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View, Issue 13 — Doing business in a changing China: Seeking similarities, respecting differences

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As the fastest-growing major economy in the world, global companies want to be in China. But doing business in China also means feeling your way through the country's complex history, politics and …

As the fastest-growing major economy in the world, global companies want to be in China. But doing business in China also means feeling your way through the country's complex history, politics and culture. Leading U.S. companies are succeeding by embracing local ideas and values—stability and prosperity—as part of their own strategies.

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  • 1. view In this issue 32 Cloud computing gets strategic 42 Customizing healthcare 66 Trust but verify 78 Interview with economist Anatole Kaletsky and more… Doing business in a changing China Seeking similarities, respecting differences 14 issue 13
  • 2. Departments 2 My view Focusing on business Bob Moritz 28 Two views China’s policy debates 86 Rear view Does your company operate in China? View points 4 Weighing in on the world’s cities 6 Selling the smart grid 8 Defining the lead director role 10 The rise of the public-private partnership 12 Understanding the Dodd-Frank Act Features 14 Cover story Doing business in a changing China As they tackle the considerable day-to-day challenges of doing business in China, savvy US companies are co-opting that country’s long-term interest in stability and prosperity into their business strategies. Alan Chu Page 30 Aligning your talent strategy to China business strategy Does your talent strategy reflect the ever-changing realities of China? Alan Chu and Lawrena Colombo 32 Cloud computing gets strategic Reducing technology costs is just the starting point— learn about cloud’s potential to speed innovation, boost customer responsiveness, and create new revenue opportunities. Phil Garland, Rob Gittings, and Mike Pearl
  • 3. view issue 13 Find out how companies are adapting their strategies to China’s dynamic environment, page 14. VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY 42 Customizing healthcare How a new approach to diagnosis, care, and cure could transform employer benefits in a postreform world. Kelly Barnes, David Levy, and Sandy Lutz Page 58 Personalized medicine What it means for patient-centered healthcare. Gerry McDougall and Matthew Rosamond VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY VERIFY 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Today, the term can be used to describe a strategy for narrowing the “trust gap” not between nations, but between companies and stakeholders. Steve Del Vecchio, Chris Thompson, and George Galindo 78 Interview Capitalism reset Anatole Kaletsky looks at how markets and governments affect our financial future. Interview by Gene Zasadinski
  • 4. By Bob Moritz Bob Moritz is chairman and senior partner of PricewaterhouseCoopers LLP. My view Focusing on business We live in challenging times. Recovery, bailouts, stimulus, reform, regulation—this dizzying menu of unfolding events has led to an abundance of widely diverging views, all vying for attention. As you might expect, the state of the economy continues to divide economists and business leaders into negative and positive camps. And there’s plenty of evidence to support both sides. Where do I stand? My position is one of optimism—a position that I believe I share with a growing number of successful businesses. Let me explain. There’s no question that the optimism we felt in January about the recovery has been 2 PwC View issue 13 dampened by a turnaround that is slower than expected. Unemployment remains high, the housing market is stagnant, and deficits are raging. But those developments are not the whole story. On the brighter side, corporate profits are up, financial stocks rallied at the prospect of substantive reform, and dealmaking is accelerating. Therefore, while uncertainty continues to reign in our economy, there is plenty about which we can be hopeful. And many businesses—PwC included—are not allowing a sluggish recovery to derail plans for moving their organizations forward. Over the past few months, my conversations with CEOs have borne this out. They’ve pared back their optimism a bit, but they’re certainly not throwing in the towel. Some companies are accelerating their strategic agendas. They are, in a sense, retooling to adapt to new circumstances and taking advantage of opportunities in technology, cost containment, talent availability, and global business. In short, there’s a new dynamic in play, one in which both caution and optimism coexist. Right now, there’s a delicate balance between the two. But I believe that positive forces will win the day, and when that tipping point occurs, normal business behavior will come roaring back.
  • 5. While uncertainty continues to reign in our economy, there is plenty about which we can be hopeful. And many businesses—PwC included— are not allowing a sluggish recovery to derail plans for moving their organizations forward. In the US and globally, signs of this are already observable in, for example, significant gains in industrial production, robust export growth, and gradual improvement in credit availability. Like many companies, PwC is responding to this new dynamic in positive ways. We’re moving forward with our strategic agenda by growing our business in ways that reflect our confi­ dence in the future. For example, in August, we announced our intention to acquire Diamond Management & Technology Consultants, Inc., to build on the expertise and resources we need to better serve our clients and stakeholders and to grow our firm. We’re not retrenching. We’re looking ahead, anticipating our future needs and those of our clients. You might have noticed that this issue of View features a new look and displays our new logo, changes that go a lot deeper than just new colors and a new type font. We changed our visual identity and brand expression to better reflect changes in our organization as we have adapted to the changing marketplace. Like you, we understand it’s a new day in which the watchwords are insight, relationships, trust, and value. So, in which direction should companies be heading as this new era unfolds? The choice is clear. You can succumb to paralysis engendered by fear, do nothing, and let your competitors pass you by. Or, you can acknowledge risk, adapt to it, reset your priorities, and move forward aggressively on your strategic imperatives. I think you know where I stand. President John F. Kennedy once said, “Change is the law of life.” The economy is gradually improving, and we need to watch it carefully. But as we do, let’s embrace change and bring the right focus. That is the surest path to short- and long-term success. That’s my view. What’s yours? We’d like to know. Send us your comments at pwc.com/view. PwC View issue 13 3
  • 6. View points Global opportunities Weighing in on the world’s cities Move over London, New York, Paris, and Tokyo. Make way for a new breed of emerging global cities. A recent study that looked at 21 of the world’s strongest finance and commerce hubs has found that though those powerhouse cities still dominate in certain key quantitative indicators like economic clout or strength of currency, the world’s so-called second cities may have more to offer qualitatively.1 For instance, Chicago, Singapore, Stockholm, Sydney, and Toronto excel in quality-of-life indicators, 4 PwC View issue 13 such as intellectual capital, sustainability management, and city livability. Put differently, the most desirable cities socioeconomically may be the most well-balanced ones that offer both resources to businesses and livability to residents. One of the keys to a wellbalanced city is what might be called “smartness.” Intellectual capital is at the core of a city’s appeal; a strong intellectual base not only attracts investment but can also foster innovation. On the flip side, a brain drain deflates a city’s potential for vibrancy. A more educated population is a strong indicator of intellectual capital, as is the presence of well-regarded institutions of higher learning. Stockholm, for example, leads with the highest percentage of higher-educated people, followed by Paris and Tokyo. London and Singapore offer the largest share of top business schools, whereas Paris and New York have the largest share of top 500 universities.
  • 7. Rating the world’s business hubs To k yo To ro nt o m ey ol Sy dn or e kh St oc gh Si ng Sh an l ap ai o ul Se ou go Pa ia nt Sã 15 20 4 3 10 12 5 21 9 19 18 Diversity 10 18 5 14 9 3 20 15 6 9 21 5 1 16 11 9 9 2 18 13 19 City livability 7 15 5 17 14 4 12 13 2 1 10 18 8 4 9 6 11 19 20 17 21 Air quality 5 12 8 16 5 19 16 8 1 5 9 16 5 12 12 8 19 21 19 16 21 City carbon footprint 2 5 1 14 9 19 14 4 17 11 10 12 18 20 8 3 7 16 21 15 6 Demographics and livability Sustainability C N 2 M 11 M 13 Lo 16 Lo 1 Jo 6 H 17 Fr 7 % of population with higher education Du 14 Intellectual capital hi 8 Be Sa o um ity ba i ew Yo rk Pa ris C o ic ex s An ge le s bu on es nd ng ha nn Ko t g kf on an i ur go ba ca ijin g rg (Representative categories) 1 Source: Cosponsored by the Partnership for New York City and PricewaterhouseCoopers, Cities of Opportunity, 2010 Sustainability has become increasingly important to urban city planning, businesses, and residents alike. According to the study, the greenest city is Stockholm. The Swedish capital scored the highest in air quality and percentage of green space. It also led in the indicator green cities—a composite of raw data such as garbage production per capita, gasoline and electricity prices, smoking laws, and private vehicles per capita. Seoul and Sydney are also well-planned sustainable cities, topping the ranks in recycled waste and smallest city carbon footprint, respectively. Aside from smart and green, a city should also be livable. Looked at from the standpoints of education, infrastructure, culture and environment, healthcare, and stability as city livability factors, second cities overtake the power cities of New York, London, and Paris. Toronto, Sydney, and Stockholm all provide greater quality of life with regard to livability. Cities should also provide the right balance of demographics to create a cosmopolitan atmosphere. Diversity of population, for example, is an important indicator in any major metropolis, as diverse nationalities and ethnicities suggest that a city is open to new peoples and ideas. 21 highest lowest To no one’s surprise, New York and London lead with respect to diversity, but Toronto, Chicago, and Sydney also attract a significant number of people from around the world. Despite the rise of the second cities, the traditional powerhouses of New York, London, Paris, and Tokyo are still attractive hotspots. But such cities also face challenges from emerging and maturing cities that increasingly offer better livability and affordability for both businesses and residents. 1 Partnership for New York City and PricewaterhouseCoopers, Cities of Opportunity, March 2010. PwC View issue 13 5
  • 8. View points Cleantech Selling the smart grid For the first time, the utilities industry is preparing to deal with a challenge it has not encountered before: customer relations beyond billings and outages. As cities across the United States gear up to introduce the smart grid, utilities are hoping to find ways of convincing customers that the new technology is beneficial. Unlike smart-grid deploy­ ent m challenges such as costs and infrastructure development, marketing is one area of business strategy in which utilities are not known for their expertise. With the government allotting $4.5 billion in smart-grid provisions under the American Recovery and Reinvestment Act of 2009, customer adoption and satisfaction are keys to making a successful transition to a digitized electricity grid.1 Utilities may need to get down to marketing basics by educating consumers on what a smart grid is: a digitized electricity grid that allows for two-way communications between consumers and utility companies at a minimum. Essentially, the smart grid—and its enabling technologies—will let consumers access their energy consumption information in real time. Electricity prices could be displayed at all times, thereby enabling customers to make informed decisions about how and when they use energy, helping them to reduce their energy bills. But this will not be easy. Sixtyeight percent of Americans have no knowledge of the smart grid, and 63 percent have never heard of a smart meter. Privacy is also a major concern. In fact, 22 percent of Americans surveyed did not want utility companies to know about their electricity usage and habits in real time. Demographics matter, too. The technologysavvy population—mainly younger consumers—might be an easier sell than older consumers, who might feel that operating smart meters adds an unnecessary layer of difficulty to their lives. In regions that have already deployed smart meters, companies have found that ignoring consumer education is a big mistake. In California, for example, a backlash occurred when a utility company didn’t educate its consumers on rate changes >. . . . . . . . . . . . . . . . 6 PwC View issue 13
