Tag: manufacturing

Bringing manufacturing back to the United States, colloquially known as nearshoring, is poised to significantly reshape trucking and rail networks across North America. The push for localized supply chains promises shorter delivery times and reduced geopolitical risks, but it also brings challenges in infrastructure and logistics. The companies solving these challenges are going to be critically important and could be an investment opportunity.

Nearshoring offers two big advantages and a few smaller challenges. First, it can help companies avoid tariffs and FX headaches. Second, it can shorten lead times and improve inventory management. Trump’s original push for tariffs and COVID-19’s supply chain shock have made a strong business case for bringing manufacturing back to the United States, but the cost of manufacturing domestically is higher than manufacturing abroad. However, having confidence that your supply chain can deliver and not having to deal with political spats carries significant value. Unfortunately, the higher costs associated with manufacturing domestically generally need to be passed on to the consumer. Higher prices for some goods are tolerable, but if it’s broad-based then it can be inflationary. An additional challenge is that the United States currently faces some constraints on manufacturing. Labor is one – we addressed it last month here – and transportation is another. Put simply, we need our domestic logistics to level up to accommodate a push for more manufacturing at home.

North American Trade

Mexico has become America’s largest trade partner, recently overtaking China as the top exporter to the United States. It is well positioned geographically and broadly has lower wage costs and a greater supply of labor for factory-level jobs than the United States. U.S. companies have invested significant capital in Mexico over the past several decades and many companies send parts back and forth from the U.S. to Mexico for different parts of the manufacturing process.

Canada’s geographic proximity has also made them a critical trade partner for the U.S., but mainly in the realm of natural resources. Crude oil, liquefied natural gas, lumber, and other mined commodities consistently supply US markets.

North American trade has become increasingly interwoven and has accelerated as scrutiny on China has mounted. According to the Brookings Institution, the U.S. imported $472.5 billion of goods and services from Mexico while Canada imported $15.6 billion worth of goods. The United States also accounts for over 40% of Mexico’s imports. This partnership is bidirectional and has led to gains for both the United States and Mexico. Generally speaking, Mexican manufacturing shouldn’t be seen as a direct competitor to American manufacturing but rather as a complement. Mexican factories use parts imported from the U.S. and vice versa; corporations have allocated capital across both countries to drive manufacturing efficiencies in an attempt to remain competitive with low-cost goods from China. While investing in Mexico means navigating complicated labor laws and exposure to cartel crime, the low-cost labor makes it a necessary input for effective North American manufacturing.

The degree to which companies can nearshore and access cheap labor in Mexico is important because it impacts the mix of goods that can be effectively manufactured outside of China. High-value goods like electronics and automotive components can be manufactured and sold domestically with cheaper labor in Mexico and capitally intensive factories in the United States combining to offer a competitive product. Potential shifts in U.S. import policy, specifically with regards to tariffs on Mexico and Canada could jeopardize this balance. The ability to manufacture efficiently in the United States could actually take a hit if we make trade with Mexico and Canada more difficult.

Consequently, while we are broadly optimistic on North American manufacturing, we’d shy away from trying to pick winners or losers who might be impacted by tariffs or trade disputes. Instead, we would suggest focusing on investment opportunities in companies who facilitate trade and transport unfinished components and final goods to their points of sale. The economy is strong and nearshoring has momentum, so the space is probably worth a look.

Nothing Is More American Than Trucking

The value of U.S. freight by truck with Canada and Mexico has steadily increased since the mid-2000’s and amounts to over $70 billion as of December 2023, according to the Bureau of Transportation Statistics. With nearshoring comes shorter supply chains, and an increase in the need for valuable truck space, meaning trucking fleets need to navigate the shifting trade landscape to accommodate retailers’ just-in-time inventory approach. With trucking, the two general approaches to shipments are full truckload (FTL) and less-than-truckload (LTL) – the latter meaning a single truck carries shipments from multiple customers and the former meaning all goods in the container are destined for the same location for the same customer.

