Made in China: Perspectives on the Global Management Giant

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What makes logistics in China so challenging? Who's really to blame for its much-publicized product quality failures? What's the secret to outsourcing success? A trio of industry experts responds.

China's economy has grown nine percent on average each year for the past 20 years. Companies looking to gain competitive advantage by reducing supply chain costs targeted the country as a base of operations, creating an increase in trade volume that has exposed some gaping holes.

One sensitive spot is supplier management. In recent years, some manufacturers have abandoned the low-margin, capital-intensive business of manufacturing goods and focused instead on higher-margin branding and marketing activities.

Globalization has increased short-term pressures for speed, forcing supply chain managers to balance resources against requirements.

This strain is particularly evident in China, where many of the resources its global popularity requires are lacking.

Companies outsourcing to China face the following obstacles:

1. Regulation. China's logistics sector remains one of the world's most heavily regulated environments, with rules existing at the local, national, and regional levels and differing from city to city.

Logistics projects in China still rely heavily on the strength of personal contacts with Chinese bureaucrats. Companies inevitably nurture relationships with members of China's communist party government to work within restrictions.

2. Lack of institutional knowledge and resources. Many Chinese companies don't understand how to leverage best logistics practices, and the government has failed to offer incentives that could improve logistics programs.

Inadequate information technology standards, coupled with poor systems integration and equipment, weaken organizations. Unreliable energy supplies further complicate companies' ability to communicate.

3. High transportation costs. The cost of transporting goods in China can be as much as 50 percent higher than in developed regions such as Japan, Europe, and North America.

High tolls on the country's roads also contribute to swelling transportation costs. Generally, logistics costs are estimated to be two to three times the norm.

4. Distribution difficulties. Inadequate facilities and management cause high levels of product loss, damage, and pilferage, especially in the perishables sector. An estimated one-third of China's annual harvest is damaged by the inability to store and move produce effectively.

5. Traffic flow imbalance. Wide regional variances in economic activity and development create a major imbalance of goods flowing from China's industrialized eastern region to its less-mature western part, making backhaul opportunities virtually impossible.

Although China entered the World Trade Organization, goods can still be subject to unofficial border tolls when moving between provinces.

Supply chain execution in China will continue to be unpredictable until business-process reference models can be taught and implemented locally.

Acquiring a universal language for attaining performance metrics, applying leading or best practices, and defining process activity will help companies set—and meet—expectations for doing business in the country.

Don't Blame China: Rooting Out Product Quality Issues

Don't blame the U.S. government or the Chinese government. Put the shame squarely where it belongs: Last year's infamous toy recall scandal was all about supply chain management failure.

Those of us in the profession don't want to hear it. We want a scapegoat, and it's easy to blame the faceless, "dishonest" foreign supplier.

Oversimplifying such a conclusion benefits no one. The following five factors combine to create product quality problems, and only by examining each facet can we uncover the true root causes.

1. Supplier reliability. By necessity, producers are concerned that suppliers provide goods and services that meet expectations. Global supply networks complicate the situation, and have created the need for quality control, quality assurance, contract law, and ISO certifications.

Businesses try to screen questionable suppliers, but even the most trusted partners can make errors. With luck, the mistakes are discovered and corrected before any serious damage is done. T

his is why some firms doggedly pursue quality management, while others choose to "economize." Contract law provides a remedy when our judgments, or circumstances, go wrong.

When a problem inevitably occurs, questions fly: Who didn't do their homework? Why were problems discovered after product was distributed to the market?

In the case of the toy scandal, Chinese suppliers took the blame. It was, however, a result of management oversight.

2. Cultural expectations. Even with self-policing ISO standards and tough economic and legal recourse in place, corruption seeps into the supply chain.

The most cursory examination of cultural values can explain why a "one size fits all" approach to supplier management is impractical.

In some cultures, personal integrity trumps a legal document. But, as elsewhere, this value might not extend beyond those who have received personal commitments.

Other cultures are notorious for producing nothing more than the minimum needed to meet their own interpretation of an "agreement." The century-old attitude, "they pretend to care about us, we pretend to care about them," is slow to change.

When sourcing from other cultures, it's critical to understand that all parties to an agreement might have different expectations. Remedies that work in one culture may be ineffective in another.

Centuries of international trade prove that cultural diversity can be managed. A learning curve may precede success, and those choosing not to recognize it often pay a steep price. Expecting another culture to assume your value structure is a strategy for failure.

3. Cost and risk management. There is nothing inherently wrong with management's desire to drive costs down. But there is implicit folly when companies don't seriously consider relatively small costs—such as on-site inspection and testing—that carry possible high-cost risks, including product recalls and damage to corporate images.

Deciding not to inspect suppliers, or relying on third-party government inspectors without a successful track record, reduces one cost while inviting higher direct cost risks.

