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Business Negotiations & Supplier Management

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Cummins China Cummins, 2017 Established in 1919, with headquarters in Columbus, Indiana Designs, manufactures, and sells family of diesel and alternative fuel engines from 2.8 to 95 litres, as well as related components and technology Operates an extensive network of service centres to support its products and offer parts for maintenance and repair Cummins Cummins 2017 Corporate Data: Fortune 500 rank: 159 Revenues: US$20.4 billion 7500 distribution/service centres In >190 countries Employees: 58600 Market Applications Cummins in China: Early Days Automotive (>50% of sales) Trucks, buses, commercial vehicles Power Power generators Industrial Defence, construction, mining, agriculture, marine and rail In 1975, Cummins Chairman J. Irwin Miller first visit to China First office was established in Beijing in 1979, shortly after China opened its doors to the outside world. In 1981, signed first license agreement with China National Heavy Duty Truck Corporation (CNHTC). more Why enter China? Cummins' Strategy in China First mover advantage; pre-empt competitors Market seeking Economies of scale Amortize R&D investments Risk reduction (geographic diversification) Technology life cycle Rigorous environmental regulations in China Cautious, steady, incremental, risk-averse Balanced - sharing risks with local investors Incremental - learning, building on successes Hands-on - people oriented management style Range of Strategic Alliances Licensing over JV as Entry Mode Joint Venture (Equity Participation) High More practical to start with a limited agreement Easier to expand later than contract Co-production Buyback R&D Consortia Level of Interaction Uncertainties in political and economic environment were major concerns for China in '80s Lower risks vs. JVs - minimize capital investment and potential losses Truck manufacturers become licensees, not competitors China's trucking industry was in early phase Market competition from local manufacturers is not fierce Cummins had superior technology and brand name Cross Licensing Franchising Licensing Low Cooperation Agreement Competition Cooperation Type of Arrangement Cummins' Competitive Advantages Early Licensing Successes Alliance, relation management Long term relationships with key customers Part reason for failure of Caterpillar JV in China Proprietary technology to meet environmental regulations Euro II and III standards Focused on diesel engines: economies of scale First mover advantage Brand name and reputation Distribution and service network R&D investments Organization and management, vision, strategy and implementation 1979 - negotiating first licenses 1981 - 10-year license agreement with Chongqing Automotive Engine Plant (CQAEP) at Chongqing CQAEP won several awards Cummins gained due recognition 1986 - Cummins convinced Dong Feng Motors, based in Shiyan, Hubei, to use Cummins' B engines for its Nissan- designed trucks CNR DONGFENG Trucks Chinese Heavy Duty Machinery Sector Foreign Players (examples) CATERPILLAR Cummins China early 1990's Cummins brand well recognized. Cummins decided to shift strategy from licensing to JV Cummins China Inc. (CCI) was established as a Cummins holding company for all Cummins investments in China. Advantages of multiple JVs Not all eggs in one basket Increase bargaining power with prospective JV partners, who are mostly current licensees Different JV products increase market coverage Chapman & His Mandate Converting Licensees to JV CCI headed by Steve Chapman, VP East & SE Asia Chapman joined Cummins in 1985 as Manager - International Business Development and has held a number of positions related to Cummins' international operations. He was instrumental in developing Cummins' successful business model for emerging markets. Mandate to negotiate and set up multiple JVs in China JVs need Cummins CEO approval only if cash investments exceed US$5 million Gain more managerial control Prevent technology leakage Technology in-kind to minimize JV cash investment Accelerate market access by leveraging capabilities of JV partners, to combat increasing competition Increase market share Improve profits Increase brand image and guanxi network JV partners who are truck manufacturers would become 'captive' customers for Cummins engines in their trucks Preferred JV Locations Preferred JV Partners MONGOLIA Shanghai Shenzhen Xiangyang, Chongqing Truck manufacturers in China Dong Feng Motors (DFM) China National Heavy-Truck Corp. (CNHTC) First Auto Works (FAW) Cummins licensees/customers . Cummins China, JV Successes Joint Venture with CNHTC, . By mid 1990's, became one of the earliest foreign companies to form JVs in China's heavy duty industry. JVs with China's leading industry players: CNHTC Dongfeng Motor Shaanqi Group Beiqi Futian. DONGFENG Trucks China National Heavy-Truck Corp. (CNHTC) Chongqing Chongqing - China's largest independent municipality, with population over 30M CNHTC is a state-owned