US/China SourceBridge

The Background

I am the CEO of a US based company in a design and manufacturing field. Our primary production is largely based in southern China; we have a Hong Kong supply chain management and sales office, and factories in southern China. In the US, we have our corporate office, design, sales support, administration, manufacturing and warehousing located in the Dallas, TX metroplex. I have been the CEO of this company for 22 years, and have been the managing partner in two other international businesses.

I have been traveling to South Africa, Australia, Europe, and Asia (mostly to Japan, Thailand and China), extensively over the past 30 years. We have formed joint venture relationships, partnerships, sourced product, sold product, experienced a broad range of cycles, and created both opportunities and failures.

Despite these years of experience, and some 150+ trips to Bangkok and Hong Kong,  I learn something every time I travel to Asia. Some of these experiences might have both business and cultural relevance to others in similar positions, or companies/individuals seeking to develop relationships and business channels in Asia.

However, this journal is in no way a "How to do Business in China" manual. There are numerous books and articles written by a broad range of academics, consultants and fellow business associates. My observations and comments are more from the personal management and experience perspective of a relatively small business partner (2007 revenues $45mil USD) than from a Fortune 500 high altitude view or consultants' spin.

Trying to organize, remember and draw some conclusions from these years of international travel and experiences are as important to my own personal understanding of what I seen, heard and learned as much as for anyone that might read these entries.

Some entries may be chronological, some may be anecdotal, some more focused on business and international economics, and some purely personal observations. I will not disclose any confidential or personal information that would be detrimental to any other company or individual (or, potentially, helpful to competitors).

Hopefully these posts will be helpful both to myself and someone out there.

We'll see.

More to follow...

No, It Isn't Your Imagination, Things Are Getting More Expensive...

The End of Cheap Chinese Goods

By FLOYD NORRIS

Published: October 21, 2011/ New York Times

Off the Charts:  The End of Cheap Chinese Goods 

The great Chinese-led deflation in goods prices may have come to an end.

Multimedia

Interactive Feature

Off the Charts: In Apparel, Inflation Is Back

Beginning in the 1990s, the emergence of China as a major exporter first depressed and then held down the prices of many goods, helping to improve living standards in the United States. But recently, prices have begun to rise.

The change can be seen clearly in the accompanying charts showing the Consumer Price Index for apparel. Because prices can be volatile, they use three-month moving averages to smooth the trends.

The chart above shows how prices have moved over the last two decades, from the end of 1991 through the September figures released this week. Prices are still well below where they were in 1991, a performance that no one would have expected at the time. Over the previous two decades, beginning in 1971, that index doubled.

But in the last few months, the index has begun to rise at the fastest rate in many years. This spring, prices were still about 9 percent lower than in late 1991. Now the prices are just 5 percent below the level of two decades ago.

A second chart shows the 12-month change in the index. It is now up to 3.6 percent, the highest since 1992. Over the last six months, the three-month average has risen at an annual rate of 7.6 percent.

Prices for apparel were broadly steady for most of the 1990s, before beginning a sharp descent in 1998 that continued until 2003. Much of the decline was because of imports from China, which forced down prices and allowed Chinese suppliers to supplant companies from many other countries. The declines continued at a slower pace for several more years, but prices now appear to have hit bottom in 2007.

When Chinese trade was helping to push down prices for many things, the reported low figures for inflation gave optimistic central bankers a reason to think that there was no need to slow rapid growth in the United States.

The continued monetary stimulus helped push unemployment rates down to the levels of the late 1950s. The underlying assumption was that technological innovations had produced a new economy that could boom without inflation.

The alternative explanation was that a substantial part of the reported low inflation came from imports of Asian, primarily Chinese, products, and that that effect was bound to be temporary. At some point, trade imbalances would become unsustainable and the inflation picture would reverse, as either the dollar lost value or costs began to rise in Asia.

That is what appears to have happened. Labor costs are rising in China. Some business is going to other countries, where wage rates are lower than in China. And some product prices are rising.

