Wolves Howl the Song of Doom for Nokia

Eight months ago in ChinaTechNews.com I predicted that Nokia was in for tough times because the place had been overcome by hubris and completely disconnected from customers.

Carol Ellison wrote a story in eWeek in a story entitled “Rivals Close In on Nokia” that even though rivals are sucking market share away from Nokia, that it is still the market leader. It never ceases to amaze me how otherwise very bright industry analysts and journalists continue to have a blind side for Nokia.

But as we are warned in advertisements for mutual funds, past results are no guarantee of future performance.

Busting the China Tobacco Monopolies: Open Market or Open Season?

Big Tobacco has spent the last 20 years waiting on the sidelines in China, and BAT’s announcement that it will be allowed to build a factory to make 100 billion cigarettes per year is being hailed by the industry as the end of the central government’s efforts to protect the monopoly local weed processors have enjoyed for 52 years.

Ostensibly, the monopoly was protected on the basis that the market was already saturated (a claim that has been increasingly specious as Beijing allowed foreign access and investment to other “saturated” industries i.e. automobiles). Now, the reason given by the government for opening up is that foreign competition will help streamline an industry with over 150 factories and over 300 brands.

Such reasoning stretches credulity. The government could compel a rationalization of the market via regulation and the kind of micro-level involvement that drives observers of the telecommunications industry crazy. Despite a new administration and the accession of China to the WTO, the nations leaders still aggressively pursue a policy of industrial determinism that would make even Japanese officials blush.

This suggests that the central government’s reasoning is somewhat less simple than they are letting on. There are several factors in the market that may indicate other reasoning.

First, taking the “drive rationalization through foreign competition” angle to its logical conclusion, it’s fairly clear that the authorities aim to create domestic tobacco firms that can take on BAT, Philip-Morris, and Japan Tobacco on the global market. Some tightly managed foreign competition among the locals to cull the weak will be the first step in creating international players.

Second, it’s pretty clear that the government – prodded by the Ministry of Health, the WHO, and a host of other players – is beginning to recognize the long term social and economic costs of a population increasingly addicted to tobacco. This has likely been enough to make some policy makers uncomfortable with the government’s role as a commercial player (via the monopoly) in the industry.

Third, there is a backlash coming, and the government wants to sneak out of the cross-fire before the real shooting starts. As the dangers of smoking become more apparent to the population, the government cannot afford to have itself associated with the enterprises that sell the stuff. Imagine how queasy a Chinese lawmaker must feel at the prospect of a growing local anti-smoking lobby led by doctors and nurses all vilifying the government for not only allowing but supporting the effort to hook China on tobacco. Such a movement would make the uproar around the government’s handling of SARS disappear into insignificance by comparison.

But a wise government cannot only be concerned about the public outcry – after all, such movements can be managed. What is likely of equal concern is that consumer rights movement is growing in China, as is the consumer tort bar, both largely encouraged by the government as part of an effort to sustain a “popular” (i.e., driven by the people) aspect around its efforts to rein in the excesses of both local and foreign enterprise. There are early indications that China will become increasingly litigious, and that industries like tobacco are going to be some of the first targets of outraged consumers empowered by opportunistic lawyers. The government wants to ensure it is not a target in these cases, both for economic reasons and for the political reasons noted above. As such, commercializing the industry by bringing in foreign competition and cutting local producers loose from government protection adds another layer of credibility in the government’s argument against its being named as codefendant in future legal wrangling.

All of which suggests that BAT could be walking itself into a massive future contingent liability. China’s domestic manufacturers have reaped the benefits of 50-odd years of growth in the tobacco business, leaving the global players with the scraps of grey-market product entering the market. But when the time comes to litigate – and given current trends that time is likely within the next decade – the focus will be on the global players. For those policy makers in China who can see the trend, it must warm the cockles to anticipate multinational companies sharing the liability of China’s smoking habit with the local firms that have reaped the greatest benefit.

