Mexico is quickly emerging as the “new” China.
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When it comes to global
manufacturing, Mexico is quickly emerging as the “new” China.
According to corporate consultant
AlixPartners, Mexico has leapfrogged China to be ranked as the cheapest country
in the world for companies looking to manufacture products for the U.S. market.
India is now No. 2, followed by China and then Brazil.
In fact, Mexico’s cost advantages
and has become so cheap that even Chinese companies are moving there to
capitalize on the trade advantages that come from geographic proximity.
The influx of Chinese manufacturers
began early in the decade, as China-based firms in the cellular telephone,
television, textile and automobile sectors began to establish maquiladora operations in
Mexico. By 2005, there were 20-25 Chinese manufacturers operating in such
Mexican states Chihuahua, Tamaulipas and Baja.
The investments were generally
small, but the operations had managed to create nearly 4,000 jobs, Enrique
Castro Septien, president of the Consejo Nacional de la Industria Maquiladora
de Exportacion (CNIME), told the SourceMex news portal
in a 2005 interview.
China’s push into Mexico became more
concentrated, with China-based automakers Zhongxing Automobile Co., First Automotive Works (in partnership with
Mexican retail/media heavyweight Grupo Salinas), Geely Automobile Holdings and ChangAn Automobile Group Co. Ltd. (the Chinese
partner of Ford Motor Co. (F: 8.41 +0.21 +2.56%)
and Suzuki Motor Corp.), all announced plans to place automaking
factories in Mexico.
Not all the plans would come to
fruition. But Geely’s plan called for a three-phase project that would
ultimately involve a $270 million investment and have a total annual capacity
of 300,000 vehicles. ChangAn wants to churn out 50,000 vehicles a
year. Both companies are taking these steps with the ultimate goal of selling
cars to U.S. consumers.
Mexico’s allure as a production site
that can serve the U.S. market isn’t limited to China-based suitors. U.S.
companies are increasingly realizing that Mexico is a better option than China.
Analysts are calling it “nearshoring” or “reverse globalization.” But the
reality is this: With wages on the rise in China, ongoing worries about whipsaw
energy and commodity prices, and a dollar-yuan relationship that’s destined to
get much uglier before it has a chance of improving, manufacturers with an eye
on the American market are increasingly realizing that Mexico trumps China in
virtually every equation the producers run.
“China was like a recent graduate,
hitting the job market for the first time and willing to work for next to nothing,”
Mexico-manufacturing consultant German Dominguez told the Christian Science
Monitor in an interview last year. But now China is experiencing “the
perfect storm … it’s making Mexico - a country that had been the ugly duckling when it
came to costs - look a lot better.”
The real eye opener was a 2008
speculative frenzy that sent crude oil prices up to a record level in excess of
$147 a barrel - an escalation that caused shipping prices to soar. Suddenly,
the labor cost advantage China enjoyed wasn’t enough to overcome the costs of
shipping finished goods thousands of miles from Asia to North America. And that
reality kick-started the concept of “nearshoring,” concluded an investment
research report by Canadian investment bank CIBC World Markets Inc.
“In a world of triple-digit oil
prices, distance costs money,” the CIBC research analysts wrote. “And while
trade liberalization and technology may have flattened the world, rising
transport prices will once again make it rounder.”
Indeed, four factors are at work
here.
Mexico’s “Fab Four”
- The U.S.-Mexico Connection: There’s no question that China’s role in the
post-financial-crisis world economy will continue to grow in importance.
But contrary to the conventional wisdom, U.S. firms still export three
times as much to Mexico as they do to China. Mexico gets 75% of its
foreign direct investment from the United States, and sends 85% of its
exports back across U.S. borders. As China’s cost and currency advantages
dissipate, the fact that the United States and Mexico are right next to
one another makes it logical to keep the factories in this hemisphere - if
for no other reason that to shorten the supply chain and to hold down shipping
costs. This is particularly important for companies like Johnson &
Johnson (JNJ: 61.43 +0.28
+0.46%), Whirlpool Corp.: 74.26 +0.95
+1.30%) and even the beleaguered auto parts maker Delphi Corp.
which are involved in just-in-time manufacturing
that requires parts be delivered only as fast as they are needed.
