Mexican Supply Chain Management: You’re Not in China Anymore

Last year, I asked my good friend Andrew Hupert to explain what it takes to move manufacturing from China to Mexico, in large part by comparing the two countries. I chose Andrew for this near-Herculean task because he has spent so much time in both China and Mexico, navigating their manufacturing systems from the inside.

My law firm frequently consulted with Andrew when we first started doing China legal work, back when Andrew was living in China. Though Andrew had for decades tied his life and career to China, he — like me — was one of the earliest proponents of a post-China manufacturing world. To better help the rapidly growing number of companies seeking to move their manufacturing from China to Mexico, moved to Mexico, became fluent in Spanish, and started consulting and writing about what is required.

Last year Andrew wrote a series of five posts on the differences between China and Mexico manufacturing and I urge you to read all five of these:

Then at the end of last year, Andrew and I together wrote Three Things Everyone Leaving China for Mexico Should Know, as an introduction to what we expect will be a ten part series to be written over the next 7-9 months. This series will involve Andrew writing about what he is seeing of companies moving their production to Latin America/Mexico and lawyers in my firm who help companies that make these moves legally writing about what they are seeing as well, sometimes with Andrew, as is the case here, and sometimes separately.

Last week we wrote Three Mistakes We Made in China and Three Things We’ll Get Right in Mexico.

The below was written by both Andrew and me and it constitutes our third piece in this new series.

1. The North American Leaders Summit

Though last week’s North American Leaders Summit left many unimpressed, it did have some good lessons for those looking to set up operations in Mexico, especially if your goal is to shift your supply chain out of China. Like most events like this, it has some good news for international businesses, some bad news, and a lot of ambiguity.

The good news is that the political connections between the United States, Canada, and Mexico are strong and stable. Yes, Mexican President Obrador Lopez (commonly referred to as AMLO) seemed to go out of his way to chide the US for its colonial past, but that’s just normal behavior for this populist leader and it indicates his confidence in the US-Mexico partnership. There was no talk of pulling out of the USMCA trade bloc nor any complaints about economic policy. All three leaders seemed comfortable with one another and they all behaved cordially.

The bad news was that the meeting produced little by way of substantive results and it didn’t really deal with any significant new issues. The US and Canada would like to see Mexico free up its energy market and move towards cleaner, greener forms of electricity generation. Canada and Mexico would like the US to liberalize trade, particularly in the auto sector. While the summit was taking place, a USMCA panel did rule in favor of Canada and Mexico in a dispute with the US over local-content rules, but the timing on this was a sheer coincidence. In other words, the three leaders were not involved in the week’s only significant decision regarding Mexico/Canada/United States trade relations. President Biden and AMLO confirmed adjustments to the immigration situation, but that decision had been in the works for a while. Nothing new was announced – but no damage was done to existing commercial relationships either.

2. The Main Takeaways for Your Business

A. The Mexican Government is Less Central to Business Than China’s Government

TheMexican government doesn’t play the outsized role in North America that the Chinese government plays in Asia. Not even close.

Mexico does not have Special Economic Zones (SEZs) that are useful to you. And though Incentives and free trade programs do exist in Mexico, they’re not the policy-driven gated communities in which foreign businesses in China often clustered.

It’s also relatively straight-forward and inexpensive for foreign entities to operate export-oriented factories in Mexico and doing so is much more a Do-It-Yourself (DIY) affair than in China. Mexico has a regulatory and legal framework in place, but it’s up to individual companies to put the pieces together. China was famous for the phrase “everything is possible but nothing is simple” and foreign companies would often go to China with half an idea and leave there with a sample product. Mexican managers have  more concrete expectations about business and their partners.

B. What you DON’T have in Mexico

In contrast to China, you do not typically have the following in Mexico:

a. An opaque business registration or approval process.

b. The requirement that you share your IP or your product details with the central government.

c. The need to hire personnel through state-run employment agencies.

From the legal side, our law firm (Harris Sliwoski) typically charges 35-75 percent less for the legal work required to set up and protect a client company in Mexico than in China and this is simply because what is required to accomplish these things in Mexico tends to be far less complicated and less risky than in China. Setting up and protecting a company in/from China is in many respects not like anywhere else in the world. Setting up and protecting a company in/from Mexico is not all that different from places like the United States, Canada, or Spain.

Mexico is at the other end of the spectrum from China’s “big brother” approach. In Mexico you will need to rely on private companies for everything from business registration to utilities to manpower. There are good, economical options to choose from, but foreign companies setting up in Mexico sometimes find that they have an over-abundance of liberty – often needing to take responsibility for their own infrastructure, managing scarce resources (sometimes this includes water and electricity), and furnishing their own security.

