Investment Opportunity in the Northern Zone of Honduras
Prepared by: Kevin X. Murphy


La maquila se recupera después de un año difícil


Findings on “Competitiveness”
Two Scenarios

Extending the Benefits of Light Industry to Secondary Cities




Investment Opportunities in the Northern Zone of Honduras

The objectives of this report are:
· To illustrate the importance of light manufacturing to Honduras
· To resent 8 key recommendations to strengthen the competitiveness of the sector
· To recommend a plan of action to expand the benefits of investment and light industry to secondary cities of Honduras.

Light manufacturing normally encompasses areas such as footwear, agro-industry, electronic assembly, apparel and other similar categories. In Honduras, apparel has played the spearheading role for Honduras. The following two sections present the impressive impacts this sector has had on the economic well-being of Honduras but also points out the vulnerability of the sector while recommending eight strategies to improve competitiveness. Finally, this reports presents a plan of action to extend light industry to secondary cities.

Importance of Light Manufacturing to Honduras

Light manufacturing has been the key to economic growth and recovery. It is hard to underestimate the importance of light manufacturing to Honduran economic growth, exports, employment and recovery from Hurricane Mitch. The net value-added from apparel exports grew in five years from $186M in 1994 to $541M in 1999. Over $300M were paid in wages and salaries in 1999, mostly to people from relatively humble backgrounds. By February of 2000, the AHM reported over 120,000 employees in the sector. Of these, about 2/3 of these jobs (nearly 84,000) went to women. Annual salaries, converted to US$, had risen from about $2,000 to nearly $2,600 in the last four years, comparing favorably to the Honduran per-capita income of $600. The industry has attracted cumulative foreign investment of over $500M and has also mobilized significant levels of domestic investment. US firms have been the leading foreign investors, further strengthening the trade and investment linkages between the two countries. Gross export values exceeded $2B as Honduras became America's second leading apparel supplier by volume and fourth leading supplier by value, competing mainly with Mexico, China and the Dominican Republic as well as other Central American suppliers. During the 1990s, the sector grew from 2% to 12% of GDP. The light-manufacturing sector was less also less vulnerable to and recovered more quickly from Hurricane Mitch than sectors such as agribusiness. The story of economic growth and recovery in Honduras is largely the story of the export-led growth in light manufacturing.

Light manufacturing has had important strategic and social impacts. There are other strategic and social impacts of this sector that supplement the impressive economic impacts. The sector is serving as spearhead of industrialization for Honduras, as the apparel sector often does. The sector has financed (through rental) the impressive expansion of industrial zone infrastructure. It has helped create and strengthen an entrepreneurial class in Honduras capable of dealing in a globalized environment in this and other sectors. The sector has stimulated growth in tourism, communications, transport and business services that multiply through the economy. Much of the increase in "tourism" was fueled by growth in this sector as hotels, restaurants and transportation companies expanded their investments to meet the needs of business travelers. Rapid growth in exports is helping to reduce the country's aid dependency.

The sector has created employment for people who migrate from rural areas, by providing economic livelihood for women and by creating a disciplined workforce. It is also providing improved health services at the place of work, especially for women. Although exempt from most direct sales, trade and income taxes, the sector has a positive impact on government finance through payroll taxes, municipal taxes and multiplier effects. Revenues for the government's IHSS health system and the INFOP training programs have expanded sharply with the growth in employment.

Despite these important contributions, much of the benefit has been centered in the greater Sula valley and its surrounding communities. Furthermore, the industry is dependent on migrant labor as people come from rural areas in other parts of the country to work. This creates an undesirable situation from the point of view of both the firms and the workers. The firms tend to lose a percentage of their workforce as people migrate back to their homes. Women who come to the city and are cut off from their families often face undesirable social and emotional consequences of this isolation. Studies have indicated instability in relationships and a rise in prostitution. Congestion in San Pedro and the prospects of continued growth in apparel exports would suggest both a need and opportunity for expanding economic opportunities beyond the greater San Pedro Sula area.

Findings on "Competitiveness" of Light Industry

In January 2000, the Association of Honduran Manufacturers (AHM) awarded a competitively bid contract to J.E. Austin Associates (JAA) to study the competitiveness of the sector and to make recommendations. The team analyzed statistical data, conducted a survey of US buyers, visited Honduran industrial parks and factories, interviewed Honduran, US an Korean executives, and applied competitiveness tools such as Benchmarking Analysis, SWOT analysis, GAP analysis, and (Porter) Diamond analysis to the industry. The team also visited trade shows and incorporated input from US Centers of excellence such as Auburn University as well as industry experts. JAA professionals based in Central America also compared Honduras with other countries of the region.

