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Technology Transfer Conundrum

Whether you are based in the West, the East, or a developing nation outside these two groups, the subject of China and its relationship with trading partners will dominate discussions and policy decisions for the next several years and, I dare say, decades.

Further, whether you run a mom-and-pop retail outlet in the middle of Kansas, a machine retooling business in the Adirondacks, or supply enclosures for major vendors like {complink 2125|Foxconn Electronics Inc.} from somewhere outside Hong Kong, China's relationship with its Western trading partners should be a priority for you and your employees. (See: The Real Truth About ‘Made in China’.)

{complink 4751|Samsung Electronics Co. Ltd.} brought this issue back to the front burner when it announced plans to set up a flash memory manufacturing plant in China. Ordinarily, this would be a simple business announcement with no additional fanfare, but in this case, Samsung needs government approval.

If it wanted to establish this plant in Oregon or somewhere outside London, the plan wouldn't merit a second thought. However, this announcement is going to set some sparks flying, because of concerns about the transfer of dual-use products and manufacturing processes.

For those who still cling to the idea that companies move production plants to China to lower manufacturing costs, the Samsung proposal offers a distinctly different conclusion. (See: Things Don’t Get Made in China Simply Because of Cheap Labor and Why We Manufacture in China.)

A semiconductor plant requires a certain level of expertise and running costs that won't change much regardless of location. There would, of course, be some savings, but this won't amount to much.

The plan “is a big surprise given operating a memory chip fab in China does not warrant, in our view, any significant cost advantage (just a little cost savings vs Korean fabs),” Simon Dong-je Woo of {complink 6938|Merrill Lynch & Co. Inc.} writes in a research report.

What are the incentives for Samsung to move a major plant to China? Woo writes that the company wants a bigger piece of the globe's largest PC market, and that growing faster in that market involves having a local manufacturing presence, even for products as politically sensitive as semiconductors:

It appears Samsung expects the new fab to offer new business opportunities (NAND chip supply to local OEMs) and to lower geopolitical risks (diversification of chip production base). Further, we expect some incentives from the China government (cheaper land cost vs Korea).

That explains it all, but numerous kinks could screw up Samsung's business plans. It just happens that Western governments (along with Korea's) adamantly oppose the transfer of leading-edge manufacturing technology to China, because it could be used to advance the country's military objectives. It's a valid fear. If war were to break out between China and Korea (over disputed islands, for instance), local fabricators would be diverted to support military production.

Samsung will probably get the approval it needs to proceed with the flash memory plant. It wouldn't have announced this venture without discussing it with Korean and Western officials. The United States would have to give its consent. Otherwise, Samsung could run into major problems. My conclusion is that the new plant will get approved, because Western nations probably do not consider the technology at stake so cutting-edge.

However, Samsung's decision has moved the needle as to what can be located in China. As the country gets further integrated into the global economy, it will become harder for nations to withhold approval of major technology transfers. I'm not a foreign policy expert, so I won't debate here the advantages and disadvantages of such a development, but suffice it to say that this will dominate discussions and impact enterprise operations.

Personally, I believe high-end, dual-use technology should never be easily transferred, notwithstanding the relationship between the nation that developed it and the ones seeking to receive it. Understandably, the controversy deepens, tensions rise, and the stakes go up when distrust dominates the relationship.

That's where China finds itself today, and in many ways, it is up to the Chinese to prove they can be trusted. The trajectory of manufacturing outsourcing and transfer to China is fairly predictable. It will lead to increased penetration into the design and supply chains by Chinese enterprises. This is inevitable, because China is not going to settle for simply being everyone's assembler. In the high-tech sector, the country's political leaders are asking local companies to aim higher and become system integrators, designers, etc. They want the best jobs, too.

Withholding the endorsement of technology transfers will complicate relations between China and the West, but a line must be drawn somewhere. Three other recent posts show this is a complex problem. The first calls China the real threat to the global economy. The second, from China Daily, discusses the country's need for “arduous efforts” to become a trading power. The third says General Motors can increase its share of the Chinese automotive market through attrition.

