China Tiptoes into Hollywood

Entrance to Grand Ocean Cinema at Harbour City
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In the Hutong
Windows open
1454 hrs.

It was one of those temporal ironies that remind me that the Almighty (or Chance, for you secular humanists out there) has a sense of humor. Not long after I wrote a post warning Hollywood to use care in its dealings with China, Legendary Pictures announced that it had accepted a strategic investment for 3.3% of the company from a subsidiary of Orange Sky Golden Harvest Entertainment.

What makes the deal even more fun here in the Hutong is that my brother-in-law is on the executive team at Legendary. But let’s set that aside for a moment.

Nikki Finke over at Deadline.com does a writeup of the details, so I won’t dive too deeply into the nuts and bolts, nor will I wax poetic about Legendary’s successes. It is worth noting, however, that Legendary’s fare has a Chinese audience: their most recent hit, Inception, recently took in over RMB200 million at the Chinese box office.

Relationships aside, I expect the deal will avoid the tripwires I outlined, for several reasons.

  1. Legendary is a production company rather than one of the big studios. Washington is unlikely to raise an eyebrow.
  2. While the amounts involved were not disclosed, logic and experience suggest that we are not talking billions of dollars in paid-in capital. This is a “toe in the water” for all involved, an opportunity to get to know your partners while the stakes are low.
  3. The investment is for a very small stake – this is more about strategic opportunity than control over content.

In fact, I expect this deal to be widely imitated: production houses that are not already looking for Chinese partners will start hunting, and Chinese film entities will now follow their cultural instinct to Keep Up with the Zhous by looking for similar tie-ups.

Therein lies the caveat: it is in the predictable imitative that reason lies for concern. If further deals match the modesty of the Legendary OSGH tie-up, and the partners remain as overtly commercial as Golden Harvest, the China-Hollywood link will build without outside interference.

But if the pace of deals grows too quickly in frequency and/or size, it will elicit a response that will serve neither the industry nor the companies well. In any case, firms on both sides of any deal need to be transparent about the rights and powers granted to each partner in the tie-ups. More important than confidentiality in these cases is the comfort of the governments and movie-going publics in the U.S. and China with the closer relationship between the two industries.

China and the Oracle Gambit, or The Coming Softwar with China

Oracle logo at the Oracle headquarters.
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In the Hutong
Still in Uniform
2052 hrs.

Not only I am one of that growing number of believers who expects Oracle to make a bid for a major computer hardware manufacturer, I also think it will be a good thing. Whatever the virtues of the present structure of the enterprise I.T. industry, the average company has so many things to buy (and so many people to buy it from) that setting up, upgrading, or rebuilding a corporate IT system has become more complex than buying a jetliner.

Give Larry a Chance

Even in the biggest of companies, this means that iT managers spend a disproportionate percentage of their time dealing with procurement, a costly distraction that takes away from what IT managers should be doing, which is figuring out ways to put IT at the better service of the company and its people.

(Mind you, there are probably more than a few IT managers who prefer things to be this way. The sheer headache of buying and integrating these systems not only provides gainful employment, it has helped turn an MCSE qualification into keys to the executive washroom. The computer guy has become a Wizard, a Guardian of Data, The Gatekeeper, the Cee-Tee-Oh.)

Yet I would wager that there are a few companies – and CTOs – who would love to have their purchasing choices greatly simplified, allowing them to stop worrying so much about the plumbing and focus on how to better use the water, if you will. I am no fan of Larry Ellison, but if he believes he can eliminate that complexity with the help of Mark Hurd and a checkbook, doing for enterprise information systems what Steve Jobs did for personal computing, I say the sooner he gets started, the better. And let him start by buying HP or Dell.

When I talk to people in the industry about this, their eyes get big, their lips purse, and they say in low tones “whoa – what would Microsoft do in that case?” After having a delightfully speculative discussion about how much Ellison would enjoy becoming Steve Ballmer’s worst nightmare, though, the question comes to China.

The China Response

China probably needs more enterprise IT than any other country in the world, by virtue not only of the sheer number of tech-handicapped companies in the PRC, but also how many still do everything on abacuses and paper or Excel spreadsheets. Experience suggests that a company able to offer simplified, integrated solutions delivered ready to configure for the specifics of each firm would have a massive market in China. And the first one to do it would have the market to itself for some time.

Maybe.

That would first depend on how Oracle would price the offering. There are circumstances when Chinese enterprises have proven themselves willing to pay a premium for a product or service, but the tendency is to look first at price.

