Guangzhou Constant Shoes Co. is set to abandon Guangdong, the southeastern province at the center of China's exporting boom since the 1980s, by shifting most of its production 500 kilometers (311 miles) inland.
Rising labor costs and a shrinking supply of workers in coastal areas are threatening to sap China's strength in exports, which account for more than a fifth of gross domestic product. To cope, the maker of women's and men's fashion footwear chose to tap a pool of cheaper labor in Yongzhou, Hunan province.
"Within a year, our Guangzhou factory will only make samples," sales manager Leon Zeng said.
The more companies that join Guangzhou Constant in keeping production within China's borders instead of decamping to Asian neighbors such as Bangladesh, Vietnam or Indonesia, the longer the world's second-largest economy may avoid slumping to less than 5 percent annual growth, an outcome investors in a Bloomberg poll forecast by 2016.
"If we do this shift right, we can buy two decades and avoid shock therapy for the economy," said Cai Fang, a Beijing- based member of the standing committee of the National People's Congress who helped draft China's five-year plan through 2015. "We still have low-hanging fruit to pick."
The transition won't be easy. While its new location provides Guangzhou Constant with tax breaks and cuts wages by about 17 percent, transportation costs will rise by about 20 percent because of the longer distance moving goods to port.
Other impediments include fewer suppliers, the reluctance of young inland workers to take factory jobs and a lack of business savvy among some local governments, according to manufacturers interviewed by Bloomberg News this month in Guangzhou at the Canton Fair, China's biggest trade show.
Additional headwinds may come from abroad, as Europe's sovereign-debt crisis and high unemployment in the US threaten to undermine global growth. China's exports rose at the slowest pace in almost two years in October as Europe's deepening turmoil restricted demand.
Should companies overcome the obstacles, China's share of global exports could more than double to 23 percent in a decade, said Zhang Zhiwei, an economist at Nomura Holdings Inc. in Hong Kong. That would give the country more time to shift away from growth led by investment and foreign sales to a greater reliance on domestic consumption, a central plank of its five-year plan.
China's economy expanded 9.1 percent in the third quarter from a year earlier, the least since 2009, after five interest-rate increases starting in October 2010 cooled property-price gains.
Suppliers of goods used to build or decorate homes will benefit as new inland factories help create the need for more low-cost housing, said Andy Mantel, managing director of Pacific Sun Advisors' Mantou Fund in Hong Kong.
"I look for good companies that are making products that will benefit from the roll-out of social housing," Mantel said. His fund has held China Liansu Group Holdings Ltd. (2128), a Foshan- based maker of plastic pipes, since last year.
Royale Furniture Holdings Ltd. (1198), which makes home furnishings and has more than 2,000 stores in China, may rise to HK$4.13 ($0.53) in 12 months, according to Ethel Ng, an analyst with OSK Hong Kong Securities, amounting to an 82 percent jump from HK$2.27 as of 2:14 p.m. in Hong Kong. The company, based in Hong Kong, opened 350 stores in China this year through September, Ng said in a Nov. 4 research note.
Fillip for spending
Higher wages from the spread of manufacturing will help buoy inland consumer spending, said Mark Mobius, Singapore-based executive chairman of Franklin Templeton Investments' Emerging Markets Group, which managed more than $56 billion in assets as of June.
That will aid companies such as Uni-President China Holdings Ltd. (220), a Shanghai-based seller of juices, teas, yogurt and instant noodles, said Mobius, whose firm owns the stock.
Taiwan's Foxconn Technology Group, China's biggest exporter, is the highest-profile company to shift some production inland. The maker of Apple Inc.'s iPhones and iPads opened a factory in Zhengzhou, the capital of central Henan province, in August 2010, and said in December it will invest more than $330 million in this and several other facilities including one in the southwestern city of Chengdu.
The inland factories will help boost the operating-profit margin at Hon Hai Precision Industry Co., Foxconn's flagship company, as it saves about 40 percent on worker pay, said Daniel Chang, an analyst with Macquarie Securities Ltd. in Taipei. He predicts Hon Hai shares will reach NT$103 ($3.41) within a year, up 23 percent from NT$83.80 at 2:16 p.m. in Taipei.
