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

A Quick Thank You…

…to Michael Galeotto, who was kind enough to include Silicon Hutong in his list of worthy Chinese bridge blogs.

As he notes, and as readers will acknowledge, I don’t post here daily. I figure that my readers, like me, have lots to do and read in their lives, and I try to post here only when I have something to say that I figure is worth reading.

…and to you. For every article I post here, I still spike (reject) two others. I will continue to do that, because I figure it is the least I can do to thank you for eleven years of paying attention to this forum.

A quick note – in order to make this blog available to people in China without a VPN, I will be shifting servers in early April. If you are following siliconhutong.com, you should experience no change. But if you are following me through WordPress.com, please note that you will probably need to change your settings when I make the switch to a wordpress.org-based site.

Thanks!

Update: Added a link to Michael’s post.

China’s Great Innovations: Way More than Four

The 50 Greatest Breakthroughs Since the Wheel
James Fallows
The Atlantic

October 23, 2013

Doing book research (and shifting as much of it from my bookshelf to Evernote as possible), I came across this little gem that had escaped my attention while I was on the road last fall.

James Fallows turned to some experts to help him come up with the 50 greatest post-wheel innovations, and while each deserves a book – or at least a long chapter – the list is intriguing for several reasons. My favorite: counting the innovations that first came out of China.

From the top 50, they are:

  • 43. The abacus
  • 17. The compass
  • 14. Gunpowder
  • 6. Paper
  • 1. Moveable type printing

Two points fascinated me. First was printing press showing up on top, and the fact that the article does not ascribe an origin to the invention. People who have studied the history of Chinese innovation understand that the movable-type printing press was invented in China by Bi Sheng some 400 years before Johannes Gutenberg and Laurens Janszoon Coster argued about who of the two of them was first. History will out, though, and China gets credit for the most important innovation since the wheel.

Speaking of wheels, a sort of honorable mention on the list goes to the wheel barrow, a simple device created in China that allows a man to move heavier loads than he can carry without the aid of an animal. And I always search these lists for acknowledgement for China’s invention of investment casting, a process that turned complex metalworking from a handicraft to a mass-production process.

But these are quibbles. The point that the article brings home is that China was once far more innovative than we – and, indeed, Chinese – give it credit. While taking credit for four great innovations, China deserves credit for at least five, and probably more.

The perpetual challenge, of course, is how to make it innovative again. And to that theme we shall return in due course.

Clarity for China’s Growing GMO Debate

Texas Hill Country
Doing Agronomy 101
0902 hrs 

The debate over genetically-modified crops is reaching the boiling point among Chinese policy-makers, and the past several months have witnessed a spate of media coverage on the issue suggesting that the two sides are taking their case public to try to sway the issue.

One would hope that the science will win out in the end, but in the meantime I am doing a deep-dive on the GMO issue to a) understand where the scientific consensus lies, beyond corporate positioning and activist FUD, b) understand China’s interests in the area, so that I can c) start making some calls as to where this will go in the region.

Which is important because where China falls on GMOs is critical to the special interests cheering from the sidelines on both sides. As a massive and growing consumer of the world’s agricultural products, a ruling by China on GMOs either way could determine the future of genetically-modified crops worldwide. Yet as an increasingly important exporter of processed food, China does not want to get too far ahead of the world on the issue.

There are a ton of superb, science-based resources on GMOs, and Dr. Cami Ryan at the University of Saskatchewan has compiled an incomparable list of those resources. Some are technical, but most are highly accessible even for those of us who haven’t taken a science class since our freshman year in college.

McKinsey Endorses Our Thinking

“Next-shoring: A CEO’s guide”
Katy George, Sree Ramaswamy, and Lou Rassey

McKinsey Quarterly
January 2014

The end of China’s time as the uncontested factory floor of the planet has become something of a meme. If that has failed to come to the attention of any of the world’s CEOs, McKinsey’s consultants make sure they get caught up.

