What Does The Rise of Manufacturing in ASEAN Mean for Multinationals?

While the rise of Southeast Asia has been discussed widely over the past few years due to its strong consumption demand, the production aspects of the region remain relatively unexplored with many companies not having examined ASEAN’s manufacturing capabilities, its ability to achieve economic integration, and the comparative strengths of the individual members as production units. FSG’s research shows that manufacturing is likely to play a significant role in ASEAN for years to come

The Rise of Manufacturing in ASEAN

Southeast Asia has experienced a strong CAGR of 5.5% in terms of its manufacturing output over the last decade and is now responsible for almost 4% of the global manufacturing output. This growth has been funded both by domestic companies as well as foreign investors; ASEAN surpassed China in terms of the FDI inflow in 2013 and the manufacturing sector received a large chunk of the funds. In fact, more than 30% of all FDI that has flown into ASEAN between 2005 and 2010 (see pie-cart below) has been towards manufacturing, and the sector is likely to continue to be one of the biggest beneficiaries of the growing interest from foreign investors. The major reasons for this drive in investments can be summarized through the ASEAN’s four C’s: Consumption (growth), Cost (low), Commodities (abundant), and Community (single ASEAN trade bloc)


However, even though the majority of the ASEAN countries have moved out of the agrarian state and have seen this growth in manufacturing, many are still in the early industrialization phases; meaning that the manufacturing sector is going to continue to see strong growth over the next 10 to 20 years (see graphic on the evolution of countries below) and will play a significant role in the development of the region


Assess the Direct Impact of the Rise of Manufacturing

  1. Serving the market: As costs rise elsewhere and the addressable market becomes larger in ASEAN, companies should explore the viability of moving production to the region using a “total factor performance” analysis. It is important to make sure that the analysis looks beyond the simple math of labor-cost and considers total factor performance (labor, transport, leadership, material, components, energy, and capital)
  2. Business customers (B2B) movement: Companies serving other manufacturing and production types of businesses should be assessing what types of industries are likely to invest heavily into Southeast Asia and which are not likely to consider moving beyond China

Gauge the Spillover Effects from the Rise of Manufacturing

  1. Productivity impact: The rise of manufacturing is going to positively impact productivity within the region, which has not seen a large improvement over the past decade. Manufacturing makes outsized contributions to trade, research and development (R&D), and productivity. The sector generates 70% of exports in major manufacturing economies, both advanced and emerging, and up to 90% of business R&D spending. Such productivity growth provides additional benefits, including considerable consumer surplus
  2. Rise in consumption will impact all industries: As the less industrialized countries of Indonesia, Vietnam, the Philippines, Myanmar, and Cambodia move from agrarian societies to manufacturing ones, companies should expect consumption dynamics to evolve. As people move from the less predictable farming sector to the fixed-wage manufacturing sector, they tend to experience strong income growth, increasing their capacity to consume. Even companies not exploring manufacturing opportunities in the region need to be monitoring this trend

Establish a Strategic Role for the ASEAN Region in Your APAC Portfolio

  1. Evaluate a “China Plus” strategy- China’s rise to manufacturing prominence over the past two decades has been staggering. However, rising costs, more sophisticated consumers, and fundamental macroeconomic realities mean that current approaches to manufacturing are losing their relevance. As the imperative for companies in China will be to boost productivity, refine product-development approaches, and tame supply-chain complexity, ASEAN has appeared on the horizon as a viable alternative for companies looking to expand their manufacturing footprint into relatively lower-cost locations. ASEAN countries provide cheaper labor, investor-friendly governments, and are part of established supply chains
  2. Compare the competitiveness of ASEAN (to China and India) – China is unlikely to lose its dominant position as the “factory of the world” anytime soon because of its well-established infrastructure, existing manufacturing facilities, ability to scale quickly, and strong involvement in established global supply chains. However, certain low value-added industries are likely to consider moving out of the country or at least setting up their next facility in Southeast Asia, where the cost of labor can be less than half of that in coastal China. ASEAN countries provide access to several raw materials, and certain locations have strong linkages to trade infrastructure
  3. Explore ASEAN’s complementarity to China- ASEAN countries are also likely to be playing a complementary role to China within several industries that depend on Asia for producing parts and final assembly. Given China’s established role as one of the most productive assembly locations in the world, due to its ability to scale quickly and availability of infrastructure, many companies produce their parts and components in cost-effective locations within the ASEAN region, conduct the final assembly in China, and then have the finished product shipped to the end customer. The ASEAN-China free trade agreement has helped companies create such fragmented supply chains

