Rising China Wages Cut Advantage Over Mexico, Flextronics Says - By Tim Culpan and Frederik Balfour

China’s rising wages are cutting the country’s cost advantage over other manufacturing centers such as Mexico, according to Flextronics International Ltd., the world’s second-largest custom electronics maker.

“As China moves up, up and up and up, for five straight years, it’s been moving up heading towards Mexican pricing,” Mike McNamara, Chief Executive Officer of Singapore-based Flextronics, said in an interview. “Mexico’s been the same labor cost for the past five years, it hasn’t moved up at all.”

Flextronics, which supplies to Hewlett-Packard Co. and Cisco Systems Inc., has been forced to increase wages in China in line with government regulations and growing affluence in the fastest-growing major economy. Larger rival Foxconn Technology Group said this month it will move production away from China’s coastal regions after announcing a doubling of wages at its largest production bases in the south east.

The failure of Flextronics to make its components business profitable means the company will “probably not” achieve its operating-margin target of 3.5 percent this fiscal year which ends in March, McNamara said, without giving a goal timeline. Components account for about 10 percent of sales, he said. Operating income as a percentage of revenue is a key measure of profitability.

Mexico’s Appeal

Mexico, where Flextronics makes televisions for LG Electronics Inc., contributed 15 percent of the manufacturer’s sales in the fiscal year to March, compared with 11 percent a year earlier, its annual report showed. China provided 33 percent of the company’s revenue.

“Mexico’s proximity to the U.S. is phenomenal,” McNamara said. “You start thinking about freight and you think about all the green energy initiatives that are going on. It’s going to put a little bit more emphasis toward doing more products in Mexico.”

Former Mexican Economy Minister Gerardo Ruiz Mateos said in a June 29 interview that the nation will create 750,000 formal jobs this year as the economy rebounds from a recession and foreign direct investment rises. Demand for Mexican exports will help draw about $20 billion in foreign direct investment this year and a greater amount in coming years, Mateos said.

“Mexico is close to the U.S. and is part of the North American Free Trade Agreement, which is why more and more companies are building facilities for exports to the U.S.,” said Vincent Chen, an electronics analyst at Yuanta Securities Co. in Taipei. “China labor costs have been rising 10 percent to 20 percent per year for the last decade, but the cluster of suppliers is still there.”

Flextronics employs 200,000 people globally with operations in 30 countries. Around 30 percent of its workforce is the Americas and 90,000 in China, spokeswoman Valerie Kurniawan said in an e-mailed statement.

No Inland Move

Rising wages in China won’t spur an exodus or prompt Flextronics to move all of its production bases in the country, since labor remains a small cost of manufacturing for many of its products, McNamara said. Labor is about 0.5 percent of sales for computers, rising to 10 percent for power supplies, which require more manual work, he said.

“As far as a wholesale, large-scale effort to move inland, I don’t see any economics at all to it,” McNamara said. Ninety- percent of Flextronics’ production is exported, making a move away from China’s ports less economically viable, he said.

Flextronics plans to continue hiring for the next five years at a power-supply factory in Ganzhou, in China’s inland Jiangxi Province where wages are lower, offsetting the higher labor component for those products, he said. The company will hire up to 6,000 in Ganzhou this year.

Foxconn Shifts Production

Foxconn, which makes Apple Inc.’s iPad and also supplies most of the components used in the cell phones it assembles, in June announced the company would double base-wages for employees in Shenzhen, where it has around half its 900,000 workers, and cut the headcount there by about 170,000 over five years. A 40 percent expansion in its workforce over the next year will occur in inland China, where wages are lower and factories will be closer to the hometowns of its migrant workers, it said.

Foxconn controls 50 percent of the electronics manufacturing services market, double the share of Flextronics, according to researcher iSuppli Corp.

Flextronics shares have lost 30 percent this year on the Nasdaq stock market to close at $5.11 on Aug. 27. Hon Hai Precision Industry Co., the Taipei-based flagship of the Foxconn Group, has declined 11.3 percent on the Taiwan Stock Exchange over the same period.