A Practical Guide to moving manufactoring Miami FL

Product manufacturing today has become a truly global activity. Companies that previously kept production close to their development centers now look to move this activity offshore. Economic and political changes, coupled with advances in technology, have opened up new, lower cost opportunities for manufacturing in regions stretching from Asia to Eastern Europe.

In addition to changing the global manufacturing landscape, these developments have brought with them a new set of management challenges. On a very practical level, the sheer logistics of picking up and transferring production capabilities to factories in far-flung parts of the globe can be formidable. Further, a boardroom decision to move manufacturing has a major impact on organizational structure and entails a potential amount of risk. (It's never as easy as it looks on a PowerPoint slide!)

A fundamental rule in transitioning to outsourcing-or moving from one outside location to another-is that it will always be more complicated than it first appears. Budgets and schedules need to be flexible enough to account for this complexity. Management must provide the needed resources and support. And the people working on the transition must have the ability to roll with the punches that invariably come.

This article focuses on those challenges of moving product manufacturing capability, particularly where offshore locations are involved. It is intended as a practical guide, based on manufacturing transition work done by the author and his colleagues at 3Com. The principles, techniques, and insights offered here reflect the combined work of many people on cross functional teams at the company.

3Com is a leading provider of secure, converged voice and data networking solutions that reduce network complexity and cost for businesses of all sizes. In recent years, the company has made the transition from internal manufacturing to outsourced contract manufacturing. 3Com also has moved many products from domestic to international locations. In short, we have completed a number of significant product manufacturing transitions and developed a high level of expertise in these projects.

Key Definitions

The requirement to move a manufacturing operation can be driven by an outsourcing or offshoring decision-or both at the same time. Outsourcing means taking an activity that had been done internally and turning it over to an outside third-party provider. When that activity is done outside of a country's boundaries, it is called offshoring.¹, ² Product manufacturing transfer is defined as the movement to a new location of manufacturing, test, and logistics capability for existing products. A contract manufacturer (CM) provides the manufacturing capability to a company that develops and markets the product. Original equipment manufacturer (OEM) is defined as the company that does the development and marketing.

Stages of Outsourcing

This article will focus on two main stages of the manufacturing transition process:

? The RFQ (Request for Quote) and decision process. This includes product selection, selecting candidates and location, compiling and delivering the outgoing RFQ information, response analysis, and the decision and communication process.

? The product transition process. This includes schedule development, team formation, materials pipeline protection, materials transfer, equipment transfer, and pilot and qualification process.

1. The RFQ and Decision Process

The high level decision to move or outsource products is typically driven by cost.³ An additional major driver often is core competency-that is, if the activity is not a core competency of the firm, it becomes a candidate for outsourcing.4 There are, of course, other drivers that are relevant to individual organizations. The following sections focus on the next level of decision-making below the principal drivers-that is, the what, where, who, and how of the outsourcing transition process.

Product Selection

Selecting which products to outsource will depend on a number of factors. For example, competitive price pressures on a particular product or in a certain market area may stimulate a cost analysis, which in turn could lead to a RFQ. Manufacturing performance in terms of quality, delivery, or cost may lead to a review of the exiting sourcing process for certain products. Line utilization and overhead absorption can be a catalyst for change, too. Similarly, the stage of the product lifecycle is an important factor in the selection decision. If a product is expected to go obsolete within six to twelve months, then it may be best to keep the production status quo and let it "die on the vine." In any case, the product's remaining life cycle should be considered throughout the decision process. A five-year product savings, for instance, should not be factored into the analysis if the product is realistically going to be replaced in two years.

Sales and marketing forecasts come into the product selection decision, too. But remember, these are major variables (just ask anyone who has ever worked in supply chain). After the outsourcing decision has been made and implemented, forecast variance can impact line loading at the new location. CMs will invariably look for price increases if actual load is lower than the RFQ forecast, thereby offsetting some of the cost savings that justified the transition in the first place.

Product replacement schedules are another variable in product selection. We've had cases where products were not moved because they were due to go end of life within a few months. Those same products were still in production a year or two later and were subsequently moved (a lost opportunity for cost savings).

The product selection decision may be different each time it is made within an organization. In one case, for example, we had a facility closure where all products in that facility were transitioned. We have also had cases where we moved a product that subsequently had some production issues. The lesson learned in this instance is that any product issues should be addressed before you transition the product. It is very difficult to move and fix simultaneously.

Selecting Candidates and Locations

Once the products have been selected, the next decision is to identify the CM candidates and locations for the quoting process. The amount of business under consideration will determine if a tier one CM will be appropriate or if a lower tier CM should be targeted. A related factor is the mind share expected from CM-the big fish, small pond analogy. We have factored in risk mitigation in some cases, targeting two separate locations so we don't put all our eggs in one basket. OEMs need to decide if a global footprint is required for their markets-not all contract manufacturers can offer this footprint. There may be leverage in both the OEM and CM consolidating products in one manufacturing location (sharing fixed overhead across higher volume of products). Previous relationships and experiences between CMs and OEM's (good and bad) will almost always be a factor here.

