Is the Finnish manufacturing industry at a dead end?

It is a grim time to be working in manufacturing in Finland. Then again, it’s been grim times for more than 30 years already: Finland lost around 240,000 manufacturing jobs between 1980 and 2011, of which 100,000 between 2000 and 2011, and BCG expects Finland to lose a further 42,000 manufacturing jobs by 2020, which would bring the number of remaining manufacturing jobs to around one half of the 1980 level.

In this post, I will examine the situation more closely from the framework of McKinsey’s next-shoring perspective. The next-shoring perspective stipulates that there are two main drivers for selecting manufacturing location: proximity to demand and proximity to innovation. Their relative importance can differ from field to field.

Proximity to demand

Finland is in a poor position when considering proximity to demand. The home market is miniscule, and access to the main European markets requires transportation of goods over the Baltic Sea, which is almost a unique obstacle among the EU countries.

There is one major opportunity regarding proximity to demand, and that is Russia. The major city of Saint Petersburg, with 5 million inhabitants (almost as many as the whole of Finland) is located mere 170 kilometers from the Finnish border. However, the capricious nature of the Russian economy and political behavior make this a highly unreliable opportunity at best.

These challenges are well-represented in Deloitte’s 2011 study on the future of manufacturing industry in Finland: The top reasons why companies had transferred manufacturing abroad in 2000-2010 were (1) lower labor costs, (2) lower other costs, (3) proximity to key customers, and (4) proximity to potential markets. The relative importance was somewhat different for companies planning to transfer production abroad in 2011-2014: (1) proximity to potential markets, (2) lower labor costs, (3) proximity to key customers, and (4) entry to new markets.

While costs still play a part, proximity to demand has become a much more prevalent reason to transfer production abroad. Costs remain a challenge nonetheless: in 2011, the average cost for a manufacturing worker was €23 per hour in Finland, €22 per hour in Germany, €16 per hour in the US, and €5 per hour in Eastern Europe.

The above also means that the main reasons for companies to reshore or near-shore manufacturing will not help the manufacturing industry in Finland: there are no markets where Finnish manufacturing would have a pure cost advantage (possible differences in productivity aside).

Proximity to innovation

Regarding proximity to innovation, Finland is in a better position. According to WIPO Global Innovation Index 2013, Finland is the 6th most innovative country in the world.

This is somewhat reflected in the Deloitte’s 2011 study. When listing reasons for having manufacturing in Finland, the by far most important reason is (1) history, but after that Finnish companies list (2) proximity to key customers, (3) availability of skilled workforce, and (4) proximity to markets as the main reasons. For international companies, the list is skewed a bit more toward innovation with (2) availability of skilled workforce, (3) proximity to key customers, and (4) access to specialized know-how completing the top-4 list.

However, the innovation base of Finland is at a risk of rapid deterioration. Companies typically offshore manufacturing first, but manufacturing and R&D are closely linked, and as the amount of manufacturing decreases, the amount of R&D work in the manufacturing industry decreases as well some years afterwards. Innovation is highly dependent on clusters, so as R&D activities of companies decrease, it affects the other companies in similar fields in the vicinity.

Ironically, one of the best opportunities for the Finnish manufacturing industry is the fall of Nokia from the position of a major cell phone manufacturer. Nokia had already transferred most of its cell phone production abroad (McKinsey considers electronics business as the easiest business to separate manufacturing and R&D in), so the number of manufacturing jobs was already low, even though the number of R&D jobs was high. As the manufacturing industry is becoming increasingly interlinked with software business, the high number of software engineers who have become free to pursue other fields could provide the needed boost to speed up Finnish manufacturing to the forefront of new, more intelligent, products.

There is also a second aspect to innovation: process innovation. Even if Finland could move to the forefront of integrating manufactured goods and software, it would still be important to be able to manufacture the products in a cost-effective way. As the manufacturing jobs are bled abroad, the specialized know-how on manufacturing processes is being lost. This is already visible in machine shops, as some challenging structures that used to be able to be manufactured to specification are now riddled with quality issues.

Likewise, as companies offshore their supplier networks in order to drive down immediate manufacturing costs, the whole fabric of manufacturing know-how is weakened to a point where companies have to offshore their supplier networks, because sufficient competencies are not available locally. This is a disastrous strategy in the long term, as it is notoriously difficult to improve the performance of remote supplier networks through process innovation.

Can something be done?

Something can always be done. The proximity to demand route is closed from Finland barring a major rise of the Russian market, and it makes no sense to stand by and wait for one, as that might be a long wait, and if it is too long, even proximity to demand is not going to revitalize something that is already dead.

Therefore, the remaining route is the innovation route. In this area, there are plenty of things to be done:

  • Education is one key area. There are multiple things that can be done in the field of education:
    • Ensure the availability of skilled workers, especially process and method technicians, the hands-on experts who know how to get from a drawing to reality
    • Increase the competence in supply chain management
    • Increase the competence in manufacturing management (Lean, TOC)
    • Promote multidisciplinary education to foster innovation (Finland has traditionally been heavily engineering-focused)
    • Promote manufacturing industry as a viable career choice
  • Streamline and focus public R&D funding to build strong clusters in which companies benefit from each others’ existence

All of the above actions would be directed at retaining and improving the level of innovation, both product and process innovation. This would lead to new products as well as improved productivity, thus mitigating the effects on high hourly costs. Focus is the key, as globally competitive companies cannot exist in isolation, but instead need other companies in similar fields around them.

Photo: Tako paperboard factory in Tampere, Finland by Karri Huhtanen (CC)

Author: Ville Kilkku

I run my own consultancy business, so if you find the ideas on this blog intriguing, contact me at consulting@kilkku.com or call me at +358 50 588 5043 and we can discuss how I can help you solve your business problems. I am currently based in Tornio, Finland, but work globally. Google+