Generally, LTL shipments are more expensive on a per-unit basis but offer manufacturers greater flexibility in getting finished goods to retail customers or storage warehouses. Instead of committing and paying up for larger shipments that take up entire truckloads, companies can have goods shipped with smaller, more frequent LTL runs which allow for quick inventory adjustments. These quicker adjustments are helpful during labor strikes or supply chain disruptions. LTL shipments account for just about 10-15% of the industry’s volume today, but the rise in e-commerce and necessary shorter transit times presents a compelling investment opportunity for trucking firms down the road.

Companies like FedEx Corp. (FDX) and Old Dominion Freight Line Inc. (ODFL), who specialize in LTL shipping, dominate the market and offer solutions to small and medium-sized enterprises that don’t have the scale to fill up whole truck beds with raw materials or finished products. Conversely, the FTL industry is highly fragmented and relies heavily on brokerage firms to match shippers with small and mid-size carriers.

According to RXO Inc (RXO), the top 15 FTL carriers combine for less than 10% of total market share. More than 95% of carriers operate 10 trucks or less! Although still critically important for the food, pharmaceutical, and consumer goods industries, it’s a heavily diluted market with minimal barriers to entry.

Innovating American Trucking

Artificial intelligence and technological innovation are coming for the trucking industry. Something as simple as improving routing could lead to significant cost savings. Technology enabling the real-time tracking of vehicles, predictive maintenance, and dynamic route adjustments based on traffic or weather conditions could all lead to bottom line improvements. Better routes and more well-maintained trucks reduce fuel consumption, repairs, and idle/empty drive times. Firms with enough capital to own trucking fleets and invest in technology, like XPO Logistics (XPO), can also integrate trucking fleets with warehouse management systems to streamline order processing and reduce downtime.

Technology can also help tackle regulatory complexity. Importing goods from Mexican maquiladoras, factories that import materials and export the finished goods, requires expertise in customs and border clearance. Facilitating the clearance of goods through U.S. customs and navigating documentation, duties, and inspections means third-party logistics firms like C.H. Robinson (CHRW) with integrated customs brokerage services are crucial for nearshoring to succeed.

Finally, the United States is facing an acute shortage of truckers, especially those who are interested in long haul journeys. The adoption of automated driving for semi-trucks would be huge for the industry. Regional routes often involve repetitive patterns and well-defined paths, making them ideal candidates for early implementation of autonomous driving systems. These systems can handle highway driving and reduce driver fatigue, while allowing human operators to focus on more complex urban or last-mile navigation. Currently, according to the American Journal of Transportation, the U.S. has a shortage of more than 80,000 truck drivers, a deficit expected to double by 2030. This is compounded by the composition of the trucking labor force – the average age of truck drivers exceeds the median labor force age in the U.S

Companies focusing on autonomous driving are therefore going to be crucial if nearshoring momentum is going to keep picking up. Companies like Aurora Innovation (AUR) have teamed up with technology giants like Nvidia (NVDA) to mass produce its integrated driverless systems. Furthermore, companies like Tesla have been working on Semitruck technologies for years.

Railroads Are Essential Too

There is no one-size-fits-all approach to tackling the logistics of nearshoring, and trucking is not the only solution. Intermodal transportation, the integration of tracking and rail, is set to grow substantially as trucking routes shrink and the just-in-time approach to inventory management continues to permeate American manufacturing. Intermodal transportation isn’t a novel idea, but the relationship between the two transportation methods will have to deepen to accommodate nearshoring and the current demographics of the trucking labor force. Intermodal transportation relies heavily on strategic partnerships between railroads and trucking companies to optimize the process of getting FTL shipments onto rail cars and shipped across North America. All of the big players in FTL trucking are attached to the hip with Class I railroads like BNSF Railway, Union Pacific (UP)and Norfolk Southern (NSC), so the ability to leverage scale and in-house logistics is of utmost importance.

