Sourcing in China for the US Market
By Terri Morgan
Cost factors and other variables: The lowest price may not be from China.
I was recently contacted by a company in the US (let’s call them the Acme Tool Company - not the real name) to source some fine-tolerance tooling in China. This article briefly outlines that engagement and points out some common questions that should be asked. Each company and each situation is different. By asking these and other questions, you can determine the best course of action for your company or your client.
What do you want to buy?
The lead engineer at Acme first contacted me via email to inquire about my services. He was very clear about their needs. He sent me concise specifications and the engineering drawing for the tooling. Acme required a particular type of metal. They also had very fine tolerances for the tooling. It was immediately apparent that they were dealing with very fine grade technologies that would require specialized, high-tech machining.
First, I replied to the email to make sure he was a legitimate buyer. You never know with email. He was legitimate and gave me all the company information. They were a reputable company with a good history. They had an existing supplier. They wanted to see if they could reduce their costs by sourcing from China. I called the engineer to verify their requirements and inquire as to quantities. My initial reading of their requirements was correct. The main difficulty was that they only wanted 200 sets — per year.
How many?
Here is the first problem: Quantity. Acme only wanted to buy 200 sets per year. For most Chinese manufacturers, this is way too small a quantity to even consider. They are accustomed to high volume and large quantity, not small-quantity, high-value jobs. I told the client this small quantity would likely be a problem. The engineer told me the company wanted a long-term relationship with the supplier and once things were running smoothly, would issue a standing PO. That changed the situation a little. Long term relationships in any business are valuable, and in China, a long-term relationship is considered highly valuable. I agreed to make some inquiries.
您有关系吗？Nin you guanxi ma? (Do you have relationships/connections?)
Next, I contacted three of my sources in China. One was a general business contact. One was in a provincial leadership position with a business / trade group. One was in a national leadership position with a metals-related trade group. The first two were not familiar with the type of metal nor did they know of companies with the technology to meet the client specifications. The third gentleman immediately knew the metal and what was being asked. He requested a couple of days to contact several suppliers.
As many of the regular posters here will know, China has developed certain concentrations of trade areas throughout the country. This is similar to but not the same as the SEZs (Special Economic Zones) first created during the 1980’s. These concentration areas are groups of factories, mills, and suppliers which offer similar products. If you want toys, go to Guangzhou or Dongguan. For textiles, go to Shanghai, Hangzhou, Wuxi and the surrounding area. If you want stone or heavy machinery, go to Qingdao, Tianjin, Shenyang, or Harbin. It turns out that the area around Shanghai and Ningbo includes quite several tooling manufacturers.
Meantime, I called to let the engineer at Acme know I would have something for him in a few days. He surprised me by asking about delivery terms. Acme had given their current supplier a standing PO for delivery of 10-15 sets every month. He wanted to know if they could make the same arrangements with the Chinese supplier. I’d already strained my relationship with my source and potentially with the supplier by asking for a small quantity. No one was particularly happy with an order of only 200. If the order had been for 20,000 or 200,000 that would have been quite different. But now, the client wanted to cut that down to 10-15 per month and still expected to get a good price. I warned the client about the quantity problem, but agreed to ask. I also pointed out that he would have a bigger issue: Shipping.
What are the delivery costs?
The second problem was rather a large one: Shipping. For each shipment, the client would have to pay tariffs and shipping costs. Export duty, shipping, and import duty would have to be paid, not to mention the paperwork preparation and oversight needed for each shipment.
When do you need it?
The client had not considered delivery time could be 3-4 weeks or more, not including the production cycle. The finished tooling was small enough it could be sent air freight. With express air, in theory, it might physically require only 3-4 days from factory to the client’s dock. But the client had not considered that exit and entry customs inspections were both going to add time to transit.
What is the price for the goods?
Then, I received an email from my contact in China. He had found two suppliers willing to take the job. He told me it was a challenge finding someone due to the small quantity. Several suppliers were not interested. I reminded him that it was a high-tech project and that there were possibilities for more work in the future. He agreed and said he would help me with the next step: price negotiations.
Because I had arranged for him to contact the suppliers, he had been given a better starting price than I would have received had I contacted them myself and a much better price than the client would have received. Those who know will understand why I’ve qualified this as the starting price. Now we could start the negotiations.
Meantime, I had also contacted a trusted business associate in China. I needed someone who could go to the manufacturer’s location to meet with them. Why?
How will you ensure quality?
