globalization strategies can be identified

The trend for German industry to transfer operations abroad is accelerating. 90 percent of German companies plan to withdraw production capacity from Germany in the next five years. Most of it will go to Eastern Europe or Asia. 67 percent of industrial companies reckon that the quality of production abroad is now as good as or better than what they find in Germany. Fully 13 percent of companies are already moving complex systems and technologically sophisticated components to locations outside Germany. Small and medium-sized enterprises in particular are poised to plunge into a wave of internationalization. 71 percent of companies with annual sales of under EUR 100 million also intend to launch production operations outside Germany within five years. These are the key findings of a study conducted jointly by Roland Berger Strategy Consultants and the Laboratory for Machine Tools and Operational Studies (WZL) at the Rhineland-Westphalian Technical University (RWTH), Aachen.

From February through April 2004, the directors and senior managers of 70 companies in the industrial systems, automotive component supply and electrical engineering industries answered questions in writing and in the context of personal interviews. Around half of the companies surveyed are classed as medium-sized enterprises. Small firms and large corporations accounted for around one quarter each.

Faster internationalization

Most of the respondent companies already have an international footprint. 61 percent have production facilities in North or South America, 56 percent in Asia and 44 percent in Eastern Europe. Only 17 percent still operate solely in Germany - most of them companies with annual sales of under EUR 200 million.

The trend toward offshoring is gathering speed. 90 percent of the companies studied plan to transfer further aspects of production abroad in the next five years. To put this figure into perspective, 69 percent have moved parts of their operations out of Germany in the past decade. Only 10 percent of the respondents have no intention of relocating activities to other countries. Again, 31 percent have refrained from such transfers in the past ten years.

"The quality of offshoring today is different to the numerous transfers to Spain and Portugal that we saw in the 1990s," says Professor Günther Schuh of the RWTH in Aachen. "Today, firms need to realize more sustainable effects."

Foreign locations growing ever more capable

Foreign production facilities are increasingly assimilating the traditional strengths of German locations. 67 percent of the companies surveyed said that the quality of production abroad is as good as or better than that in Germany, for instance. 81 percent say the same thing about delivery times from abroad. 31 percent believe international sites have the edge in terms of productivity too. 94 percent of German industrial companies reckon the cost of materials is lower outside Germany. And all respondents stressed the benefits of lower wages and salaries.

With foreign facilities increasingly ramping up their capabilities, 13 percent of German industrial firms have gone beyond offshoring straightforward products. They are now also shifting more and more complex systems and technologically sophisticated components out of the country.

The proportion of value added by foreign-based corporate units is also rising. Whereas past relocations have focused primarily on production and assembly, more and more German firms are now also transferring their research and development, design and administrative functions abroad.

"The rules of globalization have changed," says Dr. Reinhard Geissbauer, Partner at Roland Berger Strategy Consultants' Engineered Products & High Tech Competence Center. "Transferring labor-intensive production to cut labor costs is no longer the issue. If they want to stay competitive in the long term, German industrial companies have to give their core competencies a global footprint. Which location is best suited to what task is now determined above all by operational and economic criteria, not by tradition or geography."

SMEs follow suit

Attractive conditions in places such as Eastern Europe and Asia are increasingly leading small and medium-sized enterprises (SMEs) too to set up new sites outside their domestic market. This class of company is particularly attracted by Eastern European companies such as Poland and the Czech Republic. 71 percent of those respondent companies that post annual sales of under EUR 100 million plan to build operating plant in Eastern Europe in the next five years. Only 21 percent already have activities in this region.

Eastern Europe and China - the markets of the future

The respondents believe that Germany is losing ground both as a venue for production and as a target market for the sale of industrial products. They identify Eastern Europe and China as the key markets of the future. Industrial output in these economies will double between 2004 and 2008. Eastern Europe combines low wage costs and only slightly lower productivity/quality levels with economic growth and political stability. Accordingly, German companies still use this region essentially as an extended workbench for their production activities.

By contrast, East Asia already offers German industry far more than just low manufacturing costs and good quality. In many cases, products bound for the Chinese market, say, are developed and made there to tailor them to the specific requirements of Asian customers.

Four distinct globalization strategies

German industrial companies are pursuing four distinct globalization strategies:

• "Germany-based value adders" (17 percent) manufacture in Germany and use this as the base from which they serve global customers. Many of these firms produce technology-intensive machinery or operate highly automated, capital-intensive plant.
• "Regional cost-cutters" (22 percent) transfer laborintensive steps in the production process to low-wage regions such as Eastern Europe and Asia. Many companies in the electrical engineering industry operate this strategy.
• "Global market penetrators" (33 percent) serve the world's key markets from local production and sales hubs, primarily in Asia and North and South America. This group is largely made up of automotive component suppliers and firms that make special machinery and industrial systems.
• "Global footprint champions" (28 percent) examine cost and quality criteria to determine the best location for every corporate function. They thus establish an efficient global network and maintain a genuinely global footprint. Special machinery and industrial systems manufacturers apply this strategy, as do automotive component suppliers and electronics firms.