Southeast Asia gains increasingly more attention as foreign companies try to diversify manufacturing activities from China. Increasing wages, disruptions, increased shipping lead times, and costs are just some of the reasons. In this article, we review the underlying causes behind the rise of Southeast Asia, but also the challenges of entering the region.
Why are companies moving to Southeast Asia?
China has long been referred to as the World’s Factory, thanks to its strong manufacturing capabilities and low labor costs. In recent years, a multitude of issues has started to emerge in China, making companies more aware of the importance to diversify their supply chains.
Southeast Asia has therefore sprung up as the most interesting alternative sourcing market outside of China, due to the benefits we will review in this section.
The US-China trade war
The US-China trade war has urged companies to find new supply markets and where Southeast Asia gains much attention. Import tariffs have almost tripled for products from China, putting other supply markets in a favorable position. Being one of the fastest-growing regions in the world with low labor costs, openness for trade, and strategic proximity to China, Southeast Asian countries also have favorable trade agreements with many developed countries.
Increasing wages in China
China’s large labor pool and its low labor costs were the main reason why companies started to relocate manufacturing to the country. Yet, this has changed drastically in recent years. From 2009 to 2014, minimum wages nearly doubled, significantly decreasing profits for foreign investors.
Supply chain disruptions
The pandemic resulted in stalled production in China and has significantly increased shipping lead times and costs, leading to global supply chain disruptions. Near sourcing activities and manufacturing relocations to neighboring countries in Southeast Asia have accelerated greatly since.
Enhanced manufacturing capabilities
While countries like Vietnam have primarily been active in less advanced industries like textiles and furniture production, it is now a major producer of different electronics products, machinery, and telecom equipment. This trend is not only evident in Vietnam, but also in countries like the Philippines and Indonesia.
The countries are still highly active in the midstream segment and assembly operations, relying on imports from overseas. Yet, this is also changing as their manufacturing capabilities become more advanced, including the designing and manufacturing of previously imported sub-components (upstream activities). Distribution and sales of final products grow (downstream activities) at the same time, as manufacturing companies and private consumers demand more products.
Lucrative trade agreements
Singapore, Thailand, Vietnam, and Malaysia are open to international trade, having multiple free trade agreements signed. Free trade partners include the EU, Australia, Japan, and South Korea, for example. These countries are also part of ASEAN, which in turn has various trade agreements, making the region even more attractive to investors and businesses.
Since 1992, when ASEAN’s six founding members agreed to form a regional trade bloc, governments have made significant progress in lowering barriers to regional trade and capital flows. Initiatives like the Southeast Asia Manufacturing Alliance connect businesses with a network of trusted partners, allowing them to confidently navigate and grow in this diverse region.
The Regional Comprehensive Economic Partnership (RCEP), which was signed by all ASEAN members and Australia, China, Japan, New Zealand, and South Korea in 2020, will boost the region’s competitiveness as a manufacturing base and in global trade.
Major Manufacturing Sectors in Southeast Asia
While you can find manufacturers of any kind of product in China, Southeast Asian countries are specialized in certain industries. Major industries include:
- Electronics (Vietnam, Malaysia, Singapore)
- Textiles/apparel (Vietnam, Philippines)
- Automotive (Thailand, Indonesia)
- Petrochemical products (Thailand, Indonesia, Malaysia)
- Agricultural products (Vietnam, the Philippines, Indonesia, Thailand)
Let’s review the largest industries one by one, explaining where they are most prevalent and the history.
The electronics industry accounts for around 20% to 50% of the total export value of most South Asian countries. Southeast Asia now produces much of the world’s consumer electronics, including televisions, computers, and smartphones. For example, more than 80% of the world’s hard drives are produced here. As mentioned above, Vietnam, the Philippines, Malaysia and Singapore are the biggest producers of electronics products in Southeast Asia.
Much of Vietnam’s export growth has been driven by investments from companies such as Samsung, LG, Canon, and Nokia. These foreign enterprises have become the essence of Vietnam’s exports, captivated by tax breaks and some of the largest export processing zones in Southeast Asia.
As of 2014, Samsung accounted for roughly 20% of the total Vietnamese exports of electronics. As multinationals relocate production here, many smaller electronics companies follow. Some Northern provinces of Vietnam have expanded into manufacturing hubs for electronics products, where you can find plenty of suppliers for electronics components and phone accessories.
At the same time, Malaysia has grown to become a major global manufacturing hub for electrical and electronics (E&E) products. Malaysia’s electronics industry has invested much in R&D and explored domestic outsourcing of non-core activities over the years. Penang represents 80% of the nation’s contribution to the global semiconductor output.
Singapore has a more developed E&E manufacturing industry than the rest of ASEAN. This includes R&D and manufacturing, supply chain management services, logistics, and regional and global headquarters functions.
