Supply Chain Management Logistics China

Supply Chain Management Logistics

China has transformed itself in recent years from a dormant, introspective giant into a dynamic juggernaut that has major potential significance to the global economy. Indeed, China's economic performance and exports have increased dramatically during the past decade, and experts predict that these trends will continue well into the future. With an estimated 20% of the world's population, China now represents almost 4% of world merchandise trade and a substantial percentage of global production as well. A concomitant of these trends has been an increasing reliance on outsourcing as a strategic business structure in many Chinese companies today, but there are some distinct constraints to the process that have been identified in the scholarly literature in recent years. Therefore, in order to identify how supply chain managers in China are adopting Western outsourcing practices in a wholesale fashion or modifying them to fit their unique needs, this study provides an overview of outsourcing and some of its common applications, followed by an assessment of outsourcing practices in China today. An analysis of current and future trends is followed by a summary of the research and salient findings in the conclusion.

Introduction

Review and Discussion

Background and Overview

Outsourcing Activities in China Today

Current and Future Trends

Conclusion

An Analysis of Outsourcing in China Today

Introduction

By any measure, China is on a roll. Today, China is emerging as a major player in the world economic arena and accounts for 20% of the world's population, and a significant share of global output. According to Michalski, Miller and Stevens, "With trade and production expanding at double-digit rates, the implications for many international markets as well as for the global system of trade and investment in the 21st century are quite daunting" (3). Indeed, the country's economic performance in recent years has surprised even many optimistic economists and, barring any unforeseen circumstances in the short-term, China appears well poised to fulfill its promise to make the 21st century the "Century of Asia." In this dynamic environment, identifying methods whereby Chinese companies are solving their supply chain logistics problems has assumed new relevance for supply chain managers in the West. To this end, this paper provides an overview of outsourcing and some of its common applications, followed by an assessment of outsourcing practices in China today. An analysis of current and future trends is followed by a summary of the research and salient findings in the conclusion.

Review and Discussion.

Background and Overview. Certainly, while the practice is becoming increasingly common today, outsourcing is not new. In this regard, Domberger (1998) reports that, "The contracting and outsourcing of goods and services are not new. Those who dismiss contracting as nothing more than the latest in a series of short-lived management fashions should take a longer look back in time. In the private sector, there are well-documented historical accounts of the contracting of specialist metal manufacturing functions in nineteenth-century England" (8). Outsourcing gained momentum during the closing decades of the 20th century when many large companies experienced a fundamental restructuring of their organizational structure and began adopting new business models that focused on core competencies, downsizing the workforce, and outsourcing non-core business activities in the process (Zhang 19).

According to this author, during the 1990s, "Giant firms underwent internal management reorganization to get 'fit' for the fast changing environment. Practices of de-layering, downsizing, outsourcing, privatization were adopted widely. The corporate headquarters were downsized to cut overheads and many of their activities were outsourced" (Zhang 23). There have been some recent events that have both accelerated the process as well as introduced new dilemmas for supply chain managers. For example, in their essay, "Has Outsourcing Gone Too Far?," Doig, Ritter, Speckhals and Woolson (2001) report that, "Global access to vendors, falling interaction costs, and improved information technologies and communications links are giving manufacturers unprecedented choice in structuring their businesses. Through outsourcing, companies can now dump operational headaches and bottlenecks downstream, often capture immediate cost savings, and avoid labor conflicts and management deficiencies" (25).

At first, most companies in the West outsourced manufacturing jobs; in recent years, though, many companies have been outsourcing service sector jobs in an effort to save money. "The Internet facilitates this strategy," Dulebohn (2005) adds, "and any service activity that can be done via wire and does not require face-to-face interaction with a customer may be outsourced. This trend is not limited to low-skill service jobs, such as data entry and call center jobs, but increasingly includes the use of high-skill, low-cost foreign labor for high-skill service jobs" (46). The decision to outsource a specific function, then, is a strategic one that requires careful assessment because the consequences of a misstep can be severe. According to Chow (2000), "Outsourcing can be a strategic logistics design decision that will impact the ability of the company to compete on the basis of logistics capability. Where logistics has a significant impact on cost or customer service, the outsourcing decision will be critical in gaining or maintaining competitive advantage. Outsourcing is also strategic because the decision allocates resources and such decisions cannot be reversed overnight" (2).

