Mexico: A Better Choice than China?

Many U.S. companies forget to consider alternatives, including El Pequeno Kahuna—Mexico, points out Hal Sirkin

By Harold L. Sirkin

The question doesn't really matter, but the answer for U.S. manufacturers always seems to be the same: China.

With good reason. China has a huge, low-cost, underutilized, and eager workforce unencumbered by outdated unions, labor laws, and expensive government mandates and regulations. China has a strong supply network that is getting better all the time. China understands the value of infrastructure and is investing heavily in it. National and provincial governments want to help business succeed, not tie its hands.

All this points to China as the wave of the future. But that doesn't mean China is the only option for manufacturers—nor is it always the best one.

There are many other low-cost manufacturing alternatives: Brazil, India, Thailand, and Vietnam, to name some. Closer to home lies America's third-largest trading partner, Mexico. If distant China is the Big Kahuna of low-cost manufacturing and sourcing, Mexico should be seen as El Pequeno Kahuna.

Mexico is growing more competitive

As noted in a 2008 Boston Consulting Group report, Mexico's Evolving Sweet Spot in the Globalization Landscape, the cost difference between low-wage Mexico and lower-wage China has been narrowing. In 1996, Chinese labor cost about one-third of Mexican labor. Today, Chinese labor costs are about half of Mexico's—$1.69 per hour, on average, in 2007, compared to $3.46 per hour, according to the International Labor Organization (ILO). In another year or two, according to estimates, hiring a Chinese worker will cost about 85% of what it costs to hire a Mexican worker.

A big reason for the narrowing gap is the fact that Mexico has already absorbed the rapid increase in manufacturing wages that are just starting to hit China and other developing economies. The shrinking labor-cost advantage, coupled with the devaluation of the Mexican peso in the past year, is making Mexico even more competitive.

Moreover, wage and exchange rates are not the only factors managers need to weigh. There's also the cost of transoceanic shipping and the inherent risks of a long-distance supply chain. When these and other factors are taken into account, Mexico often looks better.

The fact that Mexico is our neighbor means a company often can place an order one or two weeks before delivery is needed, rather than four to six weeks in advance, as is typically necessary when sourcing from China. In times like these, when demand can fluctuate wildly, the ability to respond quickly to changing market conditions can be critical.

shipping savings exceed labor edge

Mexico's proximity to the U.S. also means less dependence on America's crowded ports. It's also faster and cheaper to move heavy products relatively short distances by truck than to do it over thousands of miles by ship, and then further by rail, truck, or both. As Mexico's Evolving Sweet Spot noted, "…in the case of a refrigerator—a very bulky product—manufactured in a low-cost Asian country and sold in the U.S. for $500, the cost of shipping represents up to $100 of the price tag, or 20%. Shipping it from Mexico would cost less than half that amount."

If assembling each refrigerator takes four man-hours, a manufacturer would save just over $7 in labor costs per unit by manufacturing in China. If the company can save over $50 in transportation costs by manufacturing in Mexico, while paying seven or eight dollars more in labor, the advantage goes to Mexico, with net savings in excess of $40 per unit.

Without a supply base, manufacturing can't be shifted to Mexico any more than it can be to China or elsewhere, but Mexico is taking care of that. For example, many of the world's top manufacturers of industrial, commercial, and home refrigeration, heating, and air-conditioning equipment have formed an industry "cluster" to attract a supply base in and around Monterrey, in northern Mexico. The cluster grew by 9% in 2007.