  • 9. 68% of Americans have never heard of the smart grid. and the billing impacts the new rates bring. More than simply complain, consumers launched protests and initiated lawsuits. Despite such setbacks, steps are being taken to win con­ sumers over. The American Council for an Energy-Efficient Economy launched a program called Behavior and Human Dimensions of Energy Use. The program focuses on gathering consumer feedback on advanced metering. Earlier this year, a new nonprofit coalition of utilities, academics, and smart-grid companies formed the SmartGrid Consumer Collaborative in .. an effort to better understand consumer needs related to the smart grid. Ultimately, utilities are rethinking their customer relationship strategies. The two-way communication capability of the smart grid is forcing utilities to change the traditional approaches they take to engage customers, and the success of the smart grid will be measured by the benchmarks of customer adoption and participation. 1 PricewaterhouseCoopers, Smart grid growing pains, May 2010. +. . . . . . . . . . . . . . - kWh PwC View issue 13 7
  • 10. View points Governance Defining the lead director role In the aftermath of a number of corporate scandals, the New York Stock Exchange established a new position six years ago to foster greater transparency and accountability among senior leadership. The new role, lead director, offers an alternative to splitting the combined chairman-CEO role. The lead director serves as an independent chief among all board members and thereby helps ensure board relations run smoothly. But since the introduction of the new position to corporate America, there’s been little consensus regarding the responsibilities a lead director should assume. A recent survey sheds light on lead directors, having found that they excel in improving board performance, in strengthening relationships with the CEO, and in providing leadership in crisis.1 Lead directors drive highperformance boards. Many lead directors improve board performance by facilitating board discussions, by helping directors reach consensus, and by keeping board matters on track. In fact, all of the lead directors surveyed said they had the authority to call executive sessions and to preside over them. They may help deal with difficult or underperforming Lead directors by the numbers 65% of companies surveyed have had lead directors for 4 years or more. 8 PwC View issue 13
  • 11. 73% of lead directors have had active roles in managing crises during the past three years. directors as well—a task that has traditionally fallen to the chairman or CEO. Possibly the most important contribution is lead directors’ dialogue with CEOs about substantive business matters or governance issues. A majority of lead directors said they speak with CEOs more than five times between board meetings. That’s 45% of lead directors are serving for indefinite terms. 35% of lead directors are serving for 1 year. much more often than they speak with other directors. Relations between CEOs and boards can be rocky, and lead directors help maintain open communication across the boardroom. And with half of lead directors serving as former CEOs, it’s no surprise that they have the capability to build productive relationships between the board and CEOs. 65% of lead directors were selected to serve by independent directors. Past leadership expertise comes in handy—especially during a crisis. Seasoned leadership expe­ ience equips these direcr tors to collaborate with CEOs and offer new perspectives in times of trouble. In fact, 73 percent of lead directors have had active roles in managing crises during the past three years. 54% of lead directors serve on average an additional 6 to 10 hours per month in their roles—beyond the amounts of time they spend as directors. As companies gain more experience and feel higher levels of comfort with lead directors, lead directors’ roles are likely to continue to evolve. Nevertheless, the lead director role has proved to be successful for most, with 65 percent saying their positions have provided significant benefit for their companies. 1 PricewaterhouseCoopers, Lead directors: A study of their growing influence and importance, April 2010. 75% receive additional compensation to be lead directors, ranging from $5,000 to $150,000 per year. Source: PricewaterhouseCoopers, Lead directors: A study of their growing influence and importance, 2010 PwC View issue 13 9
  • 12. View points Capital projects and infrastructure The rise of the public-private partnership The number of deficient dams has risen to more than 4,000, including 1,819 high-hazardpotential dams. The average age of all federally owned or operated locks in the nation’s inland waterways is nearly 60 years, well past their planned design life of 50 years. Estimated cost to repair: $125 billion. An estimated $148 billion in improvements will be needed to accommodate the projected rail freight demand in 2035. Poor road conditions cost US motorists $67 billion a year in repairs and operating costs, or $333 per motorist. More than 26%, or one in four, of the nation’s bridges are either structurally deficient or functionally obsolete. American infrastructure is in crisis. Many of America’s high­ ways, ports, airports, bridges, and rail lines have become outdated or are in a state of disrepair. Estimates suggest trillions of dollars are needed to modernize American infrastructure in order for the US to remain competitive. Last year’s American Recovery and Reinvestment Act addressed the lack of resources for infrastructure redevelopment by allotting $126 billion to it. Though a good start, that investment is far from sufficient to overcome 10 PwC View issue 13 Sources: American Society of Civil Engineers, Report Card for America’s Infrastructure, 2009; Cambridge Systematics, Inc., National Rail Freight Infrastructure Capacity and Investment Study, 2007; US Army Corps of Engineers, The US Waterway System—Transportation Facts, 2007 the fiscal constraints at the state and local government levels and to address the country’s critical infrastructure gaps. And that is why, in part, governments are turning to public-private partnership (PPP) models as one alternative approach for the funding of the redevelopment of infrastructure.1 Infrastructure is ripe for private investment, and government officials are giving the green light for such funding. Two years ago, Governors Edward Rendell of Pennsylvania and Arnold Schwarzenegger of California along with New York Mayor Michael Bloomberg formed a coalition called Building America’s Future, whose aim is to serve as an advocacy group for rebuilding America’s infrastructure via alternative methods. In addition, some 25 US states have enacted PPP-enabling legislation. For example, Delaware enacted legislation that allows local, state, or federal funds to be combined with private-sector funds.
  • 13. Public-private partnerships, when structured correctly, can produce win-win situations that benefit both the public sector and private sector through a combination of public-sector governance and private-sector capital and efficiency. The benefits of PPPs can be compelling. Public-private partnerships don’t simply provide much-needed capital for projects; they can also serve as models of efficiency and reliability and be champions of high levels of accountability and transparency. In addition, PPPs can be cost-effective and time efficient. For example, the preferred bidder’s proposal for the Denver Regional Transportation District’s Eagle PPP Project was approximately $300 million lower than the district’s budget estimate, and it also proposed to open the rail lines 11 months earlier than anticipated. structure that best fits the project as well as the skills and objectives of each partner. But public-private partnerships aren’t applicable to all capital projects. PPPs are suited for large, complex projects that have the capacity for meaningful risk allocation to the private sector as well as the potential for the private sector to earn a fair return on its investment. PPPs enable the public- and private-sector partners to develop a unique contracting Ultimately, PPPs, when structured correctly, can produce win-win situations that benefit both the public sector and private sector through a combination of public-sector governance and private-sector capital and efficiency. Getting this combination right is crucial to realizing the benefits of the PPP model. 1 PricewaterhouseCoopers, Public-private partnerships: The US perspective, June 2010. PwC View issue 13 11
  • 14. View points Financial reform Understanding the Dodd-Frank Act In July 2010, President Obama signed the Wall Street Reform and Consumer Protection Act, also known as the Dodd-Frank Act. The reforms resulting from the act will certainly have an impact on both financial services and nonfinancial services companies across the United States.1 new rule-making and enforcement powers for existing agencies. While comprehensive in its coverage, the act stipulates many specifics whose implementation has been left in the hands of both existing financial services industry regulators, such as the US Securities and Exchange Commission (SEC) and the Federal Reserve, and newly created ones, such as the Financial Stability Oversight Council and the Consumer Financial Protection Bureau. In fact, the new law mandates that 533 rules, 60 studies, and 93 reports be conducted over the next several years to further clarify the act’s requirements. Touted as a bill that will completely overhaul the finan­ cial regulatory system, the Dodd-Frank Act creates new regulators, regulates new markets, brings new firms into the regulatory arena, and provides The Dodd-Frank Act will clearly have a significant impact on financial services firms, but it could also have an impact on nonfinancial services firms. The act imposes increased oversight of the over-the-counter 12 PwC View issue 13 derivatives business and will require that many over-thecounter derivative contracts be executed on centralized exchanges. Nonfinancial services firms that utilize overthe-counter derivatives to hedge specific risks of their businesses could be faced with increased costs due to the changes, or they could even find themselves subject to oversight by the SEC or the US Commodity Futures Trading Commission. The act could also affect the cost and availability of credit for firms because banks will be subject to certain increased capital and liquidity requirements. Finally, firms’ retail financing arms could find themselves subject to oversight by the new Consumer Financial Protection Bureau and that bureau’s requirements. Some parts of the Dodd-Frank Act will go into effect this year, while others will go into effect over the next several years. The combination of the potentially widespread impact of the act coupled with the amount of uncertainty regarding its application makes it more important than ever for firms to stay on top of key developments regarding the act’s implementation. Companies are not waiting for the effective date to understand the potential impact of the act on their businesses. They are analyzing the act and monitoring developments at the regulatory agencies as mandated studies get completed and as proposed rules and regulations get drafted. Firms are also closely monitoring the political landscape, because the makeup of Congress can greatly affect the conduct and direction of oversight functions and the breadth of any technical corrections considered. 1 PricewaterhouseCoopers, 10Minutes on US Financial Reform, July 2010.
