posted 23 Aug 2006 in Volume 10 Issue 1
When Philips Lighting decided to shift manufacturing to China, it needed a strategy to manage the concomitant transfer of knowledge and know-how.
By Graeme Burton
When Philips Lighting first faced competition from Chinese-made products, the threat to its business was instantly apparent. It was not concerned about the old-fashioned light bulb business, where margins were already razor thin and the market saturated by low-cost producers, but its burgeoning and highly profitable business in energy savers.
Until the Chinese products arrived in Philips’ core markets in Europe and North America, the company was able to pitch energy savers as a premium product. “They were offering products for one-tenth of the price, but at [only] one-third or one-quarter of the quality,” says Klaas Vegter, chief technology officer at Philips Lighting.
The products may not have been as good, but to many consumers they were good enough. If Philips ignored the threat, it would quickly be marginalised in a fast-growing specialist sector and would then risk an assault on its even more lucrative office and commercial-lighting business.
Philips did what so many manufacturers have done before (and since). It shifted manufacturing of the affected products to China, in many respects learning in the process the right way to handle such a business move – and the knowledge management (KM) implications of such a transfer.
That was complicated by the fact that when Philips Lighting made the move it was not allowed, by law, to set up and run its own factory – it had to partner with a Chinese manufacturer and instead took a substantial minority stake in the business to protect its interests.
Today, however, organisations can set up directly in China, but Vegter believes that the partnership approach is still faster, easier and more flexible than owning the plant lock, stock and barrel.
Nevertheless, forging a partnership, halfway around the world and in a country about which little may be known by the managers in charge, poses a whole series of questions and challenges.
With whom should it partner? How should that partnership be structured? If it took a stake in the manufacturer, how much influence would it really have? How tightly does the legal system protect intellectual property – in practice, not in theory? And, crucially, how much knowledge should it share with its partner or partners in order to ensure that the products are manufactured to the required standards?
These questions are universal and as applicable to any organisation shifting or outsourcing manufacturing from any part of Asia to Europe or the US – as many Japanese car makers did in the 1980s and 1990s – as they are for North American, European and Japanese manufacturers moving to China.
The biggest mistake by westerners moving manufacturing to China, believes consultant Victor Newman, is misunderstanding the different cultural attitudes to knowledge. While the US and Europe have sought to protect intellectual property with ever more draconian laws, China tends to take a more flexible and dynamic view – to put it diplomatically.
Part of the reason for that is a greater belief that knowledge in itself cannot be owned, a view that goes back to Confucius, according to Newman, when a student was expected to learn from his teacher by copying him in almost every respect.
Indeed, knowledge is not necessarily considered to be property – either personal or corporate – in the same way that the west would regard. If you know something, why shouldn’t you share it? And if the person you share that knowledge with is appreciative, then they may feel obliged to return the favour at some point in the future, too.
These broad cultural differences (not to mention product piracy) are underpinned by a politicised legal system under the control of national and local functionaries, rather than independently appointed judges. That makes a world of difference in the way that commercial legal disputes are settled.
As a result, organisations that take a strictly legalistic interpretation of the risks of moving manufacturing to China are missing the point. Very often, legal cases involving commercial law are decided far from the law courts, in favour of local interests, rather than by judges endeavouring to follow the letter of the law.
Vegter at Philips Lighting was therefore concerned that the company’s initiative in China might amount to a training and development programme for future competitors. “The product we make, a lamp [light bulb], is a relatively simple product to engineer in terms of what its made of. How to make it, that is really the key to quality,” says Vegter.
“We needed to raise partners’ level of competence to a level that justifies the Philips brand, but in the process, we have never made that kind of knowledge public. We have never patented it either. They are kind of ‘kitchen’ secrets,” he adds.
The company therefore had to think hard about the knowledge and know-how it wanted to share and the knowledge it wanted to keep to itself.