Annual wages of private companies' urban manufacturing workers in Guangdong province averaged 21,644 yuan ($3,413) last year, compared with 16,391 yuan in Hunan and 15,495 yuan in Henan, according to government data.
"A move inland is a must for companies in labor-intensive sectors," Chang said.
A rise in urban factory wages of 94 percent since 2005 has led some economists to conclude that China is nearing the so- called Lewis turning point, when surplus labor evaporates, pushing up pay, inflation and consumption.
The concept, named after the late economist and 1979 Nobel laureate W. Arthur Lewis, is associated with rapid losses of competitiveness for sweatshop industries in South Korea and Taiwan in the 1980s.
"Dramatic" increases in China's inflation-adjusted wages since 2004 indicate the "era of surplus labor is over," the International Food Policy Research Institute said in a May 2010 paper titled "China Has Reached the Lewis Turning Point."
Rising wages are prompting Coach Inc., the largest US luxury-handbag maker, to move some production out of China in the next five years, with Vietnam and India as possible destinations, Lew Frankfort, chief executive officer of the New York-based company, said in May.
Average monthly pay in January for "general workers" in Guangzhou was $281, compared with $114 in Ho Chi Minh City, Vietnam, and $54 in Dhaka, Bangladesh, according to data compiled by the Japan External Trade Organization.
Lower wages may not be enough to lure some companies away from China. "Vietnam has got problems of its own" including labor strikes and China's government tends to be friendlier to business, Mobius said in a telephone interview.
"It won't be easy shifting manufacturing to inland China but it has to be done because the alternatives are not that great," he said. "Roads are getting better, railroads are getting better," making shipping easier.
Migrants working on the east coast also are returning home to take jobs inland, according to Cai, head of the Institute of Population and Labor Economics at the state-backed Chinese Academy of Social Sciences. And two million agricultural workers, mainly in central and western China, may shift each year for a decade to factories from farms, he said.
A "substantial pool" of about 80 million potential migrant workers is available in rural China, according to a 2010 research paper co-written by John Knight, an economics professor at the U.K.'s University of Oxford.
Reports about a dearth of low-cost Chinese workers are "really an exaggeration," said Stephen Roach, non-executive chairman of Morgan Stanley Asia. "There's going to be an enormous increase in the supply of labor in cities in inland China over the next 20 years."
Quanzhou Haiheng Sports and Tour Goods Co., based in coastal Quanzhou, is tapping that supply for cheaper third-party manufacturing of its military bags, clothing and headgear after wages rose 30 percent in three years and the cost of materials more than doubled in 2010, said Jason Du, a sales manager.
Within two to three years, the company will have boosted production in the interior cities of Wuhan and Chongqing to half its $8 million annual sales, Du said at the Canton Fair.
China's hinterland "is the future" for Guangzhou Constant, the shoemaker moving operations to Hunan, sales manager Zeng said. The company, with estimated 2011 revenue of $800,000, plans to increase output by hiring 500 staff in Yongzhou, up from 50 in Guangzhou, which will become the firm's "brains," he said.
The company considered three locations in China before settling on Yongzhou, a city of almost 6 million people northwest of Guangzhou, mainly because of tax incentives and sales pitches from the city government, Zeng said.
"Things will be difficult for the first several years," he said at the fair, where ladies' shoes were stacked on shelves and lined up across the floor of the company's white, brightly- lit booth. "The supply of materials is poor and we'll have to buy from Guangdong and send it to the factory."
Similar obstacles are holding back luggage maker Shanghai Worldwide Trading Co. Finding experienced workers and dealing with higher transportation costs and the absence of suppliers are among barriers owner Catherine Liu cited in an interview at the fair.
People inland "don't want to work in factories; they want easier jobs in supermarkets or restaurants," she said. "Suppliers will have to move inland first."
Eventually her company will have to make the transition, she added. "But it needs more time, maybe a long time."