Silicon Hutong

China and the World of Business • China Business and the World

Silicon Hutong - China and the World of Business • China Business and the World

Why China’s Factories Will Automate

North China Plain
On the G11 HST Harmony
0900 hrs.

China has passed what I like to call “Peak Toil,” the point at which the size of the pool of labor available to manufacturing reaches its apogee and begins a long decline. Chinese workers are becoming more educated, their salary, benefit, and lifestyle expectations are rising, and because of the demographics of single-child families, their numbers are shrinking. If cheap labor isn’t dead in China, it is terminally ill.

In the coming decades, China will go from being “THE factory floor” to “A factory floor.” Many things will force that change – a shrinking pool of workers, growing local opportunities in services, tightening environmental regulations, and more expensive energy. The economics, in short, will change, and so must industrial China.

The Big Ones First

Manufacturers are facing a stark choice: raise prices, downsize, or automate. Raising prices isn’t an option in a Wal-Mart world where places like Malaysia, Bangladesh, Mexico, Eastern Europe and even parts of the U.S. are already offering competitive pricing. Downsizing only offers a short-term answer when economies of scale are driving manufacturing, and is really only an option for companies who can make the shift to higher value-added products.

Which leaves automation as the answer for large manufacturers, especially contract manufacturers like Foxconn, Flextronics, and Quanta. Unable to depend on masses of workers lining up at their gates willing to work for a modest daily wage, each is thinking long and hard about automation.

Robots Don’t Jump

Beyond rising wages, law and custom in China leave companies liable for a range of benefits. Robots, on the other hand, do not require the company to invest in the real estate for dorms, cafeterias, break rooms, and other facilities, enabling the company to utilize all of its floor space for production, logistics, and support. What is more, robots don’t get sick, charge overtime, demand bonuses, or require companies to pay the additional “social” costs to the state that it would be required to pay for each worker.

And equally important, robots don’t jump out of windows. The Foxcon story has proven that there is a perception liability that comes with a larger number of workers. Whether Foxconn has ten thousand workers or two million, a single suicide or accident affects hurts the company just as much. Statistically the likelihood of such incidents rises as the number of employees grows. The coverage given to the company’s HR troubles proves that more workers mean more problems, so the best approach from the company’s point of view is to hire fewer workers.

Not Just Tech

I talk a lot about Foxconn and the technology outsourcing firms, but they are not alone. The automobile industry is a global pioneer of robotics, and Chinese factories are increasing the number of robots they are using. The packaged foods sectors rely on automation.

It is fair to say, though, that every sector is considering automation. Until last June I lived about 400 meters from the Beijing International Exhibition Center, and in 2013 the second most popular trade show – right after the Beijing International Auto Show – was the production automation exhibition. That’s apocryphal, but it is telling, and industrial robotics is about to get very hot in China.

For Better or Worse

None of this is designed to pass moral judgment on automation. The social issues that surround the process are complex, and deserve a wider airing.

But it is safe to say that automation is the beginning of the end of The Factory Girl in China, and that this is a good thing. Having spent a lot of time in factories in this country, met some of the people on the floor, and having read Leslie Chang’s book and Alexandra Harney’s superb “The China Price,” it is hard to get sentimental about The Factory Girls passing from the scene.

For the first time in decades we now have more workers serving people than making things in China. As long as the economy keeps chugging ahead, China’s shrinking pool of young workers will have a wider scope of opportunities than their predecessors. The real question is whether China will provide these young people an opportunity to learn the skills they will need in a changing environment. Given the rigidity of the educational system, that’s an open question.

Even the most automated industries need people on the line. With respect to my friends in the software industry, there are some things that cannot be reduced to code. When it comes to quality, you cannot replace the human senses, especially a critical eye. Smart companies will reprogram robots to keep them flexible. And the best automated processes have humans watching at every step. But humans will need to improve their skills to be a part of that equation.

Whether automation works in an enterprise is a question of management. But the question of whether it will revitalize China’s economy and society or undermine them can only be answered in the realm of industry practice and government policy. The change is coming, and China’s leaders had best be ready.

Luxury Goods: Meet the Experience Hunters

Rodeo Drive in Beverly Hills

Rodeo Drive in Beverly Hills (Photo credit: Wikipedia)

In the Hutong
Warming-up a little
1453 hrs.

The Chinese New Year holiday is a period where many of China’s well-heeled consumers travel abroad, so it was no surprise that CCTV ran a story on how many Chinese consumers use their trips not just for sightseeing and relaxation, but for buying luxury goods. The national broadcaster took China’s 80 million international travelers to task for spending $30 billion abroad last year buying luxury goods, and criticizing them for not spending that money at home.

