17 March 2017
Cambodia: Manufacturing Relocation Opportunities (2)
Expanding Role in an Increasingly Integrated ASEAN Supply Chain
- Chart: Ease of Doing Business Ranking 2017
- Map: Selected GMS Economic Corridors
- Table: List of SEZ along the Southern and the Southern Coastal Economic Corridor
- Photo: Denso’s plant in the PPSEZ.
- Chart: Cambodia’s Monthly Minimum Wage, 2012-2017
- Photo: Workers’ good performances are recognised by a garment factory.
- Photo: A canteen in one garment factory in Phnom Penh Special Economic Zone.
- Table: Infrastructure Development Ranking
With production costs rising in China, manufacturers are looking at less costly places in which to diversify their factory investments, in particular to the ASEAN-CLMV countries – Cambodia, Laos, Myanmar and Vietnam. In light of this, HKTDC Research recently visited Cambodia in order to assess its suitability as an alternative production base for Hong Kong manufacturers.
The first part of this article, Cambodia: Manufacturing Relocation Opportunities (1), provides an overview of Cambodia’s manufacturing landscape. The second part continues by examining its current investment environment and future opportunities under the increasingly integrated ASEAN supply chain, while keeping in mind the lingering concerns about the country’s soaring labour costs and backward infrastructure.
An FDI-Friendly Business Environment
While enjoying trade privileges with major developed countries, Cambodia has also made efforts to strengthen its attractiveness as a manufacturing production base by creating a welcoming investment climate. Cambodia’s corporate tax rate stood at 20% at the end of 2016, lower than the 25% of Myanmar and Indonesia.
The Cambodian government offers handsome incentives to attract FDI and bring in new technology to enhance productivity. Companies can be 100% foreign-owned and there is no restriction on the repatriation of profit or capital. Eligible projects approved by the Council for the Development of Cambodia (CDC), the country’s key FDI promotion body, can enjoy a tax holiday of up to nine years (a trigger period of up to three years, plus three years of automatic exemption, and another three years priority period) and duty exemption on imported intermediate goods and finished exports.
For small and medium enterprises (SMEs), it is also worth noting that in Cambodia, a relatively low level of start-up capital is required to enjoy foreign investment incentives. According to the CDC, a qualified investment project on manufacturing and production typically requires a minimum investment of between US$200,000 and US$500,000. By comparison, Myanmar requires investments of US$500,000.
In the World Bank’s 2017 Ease of Doing Business report, Cambodia was ranked 131th out of 190 economies, above Laos (139th) and Myanmar (170th) but far behind Thailand (46th), Vietnam (82th) and Indonesia (91th).
The World Bank report said it took an average of three months to set up a company in Cambodia. To reduce the time and the number of procedures involved, the Cambodian government introduced a new online business registration system in 2016. While there are various flaws, such as the lack of options to make online payments, the business community appreciates the effort the Cambodian government is making to transition to an online platform, which streamlines applications and is more transparent than the previous paper-based process.
Re-organisation of Regional Supply Chains
Inspired by the “China-Plus-One” concept, where rising labour costs and ongoing structural reform are driving Chinese manufacturers to diversify their labour-intensive production activities on the Chinese mainland into other low-cost Asian countries, the idea of “Thailand-Plus-One” has gradually taken hold among Thai manufactures in recent years. Despite the military coup in 2014 and newfound stability in the country, cost pressures have invariably forced manufacturers to upgrade and move up the value chain and/or relocate part of the production to Thailand’s border zones or neighboring countries. In terms of cross-country relocation, a great deal of interest has been placed on the Greater Mekong Sub-region’s (GMS) Southern Economic Corridor and Southern Coastal Economic Corridor, where industrial accumulation has gradually built up.
ASEAN Economic Community to Speed up Regional Integration
In 2015, the ASEAN Economic Community (AEC) was officially established. By creating a single production base, the AEC increases the opportunities for Cambodia to participate in the regional value chain. For example, the ASEAN Single Window (ASW) will be implemented as part of the AEC integration process. Light-industry manufacturers with factories within the AEC stand to benefit from lower transaction costs through a reduction in tariffs and non-tariff barriers on goods and services.
Take Denso, a major Japanese auto-parts maker, as an example. The company has operations in Thailand, but is looking to shift its more labour-intensive work to less-developed ASEAN countries including Cambodia, while turning its Thai operations into a regional hub, which transfers technology to other plants in the region.
In 2015, Denso set up a 100,000-square-metre (sqm) site in the Phnom Penh Special Economic Zone (PPSEZ) as part of its effort to lower production costs. With Thai workers as trainers, the plant started operations in 2016 and employs about 100 Cambodian workers who produce magnetos and oil coolers.
Rising Labour Costs Erode Cambodia’s Competitiveness
Much of Cambodia’s attractiveness relative to its regional competitors in drawing FDI lies in its low labour costs. However, the rapid increase in Cambodia’s minimum wage has, to a certain extent, eroded the country’s low-cost advantage relative to its regional competitors.
In 2017, Cambodia’s monthly minimum wage of workers in its garment and footwear industry stands at US$153, some 2.5 times that of the 2012 level. According to an industry source, the proportion of wages to production costs has increased to 60-70%, compared with about 50-55% just a few years ago.