The excessively easy monetary policy helped lead to bubbles in the American economy, first in technology stocks and then, much more damaging, in housing. There was substantial inflation, even when import prices were falling, but it was in other parts of the economy.

The third chart shows the United States balance of payments — largely determined by the trade surplus or deficit — as a percentage of the country’s gross domestic product. From a rough balance two decades ago, it deteriorated to a deficit of more than 6 percent of G.D.P. in 2006, before the economy began to stumble.

If the era of Chinese-led deflation has ended, the implications may be unfortunate for consumers, as the price of necessities rises even as the American economy continues to struggle along in a slow recovery from the recession of 2007 to 2009.

Floyd Norris comments on finance and the economy at nytimes.com/economix.

A version of this article appeared in print on October 22, 2011, on page 

The Takeaways: investing in shirt and pant futures by going down to the department store and getting every piece of clothing you need before the prices go up even more isn't really going work if you keep gaining 8 pounds every year....

The Guy in the Parking Lot is Being Watched by Another Guy in the Parking Lot

The BBC reports in the following link that the China government is beginning a more aggressive enforcement of "private" banking.

http://www.bbc.co.uk/news/business-15380188

In this case, private banking includes the individuals that lend money to anyone willing to pay interest rates high enough for the lenders to need personal "collectors" that stay outside your factory just as a friendly reminder to pay (or else).

This enforcement announcement puts an official spin to the reality that has been already happening as both traditional and street lenders shut off the cash.

The fact, however, is that the under or non -performing traditional loans are far higher than the Chinese admits and the property markets are in worse shape than this article states.

The Takeaway: don't believe everything you read, even in the BBC...

The True End of the Beginning?

The changes in the South China/Pearl Delta manufacturing region, and China, in general, continue to accelerate.

Sinking in a perfect storm of more consistent government regulation, increasing labor and material costs, the export burden of the appreciating RMB, is this really the middle phase of the end of the South China export manufacturing region and that part of the China miracle of the past 25 years?

The answer is a qualified "yes". It seems relatively recently (within the past four months) that the external capital sources for the region are drying up rapidly. From the traditional asset based lenders in Hong Kong to the private lenders in the mainland (the money lenders who are Mainlanders who keep muscle-bond fellow Mainlanders in your factory parking lot to be sure you don't run away with "their" assets in the middle of the night because you can't pay the 45% interest anymore).

Much of the cash vaporization is due to the instability in the property markets and a Chinese government that wants to cap that property market. In cities such as Shanghai, the decline is easily apparent with the always high vacancy rates on big $ condos (the ones that have been torn down twice and never occupied because the whole idea was to create an investment to flip, not to live in). This was never an issue as long as the fantasy held that demand never meant actually needing a place to live. Like a multi-level marketing plan (the kind where you make money when you get in at the bottom and keeping adding wealth because the new investors coming in behind you keep bringing in new money as you keep trading up your property value to the next level). The problem is the that the laws of supply eventually are driven by demand, which is driven, at least for those just entering the market, by affordability.

When the luxury property market values increase in Hong Kong by 45% in less than two years, but you have four families living in a 650 sq ft apartment subdivided in four units with one shared bathroom because no one can afford the rent for a single 650 sq ft apartment, something eventually has to change.

And, perhaps, those fundamental laws of economics, driven part by the inflated property markets in HK and the Mainland, plus a weak global demand base, plus higher costs to produce everything, are more than just lines in the sand, but cracks in the concrete (which never did have enough steel to keep it from cracking).

Or, maybe, this is just a slight bumb in the road that will be offset by Mainland consumer demand. Or, maybe not.

The Takeaways: it's a complex world right now that still gets driven by simple supply and demand (and the jobs needed to buy that supply and create that demand); a bumpy road ahead for all on the global economic highway (with a couple of exceptions).

Are You Really Rich if You Have No Cash (or, Why No One Wants to Manufacture)?

As 100's of small to mid-size manufacturers close in the Pearl Delta region, is it all about the economy, higher labor costs, RMB appreciation and more Mainland laws?

