The Dying OEM

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The international sports brand Adidas has decided to close its last firm-owned factory in China at the year end. Such a change has already affected many oems of Adidas in China as ten of them working for Adidas’ factory in Suzhou were informed of the termination of their cooperation with Adidas.

“We have cooperated with each other for over 10 years. But what Adidas did this time was irresponsible. They ended the cooperation without any forewarnings and even the number of orders it has given us was much smaller than the set number in the contact,” said Jiang Liuhong, vice general manager of Shanghai Donglong Feather Manufacture Co., Ltd (Donglong). She looked angry because Donglong is one of the ten OEMs.

As experts said, the increasing labor cost in China deprived the “China-made things” of the advantages brought by the low- and middle-end laborintensive industries. There will be more Adidaslike cases of foreign companies’ resignation from manufacturing. The OEM industry of China needs transformation.

The Angry OEMs of Adidas

According to Jiang Liuhong, she received the notice from Adidas this April that the German sportswear company would stop cooperating with her company and other 9 companies in this October or next April. More concretely, Donglong, which devoted a part of its production lines to the service for Adidas, will see the end of cooperation this April. And those completely working for Adidas will lose Adidas’ contract next April.

“According to our contracts, Adidas should inform us of the end of cooperation half a year before its occurance. That means it should give the notice in April,” said Jiang Liuhong. Donglong and Adidas signed a long-term OEM contract in 2006 and no update occurred to the contract from then on.

In addition, the senior executives of Adidas Greater China once summoned a meeting of OEMs last November to relieve them from the worries caused by the rumor that Adidas’ factory in Suzhou would be closed. They were granted that their cooperation with Adidas would not end before 2015. However, Adidas broke its promise even when its words still ring in their ears.

Moreover, Jiang Liuhong said that Adidas should give the orders of 250 thousand apparels to Donglong quarterly, but the orders Donglong received from August to October only amounted to 20 thousand apparels. “If the normal business operation is taken, we should be given enough orders before the end of cooperation, or we might have stagnancy in business without continuous production. Adidas should be criticized in that matter as it is quite an irresponsible action for OEMs.”

It is known that Donglong could manufacture 1.5 million apparels for Adidas every year before 2008. But after that year the figure kept dropping till this year when only 600 thousand apparels are to be produced. Presently, Donglong’s subsidiary company Donglong East China Apparel Co., Ltd in Tongling, Anhui is the one producing Adidas’ apparels based on orders. This company employs 1600 workers and 70% of its production lines are devoted to Adidas. Some of the devices and software systems are exclusively made for Adidas, which cost Donglong over 3 million yuan. “Once the OEM contract is cancelled, these things are nothing but waste.”

Jiang Liuhong thought that Adidas should properly compensate Donglong and other companies whose special devices are no longer useful. Meanwhile, as the number of orders greatly decreased, Donglong needs to find supplementary orders from other clients to stop the factory in Anhui from collapsing and workers losing their jobs. Some of the orders with low profits were taken, which definitely influenced the company’s profitability. Adidas should redeem the loss in that cause too.

“The Social and Environmental Affairs of Adidas always listed requirements for OEMs when it comes to social responsibility and environment, such as the guarantee of employees’ salaries and welfare. But now we have to try every means to keep our workers employed despite losing the orders while Adidas cast aside its responsibilities. It is not a match with the brand image it always boasts,” Jiang Liuhong said.

In order to seek the compensations, OEMs negotiated with Adidas many times. On July 6 Adidas rejected the request of compensation, leading to conflicts between the parties. On August 9, Erick Haskell, CEO of Adidas Greater China, said in an email that Adidas would have negotiations with OEMs about the matter of compensation some time.

Moving to Southeast Asia

Before closing the factory in Suzhou, Adidas divided its production and purchasing in China into two parts. The first part was realized through subcontracting the production to OEMs of Suzhou factory and the products were to be provided for the Chinese market, accounting for 60% of the total demand in China. The second part was done by the International Purchasing Department of Adidas. This departments’ purchasing and supply chain cover the global market.

After the closure of Suzhou factory, all the orders in China will be given by the International Purchasing Department.

In experts’ opinions, Adidas’ action was a result of the judgment and reaction of the increasing labor cost in China. Prior to that, Adidas CEO Herbert Hainer said that the new wage salary made by the Chinese government was so high that Adidas hoped to move part of its production out of China to places with cheaper labor force. Southeast Asian countries are considered ideal destinations.

According to the data, the labor cost in China is twice of Southeast Asia. For example, a French institution’s data shows that the average salary of Chinese textile workers is 188-300 euros per month, much higher than Bangladesh, where textile workers are only paid 80 euros per month, the lowest in the world.