Rail hasn’t seen the same levels of growth as trucking over the last 20 years but is still well-suited for transporting large volumes of goods over long distances, making it a cost-effective option for long transports. Although the actual volume of rail freight is less than that of trucking, rail networks are essential to shortening trucking routes and reducing congestion on highways. Investments in rail infrastructure, including expanded rail yards, upgraded tracks, and digitization of intermodal facilities are all going to be essential in the years to come. However, investing in infrastructure is expensive and scale brings advantages in safety standards and cost efficiency. We wouldn’t be surprised to see M&A activity in the space pick up as nearshoring continues.

Even if there’s no M&A, we still expect the space to have significant funding needs. Any build-out of intermodal transportation networks is going to be capital intensive. Electrification, new tracks, and new freight cars all have significant upfront costs with long payback periods. Specialized lenders and private credit shops will have opportunities to engage in asset-backed lending against those hard assets in the years ahead.

American Investors Will Make Nearshoring Possible

Nearshoring is poised to uplift the significance of both rail and trucking industries. As manufacturing moves closer to home, the demand for efficient, localized logistics will only grow, requiring substantial innovation and capital. The integration of rail and trucking through intermodal transportation will be critical to maintaining the speed and flexibility needed for just-in-time delivery systems. Meanwhile, the trucking sector will see increased demand for less-than-truckload and third-party logistics as businesses continue to seek more agile, responsive supply chains.

Technological advancements will also play a pivotal role in reducing operational costs for shippers. For investors, this evolving landscape presents opportunities in the picks and shovels needed for transporting goods from point A to point B. As nearshoring continues to gain momentum, the future of U.S. freight transportation will be defined by innovation, collaboration, and a renewed focus on North American trade, and is worth keeping a close eye on.

The second half of the 20th century saw globalization thrive. Supply chains expanded across the globe, pursuing cheap and reliable labor as shipping costs plummeted. China’s ascent flooded the market with low-cost goods and global shipping volumes exploded. However, a new era of geopolitical competition has seen globalization become less compelling. Costs abroad have risen as goods have become more complex and supply chains have become more sensitive to disruption. Furthermore, a need for manufacturing reliability in an increasingly uncertain geopolitical environment is pushing more companies to examine manufacturing closer to home.

Unfortunately, bringing manufacturing back to the United States is easier said than done. Companies looking to do it have a whole host of problems to tackle from finding suitable manufacturing sites to finding the labor to man the factories. Companies who solve those problems efficiently will be reshoring winners. However, while it’s tempting to try to pick winners and losers in the reshoring race, we prefer to look upstream with companies enabling the transition. Think picks and shovels during the gold rush. Navigating higher costs of labor and capital are the first steps in bringing manufacturing back from overseas, and challenges like labor shortages and implementing smart technologies are opportunities for enabling firms.

The Need For A Resilient Manufacturing Sector

Calls to reshore manufacturing to the United States are not new, but recent events have amplified their urgency. The Covid-19 pandemic highlighted the nation’s heavy reliance on widespread just-in-time supply chains. The ripple effects of singular components being delayed or unavailable lead to assembly lines coming to a stand still. Critical component shortages and supply chain disruptions, particularly in China, fueled historic inflation and exposed how dependent largely domestic industries were on seemingly simple or generic foreign parts. Low value components, comprising a fraction of the overall good’s value, were putting a whole manufacturing process at risk.

Said another way, the Covid-19 supply chain disruptions were a wake-up call. Of particular concern are goods that are essential to national security like semiconductors or components for power generation. Understanding the critical nature of some of these components, the Federal Government has been enticing companies to bring more manufacturing home. This has been done both with incentives, and by putting tariff pressure on goods manufactured abroad. In particular, programs like the CHIPS and Science Act and the Inflation Reduction Act use subsidies, grants, and tax credits to promote manufacturing and R&D in areas critical to domestic security.