It is entirely possible that BAT has already thought about all of this, and has made the actuarial calculation that suggests that the potential benefits of a chunk of China’s market far outweigh collective risks of any and all future litigation. But there are two factors that need to be added into that calculus:

  • BAT will have to spend millions to gain market share in an already incredibly competitive market, in the face of already onerous and growing restrictions on how tobacco companies are allowed to advertise and market their products;
  • Counterfeit both local and foreign-branded cigarettes is already a huge business in China, and attempts thus far to curtail counterfeiting have failed utterly. With a significant portion of China’s 300 cigarette brands crushed by rationalization and foreign competition, many are likely to turn to the production of counterfeits. Even an optimistic projection suggests that BAT et al will face decades of battles in the streets and in the courts to battle this problem.

Congratulations, BAT, on entering China. It was a good battle well fought and hard won. But the real fight is just beginning.

Jiang, Taiwan, and the World

All this brouhaha about Taiwan – is it real, or is it a crimson anchovy?
Joseph Kahn at the New York Times makes a good case to suggest that Jiang Zemin remains firmly in control of security policy in China. Not terribly surprising given Jiang’s role as chairman of the Central Military Commission (junwei).

Some observers question how Jiang, virtually the creator and chief guardian of “the middle road” between conservatives and reformists in Zhongnanhai, could possibly have become a leading voice in government for “the slow road” to reform. There are a range of possible explanations, but the most likely is that he has used his new position to solidify his credentials as a hawk and conservative so that Hu Jintao could afford to play the reformist card. Not exactly “good cop/bad cop,” more like “black cat/white cat.”

What continues to cook my noodle is exactly how concerned junwei remains about Taiwan. The more one looks into the issue of Taiwan and its place in the military doctrine of China, the more one begins to realize that this is likely the reddest of red herrings. This is not to suggest that the possibility of Taiwan going it’s own way doesn’t concern China’s leaders greatly. Rather, that Taiwan is a convenient target on which China could appear to focus its attentions, thus making the world assume that China is focusing its attentions on Taiwan. Clearly, the PLA has to be worried about a broad range of security issues, of which Taiwan is just one. In the land of Sun Tzu, the birthplace the art of strategic distraction, how far could this be from the truth? Regardless, if I were Chen Shui-bian, I would studiously avoid believing my own rhetoric and cool it a bit. The last thing this region needs right now is a tinpot politician with delusions of greatness ready to sacrifice peace in some grand, futile, and horribly costly gesture.

Potential Chinese Geopolitical Security Concerns:

1. A rogue North Korea (not just because of what Kim could do, but because of an expanded U.S. presence in the region.)
2. A re-armed Japan driven by neo-Keynsian thinking (“tired of building bridges nobody uses and roads to nowhere? Hey! I’ve got it! Let’s rebuild our military! Banzai!”)
3. An unstable Russia
4. The growing influence of would-be muslim theocrats in Central Asia
5. Growing American “adventurism” in Southwest Asia
6. A fluid leadership situation in Pakistan leading to instability in the Subcontinent.

Beyond Intellectual Property: The Counterfeit Dilemna

Covering a major issue, The Washington Post once again only manages to cover a single dimension.
In a story written by special correspondent Wang Ting in Shanghai, the Washington Post noted today that the Chinese public has a growing taste for brand-name luxury items, but that many of China’s consumers – even relatively prosperous ones – were choosing fakes over the real thing.

Counterfeiting is a severe problem in China, and while fake Dior, Cartier, and LV make really good press, an equally and arguably more serious problem lies in the faking of fast-moving consumer goods. A fake Cartier watch making it to New York may deprive maison Cartier of a sale (and it might not, since anyone in New York who could afford the real thing would probably buy it), a fake watch probably never killed anyone. But counterfeit edibles certainly could, as has happened in the case of one international beer manufacturer and reportedly in other cases as well. Worse, some firms are even starting to knock-off complete cars. For the technology industry, the problem is at least a $10 billion a year issue just in the case of electronics, and China is perceived as the key.