My take is that McKinsey is late to the party. I made most of these same points two years agoI called it “right-shoring.” In such a circumstance, I would have thought that McKinsey, seeking to retain “thought leadership,” would have offered deeper insights. They don’t, even though they provide endorsement to my original thinking.

Thanks, McKinsey!

For the record, check out:

The Beginning of the End of Outsourcing,” Silicon Hutong, February 7, 2012

China and the Rightshoring Movement,” Silicon Hutong, December 4, 2012

 

“A” Buildings and “B” Management

Or, Top 10 Signs that Your Building Management Has Been Localized

Hutong West
Nursing the Party Secretary
1136 hrs.

A good friend and client of mine set up offices about two years ago in one of Shanghai’s better office buildings. The building housed some top professional services firms, including a cluster of subsidiaries of one of the world’s largest marketing services conglomerates. The building has been a prestige address, and is close to some funky local neighborhoods and two of my favorite hotels in the city.

Unfortunately, according to my friend, the owners of the building apparently decided to drop the global firm managing the property, choosing instead a local management company. Not long after, things began to get noticeably, well, grottier.

As our conversation progressed, I began to think about similar situations I’ve encountered with local building managers in China, and in the process I came up with this list of the top ten signs that your building management has been localized.

I post this as a public service, both for companies who are seeing the quality slip in their buildings, and as an encouragement to local management firms to up their game.

Sidebar: It is important to note that not all Chinese management companies are cut from the same cloth. Top Glory and its subsidiary Gloria Property Management (owned by the state-owned COFCO Group) in particular are a standout from the bunch, as are most of the management companies based in Hong Kong. Nonetheless, these are the exceptions that prove the rule.

Here are the signs that you may want to start hunting for new offices. ”Red Alerts” are signs that it is time to get out now.

10. Advertising everywhere. Ads start showing up on almost every surface: lobby displays, floor stickers, elevator displays, video ads, ads in the toilets, and on the windows of the ground floor. Don’t get me wrong, a little targeted advertising in the right place doesn’t hurt, but when the decor becomes Madison Avenue Modern, it’s gone overboard. Red alert: when they start putting advertising on the handles of the doors into tenant offices.

9. Tragic Carpet. Stained or damaged carpet tiles stay stained or damaged for a long time. Only the most egregious stains (usually involving a very light or very dark substance spread over a large area) get taken care of promptly. Red alert: carpets are removed altogether, replaced with concrete or faux-stone tile floors.

8. Crass Cieling. Drop-down ceilings need constant upkeep. When they start showing stains, get broken, or go missing, your building has begun its long, slow slide into slumlord territory. Red alert: drop down ceilings are removed completely, leaving not an attractive “industrial” look, but just ugly pipes and ducts.

7. Security? What Security? The well-dressed, friendly, security folks sitting at the front counter and checking for appropriate badges or patrolling the floors have been replaced by surly gatekeepers who act like everyone entering the building is a terror suspect. Red alert: they stop checking ID completely, with “surly” exchanged for “not even paying attention.” Eventually even the pretense disappears, and security staff are let go.

6. Cleanliness is left for Tawdriness. Those friendly ayis constantly patrolling the public areas of the building start showing up once a week, if that. You have to start reminding the management to clean the windows. Door handles are sticky, and numbers on the elevator panel are impossible to read. Red alert: stairwells have a layer of dust so thick you could slip on it, and the doors stick.

5. Smoking in the Boys’ Room. Men’s toilets smell like cigarette smoke. Constantly. Red alert: you catch a goldbricking building employee smoking in a toilet stall. Double red alert: women’s toilets smell like cigarette smoke.

4. Cigarette Bloat. The reek of cigarette smoke starts pouring out of offices as well as bathrooms, and “no smoking” signs begin to disappear from public areas and elevators. Red Alert: building employees smoking while working.

