The Strategic Role of a Foreign Production Site
LEARNING OBJECTIVE 3
Recognize how the role of foreign subsidiaries in production can be enhanced over time as they accumulate knowledge.
Whatever the rationale behind establishing a foreign production facility, the strategic role of foreign sites can evolve over time.20 Initially, many foreign sites are established where labor costs are low. Typically, their strategic role is to produce labor-intensive products at as low a cost as possible. For example, beginning in the 1970s, many U.S. firms in the computer and telecommunication equipment businesses established factories across Southeast Asia to manufacture electronic components, such as circuit boards and semiconductors, at the lowest possible cost. They located their factories in countries such as Malaysia, Thailand, and Singapore precisely because each of these countries offered an attractive combination of low labor costs, adequate infrastructure, and a favorable tax and trade regime. Initially, the components produced by these factories were designed elsewhere and the final product was assembled elsewhere. Over time, however, the strategic role of some of these factories has expanded; they have become important centers for the design and final assembly of products for the global marketplace. For example, Hewlett-Packard’s operation in Singapore was established as a low-cost location for the production of circuit boards, but the facility has become the center for the design and final assembly of portable ink-jet printers for the global marketplace (see the accompanying Management Focus).
Such upward migration in the strategic role of foreign production sites arises because many foreign sites upgrade their own capabilities.21 This improvement comes from two sources. First, pressure from the center to improve a site’s cost structure and/or customize a product to the demands of consumers in a particular nation can start a chain of events that ultimately leads to development of additional capabilities at that factory. For example, to meet centrally mandated directions to drive down costs, engineers at HP’s Singapore factory argued that they needed to redesign products so they could be manufactured at a lower cost. This led to the establishment of a design center in Singapore. As this design center proved its worth, HP executives realized the importance of co-locating design and manufacturing operations. They increasingly transferred more design responsibilities to the Singapore factory. In addition, the Singapore factory ultimately became the center for the design of products tailored to the needs of the Asian market. This made good strategic sense because it meant products were being designed by engineers who were close to the Asian market and probably had a good understanding of the needs of that market, as opposed to engineers located in the United States.
MANAGEMENT FOCUS Hewlett-Packard in Singapore
In the late 1960s, Hewlett-Packard was looking around Asia for a low-cost location to produce electronic components that were to be manufactured using labor-intensive processes. The company settled on Singapore, opening its first factory there in 1970. Although Singapore did not have the lowest labor costs in the region, costs were low relative to North America. Plus, Singapore had several important benefits that could not be found at many other locations in Asia. The education level of the local workforce was high. English was widely spoken. The government of Singapore seemed stable and committed to economic development, and the city-state had one of the better infrastructures in the region, including good communication and transportation networks and a rapidly developing industrial and commercial base. HP also extracted favorable terms from the Singapore government with regard to taxes, tariffs, and subsidies.
At its start, the Singapore unit manufactured only basic components. The combination of low labor costs and a favorable tax regime helped to make this plant profitable early. In 1973, HP transferred the manufacture of one of its basic handheld calculators from the United States to Singapore. The objective was to reduce manufacturing costs, which the Singapore factory was quickly able to do. Increasingly confident in the capability of the Singapore factory to handle entire products, as opposed to just components, HP’s management transferred other products to Singapore over the next few years, including keyboards, solid-state displays, and integrated circuits. However, all these products were still designed, developed, and initially produced in the United States.
The unit’s status shifted in the early 1980s when HP embarked on a worldwide campaign to boost product quality and reduce costs. HP transferred the production of its HP41C handheld calculator to Singapore. The managers in Singapore were given the goal of substantially reducing manufacturing costs. They argued that this could be achieved only if they were allowed to redesign the product so it could be manufactured at a lower overall cost. HP’s central management agreed, and 20 engineers from the Singapore facility were transferred to the United States for one year to learn how to design application-specific integrated circuits. They then brought this expertise back to Singapore and set about redesigning the HP41C.
The results were a huge success. By redesigning the product, the Singapore engineers reduced manufacturing costs for the HP41C by 50 percent. Using this newly acquired capability for product design, the Singapore facility then set about redesigning other products it produced. HP’s corporate managers were so impressed with the progress made that they transferred production of the entire calculator line to Singapore in 1983. This was followed by the partial transfer of ink-jet production to Singapore in 1984 and keyboard production in 1986. In all cases, the facility redesigned the products and often reduced unit manufacturing costs by more than 30 percent. The initial development and design of all these products, however, still occurred in the United States.
In the late 1980s and 1990s, the Singapore operation assumed added responsibilities, particularly in the ink-jet printer business. The unit was given the job of redesigning an HP ink-jet printer for the Japanese market. Although the initial product redesign was a market failure, the managers at Singapore pushed to be allowed to try again. They were given the job of redesigning HP’s DeskJet 505 printer for the Japanese market. This time, the redesigned product was a success, garnering significant sales in Japan. Emboldened by this success, the Singapore operation has continued to take on additional design responsibilities. Today, it is viewed as a “lead plant” within HP’s global network, with primary responsibility not just for manufacturing, but also for the development and design of many products targeted at the Asian market. In 2010, the role of Singapore was further enhanced when HP opened a basic research lab there. Currently, the lab is focused on developing a cloud-computing platform for enterprises.
Sources: K. Ferdows, “Making the Most of Foreign Factories,” Harvard Business Review, March–April 1997, pp. 73–88; and “Hewlett-Packard: Singapore,” Harvard Business School, Case No. 694–035.
A second source of improvement in the capabilities of a foreign site can be the increasing abundance of advanced factors of production in the nation in which the factory is located. Many nations that were considered economic backwaters a generation ago have been experiencing rapid economic development during the past 20 years. Their communication and transportation infrastructures and the education level of the population have improved. While these countries once lacked the advanced infrastructure required to support sophisticated design, development, and manufacturing operations, this is often no longer the case. This has made it much easier for factories based in these nations to take on a greater strategic role.