The outsourcing or transition process must provide benefit for both the OEM and the CM. Careful consideration should be given to matching the type of product to the locations being considered. Factors include:

? Specific technology requirements. These should be highlighted early in the process so that the OEM and CM can ensure that candidate locations meet the requirements.

? Product lifecycle and stability. Is the product ready? (Processing multiple engineering changes from the U.S. to China can be a difficult and expensive proposition.)5 There have been cases where complex products were transitioned before the design was stabilized. Finding and fixing design problems in a new production environment is a costly and frustrating experience.

? Product set. A product set that is high mix and low volume should not be forced into a high-volume factory.

? Markets. OEMs who do a correct analysis sometimes find that the lowest labor cost available in Asia, say, is offset by higher freight costs to move the products to market. The assumptions made around the mix of air versus ocean shipments are important in this cost analysis.

? Available capacity and resources at targeted locations. We've seen instances where tier one CMs falter when they realize that they really don't have adequate resources to handle the work. You can't always identify this problem prior to contract award through a plant tour or even a detailed audit. However, the resources issue should be openly addressed up front.

? Special requirements. One example is the Trade Adjustment Assistance (TAA) requirements, which dictate that products sold to certain agencies must have the appropriate manufacturing content from a TAA-compliant country.

? Materials sourcing. Lower assembly costs, for example, can be offset by increases in getting the raw material to the assembly line.

Compiling and Delivering the RFQ Information

Careful planning and preparation at the RFQ stage will speed up the decision-making process. Clear and complete information will facilitate speedy and relevant responses. Conversely, incomplete data or unclear sections of the RFQ will slow the process as the suppliers ask for clarification and more information. An example of the RFQ information provided by the requestor is shown in Exhibit 1.

Providing a product sample to prospective CMs is an invaluable part of the process. It speeds up their understanding of the product and allows a quote response to be prepared much more quickly. Be aware that providing product samples can be one of the most sensitive parts of the RFQ process (How do you explain to employees why you are sending a product to an outside entity?). In one situation we tried to send some products in a "top secret" manner. The problem was that the products got stuck in customs. This triggered an email chain throughout the organization that totally blew the secretive cover.

The RFQ should also ask candidates to provide a cost reduction roadmap for the product(s). This could be a deciding factor in quotes where there is not significant cost differentiation.

The decision on whether to send costed BOMs (bill of materials) will depend on the materials cost strategy and transition timeframes. The OEM may decide to control all materials cost and provide an overall BOM cost, enabling the CM to project overall revenue levels. In this strategy, the quote is focused on the value-add cost of the CM. Alternatively, the OEM may request that CMs quote down to the component cost level. Note that this process will typically take more time.

Many companies adopt a compromise approach whereby the CM is asked to quote on specific industry standard commodities such as capacitors and resistors, but the OEM retains pricing control of high dollar or unique components such as silicon and printed circuit boards. In such cases, the OEM may provide a single price for all of its controlled items combined in order to mask the individual component prices.

The response template should be designed to capture all product and fixed costs. Costs that are typically overlooked include freight (components and finished goods), taxes, travel, duties, and tooling.

Response Analysis

Providing a standardized response template will help ensure that all quotes are analyzed fairly and consistently. Product and fixed costs can be compared side by side over the expected life of the product. Fixed costs to be incurred by the OEM should be added to the analysis. These generally include travel and engineering support, cost of product qualifications, and materials costs. (Some material cost is invariably incurred in the movement of a major material pipeline from one destination to another).

Sensitivity analysis should be performed to account for variations in expected demand and costs. Overall projected savings can evaporate if the volume forecast is too optimistic. The OEM should have an internal goal set for the decision-making process-for example, payback of fixed costs in a specific timeframe or targeted overall savings.

Value add (difference between sell price and bill of materials cost) percentage is often used in the analysis. However, this can sometimes lead to confusion as CMs and OEMs often calculate it differently. Many OEMs use bill of materials cost as the denominator. CMs, however, will typically use sell price as the denominator, thereby making the result smaller to appear more competitive.

Decision and Communication Process

The decision to outsource should be made by a cross functional team to ensure that all factors are taken into account. This removes the potential for individual bias toward a particular supplier. In addition, any functions within the organization that will be required to support a transition should be aware of this additional workload. For example, engineering resources will likely be required for the necessary but unglamorous job of product qualifications.