Newman advises that organisations need to take a methodical approach and to look at their intellectual property and value it as objectively as possible. “Construct a portfolio model that positions all your strategies in terms of existing capabilities and new capabilities, and existing constraints and new freedoms,” says Newman.
“You then have to ask yourself some very key questions about the realistic timelines around all of those investments. By that I mean, how long have you actually got?”
Such an analysis should enable an organisation to work out when a particular product and technology will peak in terms of sales, revenues and, most important of all, profitability.
“The next question is, what is it worth being efficient at? There is a strong tendency in all organisations under pressure to focus strategies on non-core activities,” says Newman. Much manufacturing these days, once a certain quality threshold is passed, is all about supply-chain management rather than the product – control of manufacturing just isn’t as important as it used to be.
This is not necessarily as simple as Newman makes it sound. Few organisations have developed processes for doing this and, as a result, managers frequently end up wrangling about what is – and is not – core knowledge and know-how to the company, says Arno Boersma, a partner at KM consultancy Squarewise. “The first thing to do is to make sure the organisation has a methodology of categorising and valuing its know-how,” he says.
Ultimately, ‘leakage’ of organisational knowledge is inevitable wherever in the world an organisation does business. If a company releases a good product one day, its competitors are undoubtedly reverse-engineering it the next in a bid to uncover the secrets, regardless of whether they are located in California or the Chinese capital Beijing.
Therefore, while organisations should take reasonable steps to prevent knowledge leakage they should, at the same time, bear in mind that much of it will naturally devalue over time and devise their knowledge-transfer strategies accordingly. In most cases, it is far more important to fully exploit first-mover advantage than to waste time trying to protect intellectual property or production-process knowledge that will quickly ‘degrade’ anyway.
For Philips Lighting, the decision was straightforward. The manufacturing of commodity products such as energy saver light bulbs would go to China, while higher margin lighting products, where the highest quality is imperative, such as medical lighting components and equipment, would remain in Europe.
Once the list of knowledge and know-how to be shared has been drawn up, it will not change every month and should therefore be easy to follow. The list resides mainly at a managerial level and strategic departmental managers then draw up their own more detailed sub-lists for use in their own department by their own engineers.
The next step is to work out with whom an organisation should partner. This is less of an issue today now that organisations have the option of setting up wholly owned subsidiaries, but for many smaller organisations, partnership is the only viable route.
The usual means of evaluating potential partners apply, such as talking to existing and past customers to find out their experiences, and hiring consultants with particular knowledge in the area – and there are a growing number of them.
But how to secure the knowledge and know-how once a deal is signed? Contrary to popular imagination, organisational knowledge is not lost when corporate computer systems are cracked by faceless hackers, but by staff with loose tongues saying more than they should. “The people in the organisation in the country, whether that is India, China or Brazil, need to be aware, alert and accountable,” says Boersma.
At this stage, training is key, combined with a reward and evaluation programme to back this up. This is easier said than done, admits Vegter at Philips Lighting. His training programme initially involved a Microsoft PowerPoint presentation of just 20 slides, but has evolved into something far more sophisticated.
Indeed, Vegter admits that the PowerPoint presentation alone proved ineffective until the wider strategy was implemented with vigour.
“The most difficult part is to make it happen, to sit down with the engineers and explain to them,” he says. There were two parts to the training. The first part involves straight training – the does and don’ts of knowledge-sharing, telling staff what they can share with the company’s business partners and what they should not.
But that needs to be followed up with strategies for building up their ability to say ‘no’. “We even went through behavioural training to teach people how they can, in a polite but decisive manner, refuse to share knowledge if that is not allowed,” adds Vegter. Sometimes staff can be put under pressure – either morally or via more dubious means, such as bribery – and they need to be given the tools to deal with that.
The systematic approach of Philips Lighting to knowledge transfer should arguably not be limited to China, but expanded to all locations. Equally, the cultural barriers it will have to overcome in order to best protect those assets will be different and such programmes will therefore require fine-tuning to take that into account.
