January 2005
BCG
FOCUS
The Central and Eastern European Opportunity
C r e a t i n g G l o b a l A d v a n t a g e i n S e r v i n g We s t e r n E u r o p e
C
ompanies that sell products or services into
Western European markets may be basing
their strategic sourcing decisions on some
significantly mistaken assumptions. In seeking the
competitive advantage to be gained by sourcing and
manufacturing in rapidly developing economies
(RDEs), they may be tempted to follow the rush to
Asia, and particularly to China, without exploring
opportunities closer to the markets they want to
ser ve. But recent research by The Boston
Consulting Group confirms that, contrary to popular belief, Central and Eastern Europe (CEE) offers
features that make the region highly competitive
with China. Notably:
• For a number of industries ser ving Western
Europe, CEE’s costs are competitive with China’s
• CEE markets will continue to achieve attractive
growth and consumer-spending levels for at least
the next several years
• CEE countries offer exceptional capabilities and
productivity
• In important respects, several CEE countries offer
more favorable business environments than
China’s
It follows that companies aiming to sell products
and services into Western Europe should take a
close look at the opportunities for sourcing and
manufacturing in CEE countries—and should carefully weigh those opportunities against the possible
benefits and certain risks of going farther afield.
The Big Picture
Europe is facing a fundamental reshaping of its
economic landscape as more and more Western
European companies—like companies in other
highly developed regions—move their sourcing
and production to RDEs. This migration will continue to accelerate, fueled by the five fundamental
currents of activity shaping globalization: the
rapid growth of RDE markets, the continuing cost
and capital advantages of RDEs, the development
of talent and capabilities in RDEs, the migration of
customers to RDEs, and the emergence of RDE-
based global competitors. (For a
detailed discussion, see the BCG
Focus report Navigating the Five
Currents of Globalization: How
Leading Companies Are Capturing
Global Advantage, Januar y 2005.)
The question for many companies is not whether to go but
where. And for a lot of companies that are selling into Western
European markets, the leading
options tend to come down
to Central and Eastern Europe
or China.
How should companies make
that strategic choice? Traditionally, companies have based
outsourcing decisions on simple
cost comparisons. Today, however, for many industries, the
decision between CEE and
China cannot be based on cost
for capitalizing on local talent,
and the general business environment in each countr y—especially various kinds of business
risk. We discuss these factors,
along with our analysis of relative costs, below.
alone. Our research reveals that
for many product categories sold
into Western Europe, total
landed costs are essentially
equivalent whether the product
is manufactured in China or in
CEE. In some cases, in fact, CEE
countries have an actual cost
advantage over China. In many
other instances, the cost differential is small or negligible.
A Closer Look at Central
and Eastern Europe
For purposes of this discussion,
we define CEE as Belarus,
Bulgaria, the Czech Republic,
Estonia,
Hungar y,
Latvia,
Lithuania, Poland, Slovakia,
Slovenia,
Romania,
Russia,
Turkey, and Ukraine. (See
Exhibit 1.) Note that we have
included Turkey as part of the
consideration set for this region
because it is of interest to many
globalizing companies.
So if the costs to ser ve Western
European markets from CEE or
China are essentially equivalent,
on what basis should companies
make their outsourcing decisions? The answer is that they
need to look at these decisions
for each product line, taking
into consideration a number of
strategic factors, including local
market potential, opportunities
EXHIBIT 1
THE CEE REGION COMPRISES 14 COUNTRIES
Estonia
Russia
Latvia
Lithuania
Belarus
Poland
Czech
Republic
Ukraine
Slovakia
Hungary
Slovenia
Romania
Bulgaria
Turkey
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EXHIBIT 2
RDEs CAN DELIVER SIGNIFICANT COST SAVINGS
Modeled Economics for a Typical Industrial Product Sourced from an RDE
Cost savings
Index
Additional costs
120
100
100
20–25
80
5–10
10–15
60
10
0–5
0–5
50
Scale
Special
incentives
RDE
manufacturing
cost
5
5
70
Duties
Landed cost
from an RDE
40
20
0
Western
European
manufacturing
cost
Labor
Depreciation
Materials,
components,
and tooling
Other
Logistics costs
management
(transcosts
portation,
additional
inventory, and
expediting)
SOURCE : BCG case experience.