C. Mexico’s Attitude Towards International Business

The official approach of the Estados Unidos Mexicanos (Mexico) is that foreign investors are encouraged to set up manufacturing and sourcing facilities within the country so long as they 1) immediately export products and processed materials out of the country, 2) set up a Mexican entity to transact domestic business, and 3) comply with all applicable laws, rules, and regulations.  Mexico likes your investments, likes your know-how, and likes the salaries you pay its workers. It does not like unfettered competition in its consumer markets, and it takes an active role in protecting domestic companies. Mexico also has an unfortunate tendency to nationalize some of its key industries (energy is the big one, but locals are warily eyeing government involvement in airlines and transport as well).

Mexico has a legal and institutional framework that permits foreign businesses to set up operations and export to the United States and to other markets at low cost and high efficiency. This framework is mostly based on the following:

1. USMCA (a/k/a T-MEC in Mexico and CUSMA in Canada). For a very good and very concise explanation of the USMCA, check out USMCA: Trump’s new NAFTA deal, explained in 600 words.

2. IMMEX/Maquiladora/Shelter Programs. See Using Shelter Companies to Move Manufacturing from China to Mexico and Shelter Manufacturing in Mexico: Back by Popular Demand.

3. Free Travel Zones. See Mexico free trade zones worth exploring for stateside international shippers.

4. Industrial Parks. See Finsa records 99% occupancy rate in 2022 thanks to nearshoring.

We’ll very briefly describe each of the above below, and then treat them in considerably more detail in later posts.

1. The USMCA is the new version of NAFTA, and it forms the backbone of the emerging North American Economic Zone. This is the agreement that provides for low/no duty import into the US of goods made in Mexico and Canada. Its initial focus was the auto industry, but its provisions apply to any industry. US lawmakers don’t like the term “free trade agreement” because both labor unions and America Firsters see free trade as a threat, but that’s pretty much what it is. The bottom line for decision-makers is that USMCA allows you to import Made in Mexico products into the US largely tariff-free. Though this agreement was not entirely without controversy, it has deep bipartisan support in Washington DC, and it is unlikely to go away any time soon.

2. IMMEX is a set of Mexican rules designed to attract international investment FOR EXPORTERS. There is a lot to unpack in the IMMEX rules, but the main points of which you should be aware are that Mexico will make the following cheap and easy for you:

a. Set up your factories in Mexico;

b. Import parts, materials and equipment into Mexico;

c. Hire employees in Mexico;

d. Run you business in Mexico, so long as it exports production out of Mexico (this does not mean you cannot access Mexico’s consumer of B2B markets, but that’s a different discussion).

The terms IMMEX, Maquiladoras, and Shelter companies are used more or less interchangeably when talking about foreign companies in Mexico. The bottom line here is that Mexico has streamlined the process for foreign companies to set up operations and import parts, materials, and machinery with low or no duties. Local “shelter companies” will take care of your set-up and real-estate needs at competitive rates. See Using A Shelter Company In Mexico: A Complete Guide. A Google search for “Mexico shelter companies” will quickly show you to the wide range of private companies prepared to quickly help you extend your manufacturing operations to Mexico.

3. Mexican Free Travel Zones make it easier and cheaper for trucks to ship your finished goods across the Mexico-US border and into the United States. There are different zones, but the ones you care about are the 12 – 16 mile zones on the border with Texas and Arizona. The entire Baja peninsula (bordering California) is also a free travel zone. This rule allows vehicles to cross over from the US without a temporary importation permit (TIP), cutting down on delays, costs, and bureaucracy. This is one of the factors explaining why so many foreign-invested companies are located right on the US-Mexico border – and why the real estate there is so scarce and expensive. Many 3PL providers are located within these zones. For a fascinating New York Times article on how the Laredo, TX, is booming because so many companies are moving their manufacturing from China to Mexico, check out How a Texas Border City Is Shaping the Future of Global Trade. US imports passing through Laredo from Mexico already exceed all imports passing through the Port of Los Angeles. Approximately “$800 million worth of products as diverse as auto parts, clothing and avocados pass through Laredo every day . . . . “and by nearly every indication, more goods are on the way, presenting customs brokers, freight handlers and trucking companies with a monumental opportunity.”

4. Industrial Parks are common in Mexico, and this is often the best option for SMEs seeking to move their supply chains closer to home. Mexico’s industrial parks serve many of the same functions as China’s Special Economic Zones (SEZs), and they often work with the private companies that provide shelter services. Mexican industrial parks will typically provide you with the infrastructure, logistics, utilities, and security your factory needs. You can build your own facilities from scratch, but partnering with a Mexican industrial park will usually lead to your factory going up faster and easier. The bad news? These parks — especially the best ones — fill up fast.