Here’s the third problem: Oversight. Without oversight, there’s no way to ensure you are going to get what you paid for. This is true anywhere, but especially in China and more so when starting a new relationship. The Chinese have a saying “the ruler is far away and the mountains are high.” In this case, it wouldn’t be mountains, it would be the Pacific Ocean.
The best way to get things started is to have someone go visit the supplier. This not only provides “face” for the supplier (literally and figuratively), it helps establish “guanxi.” Going forward, the supplier would know we had someone locally who was paying attention. I also wanted my guy to oversee the first order, make sure it met the client’s quality standards, and make sure the client was getting what they paid for. Otherwise, the client might pay for a full order plus all the fees and only be able to use 70% of the shipment. Based on how I found the supplier (through a trusted source), I had every reason to expect they would deliver first-quality. That said, a “trust and verify” strategy is always a good one.
A previous, unrelated project had shown me the need to verify. The supplier for that project (small electronics) had sent the PMO (Project Management Office) a set of samples — with a 30% reject ratio. For samples! Yikes! The same supplier had previously sent the US client an order with a 40% reject ratio and still tried to bill for the full quantity. I’m still not sure why the quality team at the PMO didn’t catch this. I suppose that was why I was there.
What is the underlying value proposition?
So, I went back to the client to let him know what I’d found. At first, he would not tell me the price he had been paying to his current supplier. I pressed him for more information and found out that his current supplier was local, seriously local. The supplier was just down the street from the client. He could drive over with the monthly order in about 15 minutes. If they needed a special order, the local guy could have it done and delivered in a few days. Why did he want to source from China? I wondered.
I pressed him again on price. He wanted a “deliver-to-the-door” price from me. I told him I would need to calculate the duties, shipping costs, and service fees. Those would have to be added to the price I would give him. I needed to make certain he understood the composition. Up to this point, Acme had only been paying for the tooling. If they were going to source from China, they would have to pay for shipping and handling plus export / import duties.
Is the total (price + costs) competitive?
Finally, I had checked the product price, weights, export duties, shipping costs, and import duties. I calculated the administrative costs and came up with a preliminary number. I knew this would not be the final number since there had not been any price negotiations. But at least, it would be a starting point. Surprise! It was also the ending point. When I gave the client the number, he was shocked. “We’ve been paying about half that,” he told me.
Here was the key problem: Price. I reminded the client that if he were buying a larger quantity, he could get a better price per set. I also reminded him that he was paying additional costs which he did not now have. I let him know that this was the starting price and that some negotiations with the supplier were possible, but there was not going to be much room to negotiate on shipping. Tariffs are fixed by the respective governments, there was nothing I could do about them.
In the final analysis, what’s the best business decision?
In the end, Acme decided to continue working with their local guy. It was a good business decision.
Where did Acme go awry?
1. They did not factor in the extra costs (export/import duties, shipping, administrative tasks).
2. They did not consider the extra time and effort (customs clearance, project management).
3. They did not make allowances for the total value proposition (service, location, response time)
4. They were not in need of the economies of scale which China can provide.
Terri Morgan, Wudang Research Association
August 16th, 2008 at 3:53 am
Really informative while long post, Thanks.
Yes, only quantity purchasing can beat down the overhead, or it will be still costly.
August 17th, 2008 at 12:55 pm
You should have listened to your gut at the outset and not wasted your time or your friend’s time on this quote.
I get calls from guys like this all day long. As my partner says, they’re not importing, they’re “shopping from China”. I tell them “if you’re looking for the cheapest price then you’d better go somewhere else.” I have no interest in getting sucked into a race to the bottom. If you ask enough people to quote you’ll ALWAYS find someone who will offer you a cheaper price. But so what? It’s just a number. What difference does it make if they can’t produce the part to spec or deliver on time? This is what so many price-obsessed importers and shoppers from China fail to understand. As a sourcing professional you cannot afford to fall into that same flawed line of thinking.
As a sourcing professional you need to go to the supplier knowing what the China price should be. You either get that information from your client (target price) or you know it from experience. That way, when the supplier quotes too low to try to hook you in, you can tell them they’re price is too low and walk away from a trap.
You shouldn’t have wasted your time and your friend’s time quoting this. Next time you go to your friend for help he’ll be that much less responsive.
Your second mistake was assuming “that this was the starting price and that some negotiations with the supplier were possible”. How can you “negotiate” when you have no leverage whatsoever? You said yourself the volumes are too small and the tolerances too tight. Negotiate? On what basis? Even if the supplier agrees to lower their quote, so what? They’ll certainly find some way to cut corners and make up the difference. You will be left holding the bag when the production doesn’t meet the client’s requirements.