Our analysis demonstrates that
CEE can be a highly competitive
location for sourcing and production, in terms not only of
total landed costs but also of
strong local markets, top-notch
capabilities, and a highly favorable business climate. On a number of measures—the availability
of skilled labor and qualified
engineers, the competence of
senior management, and various
kinds of political and operational risk—CEE countries compare ver y favorably with China
and other Asian RDEs.
Many companies, of course, are
already operating in CEE. Surprisingly, however, CEE’s share
of production for Western European markets is lower than it
should be, given the region’s relative advantages. BCG’s research
suggests that misperceptions
about the region, combined with
the tremendous attention recently afforded China, have led
some companies to ignore CEE
and take much of their sourcing
and manufacturing to Asia. An
objective analysis of the CEE
region, particularly as compared
with China, suggests that those
companies are overlooking
highly attractive sourcing and
manufacturing opportunities—
as well as ver y attractive markets—practically next door. Let’s
examine the basic components
of competitive advantage and
contrast CEE’s merits with those
of China.
Competitive Costs
By moving their operations to
RDEs, companies can signifi-
cantly reduce not only labor
costs but also material costs,
component costs (in part
because of the lower-cost labor
in purchased components), and
capital costs. The overall savings
thus achieved generally amount
to 10 to 20 percent but can be as
high as 40 percent; for industrial
products, they typically amount
to almost 30 percent. (See
Exhibit 2.)
Naturally, potential savings vary
widely by industry, product line,
and location, driven primarily by
differences in labor content and
cargo value per volume, which
determines transportation cost as
a percentage of product value.
(See Exhibit 3, page 4.) What is
striking is the number of industries that have an opportunity to
save 15 percent or more. As these
The Central and Eastern European Opportunity
3
EXHIBIT 3
POTENTIAL RDE COST SAVINGS VARY BY INDUSTRY AND CORRELATE WITH THE DEGREE OF MIGRATION TO RDEs
Western
European RDE
penetration
(RDE imports as
a percentage of
Western
European
consumption)
50
Migrating heavily to RDEs
Games and toys
40
Handbags
30
TV sets
Sporting goods
20
Computers
Batteries
More
relocations
expected
Insulated cables
Large appliances
Photo cameras
10
Furniture
Steel products
Likely to stay in
developed economies
0
–20
–10
Dairy
Tires
Motor vehicles
Beverages
0
10
20
Starting to migrate to RDEs
30
40
Average potential RDE cost savings 1
(percentage points)
SOURCES : Eurostat; BCG analysis.
N OTE : Penetration is based on data from CEE and Asian countries, including China, the Czech Republic, Hungary, India, Indonesia, Malaysia, the Philippines, Poland,
Russia, Slovakia, and Thailand. Industry groups are based on selected NACE 3 and NACE 4 categories. (NACE is the statistical classification of economic activities in the
European Community.)
1
The weighted average cost savings for serving Western European markets is based on labor cost and content, cargo value, and logistics costs.
industries continue moving to
RDEs, an enormous amount of
production will migrate. If RDE
penetration reaches the relatively
modest overall level of 15 to 20
percent observed in several individual industries (versus about
5 percent overall penetration
today), some €600 billion to
€800 billion of annual production would migrate to RDEs over
the next five to ten years.
Where should all this production
go in order for companies to
achieve these savings? Clearly,
some RDEs have lower labor costs
than others. But it is important to
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consider how large a factor labor
is in each product. For example,
labor in CEE countries typically
costs 4 to 10 times less than in
Western Europe—and can cost as
much as 50 times less. (See
Exhibit 4, page 5.) This gap is
expected to remain largely intact
for the foreseeable future.
Specifically, we do not anticipate
significant changes to be triggered by the May 2004 accession
of ten countries to the European
Union, including eight from
CEE, or by the eventual accession
of other CEE countries. (In a historical precedent, the relative
wage gaps for Greece, Portugal,
and Spain actually increased after
they joined the EU.)
But blue-collar labor costs on
average three times more in CEE
than in China. On the surface,
that differential might appear to
make a decisive difference in
overall cost. In fact, however, it
often works out to be nearly negligible. For instance, for a product whose labor content (direct
plus overhead) amounts to 30
percent of its cost, the difference in total labor cost between
manufacturing in China and in
CEE amounts to less than 3 percent of total cost—and that’s
before taking into account
China’s transportation penalty.