After the initial responses have been reviewed and evaluated, negotiations will typically begin with one or more of the top candidates. Expectations from the negotiations, in terms and timeframes, should be clearly stated up front to keep the process from becoming open ended and drawn out. Any roadblocks encountered during the negotiation period may need to be elevated to more senior levels within the companies.

The OEM should communicate to everyone that responded to the RFQ , both the successful CMs and the unsuccessful ones. The unsuccessful candidates should be provided with some minimum amount of feedback as to why their bid was not selected.

Finally, the OEM and CM should agree to a formal contract or master purchasing agreement (MPA). These contracts typically take months to negotiate and complete. A letter of intent (LOI) can be agreed upon more quickly and can be used as an interim measure to allow transition work to proceed.

Potential Issues

We have seen the RFQ process provoke some unexpected consequences. For example, in preparing its response the CM may go to the component supply base for pricing, which in turn can lead to confusion among component suppliers. The industry rumor mill can turn quickly and the current source of the products may become aware of what's in play. Employees at the OEM for their part may have concerns about their continued employment in an outsourcing scenario. The best deterrent against these issues is to limit the number of people involved in the discussions. Non-disclosure agreements should be signed both internally and between the OEM and CMs. Speed of analysis and decision-making is key here.

2. The Product Transition Process

Once a decision is made, the transition process should begin as soon as possible. As we noted earlier, the decision is typically based on cost savings so it makes sense to begin pursuing those savings as quickly as possible.)

At the same time, it's important to be realistic. Transition of a major materials pipeline is a very detailed process. There may be limiting factors such as resource constraints, revenue requirements (avoid the end of quarter rush), or contractual considerations with the current source. In addition, sufficient time should be allowed to complete pilot builds and product qualifications. A phased approach is best, whereby a small number of products is moved each week until all products are completed. Products can often be grouped by commonality of materials, process, or test equipment used. Ramp up expectations should not be overly aggressive and should allow the new source to learn the product.

High-level Schedule

The OEM and CM should jointly develop a high-level schedule. The schedule should detail pilot and production build schedules and the equipment transitions to support these builds. Any resources needed to support the transition also should be detailed here. The schedule should have some flexibility to allow for demand or priority changes as well to accommodate things that typically go wrong-for example, a failed pilot requiring a repeat build. Exhibit 2 shows an example of a high level schedule. (Note that this is for illustrative purposes only; a real project schedule would be significantly more detailed.)

Team Formation

A cross functional team should be formed at both the OEM and CM. Functions represented should include project management, manufacturing engineering, test engineering, component engineering, hardware engineering, materials management, distribution/logistics, and finance. Clear roles and responsibilities need to be defined with the schedule as the guiding factor in all decisions. It is also good practice to have a higher level steering committee that receives regular executive level updates and can provide guidance as appropriate. Peer-to-peer relationships are critical; in fact, we've seen team members spending more time with their peers than their families during the transition period.

Data Integrity

The success of the entire transition process is directly related to the accuracy of the data transferred to the new location. All engineering change orders must be up to date. Once the BOM and production data are transferred, the new location needs to receive all subsequent change orders to ensure that they stay synchronized with the source data. BOM accuracy and interpretation is of paramount importance. Classification of "make" vs. "buy" items on the BOM is critical, and a line by line review between the OEM and the new location should be completed. It is not unusual to find errors or omissions in the BOM or production data that had been corrected by the old manufacturing location but not updated in the source data. (In theory this should never happen, but in reality it can and does happen.) Just when you think you've seen every possible BOM or vendor part number problem, a new one pops up to ruin your day!

Typically the "old" location will have developed a lot of documentation to support the assembly of the product. This may include written procedures and visual aids used on the assembly line. In cases where a company is transitioning from one CM to another, ownership of this documentation may be unclear and the original CM may claim it is proprietary. However, if this documentation can be transferred, it can prove very useful in speeding up the process for pilot builds. This is especially true if the documents can be provided electronically so that they can be edited into the new location's format requirements.

Transition Buffer

On a given product, transition of production typically involves moving equipment from one location to another. This usually means a gap in production to allow for equipment transfer to and commissioning at the new location as well as for a pilot build and qualification process. The original source should produce a sufficient buffer of finished goods to ensure continuity of supply to customers during the transition. The amount of buffer will depend on such factors as:

? Typical demand.

? Equipment move time.

? Pilot and qualification time.

? Production ramp time.

? Risk tolerance vs. inventory constraints.

The buffer stock target is one of the more difficult decisions in the process. If the decision is not made correctly, the results will be excess inventory or lack of supply. We've observed that you can never get it exactly right. But it's usually best to err on the plus side so you don't run out of product.