I don’t mean to sound harsh but sourcing is a tough business. You have to learn how to screen out the clients that are going to waste your time. Your opportunity costs are too high.
August 18th, 2008 at 9:06 am
With a quick view in your website and the profil about your company, I have the feeling that the sourcing for technical parts are not the strong point for you and your partner in China.
With this requirement (200pcs/year and 10 to 15pcs each time shippment), I will either forget this business or propose another technologie sucha as soft tooling or high-precision prototype (CNC etc). Another idea could be you make the tooling in China and you have the 200pcs made in once and you keep them as a stock at your risk or the supplier risk or 50% - 50%, then you VMI either in US or in China.
Also I am sure that your contact person in China has added a high profit on the supplier quotation as well as you, so the final one is much higher.
In China, we say also ‘never do the things you are not familar with’.
I don’t mean to blame you, but just remind you that you need some sourcing professional which can give some added-value to your customer.
August 18th, 2008 at 2:20 pm
Hank,
Thank you. I appreciate the insight. Sourcing is a tough business and though your comments are a bit harsh, I take your point. The idea that “you have to try in order to succeed” applies. I didn’t succeed this time, but if I had not tried, I would not have had any chance to succeed.
August 18th, 2008 at 2:37 pm
Huang,
You are so far off the mark it’s remarkable. You should learn to critique without insulting people. Oh, but then, if you follow your own advice, you will never learn anything because you would “never do things you are not familiar with.”
Unlike Hank who seems to be a straight talking businessman and who, while very direct, is clearly trying to be helpful, you are clearly only interested in demeaning me and showing how pretentious you are.
You have perhaps glanced at one or two pages on my primary web site - and you ASSUME you know everything. You could not be more wrong!
You know nothing about my people or me and you have the gall to sit in judgment? Your accusations are unwarrented and unfounded.
You can be 100% certain that if I ever should need help with anything, I would never call you.
August 18th, 2008 at 11:49 pm
Terri,
Good post. This is reality folks. I also source and manufacture new products in China. It takes a lot to ask a company, “why in the world do you want to buy from China?” It’s even tougher when we have the feeling that it may not be economical, based on what Terri went through.
Everyone assumes that prices in China are going to be lower. As a professional, when I tell them it’s possibly not going to be less expensive (when all shipping, duty, customs, etc. are factored in) they somtimes think I don’t know what I’m talking about.
It’s also tough to walk away from business … therein lies our challenge. Hank and Huang both have basic, obvious criticisms … that’s easy to do in this volitile business.
This electronic forum allows us to talk about what projects are, and are not economical to make overseas. We’re all learning, even after 25 years of doing business in China, I learn new things every day.
Tom
August 19th, 2008 at 11:13 pm
Thanks for being a good sport, Terri.
Amen, Tom. I often advise clients who want to develop new products to invest in having the prototype developed here in the U.S., then take the confirmed prototype to China to copy because that’s what China does best. Many assume it’s “too expensive” to fabricate prototypes in the U.S., but the development process is extremely communication-intensive and in the long run, after factoring in time and effort and opportunity costs, it could easily turn out to be MORE costly to try to develop a product in China.
August 20th, 2008 at 3:08 am
Good article - thanks for taking the time to give the detail and the gist. It seems to me that Acme is trying to do a benchmark either to use the information to negotiate with their neighbourly local supplier AND/OR someone in their board/management ask them to “explore the sourcing option in China” (as China and Olympics are hot topics). I think Acme knew that sourcing 200 a month is not realistic from China - so it seems to be me that they don’t really have the intention to do so. Rather just to gain some pricing info or justifcation why it is not realistic to source from China. You certainly seems customer-focused and I hope you charged them for your time and effort.
August 24th, 2008 at 5:46 pm
Hi, Terri, I have said that I have no intention to blame (or insulat) you.
Just some comments from my point of view. Maybe I didn’t expresse correctly. You can forget it if you don”t like it.
Regards
August 26th, 2008 at 4:48 pm
I have been sourcing products and services in China since 2002, with an office in Houston and Shanghai. I deal with these issues on a daily basis and I must say that I have never read a better synopsis than Hank’s. He is spot on in every way. And I think concise, but not harsh. Fantastic feedback from Hank and anyone reading this should thank him for taking the time to state things so clearly.
September 2nd, 2008 at 2:54 pm
Gary, as I’ve ‘only’ been involved with China since the late 1980s, I find it remarkable that so many newcomers like yourself have come such a long way in such a short time in such a difficult market.
Had I not thought I might help others by writing up this case and raising the questions I have, Hank would not have had anything to comment on. Somebody had to start the discussion… And, just for the record, there’s rather a bit more to the “China side” of this story.
