Regulating Outsourcing Creates Surprising Vendor Opportunities!


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(Published in Outsourcing Magazine, 12/14/2016)

During the election, Trump said that he would stop work from leaving America, and would tax offshored products at 35%. Weeks before Donald Trump is sworn in as President of the United States, he is hard at work wheeling and dealing with American corporations. Will these deals tell us about the “Trump Plan” for outsourcing? Let’s dive right in and see!

The Carrier deal has certainly received a lot of press, yet this deal has nothing to do with the official powers of the President. Carrier was offered $7 million in tax incentives in exchange for two things. First, Carrier will scale back outsourcing to Mexico, retaining 700 to 1,000 (reports vary) of the 2,000 workers scheduled for termination. Second, Carrier will invest $16 million over 2 years to upgrade their factory. Government funding money is from the state of Indiana, rather than the Federal government. VP to be Mike Pense, governor of Indiana sealed the deal.

In the past, this type of co-investment deal would yield more jobs over time. The Trump deal is different. CEO of United Technologies (Carrier’s parent firm), stated that their investment will allow them to automate the facility. Automation? The State of Indiana is subsidizing Carrier’s elimination of Indiana jobs through automation? If Carrier does not invest in automation, Trump will tax offshoring of these jobs.

I suspect this is NOT exactly what Trump had in mind. Likewise, these details have not yet been absorbed by the Washington Bureaucracy. This model has been followed or requested in the past, but usually only by the most liberal of Democrats. Usually, this will get you labeled “socialist” by conservatives. Trump may be able to convince fellow conservatives to accept this new paradigm. Still, much like the UK Brexit, as the financial consequences become understood, Republicans may agree with the goal but resist the mechanism.

To understand those consequences, we need to look at the following five elements that the Trump plan must address. Let’s start with…

Outsourcing: “Outsourcing” is the process of a firm moving its work to another firm. This definition, however, is too broad to translate into a government policy. If a firm outsources its accounting department, to a US accounting firm, is that outsourcing? Or must jobs be moved out of the US? This, however, is called offshoring. Offshoring moves work to another country, but the offshore firm could be your firm’s foreign office, a completely different firm or a co-owned venture. Will they all be taxed?

The last 20 years of offshoring involves every conceivable business arrangement. Look at LG computers. They started off as IBM’s offshore factories for laptops. IBM sold off the factories and the IBM laptop brand name to the Korean firm that would later be called LG. Is LG still an outsourcer today, or is it a foreign company? Do you avoid outsourcing penalties if you sell your offshore facility to a foreign company?

How will corporate America negotiate the new complexities of outsourcing? Who will produce reports and negotiate penalties? Probably HR, but HR has had its resources slashed in the past decade. The outsourcing of outsourcing management and reporting may seem… ironic?… but it may also be a huge and lucrative opportunity.

Incentives: Few jobs are created equal, and each job kept onshore could yield a different government payout. Indiana will pay $7 million, or $700 per worker, per year, for 10 years. Last year, Alcoa Aluminum in New York, cut a deal to save 487 jobs. The deal is for just 3.5 years, but it pays $21 million per year for a total of $73.6 million. That’s over $43,000 annually compared to less than $1,000 for Carrier. Corporations, or a service they hire, needs to ensure that clients receive the highest benefits and the lowest penalties possible from whatever program is put in place.

How big could this program be? The Federal government’s largest job incentive program is probably the US Postal Service. With 500,000 permanent employees, they run a total deficit of $47,000,000,000 over the last 10 years. That’s $95,000 per employee. The USPS continues to lose ground against private delivery services, email and (soon) drones. While the USPS is not about to be offshored, they need to be transformed. And soon. But this does indicate the size of the incentives that may be needed for Trump’s program.

To ensure that clients can fully participate in these programs, outsourcers must “unpack” the free analytics and management that is currently bundled into their offshore pricing. Providing a sophisticated new consulting service that can bridge the knowledge gaps that will come with new outsourcing regulations, will provide outsourcers with a huge revenue opportunity. 

Automation: As stated earlier, Carrier’s $16 million investment will be used to automate. This is not some “Trojan Horse” by Carrier’s management. If you have an old factory that is no longer competitive, what can you do with a $16 investment to change that? Fix the roof?  Build a new cafeteria? No, you will invest in automation or equipment upgrades that increase productivity and reduce the need for workers.

Will US corporations be taxed if they eliminate jobs through offshoring, but given incentives if they automated away the same jobs? Because firms are constantly doing both, who will provide Washington with the documentation that proves that jobs were eliminated by automation (or other approved forms of job reduction) and therefore the firm is exempted from the 35% tax? Once again, more paperwork. A lot of paperwork!

Penalties: Will all US offshored products be taxed at 35% based on their suggested retail price. If parts made in the US but assembled offshore, do we just tax the “additional value” created offshore?  Are we just taxing goods outsourced after 2016, or from the beginning of time? How we define and monitor this could make or break Trump’s program.

Consider products that are no longer made in the US, such as men’s clothing? The vast majority of American men’s clothing … includes Donald Trump’s clothing line… moved offshore in the 1980’s. Are we trying to restart men’s clothing in the US? Or does Washington just exempt these goods from tax penalties? What about other products that the US doesn’t manufacture anymore: smartphones, computers, athletic shoes, solar power cells, light bulbs and (yes) air conditioners?  

Competition: Top of the line mobile phones cost $700. The Apple iPhone is 100% assembled offshore. Offshore assembly costs about $140, but onshore assembly would cost $780. Do we apply the 35% tax to the $700 phone, the $138 of added offshore value for assembly, or do we tax the $780 of work the US lost? If we keep it simple and tax the $700 retail price of the phone, the new cost is $925.

That will certainly send a message to Apple. But not the one you think. The higher cost of onshore assembly would drive the cost to over $1,400. That would lose most of Apple’s US market (and jobs). Or the factory could be automated, which would eliminate most of the reshored jobs. Neither option creates many new jobs.  

There is one other problem. Of the top 10 mobile phone manufacturers, only Apple is American. The rest are all Asian. If the offshore tax makes Apple’s phone go from $700 to $925, won’t it become uncompetitive against foreign phones? If Samsung and LG phones continue to cost $700, won’t that drive Apple out of the market? Taxing outsourced US products will benefit foreign competition. Does that inevitably lead to an across the board 35% tariff on all foreign imports and outright trade war? 

Conclusion: A 35% tax on offshored work and a few incentives to keep jobs in the USA seems like a simple plan, but in the real world it is far harder to implement than it appears. Defining what is and isn’t outsourcing, separating offshore American products from offshore products, and managing what could be a tidal wave of new paperwork will create a significant Federal bureaucracy, which will consume resources that few corporations have. That’s a big opportunity for outsourcers that are willing to create a new billable service.

Outsourcers who look at penalties on outsourcing and see the end of their industry aren’t looking hard enough. Automation, not regulation, is the greatest threat to the current outsourcing model.  Regulation offers a new opportunity to use and expand Intellectual Property that outsourcers already possess.  Remember, not every firm may wish to participate in a government incentive program, but if all outsourcing is penalized, every firm you work with (and more) will at a minimum need to report on their outsourcing activity. Will you be the first vendor to ask your client to manage this opportunity?

 

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