Materials Pipeline Protection and Materials Transfer

Interruption of the raw materials pipeline is a major risk in the transition process. If the original source cancels purchase orders before the new source has a pipeline in place, the results can be severe in terms of supply interruption to the OEM's customers. It is imperative that the new pipeline be established and verified prior to cancellation of existing purchase orders. This can be a delicate process especially if two competing CMs are involved in the transition. In these cases, the OEM needs to play a lead role in driving the discussions and actions between CMs and component suppliers.

A manufacturing transition will typically require the movement of existing material between manufacturing locations. This material is typically purchased by the new location from the old location. The OEM should establish a careful audit process to avoid any problems with this activity. All parties need to understand how the material should be presented (for example, tape and reel, tray, and so forth). On a number of occasions we have lost valuable scheduled line time because a part showed up in a format that did not work on the new machine. If possible, the buyer should audit the material at the seller's location before it moves. It's in the OEM's best interest to promote a good relationship between the two parties. There may be cases where a sudden demand change or other issue may require that some material be sold back to the old location to increase a final build quantity.

Equipment Transfer

Transfer of equipment is a major activity because it is typically cost prohibitive to duplicate manufacturing and test equipment. Equipment may include anything from process tooling and functional testers to heat chambers. The logistics of moving such equipment can be complex, particularly if it is moving between continents.

Transportation by boat may be the only realistic option for heavier equipment, which can extend the production gap to multiple weeks. Companies should factor in sufficient time to get the equipment through customs and to unpack and commission the equipment at the new location. In some instances, we have split capacity between locations by phasing the equipment moves. For example, if more than one set of equipment exists, it may be possible to continue production at reduced capacity at the old location while qualifying the new location.

Transit times for heavier equipment between continents is unpredictable (ask anyone who has dealt with customs in China). We have even experienced cases where a carrier lost the test equipment. And while it was found a few weeks later, the delay impacted the transition schedule.

Pilot and Qualification Process

Each product being transitioned should go through a pilot and qualification process at the new location to ensure that it is being built correctly. A pilot build includes the standard test process; however, additional testing is advisable. For example, hardware engineering should perform margin testing at temperature or voltage and/or vibration testing if not already part of the standard manufacturing test process. If issues are found during this testing, they obviously should be "root caused" and corrected. If no issues are found, you have a high confidence level in the product quality at the new location.

It's very helpful to have OEM technical support on site during pilot builds. These experts can inform the CM in the unique aspects of the products and answer questions on the spot. Travel costs associated with these pilot builds are typically a good investment in order to avoid problems and meet schedules. The signal that the new location is qualified on a given product must be clear and unambiguous. At 3Com, we instituted a formal approval form with clear sign off requirements.

The transition team should stay in place during the ramp-up process. While the pilot process is intended to filter out significant problems, additional minor issues typically arise as the production volume increases.

Potential Issues

Experience tells us that many things can go wrong in a product transition; accordingly, there should always be mitigation plans. It is virtually impossible to get the transition inventory buffer exactly correct, for example. In addition, we have experienced excess raw material inventory because of demand fluctuations. (This is typically a temporary situation and the inventory gets burned off over time, but it should be accounted for in financial plans). Further, you are guaranteed to have some problems related to bill of material accuracy or interpretation issues. This can be minimized with the right preparation (see earlier discussion of data integrity) and can be mitigated by having the right people on site during critical pilot builds so that problems get solved real time. Also, expect to experience at least one product qualification failure (component, process or data related). This can be mitigated by having some slack in the schedule for a root cause analysis and a repeat pilot build.

Finally, we have experienced delays or damage in the equipment transfer process. This could be a hold up in customs (mitigated by having trade personnel on standby to facilitate shipment release) or some physical damage in the shipping process (mitigated by some schedule slack and by having an equipment repair plan in place if required).

The Lesson Learned

So what are the lessons learned from these transitions, and what are the key considerations before you embark on a major outsourcing project?

First of all, ensure that the justification for the move is sound, primarily in terms of total cost. Do not move an unstable product-rather, fix the problems before you move it. Do not underestimate the level of resources required and the huge impact these projects will have on your organization. Ensure that you have a strong and experienced project leader who is given sufficient time to plan the project effectively and also gets the resources and support required. And importantly, select the right CM partner. Don't just choose the lowest quote.

These transition projects are difficult. But if executed properly, they can bring significant benefits to the bottom line. We've seen it happen.

Endnotes

1. "Outsourcing Strategically for Sustainable Competitive Advantage," Joint Research Study by CAPS Research and A.T. Kearney, 2005.
2. "Purchasing Leverage Considerations in the Outsourcing Decision", Lisa Ellram and Corey Billington, European Journal of Purchasing and Supply Management 7 (2001) 15-27
3. "Outsourcing: Implications for Supply Management", Lisa Ellram and Arnold Maltz, CAPS Focus Study, 1997.
4. "Reality Bites", Barbara Jorgensen, Electronics Business, March 2005.
5. Ibid.