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Saturday, Feb. 25, 2012

Beware that Kodak moment

Special to The Japan Times

HONG KONG — Memo to Japan's cutting edge high-tech companies: Remember that Kodak moment. Eastman Kodak, the onetime film giant and inventor of the digital camera recently humbled into bankruptcy protection, was a victim of its foolish policy of outsourcing key operations far from its factory floor in Rochester, New York, claims Willy C. Shih, professor of management practice at Harvard Business School.

"That Kodak moment" was for many years a widely used slogan for capturing a special moment for ever on film.

Shih has a special vantage point besides that of a Harvard Business School professor: before joining Harvard, from 1997 until early 2005, he was president of the consumer digital and applied imaging business at Kodak. His argument is that although there may be short-term financial attractions for high-tech companies in outsourcing grunt work of basic manufacturing and assembly to places where labor is cheaper, managements must be careful not to throw the baby out with the bath water.

He uses a concept which he calls "industrial commons," meaning a critical mass of people, ideas, manufacturing, engineering and research and development facilities that are crucial to new product development, and which must not be lost if a company is to keep its technological advantage.

Shih's thoughts on Kodak's decline and fall are in a weekly newsletter from Harvard Business School called "Working Knowledge." The article is titled: "Kodak: a parable of American competitiveness," and it has sparked pages of comments. Shih himself has been researching the dangers and opportunities of outsourcing over several years.

He explains that developing and executing a manufacturing process often sparks ideas that lead to creation of innovative new products. So when companies send production of items like televisions and memory chips to be outsourced abroad, they risk losing the critical expertise to produce the next generation of cutting-edge products like high-end servers and electronic paper displays for e-readers.

In the specific case of Kodak, founded in 1880 by George Eastman, and for decades synonymous with film and cameras, from Hollywood blockbusters and Oscar winners to hometown family snaps, Shih comments that, "Much of the camera technology was invented in the United States, but U.S. companies gave it all up. Because of the decisions of managers in the distant past, the United States had lost its capability to make all the critical components that were needed to put together digital cameras."

When he started at Kodak, Shih noticed that the significant pieces used to make the company's digital cameras, such as lens, shutters and electronic screen displays, were all manufactured far from the Rochester factory floor, and American companies had ceded much of the camera-related technology to Japan years earlier. In addition, he says that he understood how mobile telephones, also being made outside the U.S., would steal business away from digital cameras.

Kodak is only one case among many, says Shih, where the U.S. is not so much losing the battle as throwing its weapons away. He cites large areas of energy storage and green energy production, including lithium-ion batteries for mobiles and laptop computers, silicon solar cells and power semiconductors for solar panels. This means that thin-film solar cells, the latest solar-power technology will be beyond American capabilities.

In an article jointly written with another Harvard Business School professor, Gary P. Pisano, in the current issue of the flagship Harvard Business Review, the authors offer a longer list of manufactures where production has migrated and damaged American technological leadership. They cite: flat-panel displays, machine tools, metal forming, including castings, stampings and cold forgings, precision bearings, optoelectronics, solar energy and wind turbines. For good measure, they add, "In other industries, such as biotechnology, aerospace, and high-end medical devices, the U.S. lead is now endangered."

Design is a crucial matter, Shih argues, especially in promoting all-important innovation. He notes that Apple, which has outsourced much of its manufacturing of its popular devices, including iPhones and iPads, insists on keeping design inside its Silicon Valley headquarters.

Shih laments a decline in interest in science and in government investment in basic science research and mass production. "During World War II, the American public believed science won the war with the atom bomb, radar, computer technology, antibiotics. There was a feeling that if we invest in science and technology, it would lead to jobs and prosperity, and for that, the United States was an unquestioned leader."

He and Pisano also look at the experiences of China and Taiwan. They say that in 1986 four Chinese academics met government officials to develop a "wish list" of strategic capabilities for the country to focus on. As a result of that meeting, China went on to develop and capture the supply chain for the global electronics industry, which will ensure its dominance for years to come. Taiwan, they say, took strategic decisions and today owns 70 percent of the global semiconductor foundry capacity, an industrial commons that allows it to be a critical player in flat-panel displays and energy-efficient lighting.

In their article Pisano and Shih assert that, "Too many American companies base decisions on how to source manufacturing largely on narrow financial criteria, never taking into account the potential strategic value of domestic locations. Proposals for plants are treated like any other investment proposal and treated to strict return hurdles. Tax, regulatory, intellectual property, and political considerations may also figure heavily in the conversation. But executives, viewing manufacturing as a cost center, give short shrift to the impact that outsourcing or off-shoring it may have on a company's capacity to innovate. Indeed, most don't consider manufacturing to be part of a company's innovation system at all."

They admit that it can be "devilishly difficult" for a company to know whether manufacturing is critical to innovation, and suggest that one criterion should be the maturity of the manufacturing technology. The two authors in a 2009 HBR article opposed the bailout of the U.S. auto industry.

Another important factor, they say, should be the degree of modularity between research and development and manufacturing. In some industries, the same process technology is used to manufacture just about any product design, so that designers do not have to worry, or even understand, the process. But in others, especially biotech and advanced materials, "every conceivable product design requires a unique manufacturing process," so close links are required between designers and the factory.

The writing is there on the wall for Japan Inc. Company after company, especially in flagship automaking and electronics, have said that the high yen is forcing them to relocate production elsewhere. A lot of production is now based in Thailand; China is also a Japanese favorite. The lesson is to be careful, not least because Chinese labor is getting more expensive.

The Japanese might also be careful about any advocacy of government intervention. Yes, funding for research is a good idea, but the record of MITI (predecessor of today's METI) in the business of picking industrial winners was more mixed than government and many academics now think.

Above all, Shih is saying that in spite of advances in Internet and communications technology, being in the same room with other key team players can spark a chemistry that all the high-tech communications in the world cannot. The famous "water cooler moment" — indeed that Kodak moment — requires personal contact.

Kevin Rafferty is editor in chief of PlainWords Media.

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