3. Don’t Cry for Me, Cappuccino. Starbucks moves out, replaced by some poor-imitation no-name coffee or snack shop with crappy food and overpriced drinks, and probably run by the building manager’s sister-in-law. Red alert: the no-name coffee shop closes and the shell of the store just sits there, forlorn and gathering dust.

2. Vertical Transportation Gets the Shaft. It starts feeling like the elevators are offline a lot more than they used to be, and at least one is either shut down or under  maintenance on a weekly basis. Red Alert: an elevator breaks down with you, a colleague, or a loved one in it and you are stuck for more than an hour.

1. Anchors (run) Away. The building’s prestige, or “anchor” tenants, usually multinational companies, start to depart, finding other places to set up, and replaced by more, smaller tenants. Red alert: the building’s directory is at least a year out of date, or has been removed completely.

Why Robots Won’t Save China’s Factories

Somewhere near Bengbu
Riding the Rails
1112 hrs

If we have not witnessed the peak of mass production in China already, we will soon.

It is not just that costs are rising and production is moving elsewhere: the entire mass production model may well have jumped the shark. The growing costs of energy and commodities, as well as the coming end to the ability of enterprise to externalize the social costs of production will make mass production look increasingly wasteful.

We are leaving the age of “make enough so that everyone has what they want,” and coming into the age of “make just enough of the right stuff.”

Mass is Over…

With due respect to Henry Ford, we are witnessing the birth of a long-term trend away from mass production and toward an industrial model that manufactures a product only when a customer wants it, how she wants it, and where she wants to use it.

This will undermine the consumer model predicated on planned obsolescence, overproduction, and disposable components, and will ultimately destroy economies of scale as the means to lower costs and profit. That means moving the production closer and closer to the customer, and the growth of mass customization. That, in turn, spells the end of our reliance on mass production, and that will turn every shopping mall into a factory floor.

None of this should come as much of a surprise. Mass customization has been a meme of futurists for over a decade, and technologies like print-on-demand and 3D printing are but the harbingers of a new industrial revolution that will turn the point-of-sale into not only the point of production, but, increasingly, the point of design as well.

…So are China’s Days as the World’s Factory

But the implications for China are potentially immense. It suggest that, for most Chinese manufacturers, automation will only delay the inevitable. After all, who needs a factory in China manufacturing blue jeans when you can get yours custom sewed based on your measurements and preference right at the store? Or have your phone assembled for you at a local factory, shipped to you, then upgraded rather than changed when the time comes?

What applies to finished product applies to components as well. Fabric can be woven in custom lots as and when needed – it is not hard to visualize a Home Depot-sized warehouse store filled with machines that will knit, weave, and dye on demand, or a ballroom-sized microchip fab that turns out programmable or application-specific chips in tiny lots.

The future of Chinese manufacturing, then, lies not in producing consumer products for the world, but in producing consumer products for itself, and, I expect, building the machines that make local, personal production possible.

China’s Microfacturing Future

This will not happen right away: China’s mass-production manufacturers still have a long runway ahead as the world retools. It is also likely that the economies of mass production will continue to be essential for low-cost products for sale to developing nations.

But for producers catering to the developed world and the global upper- and middle-classes, that runway is not as long as some would wish. Our best guess: a decade at the outside, but likely less.

Watching this evolve will be fascinating. China, Europe, and the US will be scrambling for the lead as the world’s factory moves in next to the cash register, and it’s anyone’s horse race.

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.

Barely Afloat

In the Hutong
Beijing Youth Politics College
0047 hrs

China COSCO Holdings, parent company of China’s largest state-owned steamship company, has reported a return to net profit in 2013, thereby saving itself from delisting. It was not a turnaround in markets or management genius that engineered this seeming turnaround, but financial legerdemain.

Through a series of one-time transactions (it sold chunks of itself to its own parent company), the company is showing a positive bottom line. But things aren’t looking good for 2014, the company is running out of financial tricks, and slow recoveries in Europe and the United States are likely to combine with the companies huge capacity surplus to keep the firm a non-performer.

