This article originally appeared in the May/June issue of Procurement Pro.
By Adam Fletcher, Chairman of the Electronics Components Supply Network (ecsn)
Many of the unconventional ‘promises’ made by Donald Trump prior to his election are now rapidly becoming realities. Radical trade tariffs imposed by the new US Administration have unilaterally ridden roughshod over established international conventions, practices, and controls. Carefully honed over many decades, these measures have in general served global commerce well, but economists are warning that current uncertainly will trigger lower global growth, probably for several years before things settle down once more.
In this article, Adam Fletcher, Chairman of the Electronics Components Supply Network (ecsn), suggests that procurement professionals throughout the global electronic components market need to be nimble in their response to the rapid, volatile, and ongoing changes triggered by the imposition of new US trade tariffs and despite current concerns over their impact, he believes that it may be possible for many organisations in the global electronic components market to mitigate the worst effects by lobbying their and other governments to retain free trade status and possibly rethink their sourcing strategies to minimise their purchases of US electronic components. Oh, what fun we are going to have!
Historical perspective on trade
Among the multiple treaties signed after WW2, the Bretton Woods Agreement – established at the United Nations Monetary and Financial Conference in New Hampshire in 1944 – aimed to establish a stable and predictable international monetary system, promote growth, and prevent future economic depressions and conflicts. It set out edicts and rules intended to prevent the establishment of national trade barriers, at that time thought to be one of the major causes of military conflict. After protracted negotiations, 23 countries signed the General Agreement on Trade and Tariffs (GATT), the purpose of which was a reciprocal, mutually advantageous reduction of global trade barriers and the elimination of preferences. This international system of free market trade and ideology over the years has eroded tariffs between countries in much of the western world and until very recently, was championed by the US (the largest global economy).
The European Economic Community was founded in 1957. In contrast, Russia and China initially adopted closed internal market economies in line with their political and commercial ideologies but over the past 50 years or so have significantly opened up their economies in favour of a more liberal free trade system. The collapse of the Soviet Union forced Russia to swallow its pride and in 1986 it joined the international Economic Community. In January 1994 the North American Free Trade Agreement (NAFTA) was established between the US, Canada, and Mexico and a year later the World Trade Organisation (WTO) was created to further extend barrier-free trade and establish ‘most favoured nation’ trading status between all its signatories. China joined the WTO in 2001. Whilst these non-government organisations and the agreements and rulings they handed down may not have been considered perfect by all signatories, most agreed that they were a very solid basis for international trade. There was a high level of international trust in the WTO’s judgements, which often led to successful resolutions of international disputes.
Trust
As we know from business and personal relationships, ‘trust’ is a rare and valuable commodity that needs to be earned over a long time period. Behaviour consistency is an important part of trust, and we tend to value it, rational or not, because it provides a useful guide to future outcomes. Trust unfortunately can be badly damaged by the actions of others and the recent actions of US President Trump – with the apparent wider agreement of his administration – have severely eroded the very high levels of trust the country previously enjoyed with its many trading and security partners. Regardless of the current and future actions the US may take, it take a very long time for ‘trust’ to recover to its previous levels, which suggests that there is likely to be a fundamental reordering of the political and economic alliances between nations, as they seek to establish an outcome that maximises the new economic and security needs of their citizens. The process to establish new alliances is likely to take many years. Missteps along the way are almost inevitable and further disruptions to global trade are to be expected.
Impact on procurement
Classical theories about procurement often refer to the five ‘rights’ – ‘quality’, ‘quantity’, ‘time’, ‘place’, and ‘price’, the last of which can be significantly impacted by the preceding four. there has been much debate over the years about these ‘rights’ with many procurement professionals believing that other factors such as ‘flexibility’, ‘integrity’, ‘legislation’, and ‘payment’ should be counted in amongst them. Trying to determine the right price of any item is a very complex issue and is often based on subjective judgement alongside supporting empirical data. For all organisations in the electronic component industry, achieving the lowest possible total cost of ownership (TCO) over any given financial period is critical. The TCO figure takes into consideration the actual and potential costs of the purchase across the component’s entire lifecycle, together with all the expenses associated with purchasing, selling, deploying, using, and finally retiring a component or system. It’s a highly repetitive process where a wide range of components, often running to many thousands, are purchased by OEMs and CEMs against a regular monthly, weekly, or daily delivery schedule. Whilst the unit price is important in ‘lean manufacturing systems’ such as MRP/JIT, this factor is often usurped by the additional costs associated with getting the right specification and quality of component in the right place at the right time (late delivery of even a very low cost component can cause significant delay in the automated manufacturing of a much more expensive system or end product), because failure due to inferior or counterfeit components can rapidly increase the TCO, alongside the huge reputational damage to the purchasing organisation and its customers. In today’s market, sourcing components directly from the manufacturer or their authorised distributor is the only guarantee of achieving the right ‘quality’ in the right timeframe.
