Why Gap Is Opening Factories in Myanmar

Apparel retailer Gap (NYSE: GPS  ) -- the parent company of Old Navy, Gap, Banana Republic, Athleta, and Piperlime -- is headed to Myanmar, the country formerly known as Burma. Gap will be the first American retailer to enter the country since the former military nation transitioned into a democracy three years ago.

Source: Wikimedia Commons.

Gap has commissioned two factories in the capital city, Yangon, to produce jackets and outerwear for its Old Navy and Banana Republic brands. The garment industry once accounted for over a third of Myanmar's exports before the U.S. trade embargo in 2003, so Gap's move into the country could encourage other retailers to follow suit.

Gap's rocky relationship with outsourcing
However, Gap has had a spotty history with its outsourcing practices in the past.

In 1999, Gap and several other companies were sued in a class action lawsuit in Saipan claiming that workers were subject to unsafe working conditions, forced abortions, and unpaid overtime. Gap eventually settled the lawsuit in 2002 without admitting liability.

In 2006, a Jordanian supplier for Gap, Wal-Mart (NYSE: WMT  ) , and other companies was charged with using adult and child employees for up to 109 hours per week. Some workers had been unpaid for up to six months. The following year, BBC broadcast footage of child labor in Gap's factories in India. Gap denied knowledge of those practices, but nonetheless removed the piece of clothing featured in the report from British stores.

Last April, the collapse of Rana Plaza in Bangladesh -- the deadliest garment factory accident in history -- claimed 1,129 lives and injured 2,515 people. Many North American retailers had outsourced their apparel from the factory, although Gap was not among those implicated.

Gap and other North American retailers announced a broad plan to improve factory safety in Bangladesh last July, but the plan didn't legally bind the companies to actually pay for those improvements. By comparison, The Accord on Factory and Building Safety in Bangladesh, an earlier plan introduced in May, legally required the companies to pay for those improvements. Gap's rivals Abercrombie & Fitch (NYSE: ANF  ) , American Eagle Outfitters (NYSE: AEO  ) , PVH (NYSE: PVH  ) , and H&M all signed that accord, but Gap and several other major U.S. retailers refused.

Is Myanmar the new Thailand?
Although Gap is the first U.S. retailer to enter Myanmar, other U.S. companies like General Electric, MasterCard, Visa, and Coca-Cola have already made investments in the country. However, U.S. direct investment in Myanmar only accounts for 1% of the country's overall foreign direct investments (FDI), compared to 30% from China.

A market in Yangon, Myanmar. Source: Wikimedia Commons.

Japanese companies, including Mitsubishi, Mitsui, and Sumitomo, have also expanded their operations in Yangon. Thai construction and petrochemicals companies have been funding the development of Dawei, a special industrial zone and port 382 miles south of Yangon.

As a result, foreign direct investments in Myanmar have surged in 2014. Between 2012 and 2014, the average monthly FDI came in at $299 million. In March 2014, Myanmar's monthly FDI rose to $872 million -- approaching its all-time high of $1.05 billion in January 2014.

Myanmar's low wages -- an average of $1,100 per year -- are considerably lower than its neighbors in Southeast Asia. Vietnam's wages are double that of Myanmar, and wages in Thailand are six times as high. Cambodia is Myanmar's closest competitor, with an average annual wage of $1,424.

Yet in an interview with The Wall Street Journal, Gap stated that its Burmese workers will be paid an average of $110 per month, and supervisors will be paid as much as $1,000 -- far exceeding the national average. Gap has also launched education and training programs for Burmese women with the aid of U.S. agencies. Those strategies are clearly aimed at shielding Gap from the controversies that dogged the company in the past.

Are the risks worth the lower costs?
Despite the lucrative growth potential of Myanmar's outsourcing industry, investors should be aware of the political risks across Southeast Asia. 

Thailand has already fallen out of favor as a top outsourcing location, due to floods, rising wages, and an ongoing political crisis. Vietnam's reputation as the "new Thailand" quickly fell apart when a territorial dispute with China sparked violent riots against foreign-owned businesses across the country.

In Myanmar, violent riots erupted between ethnic Rakhine Buddhists and Rohingya Muslims in the northern Rakhine State in 2012. Those clashes were fueled by the rise of radical Buddhist nationalism, led by the controversial monk U Wirathu -- nicknamed "the Buddhist Bin Laden" by his critics.

Myanmar's foreign minister urged U.S. businesses to "join the gold rush" to invest in the nation last September, but UN Secretary General Ban Ki-moon's warned that the country's violent religious and ethnic conflicts could undo its recent progress.

On the bright side, the Burmese government has relaxed media censorship restrictions, improved its human rights record, and vowed to release its political prisoners and protect the rights of Rohingya Muslims. Yet critics claim that the "new government" of Myanmar remains deeply rooted in former members of the military junta and the private sector.

The Foolish takeaway
In conclusion, Gap will benefit in two ways from expanding into Myanmar -- its clothing can be produced at a lower cost than its rivals, and it now has an additional hub for its growing operations in Asia. It could also relocate its Bangladeshi operations to Myanmar, which lies just to the south.

Gap needs to ensure that these operations go smoothly, so it can avoid the outsourcing missteps that have tarnished its reputation in the past. Gap investors should also be aware that Myanmar is a very young democracy that is still experiencing growing pains, which could result in near-term political instability.

However, if Gap's efforts in Myanmar pay off, we could see a lot more retailers follow suit, and "Made in Myanmar" labels could soon be a common sight on American apparel.

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