Waiting for Profits

As a state-owned enterprise, the company has the implicit backing of the government: COSCO can afford to wait for things to turn around, unlike global competitors like Maersk, Neptune Orient Line, Hanjin, Mitsui OSK, and Evergreen.

Government coffers are not bottomless, however, and there is no guarantee that a turnaround in the industry will be sufficient to suck up all of the extra tonnage COSCO has added in recent years. Companies are moving manufacturing of large, bulky items closer to markets, and COSCO’s overshoot on dry-bulk capacity (for carrying everything from wheat to iron ore) may leave new ships idle for a long time.

At some point, Beijing is likely to have to take ships off of COSCO’s hands, or at least remove them from the commercial market. The obvious choice would be to sell the oldest ships to ship breakers. Yet COSCO’s older ships have already been turned into scrap, leaving a fleet that is much younger than before.

And none of this addresses the growing ranks of costly thumb-twiddlers at China’s shipyards. It is hard to keep upgrade an industry when demand is imploding.

PLAN for it

In short, arrows continue to point in a direction we suggested a while ago. China’s navy needs ships of every type. China’s admirals would rather spend their precious cash on boats that shoot rather than boats that schlep, but they need both. COSCO’s surplus of capacity offers the government an opportunity to create an entity that provides full-time contract sealift to China’s armed services, something akin to the Military Sealift Command in the United States.

The spare dry-bulk carriers would probably not be much help: the cost of refitting these to accommodate troops or military cargo would probably not be far off the cost of purpose-built ships. Container and Roll-on/Roll-off vessels, on the other hand, could serve as pre-positioning ships for extended operations outside of Asia (to support China’s UN peacekeepers, for example), shuttle ships for China’s precious few underway replenishment vessels (that by definition need to stay close to their assigned battle groups), or as amphibious support ships.

A move like this seems inevitable, and when it happens it will quietly signal that the People’s Liberation Army Navy has matured, and is clearly thinking about how to start projecting power as well as how to prop up its struggling merchant fleet.

And Here Come the Microfilm Regulations

In the Hutong
Beijing Youth Politics College
1603 hrs

A few weeks ago, we noted that the growing phenomenon of microfilms – motion pictures produced inexpensively with digital technology and distributed online – was becoming too popular to long avoid the attention of regulators.

Now, it appears, those regulations have come. As the Associated Press notes:

This week’s update of a two-year-old regulation on the supervision of online dramas and microfilms has raised fears of stifling creativity. The broadcast administration now requires content makers to register with their real names, production companies to obtain operating licenses and report their content before it is put online, and video-hosting companies to keep records of uploaded content.

This places microfilm producers in one of two boxes: they will either be legit, or they will go guerrilla, and if they do the latter, the best avenues of distribution will be closed to them. Of all of the regulations, the last is the kicker. Video hosting companies, who thrive because the government chooses not to look too closely at whether their most popular content has been approved for broadcast, will anxious to avoid antagonizing their regulator.

Depending on how stringent the regulations are and the spirit under which they are enforced, there are two likely outcomes to these regulations: a vastly larger and more creative film industry; or the world’s largest guerrilla film market. If the government simply uses the licensing regime to turn microfilms producers into legitimate small businesses, they create a tax base and the wherewithal to fill the digital pipeline with legitimate, local entertainment. They also take a step toward turning China into the global film powerhouse the government aches to create.

At first blush, this outcome seems unlikely: why regulate if you are trying to grow an industry? In China, though, because a business license is granted for one or more specific activities, the act of regulation actually creates a channel to legitimize a business, and thus afford it the ability to operate above board. Further, if the government only requires “reporting” of content and not approval prior to posting, this alone represents a major step for filmmakers.

Even under such a regime, the government will continue order the removal of any film that steps beyond the bounds of Party propriety into forbidden topics or prurient content. That door of control remains open to them, as it is today.

