To understand why the coronavirus has had such a profound impact on global supply chains and the world economy, look no further than how reliant technology companies have become on Chinese manufacturers.
The technology sector has become much more reliant on China over the past 20 years.
Nearly 20 years ago, during the SARS epidemic, China’s economy was much different and less interconnected to the world economy, supplying mainly textiles, clothing and shoes on a global basis.
Today, a technologically advanced China is an economic powerhouse, producing chips, semiconductors, smartphones and hardware that account for 21% of global IT hardware expenditures. And the impact of the coronavirus has consequently become much more pronounced.
Smartphones, chips and memory
Apple is the most prominent example of technology companies’ dependence on China’s economy and manufacturing facilities. The discussion around the coronavirus has been woven throughout recent Apple filings, more than any other company. Supply in memory chips, DRAM (dynamic RAM chips used in PCs, work stations and servers) and NAND storage (solid state flash memory) is expected to decline because of factory shutdowns.
In the past, Apple, along with other smartphone and hardware companies, gained significant advantages in scale and a reduction in the cost of goods by concentrating its manufacturing in China. China also became a major market for Apple, accounting for nearly 17% of its revenue.
But the coronavirus has underscored what many analysts have been saying about Apple — that it needs to decrease its reliance on China. Apple took the rare step in announcing cuts within its revenue forecast because of supply chain constraints and the temporary closure of its 42 stores in China in February.
Not only has the epidemic already cost Apple an estimated $200 million in lost sales, but factory shutdowns by its major supplier Foxconn will also disrupt Apple’s global supply chain. Foxconn’s largest iPhone assembly site is 300 miles from Wuhan, the epicenter of the coronavirus, and a 10-day production delay is expected to reduce iPhone shipments by 5% to 10% in the quarter.
China is not the only country experiencing significant impact in production. With more than 7,500 cases, South Korea has become the third-largest epicenter of the virus, and is experiencing significant declines in production.
South Korea also produces intermediate goods that go within hardware devices, such as solid-state drives, memory chips and semiconductors. A slowdown in manufacturing could further hinder the assembly of finished goods.
The evolving workplace
Travel restrictions and canceled conferences are creating large strains on the overall travel and hospitality sectors. But with more people working from home, companies that focus on this shift are benefiting.
A good example is Zoom, the videoconferencing unicorn whose stock has soared nearly 85% as the coronavirus as spread. Zoom had an impressive initial public offering in April 2019, opening at $36 per share and settling in at $62 on that day, and has since crossed $100 per share.
Diversify, diversify
Along with allowing employees to work from home, companies also need to rethink their supply chains. Not unlike managing a 401k financial portfolio, they need to diversify their risks — in this case, by spreading their supply chain across several countries.
This was already happening before the virus outbreak. The imposition of tariffs against Chinese exports in 2018 spurred many technology companies to look beyond China for new supply sources, despite the short-term impact on earnings or operations.
Samsung and Ericsson, for example, have already seen benefits by shifting their global supply chains to neighboring countries in Southeast Asia because of escalating tariffs and the trade war. In fact, U.S. trade in goods rose faster with Vietnam than with any of its largest trading partners. Trade with China has fallen most rapidly, contributing to a narrowing trade deficit between the United States and China. The U.S. deficit in goods with China decreased 17.6% in 2019, to $345.6 billion, its lowest level since 2014.
What are the options?
U.S.-based technology companies should evaluate the costs, risk exposure, broad corporate principles and financial incentives when considering the consolidation or diversification of a supply chain.
Look to automation: Automation and advanced, affordable robotics have enabled countries in both North America and Southeast Asia to close the gap in labor production cost and output significantly and can be a viable option for enterprises looking to diversify supply chains away from China.
Bring it back home: Corporate strategy and a growing focus on environmental, social and governance initiatives, or ESG, have driven some enterprises to consider re-shoring some of their manufacturing back to North America, closer to their customers. Examples of this can been seen across the industry, with companies committing to manufacturing some of their products in the U.S. This will enable them to more closely monitor and achieve progress toward both environmental and social metrics.
Do it gradually: Making a shift in an established proven supply chain is not simple; it requires an investment and takes time. When considering shifting or diversifying a supply chain, companies should look for opportunities to either move a percentage of a process or product into a new geography. Over time, companies can evaluate the viability and risk associated with the move, without much impact to output or productivity.
Lift and shift: As an alternative to slowly relocating the supply chain, companies may look to lift and shift the entire supply chain into a new geography. This move may prove to be more costly up front, but it holds the possibility of greater returns as the new supply chain matures. At the same time, it carries greater risk, given the impact that an unsuccessful relocation could have out on output.
The takeaway
In the end, careful consideration is key with any decision to shift a supply chain. But one thing is certain: A detailed understanding of the reliance on a sole producer or singular risk to one country or region could prove to be a costly mistake in a time of heightened global economic uncertainty.
