Research

Trade, China and the world economic order, part three

Doing business in China different than doing business anywhere else. Seasoned business veterans on the China scene — from Motorola, Emerson Electric, Harley-Davidson, ON Semiconductor and TPI Composites — offered their advice for successfully doing business in China recently at the first of three forums on trade, China and the world economic order. The W. P. Carey School of Business and ASU's Sandra Day O'Connor College of Law are partnering with The Kearny Alliance to host the forums. Part 3 in a series of four articles covering the forum, this piece covers the microeconomic — some would say practical — side of trade: the businesses that actually sell to, and from, China.

2009-05-06

American business in China has contributed to the country's meteoric economic development over the last thirty years. The Chinese economy has grown at an average annual rate of about 9 percent, compared to 2-3 percent for the leading developed economies like the U.S. "There's a saying at Motorola that you can stand on the corner and watch China change," said Gary Tooker, former chairman of Motorola.

Business leaders participating in the recent ASU/The Kearny Alliance Forum on Trade, China and the World Economic Order, urged an acknowledgement of what American business has done in China. "Democratization of China is in no small part due to U.S. business activity there," Tooker said. "We shouldn't lose sight of what American attitude and business has done positively in China and the rest of the world."

Paraphrasing a December 2008 CNN.com segment, Peter Yam, chairman of Emerson Electric China Holdings Co Ltd. said "Thirty years ago China was poor, isolated, with little international trade, few cars but millions of bicycles, clothes were either blue, green or grey, people earned little money and there was little to buy. Who would have thought China would become in 30 years the third largest economy in the world? Companies like KFC, Wal-Mart, and Starbucks are highly visible there. The country boasts a 9.8 percent growth rate. It's the largest single holder of U.S. government debt."

Yet that rapid rate of change is part of what makes doing business in China different than doing business anywhere else. Seasoned business veterans on the China scene — from Motorola, Emerson Electric, Harley-Davidson, ON Semiconductor and TPI Composites — offered their advice for successfully doing business in China.

Don't go to China with your most cutting-edge technology

At the forefront of both political debates and boardroom discussions about trade between the U.S. and China is the issue of intellectual property (IP) rights. "Hit-and-miss IP regulation is a significant inhibitor to development in China," said W. P. Carey School supply chain management professor Philip Carter.

The IP challenge is significant because, for many companies — especially high-tech firms — intellectual property is the bedrock of their competitive advantage; more than the actual electronic gadgets they manufacture, it's the IP that generates their revenue. Companies respond to that challenge not by ignoring China in favor of countries with stronger IP rights protections, but by going into China with older, "second best" technologies.

"When a company takes their technology to China, it's not the most cutting-edge, best technology," Carter said. In the late 1980s when Motorola decided to move into China, for example, it knew that taking its new and innovative cell phone technology wasn't a wise idea. Instead, it opened factories in China to manufacture pagers, which it planned to sell to the domestic Chinese market.

"At the time, demand for pagers was waning in the U.S. So we decided to go into the Chinese market with the technology. In a few years, we sold 4.5 million pagers there," Tooker said. The lag in China's development and enforcement of intellectual property protections arises from two sources, said participants. The first is cultural. "The East and the West have different ways of looking at intellectual property," Tooker said. "In the East, it's about what's good for the group. In the West, it's what's good for the individual."

But Tooker is confident that those cultural differences can be overcome. "Once you make the case that it's in China's interest to protect intellectual property then they'll be very good at it — it's just a matter of education." In 1976, Chairman Mao reflected the uniquely Chinese way of looking at intellectual property: "Intellectual property creations are tools for the common good."

In 30 years, there has been a huge change in China's view of IPR as a tool for their benefit, said Karen Dickinson, IP attorney at Quarles & Brady LLP. Whereas the West intrinsically values intellectual property rights, China will begin more rigorously enforcing IP laws because it will be good for China. In 2007 China's Premier Wen Jiabao said, "The competition of the future world ... is the competition of IPR."

The "what's in China's interest" idea points to the second source of IP rights differences: for the first three decades of China's economic development, "ignoring" IP violations was an important way that Chinese companies got access to the kind of technological know-how that they needed to become viable competitors in their own right. And over the long term, many say, having a greater number of competitive Chinese companies in the market is good for everyone.

But now that China's domestic companies have moved up the value chain, becoming significantly better at innovating their own technologies, they too are pushing the government for intellectual property rights protection in China. "Now that Chinese companies want to expand domestic brands in other countries — now that they want their own brand protection — then the government has more respect for IP rights," said Dickinson.