Jiang Liuhong said that Donglong has plants in Burma too, which were put into used in 2011. Around 1200 Burmese are employed but they do not work for Adidas. Compared with Anhui, the labor cost in Burma is 30% lower.

Some of the OEMs have followed the track of Adidas by moving a part of their production lines to Southeast Asia or establishing new factories there. “So far as I know, a Ningbo-based company manufacturing hosieries for Adidas set up a big factory in Cambodia,” Jiang Liuhong said.

Taiwan-based Yue Yuen Industrial(Holdings) Co., Ltd, which acts as a big OEM for Adidas, also eyes Southeast Asia as a new place of production in recent years. In 2003 this company respectively had 161, 78 and 51 production lines in China, Vietnam and Indonesia. In 2010, the figure increased to 226, 120 and 114 and the increasing rates were 40.3%, 53.8% and 123.5% - the increasing rate in China was much lower than Vietnam and Indonesia.

The Further-off “World Plant”?

Actually, Adidas’ rival Nike also closed its only firm-owned shoemaking factory in China in March 2009. In contrast, Nike produced 37% of its shoes in Vietnam in 2010, higher than the 34% proportion in China.

Not only the apparel companies, multinationals in other industries also began to change its map of manufacturing in the world. With the forfeiture of its low-cost advantages, China is gradually losing its grace as the “World Plant”.

Zhang Youwen, head of the World Economy Institute, Shanghai Academy of Social Sciences, told CBF journalists that“more cases like Adidas’ withdrawal would emerge in the future as the situation decides it. The labor cost in coastal areas of China is indeed increasing and there is also such a serious shortage of labor force. Some foreign investors and Chinese companies are now moving to Southeast Asia or the central and western parts of China for a better advantage in the labor cost. This trend will be continued, applying greater and greater stress on the exports and processing trade of China.”

However, he added that the “madein-China” had a wider concept. Those low-end industries which are sensitive to cost and need a large number of workforces may move outward massively. But the players in other industries that need to consider the entire macroeconomic environment, policies and supporting facilities might refuse to follow suit. Therefore, it is hard to doom China’s manufac- turing just because of these things.

Jiang Liuhong also said that Donglong needed to watch the result of its factory in Burma. “Though the labor cost there is comparatively lower, the efficiency of workers and the supporting facilities were worse in China.”

The Tough Way of Transformation

In spite of the somewhat optimistic forecast from experts and participants, the external environment and the internal situation need the OEMs in China to get onto the way of transformation as soon as possible.

Among all the 10 OEMs with which Adidas ended the cooperation, Donglong is the lucky one that is lightly nfluenced. As Jiang Liuhong said, only one tens of the 10000 employees of Donglong are working for Adidas. In comparison, Junhe Clothes Manufacturing Co., Ltd (Junhe) and other companies that completely devoted to being OEMs for Adidas received much more impact from this change.

Shanghai-based Junhe is now busy moving from clothes making to automobile decoration. The director of the company refused to answer questions from CBF with the excuse of “being too busy with transformation”.

Zhang Youwen said that oversupply was now haunting companies in traditional industries and the key to transformation lied with the upgrade and evolvement of products. If they want to stay in the same industry, they can lengthen their industrial chains and equip them with brands, technologies and sales network. They should not be simple OEMs for foreign brands. In addition, it is a shortcut for Chinese companies to acquire the main enterprises of multinationals through overseas mergers and acquisitions.

Then, according to Jiang Liuhong, Donglong has actually been planning transformation for long. Substantial measures have been taken as the company began to develop self-owned brands after the financial crisis in 2008. But now, the self-owned brands can only contribute to less than 20% of the sales revenue and the rest still come from manufacturing products for Adidas, H&M and other foreign brands.

In her opinion, the ways to resist the crisis of OEM include the further devotion to self-owned brands and the extension of its industrial chain. Donglong is going to get involved in the production of cloth – the upper part of the clothing industry. It will also build its own distribution channels. The lengthened industrial chain will offset the loss in manufacturing clothes. Meanwhile, it will increase its investment in research and development, making its products more competitive.

However, Jiang Liuhong admitted that the transformation is a difficult process. “The biggest problem is that the shopping malls in China usually charge high entry fees for products, increasing the difficulty for us to build distribution channels. The transportation cost is higher than foreign countries as well. In addition, presently the Chinese designers cannot compete with foreigners in innovation and creation. And what they design cannot gain the approval of consumers. Even the examination could be a problem as the technological levels and devices vary to places, which could lead to the disparity of results and confuse the manufacturers.” In addition, the new Law of Labor Contract pushed up the labor cost and gave workers more freedom to leave the employer, making it harder to organize normal production.

“The industrial transformation is a gradual and progressive process and will not be finished within one night. The government should give reasonable guidance and corresponding support in that field too,” Zhang Youwen said.