Well, yes and no. Sure the gross margins keep falling and the poorly managed companies go out of business. But, there are tremendous opportunities to increase profits, particularly in reducing waste and inefficiencies. So, why not just focus on improving the facilities and adding better processes? A big part of the decline is related to those Hong Kong owners who don't want to put capital into their Mainland factories. Many times, Mainland factories either make money (at least on the 3rd set of books seen by the owners, and not the HK or Mainland government other sets of books that always lose money), or go out of business. Increases in property values, particularly in Hong Kong (45% or so appreciation in some price categories over the past 18 months), is a big part of the paper wealth effect that China has experienced over the past 20 years.

In HK, much of appreciation has come from Mainland cash coming into HK by the truckload buying up everything in sight, thanks in part to a weak HK$. So, why put money into a Mainland factory if you already have made a bucket of money on your Happy Valley condo? Could all glory, no guts and, in many cases, no real cash be the main reason?

Sure you can mortgage your HK properties or sell them, but then what? If you don't stay in the real estate game, when, if ever, can you afford to jump back in? Wealth, at least right now in HK or the Mainland, may be more about being a certain place at a point in time more than long term wealth creation.

Wealth, to some degree is a function of liquidity and not assets. Particularly, if the assets can go up and down like a poorly engineered roller coaster (the kind where the seats going flying off). Plus, when do you get off of the roller coaster and how do you get back on? In Shanghai, it is probably already too late as parts of the real estate market contract (driven an over-stock of condos never occupied, built purely on the idea that everything always goes up). We have proven in the US that the concept of ever increasing real estate values driven by speculation and not real affordability and demand just doesn't work forever.

So, if you are rich because your HK condo has increased 2X over the months, but you are going out of the manufacturing world because you can't or won't convert that point in time condo wealth, are you really either rich or an entrepreneur? Or, are you just property rich for this afternoon and not really a business guy? Are you truly creating wealth and a better economy, or just a passenger on the roller coaster?

The takeaways: you are as rich as you believe you are, until you have to write a check...

So, if a Gweilo* falls in a Mainland forest, does anyone hear?

Being a foreigner (or anyone for that matter), having an accident or emergency medical event in the Mainland, can create a potentially deadly chain of events. If you are traveling with someone speaking Mandarin and have a pocket full of RMBs, you could potentially at least get taken to a hospital (which creates of whole new range of issues, from dirty needles, to emergency rooms so bad, you may be exposed to an unknown number of germs and diseases). Even Southern Mainlanders would prefer a hospital in Hong Kong than a local hospital. Of course, there are always exceptions; you could find a better medical option perhaps in Shanghai or Shenzhen, or maybe not. And you better have some cash and your medical records with you. But what if you are alone, unconscious, or traveling with mainland staff that are injured or dead and can't speak? Your BlueCross or Cigna card is not likely to get you off the side of the road. Perhaps if you are a Gweilo, maybe someone will cart you to a hospital thinking your living carcus might be worth a reward or compensation. So, what do you do? Best to drag your body back to Hong Kong where they have world class hospitals and take credit cards. Or, just don't have a heart attack or car accident in the Mainland. Surprisingly, most foreigners don't have a plan. They may have an "international" health care card, but won't help much if written in English with a foreign phone number to call and no one call read it or make a foreign call on their mobile. You are still on the side of the road, bleeding out. When this was pointed out to one international insurer, their solution was to print their insurance cards in larger, bold type (still in English). Sort of like trying to get someone to understand you by talking louder and slower. "CARDIAC ARREST!" does sound more important than, "uh, what about this chest pain I'm having?" But, you are likely still on your way to deadville. There are options. You can purchase insurance for the Mainland. But you still need to find a real hospital in the limited time you have to find one and the right people to get you there. Your Platinum AmEx card as benefit will have you flown out of an area to better medical care, but you got to stay alive long enough to use it, and someone who can know enough how to use it for your head in still embedded in the van's dashboard. So, best bet, have someone that can easily be contacted, carry some cash, and, if a Gweilo, you may want to have return alive for reward card in Mandarin. The Take-aways: maybe that daily aspirin and jogging recommendation is a good idea after all...and wear your seat belt. *Gweilo- used to mean "White Devil" in the old days in HK. Now, not usually an unfriendly term for a foreigner, unless the words "idiot" or "damn" is in front of it...