  • 15. The new financial regulatory architecture Key government institutions Financial Stability Oversight Council • egulating systemically important institutions and R recommending heightened prudential standards Federal Reserve (regulatory examiner of institutions) • BHCs and assets $50 billion • Designated nonbank financial companies Office of Financial Research • Systemic risk evaluation • Risk measurement and monitoring • Data collection • Research • Information sharing BHCs-Banks/ SLHCs-Thrifts Securities and securities-based derivatives Commodity futures and derivatives RIAs/RICs/ hedge funds Consumer financial protection Insurance Federal Reserve • ow responsible N for SLHCs Securities and Exchange Commission Commodity Futures Trading Commission Securities and Exchange Commission Federal Reserve/ Consumer Financial Protection Bureau US Treasury/ Federal Insurance Office Office of the Comptroller of the Currency • ow responsible N for nationally chartered thrifts Financial Institutions Regulatory Authority and Exchanges National Futures Association and Exchanges Boards of Trade State regulatory agencies State consumer protection agencies State insurance regulators Federal Deposit Insurance Corporation • ow responsible N for state-chartered thrifts State regulatory agencies State regulatory agencies State regulatory agencies BHCs: bank holding companies RICs: regulated investment companies RIAs: registered investment advisers SLHCs: savings and loan holding companies New regulatory body or expanded regulatory responsibilities Source: PwC Financial Services Regulatory practice PwC View issue 13 13
  • 16. Cover story Doing business in a changing China Seeking similarities, respecting differences 14 PwC View issue 13
  • 17. By Alan Chu Alan Chu leads PwC’s US-China Business Services. As the fastest-growing major economy in the world, China continues to offer global companies attractive investment and business opportunities. However, doing business in China also means navigating the complexities that arise from China’s unique historical, political, and cultural contexts. Despite the challenges, leading US companies are succeeding in China by developing collaborative relationships with Chinese stakeholders and demonstrating the agility to continuously adapt their strategies to the country’s dynamic environment. These companies are positioning themselves for long-term success by embracing the Chinese proverb qiu tong cun yi, which means “seeking similarities while respecting differences.” In doing so, they are co-opting China’s long-term interest in stability and prosperity into their business strategies. Despite the global recession, China has remained a bright spot for many Western multinational companies. According to the 2010 China business climate survey conducted by the American Chamber of Commerce in China (AmChamChina), 77 percent of respondents ranked China as one of their top three global investment priorities; almost all respondents indicated they were profitable or they broke even in China in 2009 despite the economic downturn; and 80 percent are accelerating their investments in the country this year.1 Charlie Denson, president of the Nike Brand, probably speaks for many when he says, “We’ve moved China off the emerging-markets list. They’re the fastest-growing market in the world. They have the capacity—and they’re building the capability—to become the biggest market in the world.” The size of the prize justifies such optimism. Since the economic reforms started in 1978, China has enjoyed an average growth rate of 10 percent. During the recent global recession, China overtook the US as 1 American Chamber of Commerce in the People’s Republic of China, 2010 Business Climate Survey Report, April 2010. PwC View issue 13 15
  • 18. the world’s largest auto market and energy consumer. This year, China surpassed Japan to become the second-largest economy in the world, after only the US.2 In 1980, China was not among the top 10 global economies by size. By around 2025, PwC estimates China’s economy will be larger than America’s and will grow to approximately 130 percent the size of the US economy by 2050. (See Figure 1.) This is likely to be true regardless of whether gross domestic product (GDP) is measured in US dollar terms at market exchange rates or purchasing power parity, because gradual appreciation of China’s real exchange rate during this period will eliminate the difference.3 Yet, as Western companies continue to place big bets on China, they are confronting new challenges. Benefiting from China’s economic expansion will require more patience and tenacity than ever before. 2 Bloomberg News, “China Overtakes Japan as World’s Second-Biggest Economy,” August 16, 2010. 3 PricewaterhouseCoopers, The World in 2050, 2008. 16 PwC View issue 13 Understanding the challenges Global companies are struggling with China’s seemingly contradictory political and economic policies. In some ways, China is moving toward aligning its processes with those in developed countries. In other ways, it continues to carry the risks and challenges associated with doing business in developing countries. Many multinationals fear that a more assertive China is increasingly employing instruments of state capitalism to promote economic nationalism at their expense. Thirty-eight percent of US respondents to AmCham-China’s 2010 survey reported feeling “unwelcome” to compete in the Chinese market, the highest proportion to express this sentiment since the organization began polling its members. In a letter to the White House earlier this year, America’s Coalition of Service Industries decried the new rules of doing business in China as “an unprecedented use of domestic intellectual property as a market-access condition [that] makes it nearly impossible for the products of American companies to qualify unless
  • 19. Figure 1: China’s rapid rise to the world’s largest economy 1980 2010 2025 1 United States 1 United States 2 Japan 1 China (projected) 2 China 3 Japan 11 China Sources: Various; PricewaterhouseCoopers, The World in 2050, 2008 they are prepared to establish Chinese brands and transfer their research and development of new products to China.”4 At the same time, China also seems to know—and appears willing to concede—that it cannot go it alone. At the World Economic Forum’s Annual Meeting of the New Champions, or the Summer Davos, held in China in September 2010, Premier Wen Jiabao said the Chinese government was committed to giving equal treatment to foreign and Chinese firms in its procurement decisions as well as to working with the international community on protecting intellectual property rights.5 Cheng Li, research director of the John L. Thornton China Center at the Brookings Institution, explains: “During the past three decades China traded its markets for capital and technology. That may be changing now, but China also cares about its relationship with the West, particularly with the United States. China still wants all kinds of things, including foreign markets, and the US remains the single-largest mature market in the world.” 4 Coalition of Service Industries news release, January 26, 2010. 5 Chris Oliver, “China’s premier assures foreign companies of fair treatment,” MarketWatch, September 14, 2010. So how are leading companies managing these contradictions and the resulting unpredictability? As Nike’s Denson points out, “It’s hard to say how China is going to evolve politically, economically, or socially when you get into the specifics of the various provinces, consumer segments, factions in the government, and so on. But what we do know is that they are going to continue to progress. Both the Chinese government and the Chinese consumer want more— that is, more access to the global marketplace and more prosperity from the global economy.”
  • 20. Appreciating the differences Many of the challenges of doing business in China arise from the country’s distinctive history and culture, its geographic diversity, and the role of the government. Comprising more than 20 provinces, dozens of ethnic groups, and hundreds of dialects, China presents a diversity that is in equal parts baffling and exciting. Making sense of it is not easy in an environment characterized by rapid and dramatic shifts. For example, for years, inland China’s main role has been supplying labor to coastal, export-oriented areas, but that’s changing rapidly. Now, by some estimates, around 60 percent of the government’s 4-trillionRMB stimulus package is directed inland in central and western China to such priorities as transportation, affordable housing, and rural infrastructure projects. With more-competitive History and ancestors exert strong influences on modern China, and a peek into the past shows why many Chinese believe their own institutions and processes are best suited to helping China reclaim its place as a leading economy. labor costs, a relatively untapped consumer market, and vast reserves of iron ore, natural gas, and coal, these parts hold great promise for entrepreneurs and established businesses alike. But for many companies, the hinterlands’ local bureaucracies, their rules and regulations, and their segmented tastes and preferences constitute a complicated puzzle.
  • 21. In China today, growth is still important, but addressing inequalities has acquired a new urgency; industrialization and urbanization are continuing at breakneck speed, but environmental efficiency has acquired new currency; exports are still critical to growth, but boosting domestic demand is now a priority. To succeed in this environment, it is important to recognize that local practices and customs are very entrenched in China. History and ancestors exert strong influences on modern China, and a peek into the past shows why many Chinese believe their own institutions and processes are best suited to helping China reclaim its place as a leading economy. China was the world’s dominant economy from the 10th to the 15th century and a pioneer in bureaucratic modes of governance to maintain economic, social, and political order.6 Today, with the return of considerable economic clout after a long period of decline, China seems eager to demonstrate its ability to address its structural problems and developmental challenges on its own terms. Appreciating the turning point in China’s development model, some companies say cooperation—not collision—is inevitable between businesses on both sides of the Pacific. In China today, growth is still important, but addressing inequalities has acquired a new urgency; industrialization and urbanization are continuing at breakneck speed, but environmental efficiency has acquired new currency; exports are still critical to growth, but boosting domestic demand is now a priority. In all of these shifts, leading US companies are finding new opportunities to grow revenues, increase profitability, and realize further efficiencies. 6 Angus Maddison, Development Centre Studies, Chinese Economic Performance in the Long Run, Second Edition, Revised and Updated, 960–2030 AD, OECD Publishing, October 2007. PwC View issue 13 19
  • 22. Figure 2: US FDI into China, as a proportion of total FDI received by China and China FDI into the US, as a proportion of total FDI received by the US, from 2004 to 2009 Figure 3: Proportions of greenfield investments and mergers and acquisitions in cross-border FDI 6 6 US greenfield investments in China: $55 billion (62%) China Total FDI received: $275 billion US FDI to China: $89 billion (32%) US MA in China: $34 billion (38%) United States Total FDI received: $1,126 billion China greenfield investments in US: $533 million (4%) China FDI to US: $11.5 billion (1%) China MA in US: $11 billion (96%) Source: PwC analysis based on Thomson Banker One MA fdiMarkets.com 2010 20 PwC View issue 13
  • 23. Figure 4: China’s cumulative outbound FDI to regions around the world from 2004 to 2009 1.6 5.2 (In percentages) 2.1 5.4 6.3 79.4 Source: PwC analysis based on Thomson Banker One MA fdiMarkets.com 2010 ASIAPAC: $181 billion Africa: $12 billion Chinese businesses increasingly aspire to “go global.” Take, for example, Chinese automaker Geely’s high-profile acquisition of Ford Motor Company’s Volvo brand. According to PwC MA research, in the first half of 2010, seven Chinese outbound deals exceeded US$1 billion in value, the largest being Sinopec’s US$4.7-billion acquisition of a 9 percent stake in Synacrude from ConocoPhillips.1 Chinese companies’ demand for high-tech goods and services from around the world is increasing rapidly as they strive to move up the value chain. This is all good news for the US because boosting American exports to China and attracting Chinese investment into the Figure 5: Yearly average US outbound FDI to China and China outbound FDI to the US (as a proportion of total FDI received by each country) from 2004 to 2009 (In percentages) US will help revitalize the American economy and create new jobs. Still, for many reasons— ranging from the Cold War legacy to tense negotiations over such issues as currency exchange rates—roadblocks to increasing trade and investment exist. For example, US Commerce Secretary Gary Locke recently faced demands in China for reforming US export controls­ that is, relax— ing restrictions on the sale of dual-use technology (technology with potential for military application) to China.2 Chinese companies, from oil major Cnooc Ltd. in 2005 to telecoms equipment maker Huawei more recently, have struggled to make rapid inroads into the US market because of alleged national security concerns. 60 The charts illustrate US-China cross-border investment patterns over the past five years. From 2004 to 2009, the US accounted for one-third of all foreign direct investment (FDI) received by China. In the same period, the US received four times as much FDI, to which China’s contribution was very small. (See Figure 2.) More than 60 percent of all US FDI into China is greenfield, while the Chinese are relying almost entirely on acquisitions as they expand into the US. (See Figure 3.) The Asia-Pacific region accounts for the vast majority of China’s cumulative outbound FDI during this period. In contrast, 32.3 40 24.5 30 10 0 -10 Central and South America: $4 billion the US, the world’s largest FDI recipient, received just over 5 percent of China’s outbound investment. This is nearly equal to Africa’s share. While it reflects that natural resources are a priority target for Chinese investors, the US lags behind the mature economies of Europe in receiving Chinese investment. (See Figure 4.) This may be gradually changing. Yearly averages show that US investments into China are large but declining, while China’s investments into the US are small but slowly increasing. (See Figure 5.) 1 PricewaterhouseCoopers news release, “China outbound MA deal activity up by more than 50%,” August 16, 2010. 2 “Wang Presses U.S. on Lifting Export Controls After Locke Pledge Over Scope,” Bloomberg News, May 24, 2010. 50.3 50 20 United States: $11.5 billion Eastern Europe: $5 billion Is protectionism a mutual concern? Western Europe: $14 billion 29.3 19.5 26.2 0.1 2004 US FDI to China 0.1 0 2005 2006 China FDI to US 2.5 2007 0.3 2008 1.8 2009 Source: PwC analysis based on Thomson Banker One MA fdiMarkets.com 2010
  • 24. Deng Xiaoping’s famous phrase mo zhe shi tou guo he, or “crossing the river by feeling for stones,” resonated throughout China. For many who participated in the growing pains of China’s economic transformation, an experimental, learning-by-doing approach paid off. Leading practices in China In the 1990s, Deng Xiaoping’s famous phrase mo zhe shi tou guo he, or “crossing the river by feeling for stones,” resonated throughout China. For many who participated in the growing pains of China’s economic transformation, an experimental, learning-by-doing approach paid off. US companies that carefully managed such risks as inadequate infrastructure and regulatory uncertainty—while taking advantage of China’s manufacturing prowess and market size—grew accustomed to reaping rich rewards. But now, as new patterns of growth, investment, and consumption emerge in the aftermath of the 2008–09 recession, successful Western companies are adapting to change by developing a more nuanced understanding of China’s dynamic sociopolitical and cultural processes. They recognize that China’s own commitment to many of its new priorities—rather than direct pressure from the West—may provide the strongest basis for cooperation and collaboration. Becoming adaptive and agile Yum! Brands—the parent company of restaurants Kentucky Fried Chicken, Pizza Hut, and Taco Bell—understands and adapts to China’s local practices and changing priorities. The first KFC opened in Beijing in 1987, and even as its fast-food restaurants expand rapidly throughout China, Yum! Brands continues to deliver an upscale dining experience. The company successfully operates in more than 650 cities in mainland China, managing upwards of 3,500 restaurants. The operating profits of its Chinese division grew to $600 million last year from just $20 million in 1998.7 Lily Hsieh, chief financial officer of Yum! Brands’ China division, says the company knew it “needed to adapt its brand essence to the local market in a way that offered distinctive value.” As Yum! Brands rapidly expands its presence throughout China, it is reaching far beyond the prosperous cities of coastal China. Thanks to a combination 7 Yum! Brands press release, May 4, 2010.
