|Return to Gunpowder
|In this second edition of Gunpowder, we print
letters from two readers, Sam
Kinney, founder of FreeMarkets Inc (before
being acquired by Ariba, FreeMarkets was the leading provider of strategic
sourcing solutions) and Frank
Russo, with Thomas Register. Both provide
practical advice on sourcing and negotiation strategy. Next, our free-trading
editor, Lisa Reisman, joins with Jason Busch to take a look at how
a second Bush term will impact
global sourcing. Last, globe-trotting Stuart Burns caught up with
Simon Teo on how to succeed in setting up joint ventures in the Chinese
market. Simon offers a must-read perspective on China, as his first
JV did not work out as planned, and he’s since learned the tricks
of the trade which he shares with us here. If you’re considering
doing any business in China, you must
read his story.
|Letters to the
To the editor,
Following up on your first newsletter article
on negotiation strategy, another tactic to consider for commodity
markets is to construct “natural hedges.” In financial
markets, borrowers or lenders often pursue a strategy of “laddering
maturities.” Let’s follow a bond buyer’s example.
When laddering, the buyer makes part of his or her total investment
in short-maturing bonds, some with a medium-term maturity, and some
with a long-term maturity. When rates decline, the long bonds keep
the yield up. When rates move up, the short bonds follow the rates
up. Over the cycle, the bond buyer has achieved a naturally hedged
(“smoothed”) position even without resorting to special
instruments such as futures as hedges. Thoughtful commodity buyers
can approximate a similar strategy. Consider buying some fabricated
items on longer term fixed price contracts, while surfing the spot
market for shorter term volumes of raw materials. While it’s
not a foolproof approach, it’s a consideration that should
always be part of a contracting strategy.
As to commodity strategy, it’s also important to consider
which party is more naturally able to assume commodity price risk.
Large customers may be better able to assume commodity risk than
that customer’s smaller suppliers. The larger company can
often access sophisticated hedging strategies (e.g. futures markets),
often has global reach to neutralize some risk, and might also have
pricing power to pass along adverse moves to their customers. So
another strategy that should never be far from mind is to ask your
customer to assume price fluctuation risk in the underlying commodity
while retaining for yourself the cost of conversion.
It’s important to recognize both of these as “portfolio
strategies.” They’re applicable to overall category
management, but may not help one particular buy.
Sam Kinney, Co-Founder
of FreeMarkets (currently Managing Director, Firehole Partners)
To the Editor,
My congratulations to you on a great job with
I want to add to your point about one-on-one
negotiation as a strategy for sourcing stampings. In my view, it
depends on the stamping. Stampings can be highly engineered products
loaded with a company’s IP, or they can be commodity-like
(with little engineering IP). The underlying value separating these
two examples is the development of the tooling itself. Custom tooling
for highly engineered stampings are part of a company’s tangible
IP assets. So, one-on-one negotiation for these critical, high-value
parts makes sense.
Frank Russo, Thomas Publishing
/ Thomas Register
|Four More Years—How
a Second Bush Term will Impact Global Trade and Sourcing
Going into the election this November, neither
candidate represented the free trading ideal we believe this country
needs. Kerry’s protectionist philosophy and ill-informed knowledge
of “outsourcing”—made him a scary choice. Bush’s
support of indiscriminate tariffs and ties to corporations seeking
protectionist policies also raised our alarm bells. But perhaps
most important to the US economy, is the ramification of a plunging
dollar. We did not hear much from either candidate on that issue.
So what can we expect from a Bush second term? We
believe probably more of the same. We’re not expecting Bush
to rock the trade boat too much, but we’re planning for the
occasional rough seas, as we expect some protectionist waves to
slow progress from time to time. Take the case of China. We think
that Bush’s support of China’s entry into the World
Trade Organization is positive, as is his rejection of proposed
tariffs for Chinese made products, from brake parts to wire hangers.
But at the same time, Bush has bowed to special interest groups
on other China imports, imposing duties on various textiles, from
brassieres to dressing gowns.
And we can all remember Bush’s support of tariffs
in his first term. From the now infamous steel tariff which temporarily
increased prices nearly 30% on imported steel to the farm subsidies
which protected domestic producers from foreign competition, Bush
was not exactly a model crusader on a campaign for global free markets.
We believe that Bush will continue to pull the tariff trigger from
time to time, as it suits his political and social interests. Overall,
however, new tariffs will be isolated, and US companies sourcing
from global suppliers do not have much to worry about, except an
But global sourcing and trade is not just about trade
politics. Fiscal policy will also play a key role for companies
buying and selling around the globe. Since October, the dollar has
fallen by seven percent. The problem, according to Fed Chairman
Greenspan is that the US account deficit is not sustainable—“because
foreigners would eventually lose their appetite for more dollar-denominated
assets,” according to a recent Economist article. With the
US import market 50% larger than its exports, the trade deficit
will continue to widen.
The easiest fix to the situation is to decrease the
current account deficit by cutting the budget deficit and paying
down our national debt (which would ultimately improve the dollar,
and reduce the cost of imports, making global sourcing an even more
But that’s not likely to happen in a second
Bush term, given the Texan’s propensity for spending and tax
cuts. Whoever said that a big spending, tax cutting Republican was
an oxymoron? Certainly, not us …
Lisa Reisman is Managing
Director of Aptium
Global Inc., and leads the firm’s US practice. She can
be reached at 773 525 9750 or email@example.com.