The automatic cachet of going with the big global company no longer exists: major foreign IT suppliers are assumed to be overpriced, and have the burden to prove otherwise, especially in the face of local companies offering “almost-as-good” solutions for a fraction of the cost.

Oracle would need to price aggressively to succeed with an integrated offering in China. That sort of thing tends to mean lower overall margins, which I would suggest is the direction things are headed in enterprise IT in China anyway.

Cultivating the Competition

Second would be how China saw this changing the overall competitive landscape in the global IT industry. You can expect China’s regulators would demand the opportunity to review and approve a merger of this size, alongside their European and American counterparts.

What would be harder to gauge is the industrial response, and this is where I think it gets interesting. Many key policymakers in Beijing understand, at least intellectually, that really good corporate information technology infrastructure is going to be essential to China creating globally competitive multinational firms of its own.

At the same time, the idea of exporting boatloads of cash to foreign IT vendors does not sit well with local leaders. If China sees the consolidation of the global IT business as a threat to China’s own fledgeling enterprise IT industry, expect Beijing to raise shields.

Such barriers could take many forms. But if history is a guide, China would want to have their own national champion to serve as a foil to a global enterprise IT giant.

The way I think it would play out would be that China would play for time while looking for ways to build a domestic response to Oracle. An extended merger review would buy some time, and it would allow Chinese regulators a privileged look under the hood of what a New Oracle would look like. Regulators could also modify the procurement law to require SOE and government purchases of IT systems from multiple vendors so as to slow a merged Oracle from taking too much market share.

The end goal, though, would be to create one or two unified Chinese IT firms capable of offering one-stop shops for local enterprises looking to “informatize” (think a merger of Lenovo and local software vendor Kingdee.) Could such a firm hope to match what Oracle offers? Certainly not, at least right away.

But think “Innovator’s Dilemma” here: all the Chinese firm or firms would have to do is offer a “good enough” solution for the middle-tier of companies in China (and then India, Africa, Southeast Asia, and Eastern Europe). Not only would that give the Chinese players ample room to grow, it would let them stake a claim in what look to be the most promising growth markets for enterprise IT.

All of this is build on a deep foundation of speculation: there is no guarantee that Larry Ellison could effectively achieve the dream of a profoundly simplified enterprise IT industry, no matter how compelling the economics. The takeaway, however, is this: China could either be the cradle of Oracle’s next major competitor, or of the company that disrupts the enterprise IT industry.

Scaling up through acquisitions will not change that: it will only raise the stakes enough to invite Beijing in to midwife the birth of a company that can challenge Oracle in some of its most promising markets.

So go off and buy, Larry, and nurture the dream of making Oracle into the Apple of the Enterprise. Just remember that China is watching.

If You Are, You Don’t Need To Say So

View of the Nokia corporate headquarters in Ke...
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Harbour Point, Kowloon
Showering in Fanapi’s Tail
1506 hrs.

Motorola is a client, so I have tried to hold off commenting too much about the mobile devices market, and in particular what I think about Nokia’s current travails.

But this line about Nokia World in Fast Company tweaked my nose:

These events happened on the eve of the big Nokia World event, which has just kicked off, and no doubt cast a long shadow over the proceedings (despite EVP of Marketing Niklas Savander’s keynote speech noting how many units the firm sells, and his optimistic “Nokia is back!”).

Ignoring the specifics of Nokia’s case (wherein I am biased), let us stick to general principles: anytime a company stands up and tells the world, in so many words, that it is back, it is making a case for the rest of us to believe the opposite. If a company has completed a comeback, saying so would be unneccessary: others will acknowledge as much, and do so with far greater credibility.

So do what Nokia should have done: wait for the smartphone sales, stock price, analysts and other credible voices confirm that they have solved their problems and that they are back on track.

Hollywood and China’s Three Goals for Film

Cathay Cinema for the Shanghai International F...
Image by Toby Simkin via Flickr

Michael’s Ristorante, Shunyi
Bruschetta and Iced Lemon Tea
1245 hrs.

Jonathan Watts in The Guardian offers an intriguing contrast to The Washington Post article about China investing in Hollywood when he posits that the PRC is much more interested in defeating it on the global stage. He quotes Xiang Yong of the Institute for Cultural Industries at Peking University:

“There’s a saying that Hollywood is the real foreign ministry of the US, which shows the importance of the movie industry.

From a cultural perspective, the promotion of the movie industry is an important way to strengthen the soft power of our country.”