  • 25. of government push and market pull, inland China is emerging as the new epicenter of the country’s growth. A few companies recognize that just as Chinese corporations are competing against one another, so are Chinese provinces and municipalities—and that opens up new windows of opportunities. “There is a clear difference in operating styles compared with Beijing and Shanghai,” says Hsieh. “Our approach is to adjust expectations as we move farther west. We are investing more time and effort in these regions to educate people about the value of developing mutually beneficial propositions at mutually acceptable costs. While we actively engage regulatory touchpoints, we tend to go beyond the letter of the regulation—with an understanding of the human element surrounding that.” In China, that often means partnering with central and local authorities in supporting priorities such as maintaining social stability through steady employment and improving the environment through more efficient use of resources. “The government wants to see e-commerce grow, so we’ve been made to feel very welcome,” says S.C. Lee, executive vice president of California-based Internet electronics retailer Newegg. “We also provide intangible benefits—for example, by helping develop cities the government wants to upgrade.” Newegg, along with other companies, was invited to invest on favorable terms in Jiading, a suburb of Shanghai. Lee recounts how during last year’s economic slowdown, when other companies’ plans stalled, Newegg earned tremendous goodwill by becoming the first to complete its development in Jiading. At the same time, the company is tackling the inconvenient geographic variations in innovative ways. To deliver uniformly highquality customer service throughout China, Newegg has built its own logistics company for sorting and deliveries instead of relying on external dispatchers.8 8 Loretta Chao, “Newegg Bets on B2C Growth in China,” Wall Street Journal, May 19, 2010. PwC View issue 13 23
  • 26. Leading US companies realize that a judicious mix of competition and collaboration is key to success in China. That may seem contradictory to most, but some companies are eagerly embracing the concept. If the midsize Newegg’s greater nimbleness and heritage (it was founded by a Taiwanese American) provide it certain advantages in a changing China, large US companies have their own set of core strengths. Adept at tackling a host of issues, from coping with counterfeiting to increasing transparency and control over its supply chain, Nike is now confronting a new challenge in China: greater competition from local Chinese athletic apparel and footwear companies that can make morerapid inroads into inland China 24 PwC View issue 13 at lower price points. Nike, however, is confident of maintaining its market leadership in China. Denson explains: “We continue to emphasize creation of a very specific awareness around the Nike brand and what it stands for, and we have to continue educating consumers that there’s a difference. As economic prosperity continues to inch westward, it is opening up marketplaces and consumer accessibility; and we have the patience to wait for the consumer [in inland China] to trade up.” Collaborating and competing “together” There is a pragmatic appre­ ciation in China for how collaborating with the US will accelerate development and fulfill the aspirations of its fast-growing middle class. It is, however, equally important to acknowledge that as significant shifts occur in the complex and interdependent US-China business relationship, tactical changes will not lead to success. That’s why some companies are adopting a whole new approach in their China-focused strategies. Leading US companies realize that a judicious mix of competition and collaboration is key to success in China. That may seem contradictory to most, but some companies are eagerly embracing the concept. Take Goodyear, for example, which partners with local companies as its vendors while competing with them through brand power and differentiation in a booming domestic market. “The model we have built in China is make in China for China and buy in China for the rest of the world,” says Pierre Cohade,
  • 27. As China undergoes massive urbanization while building out distributed renewable energy and smart-grid and electric vehicle infrastructures, US companies have opportunities to deploy their technologies in Chinese markets more rapidly and on a larger scale than in their home markets. president of Goodyear Tire Rubber Company’s Asia Pacific region. In other words, the tire company operates a state-ofthe-art manufacturing plant in Dalian to produce highvalue-added consumer and commercial tires for the Chinese market while also maintaining a sourcing center in Shanghai for the rest of the world. Competition and collaboration go hand in hand in the cleantech sector, which comprises emerging environmental industries that aim to achieve the multiple goals of environmental protection, resource conservation, and economic growth. Virtually nonexistent five years ago, China’s cleantech market, aggressively backed by the Chinese government, is estimated to reach $1 trillion by 2013.9 While many in the US rue the cleantech race with China, some believe in harnessing China’s strengths to their own advantage. As China undergoes massive urbanization while building out distributed renewable energy and smart-grid and electric vehicle infrastructures, US companies have opportunities to deploy their technologies in Chinese markets more rapidly and on a larger scale than in their home markets. “The generally shorter productization cycles in China may well lead to accelerated commercialization of cleantech products,” says Victor Westerlind of venture capital firm RockPort Capital Partners. “It was the same with how 19th-century American industrialists copied British technology,” he adds. US-headquartered eSolar is just one example. Through a licensing agreement, the company has partnered with Chinese electric power equipment maker Penglai Electric to use its concentrated solar panels to help build at least 2 GW of solar thermal power plants in China over the next 10 years.10 Interestingly, such arrangements no longer follow predictable cross-border patterns. The Chinese government has signed cooperation agreements to license its highspeed electric rail technology to General Electric in the state of California, with the understanding that at least 80 percent of the components will come from American suppliers.11 9 The China Greentech Initiative/PricewaterhouseCoopers, China Greentech Report, 2009. 10 eSolar press release, “eSolar Partners with Penglai on Landmark Thermal Agreement for China,” January 8, 2010. 11 Keith Bradsher, “China Is Eager to Bring High-Speed Rail Expertise to the U.S.,” New York Times, April 7, 2010. PwC View issue 13 25
  • 28. Finding the right partner and managing the alliance, however, can be tricky in China. Practices such as due diligence processes, financial reporting systems, and communication styles are often not only different from those in the US but also varied across different Chinese regions. Forming strategic alliances with domestic Chinese companies When it comes to dealing with fierce competition from domestic Chinese companies that are armed with capital, skills, and hard-to-beat knowledge of the local environment, a few US companies are beginning to think outside the box. “There are a lot more ways to structure synergistic relationships than just traditional joint ventures. You have to think about how to enter the market by bringing along allies who are seeking not to keep you out but, rather, to compete vigorously with their own domestic rivals,” says Robert Kuhn, author and advisor to Chinese and foreign firms in China. Take the case of General Motors (GM). Last December, the Detroitheadquartered company reduced its stake in Shanghai General Motors Company to 49 percent. Its Chinese partner SAIC will have the right to approve budgets, strategy, and senior management appointments, but GM is securing its place in a lucrative market. China is now the world’s largest auto market, and GM sells more cars there than in the US. The relationship with SAIC will also help GM make inroads into other high-growth regions such as India, where SAIC is investing up to $350 million in GM’s existing operations to produce and market low-cost vehicles already successful in China.12 Finding the right partner and managing the alliance, however, can be tricky in China. Practices such as due diligence processes, financial reporting systems, and communica­ ion styles are often t not only different from those in the US, but also varied across different Chinese regions. Hsieh of Yum! Brands, describes her organization’s approach to finding partners in China: “Information accuracy and quality of management are the most important criteria. We find that companies already listed or on the path to be listed have better disclosure standards. We also spend a lot of time with senior management in order to understand their mind-set, sense of integrity, ground rules, and behavior styles.” 12 Norihiko Shirozu and Patricia Jiayi Ho, “GM, SAIC Reshape Partnership,” Wall Street Journal, December 5, 2009.