When you factor in transportation costs to Western Europe,
along with the costs of labor,
materials, and inventor y, China’s
cost advantage declines to at
most 2 percent; and, in many
industries, the CEE region actually has an advantage in total
landed cost. Exhibit 5 (page 6)
shows how total landed costs to
Western Europe differ between
CEE and China for 20 general
product categories. As stated
above, it is important to understand—for each product line—
how different RDE locations
affect cost, quality, lead-time,
and other factors.
advantage vis-à-vis China, CEE has
only a 57 percent share of imports
into Western Europe. Clearly, in bypassing CEE, companies are overlooking a cost-saving opportunity.
As might be expected, China provides the largest share of imports
into Western Europe in the industries where it is advantaged
(though, as just noted, that advantage is quite small); in these industries, China’s share of imports
amounts to almost 70 percent.
However, where CEE has a cost
Moreover, in the newly emerging
CEE economies such as Belarus,
Romania, and Ukraine, labor
rates are even lower than in the
more developed CEE economies.
Sourcing from these countries to
ser ve Western Europe can be
much more economical than
sourcing from China and other
EXHIBIT 4
THE CEE COST ADVANTAGE OVER WESTERN EUROPE IS BASED ON SIGNIFICANT DIFFERENCES IN LABOR COSTS
2003 labor cost
2009 increment
Hourly compensation for production workers1
(2003 versus 2009)
Annual gross salary for engineers2
(2003 versus 2009)
Index3
CAGR (%)
2003–2009 2003 2009
3
CAGR (%)
Index
2003–2009 2003 2009
Germany
United Kingdom
France
Italy
Spain
2
2
2
3
3
100
58
58
54
40
100
58
58
56
41
2
3
2
2
3
100
81
85
66
82
100
85
85
66
87
Slovenia
Czech Republic
Hungary
CEE
countries Poland
Estonia
in EU
Slovakia
Lithuania
Latvia
5
7
7
6
6
7
7
7
20
12
12
9
9
8
8
8
23
16
15
11
11
11
11
10
4
5
5
5
5
6
5
5
28
20
30
22
18
18
20
15
31
24
36
27
22
23
24
18
Turkey
Romania
Other
Russia
CEE
countries Bulgaria
Belarus
Ukraine
5
8
8
7
8
9
8
6
5
5
2
2
9
8
7
7
3
3
5
7
8
8
9
9
37
25
7
8
8
7
44
34
9
12
11
11
5
5
7
8
10
19
7
4
3
1
21
8
5
4
2
3
3
5
6
5
51
31
12
24
13
54
33
14
30
16
Original
EU
Asia
Taiwan
Malaysia
India
China
Indonesia
0
10
20
30
40
($)
0
10
20
30
40
50
60
($thousands)
SOURCES : BCG analysis; press research; UBS.
1
Compensation includes benefits.
2
Salaries are for employees of industrial companies in the electrical engineering sector (in capitals and other major cities).
3
The index was calculated as a percentage of the value for Germany.
The Central and Eastern European Opportunity
5
EXHIBIT 5
ACROSS A 20-INDUSTRY SAMPLE, CEE AND CHINA ARE SIMILAR
IN TOTAL LANDED COSTS INTO WESTERN EUROPE
The Exception: CEE Savings Are Much Larger for Bulky and Heavy Products
Cost savings: CEE versus China1
(percentage points)
–2
0
2
4
6
8
10
12
Furniture
Tires
Steel products
Automobile storage
batteries
Motor vehicles
Lamps
Large appliances
TV and DVD combos
Games and toys
Microwaves
HDTVs
Handbags
Insulated cables
Sporting goods
Flat-panel TVs
Batteries
Bulbs
Handsets
Photo cameras
Desktop computers
and laptops
SOURCE : BCG analysis.
N OTE : Cost savings are based on cargo value, labor cost, and content as well as logistics costs. In this
exhibit, CEE consists of the Czech Republic, Hungary, Poland, Russia, Slovakia, and Turkey.
1
Positive “cost savings” implies that total landed cost from CEE into Western Europe is lower than total
landed cost from China into Western Europe.