Laurie Burkitt at The Wall Street Journal picked up the story, noting that Chinese duties raise the price of Rolex watches, Gucci shoes and Louis Vuitton purses between 30% and 50%. One can see why the government is concerned: that’s somewhere between $9 billion and $15 billion in lost import duties, plus the lost value of rents, income taxes for shop workers, etc. The brands are starting to realize where the bread is landing: Gucci is apparently halting all domestic Chinese expansion plans.

Luxury is an Experience, not a Purse

The media coverage of this transnational luxury buying spree implies that a hunt for bargains is all that sends these buyers abroad. Yet while price is doubtless an important motivator, there is more to it. What most analysts – and probably a few brands – are missing is the unarticulated value luxury consumers place on the experience, those intangible factors that makes buying the purse, the shoes, the watch, the dress so deeply satisfying.

One factor for Chinese in particular is mental comfort. It is not much fun consuming conspicuously in an environment that heaps growing opprobrium on bling buyers. Better to go somewhere where your purchase is at least taken in stride, if not celebrated. These days, that means buying in Hong Kong, Tokyo, Singapore, New York, Beverly Hills, London, Paris, or Milan – not Beijing or Shanghai.

But there are other factors that make up the luxury buying experience, factors captured in such post-buying questions as:

  • Where did I buy this?
  • What was the service like?
  • Did the salespeople make me feel at home?
  • Why was the experience special?
  • What was different  about buying there than in China?
  • What was I able to get there that I couldn’t in China…or anywhere else?

Any and all of these factors have the potential add greater meaning to the purchase, make its acquisition more gratifying, and deepen the relationship with the brand. Equally important, they add to the “show-off” or “shai” value of the item. The new owner not only gets to show-off the bauble to her friends, she also gets an excuse to relate the trip, the circumstances, and the feelings she took from the purchase process itself, all to the admiration (or envy) of the people whose respect is important to her.

Some Brands Get It

On a vacation trip in 2008, my wife bought a limited-edition LeSportsac Tokidoki handbag designed by Simone Legno at the LeSportsac store on Waikiki. The store was a delight, the location superb, the service was so good that even my son and I felt good about coming into the store, and that is saying something. My wife had never heard of Tokidoki  before, but the whole experience of buying the bag was such a delight that she came back the next day to buy one for her mom. To this day, five years later, she still talks about the bag, and has a deep affinity for LeSportsac.

Christine Lu of Affinity China is out ahead of the industry. She has begun leading luxury shopping tours of the U.S. for Chinese ladies that go beyond high-end store-hopping. Shops on Rodeo Drive, Park Avenue, and Waikiki are prepared in advance, provide engraved invitations, put on private fashion shows with Chinese narration, serve champagne and chocolates, and arrange to have purchases taken back to hotels while the ladies continue their day. As a bonus, Christine will bring along a Chinese celebrity or two, and tweet/blog/weibo aggressively, raising the profile of the trip and making mere attendance prestigious. The stores who work with her get it: the experience is every bit as important as the quality or design of the items that go in the bag. Expect these kinds of events to grow into a trend, traveling trunk shows where the groups come to the stores.

So all of this is interesting to be sure. Here is why it is important.

Today, it’s Price, but Tomorrow it Won’t Be

Understanding the non-price factors that drive Chinese to buy abroad is going to grow in importance. At some point the Chinese government will figure out that it needs to take steps to keep the luxury dollar at home beyond lame propaganda campaigns to shame buyers as unpatriotic. That will mean eliminating the price difference for buying at home. Either the government will have to start levying duties at airports and ports of entry (insanely hard to do and guaranteed to cause congestion at China’s overwhelmed airports and borders,) or they will need to eliminate duties altogether.

It is anyone’s guess on which course Beijing chooses, economic logic notwithstanding. When that happens, luxury brands will have their own choice to make: they can either play the zero-sum game, doing nothing and watching overseas purchases slowly leech back into China; or they can play the growth gambit, sustaining patronage overseas while building sales in China.

I’m betting the brands will want to do the latter, so I expect to see them taking steps to improve and even differentiate the buying experience for Chinese luxury consumers. At the very least, we will see more luxury stores with Chinese speakers and creating the kind of buying experiences that Affinity China is teaching them to offer.

I expect it will (or should) go beyond that. The brands will realize that simply offering a cookie-cutter experience in every store worldwide misses the point for their clientele. Each city, each store has to offer a different but equally compelling experience that reflects the brand in a unique way. This starts with store layout, but also speaks to decor, merchandise, and layout that reflects the location, and even offering items that are exclusive to that store. Let’s face it: even Disneyland has learned to differentiate its parks worldwide. Can luxury brands be far behind?