By the way, Thanks Tom.
September 2nd, 2008 at 3:26 pm
We integrated Shenzhen Impex Limited started in 2007 from Shenzhen, trading all commodity from China to India and looking for a partnership for future business. Interested please reply
With warm regards
Shyam Kumar
Luhou
Shenzhen
September 2nd, 2008 at 4:25 pm
Terri,
Your right. You have opened up a dialogue that can help many people. Your original article and Hanks contributions add a lot of value to the group. I was just basically cheerleading; trying to be supportive. I am new to the group and loved your article.
Gary
September 9th, 2008 at 10:20 pm
hi Shyam Kumar
my email is ultraclean@hotmail.com and by all means you can send me an email to discuss.
I am currently working on equity lending in and out of china.
and if any one has contacts with in the foreign exchange transfer depts in different regions and there is one in each region would be of assistance
thou my counterparts in china usually have to supply those contacts.
alot of westerns and I am one of them
see this as the new frontier of finance and can open china up to a very interest market.
September 10th, 2008 at 12:14 am
hi terri
I am a bit new to this forum and can’t get to opening the website and huang seems to be able to get to yours so can you tell me how to do it.
might seem like a funny question but for me there is no silly question just the one you don’t ask.
I understand you letter above about trying to assist and I do the same assistance but not ina s formal way and do this thru my network of contacts here in Australia and in china.
Australia is in a very good position to network from and its very good for business.
with regards to working thru these issues I find that alot of people seem to think that china and vietnam are cheap because they should be and this is not the case.
when starting any venture and that includes buy items that venture cost money up front to start and teh price comes down as the economy of scale and the relationship increase.
for me my up front cost can and are huge when looking at venture capital but we look at the overall costs and as the scale increases the costs reduce.
so for your client the main thing I would have been looking at is
number of units and ongoing supply
his current price
his yearly demand and usage
and his lead times and I would want this before making the first call
to any potential overseas company.
as a buyer you would be his agent and as such you need to know this before trying to bu or sell anything
I don’t wish to sound like a preacher here.
I get lots and lots of start up business and investments and they are all done via the same method
and yes nothing ventured nothing gained.
I tghink that china is reaching out to the rest of the world in ways that we have not seen before but as I told a delegation from chna about 3 weeks ago you lead to reach out not as a thief reaches out but as a business person or as friend and work together to get to a goal and that goal is not the cheapest price possible.
in business fare and reasonable does come into play, so does costings but so scale of purchase.
some time ago I did the same as you and this was before they opened the door to the scale they have now
and I was selling sea food out of australia to the chinese market.
and the order was for 100 tons of commercial fish including ribbon fish, Prawns and yabbies and this order was great and we had a chain of fishing assocation ready to fill the order.
when the order hit my fax I nearly fell off my seat
there was one little item in the detail that was missed.
and it was the opposite to your client.
the order was 100 ton per month and we had 1 week to fill it.
and because we had made alot of friends it was smoothed over and no we could not meet the order.
so it taught me a very important lesson
the devil is in the detail.
and now before going anywhere with a clients paperwork or requests
we have to understand the deal down to the colour of the ink on the paperwork.
and I would not do any deal overseas in any country without a local representative as you have no control at all over what you are getting.
but thats just me.
If I can get to look at the website would be good
anyone else here who can answer my question is fine
September 12th, 2008 at 2:59 pm
Lawrence, you tell an interesting story. Indeed, the devil is always in the details.
My site is http://www.wudang.com
September 17th, 2008 at 6:25 pm
Importing from China can make you more profits, but sometimes it really risky when the supplier play nasty. The quality control in China is very neccessary as you mentioned. However, it’s not 100% secure even with a third party inspection company.
The reasons are:
1. The inspection takes place with AQL standard,which only give a general idea on your products, it only a small number of the products that will be inspected. Of coz it’s the most effective way if you have a budget.
2.Some inspection company in China are not qualified, they hire unprofessional people to do the job. I have more than 8 years experiences in Quality Control Industry and i know there are lots company out there hire graduates to do the inspection job,which i believe the job won’t be done properly.
3. Some inspection company,even those BIG NAME, hires freelance to do the job in some remote area. I believe freelance can not perform a good inspection compare with full time inspector.
4. Bribery issue. This is very tricky. Freelance and unprofessional company even do not have policy to rule their inspectors. Can you expected a professional job done when the bribery occures?
The info above provided by Senior Inspector Bruce Wong from http://www.chinainspection360.com
Thanks