Generally speaking, outsourcing involves a long-term contractual relationship for business products or services from an external provider; such relationships are becoming increasingly popular in a wide variety of business activities. According to Lever (1997), "Firms widely outsource in areas once strictly considered internal domains, such as human resources" (37). Indeed, human resources functions emerges as one of the most common being outsourced by many companies today, but other functions such as information technology, have also been affected. Another recent trend has been the outsourcing of goods and services, with the push being away from the procurement of products per se, towards what might be described as the "product-plus" scenario. For instance, Fineman (2000) suggests that this move focuses on a concern to specify the type of outcome that is required by the purchasing organization, leaving some flexibility for the supplier to satisfy that requirement through a mix of product, expertise and service. Furthermore, modern technological innovations have provided even more opportunities for outsourcing of an unprecedented type and scale (Taylor 367).

Some of the recent trends in outsourcing as a function of supply chain management are shown in Figure 1 below.

Figure 1. Supply Chain Trends - 1990 - to Date.

Source: Chow 1.

In sum, outsourcing can be viewed as being part of an economic transformation in which the linkages of production now reach around the world, but not just for high-profile products such as automobiles, but for services as mundane as telephone directory information as well (Taylor 367). "Outsourcing does cause economic disruption," Taylor adds, "like all productivity improvements (and for that matter, all new laws and regulations), but it is also one way in which the economy seizes the opportunities offered by the transformative advances in computer and telecommunications technologies" (368). Indeed, any benefits to be gained through the outsourcing function will be the result of careful administration and may take longer than many managers expect: "Most [companies] stumble into outsourcing arrangements expecting to save big from automatic economies of scale. Yet the service provided would have to be highly standardized in order for that to happen. Such plain vanilla engagements are rare. Outsourcing benefits are gained gradually and there is always a period of transition where you spend more time and effort than you imagined" (Bielski 38).

In fact, while outsourcing may appear as the right course for companies trying to reduce costs, experience has shown that this is not always the case. "Often the economic savings are less than anticipated," Dulebohn cautions. "Further, as with other cost-reduction strategies, there are human resource implications such as decreased morale among employees as well as the loss of control over primary organization assets such as company data and innovative technology and techniques" (46). The benefits to be gained through an effective outsourcing regimen - as well as the associated pitfalls -- have not escaped the savvy business managers in China either, and these issues are discussed further below.

Outsourcing Activities in China Today. In many ways, the same processes that have fueled the need for outsourcing in the West have been at play in the burgeoning economic juggernaut that is China today. Just as the human resources function has been outsourced in many Western countries, for example, the outsourcing of human resources (HR) services and the growing use of e-human resources techniques have also been adopted by firms in China (Cooke 13). According to this author, "Two recent developments are influencing the ways in which the human resources service is delivered in organizations in the Western economies. One is the increasing use of HR outsourcing specialist firms. The other is the adoption of e-HR. The increasing use of HR outsourcing by firms over the past decade is necessarily a management strategy in response to accelerating competitive pressure. Firms outsource (part of) their HR function for reasons such as cost reduction, improvement of service through external expertise, opportunity of keeping the function fresh and up-to-date, and avoidance of upfront capital investment when attempting to introduce such a transformation (Cooke 185).

In addition, outsourcing is seen as one way of freeing HR professionals within the client organization from more mundane and time-consuming tasks so as to better concentrate on core competencies and provide a more consultative and strategic role (Cooke 186). Although the growth of HR outsourcing business has been dramatically facilitated by the introduction of innovations in information and communication technologies (ICT) throughout China in recent years, many companies also report an increasing use of e-HR in-house. For example, in some large Chinese organizations, employees are encouraged and even expected to use e-HR to update their personnel records as a cost-saving initiative (Cooke 186).