If, on the other hand, the government is niggardly with microfilm licenses, or if it lays upon producers onerous approval requirements as a part of the reporting process, the result will be a community of guerrilla filmmakers and sites that distribute their works. At that point, there will be no regulating the content, and filmmakers will feel free to take on even themes that would discomfit the party.

Under a draconian implementation of these laws, distribution will not stop: it is, actually, easy to envision people sharing forbidden films via email, torrent, thumb drive or other means, from person to person, much as samizdat literature did in the Soviet Union during its final decades.

The rational choice seems to call for a robust, regulated film business that builds China’s soft power and draws its eyeballs away from foreign content. We will know within six months how this will all shake out.

Walter Lippmann on China

“The small American businessman has long complained about how difficult it is for him to survive in the competition with the large American corporation,” [Walter] Lippmann warned. “What will he do when he has to face the competition of totalitarian monopoly organized on a continental scale?”

Alan Brinkley The Publisher: Henry Luce and His American Century

Lippmann was talking about the Soviet Union at the time, but his words do resonate today.

Happy New Year, everyone, from Silicon Hutong.

The Future of Microfilms

nescafe_china_youku_camera_cafe

Video on Youku (Photo credit: Gauravonomics)

Hutong West
Near Hollywood Beach

1037 hrs.

I read today with great interest Louise Watt’s superb AP story about microfilms, a new medium emerging at the intersection of online video, mobile media, and digital filmmaking. Louise explains how microfilms are growing in popularity in China.

What Watt touches, and fortunately does dwell upon, is how microfilms are still quite experimental in the PRC. Beyond the artistic sense, that means that there are no laws, regulations, or administrative rules in China that officially recognize microfilms as a medium, or that provide an official framework for their creation, distribution, and consumption. In most of the world, this would mean nothing. In China, it establishes the arc along which microfilms are set to develop. Or not develop.

A Different Media Market

By definition in China, the media is controlled by the Party. As such, media implicitly plays a different role in Chinese society than it does elsewhere: it performs the function that the Party sees fit.

And media is seen by the Party, first and foremost, as a tool of social administration: a means of communication between the Party, via the government, to the people, designed to support the Party’s goal of sustaining social harmony and support for the Party. Only after that is it seen as a means of conveying entertainment to the people, or as an industry to employ people and generate economic activity.

The mainstream media – newspapers, magazines, books, recordings, live performances, radio, film, and broadcast television – all began in post-revolutionary China in organizations controlled by the state. State control was axiomatic, and the Party created – and later, vetted – all content.

But when new media began emerging to challenge the state’s media monopoly – starting with cable and satellite, but soon moving on to the Web, games, blogs, and social media – the state made it clear that it saw these as subject to its monopoly, whether by licensing or by direct control. It seems unlikely, therefore, that microfilms will escape official notice and regulation.

The Coming Reckoning

So how will this roll out for microfilms? There are two likely outcomes. On the one hand, if the organs of the State Council and the Party Publicity Committee approach them as an undifferentiated part of the mass of videos finding their way online in China, microfilms will ride along with whatever the future is for online video as a whole.

But if those government and party offices for whatever reason decide to see microfilms as a separate development – especially if they become a real, vibrant threat to the growth of China’s mainline film industry, or if they become an outlet for political angst – then microfilms will be treated as a new medium, and they will face turbulent times.

In China, the government tends to go through four stages in the journey to legitimizing a new medium. This is not a formal process as much as it is a modus operandi, but it has been remarkably consistent over the past two decades.

Ignorance – First, the government will decline to pay official attention the microfilm phenomenon. It will, instead, take a stance where it officially ignores the media, all while watching it out of the corner of the eye. This tacit approval allows the government to wait, watch, and bide its time before stepping in.

Reaction – Finally, when somebody makes and distributes a microfilm that crosses an invisible political line and causes an uproar, the government will be left with no choice but to step in and take action. The move will be to slam on the brakes, possibly making the production and/or distribution of such films illegal, and ordering sites like Youku and Tudou to cease production and distribution.