A far better piece on the problem – and one that, quite politically incorrectly does not leave the unspoken impression that China is the center for all such evil – was written up in The Economist last year, and you get a broader perspective on the issue in China from Ed Young’s outstanding feature on Brandchannel from a few years back.

The standard approach to these issues has been to hire investigators and attorneys, and in many cases they can be quite effective. Probably one of the best counterfeit investigators in China, Peter Humphrey, did a presentation (pdf here) not to long ago to the Swiss Chamber of Commerce in Beijing that gave a good explanation of the micro-issues surrounding counterfeiting.

But counterfeiting is not a simple problem to solve, and indeed part of the challenge for the wide range of institutions, companies, and individuals seeking to fight it is that counterfeiting is actually several problems.

First, counterfeiting is to some extent a legal problem. China’s laws on protecting intellectual property rights have long lagged the rest of the world. But in recent years, and in particular in the wake of China’s accession to the WTO, legislators and policymakers have stepped up to the plate and an international-standard legal framework is emerging with fairly respectable rapidity.

This leads us to the second problem, which is enforcement. Enforcing intellectual property rights requires well trained investigators, good intelligence, solid security, sharp tactics, and a legal bench prepared to do more than slap the wrists of offenders. This requires a highly professional law enforcement community (China is getting there, but it will be a long haul, especially in the provinces), and one that is divorced from the self-interests of local government. You see, the funny thing about counterfeiters is that through employment, use of services, taxes, and outright payoffs, these enterprises actually do much to support economies in areas that have not yet enjoyed the full benefits of development. Shutting down a counterfeiters factory is a pretty straightforward process. Replacing the jobs, the income, and the local political stability that factory brought is far more tasking. It is this prospect as much as anything else that hobbles enforcement.

In recent years Beijing has turned to its domestic paramilitary police arm, the People’s Armed Police, or the Wujing, (founded in 1990 to ensure that protests are never again handled by an inappropriately trained and armed force) to engage in enforcement. But this carries with it an implicit danger by compelling local groups (counterfeiters, government, police, and, God forbid, the general populace) to band together in defiance of a team from Beijing. Apart from the tactical damage that such defiance brings (lets the bad guys get away), it also foments about a situation when a local government is facing down Beijing. In the context of the center-periphery strains implicit in Chinese politics, that is an extremely dangerous scenario. All of the above combine to make tactical enforcement highly problematic. The issues surrounding judicial performance in this area could be (and might be) the subject of another feature, but suffice to say that the best tactical execution of a counterfeit bust can all be for naught when an adjudicator sees matters in a different way.

The third problem is internal. Many companies (as Peter Humphreys alludes to in his presentation) find that the primary source of counterfeiting is coming from a cabal operating within its own ranks. Peter likes to explain how one fast-moving consumer goods company discovered a group of employees that was over-ordering packaging, sending it on to factories that were making fake product, and fulfilling orders from the counterfeit factory – orders that never showed up on the FMCG company’s books and that ensured that counterfeit product in legitimate packaging went to the legitimate outlet.

Another challenge comes from the factory. A wholly-owned or contract factory for a luxury handbag manufacturer takes an order from Milan (or an ASICs order from Tokyo) for, say, 10,000 pieces. The manufacturer makes 10,500 to prepare for production or quality problems. Inspectors clear 10,000 pieces in the shipment. To recoup the cost of the extra product, the factory manager dumps 500 pieces (including the quality problems) onto the domestic black market. Result? The real thing, but companies loose money. The infusion of “off the back of the truck” merchandise like this continues to grow, but it is not a problem that is being tracked.

Finally is the matter of the consumer. Most consumers don’t understand the difference – indeed the value – of buying the real thing over the fakes. As important as it is to have an external environment and internal systems that discourage counterfeiting, in the long run consumer education will be the critical tipping point. If a company can make a better bag than a counterfeiter, that value needs to be made clear, as does the critical social statement someone makes by buying from a legitimate businessperson rather than a supply-chain owned and managed by organized crime. Certainly the idea of handing a growing amount of power and control to criminals in China would give anyone here pause if the prospect of the nation evolving into a Russian-style kleptocracy were made clear.