Jason Busch can be reached at firstname.lastname@example.org
or 773 525 7406. Jason also authors the blog: www.spendmatters.com.
|Q&A with Simon
Teo—Setting up Joint Ventures in China
Based in Singapore, Simon Teo has owned and operated
several trading and manufacturing operations throughout Asia. As
a strategic partner to Aptium
Global, Simon is in a great position to offer useful commentary
on the Chinese market, as one of his investments in China did not
pay off, while another has gone well. His current venture prints
aluminum foil for color labels for beer, wine, and food packaging.
His first relationship in China soured when he found that his local
partner was selling off capacity from the venture and pocketing
the proceeds (while also failing to maintain the plant and facility).
What drove you to consider China as a manufacturing
base in the first place?
It’s a very straight forward answer—China
represents a huge consumer market plus it offers very cheap labor
costs. My product is aimed at the consumer market and such a product
does not have high demand in Singapore due to its low population.
From a labor cost perspective, China is only 1/10 of our local cost
in Singapore. And that’s before we consider factory rents,
and corporate tax, etc.
Why did you go the partner route rather than
the wholly owned subsidiary route?
Wholly owned businesses in China are subject
to many constraints. There are many government policies to watch.
Many times you will find regulations change overnight. Moreover,
depending on the location, you might have to go to at least five
departments to register and apply for a business license. At this
point, you may encounter many unreasonable requests such as requests
for donations to speed along the process. Partnering with an established
local company can help by-pass an enormous amount of this hassle
and red tape.
Did you encounter any problems working with
your first JV partner?
As an investor, I had the majority share in
my first joint venture in China. However my local JV partner felt
that after working so hard for the JV company, that we (the foreigners)
were the ones getting the largest benefit. Hence, our “partner”
started to work for his own objective. Negotiations got me nowhere
so in the end I terminated the agreement and moved the manufacturing
equipment out of his premises.
In what way was the set up of your second
venture different from the first?
My initial approach was to market our products
specifically in the Chinese consumer market, but after the bad experience
of my first venture I re-thought this strategy. In my second approach,
I reduced our share holding to below 50% and remained as a minority
share holder. Also I tuned our sales and marketing focus to make
it 50% domestic / 50% export. By doing so, I made my new partner
think that we were indispensable. And our contribution also plays
an important role to the company’s financial returns especially
when it comes to tax exemptions and tax rebates. Tax issues are
a crucial issue in dealing in China and there are advantages that
a JV with local and foreign involvement can exploit.
One should be aware that financially speaking,
the Chinese are becoming less dependent on foreign investment for
working capital. Many Chinese investors are now capable of supporting
the full investment themselves. This begs the question: what can
an outsider contribute? Let’s walk through one example to
show how to “sell” a JV concept to a Chinese company.
If you are manufacturing products and selling them to the Chinese
market from the USA, you already have market share instantly when
you start your JV in China. With the JV established, you can now
re-export Chinese made products back to USA and you are in control
of the sales and marketing efforts, both locally and overseas. This
is an ideal case. In short, you must become indispensable to the
JV company, as the Chinese are very pragmatic in how they approach
partnerships. At this point in time, if your Chinese partner feels
that the JV will benefit both parties, the relationship will be
How does the structure of the Chinese commercial
market differ from that in other parts of Asia like Singapore?
There are two items worth noting. One is the
legislation of the commercial rules and laws (R&L) and the other
is the culture of the business community. In Singapore, the commercial
or manufacturing market is governed by a British-based set of well
written R&L. China, though, is different. Every Chinese province
down to the city—and even the neighborhood—level has
a different set of rules. This can be very confusing to outsiders!
The second point is that in China, business is often done based
on relationships or friendships. Sound advice from outside advisors
is therefore absolutely crucial to success, if the investor does
not already have a strong base inside China.
What is your advice for identifying the right
JV partner in China?
When you are partnering with someone in China,
ask yourself what you look for when you are seeking a potential
partner back at home. It’s similar. First, you don’t
jump in to it just because you have the urge. You will need to know
the background of the potential partner and find some opportunity
to work together in dealings before launching a full blown JV. Like
marriage, don’t try to change your partner but try to improve
them. Relationships can take time to build. 1 to 3 years is usually
enough for partners to become comfortable working together in the
What would you consider the key ingredients
for a successful JV operation in China?
This is a tricky question. Also my answer will
not be universal to all trades. But based on my experience, these
ingredients together can be a recipe for success:
1. Define the market for the product and how
to sell it before launching operations
2. Take a very close look at the commercial
rules and laws of the province, town (and even neighborhood) of
the place where you are planning to set up the JV
3. Take time to understand the business and
human culture of the place you are going to
4. Ask yourself why your partner needs you.
If the answer is they need working capital from the investor then
Only when it’s a win-win situation to
both parties will the JV work out fine.
|This newsletter is published by Aptium
Global Inc a direct material advisory firm based in Chicago, IL.
With offices in the UK, China, India and a network of global associates,
Aptium Global works with small and medium sized manufacturing companies
to save money on direct material purchases. Smaller companies face
the same cost pressures as the Fortune 500, yet often lack budgets
for cost reduction services. Aptium Global works with organizations
on a pay-as-you-save™ basis, minimizing impact on cash flow
and maximizing impact on the bottom line. We aim to publish this newsletter
on a monthly basis but reserve the right to miss a few deadlines here
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