Experimentation – When the government acknowledges the benefits of microfilms (assuming that it sees them,) it will begin a gradual process of experimentation. That might developing a licensing regime and framework that will ensure the films support – or, at least, do not operate in direct opposition to – the state. Alternately, the government could mandate that all microfilms are only distributed through government-approved sites. In the worst case, it would restrict the production of all such films to state-owned entities. Either way, the process will forge a sustainable framework under which microfilms can be made in China.

Accommodation – Once the framework is in place, the government enters a phase of fine-tuning that system, opening it up to more participants, or to less, or under different conditions.

Softening the Blow

It is important to remember that at any of these stages, there is room to influence the process, to soften the government’s approach. The degree to which this is successful depends on the unity of the participants in the process, and the level of self-regulation (read “self-censorship”) the parties are ready to engage in.

For many media – blogs, microblogs, and other user generated content – the process of reckoning with these developments saw the government turn to the platform owners to control the content. The platform owners, in turn, subjected users to rules that would see their content deleted and accounts closed if they posted political or prurient content. That allowed for a relatively easy solution.

If the distribution of microfilms remains limited to sites like Tudou and Youku, the government may not see a need for much further regulation – the authorities already have clear understandings in place with the online video sites, and keeping track of the few dozen microfilms each week is a simple matter.

But the prospect of getting a large group of producers and directors of these films to sign up to a means of self-regulation seems slim, and if distribution goes outside of those channels that the government can control – if peer-to-peer sharing kicks into high gear, for example, the regulation will have to happen at the source. And the government will have to make its controls draconian to enforce control on people making movies with phones, handhelds, and laptops.

Media will Serve

The Party’s broader policy direction of late does not seem to augur a greater opening to ideas and an independent media industry, even though the past twenty years have proven to China’s leaders that absolute control in an age of user generated media is practically impossible.

But when the government needs to use media – including its policies on its use – as a means to sustain social stability, regulators see it as their duty to ensure that media serves the needs of the state. As flexible as the medium may be – and microfilms are an exercise in flexibility of topic, format, creation, and distribution – the government has proven itself increasingly deft in crafting regulatory regimes that permit new media to operate on the Party’s terms.

At some point, microfilms will face a reaction. What filmmakers have to do is decide whether they want to avoid that reaction – or provoke it – as a pathway to a stable, legitimized future, or to another kind of future entirely.

Setting China’s Innovation Bar

Hutong West
Disrupting my reading
1953 hrs. 

Now that I am spending more time in Silicon Valley and its satellite outposts of innovation in the US, the question posed to me over more meals and espressos is “do you think China will ever become innovative?”

After a lot of time to think about that question on planes an in hotel rooms, the best answer I have to that is another question.

“How do you define innovation?”

One expert with whom I shared a panel about a year ago said that innovation is like pornography: “I can’t define it, but I know it when I see it.”

That’s witty, pithy, and, I have found, gets your audience on-side. Which is nice when your audience is a client writing big checks for your advice. Unfortunately, it is also wrong.

A Relevant Definition

You can define innovation if you think about it. Franz Johansson has thought a lot about it, and the way he defines it as something that is both novel (new, never seen before) and useful.

That’s actually a pretty good starting point, but global experience proves something may be novel, useful, but not particularly relevant. The XboX Kinnect is novel and useful, but not particularly relevant if you live in China, where video game consoles are essentially banned. The Founder Group was built largely on an innovation laser typesetting of Chinese characters, a remarkable breakthrough in China but largely irrelevant to three-quarters of the planet. A review of the history of the Xerox Palo Alto Research Center (PARC) offers a list of innovations that never found the proper context that made them commercial, meaningful, and worthwhile.

A good working definition of an innovation, then, is something that is novel, useful, and relevant to a given audience.