The future of East-West engagement lies somewhere along the three axes of profit, hope, and fear.

35 comments on “Technology Transfer Conundrum

  1. Barbara Jorgensen
    December 9, 2011

    Fascinating stuff. I glimpsed over the announcement and figured it was business as usual since so many US companies have bought or set up fabs in China. My other thought, which you pointed out, is this is not considered leading-edge technology anymore. I'm a little out of my depth there, but Samsung has been exiting various segments of the memory market and this could be part of that strategy. Given the consumption of chips in China, it makes a fair amount of sense from the volume-production standpoint.

  2. DataCrunch
    December 9, 2011

    I too would not have given much attention to the headline.  Also, It would only make sense that China will not settle with only manufacturing and assembly jobs and move into the higher-end designing and integration jobs.  It seems like a natural progession.

  3. mfbertozzi
    December 10, 2011

    I would like to extend thoughts from Barbara, trying also to link the title from Bolaji to human history. Nowadays we are telling about plants to build in China and necessary knowledge transfer to arrange. Sometimes we could keep in mind, through the history, it happened exactly the dual: one of the most famous traveler in the past, Marco Polo, gave to West the chance to move ahead science and several aspects of human society, getting back know-how from China. Personally, I feel so fascinating the past and the present.

  4. Wale Bakare
    December 11, 2011

    the country's political leaders are asking local companies to aim higher and become system integrators, designers, etc. They want the best jobs, too.

    Bolaji thanks for this. This is telling us big how Chinese politicians are serious about the country's development. Corroborating this, a recent publication – piece culled out of book by Jim O'Neil, the head of Goldman Sachs Asset Management, quote here ' China is no longer just a low -cost labour phenomenon. Its people are rapidly rising up the income ladder and spending'.

  5. Nemos
    December 11, 2011

    “For those who still cling to the idea that companies move production plants to China to lower manufacturing costs,”

    I think I am one of those who believe that companies move production plants to China to lower manufacturing costs.

    And how can I have a different opinion when the workers in China are paid with crumbs.

    How can I evaluate as a good move when the companies move almost all their product plants to a specific region of the world?

    How can I convince myself that only there exist good conditions to do business?

  6. Daniel
    December 12, 2011

    Chinese contribution to the electronics world is very high and nobody can neglect it. If we are taking any electronic item irrespective of geographic location, we can find atleast one component or part with the tag “Made in China”. Therefore, I don’t think anybody can neglect their contributions. However, when we are looking from the business angle, they are not showing any sort of maturity in their dealings and business. They are moving in a different angle, as they want the supremacy and monopolistic nature of business.

  7. stochastic excursion
    December 12, 2011

    In certain sectors, such as electro-optics, China is far more advanced than manufacturers in the West.  It seems arbitrary and unreasonable to go on the diplomatic offensive when flash memory comes into play.  Are business leaders now admitting that engaging China was a mistake?  I don't think that's been included in the rhetoric.

  8. bolaji ojo
    December 12, 2011

    Nemos, These are valid questions you raised and as you observed there are no easy answers. Companies moved to China to take advantage of lower manufaturing costs and also because they believed they would be able to sell to the Chinese market eventually. The first objective has been largely realized but the second is harder to pin down. The Chinese take the technology and don't always allow foreign companies equal access to the local market. That's a major problem.

  9. bolaji ojo
    December 12, 2011

    Stochastic, Some relocation of manufacturing to China ended up being a bad business decision. In the last ten years, many companies moved or outsourced production to China in a follow-the-herd sort of way; they did it because everyone else was doing it and the perception on Wall Street would be negative if they didn't. Sometimes it didn't make sense. Will these companies admit this was an error? Few do. I've reported on a few companies that in the past moved production back to the U.S., for instance.

    This doesn't mean all the outsourcing was bad for these businesses. Many have done well by it. The impact on society as a whole, though, is a different matter.