  • 29. Preparing for more than one future in China Ultimately, companies that are finding continued success or new opportunities in China’s evolving environment are those that are prepared for more than one future in China. “You have to be very adaptive and agile to be successful in China,” says Goodyear’s Cohade. “China forces you to change your business model; it forces you to acquire new competencies at a pace that is much faster than anywhere else.” Business agility is the key to thriving amid China’s constant change and, as China has evolved, so has Goodyear’s business model. Just six years ago, the company was selling the vast majority of its products to Original Equipment (OE) customers such as automobile companies. Today, the company is catering to an increasingly sophisticated car market. In the process, Goodyear has built significant brand awareness and established a branded distribution network from scratch, by providing training, development, and assistance for retailers around the country. “So many people are first generation here—that is, first-generation driver, first-generation retailer, first-generation mechanic—so even though people are brand driven, in many ways you’re starting from a clean slate.” Confident in its brand power and robust distribution network, Goodyear is now focusing on using multiple channels such as its own retail outlets and independent dealers to target various market segments with differentiated products. For Nike, being prepared for more than one future is also about continuously making strategic and operational adjustments to its supply chain. “We are comfortable having one foot on each side of the fence,” says Denson, explaining how the company’s two large manufacturing partners are choosing two different paths in response to China’s wage inflation, with one developing Vietnam as the new sourcing base and the other putting its faith in inland China. These leading companies know that accommodating the realities of China is not about embracing every difference. Rather, it means finding a common platform and recognizing China’s new priorities—whether that means developing the inland, generating employment, reducing inequalities, using resources more efficiently, or building up smart infrastructure. And it means partnering with China’s private and public sectors from a position of strength. An expanding and stable Chinese economy means greater opportunity for US companies that have the flexibility not just to weather change but to prosper from it as well. An expanding and stable Chinese economy means greater opportunity for US companies that have the flexibility not just to weather change but to prosper from it as well. PwC View issue 13 27
  • 30. “The political landscape in China today cannot be defined by any ideology or the policies of a strong leader like Chairman Mao or Deng Xiaoping. The leadership is becoming increasingly diversified, and the leaders’ views are also becoming more transparent. There is some public debate going on.” Cheng Li, Director of Research, John L. Thornton China Center of the Brookings Institution and author of China’s Leaders Two views In 2012, at least a dozen of China’s top leaders, including President Hu Jintao and Premier Wen Jiabao, are likely to retire, making way for the next generation of political leadership. The time is right to assess some of the different views on the vision for future development of the Chinese economy. For US companies, especially now, ignoring those different views could be a costly mistake. While China is a market prized above all, more and more US companies are perplexed by its increasingly unpredictable business environment. In particular, understanding and predicting China’s policy shifts and resulting changes in the commercial, regulatory, legal, and business landscapes can pose significant challenges to US companies seeking to develop a China strategy that will be properly aligned and reconciled with those changes. But how can we achieve that understanding? Some say the answer lies in revisiting our assumptions about China’s government. While still clearly a one-party system, China’s government is no longer a monolithic entity charting a linear course of economic development. Specifically, while China’s political leadership may agree in principle on the need to reform various parts of the economy, there isn’t always agreement on the process, timing, and degree of change needed to realize that vision of reform. Are US companies, then, at the mercy of unpredictable policy twists and turns in China? There’s certainly guesswork involved, but some companies are better at it than others. These companies are beginning to understand the different views within China’s leadership. By better understanding the different views, one can gain insights into China’s leadership and their decision-making processes. Of course, dividing China neatly into two categories is as much an oversimplification as dividing America into red states and blue states. But doing so is a way of beginning to understand the policy differences within the Chinese political leadership. More important, in the absence of a clear direction regarding exactly how the Chinese will reshape their economy, global businesses should know the differences and the commonalities in the points of view of Chinese leadership and develop strategies that can quickly adapt to this dynamic environment. While most of the differences discussed in the following chart are subtle and may appear to be even minor, they can have significant impact on businesses operating in China. 28 PwC View issue 13
  • 31. Within China’s one-party system, various entities are staking different positions on the important issues that will shape China’s socioeconomic future. The labels “seeking comprehensive reform” and “promoting the tried and tested” do not indicate that China’s political leadership is divided into clear-cut factions with distinct ideologies. Rather, the labels make for a convenient way of understanding two broad views around which diverse opinions, and not various individuals, have loosely coalesced. Seeking comprehensive reform Promoting the tried and tested Guiding principles • Promote scientific development to maintain social stability. Focus on addressing geographic and economic inequalities, encouraging environmental sustainability, and gradually promoting democratic reform. This will ultimately lead to the creation of a harmonious society. • Support continued economic growth in order to preserve social stability. Continue with existing governance structures, and emphasize the value of experience while cautiously embracing meritocracy within the political ranks. Industrial and trade policy • Spur the economic development of inland regions and second- and third-tier cities—for example, through infrastructure investments—to address social inequities. • Balance inland development with continued progress of tier one and coastal cities that have led China’s economic transformation. • Promote labor reforms to enhance worker rights, improve working conditions, and address income inequalities. • Manage the pace of labor reforms with an understanding of its impact on China’s global competitiveness (e.g., compared with such locations as Vietnam), wage-driven inflation, and employment generation that is seen as key to maintaining social stability. • Encourage domestic consolidation to create companies with the scale and strength to compete with global firms. • Support consolidation in key sectors while promoting the growth of small and/or private enterprise to foster entrepreneurial agility and innovation that will serve China well in the long term. • Aggressively implement environmental policies designed to reduce pollution. This includes providing greater market access to foreign companies in exchange for advanced technology. • Encourage participation by domestic companies in the cleantech industry. Harness the advantages offered by local companies to manage the costs associated with higher levels of environmental efficiency. Monetary policy • Consider renminbi revaluation to mitigate the risk of domestic inflation and reduce the import bill. • Resist renminbi revaluation because of concerns about its impact on export competitiveness as well as the appearance of bowing to foreign pressure. How they will boost domestic demand • Encourage government spending on social programs, including healthcare and education. • Balance spending on new priorities with existing ones. Establish clear standards—for example, related to the quality of healthcare—before determining levels of government spend. • Boost domestic demand and private consumption to move away from heavy reliance on export-led growth. • Sustain momentum for export-led growth that has delivered prosperity over the previous two decades. Value savings because of their impact on lowering the cost of capital and encouraging investment. “There is tension over how you build the society. Do you continue to focus on the wealthy areas to generate higher efficiencies, or do you do it in the rural and inland areas to avoid the instability that comes from greater and greater income disparity? The answer is, you do both in some combination, but they are arguing over the specifics on how to do it.” Robert Lawrence Kuhn, advisor to the Chinese government and author of How China’s Leaders Think
  • 32. By Alan Chu and Lawrena Colombo Lawrena Colombo is a partner in PwC’s People and Change practice. People and Change Aligning your talent strategy to China business strategy Does your talent strategy reflect the ever-changing realities of China? How can you implement rigorous recruiting and retention processes as well as develop future leaders to grow and sustain your business? Many companies are familiar with China’s current labor market trends, such as demands for pay hikes and better working conditions, high turnover rates due to a shortage of the commercial skills necessary for a global enterprise, and evolving labor laws like the one introduced in January 2008 to grant greater contractual rights to workers. On a daily basis, these companies are competing for talent in a market that is seeing a roughly 10 percent increase in salary every year and whose workers in the 25- to 30-yearold age-group stay in their jobs for a year or two on average. But a few companies are also paying close attention to the unique characteristics of China’s labor market that cannot be managed by simply tweaking human resources (HR) policies that originated or worked elsewhere, including other high-growth countries. Take agricultural and construction equipment manufacturer John Deere, for example. Dave Whan, the company’s director of talent management strategy and policy design, says, “In developing the 30 PwC View issue 13 employee value proposition in China—whether it’s compensation, recognition, or the intrinsic value of the work itself—where we place emphasis can vary region by region. To become an employer of choice in every region, our approach will be similar, but we’ll have to customize it based on feedback we receive from both current employees and the market.” John Deere is responding to a phenomenon some observers have described as China’s increasingly “segmented” labor market, wherein vast pools of labor in the countryside coexist with shortages in coastal cities.1 Addressing such evolving trends reflects the growing desire among leading companies to develop a talent strategy for China that is more assimilated to the local environment, believing it would be an important source of competitive advantage. In the critical area of leadership and talent development, for example, a few companies are recognizing that building up skills locally—rather than depending exclusively on expatriate talent—is necessary in an environment where complex social dynamics underlie all business interactions. S.C. Lee, Newegg’s executive vice president, who leads a strong Chinese American management team, feels strongly about this: “We employ several Americans who speak Chinese, and we send them to China both as expats and for short-term projects,” he says. “But we are very clear that we are sending expertise to China because we believe that general management responsibility resides locally.” At Newegg, the American employees focus on transferring skills and knowledge to the local Chinese, who in turn have the opportunity to work in the US headquarters on specific projects. Companies that are taking the lead in implementing such measures are among those whose business leaders demand more value from HR, such as to help grow the bottom line, quantify talent needs, recruit the best candidates, and develop and retain the highest performers.2 John Deere’s Whan says, “Management expects the HR community to be a proactive business partner. That requires us to have the business acumen to contribute to strategic conversations and respond with speed and agility to changing circumstances, such as when we are entering a new market.” In China, that can be particularly challenging not only because of profound cultural differences but also because of the rapid socioeconomic shifts occurring there. But with China becoming increasingly influential as both a market and a competitor, some companies are gradually adapting to specific Chinese practices. These companies are positioning themselves for long-term success by aligning their human capital strategy to China’s changing realties as well as the country’s cultural norms. When it comes to shaping and executing talent strategies for China, companies are at different stages of maturity. To create a roadmap for action, it may be useful to chart practices along this growth trajectory: becoming more efficient (optimizing), becoming more effective (growing), and innovating (leading).3 1 “The next China,” The Economist, July 29, 2010. 2 PricewaterhouseCoopers, 10Minutes on Transforming HR, March 2010. 3 This illustration makes use of PwC’s Competitive Leadership ModelSM, which helps map a company’s focus and vision, its position relative to industry peers, and an actionable plan for achieving market leadership.