So, now, back to Hecho in Mexico instead of Made in China next?

Maybe, but not likely...

More discussion tomorrow.

The Continuing Debate on China Labor Unrest

The Sunday edition of the Asian Wall Street Journal and a commentary in last Friday's Financial Times take opposing views of the impact of the on-going labor unrest situation in the mainland.

Both articles focused on strikes at Foxconn and Honda subcontractors, but offered different perspectives on the long-term impact.

From the WSJ view, the real, potent issue at the current Honda subcontractor strike is not the increase in wages, but the increasing strength of non-government unions. As the push for higher wages and better working conditions continue, the central government has been relatively silent. Ultimately, if the labor unrest continues, it could destabilize the very government that is trying to ride two horses at once by being supportive but in control.

The China government does not want to be seen as "taking a side" for either labor or management, and wishes to keep the support of the average citizen, but still keep the global manufacturing engine moving.

However, the average household wages for most workers have not really improved over the explosive growth of the past 20 years. Companies have grown, and a small, but highly visible segment of working professionals have seen dramatic earnings improvements. In a population as large as China's, even a relatively small percentage of the working population can impact consumer spending. But, millions of workers still have low compensation.

FT's point was that labor represents a relatively small percentage of the overall cost of most China made products (such as computers) and that the recent wage increases would have little impact on global pricing.

But isn't the real issue the growing independence of the average worker? As this independence, and the increased awareness of the power of organized labor, becomes more common across a broad band of factories and regions, it seems highly unlikely the central government can stay out of the debate.

The take-aways: No matter which publication is right, change is happening.

More to follow...

If You Don't Have Guanxi, You Don't Have Much

One of the most overused, misused and misunderstood important words in China is Guanxi.

Guanxi, depending on the situation and to whom you are speaking, and  the age and sex of the person you are speaking to, has a variety of meanings.

The easiest, purest understanding for most Westerners, of Guanxi (pronounced Gwan Shee), is Relationship

But Guanxi means and implies much more at times. First, it is the core of what makes business work around the world; the interpersonal relationships of trust and mutual understanding that provide the platform for many business decisions. The old "it's not what you know, but who know" law.

However, the word and the meaning could also be construed incorrectly if someone walks up to someone in a bar and asks if they are interested in forming some Guanxi. You might get a response that is not what you had in mind (or, maybe you did).

Or, you could be of a certain age and lecture everyone about the importance of Guanxi and have everyone under 30 in the room look at you like the geezer that just arrived on a water buffalo from Outer Mongolia. In a world of teams versus individuals and social networks with "friends" you never met, the concept of Guanxi seems outdated at best to anyone who hasn't lived in the real versus the virtual world for very long.

We all tend to like to work with people we can trust, who will either help us, buy from us, we can relate to, or has given us something (not necessarily in the physical sense). And this is the essence of Guanxi and it takes years to develop if you want it to last for years.

In China, this can be magnified 10X. Call it what you will, but if you don't nurture a sense of Guanxi with key clients, suppliers, and other connections you are trying to develop and or support, you will likely fail after your first order or two. Someone has to know someone that knows someone else for you to ultimately get something done in China (and actually, come to think of it, probably the rest of the world as well).

Perhaps the best meaning of Guanxi should be the Western word Reciprocal. You don't have buy every dinner, but you should buy some. You should respond for a favor with a favor. And this does not mean bribes (although sometimes, somewhere, in the food chain, something like a monetary favor might be needed). 

Learn the meaning of Guanxi for your own situation and you will be on your way.

The take-away: In the movie "The Godfather" when asked how someone could repay the Godfather for something very important the Godfather had just done for that person, the Godfather says, "don't worry about it, but someday,somewhere, I will come and ask a favor of you; be ready."

