In April 1980 Nike,
the leading sports footwear company in the
Primary among our
objectives is to establish the means by which we would buy a finished shoe
product from the People's Republic of
By late 1984,
however, production had reached only 150,000 pair per month. Many unforeseen
problems had led Knight to comment, "
David Chang, a Nike
vice president and key player in
Nike's Entry Strategy and Negotiations
Nike saw sourcing
director of Far East operations, Neal Laurinson, was
the first Nike official to visit
Like many other foreign companies, Nike at first
found the Chinese bureaucracy impenetrable. To gain access, management hired
David Ping-Ching Chang as a consultant. A
Princeton-educated architect, Chang was born in
Chang described the entry period
One of the keys to Nike's success so far has
been determining ongoing economic sources of supply. The president of the
company had determined that
Negotiations continued in September and November
1980. The Nike team (Chang, the corporate counsel, and production and finance
people) met daily with their Chinese counterparts, who numbered 20 to 30 --
depending on the issues discussed. Supply contracts were signed between two
factories each in
Christopher Walsh (Nike's first resident
managing director in
The negotiations were some of the most strenuous
exercises I have ever participated in. The major issues we faced were issues we
did not expect to arise. The Chinese were not familiar with the standard
exclusivity clauses within our contracts. We wanted exclusive rights to these
particular factories. We do not have difficulties enforcing these clauses in our
other Asian countries and so tried to institute them in
The second issue was B-grade production. The Chinese will package almost 100% of what they make. There are certain standards that had to be adhered to which they were not familiar with, so that was a stumbling block for us.
The third issue was defective returns. A great deal of Nike's success
today comes from standing behind its product. The Chinese could not accept that
particular concept…They felt that once a shoe had been put in the container and
was on its way to the United States, that was the end of the production
Pricing was another key issue in the negotiations. Chang described Nike's approach:
One of the first things we told the Chinese was
that their prices had to be more than competitive with our other Far East
sources because the cost of doing business in
Walsh commented on the results of the price negotiations:
I think a lot of American corporations are
misled in that you go to
All contract agreements were negotiated with the ministries' staffs and the factory managers, and were based on specific shoe models' price, volume, delivery, and specifications. Because the factories had no foreign currency to purchase equipment, Nike entered into compensation trade arrangements whereby equipment was paid for shoes. Nike would purchase B-grade shoes at a 20% discount during the first two years, then at a 40% discount. The agreements stipulated that factories could not sign contracts with Nike's competitors; they also granted Nike trademark protection.
Nike agreed to pay for purchases directly to the
Ministry of Foreign Trade or its local offices. The factories would then receive
Chinese currency at exchange rates higher than the fixed rate—as subsidies from the foreign trade unit. In
Walsh recounted the original production plans:
In July 1981 we established forecasts for 10,000 pair per month in the initial 12-month period, with the gradual increase over 15 months to 100,000 pair. In retrospect those expectations were far too high. In the first 9 months we were able to export a total of only 35,000 pair. Not until 1984 did we reach 100,000 pair per month. We originally thought we would be producing a million pair a month by now.
The annual production figures were 140,000 pair
Nike had to deal with a multitude of problems in technology transfer, materials, quality control, inventory control, production flexibility, worker and manager motivation, transportation, pricing, plant location, expatriate staffing, and government relations.
Walsh described the transfer process:
During the start-up period, we had to arrange for technology
transfer. The Chinese are looking for something in return. In the footwear
industry, the machinery was very antiquated; they expected us not only to import
machines but to provide them with technical designs to help them get away from
the cottage industry that had existed in
We ran into difficulties, however. We did not
really recognize what lay ahead for us. Lots of things evolve in these
relationships with the Chinese that simply cannot be foreseen from overseas. It
takes an on-site presence to get a feeling for the situation. As a result, six
individuals and I located in
Communication is one of the chief liabilities in entering the Chinese market, and we went to great lengths to develop a communications system that would enable us to identify on-site problems and provide solutions to problems that arose in those factories. Only two Nike residents spoke Chinese, and no one at the factory spoke English, so we had to use interpreters.
Managers from the
Nike considered bringing native managers from
Chang approached the Chinese about bringing
South Korean managers to
The biggest problem is that we are the buyers and they have to do it our way. It is difficult to convince them to use our processes and not theirs. For example, the factories need conveyor systems which are not now there. Our shoes, although simple require a lot of preplanning and coordination on procurement. But their systems can't be changed overnight. There was give-and-take on processing methods. You have to be flexible.
