beyondbrics

As central Bangkok residents brace for possible floods and many factories north of the Thai capital remain under two metres of water, investors are starting to ask whether the worst floods in 50 years will damage the country’s prospects as a major global manufacturing base.

Japanese car makers like Toyota and Honda and electronics manufacturers from Sony to Western Digital, the world’s leading maker of hard disk drives, have warned that production will suffer because of the floods, which have inundated an area the size of Switzerland and killed more than 340 people.

Thailand produces 60 per cent of the world’s hard-disk drives, while many Japanese car manufacturers rely on key assembly plants and component factories in the Southeast Asian country.

Thailand’s successful clustering of industries could make for a good Harvard Business School case study but some analysts are questioning whether, after the interruption to global supply chains from these floods and the Japanese earthquake in March, companies might look to diversify production rather than relying on so much concentration.

“Companies can’t just up and leave, but they will think twice about expanding their capacity in Thailand,” said Dennis Meseroll, Bangkok-based founding partner of Tractus Asia, a management consulting firm that advises manufacturers on where to invest in the region. “Wages are rising anyway in Thailand and there are other lower cost locations. Now is the time to think again about moving, to potentially reduce costs and ameliorate some of these [supply chain] risks.”

Meseroll told beyondbrics that some of his clients who had been planning to set up factories in Thailand are having to think again, whether that means building their plant away from the affected areas of central Thailand or choosing another country.

“These kinds of disaster are wake-up calls for particular industries or companies. Disasters are very infrequent and humans don’t assess probability very well. Companies are constantly reminded by Wall Street of the efficiency gains from just-in-time supply and using minimal numbers of suppliers. But they are not constantly reminded of the risk of flood, earthquakes and tsunamis, so it gets underplayed as a factor in developing a supply chain.”

Japanese automotive manufacturers have been particularly badly hit and OSK, a Malaysian stockbroker, suggested that the floods could push some companies to move outside of Thailand in the medium term, with Malaysia a potential beneficiary. Analyst Ahmad Maghfur Usman wrote:

We do not anticipate foreign automakers to immediately relocate their investments from Thailand. Rerouting output to make up for lost production in the short term may not be feasible but we see that a progressive geographic diversification of operations and multi-sourcing as the most sensible. Many automakers are already eyeing Indonesia as their next production hub. However, noting that the country is also natural disaster-prone, there may even be a rethink in the near future.

Setsuo Iuchi, president of the Japanese trade promotion body in Thailand, said that it was far too early for the more than 400 Japanese manufacturers that have been hit by the floods to make any firm decisions.

Companies will review the situation after the water levels are down and the damage is repaired. But Thailand still has a good business environment in terms of supporting industries, labour force, infrastructure and so on. And other parts of the region still have the risk of natural disasters.

Once the emergency situation is resolved, a swift, decisive response from the government will help to persuade foreign investors of the benefits of staying in Thailand, according to Prasarn Trairatvorakul, governor of the central bank.

The Bangkok Post quoted him as saying:

If the government can prove itself, foreign investors will not move production bases out of Thailand.

Morgan Stanley analysts warned last week that PC makers HP and Dell would be most at risk from shortages and rising prices of hard disk drives caused by the flooding. Apple was less exposed with many of its products now using Nand Flash instead of traditional hard drives.

Nidec, a maker of hard drive components, said operations at five of its six factories in Thailand were suspended due to the flooding.

Hitachi has said it expects there to be only limited spot shortages in desktop and consumer electronics 3.5in drives but sees “material disruption” in its ability to produce 2.5in drives used in laptops. Hitachi accounts for around 22 per cent of this market.

Western Digital has been hardest hit among hard drive makers, with facilities flooded. Around 60 per cent of its overall production comes from two Thai facilities employing roughly 37,000 people. It said it expected a 58 per cent quarter-on-quarter decline in its December shipments owing to the flooding. It is a key supplier to Pace, the UK set-top box maker, which warned that profits would be hit by a shortage of drives.

Additional reporting by Chris Nuttall in San Francisco

Related reading:
Thailand: flooded… and dovish?, beyondbrics
Thai floods threaten Japanese supply chain, FT
Thailand to increase wages despite flood costs, FT
Thais freeze rates as floods hit growth, FT