Hidden Costs of Offshoring

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  • Explain cost of goods sold, for those who have not taken accounting. There are different ways of calculating COGS (first in first out, specific identification, or average cost) which include expenses such as [parts, labor, overhead] raw materials, labor, supplies or additional material, supervision, quality control, use of equipment, and other overhead costs.
  • We will talk about hidden costs in the next slide
  • Traditionally we think of oil prices affecting transportation of the finished good, but globally sourced raw materials must be transported to the production site as well. The price of transporting the raw materials may be more than the actual value of the material.Wage differential in Mexico vs. China: has narrowed significantly. In 2003 Mexican workers made over twice what their Chinese counterparts did; today that gap has narrowed to 1.15
  • $21 freight cost rise, $4 higher oil cost
  • Hidden Costs of Offshoring

    1. 1. Case 3Lauren Perry
    2. 2. A Different Perspective This article, regarding offshoring, posits that hidden costs and changes to expected costs may make it more advantageous for firms to scale back offshoring operations and consider near-shoring.
    3. 3. Why Offshore? Offshoring has become very popular in today’s global economy, especially in certain sectors Most businesspeople are aware of some of the benefits (lower labor costs, primarily) There are also well-known downsides to offshoring (loss of domestic jobs, quality and standards issues)
    4. 4. Accounting Refresher When executives decide whether or not to begin, continue, or scale back offshoring operations, costs must be considered Cost of goods sold Costs are allocated differently
    5. 5. Landed Costs Executives must determine “total landed costs”: the sum of all costs associated with making and delivering products to the point where they produce revenue (i.e. where they are sold). Landed costs include raw materials, carrying inventory, managing product returns, and other hidden charges* These are incorporated into cost of goods sold and total supply chain costs
    6. 6. Hidden Costs In addition to the “normal” costs, when offshoring there are some “hidden” expenses which should be considered and allocated Oil prices (in multiple places in the supply chain)  Example: it costs $100 to ship a ton of iron from Brazil to China—more than the cost of the mineral Wage inflation and a weak dollar  Wage differential in Mexico vs. China
    7. 7. Total Supply Chain Costs Transportation costs, including fuel surcharges Product groups—different product groups incur different costs (customs classifications, volumes, degree of quality controls, size and weight, perishable Customs tariffs, duties, and taxes Inventory (long supply chains increase capital requirements) Time (cash-to-cash cycles) Quality Returns and added product work Allocate technology costs to product groups (international supply chains require two times as much information technology as domestic) Internal controls Selling, general, and administrative expenses (travel time, global communications, outside experts, and even litigation)
    8. 8. Handout: Graphs Handout from Case 3 We will take a look at two graphs which show visually  Wage inflation  Cost of manufacturing The article acknowledges that curves are shifting due to economic fluctuations
    9. 9. Example Total landed cost for midrange server, compared between Asia and U.S. In 2003 would have represented 60% labor savings 36% of these labor savings were offset by freight, shipping-related charges, inventory, product returns Indexed to $100, that gave Asia a $64 landed cost advantage After factoring in higher labor and freight costs the former savings have turned into a $16 burden Labor savings now are only $45 due to wage inflation
    10. 10. Suggestions Article suggests executives think about near-shoring Firms must consider long-term geographic distribution of demand for their products Think about the importance of speed, availability of skilled talent, potential for further productivity gains in Asia, one-time transition costs, local import and tax implications, and organizational interfaces
    11. 11. Conclusion/Opinion Offshoring has obvious benefits and pitfalls Hidden costs Shift from pure cost savings to value Costs and benefits seem to depend on product group The author examines a few points that firms may not have previously given enough weight to. It should be interesting to see how globalization and evolving economies impact offshoring in the future.
    12. 12. Q&A
    13. 13. Discussion QuestionWhat do you think are some additional advantages and disadvantages of near-shoring?Do you think there is anything the authors of this article overlooked or downplayed when making their point?
    14. 14. References Case 3 “Time to Rethink Offshoring?”http://www.ingesfor.com/BA537/Cases/Case%203_1/case%203_1.pdf 10 Tips for Understanding Total Landed and Delivered Costshttp://www.joc.com/2010/10-tips-understanding-total-landed-and-delivered-costs
    15. 15. Thanks for your attention.

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