Foreign Trade Zone Analysis
There are a number of factors to consider when analyzing potential products that would be ideal to pass through a FTZ. A key consideration is the tariff rate of a product. A tariff is a tax that is placed on a product that is imported into the U.S. An objective is to find products that enjoy a significant tariff rate reduction as a result of its FTZ interaction. The interaction can be a result of several alternative purposes, to be discussed in greater detail further in this subsection. An example that illustrates when a product benefits from a tariff reduction is a toy car. The car has many internal components, each of which, for example, is subject to an 8% tariff if they are brought to the U.S. market as individual pieces. However, if the pieces are put into the toy car in the FTZ, the toy car, as a whole, has a 3% tariff. This scenario shows a 5% tariff savings. However, this only shows one component; there could be several components with a variety of tariff rates, producing a larger tariff reduction as a percentage. It should be noted that a product is vulnerable to the economic and political climate as well. Chapter 99 of the HTSA contains products that are subject to current legislation, in some cases temporarily raising tariffs for a specified period of time; for example a tariff increase as high as 200%.
An additional consideration is product volume. To fully realize the benefits of a FTZ a product needs to be high volume, in respect to number of units, not necessarily weight. This volume results in the ability to realize greater economies of scale, and therefore a lower per unit price is associated with each product- there are more units to absorb the cost of transportation, therefore reducing per unit cost, which can create a competitive advantage. Another question to ask, in regards to the product is; is the product fragile, high risk, in risk of damage, or subject to quota limitations, or unique in process? There were a lot of elements of this question, so to clarify; a fragile product is beneficial for FTZ interaction because when these products, such as glass jars, pass through a FTZ, damaged items do not get taxed. An example of a high risk product is diamonds; FTZ’s have high levels of security, particularly because they are subject to stringent customs policies and regulations. The realized benefit of focusing on products that are subject to quota limitations is that a product can be stored in a FTZ for an indefinite period of time. This means a first-mover can place quota restricted items in the FTZ while s/he waits for the next “season.” Finally, a scenario that illustrates a unique product that benefits from a FTZ is chemical processing. In this situation, chemicals are combined to make a new compound. In the process of combining them, some of the chemical evaporates. For example, when 50 Kg of vinegar and 50 Kg of baking soda (100Kg total) are combined, they become 80 Kg when mixed. If they are combined in the FTZ the organization is taxed on 80 Kg rather than paying a tariff on the 100 Kg if the process was postponed.
Benefits of a Foreign Trade Zone
There are a number of benefits facilitated by a Foreign Trade Zone. It seems putting them in bullet format is most appropriate. The following are specific benefits, with examples.
- Inverted Tariffs: This benefit is realized when internal components (i.e. car parts) are added to a larger component (i.e. a car) in a FTZ. If the internal components were to pass through a FTZ as individual units, they would have a tariff of 8%. However, since they are added to the car, to become one unit with U.S. labor, the whole results in a tariff of 3%- realizing a 5% savings.
- Exemption on Goods Re-exported: In the event a product is just passing through the U.S. through a FTZ, for storage purposes, or some other value adding purpose, a tariff will not be imposed on under these circumstances, as long as the goods do not leave the FTZ.
- Eliminate Duties on Scrap and Waste: When a product is susceptible to damage, or if a portion is lost as a result of the production process (i.e. scrap, waste, evaporation), the responsible organization will not have to pay duties on these unprofitable portions.
- Reduced Costs: As a result of the increased security at a FTZ, insurance premiums are lower. As a result of the incentives tied to shipping larger quantities, greater economies of scale are realized, decreasing per unit cost as related to transportation costs. Many companies import large volumes of goods through customs without utilizing a FTZ- these companies can pay several hundred thousand dollars in customs fees. However, FTZ’s have a program in place that caps the weekly customs fee at $458, and caps an annual fee of $25,000- this savings can be significant.
- Avoid Quota Restrictions: Some products are subject to quota restrictions. By utilizing a FTZ an organization can gain a competitive advantage by having such products in inventory waiting for renewal periods- gaining an edge on other organizations.
- Taxes: Products are not taxed while they are in the FTZ. Not until they leave the FTZ do they become subject to taxes. This deferral of duty improves cash flow as the organization only pays taxes on the goods as they are consumed, or pulled, from the FTZ.
Benefits as Applicable to Concepts
In an effort to correlate course concepts with FTZ benefits, this next section seeks to explicitly integrate the two.
- Assuming a Push-Pull strategy is utilized and components are inventoried in FTZ, the benefit realized here is not having to pay the tariff on items until demand pulls them from the zone- this strategy also includes the production postponement concept.
- Risk-pooling: for international companies that utilize FTZ’s, it’s an opportunity to store inventory in one central location, which can be best determined utilizing location analysis… A FTZ can also help tighten up the supply chain (rather than having inventory strung throughout U.S.). In this regard, inventory control is also improved.
- Velocity: FTZ adds value in that it expedites the customs process, its’ generally close proximity to ports of entry, its’ close proximity to major transportation networks (facilitating intermodal transportation- i.e. 53’ container on ship directly to rail cart), and all of this contributes to a reduction in lead time.
- Volume: is applicable in that FTZ’s promote economies of scale- the way FTZ’s are structured, companies are encouraged to add value here in the U.S. For example, for a computer desk that is fully manufactured overseas it is tough to capture great economies of scale, however, if production completion is saved for the FTZ in the states, more desks will fit, realizing greater economies of scale.