enterprise (SOE) Third largest domestic truck manufacturer in China Customer of Cummins; licensee since 1981 Its plant in Chongqing produced Cummins B engines under license for internal use (i.e. for CNHTC trucks) License fee: -42000/engine (exchange rate: US$1 = 48) Chongqing's Location in China Map Chongqing CNHTC Interests in JV Chongqing Cummins Engine Co. Diversify into engine production Tech transfer and management practices from Cummins Use Cummins engines as standard for all its trucks Scale economies Simplify maintenance training and parts management across its dealership and service network Contribute existing plant in Chongqing as in-kind partial investment towards JV Production facilities, valued at US$8M Auxiliary building (e.g. cafeteria, staff residences), US$3M Other non-core assets, US$1M JV to employ all plant personnel Tiia 14 NON CURVES ENGINE COMPANY LIM CCEC - a JV in Chongqing Problems within the Chongqing JV In 1993, Chapman completed negotiations to set up a JV with CNHTC JV named 'Chongqing Cummins Engine Co.' (CCEC) CCEC would produce the Cummins B engine series for CNHTC and other customers (e.g. other truck manufacturers, electric companies) CCEC was valued at US$30 million CCEC was based on the CNHTC plant and kept all its 3000 employees 1. Operations 2. Management conflicts 3. Relations with Party members 4. CNHTC Cummins CCEC 1. Operations Problems, 1999 2. Management Conflicts Profits remained slightly positive A six-sigma evaluation reviewed CCEC had fallen short on every measurable criterion: operating environment, product quality, working capital, process capability, productivity, sales and finances Bad debts and A/R mounted High inventory . Considered a positive by Chinese managers Absorbing an SOE operation unexpectedly challenging: Keeping 3000 employees with perks: dormitory, primary school, technical school, clinic, cafeteria and guest house Reduced to 1500 through attrition and early retirement incentives First Cummins GM at CCEC did not speak Chinese Top management team of CCEC clashed repeatedly due to differences in expectations, management style, language, culture and a generation gap In 1998, Cummins hired new GM, Peter MacInnis, an outsider to the industry who knew China and spoke Mandarin; and transferred Kirpal Singh from Cummins India as new plant manager, who was also familiar with China CNHTC sent new executive, Han Ruilin, who cooperated well with Macinnis as both were new, with no prior baggage 3. Relations with Party Members 4. CNHTC 40% of employees were party members Key positions were all party members Local Party rep, Zhao Peimin, wanted to be treated as a partner in the JV and typically behaved as such MacInnis treated him as a labour rep only Han, a party member himself, was caught in the middle Perceived friction between Zhao and Macinnis also caused difficulties with employees CNHTC, as JV partner, had not been following through with its commitments promptly Sole sourcing of engines from CCEC for its trucks Transfer pricing negotiations Calibre of seconded personnel Recently Chinese Central Government absorbed the ministry that controlled CNHTC Transferred CNHTC's JV equity to the Chongqing municipal government Joint Ventures with DFM City of Chongqing - New JV Partner In early 2000, CNHTC's CCEC shares were finally officially transferred to the City of Chongqing. Chapman was preparing for the first official meeting with city officials, led by Mr. Zhang, the deputy mayor to discuss the future of CCEC and related issues and opportunities of mutual interest. Chapman had dealt with Mr. Zhang in the past and considered him frank, trustworthy and reliable. In many ways, this meeting would be the first board meeting between the two JV partners: Cummins and City of Chongqing Chapman would like to use this opportunity to do a re-set for CCEC and to bring the JV back to the right course. Cummins JVs with DFM DFM Distribution Network Cummins had two successful JVs with DFM 1. DCEC (Dongfeng Cummins Engine Co.) Located in Xiangyang DCEC A greenfield start-up to produce the Cengine series: Higher power than B engines . Both automotive and non-automotive applications Phase 1: 275 people; annual production capacity of 25K Cengines 2. JV in Shanghai with DFM subsidiary to produce engine filters Chapman had befriended Mr. Chen, CEO of DFM over the years. Through conversations with Mr. Chen, Chapman was aware that DFM had 400 locations that serviced DFW trucks with Cummins engines However, to Chapman's surprise, Mr. Chen viewed the aftermarket as a cost of selling, not a profit centre. . Chapman estimated that the ROI for DFM from these service centres was at best 5%. CCI Distribution & Service Network The CCI distribution and service network consisted of branches in 10 major cities in China, with a total of 150 locations Chapman estimated that CCI's investment in each of these locations averaged about US$1 million, plus working capital of US$0.5 million. The average ROI of the CCI distribution and service network was about 20% Chapman's Vision A National Distribution & Service Organization In early 2000, China prohibited distribution and service of auto products in any plant except those produced at that plant However, CCI, as a holding company, could import and export parts and components, thereby circumventing this restriction. Chapman wondered whether a business opportunity arose for a national distribution and service organization across China to support DFM trucks Other trucks with Cummins engines, Non-truck Cummins customers Chapman believed that under proper management, the business potential and upside for a combined distribution and service organization between CCI and DFM could be very attractive. In late 2000, Chapman believed that there could be a real business opportunity for a joint national distribution and service organization for DFM trucks and non-DFM trucks equipped with Cummins engines. He was confident that if he built up the business case properly, he would receive backing from his boss, the CEO of Cummins. Accordingly, he set up a meeting with Cummins' long-term partner and his friend, Mr. Chen, CEO of DFM, to discuss the establishment of such a national distribution and service organization, as a new 50/50 JV between DFW and Cummins China Inc. In Chapman's mind, this new JV would (a) take over all existing distribution and service centers (150 from CCI and 400 from DFM) as part of the partners' respective in-kind investments towards the JV, and (b) establish an additional 250 new distribution and service centers so that the JV would operate a network of 800 centers throughout China. For planning purposes, Chapman estimated that the average market value of these 550 existing centers was about US$1 M each, and it would take a similar amount to build a new center. Working capital required was about US$500K for each center. From a recent casual conversation with Mr. Chen, Chapman estimated that the ROI for DFM service centers was less than 5%. Chapman was confident that adopting Cummins' management system, the JV could improve that figure to an overall average of at least 15% for all JV service centers. Q1. Estimate the total capital required for this new JV. Explain how you arrive at this figure. Q2. As Chapman, what do you think Mr. Chens redline conditions (both financial and non-financial elements) would be? Explain your rationale. Q3. As Chapman, what are your own redline conditions? Explain. Q4. What do you think is Cummins BATNA? Explain. What do you think is DFM BATNA? Explain. Q5. What you would consider as a reasonable ZOPA (zone of possible agreement) for both parties? Q6. What are some negation issue in this case? Cummins China Cummins, 2017 Established in 1919, with headquarters in Columbus, Indiana Designs, manufactures, and sells family of diesel and alternative fuel engines from 2.8 to 95 litres, as well as related components and technology Operates an extensive network of service centres to support its products and offer parts for maintenance and repair Cummins Cummins 2017 Corporate Data: Fortune 500 rank: 159 Revenues: US$20.4 billion 7500 distribution/service centres In >190 countries Employees: 58600 Market Applications Cummins in China: Early Days Automotive (>50% of sales) Trucks, buses, commercial vehicles Power Power generators Industrial Defence, construction, mining, agriculture, marine and rail In 1975, Cummins Chairman J. Irwin Miller first visit to China First office was established in Beijing in 1979, shortly after China opened its doors to the outside world. In 1981, signed first license agreement with China National Heavy Duty Truck Corporation (CNHTC). more Why enter China? Cummins' Strategy in China First mover advantage; pre-empt competitors Market seeking Economies of scale Amortize R&D investments Risk reduction (geographic diversification) Technology life cycle Rigorous environmental regulations in China Cautious, steady, incremental, risk-averse Balanced - sharing risks with local investors Incremental - learning, building on successes Hands-on - people oriented management style Range of Strategic Alliances Licensing over JV as Entry Mode Joint Venture (Equity Participation) High More practical to start with a limited agreement Easier to expand later than contract Co-production Buyback R&D Consortia Level of Interaction Uncertainties in political and economic environment were major concerns for China in '80s Lower risks vs. JVs - minimize capital investment and potential losses Truck manufacturers become licensees, not competitors China's trucking industry was in early phase Market competition from local manufacturers is not fierce Cummins had superior technology and brand name Cross Licensing Franchising Licensing Low Cooperation Agreement Competition Cooperation Type of Arrangement Cummins' Competitive Advantages Early Licensing Successes Alliance, relation management Long term relationships with key customers Part reason for failure of Caterpillar JV in China Proprietary technology to meet environmental regulations Euro II and III standards Focused on diesel engines: economies of scale First mover advantage Brand