What is more, innovation need not be in product: breakthrough innovations in process can be incredibly disruptive: think Fred Smith’s breakthrough with overnight freight processing that created FedEx, or, classically, Henry Ford’s moving assembly line.

Through a Filter, Darkly

We tend to view innovation in China through the lenses of two fallacies. The first lens is based on our view of China, and the second on our view of innovation.

Our view of China suggests that because China does not have a consistent record of innovation in recent years, and because many Chinese companies and entities proclaim they are being innovative when (by our definition, anyway) they are not, that China does not innovate.

This could be disproved, except for the second fallacy, which is our view of innovation. We tend to look at innovation like John Nash in “A Beautiful Mind,” seeing only landmark breakthroughs and totally original ideas as true innovation. This is a natural prejudice: our lifetimes have witnessed so many breakthroughs that our personal standards are high.

But they are unrealistic. The advances that turned the technologies used for mainframe computers into the personal computer revolution were not breakthroughs, but they were profound innovations nonetheless.

When we reframe our standards and work with the definition of innovation above, we can view China’s current innovation – and its prospects – differently.

Innovation Happens – Even in China

China is not yet an economy that is driven by its own innovations, but by those of others. Nonetheless, there are indicators that innovation is taking place in Chinese enteprises. Huawei’s investments in R&D following the telecom bust in 2002 have been yielding industry-leading innovation for three years in its networks business. BYD is using old battery technology in an innovative way. And Yuneec is on the verge of doing for general aviation aircraft what Tesla has done for the family sedan.

All of which goest back to my clients’ question. If Chinese enterprises are disrupting the mobile communications, automotive, and aviation industries, what industry is next? The best way to answer that is to watch for the little innovations, the process innovations, the incremental breakthroughs that turn out advances that are novel, useful, and relevant. Find those, and you will find the next point of disruption.

Five Predictions: China’s Business Environment in 2014

Hutong West
Sunday Afternoon Countdown to Morning in Beijing
1526 hrs. 

Much ink and focus has been given of late to understanding China’s political evolution. Too little, on the other hand, has been given to what it will all mean to those of us who must decide what role China will play in our business plans in the next two to three years.

Futurism is alchemy in the best of circumstances, and nowhere more so than in the case of China. Nonetheless, if we extrapolate from current events, it appears that China has embarked on a course of commercial nationalism, if not outright mercantilism.

In the spirit of the season, then, we offer our five predictions for 2014:

1. China will build a more protected environment at home for its state-owned, state-coopted, and “accidental champion” enterprises through an increase in the use of soft protectionism.

2. Those enterprises will thrive at home, but increasingly will be pushed abroad, seeking prestige, less competition, and faster growth.

3. Trade and industrial policy will test the absolute limits of what China can get away with under the WTO, and Beijing will conduct a propaganda campaign to try and undermine the Trans-Pacific Partnership.

4. Foreign brands will find it more difficult to gain share in China. In addition to soft protectionism, they will face the continued relative decline in the prestige of foreign goods/brands in a growing number of sectors.

5. In 2014 we will see the beginnings of a new crop of Chinese entrepreneurs, more of whom will be starting their companies from second, third, and fourth tier cities, or even overseas. The cost and complexity of doing business in China’s first tier cities – along with the declining quality of life – will shift focus away from Beijing and Shanghai.

I’ll be addressing these more in the coming year.

The Challenge of the State-Co-opted Enterprise

Hutong West
Santa Ana Fever
1124 hrs.

When we talk about broad categories of Chinese enterprises, we focus on ownership: state-owned enterprises, or those companies owned and guided by the government; private enterprises, or those companies owned by other companies or by individuals; and foreign enterprises, those companies legally or functionally owned by non-Chinese corporations or individuals.

You don’t need to work with this taxonomy for long to discover that it is inadequate. Hybrids abound, and there are a growing number of firms that do not fit neatly into these distinctions.