Nike had a worldwide policy that its B-grade
shoes could not constitute more than 5% of a supplier's total production during
the first year, or 3% thereafter. B-grade shoes had cosmetic defects but were
structurally sound. Nike sold them as promotional items or in discount stores,
at a 40% discount. However, because of quality-control difficulties in
Walsh commented on the quality problem:
The Chinese don't understand the brand concept.
They couldn't grasp why C-grade shoes had to be destroyed and not sold locally
or in another country. In fact, one batch of these was shipped to
We are educating factory managers that Korean, Taiwanese, and Chinese shoes are sold as equals and must, therefore, meet international standards. We are also getting the China Trading Company to understand the Nike production and marketing concept. The trading company staff and factory managers don't communicate enough with each other. Nike's people are physically in each of the factories almost daily. Our role is quality control, but we're looked on as educators. We prepared lots of manuals to define our methods.
Nike hired one Chinese inspector for each
factory through the Foreign Services Company, to which it paid $
One cause of the quality problem was the high
level of dust in the cities and factories, which impeded the gluing of insoles
to soles. All the
Some shoe materials, unavailable locally, had to
be imported. Ordering took six weeks. To guarantee normal production schedules,
Nike had to know in advance what needed to be imported and when. Chinese
managers, however, were unable to relay this information because they did not
keep adequate inventory records. Planners did not recognize the importance of
the time factor. In the Long March Factory in
To remedy this, the Nike staff tried to keep track of materials needed for forthcoming contracts and to coordinate these needs with the supply room records to ensure that supplies were available. They also began teaching Chinese workers how to store the materials correctly to prevent damage.
Flexibility—a primary characteristic of South Korea and
Taiwan—allowed Nike to expand production quickly. These
factories were able to develop shoe models quickly from written specifications.
Chang remarked on the contrasting situation in
To increase flexibility, Nike hoped the Chinese would:
1. build sample rooms enabling them to produce new models from patterns and specifications. This would require some new advanced equipment, about 19 more people, and an investment equal to about 2% of sales. The Chinese were unwilling to make such an investment.
2. produce, rather than import, lasts, molds, dies, and small tools necessary for the construction of each model. The initial investment could cost over $10 million, but individual factories had the authority to invest only $100,000. The Chinese were thus willing to accept small orders for different styles requiring different equipment. It was safer and easier for Chinese managers to import materials than to try to develop or purchase local materials. Local suppliers tended to charge high prices because they did not want to incur losses; under the government's new policies, factories incurring losses risked being closed. Become more cooperative. Chinese factory managers, however, felt that as yet there was no real commitment from Nike. Furthermore, Nike's efforts to negotiate further price and quantity reductions had antagonized the managers.
Worker and manager motivation
Walsh described the basic, unexpected motivational problems encountered:
We set out more or less to emulate the South
A big problem is adhering to schedules. We've brought in graphics outlining schedules, and they don't grasp this. Partially the problem is related to the lack of incentives. There is no difference in pay if they produce more shoes sooner. There is also a lack of talent on production scheduling. The talented business people are in the trading companies.
What we did was to institute our own incentive program. We lined up criteria based on productivity, quality, and delivery. We virtually put money on the table. If they could satisfy our demands, we would reward them with cash bonuses given to the factories. This concept was presented to Vice Premier Huan Lee in November 1981, and he was receptive to the idea. We instituted it in our first year there with mixed results. We saw a great leap forward for about 60 days. After that it was back to the same lack of motivation.
Tensions in the initial pricing negotiations continued to exist. The
Chinese partners were used to the stable prices of a central planning system.
Because of unexpectedly high overhead, the initial price had to be reduced by
25% after two years. Although Nike had to pay extra dollars because of
inefficiencies and scarcities in the Chinese system, the Chinese felt that the
costs for foreign firms to do business in
None of the Chinese participants in price
negotiation—staff from the foreign trade bureau, factory
directors, and local production bureau leaders—had authority to make price decisions. Everything had to be
relayed to authorities in
In September 1981 Nike opened its residential
headquarters in Shanghai with a staff of six, all in their twenties and
thirties, and all with previous experience in Nike's other Asian operations. The
It's always been Nike's production philosophy to
assign expatriates to foreign communities for control purposes. I think that has
a great deal to do with our success in the
The Nike staff flew to the factories in the
south and stayed for three or four days before returning. More than half the
staff brought their families to
From the beginning, Nike tried to establish a
positive relationship with the Chinese government through contributions to the
country's sports activities (e. g, holding sports clinics and equipping the
national 1984 Olympic team). Nike also hosted various Chinese officials visiting
Nike often did not know with whom it should talk
to solve its problems. The combination of decision makers for different problems
was always changing, and it was not always apparent who was in charge of what.