- The Lost Cost Advantage: A decade or more ago, in any discussion of
manufactured product costs, Asia was hands-down the low-cost producer.
That’s a given no more. Recent reports - including the analysis by
AlixPartners - show that Asia’s production costs are 15% or 20% higher
than they were just four years ago. A U.S. Bureau of Labor Statistics
report from March reaches the same conclusion. Compensation costs in East
Asia - a region that includes China but excludes Japan - rose from 32% of
U.S. wages in 2002 to 43% in 2007, the most recent statistics available.
And since wages are advancing at a rate of 8% to 9% a year, and many types
of taxes are escalating, too, East Asia’s overall costs have no doubt
escalated even more in the two years since the BLS figures were reported.
- The Creeping Currency Crisis: For the past few years, U.S. elected officials and
corporate executives alike have groused that China keeps its currency
artificially low to boost its exports, while also reducing U.S. imports.
The U.S. trade deficit with China has soared, growing by $20.2 billion in
August alone to reach $143 billion so far this year. The currency debate
will be part of the discussion when U.S. President Barack Obama visits
China starting Monday. Because China’s yuan has strengthened so much,
goods made in China may not be the bargain they once were. Those currency
crosscurrents aren’t a problem with the U.S. and Mexico, however. As of
Monday, the dollar was down about 15% from its March 2009 high. At the
same time, however, the Mexican peso had dropped 20% versus the dollar. So
while the yuan was getting stronger as the dollar got cheaper, the peso
was getting even cheaper versus the dollar.
- Trade Alliance Central: Everyone’s familiar with the (NAFTA). But not everyone
understands the impact that NAFTA has had. It isn’t just window-dressing:
Mexico’s trade with the United States and Canada has tripled since NAFTA
was enacted in 1994. What’s more, Mexico has 12 free-trade agreements that
involve more than 40 countries - more than any other country and enough to
cover more than 90% of the country’s foreign trade. Its goods can be
exported - duty-free - to the United States, Canada, the European Union,
most of Central and Latin America, and to Japan.
In the global scheme of things, what
I am telling you here probably won’t be a game-changer when it comes to China.
That country is an economic juggernaut and is a market that U.S. investors
cannot afford to ignore. Given China’s emerging strength and its
increasingly dominant financial position, it’s going to have its own consumer
markets to service for decades to come.
Two Profit Play Candidates
From a regional standpoint, these
developments all show that we’re in the earliest stages of what could be an
even-closer Mexican/American relationship - enhancing the existing trade
partnership in ways that benefit companies on both sides of the border (even
companies that hail from other parts of the world).
In the meantime, we’ll be watching
for signs of a resurgent Mexican manufacturing industry that’s ultimately
driven by Chinese companies - because we know the American companies
doing business with them will enjoy the fruits of their labor.
Since this is an early stage
opportunity best for investors capable of stomaching some serious volatility, we’ll
be watching for those Mexican companies likely to benefit from the capital
that’s being newly deployed in their backyard.
Two of my favorite choices include:
- Wal Mart de Mexico SAB de Also
known as “Walmex,” this retailer has all the advantages of investing in
its U.S. counterpart - albeit with a couple of twists. Walmex’s
third-quarter profits were up 18% and the company just started accepting
bank deposits, a service that should boost store traffic. And while the
U.S. retail market is highly saturated - which limits growth opportunities
- there are still plenty of places to build Walmex stores south of the
border. After all, somebody has to sell products to all those thousands of
workers likely to be involved in the growing maquiladora sector.
- Coca-Cola FEMSA SAB de CV Things truly do go better with Coke - especially higher
wages and an improved lifestyle. According to Reuters, than any
other nation in the world. The company just posted a 25% jump in its
third-quarter net earnings, aided by a strong 21% jump in revenue.
Coca-Cola FEMSA continues to experience strong growth from its, and strong
beer sales, too. And all three product groups are logical beneficiaries of
strong maquiladora development and the growing incomes and rising family
wealth that will translate into higher consumer spending in the
immediately surrounding areas.