  10. bolaji ojo
    December 12, 2011

    Jacob, You nailed it. Components come from all parts of the world and so do design concepts. But most of the electronic devices we use today is manufactured in China. As the country moves up the value chain, its business partners will get even less of the design, manufacturing and other supply chain activities, which will be even more devastating to these nations. A better balance is urgently required but it's unfortunately not going to happen soon because China wants more and many Western OEMs don't spend enough time examining the implications of their outsourcing decisions.

    The Samsung fab transfer is one example. I don't believe Samsung will gain that much in lower cost or efficiency by settng up a fab in China. The company is doing this simply to have a “local presence” that would (hopefully) advance its goals of selling to China's biggest OEMs. I wonder if Lenovo's rise to the No. 2 position in the ranking of PC vendors has something to do with Samsung's decision.

    China's desire to control more of the value chain is not in the country's long-term interest because the impression is it wants not just a bigger piece of the pie but both the pie and the oven!

  11. Barbara Jorgensen
    December 12, 2011

    Several readers made the point that China is leapfrogging the West in several technologies. Another one to watch for is displays/LCDs. China is investing in LCD manufacturing technology. It's not considered leading-edge yet, but volume production out of China is already nibbling away at Japan and Korea's market share.

  12. chipmonk
    December 12, 2011

    And did China's 17 % tariff for imported semiconductor components have anything to do with Samsung's decision ?

    Why was such a major business factor not even mentioned in the blog in Electronic BUSINESS News ?

    Was a particularly pro-China bias ( and the inevitability of China surpassing the US – by hook or by crook ! ) being pushed here ?

    Or is it sheer ignorance ??

  13. Barbara Jorgensen
    December 12, 2011

    Chipmonk–while I will agree that trade policies with China favor China, no one forced any Western nations to move their manufacturing there. I've covered companies' moves to China for more than a decade and without exception they went there with their eyes open. I think the saying goes “fool me once, shame on you. Fool me twice, shame on me.” The issues you describe as well-known throughout the industry, yet companies continue to move there.

  14. prabhakar_deosthali
    December 13, 2011

    And also may be the same story with China's foray into Solar panels business?

  15. FLYINGSCOT
    December 13, 2011

    I just spent 2 weeks in China and HK.  I asked the local managers what they thought of China becoming a global trading superpower and I was surprised to hear most of them say they thought China would take a long time to achieve this (if at all).  When China looks to the West it covets iconic brands (Apple, Microsoft, Starbucks, McDonald, CocaCola) and sees the brand as the real value creator and not the actual mechanics of building that product.

  16. bolaji ojo
    December 13, 2011

    Flyingscot, Very interesting observation. Branding and the equity associated with the brand is the distinguishing factor today in the West. It's no surprise therefore that Chinese firms covet the name-brand products.

  17. Barbara Jorgensen
    December 13, 2011

    Flyingscot–I echo Bolaji–that is interesting. At the same time, I'd hate for McDonald's to be the US's legacy to China. I remember visiting Paris years ago and seeing McD's on the Champs Elysee. AGH!

  18. chipmonk
    December 13, 2011

    Barbara : EBN seems to lack a well – informed & balanced editorial policy on sensitive topics like trade and technology xfer with China.

    the EBN blogs on China I have taken offense to as beng terribly one – sided and not even well – informed, were written by your Editor in Chief, Bolaji – NOT you, though I do appreciate your jumping in to defend your colleague / superior.

    China is simply too big ( and nuclear – armed ) to boot, to respect IP laws and for the last 2 decades they have been able to EXTORT technology out of US MNCs, first with the lure of cheap / regimented labor and now a fast-growing market.

    But their biggest strength are their advocates ( and beneficiaries of outsourcing to China ) in the US who control both our trade and foreign policies.

    The main reason for US MNCs rushing in to China is the misleading advice they were given by the likes of Kissinger ( a paid agent of China ) and then forced by the cohorts of Kissinger who dominate Wall St and the White House regardless of who is in the Oval Office.

    The enemy is among us. But that does not give a license to professional / trade journals like EBN to indulge in shoddy journalism.