Based on the available evidence from secondary sources of data, the outsourcing of HR in general remains relatively limited in China; however, there are trends of the increasing use of external providers for their services such as recruitment and training (Cooke 186). According to the Watson Wyatt's Greater China e-HR survey of 268 firms in the region, a fundamental constraint to the further development of outsourcing and/or shared services of the HR function is simply the paucity of such options for outsourcing and shared services. Further, the Outsourcing in Asia-Pacific survey (conducted by the HR consulting firm, Hewitt Associates) found that many companies in China today remain unfamiliar with the processes and procedures of HR outsourcing or are unfamiliar with the important players in the market (Cooke 186). More importantly, perhaps, the author suggests that it may be difficult for companies in China to justify a decision to outsource a given function on the basis of potential cost reductions because administrative labor is still relatively inexpensive in China and it may actually cost more to outsource the function than to retain it in-house; in addition, the same survey also emphasizes that most outsourcing activities in China come from multinational corporations (MNCs) (Cooke 186).

According to Jones (2005), there has been a steady increase of investments by such MNCs in China in recent years, a process that has further fueled outsourcing opportunities both within and without China for these multinationals and their Chinese partners. "For much of the 1990s China was the second largest recipient of FDI worldwide after the United States.... From 1979 until 2000 China absorbed, on a cumulative basis, over $346 billion of FDI" (39). By sharp contrast, the author reports that, "In India, the amount of FDI was so small even after 1991 that it had little impact on overall growth. However, Indian diaspora may have been significantly directing outsourcing opportunities to their country of origin. The fast development of the it industry in Bangalore has been attributed to business linkages with Indians working in Silicon Valley" (Jones 39).

According to Van Den Bulcke, Esteves, and Zhang (2003), much of the FDI from MNCs that has taken place in China in recent years has had a direct impact on how outsourcing activities are being coordinated in different regions of the country. Because China is so vast geographically, these logistical considerations are not surprising; however, the concentration of various industries throughout the country is indicative of the need to better coordinate outsourcing activities in a more efficient way and the Chinese government recognized this need early on. In this regard, Van Den Bulcke and his colleagues (2003) report that, "The first major step of the liberalization process of inward FDI by the Chinese government was the launching of four Special Economic Zones in 1980 in two coastal provinces, that is, Guangdong and Fujian. These areas were chosen to take advantage of their favorable location, that is, their proximity to Hong Kong, good transportation links and close connections to Overseas Chinese business people" (22). In addition, other favorable considerations included specific administrative and fiscal regulations and the low labor costs (Van Den Bulcke et al. 22).

The factors that were mainly related to the geographical location and the specific administrative status of the zones allowed companies from the Asian newly industrializing economies to relocate their export their processing and assembly operations to China while continuing to depend on the transportation and communication facilities of Hong Kong; therefore, establishing outsourcing bases was clearly the most important objective of these companies with investment operations in China (Van Den Bulcke et al. 22). This type of investment typically involved the relocation, which was usually conducted in phases, of various labor-intensive production processes, such as textile manufacturing and electronics products assembly, in order to benefit from lower production costs in China; for different strategic reasons, a number of Western MNEs had also established an early presence in Special Economic Zones. "These Western pioneers in China came to the Special Economic Zones not to take advantage of the location-bound resources, as was the case for most Asian investors, but for 'testing the water', that is, learning about how to operate in the Chinese market and/or preparing for a long-term involvement" (Van Den Bulcke et al. 22).

Researchers for the Organisation for Economic Co-operation and Development (OECD) predict that China's immense domestic market will encourage further joint ventures by export-oriented foreign multinationals in the future that will provide a strong base for China's increasingly global reach. According to these authorities, "The pace of the trend towards higher-value-added, export-oriented production will depend, in part, on the level of success in addressing various organisational and transportation constraints" (Michalski et al. 11). For example, at the organisational level, the OECD notes that large-scale state-owned enterprises in China demonstrated very low outsourcing ratios for component procurement: just 11% in 1991. "In contrast," they advise, "outsourcing by rural township and village enterprises was over 39 per cent in the same year" (Michalski et al. 11). Likewise, "Manufacturing supply networks that reach into the hinterland may create a strong demand for intermediate goods, but the cost competitiveness of such a strategy will depend on China's capacity to upgrade its telecommunications and transportation networks" (Michalski et al. 11).