  • 33. Optimize Acquisition Grow Lead • ely on expatriates for key managerial R roles. Recruit local talent by targeting top-tier universities and experienced candidates in coastal cities. • Target talent based on a thorough understanding of China’s diverse labor market, taking into account regional variations in wage inflation, labor laws, turnover rates, and skill sets. • Align recruiting strategies with long-term strategic priorities. Recruit with openness to Chinese managerial practices that are adapted to the domestic business environment. For example, Chinese-style communication skills and ability to understand and navigate relationships in regions where the company plans to expand may be important drivers of organizational success. • Emphasize English-language skills and familiarity with Western practices as prerequisites for recruitment. • Be alert and responsive to regulatory changes, and act in accordance with Chinese labor laws. Retention • Where local talent is not readily available, use expats as bridges to support and develop local management talent for the future. • Target the benefits to different segments of China’s diverse workforce. For example, offer higher compensation in coastal cities but more training and development in inland areas. • Create working conditions that comply with regulatory considerations such as labor and tax laws. This includes upholding health and safety standards, overtime compensation, nondiscrimination, etc. Engagement • Design monetary and other shortterm motivators as tools of retention. Incorporate benchmarking data on compensation to design salary ranges for target positions. • Offer a work environment aligned to stakeholder expectations. For example, recognize that younger, more-individualistic Chinese (typically products of one-child families) are demanding a higher quality of life, measured not necessarily by wages. • Start with job descriptions and organizational structures proven to have worked in the US, and gradually adjust them to accommodate local expectations around roles and responsibilities. • Create work processes that are assimilated to local issues such as an education system that is trying to keep up with rapid growth and global economic integration. For example, support growth and development in standardized roles and responsibilities; and as people excel, provide them with the developmental platform to move on to more-specialized functions. • Design HR operations to mostly mirror those in the US headquarters, with some adjustments to reflect cultural factors such as language barriers, communication styles, and attitudes toward hierarchy and authority. Leadership development • Focus on the development of Western leadership skills with less consideration of skills that may be relevant in the Chinese context. • Provide cross-cultural training to build knowledge and awareness regarding differences in norms, practices, and behaviors. • Provide guidelines and techniques for understanding and addressing underlying cultural biases and for establishing processes for conflict resolution and best practices that will address future issues. • Foster development of firm-specific skills, and use long-term motivators and hard-toreplicate benefits customized to different demographic groups. • Connect employer brand with consumer brand, recognizing the importance of employees as current and future consumers in a rapidly expanding market. Engage employees with the same ideas and concepts used for engaging consumers through unifying brand values—be it integrity, innovation, fun, teamwork, or other defining attributes. • Proactively address the risk of high turnover by developing dynamic and detailed standard operating procedures that account for Chinaspecific differences and challenges. • Offer incentives to employees to own the working processes, and continuously monitor the evolving environment to update and refine procedures as needed. • Create institutional processes to rally people around cross-border and cross-cultural initiatives. For example, engage Chinese Americans around Chinese business development efforts, and increase the exposure of talented Chinese nationals to other growing markets such as India and Indonesia to build future regional leaders. • Integrate China business strategy into the formal succession-planning methodology and leadership development plans. • Tap into personal and cultural differentiators of future leaders as a business-needs-driven rather than a diversity-focused strategy. • Invest in long-lead development items such as language skills and expatriate experience. • Recognize the competitive advantage offered by foreign-born executives in leadership positions in corporate America, and address the unique set of challenges involved in developing leadership talent from China as a matter of necessity for future success. • Conduct succession planning for key positions that need to be replaced by Chinese local managers. PwC View issue 13 31
  • 34. Innovation technology Cloud computing gets strategic Reducing technology costs is just the starting point
  • 35. By Phil Garland, Rob Gittings, and Mike Pearl Phil Garland is PwC’s US CIO Advisory Leader. Rob Gittings is PwC’s US Technology Sector Leader. Mike Pearl is PwC’s US Cloud Computing Leader. What a difference a year makes. Last fall, View introduced readers to what we called the latest technology trend to capture the attention of businesses, consumers, and investors alike. That description of cloud computing was apt: Momentum—along with considerable hype—for the new approach and its supporting technologies has been considerable. But the real impact is only now beginning to be felt. A year ago, cloud was squarely in the IT domain; now, it’s making its way to the boardroom. Phil Garland, Rob Gittings, and Mike Pearl— leaders in PwC’s Advisory, Technology, and Cloud Computing practices—explain why the real story is less about technology and more about business strategy. Most organizations today are no longer deciding whether they’ll use cloud computing. Rather, they’re asking how? Will we use software-as-a-service to provide CRM for our sales team instead of managing the application in-house? Should we take advantage of inexpensive, virtualized storage to meet our mushrooming data needs? Will a private cloud enable us to better leverage our technology investments among our different business units? Good questions—but all too often, the discussion ends there. And even more important, certain crucial stakeholders are missing from the dialogue. Yes, cloud is absolutely about facilitating better IT. But, as leading companies are discovering, it can also be much more than that. Those companies are taking a broader view: cloud as a new engine for business growth. The cloud you don’t know Cloud computing can play a strategic role for all companies, not just those in the technology or services industries. The vision is simple: By doing away with typical IT constraints— limited resources, consuming maintenance, and incompatible systems—cloud computing frees the business to pursue growth and innovation. In essence, cloud lets you say yes more often. Imagine that you could green-light as many as a half dozen new research and development (RD) projects instead of betting on just one or two. With cloud’s ondemand approach, it’s possible to quickly—and at a fraction of the current cost—equip teams with the resources they need. Rather than weeks or months, the supporting infrastructure for a project could be set up in just a few days. That kind of rapid start-up means companies could try many new ideas, quickly rejecting ones that weren’t viable in favor of ones that are most promising. PwC View issue 13 33
  • 36. Cloud computing finally brings businesses closer to a world in which technology can truly be an enabler, not an obstacle. Having more options is a compelling proposition. That was the case for Zagat Survey, the company behind the eponymous dining, travel, and leisure guides and website. When Zagat Survey began rebuilding the Web platform for its Zagat.com subscription service—one of its most strategic and fastest-growing businesses—it determined that using Amazon Elastic Compute Cloud (Amazon EC2) infrastructure was a better choice than managing the hardware in-house. With Amazon EC2, Zagat could easily test different hardware configurations to determine the best setup for the core service. 34 PwC View issue 13 Companies not held back by IT are free to capitalize on opportunities as they arise. For example, a company unexpectedly overwhelmed by a consumer response to a pop-culture phenomenon might want to quickly launch a Web promotion. Instead of scrambling to set up the required infrastructure, this short-term need could be met quickly with cloud-based resources. Or consider another way cloud can smooth out IT roadblocks to top-line growth. In, say, a merger or acquisition, system integration is often a complex and synergy-draining proposition. But think about how much more efficiently the two entities’ data and business processes could be merged if supporting systems resided in the cloud instead of being managed internally. Admittedly, it sounds too good to be true—as if you could merely snap your fingers and the supporting infrastructure needed for any initiative would magically appear. Of course, that will never quite happen. Cloud computing is no magic bullet. In fact, as a disruptive force, it raises a number of issues that companies need to carefully consider: strategy, finance, risk and governance, data security and privacy, technology, and its impact on other business functions. Yet cloud computing finally brings businesses closer to a world in which technology can truly be an enabler, not an obstacle. To deliver on that promise, companies find they need to formulate a comprehensive business strategy for cloud computing. Created by the executive team—not solely the CIO—such a strategy takes into account how cloud can best support the business, and it considers the changes the strategy would cause to the ways people work and make decisions.
  • 37. How cloud changes the business Capitalizing on cloud computing means being prepared for significant changes across the organization. The following describes just a few of the ways that cloud affects each functional area. Strategy. At the highest level, cloud computing becomes a new lens through which to view other business considerations. For example, how might competitors, particularly nimble start-ups or smaller organizations that are not wedded to legacy systems, use a cloud computing foundation to change industry dynamics? As the executive team identifies projected business benefits from using cloud computing and begins to articulate a strategy, it will also determine who is responsible for overseeing and implementing the strategy. Finance. Cloud will eventually bring changes to every aspect of the finance function, including financial planning and analysis, accounting, and tax. One of the most obvious changes will be in evaluating the total cost of IT ownership. How does a cloud-based solution compare with the traditional approach? Additionally, companies will want to look at the budgeting and depreciation impact of moving from fixed IT costs to variable ones. If a company is considering a private cloud, other considerations arise. For example, how will the investment be financed? And once it’s up and running, will the organization operate the cloud as a payas-you-go service by billing usage back to business units or departments—just like an external provider would? On the tax side, when companies buy (or sell) cloud computing services, they find it is crucial to determine exactly what is being exchanged. In a cloud computing scenario, a company might be leasing equipment, making service payments, or paying for a license to use software. Those distinctions are important and can have an impact on tax filings. Cloud computing transactions aren’t quite leases and aren’t quite services, but tax law requires that they be classified in one of those two categories. Eventually, tax regulations will be updated and clarified, but for now, they reside in a gray area. At the highest level, cloud computing becomes a new lens through which to view other business considerations. PwC View issue 13 35
  • 38. Companies reassess their strategy, looking at where cloud can accelerate projects or enable them to take advantage of new opportunities. Risk and governance. As did the disruptive technologies that preceded it—like the Web or e-commerce—cloud computing brings with it new risks to identify and address. Chief among them are security risks, particularly in the moving of company data to a third party for storage, processing, or support. These data integration and ownership concerns need to be addressed for the protection of intellectual property as well as to safeguard employee, customer, and partner information. Again, questions arise: What controls are in place to ensure appropriate access to customer data and other sensitive information? How is one company’s data segregated from the data 36 PwC View issue 13 of other customers that use the same provider? What securitybreach guards has the provider put in place? Even for companies establishing private clouds, security considerations exist, such as what type of security model is appropriate for the new environment. As they raise these questions, companies establish the criteria by which they will identify and evaluate potential cloud computing providers. They will develop company standards and determine the appropriate service levels for their organizations. They will also think about oversight, such as who’s authorized to make the final decision about using cloud for a specific project or who’s authorized to engage a cloud vendor. With cloud services so readily available, companies that don’t establish adequate controls risk creating an environment that’s rife with so-called shadow IT—technology that is neither centrally managed nor approved and that does not typically meet the organization’s standards. Companies considering those factors are also looking at whether providers can give thirdparty assurance about their operations. More and more cloud providers are undergoing a thirdparty assurance process—similar to the way more-traditional outsourcers undergo a SAS 70 audit of their controls and then furnish the report to customers and other stakeholders.1 While assurance standards are still evolving for cloud computing, providers realize that a report from an independent entity can ease customers’ concerns about security and privacy, among other issues. Technical. Obviously, moving to cloud computing means thinking through many technical issues. For example, the management team will consider the organization’s migration strategy as well as how data that resides 1 A Statement on Auditing Standards (SAS) No. 70, Service Organizations, is a report on the system of internal control related to the processing of financial reporting transactions by service organizations. A SAS 70 report is commonly used for satisfying the user organization’s requirement to assess the internal controls over financial reporting of the functions they outsourced to service organizations.