In FSG’s latest report on the region, titled ‘ASEAN’s Role in Manufacturing’, (a) we explore the rise of ASEAN as a manufacturing hub, (b) diagnose the viability of movement of different types of industries into Southeast Asian countries, (c) conduct a location analysis of the various manufacturing sites in ASEAN, and (d) decipher the impact of the ASEAN Economic Community on manufacturing decisions. FSG clients may click here to see the full report

The Philippines – Asia’s Cinderella Story

Everyone loves a Cinderella Story, a situation in which a competitor emerges out of nowhere to achieve great success.  So it’s not surprising to see so many people rooting for the Philippines lately.  After expanding on average by 3.8% per annum from 1990–2010, the country’s economy has ramped up its growth to more than 6% in recent years.  The so-called “Sick Man of Asia” is now the top performer in the region ex-China.  Its stock market is up, its currency is strong, and FDI is beginning to flow.  Some companies looking to diversify away from China are even starting to consider it as an option.

Even so, doubts linger over the sustainability of the Philippines’ growth spurt.  Indeed, this uncertainty was on full display at a Euromoney conference in Manila that I recently had the pleasure of attending.  Although the president gave a rousing speech outlining the country’s progress and the finance minister gave calm assurances that the economy was on stable footing, the same questions kept coming up – What will happen after the 2016 election?  Will the next administration continue the current administration’s policies?  What assurances can you give us?

These questions are critical because in the past, interpretation of laws in the Philippines has changed from one administration to the next. So even if a law or contract was well-written, the way it was interpreted and enforced could change dramatically every six years.  Aside from concerns about corruption – which are also tied to this dynamic – this is one of the biggest reasons the Philippines has had such trouble attracting foreign capital.

Unfortunately, it seems that investors’ questions about policy continuity will remain unanswered for now.  Noynoy Aquino has not anointed a successor, and nobody seems ready to fill his shoes.  The current frontrunner for the next election, Binay, enjoys popular support, but it is not at all clear that he is committed to continuing Aquino’s policies.  And many of the other people who have been cited as potential contenders are old-school Filipino politicians – exactly what the country doesn’t need now.

And so the Cinderella Story continues.  Will the Philippines be able to sustain its growth?  Will the “Sick Man of Asia” break away from his past and continue sprinting ahead?  We’re looking forward to examining these questions and more in our upcoming reports on the Philippines.

Vietnam’s Structural Slowdown

There was a time when companies could count on Vietnam to post one of Asia’s highest growth rates.  In the years running up to the financial crisis, its economy outpaced ASEAN’s other major economies, consistently expanding by at least 7% per annum.  Sadly, those days seem to be over.

Vietnam is in the latter stages of a structural slowdown.  The continued dominance of state-owned enterprises (SOEs) in the real sector has deprived the country of much-needed productivity gains.  And high levels of non-performing loans (NPLs) in the financial sector have thrown sand in the gears of the economy.  Until these obstacles are removed, Vietnam will grow at well below potential.

Vietnams GDP Growth

Officials in Hanoi have paid lip service to the notion that their state-led model needs adjustment; however, they seem to lack the political will to implement painful reforms.

Take the state sector as an example.  According to Hanoi’s own measures, its SOEs are 19x less efficient with capital and 9.5x less efficient with labor than non-state enterprises.  Vietnam would clearly benefit from a privatization campaign a la late-90’s China.  But unfortunately, that would require officials to face down vested interests, something they seem unwilling to do: after pledging to “equitize” 573 SOEs from 2012–2015, they only managed to “equitize” 13 in 2012 and 43 in 2013.  (56 down, 517 to go….)

This might not be so bad if Hanoi’s reform failures were limited to the state sector.  But unfortunately, they extend to the financial sector, where banks are struggling under an extraordinary weight of NPLs.

In this area, Hanoi’s bureaucrats are actively underplaying the problems they face and pursuing half-hearted reforms.  The path they have chosen – to merge bad banks with good ones and create a pseudo-asset management company – is not designed to fix the financial sector’s underlying problems.  Instead, it is designed to avoid painful initiatives and kick the can down the road.  So much for the country’s banks.