Semiconductors in particular are worth calling out. With semiconductors being essential components for advanced weapon systems, quantum computing, and artificial intelligence, manufacturing domestically means the U.S. can better protect supply chains and intellectual property. Semiconductors are the backbone of the technology economy; the United States can’t be the global technological powerhouse and be dependent on foreign chips over any significant time frame. Manufacturing at home is essential to protect intellectual property from reverse engineering and ensure we build critical human capital in the sector. Furthermore, while nobody wants to think about war with China as being a realistic possibility, being too reliant on Taiwanese or South Korean manufacturing would critically expose the US if any conflict were to occur.

Incoming President Donald Trump is likely to continue pushing for manufacturing to come home. In his first term, he introduced sweeping tariffs on Chinese goods, and he’s likely to ratchet those tariffs higher when he takes office in 2025. It’s important to note that tariffs on Chinese goods are not necessarily a partisan policy – most of Trump’s tariffs on China were maintained during Biden’s presidency, particularly on semiconductors, steel, and electrical appliances. The government as a whole has a broad pro-US stance when it comes to manufacturing, especially manufacturing goods critical to national security. However, while rhetoric and pro-US trade policies are encouraging, there are other issues that companies looking to manufacture in the US have to reckon with.

Navigating The Labor Shortage In Manufacturing

Promoting U.S. manufacturing is appealing, but there’s an inherent conflict with the current limited labor supply. On the manufacturing front, estimates from Deloitte and the Manufacturing Institute point to 3.8 million new jobs being created by 2033 and more than half of those going unfilled if labor gaps don’t get solved. Half of those jobs will be created because of retirements in the manufacturing industry, not because of new manufacturing growth. Just sustaining the industry is going to require an influx of new labor, and any expansion will require even more skilled workers. Attracting and retaining talent has become a significant business challenge.

And the shortage of labor isn’t just for factory jobs – the U.S. Chamber of Commerce reported that we currently have 8 million job openings in the U.S., and only 6.8 million unemployed workers. Even if every single unemployed worker found a job, we’d still have openings that need to get filled. Poaching workers from other industries just won’t be an option for manufacturers. That’s where immigration comes into play. Legal immigration programs are going to be critical for companies to grow their operations. That doesn’t mean companies shouldn’t look to hire and train domestic talent – they absolutely should – but we will need legal immigration as well. This need for labor is going to be even more acute if President Trump’s deportation efforts end up being far reaching. Illegal immigrants are a meaningful part of the current domestic workforce and it’s not clear where labor to replace the current illegal workforce would come from.

A temporary solution to some staffing problems may be for manufacturers to try to retain experienced workers in the field longer. Unfortunately, this is at best a temporary measure. Furthermore, while retaining experienced employees may be beneficial over the short term, the new era of manufacturing is going to require new sets of skills. Companies who wish to bring manufacturing back to the US are going to need to build educational pipelines and on the job training programs for people entering the industry. Non-traditional education programs and on the job training will also become important for existing employees as jobs become more automated and technologically productive. It’s essential that the U.S. invest in these training programs. Automation is essential to productive modern manufacturing. It’s imperative that automation shouldn’t be seen as a threat to manufacturing but rather as an opportunity. Shifting to automation should give workers opportunity to learn new skills, become more valuable to their operation, and for everyone within the manufacturing community to prosper.

Manufacturing With Capital Or Labor?

The current labor situation in the United States may demand capital intensive businesses with lower labor requirements, but that doesn’t mean setting up a factory is easy. Rather, factories with automation and robots woven into their operations have huge upfront costs and are inherently riskier than operations where labor is the primary expense. If something goes wrong with a labor oriented factory, there are layoffs and cost cuts. In a capital intensive model with significant up front expenses, those cost cuts are harder to come by as a majority of the expense is on equipment and other fixed expenses. Furthermore, the labor for a modern factory is also more expensive. These capital-intensive models need skilled operators, technicians, and engineers who take longer to train and will demand higher wages.