Textiles and apparel
Vietnam has a long history of producing textiles and garments, dating back several decades. It’s currently one of the biggest exporters globally and continues to attract many investments from foreign companies. Many of the world’s most well-known companies source products from Vietnam or set up their own manufacturing facilities locally. Examples include the high-end brand Prada, The North Face, Fjällräven, Adidas, Nike, Sketchers, and Decathlon.
The Philippines is another big name in Southeast Asia for textile and garment production, yet smaller than in Vietnam. When companies don’t meet the minimum order quantity requirements (MOQs) of factories in China, Bangladesh, Vietnam, and India, they sometimes turn to the Philippines instead.
Around 80% of the country’s textiles and garments are exported to the United States, with the rest going to the EU, Australia, Canada, and other ASEAN countries.
Established over 50 years ago, Thailand’s automotive manufacturing sector has developed into one of the biggest in the world. Almost all leading automakers and component manufacturers have established a presence locally. Toyota, Isuzu, Honda, Mitsubishi, Nissan, and BMW account for most of the two million vehicles being produced in Thailand every year.
As electric vehicles (EV) are on the rise, Thailand also faces competition from Indonesia in this sector. Indonesia holds the world’s largest nickel reserve and can offer competitive labor costs and prices for EV batteries. EV batteries are even 8% lower than in China.
Malaysia is the leading manufacturer of specialized process machinery for the E&E industry and automation equipment. Yet, the industry has not evolved into making complete products but only work on components, or as OEM manufacturers.
Some sub-sectors are on the rise, particularly metalworking machinery and power generating machinery. Companies with established manufacturing in Malaysia include Advantest, Pentamaster, Vitrox, Muehlbauer, SRM, and UMS.
Challenges when Relocating Manufacturing to Southeast Asia
Even if Southeast Asia becomes more promising for manufacturing, there are a handful of challenges you should be aware of. Below you can find the most notable ones.
Reliance on imports from China
Manufacturers still rely heavily on imports of raw materials and sub-components from China. In the textiles industry, companies often must import Velcro and buttons, for example. As much as 80% of all textile raw materials are imported from China to Vietnam. The Chinese market is also a major export market for countries in the region.
When the pandemic hit, Southeast Asian manufacturers were strongly affected due to increased costs of raw materials and increased shipping lead times, due to port congestions and lack of workers in China during lockdowns.
As mentioned above, most Southeast Asian countries are specialized in specific manufacturing industries. In Malaysia and Vietnam, you can find many electronic suppliers, but the products are slightly different. 60% of Malaysia’s exported electrical and electronics products include semiconductor devices, ICs, transistors, and valves. In Vietnam, we mainly see the exports of transmission apparatus, mobile phones, TVs, cameras, electrical apparatus, and integrated circuits.
Vietnam does have suppliers of fitness and sports products, but it’s mainly limited to footwear, gym clothes, and weights, for example. Treadmills and skipping ropes are harder to find on the other hand. They must compete with Chinese suppliers on price, which is so difficult as Chinese factories are built for economies of scale. Unless the market receives foreign investments to manufacture on-demand, they cannot begin to produce these products for exports.
Comparatively underdeveloped supply chains
China Plus One strategies are clearly here to stay, but Southeast Asian manufacturers can still not meet the developed levels of Chinese supply chains.
Products must pass many layers of suppliers to reach end customers, while information flows are not transparent and consistent. Together, it’s difficult to build a solid supply chain network. Moreover, the infrastructure to support the logistics and supply chain is still underdeveloped to handle the growing complexity of products and consumer demands.
Although some of the industries are within the specialty of Southeast Asian nations, these nations are still relatively young in terms of supply chain knowledge and lack experienced professionals in manufacturing, distribution, planning, and supply chain management.
Southeast Asia gains much attention as foreign companies look for alternative supply markets to China. Lower labor costs, enhanced manufacturing capabilities, diversification, and the many trade agreements speak for Southeast Asia as a primary sourcing market.
Countries of interest for manufacturing most often include Vietnam, Indonesia, Thailand, the Philippines, Malaysia, and Singapore. We have also highlighted how countries specialize in certain industries where Vietnam, Malaysia, the Philippines, and Singapore export many electronics products, for example. Thailand and Indonesia, on the other hand, are major producers of automobiles and related parts.
While Southeast Asia gains more attention, there are some disadvantages that foreign companies should beware of. Countries still rely heavily on imports from China, which is also a major importer of the final products. The supply chains are comparatively underdeveloped and with infrastructure that doesn’t meet the level of China.
Southeast Asia will remain attractive for foreign investors but will also have to become less reliant on imports, at the same time as the countries provide more value-added activities for companies.