As China continues to move up the value chain — from low-end manufacturing to high-tech manufacturing and services, Dickinson expects to see much more aggressive intellectual property law enforcement from the Chinese government. But, she cautioned, in some of the farther-flung Chinese provinces, Beijing's IP laws may not matter much.

Already, the Chinese government is living up to its commitment to the World Trade Organization that it will enforce IP rights, said Emerson Electric's Peter Yam. Yam sees evidence of China's growing adherence to its IP rights commitments in a recently-won lawsuit that one of Emerson's China divisions filed against a Chinese company for trademark infringement.

Recognize that you'll have to work hard to find and retain management talent

While low-wage labor is readily available in China, American and multinational companies have found it difficult to find and retain mid- and upper-level managerial talent. When Motorola entered China in the 1980s, the company easily hired direct-line operators to work in its factories, but had trouble finding managers, said Motorola's Gary Tooker.

"We didn't want to cover the world with expatriate managers, except in HR and finance, so we went to educational institutions — including ASU — to help us train people in China for managerial positions." [The W. P. Carey School was one of the first to offer an American-style MBA in China through its partnership with Motorola in Beijing. From 1998 through 2006, this program graduated over 130 alumni who are among the global leaders of Motorola.

In 2003, the W. P. Carey School of Business launched an Executive MBA program in Shanghai in collaboration with Shanghai National Accounting Institute (SNAI). Participants include the senior management of China's largest firms and government officials in charge of policymaking and regulation.] Despite the relative difficulty of finding and retaining good management talent, all of the business executives at the forum iterated the importance of having good leadership in place.

"You need to have people on the ground in China who can interact with the government and move quickly," said Emerson's Peter Yam. "Delegate decision-making to people on the ground — to senior executives who are actually based in China." That was part of the key to Harley-Davidson's success.

"We learned by engaging," said Ronald Hutchinson, Harley's senior vice president for product development. "We put feet on the street in China." At the same time, Tooker encouraged companies to "put someone in place at corporate headquarters who will fight the battles for the folks in China."

Develop and nurture long-term relationships

"Invest in building long-term relationships," what the Chinese call guanxi, or connections, said Motorola's Gary Tooker. One of the first companies to enter China, and one of the most successful, Motorola owes much of its success there to its close relationships with the Chinese government. "Many U.S. business people don't invest in long-term relationships," Tooker said. "It's important almost everywhere, but it's critical in China."

Important relationships for American and multinational companies doing business in China include those with their suppliers, government regulators, partners (many companies operate in China under the joint venture model) and customers. "Our great relationships with the Chinese government have been critical," said Harley-Davidson's Hutchinson. "The ultimate authority over a company's success in China is the government, and there's always a veiled threat of retaliation — that's why building relationships is so important."

Yet the importance of close relationships in China makes navigating ever-changing anti-bribery and corruption laws very difficult. "When China varies its relational laws it's hard for businesses because relationships are so important there — it's hard to tell when you're crossing the line," said Stephen Kho, an international trade attorney with Akin Gump.

Kho advises companies to hire attorneys who keep a close watch on China's laws and can advise company personnel about behaviors that may cross the line. In addition to building close relationships based on trust (without violating anti-corruption laws), a deep understanding of Chinese culture — which, in many ways, is vastly different from American culture — is also key to succeeding in China, participants said.

"To be successful in China, companies must embrace the Chinese culture and processes instead of fighting them," said Bob Mahoney, executive vice president of sales and marketing at ON Semiconductor. That's a lesson Microsoft had to learn. After finding entry into China very difficult, "Bill Gates finally figured out that you don't fight with the Chinese government, you work with them," said Buck Pei, associate dean of Asia programs at the W. P. Carey School.

Yet even after realizing the importance of working with the Chinese government, Microsoft found that the firm simply didn't have the right personnel in building government relations. So the company hired the then CEO of Motorola China, Tim Chan, who has been working with the Chinese government for over 10 years in China. "Through Tim's leadership, in four years Microsoft completely turned around its business in China largely because of government relations," Pei said.

Go for the golden goose (selling to China's domestic market)

Many companies entered China to manufacture goods there (taking advantage of the country's low-cost labor) and then export them to markets like the U.S. and Western Europe. In some cases, foreign companies' adherence to the manufacture-for-export model was dictated by China's restrictions on domestic sales from foreign-owned enterprises. Nevertheless, the ability to sell to the Chinese domestic market is the golden goose for many American and multinational companies.