China and the Pentagon’s New Map

Tom Barnett’s thinking is beginning to gain credibility in Chinese circles. And that’s a good thing.
U.S. security policy thought-leader Thomas P.M. Barnett’s work The Pentagon’s New Map has been reviewed by the Nanfang Daily. There is apparently a growing school of thought within the Chinese military that sees an opportunity to adapt Barnett’s worldview as valid and to integrate it with Chinese defense policy and doctrine, and vice versa. That’s a heartening thought.

It would, however, be a fundamental break from the neo-Maoist thinking that has continued to dominate the nation’s approach to defense. A summary of a 1998 speech by PLA General Chi Haotian summarizes Chinese defense doctrine nicely.

Clearly thinking in that monster of a building next to the PLA Museum on Fuxingmenwai needs to change as much as it needs to change in that other monster building on the Virginia side of the Potomac. Chinese defense thinking and doctrine is no longer relevant to a country that is actively engaged with – and interdependent with – a multipolar world. Defense policy needs to be more focused on engaging threats creatively before they become threats than on building a modern wall against the outside world.

Shrimp Joins Steel as a Sino-U.S. Irritant

One week after the U.S. gets all steamed about the revocation of Pfizer’s Viagra patent in China, sending China’s critics into a media tizzy, the United States government masterfully demonstrates its possession of the free-trade moral high ground by slapping 100% duties on Chinese shrimp, then turning around and passing that money directly to American shrimpin’ boat captains (thanks to the Byrd Amendment, which the U.S. has been ordered by the WTO to revoke and which even Forbes excoriated on its passage) This largesse for America’s fishermen comes on top of state subsidies they receive. BusinessWeek suggests that this will raise the cost of shrimp to the American consumer by 44%.

Notwithstanding whatever case there may be to offset hardships felt by U.S. fisherman and China’s fairly mild initial reaction , the move is the latest in a series of rulings likely to complicate the job for U.S. trade negotiators seeking to protect a broad range of industries by opening the door for trade in China, and will likely raise the tit-for-tat battle for mutual market access with the PRC.

While the case for an industrial policy is still weak in the U.S. (given that to many Americans such an approach would reek of favoritism, which is ostensibly un-American,) the U.S. is going to have to begin making unpleasant choices. A world of free trade does not permit a nation to demand open access for some of its industries and protect others. Somewhere, somehow, something is going to have to give, whether it is textiles, cotton, steel — or shrimp — in the name of access for automobiles, aircraft, high-technology, and a host of other industries.

Interesting reading on this is Robert Lawrence‘s seminal debunking of the hollow-America myth in his 1984 work Can America Compete . I’m not normally a fan of Brookings Institute authors, but this little gem is a rare and worthy exception, and Lawrence (currently a senior faculty at the Center for Business and Government at Harvard’s Kennedy School) defies the liberal bents of his institutional affiliations as one of academe’s leading free trade advocates. He quite nearly makes a convincing case for an industrial policy, and this was at a time when there weren’t very many major U.S. industries to favor — in 1984, IT was a tiny fraction of its current size and Microsoft wasn’t even a public company.

Why Government Relations in China is Not About Lobbying…Or Guanxi

One day not too long ago I was in Singapore addressing a large room full of local executives all eager to hear about what was in store for China in the coming year. After I had stepped down from the dais, an executive from a major Japanese electronics multinational buttonholed me to ask me about hiring a lobbyist who will address their government relations in China. I demurred, but he really pressed me – I need a good lobbyist, he said. Who should I hire? Unfortunately, while I have no lack of names of individuals who could lobby on his behalf, all of whom have wonderful ties to the government, I had to send the gentleman away disappointed.