More to follow...

Perhaps the Most Important China Shift in the Past 20 Years?

In the midst of a world focused on oil spewing in the Gulf, some of the most important shifts in recent Chinese manufacturing history are taking place. 

Although, getting a lot more coverage in the European press (such as The Financial Times), not usually headline news here in the US.

In a normal news world, wage increases of almost 100% and the potential nationalization of portions of privately held factories would be the core topic of discussion. But, there are always distractions, from the important news of historic marine life damage in the Gulf to the latest Lohan stupidities in LA, and much of what is now happening in China has been building for months (if not years). 

But that doesn't change the significance to all of us.

Foxconn, the large electronics manufacturer based in China (and the producer of everything from computers to most Apple products) has experienced a spate of suicides and strikes over the past months. As a result, Foxconn has announced wage increases of 66% effective October 1, on top of the 30% increase announced last week.

Perhaps more importantly, Foxconn has announced that it is exploring ways to separate the factory environment from the living environment (and it is a big environment with about 270,000 workers in just one location in Shenzhen across from Hong Kong). One option is to sell the factory housing to the Chinese government and then lease it back. 

Workers migrating from one part of China (usually the north) to another part (usually the south) and living in company supplied dorms on the factory site have been the foundation of the production structure ever since the world began to shift production to China.

So, we now face double digit wage increases, the potential for continued strikes as seen at Honda facilities spreading to smaller factories in different areas of the country, as well as the potential involvement of the government in the private factories. Plus, an aging population and an imbalance of men to women thanks to the 30 year old one child policy.

Is the global party that has been fueled by cheap, virtually unregulated labor and the undercurrent of capitalism in China coming to an end? And what does that mean to the West? Does everyone accelerate the movement to countries like India and Vietnam? Is the growing Chinese middle class able to consume enough for China not to care about the long-range export picture?

All very good questions to ponder. And that is exactly what we are going to explore in the upcoming weeks, as well as the adventures of selling (instead of just buying from) to China as we rebirth the focus and content of this blog.

The take-aways: perhaps now is the best time to go buy that new flat screen before the prices go up.

More to follow....

Doing the Gung Hei Fat Choi* Limbo

Chinese New Year (or the more politically correct Lunar New Year) is the one time each year virtually everything comes to a grinding halt many parts of Asia (and particularly China). The Chinese New Year (CNY) is the traditional beginning of the Chinese calendar and creates the largest global migration of workers going to and from southern China to see family and friends.

There are a surprising number of holidays in China (and even more in Hong Kong), but CNY is the only time most factories in the mainland are closed. Depending on the level of factory backlog (or lack thereof), this shut-down can last for two weeks or longer. In reality, however, since many factory workers in southern China migrate to their homes in northern and middle China and leave before and come back after the holiday (the journey takes several days each way and train tickets are more expensive the closer to the actual holiday), some factories are virtually closed for the entire month around CNY.

CNY is also the traditional time of change in China. A time to clean, refresh, or restart. So, a number of workers (20-30% in some cases) don't come back to the factory they left. They may stay in their home area, change jobs, get married or make other life changes. So, factory owners are left with, to some degree, a guessing game of how many workers they may have after CNY. And this puts the end user of those factories in the US and Europe in a similar limbo.

This year is even a larger guessing game due to the changing labor and population demographic patterns in southern China, regional economic development in middle and northern China, and an improving, but still uncertain, global economy. 

Many factories will start reopening over the next week; smart importers usually schedule Asia visits around this time to see what capacity and experienced worker changes have occurred. The whole supply chain system takes another couple of weeks (at least) to get a good, consistent flow of production and shipping going.

Like the European summer holiday factory shut-downs, importers learn to adjust for the break in production. On the positive side, this is the only time most factory workers have to see family and friends. And many return with rested and tired of village life. And the cycle starts again.

The take-aways: CNY is a time of renewal and family in Asia, offset by stressed out importers in the west who have to learn to live in temporary limbo.

More to follow...

*Happy New Year!