Some have to access the Chinese market through a joint venture with a Chinese company. Others can negotiate the right to own 100 percent of their Chinese operations and sell to the domestic market — like Motorola did, owing in large part to its close relationships with the Chinese government. Either way, "for most multinational companies, China is one of the world's top three markets," said Emerson Electric's Peter Yam. "Companies cannot ignore the market opportunities China represents — despite the challenges."

Steven Lockard, president and CEO of TPI Composites, found that focusing on the Chinese domestic market, rather than manufacturing there simply to export to other markets has allowed him to worry less about the Chinese government changing the rules of the game. "We worry less than some companies," Lockard said, "because our business is 'China for China,' not 'China for export.'"

One key to succeeding in the Chinese domestic market, according to Yam, is understanding that China's heterogeneous market is critical to a foreign company's success, yet it's a task made difficult by the fact that information is not readily available. Companies that find creative solutions to gathering consumer data are the most successful — like P&G, which has hundreds of research managers living with Chinese families in cities and on farms to learn how they use everything from detergent to toothpaste.

Approach joint ventures with caution

In some industries, for some companies, the Chinese government has mandated that a foreign business incorporate as a joint venture with a Chinese firm. Many American and multinational companies did just that — which allowed Chinese companies to move up the value chain, becoming increasingly savvy — and increasingly competitive.

Clearly, the strategy of learning from foreign companies is paying off — Chinese companies are now patenting their own innovations, trademarking their own brands, and selling their own products around the world. "The number of international patents coming out of China has risen dramatically," said Emerson Electric's Peter Yam. "Chinese companies are becoming sources of technology."

But while the joint venture model may be great for China and its domestic firms, Motorola's Gary Tooker advises against it. "The best model to incorporate in China is a wholly-owned subsidiary of the American or multinational company," he said. For companies faced with the joint-venture-or-nothing ultimatum, Tooker advises having a clear strategy and a strong management team and retaining a majority share in the venture with a clearly-defined path to increase that share.

"And don't ever form a joint venture with a competing company," he said. ON Semiconductor's Bob Mahoney said that in the semiconductor industry, Chinese companies are assuming increasing responsibility for chip design — a highly value-added function that used to be reserved for leading American and multinational suppliers. "U.S. companies will lose if they're not connected to these new Chinese suppliers," Mahoney said. "It's the U.S. companies' responsibility to figure out how to compete."

What's good for me, what's good for China

"Companies have to learn how to compete in the Chinese environment — how to do business there," said ON Semiconductor's Bob Mahoney. To do that, said the W. P. Carey School's Buck Pei, businesses must think not only in terms of "what's good for me," but also in terms of "what's good for China." As companies like Motorola, Emerson Electric, Harley-Davidson, ON Semiconductor and TPI Composites have demonstrated, the two are mutually attainable.

Bottom Line:

• "Hit-and-miss IP regulation is a significant inhibitor to development in China," said W. P. Carey School's Phillip Carter. To work around that challenge, companies should not enter China with their most cutting-edge technology.
• Now that China's domestic companies have moved up the value chain, becoming significantly better at innovating their own technologies, they too are pushing the government for intellectual property rights protection in China.
• While low-wage labor is readily available in China, American and multinational companies have found it difficult to find and retain mid- and upper-level managerial talent. Yet despite the difficulty, having "feet on the street" in China is critical. To work around the challenge, some companies like Motorola have created educational partnerships in China to train managers.
• "Invest in building long-term relationships" said Motorola's Gary Tooker. One of the first companies to enter China, and one of the most successful, Motorola owes much of its success there to its close relationships with the Chinese government.
• A deep understanding of China's culture is critical. "To be successful in China, companies must embrace the Chinese culture and processes instead of fighting them," said ON Semiconductor's Bob Mahoney.
• The ability to sell to the Chinese domestic market is the golden goose for many American companies and MNCs. "Companies cannot ignore the market opportunities China represents — despite the challenges," said Emerson Electric's Peter Yam.
• While the joint venture model may be great for China and its domestic firms, Motorola's Gary Tooker advises against it. "The best model to incorporate in China is a wholly-owned subsidiary of the American or multinational company," he said.
• For companies faced with the joint-venture-or-nothing ultimatum, Tooker advises having a clear strategy and a strong management team; retaining a majority share in the venture with a clearly-defined path to increase that share; and never forming a joint venture with a competitor.

Economics Faculty