Supply Chain: Making It in China

When Arvinder Surdhar traveled to China in 1990 to form a joint venture between IBM and a Chinese manufacturing company to produce PCs, he wound up manufacturing something he hadn’t expected: cardboard boxes.

"When we opened up those first shipments from China, there was more dust in the boxes than anything else," recalls Surdhar, who is director of global logistics for IBM’s integrated supply chain division. Many of the PCs were damaged due to problems endemic to doing business in China, problems that still plague American companies 15 years later: bumpy, dusty, overcrowded roads (and train tracks); a fractured logistics network in which shipments are loaded and unloaded at the whim of provincial border agents; overburdened ports where products languish in humid containers for weeks waiting to board a ship. "We had to come up with special shrink-wrap and unique, thicker boxes and packing materials that absorbed shock and resisted dust and humidity," Surdhar says.

IBM’s new boxes did not wipe out the cost advantages of making PCs in a country where factory workers, truck drivers and longshoremen make one-tenth the salary of their counterparts in the United States and Europe. But they could have. According to research by consultancy Booz Allen Hamilton, the logistical costs of getting products into, around and out of China may end up outweighing the cost advantage gained by going there in the first place; if the labor costs of manufacturing the product in the West account for 25 percent or less of the total product cost, it may be to companies’ advantage to keep manufacturing in the West.

Besides logistical complications, other factors—such as inflexible production lines and limited ability for many Chinese factories to handle last-minute design changes—can also make the risk of going to China bigger than the potential savings. Broken, dusty, improperly specified or delayed PCs don’t sell, no matter how little it costs to produce them. IBM’s joint venture thrived after its initial logistical hiccups, according to Surdhar, and the joint venture eventually began making higher-end servers for IBM. (The PC part of the business was sold to Chinese giant Lenovo earlier this year.) Other companies haven’t fared so well with their joint ventures. Making sure that products built in China look, function and arrive as promised remains a tremendous challenge today.

The CIO’s Burden

The slice of that challenge that falls to CIOs—monitoring, managing, automating and feeding the Chinese supply chain with information—is the most daunting of all. Supply chain visibility is a precious commodity even in the West. In China, for all but the most advanced products, navigating the supply chain can be a matter of feeling your way through total darkness. IT, however, is not the automatic answer for lighting up the supply chain. Labor costs are so low in China that IT automation and monitoring projects may add more to costs—in terms of software, hardware and still-precious (and unreliable) bandwidth—than they save in productivity. (The median wage at a Chinese manufacturing plant is 1,000 yuan, or about $120, per month, according to a 2005 survey by The MPI Group.) Hence, some low-tech or commodity products may not be worth monitoring at all until they hit a ship in a Chinese port.

CIOs who have succeeded in China understand the country’s dramatically different cultural, political and business practices and how they affect the design and management of supply chains. They know, for example, that the Chinese government essentially becomes a third party in any dealings with local companies and can intervene, at any time, in capricious and costly ways. They realize that Chinese companies consider contracts to be starting points for developing a business relationship—and may not honor them to the letter. They understand that communism is merely a new name for a political and economic system that has stressed hierarchy and authority over independence and jurisprudence for hundreds of years.

Though neophytes assume that China will become "more Western" over time, CIOs with experience there aren’t holding their collective breath. In the meantime, these executives have developed strategies that accommodate Chinese differences without compromising the goals of low costs and high quality. They hire Chinese import/export companies to act as local ambassadors to navigate the thickets of government bureaucracy, cajole local suppliers and provide information links to their supply chains. They build their own factories in China, when possible, to instill the company’s own manufacturing and quality processes and provide more fertile ground for extending the company’s enterprise IT systems into China. And they make the necessary investments in relationship building, or guanxi, that provide the foundation for doing business in China. (For more on how to negotiate this ethical thicket, read "Bribes and Payoffs—Oh, My!" on Page 54.)

CIOs who act without this knowledge risk erasing the very cost advantages that brought their businesses to China in the first place. If they can’t provide cost-effective systems that give insight into the supply chain, "the complexity and unpredictability of China-sourced products become overwhelming," says Beth Enslow, VP of enterprise research for Aberdeen Group.

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