  • 39. How cloud computing reshapes the business When companies strategically adopt cloud computing, the impact ripples throughout the organization. Below is an overview of how things change and what the executive team considers in the transformation. Strategy. Companies reassess their strategy, looking at where cloud can accelerate projects or enable them to take advantage of new opportunities. They also look at how they are currently using cloud computing in the organization. People. Cloud computing moves organizations toward a service focus, rather than a functional one. As such, they begin reassessing their talent needs. For example, they look at IT staff and consider whether they have or can develop the IT architects they will need to design and manage cloud services. Processes. Changes to processes may be significant. For example, research and development will need to align more tightly with IT, as project planning and deployments are accelerated with cloud. Likewise, in a company’s finance organization there may be changes to how profitability, budgeting, and depreciation are handled. Technology. Regarding technology, new issues include how to address data security and governance in the cloud model, as well as how to support the business as it assumes more of a service focus. Structure. Changes in the organization’s processes may also affect how the organization is structured. For example, consider the impact that rapid and inexpensive deployment of technology could have on product development. How do governance models remain relevant and intact? in the cloud will be integrated with existing systems or other outsourced functions. The team will also think about how a cloud strategy affects its ability to fully control and monitor applications even though the systems or infrastructure may reside outside the organization. Beyond these more technical aspects, management will also assess the talent in its technology organization by ascertaining whether employees have the right skills to manage cloud-based infrastructures. Going forward, cloud computing will encourage organizations to adopt a service focus rather than a functional one. They’ll look at realigning operational resources to support business growth needs. And as their people develop expertise in cloud and enterprise architecture, they’ll contemplate how to retain valuable staff. Other functions. As enterprise IT continues to evolve toward cloud-based solutions, other, less obvious corporate functions will feel the impact. For example, marketing and sales strategies may change as companies incorporate cloud models into their own RD and product and service deliveries. Even a company’s legal department will need to rethink operations in light of cloud computing: Is the department prepared to review cloudrelated risks and liabilities? How will electronic discovery, or eDiscovery, requirements for litigation be met? PwC View issue 13 37
  • 40. A new kind of cloudpowered growth Cloud’s potential for transforming business could be far-reaching. Over the next decade, cloud computing could become the foundation for business growth—for virtually all types of businesses.2 As more and more companies move internal functions or business services to the cloud, a new type of ecosystem will evolve. The ecosystem will make it easier for businesses to (1) partner with one another by seamlessly integrating via the cloud and 2 For an in-depth look at how companies are moving toward that future, including interviews with executives at ADP and Amazon, see PwC’s Center for Technology and Innovation’s “Driving growth with cloud computing,” Technology Forecast, www.pwc. com/techforecast. (2) create and market new business services. Their internal functions can be made into versatile building blocks available to others, thereby creating new sources of revenue. Or businesses can create their own unique offerings by combining third-party services and functions that reside in the cloud. To get a glimpse of how this potential might be realized, look no further than two of today’s business services—and cloud computing—leaders: Automatic Data Processing (ADP) and Amazon. These pioneers, which are already using cloud computing technology to grow their businesses, are examples of what we Extensible enterprise E 38 PwC View issue 13 Consider how ADP has fared during the recent recession. Double-digit unemployment would seem to spell trouble for a payroll services provider, but ADP managed through the recession with flat revenues—in part due to its cloud computing strategy. One of the company’s Extensible enterprise A Figure 1: Network of business platforms When a company pursues an extensible enterprise strategy, it creates a platform of cloud-based services that are connected to cloud-based platforms from other enterprises, ultimately creating a network of business platforms that makes it easier to integrate or create new service offerings. Source: PwC Center for Technology and Innovation, Technology Forecast refer to as extensible enterprises. In an extensible enterprise, the business’s internal capabilities are viewed as potential business opportunities. These capabilities can function as a business platform, driving ecosystem interactions that are deeper and that happen at much lower costs than previously possible. (See Figure 1.) Extensible enterprise D Extensible enterprise B Extensible enterprise C
  • 41. As more and more companies move internal functions or business services to the cloud, a new type of ecosystem will evolve. strategic goals is to provide a complete hire-to-retire HR suite. As such, ADP has entered into new partnerships to round out its services portfolio. Two such partnerships are with Cornerstone OnDemand, a talent management provider, and PreVisor, a pre-employment talent verification service. The success of partnerships such as these relies on quickly bringing to market differentiated services that go beyond mere data exchange—an ability cloud computing makes possible. Because each business was cloud based, the partners could quickly integrate the business processes of their platforms and reap new revenue—thereby offsetting a decline in ADP’s payroll services revenue. In another example, Amazon used the cloud in a different way to extend its business prospects. In an effort to drive traffic to its retail site, the company opened up its proprietary product catalog so that the catalog could be used by other companies in different ways. In making its catalog, images, pricing, and other details available to potential partners via the cloud, Amazon found new value in extending its business to third-party sellers. Other companies—like Target and Marks Spencer—have created their own online retail stores through the service, while others have developed new offerings, like a shopping comparison engine. This approach unlocked latent value that Amazon had not anticipated. The result: higher traffic to the Amazon site and more revenue created by its ecosystem. PwC View issue 13 39
  • 42. Cloud considerations As businesses begin formulating a cloud strategy, some of the questions that company leaders may consider asking are: CEO • How can I communicate the transformational potential of cloud computing to senior management and the board? • What business value does cloud bring beyond the IT benefits, and how do I identify and gain those benefits? • How can we exploit strategic opportunities while managing risk to the business (finance, tax, operational, and IT)? CFO • How do I manage the unpredictability of costs in a pay-as-yougo model? • What are the implications of moving to a service model from an accounting and tax perspective? • How can IT costs reflect the needs of individual business units? CIO Which of the strategic imperatives can cloud solutions help right away? • • What is the roadmap that creates incremental benefits on the way to adopting cloud computing? • How can IT better align with product development to support our changing business model? • How does our talent strategy need to change to support a cloud-based infrastructure? 40 PwC View issue 13 Of course, business ecosystems are not new; companies have long prospered through working with partners or via indirect sales channels. But what’s different here is the sheer number of possibilities in the so-called network of business platforms and the fact that the ecosystem can function in a self-service manner, with potential partners integrating with other cloud businesses as needed. ADP, through deep integration, and Amazon, through versatile processes, exemplify how cloud computing can create strategic advantage and drive revenue growth. While many companies are only beginning to think about how they can more fully take advantage of cloud computing but are not yet ready to pursue an extensible enterprise strategy, it’s important to understand the strategy’s potential. Companies can begin adapting their thinking and processes so they’ll be well positioned to pursue such a strategy when ready. For example, they begin reevaluating business processes. Most companies never consider the incremental value of exposing certain processes to third parties. Instead, they optimize processes to be highly integrated—even entangled—with other internal processes that are highly manual. However, organizations that are pursuing an extensible enterprise strategy start by overhauling processes: automating, digitizing, and modularizing them.3 Moving forward Cloud computing is here to stay. It’s an important business trend that is expected to significantly affect how business is conducted over the next decade and beyond. While companies today are just beginning to grasp its potential beyond the IT realm, its impact is expected to be profound. Company leaders who continue to think of cloud computing as strictly a better IT solution will miss a considerable opportunity. Those who do see the possibilities, however, understand that a broader cloud computing strategy is about enabling business agility. They are raising the right questions with their management teams and beginning to incorporate a cloud approach into their companies’ growth strategies—starting today. 3 PricewaterhouseCoopers, “Digital transformation in the ecosystem,” Technology Forecast, September 2010.
  • 43. Service model Which IT components to access via cloud: • Software-as-a-service • Platform-as-a-service • Infrastructure-as-a-service Understanding the cloud Essential characteristics Cloud computing’s defining attributes are: • On-demand self-service • Broad network access • Resource pooling • Rapid elasticity • Measured service Deployment model Whether services will be fully controlled and used by only the company or be shared with other external customers: • Private cloud • Public cloud • Hybrid cloud As executives other than the CIO begin embracing cloud, the focus becomes more about business strategy and less about technology. However, it’s essential that everyone understand the IT context and the choices available to the business. The figure illustrates cloud’s essential characteristics and outlines key considerations. Essential characteristics On-demand self-service A customer can automatically access computing resources, as needed, without requiring human interaction with the provider. Broad network access Services are available over the network and accessed by a variety of computing platforms. Resource pooling The provider pools computing resources to serve multiple customers. The resources are dynamically assigned according to demand. Rapid elasticity Customers access just what they need, with capabilities quickly scaling up or down. Measured service Cloud resource use is automatically managed through metering, enabling customers and providers to monitor, control, and report on usage. Service model Software-as-a-service (SaaS) An application and its supporting environment (hardware, network, operating system, database, etc.) are managed centrally by a service provider. Users typically access the application through a Web browser. Platform-as-a-service (PaaS) This model enables companies to build custom cloud-based applications. Everything but the specific application code is hosted remotely by a service provider—hardware, network, operating system, and database. Infrastructure-as-a-service (IaaS) Hardware and network resources are available on-demand from the service provider, while the customer manages any applications and their operating systems in-house. Deployment model A business will consider whether its internal IT organization or a technology vendor will host and manage the cloud deployment and which model is appropriate. Private The hardware and software that compose the service are maintained for the use of a single organization, which might have distinct business units or internal customers. Public The service—and its underlying hardware and software—are shared by multiple organizations or customers. Hybrid In this model, a company augments its private cloud with public-based cloud services when needed. PwC View issue 13 41
  • 44. Healthcare Customizing healthcare How a new approach to diagnosis, care, and cure could transform
  • 45. By Kelly Barnes, David Levy, and Sandy Lutz Kelly Barnes is PwC’s US Health Industries Leader. David Levy, MD, is PwC’s Global Health Industries Leader. Sandy Lutz is Managing Director of PwC’s Health Research Institute (www.pwc.com/hri). Looking into the next decade and beyond, PwC’s Health Research Institute sees three key forces—consumerism, genomics, and the Internet—culminating to usher in an era of truly customized healthcare. Employers that are already grappling with ongoing health reform are beginning to consider how that new healthcare model affects them. In this article, PwC’s health leaders, Kelly Barnes, David Levy, and Sandy Lutz, examine what the new model might look like and how it could change health services, treatment options, reimbursement, performance metrics, payment, and incentives. employer benefits in a postreform world Healthcare is fundamentally changing on several fronts. In the US, the big story has been reform. Over the next decade, the new law’s changes to funding, insurance coverage, and regulation will affect virtually everyone—including large employers, the majority of which are self-insured. Proactive companies are already considering how reform will change plan eligibility, plan design, underwriting rules, tax deductions, and more and are reevaluating their benefits strategies accordingly. As they begin to understand how the complexities of the new law affect them, they’re also learning that reform has changed things on a more fundamental level. There’s a renewed emphasis on keeping people well, out of hospitals, and more actively engaged in managing their own health. Health reform, however, is not the only game changer. PwC’s Health Research Institute has identified an emerging phenom­ enon not only in the US but also in every major health system around the world: In response to the global recession and to pressure to reduce the rising healthcare costs associated with chronic diseases, government and health industry leaders see both the potential for individuals to take greater ownership of their health and the need for fundamental structural changes in the health system to help them do so.1 We expect that over the next five years, the trend will lead to significant health industry business model changes, more regulatory reforms focused on efficiency and effectiveness, greater investments in prevention, and a growing role for information technology to facilitate information sharing and to provide interactive, customized care in a virtual world. 1 PricewaterhouseCoopers’ Health Research Institute, HealthCast: The customization of diagnosis, care, and cure, April 2010. PwC View issue 13 43
  • 46. Scientists working in the field of genomics predict that within the next decade, billions of data points on every individual will exist, as will powerful tools for analyzing that data. Remaking the health system—forces at work Current healthcare models are struggling to keep up as volumes of care become more and more unmanageable. Today, people both old and young are developing chronic diseases in record numbers, in part because diseases that were once fatal are now chronic, draining health resources and increasing health spending while they extend life. At the same time, it is becoming widely accepted that chronic diseases are associated with behavioral, socioeconomic, and genetic factors that the current medical delivery system does not, for the most part, address. For example, the first force at work involves genetics and the science of personalized medicine. This will bring many changes to healthcare. Scientists working in the field of genomics predict that within the next decade, billions of data points on every individual will exist, as will powerful tools for analyzing that data. From a single drop of blood, clinicians will be able to scan organ systems and determine whether they’re healthy or diseased and what their future status will be. They will also be able to match particular types of patients to particular types of drugs.2 (For a more detailed discussion of personalized medicine, see page 58.) 2 PricewaterhouseCoopers’ Health Research Institute, HealthCast: The customization of diagnosis, care, and cure, April 2010. 44 PwC View issue 13 Another powerful force at work is information technology, which is leading healthcare into a new era of so-called mass customization, following other industries such as auto manufacturing, media, and entertainment. Smart phones, electronic health records, home health monitoring technologies, and treatment architectures are having big impacts, as is data sharing among patient, research, and provider communities. Together those forces are helping shape a new framework for healthcare—one that is centered on customized care. Everything will change as a result: services, treatments, performance metrics, payment, outcomes, and incentives. By 2020, we expect to see a seismic shift in the relationship between patients and healthcare systems, with patients residing at the epicenter of care. We have identified five touchpoints around which we believe the new model will be organized. The touchpoints are designed to engage individuals and to transform the ways they manage their health and access information. (See Figure 1.) Following is a brief look at each of the touchpoints—why they are important and how employers can begin to incorporate them into their own health strategies.