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Asian countries. As companies
recognize
this
opportunity,
investment in the region is accelerating. Romania, for example,
achieved 38 percent growth in
foreign direct-investment inflows
in 2003, amassing a total of
$1.5 billion; it expects to have
attracted $2 billion in 2004.
Differences in labor costs
between high-cost and low-cost
countries, while large, will not
remain constant, given the
dynamism of the latter. In general, however, the optimal mix of
advantages for each product line
is unlikely to shift abruptly; the
fundamental sources of advantage are likely to stay relatively
fixed for at least several years.
Nonetheless, companies that are
designing global sourcing strategies would be prudent not to
focus exclusively on one region
but to manage their sourcing in
classical portfolio terms, putting
some in China and some in CEE.
The question we are addressing
here is which region to use to
ser ve Western Europe.
Naturally, costs var y to some
degree by region, by countr y,
and even by area within a countr y. One factor affecting local
costs is the established industrial
landscape in the region. For
example, the Czech Republic
and Slovakia have emerged as
centers of production for the
assembly of automobiles, Poland
for white goods, and Turkey for
auto parts and some assembly.
Taking advantage of such preexisting “clusters” enables companies to save time and cost in
ramping up their production
facilities.
If CEE competes effectively on
cost, it can also hold its own in
terms of growing market opportunities.
Growing Market
Opportunities
Taken together, the countries of
CEE represent an attractive and
growing market opportunity.
While the region is much
smaller than China, with 380
million people versus 1.3 billion,
it generates nearly the same
GDP—and nearly four times as
much GDP per capita. (See
Exhibit 6.) In CEE today, more
than 25 million households have
annual disposable income of
over $7,500, and the number of
such households is expected to
exceed 31 million in the next
four years. These consumers represent a market that is only
beginning to be tapped.
Naturally, CEE is far from monolithic, as it consists of 14 national
markets, each with its own language or languages and culture.
Such variety no longer poses the
significant challenges that it
once did: many companies have
learned to target regional subsegments. For example, PepsiCo
has different water brands in different countries: Toma in the
Czech Republic and Slovakia,
Kristályvíz in Hungar y, and
in Poland. The
product’s taste is also different:
EXHIBIT 6
CEE COUNTRIES REPRESENT $1.3 TRILLION IN GDP, WHICH IS EXPECTED
TO GROW AT 4.5 PERCENT PER YEAR THROUGH 2008
GDP 2003
($billions)
Real GDP CAGR (%)
2004–2008
GDP per capita
($thousands)
Poland
Czech Republic
Hungary
Slovakia
Slovenia
Lithuania
Latvia
Estonia
209
85
83
33
27
18
10
8
473
4.1
4.2
3.9
4.5
3.0
4.7
4.7
4.6
4.1
5.4
8.3
8.3
6.0
14.1
4.9
4.2
6.0
6.4
Russia
Turkey
Romania
Ukraine
Bulgaria
Belarus
434
238
57
49
20
18
816
4.6
4.5
4.7
5.9
4.2
4.7
4.7
3.1
3.4
2.6
1.0
2.5
1.8
2.7
TOTAL CEE
1,289
4.5
4.0
Asia
China
India
Taiwan
Indonesia
Malaysia
1,410
592
286
208
103
8.0
7.1
4.7
4.5
5.0
1.1
0.6
12.5
0.9
4.3
Other
Mexico
Brazil
626
495
2.6
3.6
6.0
2.8
Country
CEE
countries
in EU
Other CEE
countries
SOURCES : Economist Intelligence Unit; World Bank; Euromonitor; BCG analysis.
some variants of Toma water are
flavored to better satisfy the
preferences of Czech consumers.
Nestlé, similarly, has different
water brands:
and
Mazowszanka in Poland, and
Aquarel and Kekkuti in Hungary.
Some companies have addressed
the diversity within CEE by
choosing to focus on its five
largest markets—Russia, Turkey,
Poland, the Czech Republic,
and Hungar y—which together
represent almost $1 trillion
of GDP.
Excellent Talent Pools
In addition to low costs and
healthy markets, CEE provides a
pool of skilled laborers and qualified engineers who are generally
more educated than those in
other RDEs. In some CEE countries, levels of skill and training
are competitive with those in
developed countries. Throughout the region, both the availability and the quality of the skilled
work force are currently ver y
high. (See Exhibit 7, page 8.) In
Turkey, for example, there are
more than 48 million people of
working age—of whom only some
22 million are in the labor force.