Cambodia’s minimum wage is below that of Thailand (US$250), an Indochina industrial base long favoured by Japanese investors, and Vietnam (US$166 for Zone 1, which covers the urban parts of Hanoi and Ho Chi Minh City), where Korean investment has poured in to turn electronics products into the largest export category. Landlocked Laos, and Myanmar under its reformist civilian government, have much lower minimum wages at about US$110 and US$90, respectively.
It is also worth noting that Cambodia has about 30 public holidays a year, almost double that of Vietnam or Laos, resulting in fewer working days. If monthly attendance bonuses, meal and transport allowances and overtime payments were added, Cambodia’s average monthly wage could rise to more than US$200, which may not be much lower than many regions in Vietnam.
The GMAC expressed concern about the fast-rising minimum wage, which ranks among the top challenges for some foreign manufacturers, many of which complain about shrinking profit margins. Despite the wage rises, Cambodia’s garment industry kept expanding in 2016, with the Ministry of Labour and Vocational Training noting that 149 new garment factories opened during the year. In contrast, 141 garment factories closed in 2016, nearly twice the number recorded in 2015.
Labour Productivity Fails to Keep Pace with Wage Growth
Many factory operators interviewed by HKTDC Research pointed out that the country’s labour productivity was not keeping pace with climbing wages. They cautioned that Cambodian workers could only achieve satisfactory levels of productivity if they were given more training and a longer time to adjust than workers in Vietnam or Thailand. In particular, some factory managers suggested that the average labour productivity of Cambodian workers was only about 50%-60% that of Chinese workers.
While manufacturers in general face no trouble finding workers, some indicated that the recruitment of experienced labour was becoming increasingly difficult. Employers have to make special efforts, such as offering extra allowances, in order to retain workers, particularly those in factories located outside central Phnom Penh. Due to a lack of technical and vocational training schools, there is also a shortage of skilled workers in the country, making it difficult to employ locals for middle-management roles.
Cambodia’s garment industry has been plagued with strikes and protests over the past three to four years. Although this remains a key workplace issue in the country, the latest round of minimum-wage increases in the garment industry may help to ease tensions between employers and employees, thereby lessening the prospects of more widespread labour unrest.
In 2016, there were 220 strikes at 211 enterprises and factories, a decrease of 116 cases from the 336 reported in 2015, according to the Ministry of Labour and Vocational Training of Cambodia. HKTDC Research was told that responsible business practices and measures to facilitate better employer-employee communication has also contributed to the decrease in strikes and protests.
Backward Infrastructure Presents Additional Challenges
Cambodia also faces the problem of backward infrastructure, with electricity costs a frequent source of complaint. Costs are as high as US$0.20 per kilowatt-hour (kwh), compared with about US$0.08/kwh in Vietnam and US$0.10/kwh in Myanmar. While most electricity is generated domestically, Cambodia has to import power from neighbouring countries such as Vietnam and Thailand to meet the rapid growth in demand. On the bright side, HKTDC Research was told that electricity supply had become more stable in Cambodia, compared with frequent blackouts just a few years ago.
In terms of transport infrastructure, Cambodia ranked 106th out of 138 in infrastructure development in the World Economic Forum’s Global Competitiveness Report 2016-2017, considerably behind Thailand (49th), Indonesia (60th) and Vietnam (79th). To overcome the infrastructure bottleneck and take full advantage of regional integration, Cambodia will require significant investment in road, rail, sea and air links over the foreseeable future.
That said, Cambodia’s transport infrastructure looks set to improve over the medium term. Under its 2015-2025 Industrial Plan, the Cambodian government is committed to implementing a master plan for the transport and logistics system by 2018.
Further, Cambodia is a pivotal partner of the China-proposed Belt and Road Initiative (BRI), which aims to promote co-operation along the planned New Silk Road Economic Belt and 21st Century Maritime Silk Road. In implementing the BRI, a lot of attention is placed on the construction of a series of infrastructure projects, including transport and energy facilities. In this connection, the BRI can be a key facilitator to the development of Cambodia’s infrastructure and transportation network.
During Chinese President Xi’s visit to Cambodia in October 2016, a total of 31 agreements and Memorandum of Understanding (MoUs) were reached to engage in joint projects in industry, infrastructure and maritime business. China also agreed on a financial aid of about US$180 million (RMB1.2 billion) to Cambodia. This will help fund the construction of a highway from Phnom Penh to Sihanoukville, the upgrade of National Road No.11 and a new bridge crossing the Mekong River in Tbong Khmum and Kampong Cham provinces.
Cambodia: still a viable option for manufacturing relocation
Despite the undesirable wage trends and labour-market development in recent years, Cambodia remains a viable option for foreign manufacturing companies that are considering relocation and diversification. The overriding attraction is its preferential trade access to major developed countries, which should continue for the medium term. Together with a relatively stable economic performance, this could potentially give Cambodia a bigger role in the increasingly integrated regional supply chain for overseas companies and importers, despite lingering concerns about eroding labour-cost advantages and a backward infrastructure.
 The ASW for customs clearance will connect and integrate the National Single Windows (NSW) of individual ASEAN members to expedite the electronic exchange of customs data used by traders in obtaining customs clearances, permits and other documentation for trade within ASEAN.