One reason I had to demur was that he was unwilling to give me enough of an idea of what the problem was to even allow me to suggest the right person to reach out to. Which indicated another problem – somehow he had convinced himself that all he needed was a really good fixer. And, coming from a very, very large company who should know much better, this was more than a tad disturbing.

This Ain’t Washington

American companies have long understood the importance of hiring a lobbyist in Washington in an effort to inform (or, less charitably, to influence) the legislative process in their own favor. European, Japanese, and Korean firms learned quickly about how this process could show genuine results, and indeed to take the greatest possible advantage of the situation (see Agents of Influence, Pat Choate’s alarmist but indeed fact-based polemic about the influence of Japanese lobbyists in the US.)

It is natural, therefore, for American, European and Japanese firms to consider their policy, regulatory, administrative, and political issues in China and to wonder whether or not they need to hire a lobbyist — or, to cut to the chase, a well-connected political fixer. Without doubt, all are encouraged by a growing number of individuals and firms who suggest (if not promise outright) that they have sufficient leverage or guanxi in the PRC government to help mitigate these issues.

A vast range of players exist in this market who will promise to solve all of a company’s problems for a payment. Former PRC government officials, family members of government officials and senior academics on the Chinese side, former U.S. Presidents, Cabinet Members, Senators, Congressmen, former U.S. ambassadors to China and a similar number of former officials of other governments on the other make for a formidable array of consultants, not to mention U.S. lobbying firms who ply a somewhat different version of their trade in China.

In many cases, these individuals and firms offer genuine assistance, usually because of the specific and limited scope of their mandate. When the issue is about using association with a distinguished person to raise a company’s profile in Zhongnanhai or to get a meeting with one of China’s top leaders for a chief executive, few can deliver on such a requirement as well as a Henry Kissenger, a George H.W. Bush, a Lee Sands, or indeed a James Sasser.

And many former officials of the PRC government – retired, downsized, or entrepreneurial – make a good living arranging for meetings with working level officials ranging from a department head to a full minister, and occasionally even higher.

Each of these can occasionally deliver a message, and even provide some insights or advice on one or several government entities.

But such efforts alone are by nature incomplete at best and, at worst, can be counterproductive, particularly if pursued before a company understands the full range of issues it faces in the Chinese government. The common perception that the Chinese government is a monolith leaves executives, directors, and shareholders with a critical blind side. What is worse for U.S. firms, the Damoclean threat of the Foreign Corrupt Practices Act hangs above any efforts in China — with most intermediaries, you can never be entirely certain that the influence is not being in some way purchased on your behalf.

The far less publicized truth is that there are a range of interests operating inside the Chinese government, and indeed different viewpoints and factions contend for power inside ministries, departments, and administrations that form the real rocks and shoals of business in China. To venture forth without as complete a chart as possible invites disaster.

Rather than depend on some unqualified “guanxi”, a mapping exercise is in order as a first step. A company (and in some cases, divisions and even products and services) needs to spell out its goals in China, and go methodically through the Chinese government and list the entities and individuals who by their position would have a direct or an indirect influence on the interests of a company in China. As a second step, individuals and entities who have a personal (rather than a professional ) interest in one’s company, business, or industry need to be assessed both individually and, once the motivations that like them are understood, collectively as well.

The second step requires that at least those officials with a direct interest in the company’s business are assessed for their specific opinions and stances on a variety of issues from the role of foreign companies in the PRC economy/specific sectors to their take on a specific project – all without mentioning names and all without inadvertently affecting the process in a Heisenberg-style nightmare.

Once these assessments have been made, it becomes clear that a company’s interests are not just affected by a small group of government officials or ministries, but that in most cases there are a broad range of entities and individuals who might take a piece of a company or, equally important, see some part of a policy decision that affect the company as falling under their jurisdiction. This is the point at which the company uses its map to navigate those shoals, and to select the appropriate device to win friends and influence China’s governmental processes. In short, this exercise needs to be undertaken before hiring a former president or ambassador, or an influence peddler in China.

