Wednesday, July 25 2018
By Wolfgang Riedel, Founder and Managing Partner, Riedel Consulting GmbH.
South Korea (the Republic of Korea) has developed from an agricultural society in the 1960s to a country with the world’s sixth-largest manufacturing sector. The country’s economy has been stabilizing at a GDP growth rate of about three percent per year. Wage costs are amongst the highest in Asia, second only to Japan, and at a similar level to the United States in sectors such as automotive. This article reports on trends and critical factors that North American companies might need to consider when searching for a new manufacturing operation in South Korea.
Selected Growth Sectors
Petrochemical product exports have maintained an upward trend for six quarters in a row, which is in line with growing sales of specialty chemicals. Due to an aging society, a continuous and stable growth is expected in the life science sector where imports are currently dominated by the United States. South Korea’s semiconductor players are expected to heavily invest in their manufacturing capacities in South Korea and China. In addition to semiconductors, investments in display, optical electronics or IT device manufacturing may open substantial opportunities along the individual value chains. South Korea’s renewable energy capacities shall be quadrupled by 2030 within the framework of a government plan, mainly for solar and to a lesser extent for wind energy. Certain niche products in the food and beverage sector have experienced strong growth, such as sweets or instant meals, same as for imported food products such as cereal, dairy and meat, particularly. The machinery sector is characterized by higher import than export growth rates, accompanied by a decreasing capacity utilization.
Free Trade Agreements
South Korea has abundant Free Trade Agreements in force with countries that are not covered by Free Trade Agreements of the United States. New South Korean manufacturing operations of North American companies, therefore, may benefit from free trade with select partners in Asia, Oceania and Europe: the ASEAN states, China, India, New Zealand, Turkey, the European Union and the EFTA states (comprising Iceland, Liechtenstein, Norway and Switzerland).
Graph 1 depicts existing Free Trade Agreements of South Korea (red arrows) and the United States (blue arrows). Flags indicate countries that are not covered by the U.S. agreements, but rather by South Korea's agreement with the EU, EFTA, Turkey, China, India, New Zealand and the ASEAN states (although Singapore has an agreement in force with the U.S.). Canada already has an agreement in place with South Korea.
Free Economic Zones / Free Trade Zones
South Korea has established eight Free Economic Zones (KFEZs), each one located in a different province. These zones target local/regional development by offering exemptions or reductions in taxes and tariffs for foreign-invested resident firms and developers. Financial support (cash grants, lease fee exemption and reduction), infrastructure support or support for education and research facilities may complement incentives packages.
Example: A manufacturing investment of at least US $30 million is eligible for 100 percent exemption for five years in terms of national tax and tariffs (for imported capital goods), followed by two years of 50 percent national tax reduction. Acquisition tax may be fully exempted for up to 15 years, property tax may be reduced for up to 15 years. In case of a foreign-investment ratio of at least 30 percent, a minimum cash grant of five percent of FDI applies. Infrastructure construction cost may be reduced by 50 to 100 perccent. Other forms of support may apply as well, such as 50 to 100 percent lease fee exemption for foreign-invested companies.
Target industries vary between the eight KFEZs and include electronics, biopharma, automobile parts, machinery, petrochemicals, chemicals, metals, steel, renewable energy, logistics or distribution. Besides the eight KFEZs, Free Trade Zones (FTZs) exist in selected provinces, of either airport, seaport or a complex type.
Industry Clusters of Selected Growth Sectors
Specialty chemical clusters are geographically correlated with the huge petrochemical hubs close to the major sea ports of Ulsan, Gwangyang and Pyeongtaek (at a greater distance in the latter case).
Semiconductor and display manufacturing is concentrated in the northwestern provinces of Gyeonggi, North and South Chungcheong and the Seoul area, while other ICT manufacturing (optical electronics, IT devices) also stretches to the provinces of North and South Jeolla or the Daegu area in North Gyeongsang.
South Korea’s biotech complexes connect industries, universities, research and public institutions, with excellent infrastructure that includes several core research facilities of the government. These complexes are strategically located along an axis stretching from Daegu in the southeast to the northwest (i.e. south of Seoul.)
Saemangeum-Gunsan Free Economic Zone in the southwestern North Jeolla Province is targeting investments in the renewable energy sector, while a recent renewable energy development example is a 63 MWp onshore wind park complex that was erected in the South Jeolla Province. Players in this sector include a South Korean utility that just concluded a power supply contract for a large part of the capacity of a 100 MWp photovoltaic park in Texas, developed by a German company.
The national food R&D complex Foodopolis was set up in the North Jeolla Province adjacent to a science complex, benefiting from a network of several R&D institutes.
Graph 2 depicts selected clusters in sector growth areas, the eight Free Economic Zones (KFEZs) in South Korea and the six major container ports of Busan, Incheon, Gwangyang, Pyeongtaek, Ulsan and Gunsan. Depicted sectors: petrochemicals, specialty chemicals, semiconductors, displays, ICT, biotech, and food.
Conclusions: Location Strategy
Possible investment concerns include a labor market under pressure due to frequent restructuring efforts mainly in traditional industries, the highest unemployment level since 2010 or an increasing youth unemployment. South Korea’s challenge in this regard is the development of digital and increasingly knowledge-intensive employment skills. A further strengthening of South Korea’s institutional framework is in progress. And in the renewable segment an increase of the County's energy supply is a top priority. The share of renewable energies in the primary energy supply is being pushed.
Assessing and identifying the optimum manufacturing location for North American companies in South Korea will require the integration of three major recommendations:
Technology-driven approach. Introducing cutting-edge technologies to South Korean operations instead of investing in traditional industries where restructuring processes have already started;
Location-driven approach. Locating in immediate proximity to existing sector clusters, or locating in KFEZs in case of a dedicated sector-fit or if financial incentives are mandatory for the success of the individual business case;
Customer-/trade-driven approach. Assessing the detailed cost impact of tariffs not applicable to those products that are manufactured in South Korea and exported to South Korea’s free trade partners in the Asia-Pacific region, as described in this article.
Even though the conclusions above may seem to be easily comprehensible, it is strongly recommended to consult location strategists to support the internal company decision-making process, especially when considering several countries in the Asia-Pacific region for a new manufacturing operation.
About the Author
Wolfgang Riedel is the founder and managing partner of the Germany-based consultancy firm Riedel Consulting GmbH. The company’s focus is on site selection consulting to advise firms on their global expansion strategies in diverse industrial sectors, such as semiconductors, electronics, photovoltaics, photonics, chemicals, lithium-ion batteries, renewable energies, automotive or data centers.
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