This is not to say that all the news out of Hanoi has been bad.  After all, the government has significantly improved its handling of monetary policy over the last couple of years, which has helped it tame inflation and reduce exchange rate volatility.  This is no small feat in a country that used to suffer from double-digit price growth and consistent currency depreciation, but unfortunately, it won’t been enough to revitalize the economy.

If Vietnam is going to break out of its structural slowdown and return to the growth levels it saw prior to the financial crisis, its leaders need to step up their reform efforts.  Given their recent track record, this seems unlikely.  Barring any major changes, the economy will continue grow well below potential.  Companies should not expect Vietnam to bounce back anytime soon.

Clustering is Key to City Prioritization in India


FSG believes that as India continues to struggle with its prolonged phase of low growth, companies operating in the country need to actively find the hot-spots of opportunities where there has been sustained growth, wealth creation, and overall development.  This necessitates a robust city-level study prioritization exercise that uses a sophisticated model to fully capture the true size of the pie.

Moving To City-level Studies – A Global Phenomenon with High Relevance in India

City studies are more relevant in India, because states are too big to be a “minimum unit” for prioritizing and wealth in urban areas far surpasses that in rural ones:

  • Size of the states: States in India are often equal in size to individual countries; a study of smaller entities is necessary to zero in on a specific geographical opportunity
  • India’s 80-20: Understanding where the pockets of wealth exist in India is more crucial than in other countries. While only 30% of the population lives in urban areas, they account for more than 60% of the GDP, and the number is expected to rise to more than 70% by 2030
  • High Wealth Dispersion: India, much like China, doesn’t have just two or three cities that account for most of the wealth, as is the case in several other emerging markets. Adding up the GDP of the top six cities in India would put it on par with Russia (18% in its top two cities), and it would require going as far as the top 15 cities to be on the same page as South Africa (23% in the top two cities)
  • Complex Data Environment: Adding to the dispersion of wealth, the sheer size of the country makes any data-based analysis complex due to the number of variables. There are more than 400 geographical units that have a population of more than 100,000 people, and almost 4,000 geographical areas are classified as towns

Percentage of GDP in Top Two Cities

Traditional Practice Has Been to Use Population: Rudimentary and Unproductive  

Population-based Ranking Not Always Effective: When comparing the list of top 40 cities in India by population to the list of top 40 cities by GDP, two interesting conclusions are brought forward:

  • The same names appear at the top of both lists: Companies that want to focus only on megacities (also known as the Eight Metros of India), can use population as a proxy for market potential and fund further research into understanding the more granular differences between the giants
  • Overlap between the lists is as little as 50%: The disparity between the two lists increases substantially beyond the megacities. Companies that have a presence in the eight metros and are looking to conduct prioritization studies of the next batch of cities should invest in acquiring at least basic GDP data to make further studies more robust

Cities Have Evolved; the Analysis Needs to Do the Same: Over the past two decades, India’s growth story has become that of scattered development, with regional political movements playing a larger part in the advancement of many cities. This divergence in growth will require increasingly sophisticated studies to measure market potential

  • While studies of the least-developed cities can still be focused on the basic building blocks of its economy and people, analyzing investment into cities with more than a million people will require the study of additional factors such as the quality of infrastructure, level of safety, provision of services, and availability of support functions to sustain growth
  • Most studies conducted on Indian cities, both internationally and locally, have used population statistics as the starting point. The evolution of the cities’ characteristics now requires analysis to move beyond simple population figures

FSG’s Unique Prioritization Methodology: Cluster-based ModelIndia Map

FSG has created a unique cluster-based model to prioritize the cities in India while doing away with the general approach of using a ranking-system that often creates impractical results, are overly dependent on population statistics and don’t internalize the distribution opportunities. The analysis resulted in the creation of 40 clusters in India, which were then divided into three categories (see the map, you may click to enlarge)

  1. Mega-Clusters: 7 Mega Clusters that account for 25% of the country’s GDP and have a total urban population of more than 140 million people
  2. Emerging-Clusters: 9 Emerging Clusters that account for another 15% of the country’s GDP and have total urban population of more than 60 million people
  3. Frontier Clusters: 24 Frontier Clusters that account for an additional 13% of the country’s GDP and have a total urban population of more than 80 million people

Truly Understanding ASEAN: Country-Level Analysis Not Enough

Continuing the discussion from my previous post on ASEAN strategy, here are some additional points to consider:

1. Country-Level Analysis Not Enough:

a. As the region matures and companies increase their focus on it, executives need to conduct in-depth provincial analysis in order to understand where the specific demand-side opportunities lie and where there is the ideal supply-side support

b. In a market where affordability is a key challenge faced by all MNCs, executives ought to conduct their opportunity analysis on a provincial basis, to focus their investments towards the top choices

c. While provincial data is not available for many indicators, companies can begin with macroeconomic analysis by looking at gross domestic product, per capita wealth, population, and some expenditure patterns


2. Keep Your Focus on the Hot Spots: 25% of the Provinces Hold 75% of the Wealth

a. Wealth in Southeast Asia remains highly concentrated thus companies looking to expand in the region should focus their efforts on the top-tier provinces, which make-up for more than 75% of the GDP of the entire region

b. Depending on the specific province, companies will have to adopt different tactics in order to access end customers, who are likely to have varying consumption patterns as a function of their location and source of wealth

c. Companies could also conduct consumption pattern studies to get a better idea of their expenditure habits (use expenditure or food vs. non-food figures)

Wealth in Southeast Asia

*Source: Frontier Strategy Group Analysis; Individual Government Statistical Publications


Adopt a Regional Mindset with a Country-Level Focus for ASEAN Strategy

The rise of the Southeast Asian (SEA) region is unquestionable, with the majority of the regional executives increasing their focus towards the region, not only due to the robust increase in demand but also its attractiveness as a potential manufacturing hub for all of APAC. However, discussions with corporate headquarters still remain highly country-focused, requiring regional executives to proactively “make the case” to move towards creating a medium-to long-term regional strategy for SEA.

1. Regional Mindset With A Country Specific Focus

a. Appreciate National Differences: Companies should not expect to have similar experiences across this region; each individual country will require in-depth analysis due to its varying economic maturity and wealth

b. Adopt A Scalable Regional Strategy: Executives should adopt a regional mindset, developing a long-term expansion strategy that accounts for the country-level differences but simultaneously leverages upon synergies and creates scale

Understanding country-level differences is paramount to forming a regional strategy when the same region has the world’s largest producer of rice, largest call-center outsourcing provider, largest producer of hard-drives, and largest coal exporter. See graph below to see the variations in the key economic contributors for the major ASEAN countries (as of 2011):

Key Economic Contributors of Individual Countries (2011)

2. Communicate Strengths of the Region Back to Corporate

a. Region Provides for an Attractive Investment Climate – Many SEA countries are very MNC friendly and aggressively promote this feeling by providing long-term investment incentives to stimulate strategically important industries. Highly attractive investment incentives programs such as the Economic Transformation Program by Malaysia, MP3EI by Indonesia, Public-Private Partnership by the Philippines, and Zone-Based Investment Incentives by Thailand have become a popular tool to attract FDI dollars into the region

b. Easier to Manage than India – In terms of demand, the ASEAN region and its member countries share similar characteristics with India. However, doing business in SEA is widely agreed to be easier than doing business in India, which features: unpredictable policy making, high levels of bureaucracy, increasing corruption, differing tax regulations, and an acute lack of infrastructure improvements

c.  Profitability Game – Not Just a Top Line Growth Story – Companies have found SEA to not only have strong growth potential, but also the potential for higher margins compared to India and China.

i.  SEA is still relatively less crowded in terms of competition, both from MNCs and local companies. Relative cost of inputs remains lower in the region, especially for medium-to low-end manufacturing facilities.

ii.  The region’s strong consumption appetite, both from its growing middle class and the government, makes its growth somewhat resilient.

iii.  The region offers dual advantages for MNCs; it functions not only as a source of domestic consumption demand, but also as a production hub for exporting to the immediate region and beyond.

Executives needs to quickly adopt a regional-mindset, setting for themselves a clear vision for growth in the ASEAN region and planning for a future where the region not only functions as a leader for APAC but maybe for a scale which would allow for global leadership. Many large MNCs have already begun their quest for building businesses that have a common vision and strategy across the region.


PODCAST: Managing Indonesia’s Workforce Risks in 2013

Starting now, companies will face increasing workforce risks in Indonesia. Wages will rise by 15-30% over the next 12 months, and a new regulation will be implemented that restricts companies’ flexibility on staffing.

In this podcast, Adam Jarczyk, Associate Practice Leader for Asia Pacific Research, discusses these risks in detail and explains how you can use a 2-pronged approach to limit their impact on your business.  For further information on managing Indonesia’s workforce risks, be sure to read Managing Indonesia’s Workforce Risks in 2013, a blog post also authored by Adam Jarczyk.