One type that we must address, even if it seems chimerical, is the “state-co-opted enterprise.” This is a private company, one not owned by the state, that has not only submitted itself to the modicum of government oversight mandated by law and policy, but also by intent or action has made itself an extension of state policy. Most often, this is done in order to secure a right to operate in a particularly sensitive sector.

The reason this phenomenon needs to be examined is that there is an implicit belief outside of China that many Chinese companies, while ostensibly not state-owned, are in fact controlled by the Party or some arm of the Chinese government. This is especially the case for large Chinese companies with a growing international presence and opaque ownership structures.

Huawei’s singular employee-ownership structure, for example, vexed US Congressional investigators. The ownership of Qingdao-based white-goods maker Haier remains obscure at best. Lenovo protests that it is “100% market oriented,” but the Chinese Academy of Sciences retains 36% ownership of the enterprise. And Tsingtao Brewery Group, the majority owner of Qingdao’s Tsingtao Brewery, has an ownership structure that remains unclear. These arrangements, unconventional and strange to western observers, seem tailor-made to hide the hand of government or military behind these enterprises.

But ownership is not the sole source of concern. There seems little question that China’s internet giants – Baidu, Youku/Tudou, Alibaba, Tencent, and Sina – are not state-owned by any measure. But their leadership in an industry where foreign participation is limited by government policy gives them the status of what Piper Jaffray analyst Gene Munster called “a state-sponsored monopoly.” Such a status could be seen as leaving these companies inordinately beholden to the government if the Party were ever to call in its chits. Worse, as we enter an era where cyberwarfare is becoming a core mode of international conflict, the capabilities encompassed by China’s internet giants offer the Party and PLA motive and opportunity to co-opt these companies.

None of this is to say that these companies dance to the government’s every pull on the string. But for each of these firms it is going to require more than bold assertions of independence under questioning to convince the world that they are not somehow in the thrall of the Party, particularly if Xi Jinping stokes commercial nationalism.

Those of us who work with, represent, or do business with China’s emerging non-state enterprises either need to be demonstrate their independence from the outset, or we need to address the relationship between these firms and the government proactively, so they are not “discovered” by accident.

Is Apple Going (China) Mobile?

Hutong West
Two hours sleep, three cups coffee
1039 hrs. 

 

China Mobile

China Mobile (Photo credit: Wikipedia)

The Wall Street Journal has lit up the net with an article proclaiming that the ink is drying on a deal between Apple and China Mobile for the carrier to (finally) (officially) offer iPhones on its network. Nothing has been confirmed by either Apple or China Mobile, but that has not stopped the speculation.

My take on the deal has not changed from when I wrote this piece in September: the value of this deal is far from clear. As such, it might be time to add a few more points to the debate to provide some perspective:

1. There have been 89 million iPhone 5 handsets sold thus far.

2. There are already 42 million iPhones using the China Mobile network. These are people with iPhones and a China Mobile account.

3. Optimistic analysts expect another 20 million iPhones will be sold next year in the event of an China Mobile deal, around 1.5 million phones a month.

4. Said analysis suggests that just under 3% of China Mobile’s subscribers will buy iPhones in the first year, and presumably a percentage of those will be replacements, given that your average Chinese smartphone user replaces his/her device every 15-18 months.

5. If Apple did sell an additional 20 million iPhones in the first year of its business with China Mobile, at, say, $400 revenue per unit, that would be $8 billion. A very nice chunk of change, and it would deliver a respectable jump in iPhone sales worldwide.

6. Putting that in perspective, Apple’s revenues for the 52 weeks prior the end of last quarter were over $170 billion. Therefore, even a very successful debut with China Mobile would give Apple a 5% revenue bump.

None of this is to say that this will be a bad deal for Apple. Even if Apple sold only an additional 10 million units, selling 10 million units of anything in the mobile business counts as a win, even for Apple. At the same time, it is important to keep in perspective exactly what a China Mobile deal would mean – and, more important, what it would not mean – for the company.