name and reputation Distribution and service network R&D investments Organization and management, vision, strategy and implementation 1979 - negotiating first licenses 1981 - 10-year license agreement with Chongqing Automotive Engine Plant (CQAEP) at Chongqing CQAEP won several awards Cummins gained due recognition 1986 - Cummins convinced Dong Feng Motors, based in Shiyan, Hubei, to use Cummins' B engines for its Nissan- designed trucks CNR DONGFENG Trucks Chinese Heavy Duty Machinery Sector Foreign Players (examples) CATERPILLAR Cummins China early 1990's Cummins brand well recognized. Cummins decided to shift strategy from licensing to JV Cummins China Inc. (CCI) was established as a Cummins holding company for all Cummins investments in China. Advantages of multiple JVs Not all eggs in one basket Increase bargaining power with prospective JV partners, who are mostly current licensees Different JV products increase market coverage Chapman & His Mandate Converting Licensees to JV CCI headed by Steve Chapman, VP East & SE Asia Chapman joined Cummins in 1985 as Manager - International Business Development and has held a number of positions related to Cummins' international operations. He was instrumental in developing Cummins' successful business model for emerging markets. Mandate to negotiate and set up multiple JVs in China JVs need Cummins CEO approval only if cash investments exceed US$5 million Gain more managerial control Prevent technology leakage Technology in-kind to minimize JV cash investment Accelerate market access by leveraging capabilities of JV partners, to combat increasing competition Increase market share Improve profits Increase brand image and guanxi network JV partners who are truck manufacturers would become 'captive' customers for Cummins engines in their trucks Preferred JV Locations Preferred JV Partners MONGOLIA Shanghai Shenzhen Xiangyang, Chongqing Truck manufacturers in China Dong Feng Motors (DFM) China National Heavy-Truck Corp. (CNHTC) First Auto Works (FAW) Cummins licensees/customers . Cummins China, JV Successes Joint Venture with CNHTC, . By mid 1990's, became one of the earliest foreign companies to form JVs in China's heavy duty industry. JVs with China's leading industry players: CNHTC Dongfeng Motor Shaanqi Group Beiqi Futian. DONGFENG Trucks China National Heavy-Truck Corp. (CNHTC) Chongqing Chongqing - China's largest independent municipality, with population over 30M CNHTC is a state-owned enterprise (SOE) Third largest domestic truck manufacturer in China Customer of Cummins; licensee since 1981 Its plant in Chongqing produced Cummins B engines under license for internal use (i.e. for CNHTC trucks) License fee: -42000/engine (exchange rate: US$1 = 48) Chongqing's Location in China Map Chongqing CNHTC Interests in JV Chongqing Cummins Engine Co. Diversify into engine production Tech transfer and management practices from Cummins Use Cummins engines as standard for all its trucks Scale economies Simplify maintenance training and parts management across its dealership and service network Contribute existing plant in Chongqing as in-kind partial investment towards JV Production facilities, valued at US$8M Auxiliary building (e.g. cafeteria, staff residences), US$3M Other non-core assets, US$1M JV to employ all plant personnel Tiia 14 NON CURVES ENGINE COMPANY LIM CCEC - a JV in Chongqing Problems within the Chongqing JV In 1993, Chapman completed negotiations to set up a JV with CNHTC JV named 'Chongqing Cummins Engine Co.' (CCEC) CCEC would produce the Cummins B engine series for CNHTC and other customers (e.g. other truck manufacturers, electric companies) CCEC was valued at US$30 million CCEC was based on the CNHTC plant and kept all its 3000 employees 1. Operations 2. Management conflicts 3. Relations with Party members 4. CNHTC Cummins CCEC 1. Operations Problems, 1999 2. Management Conflicts Profits remained slightly positive A six-sigma evaluation reviewed CCEC had fallen short on every measurable criterion: operating environment, product quality, working capital, process capability, productivity, sales and finances Bad debts and A/R mounted High inventory . Considered a positive by Chinese managers Absorbing an SOE operation unexpectedly challenging: Keeping 3000 employees with perks: dormitory, primary school, technical school, clinic, cafeteria and guest house Reduced to 1500 through attrition and early retirement incentives First Cummins GM at CCEC did not speak Chinese Top management team of CCEC clashed repeatedly due to differences in expectations, management style, language, culture and a generation gap In 1998, Cummins hired new GM, Peter MacInnis, an outsider to the industry who knew China and spoke Mandarin; and transferred Kirpal Singh from Cummins India as new plant manager, who was also familiar with China CNHTC sent new executive, Han Ruilin, who cooperated well with Macinnis as both were new, with no prior baggage 3. Relations with Party Members 4. CNHTC 40% of employees were party members Key positions were all party members Local Party rep, Zhao