by STEVE REECE, managing director, Toy Team Asia
China’s role in international manufacturing is changing as economic development advances ever further. In the toy business, China has been playing a massive role in producing the products we sell for more than four decades. Before manufacturing in China, most companies either produced their products in their home market or imported from various hubs around the world, including Hong Kong, Japan, and Taiwan.
THE TOY INDUSTRY’S RELIANCE ON CHINA
The major factor of concern for the toy business is, of course, the cost of labor. In the toy industry, automation is normally not a practical manufacturing solution, meaning that our business is generally reliant on countries with cheap, abundant labor. Due to the advanced economies and minimum wage structures in the U.S. and Europe, cheap labor is not typically available in these home markets. This was a major reason why China began to dominate toy production beginning in the late 1970s.
Fast forward to today, and China has managed to lift hundreds of millions of people out of poverty. But, those times are heading toward a natural end as labor is no longer comparatively cheap or abundant for toy factories in China. While some production is relocating around China to chase greater labor availability and lower costs, the reality is that China may still be our preferred source for toy production due to its comparative ease. The established efficiency, reliability, and robustness of the local supply chain is there, but it is increasingly the costlier option. Pricing — as anyone who had to negotiate price points last year due to the shipping container crisis would know — is key in the toy business. Retailer pressure for lower pricing continues regardless of increasing inflation.
A variety of factors, including inflation rates, labor shortages, and the Chinese state’s focus on “trading up” to produce more complex products have led to the closure of several toy factories in China, while many more struggle to be profitable. The bottom line is that China today is perhaps less suitable for producing toy cars versus producing real cars.
To be clear, China will still be a player in the toy business. Currently the world’s second-largest toy market, and with a strong parental emphasis on education, China represents an increasingly important commercial opportunity for toy companies. And, while China is certainly going to lose a very large chunk of the production it has historically held, logically, toys intended for distribution in the Chinese domestic market will surely continue to be produced en masse in China.
THE MULTIHUB MODEL
Toy companies are increasingly going to need to be prepared for change and more uncertainty than they have been used to in terms of toy supply chains. Today, there are some alternatives to China, but they are not perfect and certainly do not yet have the capacity that China has developed over the decades. As the industry moves from a single-hub model to a multihub model, production is going to get more fragmented, shipping consolidation will get more complicated, and sourcing teams will have considerable latitude on where each product should be produced in order to ensure efficient delivery to its intended market. This will also be more work than sending out requests for quotes (RFQs) to the usual three factories in the same area of China. Sourcing is going to become a more challenging function with more scope for costly errors but it also has significant cost savings potential.
The biggest sourcing mistake toy and game companies make is focusing solely on manufacturing costs. Manufacturing normally accounts for about 25-30% of sales and is the biggest cost most companies have, so focusing on getting costs down is not surprising. The issue is how little attention many companies and sourcing professionals pay to supply chain risk. The events of last year’s global supply chain crisis proved why diversification is key.
ALTERNATIVE TOY MANUFACTURING HUBS
Vietnam has been the country of choice for manufacturing groups that have seen the writing on the wall and have chosen to diversify, instead of using China or Hong Kong alone. Vietnam is culturally and geographically closer to China than some other potential alternatives. This means that manufacturers can deal with many of the same company owners and management, and it is beneficial in terms of continuity of standards, understanding, and relationships. The feedback we have received, however, is that factories in Vietnam are very full due to increased demand.
India is the only country with a population similar to China and with a large-scale latent industrial base. There are some good toy factories in India supplying major companies, as well as many new entrants trying to get into the toy manufacturing market. India also has very abundant and cheap labor, leading to significant cost savings (5-10% lower) versus China on products that require high labor and toys with multiple components. There are challenges with India in terms of communication style and business culture, as well as consistency; most companies sourcing from India have higher expectations during inspections versus China. Our company has played some part in introducing top toy companies to India for toy manufacturing, so we have followed their journey closely. Based on this, our observation is that sourcing from India can take a bit more managerial effort. It is not yet quite as easy as sourcing from China, but can result in significant cost savings. If your total manufacturing spend is $20 million and you put a quarter of that into India, you might achieve $500,000 cost savings if your products fit.
Indonesia is also a growing toy production hub, with multiple viable factory groups supplying the global toy market. Historically, Indonesia has been regarded as a higher risk due to political instability. In addition to Indonesia, there is also some capacity in Thailand and Malaysia, but those countries have somewhat higher labor costs and tend to get less of a focus.
Finally, nearshoring in Mexico for supplying the U.S. and Canada, and Eastern Europe for supplying the major toy markets in Europe, are also alternate production sources. Before shipping container costs soared, these markets were mostly considered prohibitively expensive, with costs being approximately 25-30% higher at the factory gate. With soaring shipping costs over the past year, these hubs suddenly looked more attractive, and demand soared. It remains to be seen whether this demand will dissipate when shipping costs finally start to reduce at some point. There are some good factories in both Mexico and Eastern Europe, and I anticipate growth to come across the next decade. Supply chain diversification and growing environmental concerns are driving closer-to-home manufacturing for some product lines and customers.
The toy business has already begun the transition from a primary sourcing hub in China toward a multihub model. The larger toy companies have been working on this for years, and many manufacturers have begun working with suppliers in different countries — not necessarily because they want to or because it is easier, but because they feel they have to. This transition has already produced seismic shifts and is only going to accelerate over the next few years.
This article was originally published in the February 2022 edition of the Toy Book. Click here to read the full issue!