Indeed, there are plenty of signs that the next wave of knowledge transfer will be in the other direction, with Chinese companies buying European and US assets, and not just energy companies, but car manufacturers, engineering and electronics companies, too.
Klaas Vegter can be contacted by e-mailing his personal assistant, Maria.Kampers@philips.com
Arno Boersma can be contacted by e-mailing him direct, firstname.lastname@example.org
Victor Newman can be contacted by e-mailing, email@example.com
Further reading: ‘Golden Hints for Doing Business in China’, http://chinese-school.netfirms.com/goldenhints.html
While popular opinion in the US and Europe regards the Chinese economy as an almost unstoppable juggernaut, destined to overtake the US in overall size by about 2030, the reality is that a number of challenges will need to be overcome. One of those involves improving collaboration and knowledge sharing among Chinese organisations.
Although Chinese exports have boomed in the last 20 years, much of that growth has been driven by foreign-owned companies. There are, as yet, very few big-name Chinese companies and many remain either fully or partly state owned or controlled, with all the political interference and favouritism that implies.
Because the state exercises such a great influence, it is more important for executives to cultivate their relationships with politicians than to forge business links with potential partners.
According to George Gilboy, a Beijing-based consultant and research affiliate at the Massachusetts Institute of Technology, the political culture of the country stifles widespread collaboration between companies, while the ‘particularism’ of the authorities encourages executives to seek preferential treatment from officials, whether that is special access to markets or resources (such as loans), exemption from certain regulations or protection from corrupt officials.
As a result, while there are scores of vehicle manufacturers, for example, only a few produce in significant volume.
This relative lack of collaboration would not be so damaging were it not for the low level of investment in research and development. Chinese companies typically spend only about 1 per cent of revenues on research and development – one-seventh of the average spent by typical US, European or Japanese companies, according to Gilboy.
Instead, successful Chinese companies tend to diversify widely and early in moves that do little to strengthen them in their core sector, although it does help to insulate them from the worst consequences of arbitrary or capricious rules or official behaviour.
It also partly explains the high level of piracy as producing new products from scratch requires large amounts of capital investment, as well as close collaboration with component suppliers – and an environment that protects the fruits of such endeavour.
Fears of intellectual property theft have been heightened by numerous anecdotal tales of companies that claim to have had new products or designs ripped off before they have even had a chance to launch them.
While such stories remain unattributable, there are an increasing number of high-profile cases, most notably in the car market where a string of Chinese ‘designed’ cars have emerged that bear a close resemblance to popular products from established US and Japanese manufacturers.
The most high-profile case involves General Motors and Chery Automobile. In 2004, Chery unveiled the Chery QQ – a car bearing an extremely close resemblence to the Chevrolet Spark (also known as the Daewoo Matiz). “You can pull a door off of the Chevy Spark and it fits on the QQ – and it fits so well that the seals on the door hold,” claimed a spokesman for General Motors.
Although General Motors’ case appears straightforward, the Chery QQ has become one of the top-selling cars in China and is even exporting it to other nearby markets, including Malaysia. The Chinese government advised General Motors to seek a resolution to the dispute via mediation rather than the courts as it would do in such cases in the US.
General Motors’ case has evoked some sympathy. “Inside
And the problem does not just involve cars. A survey by management consultancy Hay Group, for example, suggested that there had been a 1,000 per cent increase in counterfeiting of computer and electrical components from
Networking equipment maker Cisco Systems took legal action against Huawei Technologies, a Chinese rival, after it claimed that Huawei had used Cisco software code in some of its products. In that case, Huawei eventually agreed to re-write the offending code.
No product is immune from piracy. But according Andes Lam, a practice leader at risk assessment consultancy Marsh, too few organisations take even basic measures to protect their intellectual property when they manufacture products overseas, particularly in China.