Time to cement gains

Chinese outsourcing companies should focus on 'open innovation' to reap further rewards

China is slowly emerging as the world's No 1 outsourcing hub. This is indeed an impressive feat and has been made largely possible due to the progressive reforms and the benevolent conditions in the country. Both these factors have encouraged offshoring of activities to China (location of activities under ownership by foreign companies) as well as to international sourcing and outsourcing of activities.

China's current outsourcing market is growing at an estimated 30 percent every year, and many countries have relocated their headquarters to China to establish businesses. The market for outsourcing activities in China is expected to reach $44 billion (36 billion euros) by 2014, according to IDC, KPMG and Datamonitor analyses.

This development has affected positively on China's economic growth and development as well as its integration in the world economy. No doubt, it has also meant an increasing interdependence between the Chinese economy and that of the rest of the world. Not least in the Southeast Asian region, China has been a growth driver and its economic success has positively influenced economic development in neighboring economies.

The development of a world-class supply base has indirectly contributed to the Chinese industry in general. Local supply bases mean easier access to the rapidly growing position of China as an export base of manufactured goods, while in many other industries Chinese companies are developing strong brands for both consumer and industrial markets.

Just think of refrigerators from Haier and computers from Lenovo for consumer products and Goldwind wind turbines for industrial markets. More are undoubtedly to come, as savvy Chinese investors develop or acquire their way into more business areas.

With this development, new challenges for Chinese outsourcing activities also arise. The general economic growth along with the surge in demand for local talent means that Chinese labor costs are also increasing and the comparative cost advantage is threatened by competitors in the Asian region. This is already felt in some areas, such as in the outsourcing of apparel goods.

Another threat for the outsourcing industry stems from the technological development of fully automated production facilities that are prompting companies to move back sourcing activities to Europe and the United States.

A number of extraordinary technologies have come together over these years: smart software, new types of materials, more dexterous robots, new processes (notably three-dimensional printing) and a wide selection of Web-based services. All of this will change the production landscape as we know it and with it the competitive parameters of China as an outsourcing market.

The Boston Consulting Group believes that in several areas such as transport, computers, fabricated metals and machinery, 10-30 percent of the goods that US producers import from China today could be made at home by 2020.

From a Chinese perspective, how should one adjust to this development? There are several critical moves. First, Chinese suppliers of outsourcing in manufacturing as well as in services need to move beyond price as the dominant attraction for foreign trade. The Chinese industry is increasingly embracing the open innovation paradigm of the so-called knowledge economy, where R&D is of the essence.

According to this way of thinking, suppliers must offer more than just reliable production of low-cost products. They must see themselves as co-creators of customer products and services and offer their insights to customers, helping them to source not only components but also ideas. This will help them to develop long-term and mutually committed business relationships with their customers - relationships that may withstand the changes in the economic rationales under way and which are better in line with China's status as an economic superpower.

Second, suppliers of outsourcing can help their customers in other ways: as identifiers and developers of possibilities in the fast-growing Chinese market. Many US-based and European manufacturers are keen to gain not only a sourcing but also a market foothold in the Chinese market. Suppliers, with in-depth knowledge of market and business conditions, hold valuable insights that can form the basis of new ventures and partnerships - possibly also for developing the export basis of China further.

Finally, leading Chinese suppliers of outsourcing services may consider following their customers out to other emerging economies in Vietnam, Malaysia or Thailand in their search for new sourcing opportunities and providing outsourcing services. In this sense, they can maintain and even broaden their relationship to these customers while capitalizing on their insights with respect to their customers' needs and wants.

No doubt, these suggested strategic moves to meet the development are demanding for Chinese suppliers of outsourcing services and call for considerable organizational transition in these supplier firms.

In some cases such aims are better reached in collaboration with other local providers of outsourcing services than alone. Local support for authorities in terms of developing models for business enterprise might be called for. However, the future prospects are equally grand and suggest tomorrow's realities and winning strategies for the Chinese outsourcing market.

The author is a professor at the Aarhus School of Business and Social Sciences, Denmark.

(China Daily 07/27/2012 page7)