Rather than being regarded strictly as a potential outsourcing opportunity by European joint venturers, though, it is becoming increasingly clear that China represents a market unto itself for products and services from abroad, further accelerating the need for more efficient domestic outsourcing practices where they are available and practicable. In this regard, Van Den Bulcke and his colleagues report that, "The market orientation for semi-finished products is relatively different as compared to that for finished products. Among the surveyed EU companies that manufacture semi-finished products (N=68), one-fourth (in sales value) sold them to their Chinese partners, 4 per cent to other subsidiaries of the EU parent companies located in China and 44 per cent to other unrelated local companies" (120).

The figures shown in Table 1 below suggest that the EU companies are providing an important function by supplying inputs for their Chinese partners' companies; however, the linkages between EU subsidiaries and their European parent companies remain weak: just 17% of these products were exported to their parent companies for further processing and assembly (Van Den Bulcke et al., 2003). According to the authors, "This shows again that China is considered by EU companies as a market, rather than an outsourcing basis" (Van Den Bulcke 120).

Table 1.

Destination of sales of semi-finished products by surveyed EU subsidiaries in China (in percentage)

Sales in China's market

Chinese partner's companies in China

Foreign parent's companies in China

Other companies in China

Sales abroad

Parent's companies in foreign markets

Other unrelated companies in foreign markets

Source: Van Den Bulcke et al.120.

This synergistic effect, wherein the economic playing field becomes increasingly level of as a result of outsourcing between nations, has been one of the biggest sources of controversy as well. According to one proponent of this view of outsourcing:

think outsourcing is a growing phenomenon, but it's something that we should realize is probably a plus for the economy in the long run. We're very used to goods being produced abroad and being shipped here on ships or planes. What we are not used to is services being produced abroad and being sent here over the Internet or telephone wires. But does it matter from an economic standpoint whether values of items produced abroad come on planes and ships or over fiber-optic cables? Well, no, the economics is basically the same. (Taylor 367)

In fact, labor supply is widely regarded as being one of the main long-run sources of comparative advantage for Chinese industry. No matter how the future structure of demand shapes up, the OECD anticipates that China will continue to specialize in labor-intensive manufacturing; however, what remains unclear is how the structural rigidities that limit labor mobility and outsourcing to more remote, labor surplus regions will influence the development of local labor markets, particularly in the high-growth coastal regions. Moreover, the OECD concludes that, "Managerial and technological skills are expected to be at a premium. Strategic use of joint ventures, FDI and policy measures such as technology zones may serve to meet much of the demand for operational, financial and technical expertise" (Michalski et al. 12).

Finally, even the Chinese military has taken note of the benefits to be gained from judicious use of outsourcing, even in an environment where labor is virtually free. As an apparent reflection of the Chinese army's desire to improve morale and raise recruiting standards even higher, certain distasteful aspects of military life are being outsourced to civilian vendors. According to Jeffries, the People's Liberation Army (PLA) has been ordered to cease engaging in commercial activities; however, it appears that it would still be allowed to produce weapons. Furthermore, the PLA is retaining some commercial enterprises that provide cover for intelligence-gathering functions and its hospitals and research institutions will still provide fee-paying services to the public; however, the PLA has been directed to limit the scale of those businesses (Jeffries 189). This author adds that:

more complicated story is businesses primarily providing logistical support to the military, such as repair shops, munitions plants and factories making uniforms, tents and other supplies. The original divestiture left these businesses with the military, even though many of them also run unrelated commercial operations on the side... [e.g. renting out] real estate... The PLA is now starting to close down or to divest some businesses in this category and move toward outsourcing instead... [e.g. transferring] cafeteria and gardening staff to a civilian company. (Jeffries 189)