In 2003 more than 600,000 people in Turkey aged 25 to 34 had
tertiary education in science or
engineering, representing a significant pool of highly educated
workers.
Nonetheless, there is a persistent
misperception that worker productivity in the region is low relative to Western Europe. This is
simply not the case. Our client
companies in CEE, as well as
other companies that are doing
The Central and Eastern European Opportunity
7
EXHIBIT 7
CEE RANKS HIGH ON SEVERAL DIMENSIONS OF LABOR AVAILABILITY
Ranking of labor availability
Overall
weighted rank
Skilled
labor
India
1
2
1
2
Ireland
2
3
4
3
United States
3
1
7
1
Turkey
4
6
6
4
Hungary
5
7
3
5
Czech Republic
6
4
2
11
Slovakia
7
8
5
9
Taiwan
8
5
10
6
Poland
9
10
9
10
Russia
10
9
8
14
Italy
11
13
11
8
United Kingdom
12
12
13
7
Slovenia
13
11
12
13
China
14
14
15
15
Estonia
15
15
14
12
Country
Qualified
engineers
Competent senior
managers
SOURCES : IMD; BCG analysis.
business there, consistently confirm that at the same level of capital and technological investment, workers in the region are
at least as productive as their
counterparts in Western Europe.
In fact, global manufacturers
commonly tell us that their plants
in the CEE region are among the
most productive in their worldwide manufacturing networks. In
assessing productivity in any
RDE, it is important to distinguish between the productivity of
the labor force per se and the
effects of the labor/capital tradeoffs companies make to further
reap the benefits of low-cost labor.
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Workers in CEE are also more
akin to those in most multinational companies in terms of language, education, training, and
culture than are workers in
China. The percentage of the
population that speaks English
continues to increase and is
particularly high among the
labor pool of people under age
40. In the Czech Republic, for
example, almost 15 percent of
people aged 24 to 30 actively use
English or claim knowledge
of English equal to their knowledge of their mother tongue.
German and French are also
widely spoken.
It should be noted that one area
in which the CEE region has not
yet caught up with the highly
developed economies is the capabilities of local middle- and senior-level management. Many of
these managers have had difficulty letting go of the antiquated
management processes prevalent
during the Communist era and
embracing a more business-oriented mindset. This orientation
is already changing, and the
change process will accelerate as
the younger generation of workers moves into the ranks of management.
A Favorable Business
Environment
The major countries in the CEE
region, such as Poland and the
Czech Republic, compare favorably with China and other Asian
RDEs in terms of various kinds of
risk, creating a relatively safe
environment for investing. (See
Exhibit 8.) Political, legal, and
regulatory risks are currently significantly lower in these countries than in China, particularly
in those that are, or soon will be,
members of the EU. So is intellectual property risk—an area in
which China is known to harbor a
host of issues. The vulnerability
of multinational companies to
intellectual property risk is illustrated by recent disputes over
intellectual property between
Cisco Systems and Huawei
Technologies; between Magnequench and major Western
retailers and electronics companies; between global drug companies and the Chinese government; and between Lucent and
two of its employees—as well as
by the furor over WAPI standards.
(For further discussion, see the
BCG report Facing the China
Challenge: Using an Intellectual
Property Strategy to Capture Global
Advantage, September 2004.)
secure business environment,
with regulations governing intellectual property rights being
harmonized with EU standards.
world in the total number of
kilometers of highways and has
excellent expressway linkages to
the EU, as well as more than 100
ports and eight international airports. The new EU member
states will benefit not only from
shorter transit times within the
EU but also from significant
investments in highway networks
and other transportation infrastructure.
Also affecting the general business environment is basic infrastructure. While the quality of
the transportation and telecommunications
infrastructure
varies across the region, CEE can
often offer much more convenient, faster, and cheaper communication links with Western
Europe than can China. Turkey,
for example, ranks twelfth in the
Of course, intellectual property
risk, like other elements of
the business environment, varies
greatly among CEE countries.
