Against the backdrop of the economic downturn, many global manufacturers are shuttering or downsizing factories to cut operating costs quickly. That focus is understandable and, for some companies, necessary. Yet when senior managers make decisions about closing, opening, or relocating plants, today’s preoccupation with costs shouldn’t obscure the longer-term importance of other strategic factors—particularly the role of individual facilities in fostering and disseminating innovation across a manufacturing network.
Indeed, the strength of a multinational manufacturing company lies precisely in its ability to exploit a network of knowledge to spread process innovations and best practices and, ultimately, to create innovative products and services. Companies that make footprint decisions without considering the way individual factories fit into a broader knowledge network therefore risk sacrificing long-term innovation for short-term gains. A better understanding of the way factories interact to create and transmit knowledge can help senior executives not only to spark innovation by balancing portfolios of plants but also to maximize efficiency by locating production resources appropriately. Moreover, our research suggests that the importance of actively participating in the creation of knowledge is increasing for individual factories. Those that actively develop and share it offer their companies greater strategic flexibility and seem to have a more stable future.
Four kinds of factories
To learn more about the role of knowledge in global manufacturing networks, we conducted a longitudinal study of eight multinational manufacturers based in Europe. The first phase, carried out in 1995 and 1996, examined the 59 factories around the world that these companies then owned. Our research included in-depth interviews with their manufacturing and supply chain executives, as well as surveys of the top managers and management teams of the factories. In 2005 and 2006, we revisited the eight companies to learn how the network had evolved over time.1
During the first phase of the research, we classified the factories according to their role in transferring knowledge among the plants in the network and corporate headquarters. We considered both explicit knowledge (including product, process, and managerial innovations) and informal knowledge (measured, for instance, by levels of communication between the managers of different factories). Four kinds of factories emerged.
Isolated factories (22 percent of the total in 1995–96) receive few innovations from other plants in a network and transfer few if any innovations themselves. Few manufacturing staffers visit or receive visits from them, and levels of communication between their staffers and the managers of other factories are low. Nonetheless, many isolated factories are very efficient. One company we studied, a producer of aluminum cans, had quite a few of these factories. They were typically high performers, supplying commodity products to their local markets and relying on themselves to improve their own manufacturing processes. Some were efficient, reliable, and independent greenfield units.
Fifty-three percent of the factories we studied in 1995–96 were receiver plants, which get many “innovation injections” from other factories in the network, from headquarters, or both, although they don’t transfer innovations. Some receivers were underperformers and needed external support. Others were satellite factories supervised by neighboring ones. Still others relied on external support to keep pace with rapid changes in technology. One steel cord plant we studied served as a model factory of the future and thus received significant support from corporate development teams and other factories.
The very different hosting network factories (16 percent of the total in 1995–96) have strong network relationships, communicate and exchange innovations with other plants actively, and receive frequent visits by colleagues from other units and headquarters (in many cases, the hosting network factory was the plant closest to it). A lot of these facilities were centers of excellence where engineers and other employees came for training.
Active network factories (8 percent in 1995–96) communicate more intensively and share more innovations than hosting network ones do, and their staffers are more likely than those of any other kind of factory we studied to pay many visits to other plants. One luggage maker’s active network factory, for example, was located near the company’s product design center, in its European headquarters. This plant, which served as a pilot center for new designs of luggage, compensated for its relatively high labor costs by excelling in small runs of new products with short delivery times. As these products matured, the factory transferred its know-how to low-cost factories in Eastern Europe.
Implications for senior managers
How can managers use an understanding of these four models to manage factory networks? Our longitudinal study, along with our later work with senior managers around the world, suggests two important insights.
A balanced portfolio
First, our work underscores the importance of balance in a company’s portfolio of factories and suggests how companies might achieve it. Hosting network players, for example, appear to be necessary for a company’s survival, for their innovations are the primary source of improvements in manufacturing operations. Yet such factories can be large enough to create diseconomies of scale, and when they are situated close to corporate headquarters, they may not be optimally located to tap into new trends.
In such situations, companies often rely for that purpose on active network factories, which probably explains why European pharmaceutical giants have subsidiaries in California or Boston, close to new developments in fields like biogenetic engineering. Similarly, automakers in Europe and the United States use their active network factories to learn about the new manufacturing processes of the Japanese carmakers with which they partner. Still, active network factories are relatively expensive. Their managers spend a lot of time traveling, visitors disturb their operations, and training people and sharing best practices are time-intensive activities. These factories must have extra capacity to fulfill their roles as developers and distributors of knowledge.
Since it’s foolish to allow this kind of inefficiency in all facilities, companies should complement their active network factories with isolated plants operating in a very lean, efficient, and low-cost way. In fact, our work suggests that isolated factories help companies to control the overall cost of their manufacturing networks while offering greater strategic flexibility. The isolated factories we studied often served, for example, as bricks in building an international presence: by replicating the practices of isolated factories in a new market, a company can gain rapid access to it, learn about its trends, and use that knowledge to develop innovations in network plants. (This copy-and-paste approach is particularly common for mature manufacturing processes used to make relatively low-value products.) By the same token, isolated units are easy to relocate, as the textile industry’s shift of production from North Africa and Mexico to Mauritius to Bangladesh and, most recently, to China has shown in recent years.