It is a truism (or should be one) that long after the price of an item is forgotten, the experience is remembered. Price will bring China’s increasingly sophisticated luxury customers in your door, but the experience will form the basis of a lasting relationship.

Silicon Hutong 3.0: The Merchant and the Dragon

In the Hutong
Where have I been lately?
0740 hrs.

If this forum has been silent for the past month, we* have had good reason. It is now evident to anyone watching that China is on the cusp of change so large that its own leaders likely still do not grasp it. We’ve spent the last month trying to do so, and we’ve realized it is time to make some changes.

The End of Harmony

The particulars have been summed up at great length and eloquence elsewhere. In short, China has enjoyed 35 years of relative harmony enabled by acquiescence at home, accommodation abroad, and consensus within the Party. The past five weeks have made clear that this period of harmony is now at an end.

In fact, China is entering a period of great disharmony. The implicit promise of growing, shared prosperity looks increasingly difficult for the Party to keep, just as revelations emerge that suggest widespread malfeasance among the Party’s highest ranks. The willingness of Chongqing’s citizenry to accept Bo Xilai’s microwaved Maoism hints at a national mood that continues to sour. Suggesting that China is on the verge of a new revolution would be hyperbole, but the days of acquiescence are over, and the days of a more vocal, demanding populace are here.

The consensus-building approach that has characterized Party decision-making for the past 25 years appears to have reached its limits as well, and for good reason. When the way ahead was sustaining the status quo, consensus was easy to establish. The way forward is now unclear, and different political end economic visions are battling for precedence. Building general agreement among all leaders, even within the Politburo Standing Committee, will become difficult if not impossible.  The choice will be between paralysis and the end of the consensus-based system. Either direction will have vast repercussions.

As China takes its place among the leading nations of the world, especially in the wake of the Global Financial Crisis, the nation’s leaders have begun to address the world based on two implicit assumptions. First, that as an emerging world power China is entitled to change the rules of the global system to suit its needs, or ignore those rules if they obstruct China’s goals. Second, that the rest of the world will – or should – continue to accommodate China’s growing international assertiveness, even to the point of appeasement. That such assumptions place China at loggerheads with the rest of the world is of little concern. Japan, Europe, and the U.S. are too saddled with domestic troubles to effectively oppose China’s ambitions.

The Tale of the Merchant and the Dragon

If you watch China, none of the above should come as a surprise. And unless we’re living under a rock, we have to take notice. And we have. As we have done occasionally over Silicon Hutong’s decade in publication, we have taken a strategic pause in order to assess how we need to evolve this forum in light of China’s development. You will begin to see the results immediately.

First, you will see an evolution in our focus. Following the direction of my clients, this space has been moving beyond the original confines of technology, media, and public relations for some time now. We will now take the next step. Whether you do business in China or not, China will alter your playing field, and understanding why that is the case and what to do about it will be essential to everyone’s success. Our focus will become that why and the what. To that end, our five major topic areas will be:

  1. China’s Breakout: The emergence of China, Inc., and its role in global industry;
  2. China Rules: The effort by Beijing, Chinese companies, and Chinese executives to alter business norms, practices, and regulator behavior to favor Chinese firms;
  3. China Goggles: The globalization of China’s media industry and how that will enhance China’s economic and political influence;
  4. China Rewires: China’s consumers are going to alter the world’s business landscape, both for companies and consumers;
  5. Strategy, Action, Behavior, and Communications: Ideas and approaches to help executives and entrepreneurs deal with challenges of China’s rise.

Some of this, especially the last, is a recognition of the direction we have been taking for some time. The other four themes match the major directions I’ve taken in my own research and advising since 2008. It is now time to start delivering those insights.

Discussions about China’s national security, politics, arts, culture, history, and international relations will shift to The Peking Review, and will be delivered in the context of reviews of books, articles, and scholarly works about those topics.

There are more changes as well, but this post is long enough. Expect periodic updates in the coming weeks.

In the meantime, thanks for reading, and keep the feedback and comments coming.

Best,

David

* When I use “we” here, I do so not in the sense of the “royal ‘we,’” which would be a nauseating affectation, but “we” in the sense of myself and my wife and partner. While she does no writing for this forum, she is and has always been my sounding board and editorial adviser. Also, my time is our asset, so any expenditure of that asset needs sign-off. Finally, she has become a deep supporter of this forum (and The Peking Review). For those reasons, any major decision is ours, not mine alone.