Success to date has been based on basic, highly replicable and unsustainable sources of competitive advantage. Although the team has not presented its final report, it has presented ample evidence to suggest that despite impressive growth, the industry has not yet achieved sustainable competitiveness. The growth of Honduran exports is due in large part to favored access under the existing US quota regime, location and low-cost labor. The quota regime is scheduled to be phased out by January 2005, other countries (especially in Asia) offer labor at significantly lower cost and other countries such as Mexico, the Dominican Republic and Central American countries offer similar location advantages. JAA analysis shows that Honduras ranked 20th out of 23 countries in terms of value per SME indicating that Honduras is positioned at the low end of the market-precisely those product/market segments most vulnerable to being shifted to "low cost Asia" after 2005. Most Honduran firms export labor and are not yet doing "full package" work. Honduras suffers from an image problem abroad regarding labor issues.

Honduras shows the beginning of movement to sustainable competitiveness built on these initial basic advantages. JAA analysis shows that the industrial park infrastructure and policy regime-taken as a whole package-are as good as any in Central America for the purposes of this industry. Some companies are moving from "807" work to full package. There is greater investment in human resources and training as evidenced by a recent AHM-IDB initiative. To achieve sustainable competitive advantage, the industry must respond to trends in the global apparel industry and especially to trends in its target market-the USA.

Competitiveness will require responding to trends in the target market. Apparel is a mature industry in the USA reflected by the decline in its weighting in the Consumer Price Index from 10.6% to 5.5% from the mid-60s to the mid-90s. Americans are spending a smaller percentage of their household budget on clothing. Unlike Europeans, they buy more clothes, are less style-conscious and are relatively more price-sensitive in their purchase. Meanwhile, the retail space devoted to apparel retailing in the USA has increased steadily since the 1960s from 5 square feet per-capita to 19 square feet per-capita. As retailers compete for scarce dollars, there has been severe cost pressure throughout the supply chain. US apparel firms have been going out of business at rates that are double those of a generation ago, stimulating a trend to offshore supply. A recent study by experts at Harvard University demonstrated that those retailers that survive and thrive have invested heavily in IT and efficient logistics systems. Cost-savings on labor production, while important, are not the most important factor driving factor for competitiveness in this industry. The ability to avoid stock-outs, reduce mark-downs and save on inventory costs are relatively more important.

This is driving a ruthless efficiency in supply chain management where firms like Wal-Mart offer a 15 minute window of time for delivery to a particular docking station where merchandise is not warehoused but immediately transferred to a series of trucks at the opposite side of the docking station for immediate shipment. If a supplier misses that window of opportunity, the truck may have to sit on the side of the road for days awaiting another scheduling opportunity.

Those supplying US markets are also being asked to take on more tasks including design, marker-making, cutting, sewing, finishing and other elements of providing the "full package." Most Honduran firms do not yet provide full-package services, although some have moved in this direction.

Future competitive advantage will depend on the adoption of "full package" capabilities and on the ability to adopt IT, communication and logistics systems that fit hand-in-glove with the needs of buyers in destination markets. At the global level, the MFA quota system has led to a dispersion of production far and wide to obtain favorable quota access. After 2005, it is thought that production will locate around "clusters" and that increasing volumes will be produced in fewer countries. For products not time-sensitive (basic T-shirts, etc.), low cost countries of Asia such as China, Pakistan and even North Korea may make it difficult for Latin American producers to compete. However, Honduras has a chance to become a global center for apparel exports if it uses this short window of opportunity.

Two Scenarios

After 2005, Honduras will experience one of two scenarios. In one scenario, half the apparel exporters have moved their shops to Asia or to a few very responsive production sites in the Americas. The industrial parks are half empty. Unemployment has risen. GDP growth is down. Export revenues have fallen leading to a fall in the value of the lempira. There is social unrest. The other scenario is that Honduras is home to a strong cluster of apparel manufacturers offering design, procurement, cutting, sewing, finishing, packaging and other services that meet the needs of increasingly demanding US and international retailers. Honduran firms have established a name brands serving the Latin market out of Miami and Los Angeles and are noted for design and quality. Yarn and cloth producers have located in Honduras to serve the large apparel export market. Local producers are able to get a variety of fabrics, colors, treatment processes, trims, buttons, labels, hangers, plastic products that support their ability to provide service, quality, quick turnaround and responsiveness. Honduran export data show a movement to higher value products. Value added performed in Honduras increased markedly. More and better jobs have been generated. Firms in non-apparel industries have increasingly located in Honduras.

Which scenario will happen? The answer depends on the actions taken by the private and public sector leadership over the next months to position Honduras.