  19. itguyphil
    December 13, 2011

    Barbara,

    What better dream than to have a Le Royale with cheese on the Eiffel Tower??

  20. Barbara Jorgensen
    December 13, 2011

    Chipmonk: believe it or not, we do appreciate reader feedback, even if our readers disagree. We'd be much worse journalists if we disregarded opposing viewpoints. I hope we can agree to disagree on some of these matters.

    In fact, I do agree with your POV that trade with China is skewed in China's favor. That seems to be the cost-of-entry to selling into the China market. Many companies moved there not for the low-cost labor, but to tap into China's consumer base. As you say, selling into China without being there is a costly proposition. It is not a level playing field, and many companies were already there before they realized that.

    Yet it has been the fastest-growing market in the world for many of those companies. I think Jeff Immelt (yes, I know–the US jobs guy) recently said he'd be remiss as GE's CEO if he didn't expand into growth markets. So we are back to square 1: to go or not to go? I think we created that particular dilemma ourselves.

     

  21. Barbara Jorgensen
    December 13, 2011

    pocharle–I wasn't even tempted! But even a Big Mac sounds better in French 🙂

  22. Anna Young
    December 13, 2011

    Barbara, Sometimes when you are overseas a sign of home even in the form of McDonald can be heartwarming. And as for the French, they always have their Bistro. The McDonald is just a rarity and usually for kids and teenagers. French adults typically resort to their restaurants for the 5-course meal polished off with a fine bottle of Bordeaux wine!

  23. itguyphil
    December 13, 2011

    Yes and like most people, I only know that after watching Pulp Fiction.

  24. Mr. Roques
    December 15, 2011

    What's the issue with moving it to China? Is it that once it's there, any company or the Chinese government can go inside and steal everything? 

  25. itguyphil
    December 16, 2011

    Or duplicate it with 99.8% fidelity…

  26. Ashu001
    December 18, 2011

    charle,

    Very,very true!!!

    The Chinese cannot be trusted on the technology transfer issue at all.

     

  27. Ashu001
    December 18, 2011

    Bolaji,

    I really liked your conclusion here,

    My conclusion is that the new plant will get approved, because Western nations probably do not consider the technology at stake so cutting-edge.

    It quite clearly shows the trust-deficit that China has vis a vis most Major Western manufacturers in the sensitive technlogies space.

    Ultimately its a question of gaining a piece of what is(supposedly) the hottest market ever.But would a tanking Chinese economy(as growth slides sharply thanks to its credit bust);lead to more thoughts regarding whether more manufacturing should move to Mainland China?

    Regards

    Ashish.

  28. Mr. Roques
    January 19, 2012

    Do they storm inside the plant and steal it? Do the plants need to share the information? is it legal in China? 

  29. itguyphil
    January 19, 2012

    Mr. Roques,

    I don't think it's illegal. I once heard a comparison to Chinese manufacturers saying that they can duplicate a product extremely well up to 72 hours after its official release to the market. That's impressive.. but in a bad way.

  30. Mr. Roques
    January 26, 2012

    WOW, is that after having the final finished product? Or do they need to go inside the plant and see the overall process? get access to the blueprints?

  31. itguyphil
    January 27, 2012

    Well from what I heard, it's after the original is released and available to test out live. The example I heard of was with golf clubs but the process is applicable to any product (from what I hear..)

  32. Mr. Roques
    February 29, 2012

    Well, with products such as those I can imagine them replicating it quickly but I doubt they can do that with electronic product, needing to know the code, etc.

  33. itguyphil
    February 29, 2012

    My guess is that if it IS an electronic product with a well-designed circuit board, it can potentially be reverse-engineered with enough time. It might not work exactly as well or even close but with enough revisions, the code could be identical enough. The only real barrier would be the market share and confidence the originator would gain before the cpycats have a chance to be successful.

  34. Mr. Roques
    May 30, 2012

    Well, if its well designed then you wont ever understand the circuit board.

  35. itguyphil
    May 31, 2012

    Good point. Sometimes, ignorance if bliss for a reason.

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