D. Your Mexico Business Model

When it comes to factory set-up, think of China as a jigsaw puzzle where things only make sense when you put the right pieces in the right place, and there is only one way to do it correctly. Mexico is more of an old school Lego set (pre Star Wars) where you get to put the pieces together according to your own plan.

A gradual, measured approach to going into Mexico is possible, and for many SMEs it is advisable. One of the big complaints we keep hearing about moving production from Asia is that it is impossible to “decouple completely” from China. The reality though is that moving from a China based supply chain to a North American based supply chain need not be a jarring one-shot deal; It is possible (often desirable) to plan an incremental shift that will actually strengthen your supply chain and your customer service. It isn’t necessary to move your entire supply chain, either. You can continue importing technologically advanced and specialized parts from China/Asia, while using Mexican labor for processing, assembly, and general production. Your options in Mexico run the gamut from low-cost warehousing to total localization of your value chain.

As a sidenote, we have clients that have experienced problems from not moving enough of their production out of Asia fast enough AND we have clients that have experienced problems from moving too much of their production out of Asia too quickly. Hitting the Goldilocks zone of China decoupling is no easy task. Mexico offers a comprehensive range of options, but it is important that you plan carefully and consult with the right experts to ensure that you are complying with all relevant regulations, while maximizing your tax, logistical, and legal benefits.

It is also critical that you early on understand what is required for your Made in Mexico products to comply with USMCA and Mexican, United States, and/or Canadian requirements on local product content and degree of product transformation. This compliance or lack therof will influence your tariff rates and it almost always must be determined on a product by product basis by experienced international trade lawyers and/or customs brokers.

As always, good planning and preparation are key predictors of success in Mexico. Mexican managers expect you to show up with a complete solution, which includes sourcing and compliance. In China we used to say that if you showed up at the Canton Fair with a sketch of a product and $20,000 in your pocket, a factory representative would find you and make a deal. That’s not how business works in Mexico. Chinese factory managers were creative problem solvers. Mexican factory managers follow your plan.

The thing about Mexico is that it is emminently possible to take an incremental approach, gradually expanding your exposure, by slowing building up your operations there as per the below:

  • Warehousing (“just in time” was a Covid casualty.)
  • Fulfilment centers (for the US market)
  • Assembly
  • Sourcing from Mexico, the US, and LatAm, while continuing to import duty-free from Asia (providing the finished goods are exported immediately).
  • Blended supply chains (local fabrication backed up with specialized production imported from Asia).
  • Completely local sourcing and production.

E. Final Words

China in the 1990s was pretty rough around the edges and many people said it would never make it as a market economy. Over time, however, we learned how to work with China, and China learned how to work with us. Maybe we both did our jobs a little too well, because now we are grappling with the disengagement problem, and we may be running out of time.

Mexico will never have the huge domestic market or the raw manufacturing scale China has now, but Mexico has plenty of other advantages for brands targeting the US market. The USMCA trade agreement and the 2,000-mile land border are the first things you’ll notice, and for most of you those are the top priorities. Over time, however, it will be your ability to integrate Mexican facilities seamlessly into your US business that will make the biggest difference to your bottom line. Your IP is generally quite safe in Mexico and its central government will not interfere in your day-to-day operations. Perhaps most importantly, you will benefit from a powerful, flexible framework of trade agreements (including CPTPP).

I (Dan) went to Queretaro last month for a couple of quick meetings. My wife came with me and we spent a few days there in 65 degree weather. She only went with me once to China and that took a ton of planning and was a huge deal. Our trip to Queretaro was a total piece of cake. We flew to Houston then took a two hour or so flight to Queretaro and we cleared customs in about 30 seconds — and all this without any visa or quarantine. Two of the Americans on our flight were clearly such regulars to Queretaro that one of the customs officials hugged them and welcomed them back. I kid you not. I know many of you don’t care about any of this, but I do and I care because I feel like every dollar I spend in Mexico goes to an ally and benefits the United States, whereas every dollar I spend in China goes to a country most Americans view as an enemy.

On a more practical level, our phones worked without any extra charges and by using credit cards and leaving hotel tips in dollars, we never once even needed to convert any money. Our Internet worked great and was never blocked, nor do I have any reason to believe that our hotel room was bugged. We were able to watch whatever we wanted on the hotel TV and on our computers and the time difference was such that those from my office who did not know I was there never noticed any difference between my working from my sunny hotel room patio as opposed to my home office. My wife and I also both got along great with our bad Spanish and left there speaking it better than before we went. It felt like people were happy to see us and we were happy to be there. The weather was flat out perfect every day, which coming from rainy Seattle was yet another big plus. Mexico is a top-tier tourist attraction for many reasons and China is not for many reasons.

Mexico offers international managers much more flexibility than China ever could, and you can tailor your operation to your needs – not to those of a government or a political party. We urge you to consider it.