How Labor Costs Drive Supply Chain Strategy

Labor is one of the most decision-influencing costs in a supply chain. Not only does it incentivize specialization for the sake of efficiency, but it is one of the primary reasons Asia is a manufacturing powerhouse today.

At the same time, the cost v. benefit calculation associated with labor is not static and consumer preferences change. Quality, distance, automation, and more have to be considered. Every time one factor changes, the calculation needs to be re-run. Companies must be willing to experiment, to validate, and even to fail if they want to lead their market with the help of a strong, sophisticated supply network.

In this week’s Art of Supply interview, I speak with Thomas Goldsby. Thomas is the Dee and Jimmy Haslam Chair of Logistics at the Haslam College of Business at the University of Tennessee-Knoxville and the Co-Executive Director of their Global Supply Chain Institute.

To read more about the most common types of X-shoring and the benefits of supply chain mapping, read Supply Chains as Business in Action on Art of Procurement.

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The Marriage of Human Labor and Automation

Thomas and I recorded this week's interview in late August. It is pure 'luck' that it is publishing at the same time as we are watching the clash between organized labor and ever-encroaching automation play out at ports across the East Coast and Gulf.

Union workers are responding to the same factors companies must consider when deciding how, when, and where to manufacture, and the answer is not straightforward. The costs are different, as are the potential production locations, and automation is not well suited to all processes.

“I don't know that we're seeing replacement per se,” Thomas told me. “I don't think the technology is there to supplant or replace human labor for the most part. What we are finding is more of a marriage of human labor with automation.”

He spoke about the decision Nike and Adidas made to try producing footwear closer to consumers. “Adidas had something called a super factory based just outside of Atlanta," he explained. "The premise was, we're going to make a different kind of shoe, one that doesn't have quite as much stitching, quite as many seams, not quite as many materials.”

Adidas knew that automation was not ready to step in for humans one-for-one, even if it did open the door to customization. Perhaps it was an idea ahead of its time, but both Adidas and Nike ended their projects. The resulting shoes simply did not meet customer expectations.

This sort of decision - and subsequent learning process - is common, says Thomas. “What we have is this bifurcation of manufacturers, those that still have very high touch manufacturing operations and those that have relatively low touch operations. If you're in a low touch operation where automation is meeting the needs, dare I say manufacturing a vehicle, dare I say manufacturing an electric vehicle in the future, we may not need quite as many hands to do that.”

Capital investments can be made all over the world to automate production, but if the final product won’t sell, that is not a cost equation that works. The blend of human and machine has to be right.

Willingness to Pay for Premium

One way to address labor costs is by increasing efficiency (or introducing automation) to keep finished products the same price, or even lower them. The other option is to allow labor costs to dictate the final price, offering a premium product for locally handmade goods.

Since we were already talking about footwear, I shared two examples of companies taking this approach. Here in the Northeast, one of the most expensive parts of the country to live - and therefore to hire employees, New Balance and L.L.Bean have local manufacturing programs.?

New Balance currently manufactures one SKU each for men and women in the U.S. It is $199, compared to designs that run between $100-150. But it is a true Made in the U.S.A. shoe, priced and marketed accordingly.

L.L.Bean takes a similar approach. Their ‘small batch’ made in Maine boots come with a premium price tag, but also limited availability designs and a hand-signed card from the person who made each pair of boots. (Full disclosure, I bought a pair - call it research. I have no logical justification for the second pair I bought!) They balance out the additional cost with an enhanced customer experience, beautiful boots with a personal touch.

It is interesting to see businesses experimenting with different ways to handle labor costs and testing the consumer response. Each company has to find the breaking point: what quality will people accept for something affordable made nearby using automation compared to a premium product made locally and priced accordingly?

Thomas pointed out that neither strategy is all-or-nothing. In fact, the wisest decision of all may be doing both.

“I think in some instances, you're going to find companies that are going wholeheartedly in pursuit of the belief that customers are out there and they're willing to pay that premium, which inevitably we're going to find if you're going to try to source and produce domestically,” he said. “Another approach is to say, a segment of our business will try to do that. We're seeing that happen in the sustainability space. There's the belief that maybe not everyone is willing to pay that premium in order to feel better about the products and be a full participant in say ‘closed loop’ supply chains.

“But there's some portion or segment of consumers that are perhaps willing to [pay that premium]. I think businesses are saying, well, we should at least make an effort, even if we're not going completely in that direction, we should make an effort. We should learn fast. We should try to get these economics together, hopefully to a point where we can still make money in that segment, recognizing that it is growing.”?

Swapping Out the Trade-offs?

There are many ways for companies to hit the desired cost for an item that they plan to sell at a certain price, and there are many stakeholder groups looking to see what they will decide. Traditionally, that has been a zero sum game, but Thomas believes there is another way.

“I get very excited about trying to figure out ways that we don't sacrifice,” he said. “In logistics and supply chain, we generally speak of trade-offs. [...] What I really love to share with people is that there's the ‘prophecy of and.’ I love finding those innovations where we enhance service and we reduce costs.?

“Can we do the same thing if we introduce sustainability concerns? Is there a way that we can provide great products and services that customers clamor for at affordable prices and we reduce carbon footprint? Those are the things I get really excited about. When I impart that to students, I see them say, yeah, can we be a part of the solution where we don't have that inherent trade-off? We can achieve simultaneous benefits across the stakeholders.”

Achieving that point is going to require companies to have a better understanding of customer behavior in multiple scenarios and under different circumstances.?

In some cases, consumers may latch on to a trend but only for a short time. Supply chain decision managers need to figure out how much of their production to change and for how long, whether that is an overtly ‘green’ product value proposition or a premium price for a locally-made product.?

The answer is in the analytics.

“Businesses have to break the mold,” Thomas explained. “We're certainly breaking the mold of the one-size-fits-all, but even going further to look at what a customer's looking for in a given transaction, in a given instance, and try to understand, and to the extent possible - predict, where they’re going.”

Moving from data to analytics to understanding is going to require a lot of data, but - more importantly - it is going to require constant experimentation, reflection, and revision. Labor will continue to be part of production and supply chains, and figuring our the right balance of cost and other advantages will remain a top challenge for supply chain managers.

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