Lenders and capital providers with long time frames and a deep understanding of the markets they’re dealing in will be required to make the capital-intensive, automated models work. Manufacturers will need to access private credit markets to secure loans backed by hard assets and partner up with firms offering deep expertise in their respective industries. Larger corporations can access syndicated bank loans, but the average U.S. manufacturing business is substantially smaller and will need more help. The average U.S. manufacturing business generates just $5.4 million in annual revenue according to the U.S. Small Business Administration — a far cry from Big Tech’s revenue levels. There are about 600,000 small manufacturers in the United States that will need the capital to innovate and improve upon their operations in the coming years as they look to upgrade to modern manufacturing processes or expand their operations to accommodate orders that used to be sent overseas. These capital demands suggest there will be a large opportunity for specialized lenders in the mid market space.

Investing In Manufacturing 4.0

The intersection of automation and industrial labor is set to continue making massive strides, especially as technology investment becomes a larger and larger part of operating budgets. Rockwell Automation published its 9th annual State of Smart Manufacturing report, with over 1,500 global manufacturers, showing technology investment up 30% in 2024 from the year before. These capital expenditures can serve to expand and improve upon quality management systems, automate assembly, and even manage energy usage across a firm’s manufacturing plants. We are in the midst of the fourth industrial revolution, and production processes will inevitably be taken over by or supplemented with smart technology. We believe the companies enabling streamlined production processes are where the investment opportunity is at, regardless of whether or not the factories in a specific industry end up hitting the jackpot.

Take inventory management for example – identifying and storing goods coming into a plant each day is critical to ensuring customers receive shipments correctly and on time and can be easily outsourced to integrated robot systems. Similarly industrial robot applications, originally adopted by automotive companies, are another technology that is being scaled down to be more available to smaller factories. Their deployment across smaller factories across the US will mean workers can be reallocated to more value-added roles in organizations. Firms like Rockwell Automation (ROK) and Teradyne (TER) are at the forefront of industrial automation and aiding the transition to smart factories, while bringing solutions to markets that help factory employees coexist with new automations.

Similarly, smart devices implemented across factory operations are collecting an immense amount of data that needs to be harnessed into actionable insights across all levels of the organization. Major players like General Electric (GE) and Honeywell International Inc (HON) are leading the charge in integrating sensors to monitor equipment health and safety of facilities. Think about industrial IoT sensors that help to monitor changes in the physical environment for ultra-sensitive manufacturing processes, or pressure and vibration sensors used to ensure machinery is operating optimally. Being able to predict when machines likely will need maintenance with these sensors helps to minimize downtime and improve product quality over time. The data from these sensors is even used to produce digital twins of factories to enable manufacturers to simulate and optimize their operations in real time, in turn enhancing product quality for the end consumer.

Above the factory level there will be opportunities for companies to help factories streamline their labor processes. For example, firms like Workday (WDAY) use AI to help human resources departments make sure new hires will have the right skills necessary to make an impact on day one. Efficient allocation of resources starts with making sure you have the right resources to work with in the first place! Ultimately, think beyond just the actual manufacturers – enabling firms that offer the picks and shovels have substantial long-term tailwinds from reshoring’s effect on manufacturing processes.

Look Beyond The Manufacturers

Reshoring manufacturing to the United States presents a complex yet promising opportunity for economic growth and further expansion of our nation’s manufacturing output. While the challenges of labor shortages and initial investments in smart technologies are significant, they are well worth the upfront costs to boost the security of our nation’s manufacturing sector and to protect against future foreign disruption. Automation and advanced technologies will play a critical role in bridging these gaps, enabling factories to operate more efficiently and with higher productivity. We believe investors should explore how technology will supplement the industrial labor force and why automation is essential for continued GDP growth. Ultimately, investment opportunities are immense with companies that are positioned upstream of the actual manufacturers and can benefit from the retooling of the U.S. workforce.

Steve goes on TD’s News Network to assess latest U.S manufacturing data.

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