Birnbaum’s Global Guide to Winning the Garment War

This book is a tool for buying and producing at the lowest cost. The tool is Full Value Cost Analysis (FVCA). As with any tool, you have to read the operating instructions before turning on the power.

The operating instructions for FVCA are very simple. There is only one instruction: Forget everything you ever thought you knew about garment costings. You and I, brought up in the very bowels of the international garment industry, have for years accepted certain unshakeable ‘laws’ of product costs. Dredge them up and throw them up.

Unshakeable Law #1: The lowest cost garments come from places with the lowest wage rates.

There exists no direct correlation between labor rates and manufacturing costs. I realize that to tell you, a professional international garment-sourcing specialist, that cheap labor does not equal cheap garments is like telling the pope that Jesus was not crucified, but pushed in front of an oncoming subway train.

Case Study I—The Sri Lankan Sewer An A-class sewer in Sri Lanka is paid $2.00 per day. An assembly line will produce about 18 shirts per day per machine, incurring a sewing cost of $0.11 per unit. The other operations, such as cutting, buttonholemaking and pressing, add a further $0.06. Total direct labor cost will therefore be less than $0.20 per shirt. Unless the importer requires Tiffany cufflinks for buttons, the total trim including packing
materials will probably be under $0.25. Total of labor and trim should, therefore, be $0.45.

However, the average manufacturing or cut-make-trim (CMT) charge for a shirt in Sri Lanka is $2.10 or over four times the labor and trim cost, and about ten times the direct-labor cost. (By the way, direct labor is less than 4% of the probable $5.00/shirt FOB price).

What happened to the other $1.65?

I will return to this mystery later on. For the present, it is enough to say that the unaccounted for money does not wind up in the factory’s pocket. The fact is that for most Third World factories, wage rates are not the most important component of total manufacturing costs.

If you think about it rationally, the conclusion seems almost obvious. Low labor rates do not determine garment cost. If they did, we would all be working in Somalia, North Korea, New Guinea, Cambodia, or any of the other twenty-plus countries where wage rates are six cents an hour or less. Few importers work in the truly low-cost-labor areas simply because the final costs of the products made in these countries are too high.

Unshakeable Law #2: The lowest FOB cost comes from factories with the lowest manufacturing (CMT) costs.

There exists no direct relationship between CMT and FOB costs. I know this is a little hard to swallow. It was for me. Like you, I was taught that the whole purpose of traveling to the ends of the earth to make a five-pocket jeans was to take advantage of cheap manufacturing costs. Yet the figures simply do not support this premise; in fact, sometimes they prove that the entire effort may almost be a waste of time.

Consider this example.

Case Study II—Five-Pocket Jeans
A sewer in South Korea is paid $7.50 per hour. Her counterpart in Indonesia is paid $0.20. The wage difference is 37.5 times. However, the difference in the FOB price between a 501 jeans made in Indonesia and the same jeans made in South Korea is only 15%.

The answer lies in the basic cost breakdown. The FOB price of five-pocket jeans works out to 70% for the denim fabric and 30% for everything else. This 30% has to include not only labor but trim, overhead, profit as well as quota. How much can be saved in this 30%?

If CMT in Indonesia were zero, your total maximum savings would be 30%.

But consider that overheads are at least the same in poor countries as in rich countries. In fact, telephone and electricity costs less in Seoul than in Jakarta. In a developing country, overhead can equal anywhere from 100% to 400% of direct labor. Quota costs depend on the size of the country’s quota allocation, not on the state of its development. Trim costs are usually lower in developed countries than in the Third World. In the end, the only cost advantage is labor—ultimately a minor component of total FOB price. In this case, a labor cost advantage of 3750% translates into an FOB savings of merely 15%.

Unshakeable Law #3: The lowest FOB cost results in lowest actual product cost.

There exists no relationship between FOB or landed-duty-paid (LDP) costs and the actual cost of the product. I realize this is difficult to accept. I appear to be saying that costs are not costs. In fact, the real problem is that many—if not most—of the factors that determine costs are not even included in professional buyers’ cost calculations. Yet all importers do use these hidden costs to make their decisions.

Here is just one example of an important cost not included in the cost sheet.

Case Study III—The One-Hundred-Twenty-Thousand-Dollar Skirt
You are a moderate-sized importer of ladies’ sportswear. You have found a mill in northern China that produces beautiful wool plaid fabric at $4.00 per yard, 58 inches wide, in any pattern. The FOB price of the skirt would be under $7.00, quota included. This would be a truly great price except for two small problems—the mill has a minimum of 10,000 yards per colorway and it will provide no salesman sample fabric.

You know the styles will sell, but you must have salesman samples to sell them. Assuming that you need three colorways for your skirts, you have to commit for 30,000 yards of fabric in order to have fabric for salesman samples. Are you willing to bet $120,000? Because that is the up-front cost.

This is your dilemma. The FOB cost may be very low, but the cost of failure is very high. Do you want to take the risk? As a professional, in the end you must balance your faith in your own judgment against the facts. If the risk works out in your favor, you are a hero for about thirty minutes. If the risk does not work out, you will have to look at those racks of unsold skirts every day for five months, or however long it takes you to bite the bullet and get rid of them for less 75%.

The gamble might seem appealing, but in the end the $120,000 is too high a price to pay for a skirt. Also, don’t forget this skirt is only one style of about 75 in your forthcoming line.

Most garment professionals can work out that in the case of the Sri Lankan factory, direct labor counts for only 10% of CMT. These same professionals know that as in the case of the five-pocket jeans, total CMT in a Third World factory seldom exceeds 30% of the FOB price. That means the total cost of direct labor in these factories is a negligible 3% to 4% of FOB, which in turn works out to 2% of the LDP price or about 0.75% of the retail price.

Yet despite these ratios, I and almost every other garment professional around still looks at direct labor as the prime factor in determining total garment cost. Take, for example, a senior executive for one of the world’s largest manufacturers of active sportswear and footwear in April 1997 commenting on a 10.7% pay rise recently won by their Indonesian factory workers, who stated, “Indonesia could be reaching a point where it is pricing itself out of the market.”

At that time, an Indonesian line worker was paid about $1.80 for a tenhour day. A 10.7% wage increase equals 1.9 cents per hour—adding a cost of a little more than a nickel on each pair of shoes retailing for about $100, or about 0.06% of its retail price. This is an amount so small that it is not even worth including in the costing. Yet the American company spokesperson stated that the problem of rising wages was so serious as to cause the company to consider relocating its production.

Decisions like this are not only illogical, they are insane—especially coming from one of the smartest management teams in the entire industry. A better solution would be to fire the man who made the statement and use his $250,000 salary to pay the wage increase. This way the buyer could increase the direct wages of 4500 workers by 10.7% and still come out saving money.

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