To listen to or download the podcast, click on this link to access the iTunes store.

India’s Crucial New Budget: Congress Party to Overpromise and Under-Deliver Again?

India’s budget does not propose any grand plans or major reforms, disappointing several groups that expected the finance minister to combat decade-low growth with a radical plan. However, multinationals have welcomed the realistic and well-balanced strategy

FSG View:

Relatively Neutral Budget:

  • Given the historical trend of overpromising and under-delivering, India’s newly appointed Finance Minister P. Chidambaram has set the budget for a relatively neutral course with no radical proposals, focused around increasing the planned spending, cutting down on subsidies, and encouraging investment

Increase in Planned Spending:

  • Companies should be encouraged by the government’s plan to increase the size of their overall expenditure by 16.4%, the majority of which will come from an increase in planned outlay, while reducing non-planned spending, which entails interest payments, subsidies, and defense

Decrease in Subsidies Bill Difficult:

  • Subsidy cuts during a pre-election year are going to be difficult, but the government expects cuts in its petroleum expenditure. Last year, the government’s subsidy target was 1.9% of GDP but the revised estimates are over 2.5%

Historical Trend:

Overpromising and Under-delivering:

  • The Congress Party Government has consistently set unrealistic targets in a bid to keep voter confidence high; a maneuver that was not given much importance during the days of high-growth, but one which could backfire given the current slowdown
  • With the general elections coming-up in 2014, the government’s actions and performance are likely to receive closer scrutiny from both voters and the private sector

High-level Overview of Budget Proposal for Regional Executives



Mapping Policy Movements: Impact on MNCs vs. Likelihood of Implementation

Emerging Market View: What Our Analysts Are Reading – 3/29/2013

FSG’s research talent keeps a close eye on not only worldwide headlines, but also region-specific news for more locally-driven insight.  Here are a few articles highlighted by our research team:

Is Africa much richer than we think? No one knows – CNN

“This article is very timely as Nigeria is about to rebase its GDP this year which is likely to make the country into the biggest economy in Sub-Saharan Africa, surpassing South Africa. Many countries are expected to follow suit. This means that the continent could in fact be much richer than we think. MNCs should invest now to get ahead of the curve.”
- Anna Rosenberg, Senior Analyst for Sub-Saharan Africa Research


House deal see Agus named BI govenor – The Jakarta Post

“While Agus’ approval as the BI’s new governor may prove positive for Indonesia’s monetary policy, it is not a good sign for the country’s fiscal policy. This is the second time that a reform-minded finance minister has been pushed out in less than three years. If Agus’ replacement does not have his predecessors’ penchant for reform, it will bode ill for the future of Indonesia’s economy.”
- Adam Jarczyk, Associate Practice Leader for Asia Pacific Research


Argentina extends price controls for 60 days (Reuters, article in Spanish)

“As FSG predicted, price controls on a wide range of consumer staples in supermarkets will be extended another two months. The Argentine government introduced the measures for 60 days in February in order to dampen inflation and preserve purchasing power for key electoral demographic groups in the run-up to the election. FSG expects the controls to be extended again until after the elections.”
- Clinton Carter, Director of Research for Latin America

Is China Losing its Competitive Edge?

This blog entry is the first of a six-part series on China which will cover China’s productivity growth, portfolio management, geographical coverage models, talent management, post-merger integration and sales force effectiveness.

Is China Losing its Competitive Edge?

Many multinational companies are re-assessing China’s competitive advantage as a manufacturing base since labor arbitrage is becoming less compelling. Although China’s productivity gains (as measured by TFP growth) outpaced other major economies in the first decade of the 2000s, this rapid growth was interrupted by the financial crisis in 2008 and has been slowing ever since.  This is largely due to overcapacity and a “crowding out effect” caused by the massive fiscal package that Beijing put in place to offset the effects of the global financial crisis.

"Made in China" Industry Competitiveness Matrix


We believe that China is gaining momentum in higher value-added industries such as heavy machinery, information technology, and medical devices, but losing competitiveness in low value-added manufacturing to other low-cost Asian countries, even when it comes to serving the domestic market. In a workshop that I have run recently, we discussed the possibility that “Made in Bangladesh” apparel will begin to flood the Chinese market in a few years.

As China continues climbing up the value chain, more and more of its companies are expanding abroad to other emerging markets. This leads to interesting dynamics on talent requirements, intellectual property, and portfolio management.