Russia, for all its resources and
large end-market potential, is
comparable to China in terms
of risk. In contrast, the new EU
member states represent a more
And then there are other, less
tangible but very important factors, such as the ease of manag-
EXHIBIT 8
SEVERAL CEE COUNTRIES RATE WELL AS SAFE BUSINESS ENVIRONMENTS
Impact on business risk
Favorable
Adverse
Established EU
Potential
risks
Methodology
Germany
CEE countries in EU
Czech
France Republic Hungary
Poland
Other CEE countries
Asia
Slovakia Bulgaria Russia
Romania
Turkey
Ukraine
India
China
Political
stability
EIU political
stability risk1
(0–100; 100 = high)
10
NA
2
20
15
35
25
35
55
45
55
80
45
65
Financial
stability
Fitch country
sovereign rating
(D–AAA; AAA = high) AAA
1.0
Inflation, 2003 (%)
AAA
2.2
A–
0.1
A–
4.7
BBB+
0.8
BBB+
8.6
BBB–
2.3
BB+
13.6
BB
15.3
B+
25.3
B+
5.2
BB+
5.4
A–
1.2
Legal and EIU legal and
regulatory regulatory risk
stability
(0–100; 100 = high) 13
NA2
25
25
38
38
40
70
58
45
73
60
73
+2.5
+13.2
+5.8
+6.7
+10.3
4.5
–12.9
–11.5
–38.8
–0.7
+3.3
–3.6
7.7
6.9
3.9
4.8
3.6
3.7
3.9
2.7
2.8
3.1
2.3
2.8
3.4
5
5
4
4
4
3
3
2
3
3
2
3
2
Currency
Expected cumulative
change in FX rate,3 +2.5
2003–2008 (%)
Transparency
Corruption international index
(0–10; 10 = low)
Intellectual EIU IPR
property
protection index
rights
(0–5; 5 = high)
(IPR)
Overall
environment
SOURCES : Organization for Economic Cooperation and Development (OECD); Economist Intelligence Unit; Amnesty International; Fitch Ratings; BCG analysis.
1
EIU = Economist Intelligence Unit.
2
NA = not available.
3
FX = foreign exchange.
The Central and Eastern European Opportunity
9
ing plants that are in the same
time zone as headquarters; the
cost and the ease of travel back
and forth between sites; and the
efficacy of management across
similar cultures. Such factors are
harder to quantify than labor
costs and market growth rates,
but they can have disproportionate impact on RDE operations,
sometimes determining the difference between success and failure. One Western European
automotive supplier talks about
the ability to visit plants (and customers) throughout the region in
a single week: “There’s just no
substitute for walking the produc-
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tion lines, talking to the workers,
randomly grabbing a few parts in
their various stages of production
and assembly. I’m in the region at
least once a month and often
more than that, because you
learn so much more in person,
on the ground.”
* * *
Companies should take a portfolio approach to each sourcing
decision, analyzing a variety of
locations for each product line
and carefully weighing all the
factors that make up each location’s unique business opportunities and challenges. For most
global companies, China is
important as a market, a low-cost
sourcing and manufacturing
base, and a source of talent, and
therefore should be taken into
account. However, companies
designing RDE sourcing strategies specifically to ser ve Western
Europe owe it to themselves to
give Central and Eastern Europe
serious consideration as well.
For many, CEE’s significant
advantages—in terms of relatively affluent and growing markets, excellent talent pools, and
generally favorable, less risky
business
environments—will
decisively outweigh China’s.
The Central and Eastern European Opportunity
11
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About the Author
Kevin Waddell is a vice president and director in the Warsaw
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Acknowledgments
The author wishes to acknowledge the valuable contributions
of his colleagues Barry Adler, Thomas Bradtke, Grzegorz
Cimochowski, Elyse Friedman, Jaroslaw Kosinski, Kathleen
Lancaster, Robert Maciejko, Harold L. Sirkin, Matthias
Tomenendal, Dave Young, and Oktawian Zajac.
For Further Contact
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worldwide practices: Industrial Goods and Operations. BCG’s
Industrial Goods practice advises leading industrial companies on
many topics, including the strategic and operational implications of
globalization. The firm’s Operations practice focuses on strengthening companies’ operational abilities globally to enhance their performance, develop new strategies, and create competitive advantage. For inquiries about this report, about globalization, or about
the Industrial Goods or Operations practice, please contact the
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