Regardless of the company or industry, it is a truism that government relations reaches beyond mere lobbying or guanxi. It presumes a complete understanding of the regulatory, policy, and administrative environment, and the appropriate, coordinated use of internal and external resources. While not as simple as hiring a name or a face, it is the only real way to guarantee continued success in navigating the trecherous waters of Chinese business.

Projectile Dysfunction

The coming showdown over the State Intellectual Property Office’s decision to void Pfizer’s Viagra patent will likely be long and ugly. If the past is any guide, the heavy media focus on the IPR protection problems around Viagra will lead many to conclude that the IPR issue is the primary cause of Viagra’s commercial failure in China.

The full blame cannot be laid on China’s failure to protect Pfizer’s intellectual property. Distribution issues caused by the government’s determination that Viagra is a controlled substance certainly were a contributing factor.

But if one were to dig deep enough into the Wall Street Journal story covering the government’s decision, one would find that Pfizer itself suggests the problem was caused by inadequate information filed with the original patent application. While the information was not required by the government at the time, the government is apparently requiring the data retroactively. Pfizer has 3 months to file an appeal along with the data. Given the saber-rattling going on today, smart money in Beijing has SIPO granting the patent again once the information is filed.

One also discovers that Pfizer never tried to patent the compound. There could have been a range of reasons for this.

Finally, the story notes that a coalition of Chinese pharmaceutical companies are the proximate cause for the voiding.

This entire case makes a few important points:

1. Chinese intellectual property law continues to evolve. Even if you have patents, copyrights, and trademarks in China, you are likely to have to keep watching the law, because today’s protection is tomorrow’s loophole.

2. Don’t count on intellectual property protection to create a market position for you in China. Market position needs to be built the old-fashioned way – branding, distribution, positioning.

3. The locals are a powerful force if allied against you. Don’t let those alliances grow by being aloof – find strong local partners (either in manufacturing, the channel, or among key advocates) and make them your shield against this kind of ambush.

The Best Thing to Come Out of the Pentagon Since John Boyd

His new book The Pentagon’s New Map: War and Peace in the Twenty-First Century has been out a month and is already a must-read inside the beltway and by security analysts around the world.
It is a delight to know that somebody who lives within commuting distance of the Capital of the Free World and the Headquarters of the Global War on Terrorism has both an compelling framework through which to view the world and the manhood to pack it all into a compelling format and challenge the prevailing wisdom at the Pentagon. People like Thomas P.M. Barnett come along once in a generation, and whether you agree totally with his viewpoints or not, I can guarantee you his thinking will be required material for any serious student of international affairs within months. His new book The Pentagon’s New Map: War and Peace in the Twenty-First Century has been out a month and is already a must-read inside the beltway and by security analysts around the world. Read his article from Esquire from last year to get a taste, and a more recent open letter to George Bush from the same publication.

Brains and balls. The world, and indeed America, could use more people like Thomas Barnett.

SMS Law: Fud by Another Name

To its credit, the Wall Street Journal has refused to succumb to the mass hysteria generated by reports that the Chinese government will be mining SMS messages for counterrevolutionary content. The consensus among thinkers is that first, such a mass monitoring is not practical. This suggests that either a) the monitoring will be selectively applied to those the government already suspects of subversive activity; or b) the entire announcement is a propaganda move to try to get said suspects to stop using SMSs because the government knows it cannot monitor them. Either way, the government wins because SMS is no longer considered a safe means of sub-rosa communications. Sometimes, the FUD is better than the reality.

China: Want to succeed in the WTO, Get Off the Defensive

I’m quoted in the China Daily and a special edition of the Beijing Review covering this year’s plenary session of the National People’s Congress in the lead article. The topic was the WTO, and I said that while it was pretty clear that the government was doing all it could to implement, it needed to communicate its challenges in implementation to manage the expectations of the rest of the world. The core challenge for China is that what IT sees as compliance, and what other parties would see as compliance, will be two different things unless it steps forward and establishes a defensible benchmark.