We have made this point before, but it bears repeating. The Party and the government have three identical goals for each of the media and cultural sectors. In the case of film, they are:

  1. To construct a commercial cinema industry that dominates the domestic market for filmed entertainment, regardless of means of distribution.
  2. To then build China’s local film industry into a major generator of export dollars by creating motion pictures with international appeal and wide distribution.
  3. To generate soft power by using motion pictures to convey positive and appealing messages, images, and impressions about China, the Chinese people, and Chinese culture to international audiences.

Against this, the seemingly contradictory articles in the WaPo and the Guardian both make sense. Chinese filmmakers seek to build ties with Hollywood that can help make use of major U.S. motion pictures to convey positive images and impressions about China, to better learn the “mojo” that makes Hollywood America’s shadow foreign ministry, and then (hopefully) to duplicate that success as a global competitor to Hollywood.

Hollywood – and in this I mean the major studios – walks a fine line in dealing with China, not only in that it is potentially forging a competitor in Hollywood’s increasingly critical international markets, but also in that such chumminess could undermine the industry’s “American-ness” in the eyes of legislators in Washington and audiences across mainstream America.

If the hysteria after 9/11 demonstrated anything, it is that the spirit that birthed McCarthyism lies dormant in the American polity, awaiting only a crisis or catastrophe to wake it again. In an era of Tea Parties, Hollywood needs to move with care and caution as it engages filmmakers who operate at the whim of Zhongnanhai.

And if the past three decades in China have demonstrated anything, it is that western companies who have invested in China have been most successful at manufacturing their own competition. The Chinese government and its interlocutors like Xiang Yong have put Hollywood on notice that they are next.

Now, is anyone between Santa Monica and Burbank listening?

Rebuilding Hollywood with BRICs

Hollywood is a well-known area of Los Angeles ...
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In the Hutong
Running a sand-table exercise
1930 hrs.

Keith Richburg and Zhang Jie wrote an enjoyable piece in The Washington Post about the different ways in which the U.S. film industry is seeking to tap China. The article is encouraging in that it suggests that Hollywood is getting over its blinkered view of China as a really big version of France (big market, different language, resists our product, resistance is futile, will eventually be assimilated.)

The article notes that product placement, scripts (read “story ideas”) and locales have made China more interesting to Hollywood. There is even a bit about the importance of “co-productions.”

It’s Spelled O-P-M

The biggest attraction, however, is cash.

For Hollywood, the reason for the sudden interest in China might be described as more mercenary. Hollywood traditionally runs on other people’s money – and China has a lot of cash to spread around these days.

Our favorite films notwithstanding, Tinseltown’s most remarkable achievement is its consistent ability to get outsiders to fund a business that is as unapologetically opaque as it is inherently risky.

In succession, Hollywood has tapped (and tapped out) Main Street USA (Gulf & Western, Kinney, Coca-Cola, General Electric), Main Street Japan (Matsushita, Sony) Main Street Europe (Vivendi), and Wall Street (take your pick of hedge fund and private equity-funded film partnerships and virtual studios). In the wake of the financial crisis and the drying of the Wall Street wells, the emerging markets were a logical next target.

It took someone with the foresight (or desperation) of Stephen Spielberg to lead the way. Spielberg, a producer/director not normally associated with low-budget, high-return films, began the trend when he longtime collaborator Stacey Snider closed a $1.2 billion deal with India’s Reliance ADA Group to produce six films a year.

Barring an abrupt change in the mood on Wall Street, China looks to be next to fall into the celluloid web.

Or is it?

I’m Ready for my Closeup Now, Mr. Lou

Hollywood’s major studios and their affiliated production companies need literally billions of dollars a year to finance slates of films costing upwards of $100 million each to produce and market. There are a very limited number of entities in China capable of investing at that scale: the major state-owned banks, China Investment Corporation, and a handful of large state-owned industrial companies.

And while the leaders of those firms might well be attracted to Hollywood’s glamour, the Industry’s need comes at an inopportune time. CIC’s large paper losses in Blackstone Group caused an uproar, and the financial crisis has placed the stewards of the people’s funds under uncomfortable scrutiny at home. Senior cadres can well imagine the popular backlash that would occur if it were to become known that national wealth was lost investing in Hollywood flicks, and would be anxious to avoid such a scenario.

It is also instructive to remember the popular consternation whipped up in the US when Japanese keiretsu began to invest heavily in Hollywood. That storm would be a squall compared to the typhoon of opposition and angst blowing out of all corners of the US if a Chinese government-owned entity attempted to buy into Hollywood. Hollywood’s leaders need to think carefully about whether they want to fritter their political capital in Washington on such a quest.