Controlling or managing supply networks?
There has been, and remains, a huge amount of interest in how organisations control their supply network from ‘cradle to grave’, with many column inches given over to explaining how artificial intelligence (AI) enabled systems promise to radically improve this situation, but dream on! As things stand today, electronic component sourcing is too big and too complex a matter for even the most interactive AI system to model and control effectively, with hundreds of individual organisations each having their own legitimate but often truly unique objectives. Most companies would be better advised to focus on what they can manage effectively, at low cost, with willing partners, most of whom will have a vested interest and will benefit from a successful outcome with their supply network partners. A zero-sum game that benefits one or a few partners has limited value and leveraging a perceived position of power will only result in low support for participation or change.
The key for these organisations is to find those supply partners with whom they can have a mutually beneficial relationship in a small scale project that if successful, can then be scaled up to involve – and benefit – many much larger partners.
Are more tariffs coming?
As I write, all organisations are entering a period of great uncertainty and change as the new US Administration imposes, dithers, and retracts a wide and diverse set of tariffs upon countries supplying products into the US market. The concern is that an all-out trade war with ‘tit-for-tat’ tariffs between the US and China (and/or Canada, Europe, India, and the Asia-Pac region) will cause a global recession in which there can be no winners. Organisations across the electronic components supply network must identify how they are impacted by the new tariffs and seek practical solutions to new problems as they arise, in an ongoing process that is likely to require collaboration and mutually creative thinking with their supply network partners. The many small medium sized enterprises (SMEs) that dominate UK and European electronic components supply networks do not usually sell their products or systems into the US and purchase very few US made electronic components. As a result, SMEs may be relatively unaffected by the latest tariff changes and with the help of their authorised distributor partners, may be able to use Free Trade Zones within the US to avoid taxation on incoming shipments of components from China that are destined for subsequent export out of the US. Alternatively, they might be able to arrange for their suppliers to ‘drop-ship’ directly to them via third party countries. Larger UK/ EU organisations like automotive assemblers who ship a significant proportion of their output to the US are likely to be hit hardest by export tariffs on finished goods and the potential reduction in their exports to the US is going to flow down through their supply network and into the wider UK economy. It’s worth noting that the electronic components content of a typical internal combustion engine (ICE) vehicle is @30% of its value but is perhaps @60% in the case of a typical electric vehicle (EV). Trump, Musk et al. should tread lightly as much of the cost of EVs is centred around the battery, which is primarily sourced from China either in the form of raw materials or finished goods.
China hits back?
The Trump Administration views China’s increasing manufacturing and technology leadership as a threat to US security and economic prosperity. It might be true, but China’s recent successes are largely a by-product of US corporations constantly seeking the lowest possible cost structure and out-sourcing their manufacturing to lower-cost economies. China has a dominant market position in many raw materials (rare earths) and the ability to smelt them and in PCBs, commodity electronic components manufacture, battery technologies, and high-volume assembly operations ranging from laptops to cars. The Chinese economy has succeeded in its long-term investment plans and to use a Trumpism, “they hold all the cards” or at a minimum “have a very good hand”, but there has to be a significantly less confrontational way to resolve the current impasse and achieve the necessary changes around (in particular) Intellectual Property (IP) licencing than simply applying swingeing trade tariffs.
Concluding thoughts
I return to the topic of trust, high levels of which are implicit in the electronic components supply network – procurement professionals and their supplier partners are highly reliant on each other both up and down their networks. Any failure, wherever it occurs within the supply network, is likely to erode trust and hamper the ongoing business relationship. It is therefore very important that all parties communicate effectively both up and down their supply network to help mitigate problems as they arise and strive to find mutually agreeable alternative solutions. Of course, procurement professionals should continue to challenge their suppliers but at the same time engage with them to create new, innovative ‘added value’ solutions that benefit everyone.
