China integrates into global supply chain

China integrates into global supply chain

By Michael Mackey

As China moves into compliance with World Trade Organization (WTO) requirements, the freedom of international transport and supply companies to operate in the country has dramatically increased, catalyzing a host of changes. The principal effect is to bind China irreversibly into the global supply chain for industrial products.

Infrastructure is the most visible aspect of this change. The 10th Five Year Plan, to be completed in 2005, will see the handling capacity of Chinese ports increase to more than 16.5 million twenty-foot equivalent units (TEUs), with 135 new deepwater berths built and 45 rebuilt. In spite of the blistering pace of port construction, there are still fears that the new infrastructure won't be enough. Those who believe this - and there are many - have a barrage of statistics in their favor.

Shanghai alone, with four new deepwater container berths at Shanghai Waigaoqiao Phase V, is expected to move between 17 million and 17.5 million TEUs in 2005. On top of this, the monthly container throughput at Shanghai Port reached a record high this January when the city handled 1.42 million TEUs, a 41% jump compared with January 2004. Then, despite the Chinese New Year holiday falling in February this year, Shanghai moved more than 1.11 million TEUs that month, a year-on-year increase of 17.9%. The massive queue of users clamoring for the new facilities has led some to question whether the new capacity will be enough.

For land transportation, the same question applies, only more so. China had some 72,000 kilometers of railway in operation by 2004, which appears impressive at first sight, but the United States, whose transport system is considered car-centric, had more than double that amount of track - 159,700km. Thus China's rail infrastructure is in fact still underdeveloped in spite of massive, recent expansion. For bulk shipments, Chinese railways are further burdened by both a lack of automated equipment and a functioning intermodal (ship to rail to truck) system, which has led to chronic problems with bottlenecks. However, the Ministry of Railways has announced new plans to increase operational rail mileage to 100,000km by 2020. In the same time frame, it will invest in technical upgrades, double-tracking and electrifying half the national network by 2020 - an upgrade projected to cost US$241.5 billion.

What remains to be seen is whether these infrastructure upgrades, each significant on their own, will ever be sufficient. It may instead be that growth on the scale the Chinese economy looks set to sustain will create a constant need to play catch-up. Whatever the long-term outlook, the short term will see substantial improvements in infrastructure - the first effect of China's integration into the global supply chain.

On the "software" side (ie, procedures and personnel), the story is more mixed. Worrying some is the sheer lack of experience and (ironically, given China's huge population) adequately trained personnel. "In China the modern logistics [industry] is just starting," said an official with B&Q Logistics. "There are not enough qualified people who have many years of experience; also, given the fact that the home improvement hypermarket is less than 10 years old in China, there are no existing models for home improvement logistics we can copy from."

Balancing this is the enthusiasm that some foreign players have already shown for the logistics sector, especially as the opening-up effect of China's WTO commitments starts to bite. WTO compliance measures enacted last year allow for foreign businesses to come in and operate freely in the logistics sector, thus permitting the competition that will ultimately create an efficient market. According to Volvo Logistic's Viking Johansson, this is already happening, and the increased presence of competitive foreign players "makes [my job] a lot easier ... Already now, a lot of the companies that provide business services to us have new licenses and have expanded their business scope."

This development has brought with it cost savings for companies as there are fewer layers to deal with when conducting their logistics operations, and the layers that do exist tend to be more efficient and transparent. Not that this change alone is sufficient to accurately call the Chinese logistics sector a "market". "It cuts out an inefficient process," said P+O Nedlloyd general manager Alex Tate.

Other problems endure. Especially, a lack of basic infrastructure such as a national expressway system has worked against the creation of national trucking companies, leaving some 2.3 million miniscule hauling companies - the majority just "one man and a truck" operations - to squabble over short-haul routes. Although this, too, is starting to change.

"Larger [transport] companies, such as Sinotrans, are building inter-provincial [trucking] networks," said Chris Torrens, a consultant with Access Asia. "Such operations use modern and well-maintained trucking fleets, enabling them to take advantage of increasingly interconnected highway networks and to make long-distance journeys between major cities. Driving time between Beijing and Shanghai, for example, is now down to about 14 hours."

There is more to a modern supply chain, though, than just infrastructure. One key aspect - which also doubles as a useful response to the problems created by having to import, then move around, large volumes of supplies - is the creation of competitive local suppliers. The Chinese government is keenly pushing this already, which makes for a handy convergence of public and private sector aims. And it is here that the biggest implications of global integration are to be found.

"I see a clear trend of foreign companies reorganizing themselves and restructuring. A lot of joint ventures are either being converted into wholly owned foreign enterprises (WOFEs) now, or planning to do so in future. In general they are consolidating their businesses here, as well as setting up supply chain centers," said Max Henry, president and founder of the China Supply Chain Council, who added that there will be "more of this in the years to come".

Not that this means the end of the Chinese economic miracle - au contraire. As Henry pointed out, this development fits into a global pattern of multinationals selling factories (which are typically low-margin businesses anyway) and relying on contract manufacturing whilst they focus on sales, marketing, research and development, and control of the supply chain.

The significance is twofold. Not only is China similar enough to the rest of the world now that the political and economic risk of investing there has waned, but the localization of the supply chain in China is catalyzing deep changes within the country, such as industrialization and the creation of a professional class.

"Localization (ie, the replacement of expatriate managers with qualified locals) is at the top of the agenda of many companies," reports Henry. "It is happening." Localization not only brings up China's technological level and increases its manufacturing capabilities, but it will also help to build a truly global supply chain. However, for foreign companies a commitment to deep localization also cuts costs and allows the language barrier to be overcome as well as helping them to surmount the many operational barriers presented by China's multifaceted, complex and fast-evolving culture.

"You've got to localize your management," said Jack Perkowski of ASIMCO, the successful car-parts manufacturer. His argument for localization has two main points. First, it removes a layer of expensive expatriate staff, and hands over control to people who have a local, and therefore deeper, understanding of costs and procedures. Perkowksi gives an example: to him, 100 yuan is around $12, and what that buys is therefore comparatively cheap to him, but a local manager will be able to obtain more for that same amount because to him or her it's a lot more. Second, in China's business environment as it now exists, relationships not just with other businesses but with government at a variety of levels are important, often vitally so, and these are much better understood by local staff, who not only understand the language in all its nuances but the social and political structures behind it as well. "There are things they do instinctively which it would take me 50 years" to learn to do, Perkowski said.

There is one massive potential twist in the supply-chain integration story: the growth of a managerial class or a middle class is usually acknowledged to be the key element in any process of reform, either economic or political. It would be a huge, but very Chinese, irony if the growth of such a class in China failed to catalyze political reform.

Michael Mackey is a Shanghai-based freelance writer.