With such high risks attached to these kinds of transactions, one has to ask: Was anyone paying attention? Were we so busy, so frugal, and so confident that we knowingly or unknowingly took these risks?

The responsibility for cost and the responsibility for risk are often separate domains within organizations. One is relegated to supply chain operations, the other to strategists or the finance department. Whether or not costs and risks are properly balanced is sometimes a mystery.

4. Reliance on software. Separating from hands-on management of products, processes, and people, coupled with confidence that software can manage the supply chain, provides a false reliance on management by remote control.

Today's powerful supply chain software was developed on the backs of practitioners whose experience and knowledge of current practices gave them confidence to anticipate and plan for future management issues. But the future is here, and every issue was not anticipated.

Software planners have long said that finished "program releases" are 95-percent complete, and remain that way forever—as long as they are continually updated. So what happens to the five percent of a program that remains unfinished?

That is what management is about: making the necessary adjustments. Don't assume that solutions built into existing software fully meet current needs or anticipate future ones.

5. Getting the whole picture. Supplier reliability, cultural differences, cost and risk management, and software reliance don't function independently. Failing to consider how all the pieces of this puzzle connect creates a jumbled manufacturing process.

For example, deciding to cut costs by eliminating periodic and/or continual inspections might not be connected to recall risks—nor would delaying annual software update expenditures. These cost-cutting measures, however, affect product quality.

Who is responsible for these decisions? Suppliers? Chinese culture? The government? Our desire to drive costs down without fully recognizing the implications? Our reliance on software rather than common sense?

We have known the principles of good supply chain management for decades—perhaps even centuries. They require that each piece of information the supplier provides is useful for timely and accurate representation of the product and adherence to marketing schedules.

To do less is a gamble—and the cost of losing can be steep.

Quantum Leap: Overcoming China's Sourcing Challenges

The total logistics flow through China topped $10 trillion during 2007, estimates the China Federation of Logistics and Purchasing, and Shanghai's throughput reached 560 million tons in 2007, reports the Shanghai Port and Shipping Bureau.

As a still-developing market economy, China—now the eighth-largest economy in the world and the second-largest in Asia—poses enormous and complex logistics challenges for manufacturers that source there. Its rapid growth continues to strain logistics channels even as it adds capacity.

Recognizing China's Challenges

China's logistics challenges are illustrated in a recent report by the Wharton School.

Although China and the United States are physically the same size, China has only one-third the highway network. And its six million trucks are owned by nearly two million trucking companies, making for highly fragmented logistics control.

Overall, delays, red tape, and administrative costs as a result of fragmented shipping mean Western multinationals can expect about 20 percent of their Chinese sourcing costs to be logistics-related, compared with an average of about 10 percent in the West.

And shipping goods from China to the West typically takes six weeks—much longer than sourcing from Latin America or Europe, according to the Wharton report.

Architecting a global logistics system in this environment requires a quantum leap from past shipping practices. Global supply chains can be notoriously delicate and subject to catastrophe from constantly shifting economic pressures, government policy, and increasingly erratic weather.

An inefficient supply chain with outdated knowledge and procedures can create unnecessary storage and demurrage charges at ship terminals and airports, caused by information snags, missing or ill-prepared shipping documents, and inappropriate cargo routing.

Given these realities, electronic tracking techniques may become more important to global manufacturers sourcing in China.

Creating a Comprehensive System

An electronic tracking and documentation system is a comprehensive way to monitor transportation, stocking, and compliance quality, so that suppliers and shippers understand what is expected of them.

This also includes installing processes to calculate cross-border tariffs and excise taxes, as well as regulatory and licensing compliance.

A manufacturer must always know the status of mission-critical factors in its supply chain, even when outsourcing freight management to a third party.

That means knowing what products have shipped, what is in transit, what is due to be shipped, where freight is in the cycle, and how the shipment is meeting delivery schedules.

Electronic tracking adds transparency to a process that can quickly become opaque and convoluted as materials and packaging shuttle back and forth between multi-tiered markets.

Electronic systems for ensuring that supplies are delivered on time and with the proper quality require logistics companies to implement an electronic tracking protocol.

The ability to track freight as it moves across the world reduces pressure on the manufacturer's transportation department, and improves both efficiency and cost effectiveness.

Integrating with Trading Terms

Before the wide use of online technology, trading terms were generally limited to Cost, Insurance, and Freight (CIF) charges. Using CIF terms when negotiating the purchase of merchandise requires that all insurance and freight charges be included in the price, making it hard to verify those costs.

In contrast, shipping Free On Board (FOB) offers more competitive freight rates and enhanced shipment control. FOB integrates well with electronic tracking because increased supply chain visibility and control is a critical FOB benefit.

By taking control of goods at overseas shipment ports, an importer is better able to obtain accurate and timely shipment information by working with a third-party logistics provider.

In this way, the manufacturer is assured the freight partner is working for its best interests—not the local supplier's.

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