Peimin, wanted to be treated as a partner in the JV and typically behaved as such MacInnis treated him as a labour rep only Han, a party member himself, was caught in the middle Perceived friction between Zhao and Macinnis also caused difficulties with employees CNHTC, as JV partner, had not been following through with its commitments promptly Sole sourcing of engines from CCEC for its trucks Transfer pricing negotiations Calibre of seconded personnel Recently Chinese Central Government absorbed the ministry that controlled CNHTC Transferred CNHTC's JV equity to the Chongqing municipal government Joint Ventures with DFM City of Chongqing - New JV Partner In early 2000, CNHTC's CCEC shares were finally officially transferred to the City of Chongqing. Chapman was preparing for the first official meeting with city officials, led by Mr. Zhang, the deputy mayor to discuss the future of CCEC and related issues and opportunities of mutual interest. Chapman had dealt with Mr. Zhang in the past and considered him frank, trustworthy and reliable. In many ways, this meeting would be the first board meeting between the two JV partners: Cummins and City of Chongqing Chapman would like to use this opportunity to do a re-set for CCEC and to bring the JV back to the right course. Cummins JVs with DFM DFM Distribution Network Cummins had two successful JVs with DFM 1. DCEC (Dongfeng Cummins Engine Co.) Located in Xiangyang DCEC A greenfield start-up to produce the Cengine series: Higher power than B engines . Both automotive and non-automotive applications Phase 1: 275 people; annual production capacity of 25K Cengines 2. JV in Shanghai with DFM subsidiary to produce engine filters Chapman had befriended Mr. Chen, CEO of DFM over the years. Through conversations with Mr. Chen, Chapman was aware that DFM had 400 locations that serviced DFW trucks with Cummins engines However, to Chapman's surprise, Mr. Chen viewed the aftermarket as a cost of selling, not a profit centre. . Chapman estimated that the ROI for DFM from these service centres was at best 5%. CCI Distribution & Service Network The CCI distribution and service network consisted of branches in 10 major cities in China, with a total of 150 locations Chapman estimated that CCI's investment in each of these locations averaged about US$1 million, plus working capital of US$0.5 million. The average ROI of the CCI distribution and service network was about 20% Chapman's Vision A National Distribution & Service Organization In early 2000, China prohibited distribution and service of auto products in any plant except those produced at that plant However, CCI, as a holding company, could import and export parts and components, thereby circumventing this restriction. Chapman wondered whether a business opportunity arose for a national distribution and service organization across China to support DFM trucks Other trucks with Cummins engines, Non-truck Cummins customers Chapman believed that under proper management, the business potential and upside for a combined distribution and service organization between CCI and DFM could be very attractive. In late 2000, Chapman believed that there could be a real business opportunity for a joint national distribution and service organization for DFM trucks and non-DFM trucks equipped with Cummins engines. He was confident that if he built up the business case properly, he would receive backing from his boss, the CEO of Cummins. Accordingly, he set up a meeting with Cummins' long-term partner and his friend, Mr. Chen, CEO of DFM, to discuss the establishment of such a national distribution and service organization, as a new 50/50 JV between DFW and Cummins China Inc. In Chapman's mind, this new JV would (a) take over all existing distribution and service centers (150 from CCI and 400 from DFM) as part of the partners' respective in-kind investments towards the JV, and (b) establish an additional 250 new distribution and service centers so that the JV would operate a network of 800 centers throughout China. For planning purposes, Chapman estimated that the average market value of these 550 existing centers was about US$1 M each, and it would take a similar amount to build a new center. Working capital required was about US$500K for each center. From a recent casual conversation with Mr. Chen, Chapman estimated that the ROI for DFM service centers was less than 5%. Chapman was confident that adopting Cummins' management system, the JV could improve that figure to an overall average of at least 15% for all JV service centers. Q1. Estimate the total capital required for this new JV. Explain how you arrive at this figure. Q2. As Chapman, what do you think Mr. Chens redline conditions (both financial and non-financial elements) would be? Explain your rationale. Q3. As Chapman, what are your own redline conditions? Explain. Q4. What do you think is Cummins BATNA? Explain. What do you think is DFM BATNA? Explain. Q5. What you would consider as a reasonable ZOPA (zone of possible agreement) for both parties? Q6. What are some negation issue in this case