None of which is to suggest that China will stay out of Hollywood: the kind of picture-by-picture deals that the WaPo article alludes to will continue and grow, and I think we can expect slow but growing connections between the US and Chinese film industries.

But we would be wrong to forget that the dynamics driving The Biz in the two countries are vastly different, as are the cultures they are spawning, and that it is a sizeable leap from an increase in co-productions to China replacing Wall Street as Hollywood’s Sugar Daddy.

The Return of History Friday: North China Front

Eight Route Army in Shanxi
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In the Hutong
Deep-diving on the 8th Route Army
1726 hrs.

Today marks the long-awaited return of History Friday to Silicon Hutong, and we will start with British journalist James Bertram’s eyewitness account of China’s desperate struggle to contain the Japanese invasion of northern China in 1937-8.

Bertram may not be as well-known as Agnes Smedley, Edgar Snow, Evans Carlson, or Anna Louise Strong, but he was a contemporary and provides a perspective that compliments their own. It is hard to tell whether Bertram was a communist himself, but in his long uninterrupted passages quoting Mao Zedong from their interviews in Yenan, one suspects that he was at least a sympathetic, if not a Fellow Traveler.

But what is notable and important about Bertram’s account are the insights and viewpoints that he offers that stand in stark contrast with received history, both from American classrooms and Chinese. A few of my favorites:

Among the Island People

Bertram begins his odyssey with his visit to Japan in what turned out to be the weeks prior to the Marco Polo Bridge incident and Japan’s resulting invasion of China proper. His descriptions the popular mood in Japan are startling: this was no populace whipped into war fever by propaganda and theatrics, but a people who knew war was coming and were simply resigned to it matched by a cowed intellectual class opposed to the war but terrified to speak out.

But the Japanese receives no coddling from Bertram, and he does not shy from cataloging the misdeeds and brutality of the Imperial Japanese Army, its officers, its collaborators, and its cohorts. He manages to do so without devolving into the demagoguery or rhetorical excess that marked both Chinese and American war information, but the brutality comes through all the stronger because of it.

The Army and the Guerrillas

I have read accounts of the bands of Chinese guerrilla partisans that bedeviled the Japanese throughout the war, but Bertram’s was the first to dive into the relationship between the 8th Route Army and the guerrilla bands in adjacent territories. The latter were the true expression of Mao’s revolutionary doctrine of People’s War, and arguably the lessons learned in Hebei and Shaanxi on coordinating regular and partisan formations laid the groundwork for the CCP’s successes during the civil war. You also see where Ho Chi Minh got his playbook on coordinating the North Vietnamese Army and the irregulars of the Viet Cong.

As I read Bertram’s account of tromping through the Shaanxi hills with the legendary He Long’s 120th Division, I was struck by how quickly in its efforts to modernize and professionalize the PLA is discarding much of value in its heritage. From irregular warfare to mountain combat and austere logistics, He Long and his fellow officers in the 8th Route epitomized the power of light infantry when well-used. It its rush to mechanize and digitize to keep up with the U.S., the PLA may be making itself a less flexible force than it can or should be.

A Girl Worth Fighting For

Finally, it was a delight to read a book written about the 8th Route Army and Yenan that was completed without the benefit of more than six months hindsight. What came through in Bertram’s account of his time in the caves with Mao and company (and He Long’s stories of his “colorful” evolution from bandit to general) was that from the moment it took the field, the Chinese Red Army was having to figure things out as they went. Combat is evolution accelerated, and what made the difference between a good soldier and a dead one was luck and an ability to recognize an important lesson, apply it, and share it.

For New China was launched by survivors, and if you believe in social Darwinism you are likely to think that is a good thing. But in hearing through Bertram’s prose the voices of both Japanese and Chinese students, scholars, and leaders who did not make it through the terrible culling of the North China Front, one can only wonder how the destiny of both nations might have been different.

***

James Bertram’s book North China Front, originally published by Macmillan and Company in 1939, is once again in print courtesy of the Foreign Languages Press. ISBN 7-119-03530-4

Responsa: Dealing With the Disposable Backhoe

Caterpillar 12G grader.
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In the Hutong
Managing the Phoenix
1330 hrs.

Jack Perkowski continues our serve-and-volley on the future of China’s construction equipment makers here on his Managing The Dragon blog, and he brings out the Caterpillar fanboy in me when he notes:

“How should Cat, Komatsu, and the other global leaders prepare for Chinese competition overseas? By far, the best way is to compete successfully with them in China.  That is why the battle for the construction equipment market in China is so critically important.”

That seems obvious, but the next logical question is how?