As for highly efficient receiver factories, they help manufacturing networks in similar ways, particularly when technologies—including the process technologies associated with manufacturing—change rapidly.
The geography question
Of course, to optimize a company’s manufacturing footprint, managers must consider geography. Do specific types of factories have natural geographic locations? For hosting and active network plants, our research suggests that the answer is no. In fact, active network factories in particular could, and probably should, be located all over the world; the main question is finding the most interesting sources of knowledge.
For isolated and receiver factories, however, the situation is different, at least in one respect: while they can be located anywhere, in the long term they are much less sustainable in high-wage countries (such as Japan) than in low-wage countries (such as China). In the face of overcapacity or other setbacks, it will be obvious where to cut these kinds of facilities: a Belgian factory in our study, a receiver that absorbed practices from other plants to improve its performance, was the first victim during a period of downsizing. Broadly, our research and experience suggest that isolated and receiver factories will struggle for survival in high-wage countries or gravitate toward low-wage ones.
A dynamic view
Of course, a company’s network of factories evolves along with broader changes in its context and strategic direction. In fact, manufacturing networks are remarkably dynamic. During 1995–96, the eight European multinationals we studied operated 59 factories. A decade later, they operated 83, and nearly all the net additions, reflecting the increased globalization over the period, occurred outside Europe. Meanwhile, 18 of the original 59 factories had disappeared a decade later. A majority had been shuttered; others were transferred through M&A or partnerships.
Follow the advantages
To determine which forces influenced the closure of the old plants and the sitting of the new ones, we studied the primary advantages that managers of factories attributed to their location in 1995–96, and again in 2005–06. During both periods, proximity to markets trumped a range of other factors, including proximity to suppliers, the supply and cost of labor, and the availability of skills. The cost of labor was the primary driver for the location of just eight of the factories that the eight multinationals owned in 2005–06. While this finding doesn’t imply that only these factories were located in low-cost countries, it does mean that the globalization of manufacturing networks is driven more by a search for markets than by relocation in search of low labor costs.
Moreover, factories whose main advantages were market proximity and the availability of skills and know-how have survived at a higher rate than factories whose main advantage was labor costs. Not surprisingly, three of the four factories that seemed to have no real location advantage in 1995–96 have disappeared. It’s clear that skills, know-how, and market proximity are relatively stable location advantages. Low labor costs is a less stable one, and of course the absence of any major advantage is a source of instability.
What has been the fate of the four different types of factories we identified earlier? Notably, we found that over the past decade, the proportion of active network players has increased while that of isolated factories has decreased (exhibit). This finding suggests that today more factories are regarded as sources of know-how for their networks and thus as assets for their companies. Only one of the factories that disappeared from the networks since 1995–96 was a network plant; nearly all of the departed were isolated or receiver factories. A comparison among the survivors strongly suggests that some isolated factories—and possibly a few receivers—developed into network plants, especially active network plants.
A trend toward active networking
Evidence for this shift also came from our interviews with factory managers, several of whom stressed the importance of networking and of efforts to promote the sharing of experiences and best practices through means such as working groups, audit teams, physical and virtual meetings, intranets, and databases. Our interviews suggest that the development of stronger network relationships resulted from a clear and explicit strategy—and was in some cases regarded as necessary for corporate survival.
Taken together, our findings suggest that the companies in the sample preserved their competitiveness by shedding some factories that didn’t contribute to their stock of knowledge and by committing a larger part of the corporate manufacturing network to its creation.
Increasing strategic flexibility
A greater focus on the creation of knowledge doesn’t mean that companies should eliminate all of their isolated factories or receivers. On the contrary, over the decade the companies we studied created and disposed of quite a few such factories—four per company over the decade—which suggests that they make the strategic architecture of an overall factory network more flexible.
Of course, this possibility is cold comfort to plant managers of isolated or receiver factories. How can they improve their odds of survival? In high-wage countries, one strategy seems to be building and maintaining relationships with other factories in the network. Innovativeness in itself appears insufficient for survival; the willingness to share its fruits with the other players in the network is crucial.
Control over the dynamics of a network of factories should not be left solely to their managers, however; ultimately, senior managers at headquarters must orchestrate the coordinated evolution of the network’s nodes and flows. For senior executives, this means that decisions about the design of a company’s manufacturing network aren’t limited to what it should produce and where, and how to organize the resulting logistics flows; they are also about the design and management of flows of innovation and know-how. Executives must not leave this to chance.
Facilitating, building, maintaining, balancing, and managing network relations among factories may prove to be the key to competitiveness.