Sometimes officials failed to show up for appointments. The local Nike staff
often felt it was necessary for high-level managers from Nike headquarters to
Nike sent a report to First Vice Premier Wan Li, reviewing the company's progress and problems in the 1980 - 1983 period. An excerpt from Knight's letter of transmittal indicates Nike's approach to dealing with the government:
In my country there is an old belief that in
order for any relationship to grow and to develop there must be a mutually
candid and beneficial relationship. In our co-equal partnership effort in
The problems, according to Knight, were:
1. non-availability of
local materials (a detriment to both Nike's and
2. inadequate shipping and transportation provisions (causing Nike's inability to meet delivery dates);
3. inconsistent high
4. non-motivation and non-commitment attitudes of Chinese workers (Nike's incentive programs had brought mixed results).
Many factory managers had negative feelings
about the $ 7 million Nike contributed to support the Chinese national sports
teams. They felt that such extravagant promotional (PR) expenses did not solve
Nike's production problems and only increased Nike's overhead, and that the PR
program attracted the attention of only the national leaders, thus fostering
good relationships only at the top rather than at the local level. They felt
that a Nike joint-venture agreement would be stronger evidence of Nike's
commitment to China's modernization program—and at a fraction of the cost. They also noted that the
Chinese Olympic team was criticized in the
Chang reflected on Nike's approach to relations
Future Strategic Considerations
As Chang deliberated on possible recommendations for Nike's future Course of action regarding China, he focused on six areas: (1) the situations of Nike's other suppliers, (2) recent changes in the business environment in China, (3) joint ventures, (4) new factory locations in China, (5) the domestic China market, and (6) Nike's competitors.
Chang compared Chinese factories with Nike's primary suppliers, using several criteria:
1. Development and production start-up time. The
time from when the factory received the shoe model's technical package to the
point of shoe production was four months in
Quality. The A-grade to B-grade ratio was 99:
4. Raw materials sourcing. The Taiwanese and South Koreans sourced 100% of their raw materials domestically; the Chinese imported 70%.
6. Transportation. Shipping time from
7. Labor costs. For the factories, labor costs
as a percentage of total costs were about 30% in
8. Landed costs. The landed costs for a pair of
Nike estimated it was losing $1.00 on each pair of Chinese-made shoes. South Korean shoe manufacturers had been encountering rising labor costs. Between 1972 and 1979 the unit labor cost rose by more than 300%, and was still rising in late 1984. In addition, the South Korean government in 1981 discontinued all its support, mostly financial, for the shoe industry. One Korean government official said, "We believe that our shoe industry is now fully developed to compete internationally. Our limited resources for support should be directed to higher-growth-potential industries such as heavy, chemical, and high-tech industries."
An executive from one of
In the athletic shoe industry, labor cost must
not exceed 24% of total cost to maintain international competitiveness. As of
1984, our proportion of labor costs is between 22% and 24%. This is about 30%
higher than in
Most Korean footwear firms were large employing up to 17,000 people. This size gave advantages in dealing with large foreign buyers, rather than affording technical economies of scale. Almost all companies exported their footwear under foreign names.
Chang remembered that "when we first went to
The joint-venture form of foreign investment was
increasingly favored by PRC authorities: about 20 involving $ 20 million had
been mounted by 1984, and the number increased significantly by 1984. Under the
1979 law, a foreign investor's participation could not be less than 25%,
technology contributed was to be "truly advanced and appropriate to
Such joint ventures, if undertaken by Nike, were estimated to require an investment of $ 500,000 per factory, which could reduce Nike's flexibility in later shifting production sites if necessary.
Visions of two billion feet still floated in Chang's mind. Thenumbers held inevitable market magnetism, but he was not optimistic about selling Nike shoes locally. The product was made for an affluent consumer, and the Chinese were more interested in Nike's exporting than in selling locally. But still two billion feet.
Finally, Chang wondered about the possible
reactions of Nike's competitors: Puma, New Balance, Adidas, and Bata have