They Drive ‘Em Different Here

The global majors are geared up to compete in very different kinds of markets. In any ordinary market, you are selling a piece of equipment to a construction company that is concerned about things like the total cost of ownership of a road grader over a 10-20 year life. To serve markets like that, companies like Caterpillar design their equipment to maybe be a bit more expensive up front, but cheaper to own over the long term. They support that with a dealer network, and they have a growing division that rebuilds the big machines, extending the lives of the equipment even further.

China is not an ordinary market. There are exceptions, but I am willing to bet that the average construction equipment customer is thinking rather less long term. He probably wants to buy a backhoe that will be less expensive up front, will save enough money so he can buy two rather than one, that can be repaired cheaply, and that may even be dumped or sold to someone in one of the inland provinces after a couple of major jobs.

As an aside, I know a little something of what I speak. The Hutong Party Secretary spent a good bit of time in her career trying to sell Linde forklifts to both Chinese and Western companies here in China. (For those who are not in the materials handling business, it is worth noting that Linde are the Porsche of forklifts, and offer many of the advantages over their local competition that Cat and Komatsu do.) No surprise: the western companies, concerned about total cost of ownership and the lot, bought lots of Linde forklifts. But our Hutong Party Secretary was extremely challenged trying to sell any to local firms.

The pushback? They didn’t care about the quality. Breakdowns a problem? No worries – if we can buy three local machines for the price of one Linde (the differential wasn’t that large, but this is for illustration), we’ll buy two local machines and one will be operating while the other is being fixed, and we’ll still save money.

How does a company that extols its innovation, quality, durability, technology, and dealer support go head to head against companies that are ready to sell two disposable backhoes for the price of one good one?

Playing A New Game

At some point, in order to fight back without undermining their own corporate image, Caterpillar, Komatsu, Volvo, Bobcat, Kubota, and any other global equipment maker who wants to compete in China is going to have to find a way to win on the customer’s terms. And they are starting to get that.

Late in August, Caterpillar’s new CEO, Doug Oberhelman, came through China in the wake of a promise he made to Cat shareholders that he would make the company the leader in construction equipment in China by 2015. In an interview with Andrew Browne at The Wall Street Journal, Oberhelman hints at the foundation of a new China strategy.

[Oberhelman] said Tuesday that some Chinese equipment companies have become “pretty darned good” and that Caterpillar is studying their operations, including their product designs, as it goes toe-to-toe with them in China and, increasingly, in the U.S. and Europe, where good-quality Chinese exports are taking hold.

The exercise is driving down costs at Caterpillar and encouraging innovation, he said. Already, Chinese engineers are developing parts for Caterpillar wheel-loaders, a type of tractor that is made in China for a domestic market. Of the company’s 6,200 employees in China, only about 100 are expatriates, Mr. Oberhelman said, including managers brought in from other Asian countries. “We’re pretty Chinese,” he said.

Based on these and other directions that the market is taking, I would expect a global construction equipment maker to pursue some mix of the following three approaches in the effort to go head-to-head with the locals.

Three Strategic Directions

First would be to sell second-hand, factory refurbished machines. As I noted, Caterpillar has made a huge businesses rebuilding and refurbishing construction equipment. China might be a good place to sell some of that gear, especially since I suspect there is plenty of it floating around in the depressed construction markets of the world.

Second would be to buy a local construction equipment manufacturer. That might be tough, though: China has proven itself rather touchy about selling off healthy companies, especially in this sector. As other companies have discovered, betting your future on a complex local acquisition often takes management attention away from other means of building business. But if the right opportunity comes along (an underperforming factory, for example) and the government gives a quiet nod, expect a bidding war.

Third – and I like this best – would be to launch an OEM line of construction equipment carrying a different brand, using local designs but with inspectors and other “soft inputs” from the international company. It would not be necessary to own the factory, just to contract the production capacity. The separate brand creates the division between the quality standard of the core brand, while offering many of the advantages of working with the global brand. The company would offer that brand alongside its own in China and in export markets in the developing world, where Perkowski notes the Chinese manufacturers will be looking when it is time for them to export.

The Stakes

I am reflexively skeptical of any company who makes the case for doing business in China by saying that success elsewhere depends on success in China. That sort of thinking tends to lead to bad business decisions, like foregoing profits for market-share victory. If you are not planning on making money in a given market, you are effectively declaring it a money sewer, and down that path lies heartache.

But for the world’s leading construction equipment manufacturers, what is at stake is that in order to thrive on the development of the world’s emerging economies, those companies need to build large and profitable businesses in China serving the full range of customers. China is a must win, but the Big Iron merchants must win on China’s terms, not their own.