  • 47. Figure 1: New healthcare model changing the relationship between patients and health systems Healthcare in 2010 Individuals see a disorganized, impersonal, and siloed system. Care Me nt nvenie • inco nected n o • unc dic al r eco rds •u n • in conn acc ecte ess d ible to ca re ent tm Trea d ase b om mpt • sy isodic • ep Healthcare in 2020 Health systems will use five touchpoints to deliver organized, personalized care to individuals. Medical proving grounds Patient experience benchmarks Care-anywhere networks Coordinatedcare teams Fluent navigators Source: PwC’s Health Research Institute PwC View issue 13 45
  • 48. Payment and financing are migrating from funding the treatment of sick patients to initiatives to keep them well in the first place. Six vectors shaping the customized framework The transformation of our health system from one that is reactive into one that anticipates, understands, and supports people in managing their own health is a massive undertaking. To get there, health industry leaders are focusing on six crucial areas. 1. Incentives that encourage partnerships. Setting transparent, patient-centered goals that encourage partnerships between patients and their physicians will be crucial to success. Performance-based payment methods embed incentives that prompt stakeholders to collaborate with payers and regulators. However, many companies are starting to think about diseases differently by partnering with other organizations on products and services to achieve health outcomes. In the US, accountable care organizations are being developed as pilots for Medicare under a financial structure of shared bonuses. Physicians and hospitals would be accountable jointly for the cost and quality of care to a set population. 46 PwC View issue 13 2. Regulatory reforms. Many of the world’s largest economies are tackling major regulatory reforms that will alter how medical-delivery organizational structures and funding mechanisms can drive personal behaviors that in turn impact health costs. Because governments spend so much of their budgets on healthcare, regulatory reform is a constant process. Reform discussions increasingly wrap around metrics that, while patient centered, are population based. At the same time, policy makers worry that personalization is evolving beyond population-based metrics because what works for the majority does not work for all. Regulatory reform is also addressing behavioral, genetic, and medical system influencers. 3. Funding that redistributes spending. Payment and financing are migrating from funding the treatment of sick patients to initiatives to keep them well in the first place. The move to coordinatedcare pathways is the beginning of a shift in funding from treating sick patients to keeping them well. However, for the new models to succeed, stakeholders must be familiar with the ways they can work seamlessly together. The traditional iconic and visible symbol of the health system in a community is the hospital, which exists to offer acute care, not chronic-disease management. While technology enables more services to move from hospitals to outpatient, home, and clinic settings, hospitals and communities are sometimes reluctant to abandon their capital-intensive structures. However, with limited funding, slices of the spending pie will have to be reallocated. In some cases, this will mean expanding the traditional physician team to include nurses, nutritionists, and others.
  • 49. 4. Patient communication that supports choice. Individuals benefit from better information, education, and communication materials that support shared decision making and choice. In our survey of global health leaders, we asked about the most effective strategy for engaging individuals in their own health. The top answers revolved around patient education and communication. Technology is playing an important role, and to better meet consumers’ expectations and achieve good outcomes, some providers are segmenting their patients by technology skill set. Online databases, social networking, and virtual communities are creating new ways to share information that individuals can understand. 5. Information technology that eases collaboration. Interoperable electronic health records are the connective tissues that will support individuals in taking on a collaborative role in their own care. By 2020, health systems will have moved from paper records controlled by the industry to digital ones controlled by patients. Issues around opting in, opting out, consent, privacy and security, legal ownership of the record, and legal protection for clinicians making decisions using information controlled by patients are still being debated. However, 85 percent of global health leaders said making EHRs available to clinicians would make their health systems more efficient by reducing duplication; 71 percent said providing patient access would make them more efficient by means of enhanced self-management. 6. Flexible workforce models. As demand for health services has grown, so have workforce shortages. Those shortages are breaking down traditional delivery hierarchies and creating new roles. Many countries are investing in the education of more and more doctors and nurses, yet the optimal number of clinicians needed is debatable because current processes are inefficient and siloed. Shortages will always exist in the absence of new models that emphasize coordination of care. However, healthcare professionals could feel threatened by new models. As a result, new models can be disruptive and nurture a culture of depersonalization—running counter to patients’ demands for customized care and services. Even though technology is enabling customization, it’s important to recognize that people remain at the heart of healthcare. PwC View issue 13 47
  • 50. 40% of health leaders surveyed by PwC acknowledged that handoffs among clinicians were difficult or very difficult. Touchpoint 1: Coordinated-care teams An all-too-common complaint about today’s healthcare system is the siloed nature of care. Patients usually see different doctors for different ailments, and there’s little—if any—interaction between physicians in the sharing of diagnoses, treatment plans, test results, and so on. While frustrating and inconvenient for patients, that scattershot approach is also a problem for employers, who usually see it translate into increased costs arising from duplicate or unnecessary treatments—yet payment and regulatory silos make it difficult to achieve a more integrated approach. Forty percent of health leaders surveyed acknowledged that handoffs among clinicians were difficult or very difficult.3 Coordinated care, also known as chain care, adapts to the patient as information is continuously exchanged and care plans are updated. At its heart is the seamless sharing of accurate and current information. As one health industry executive says, “We need to build an accurate patient profile and keep it available and accessible to all who need it to treat the patient. We need information on past medical history and treatment in order to look more comprehensively at patients.”4 The key to success is interoperable electronic health records (EHRs)—an important focus of new laws in the US. Beginning in 2011, health systems that meet the government’s newly defined meaningful-use standards will be eligible for grants via the 2009 stimulus package’s Health Information Technology for Economic and Clinical Health Act. Additionally, for those who do not achieve the new standard, there will be penalties. For example, in 2015, Medicare will reduce reimbursements to those who do not adopt or are late in adopting EHRs.5 As a result, many health systems are beginning the process of proving meaningful use by complying with a set of regulatory metrics that will be phased in from 2011 to 2015. With each 3 PricewaterhouseCoopers’ Health Research Institute, HealthCast: The customization of diagnosis, care, and cure, April 2010. 4 Ibid. 5 PricewaterhouseCoopers’ Health Research Institute, Ready or not: On the road to meaningful use of EHRs and health IT, July 2010. 6 Ibid. 48 PwC View issue 13 phase, health systems will be responsible for connecting to a broader set of industry constituents. The benefits of a national health information highway could be considerable; however, for health systems, getting there may be challenging.6 According to our research, a vast majority of health industry leaders say that making patients’ EHRs available to clinicians would reduce duplication and increase the efficiency of the team. In all likelihood, they say, it would result in moreeffective clinical decision making, improved safety and quality of care, and, ultimately, better health outcomes. Similarly, they see that making EHRs available to patients would enhance patients’ ability to selfmanage their health and take a hand in their own wellness. This is already happening at integrated organizations like Kaiser Permanente, which provides for its patients all of the information that spans the course of their care.
  • 51. “There is electronic health tracking from the moment you walk in to the moment you depart,” says Philip Fasano, Kaiser’s chief information officer, who added that one-third of Kaiser’s 9 million members access Kaiser services remotely. “You leave with a summary when you walk out the door. If the doctor prescribed medi­ cation, you can pick up the prescription before you leave Kaiser. If you need a lab test, you can go across the hall. By the time you get home, you can view your lab results online. We want to give you the tools to manage your own health.”7 It should also be noted that the reform bill recognizes the importance of coordinated care. Because hospital readmissions of chronically ill patients are extremely costly to the government—as well as to insurers, employers, and patients themselves—the legislation penalizes hospitals for readmissions, medical errors, and inefficient operating systems. So does Medicare. In a Medicare publication about the new law, US Department of Health and Human Services Secretary Kathleen Sebelius had this to say to eligible consumers, “If you’re hospitalized, the new law helps you return home successfully—and avoid going back—by helping coordinate your care and connecting you to services and supports in your community.”8 With the focus on EHRs and meaningful use, employers are beginning to work with insurers and providers to understand when and how insurers and providers are phasing in EHRs. And as they do so, employers can look for opportunities to leverage the systems for employees, such as providing self-management tools. Additionally, employers can undertake other efforts that aim to provide employees with better information in support of shared decision making and choice, such as health-oriented social networking. 7 PricewaterhouseCoopers’ Health Research Institute, HealthCast: The customization of diagnosis, care, and cure, April 2010. 8 Centers for Medicare Medicaid Services, Medicare and the New Health Care Law—What It Means for You, May 2010. Coordinated care, also known as chain care, adapts to the patient as information is continuously exchanged and care plans are updated. PwC View issue 13 49
  • 52. Fluent navigators play a key role in guiding people through the increasingly complex healthcare maze and help patients efficiently access their health system. Touchpoint 2: Fluent navigators How, when, and where employees access the health system is another crucial element in the development of a patient-centered approach. Today’s health system can be confusing and overwhelming, and most individuals—well or sick—are not skilled enough or adequately equipped to navigate the system on their own. Again, information is the key: connecting individuals with information that is culturally appropriate by gender, age, and ethnicity. As Figure 2 indicates, about three-quarters of the global health leaders that PwC surveyed said inadequate access to health knowledge, among other factors, obstructs individuals from managing their own health. Fluent navigators fill service gaps and help patients access the right resources, specialists, and information. There’s no set model for the fluent navigator role; family members, hospital patient advocates, and social service employees, among others, all fill the role. Alternatively, a new market consisting of professional health agents may emerge to fill the need. One health leader described the goal as providing a GPS for the health system. Such a GPS is not a gadget, but it comes in the form of a knowledgeable individual: the fluent navigator. Fluent navigators play a key role in guiding people through the increasingly complex healthcare maze and help patients efficiently access their health system. Figure 2: Which of the following are barriers to individuals’ managing their own health? (Percent of respondents) Individuals’ lack of power and autonomy 55.9 Inadequate access to health resources Inadequate access to financial resources Cultural misunderstandings about health information and treatment choices 65.3 69.5 73.7 Individuals’ lack of willpower 74.9 Inadequate access to health knowledge and education tools 76.1 0 10 20 30 40 50 60 70 Source: PricewaterhouseCoopers’ Health Research Institute Global Health Leader Survey, 2010 50 PwC View issue 13 80
  • 53. Pharmacists are increasingly taking on the role of fluent navigator, given their unique vantage point in the care chain. Darrell G. Kirch, MD, president and CEO of the Association of American Medical Colleges, says, “Pharmacists are becoming more involved with direct patient care and are even involved in rounds in some hospitals. These pharmacists act as ‘air traffic control’ by helping coordinate and oversee the multiple facets of care that patients are given.”9 Pharmacists can also play a greater role in intervention, thanks to software that alerts pharmacies when prescriptions have not been refilled—an indication that patients may not be taking medication. Health systems also are creating new fluent navigator programs that target specific populations. Pharmacists are increasingly taking on the role of fluent navigator, given their unique vantage point in the care chain. For example, in South Texas, hospitals are hiring promotores, who serve as liaisons between local healthcare systems and the surrounding Hispanic communities.10 Promotores are state certified and trained in communication, interpersonal skills, service coordination, capacity-building, advocacy, teaching, organizational skills, and health knowledge. Health providers realize that understanding patients’ beliefs, values, and cultural traditions enables them to influence how healthcare information gets shared and received. Many times, providers face ethnically diverse populations whose cultural beliefs about healthcare can hinder their treatment protocols for their patients. To reduce medical costs related to hospitalization, to help workers manage chronic disease, and to get employees back to work as quickly as possible, employers are encouraging this increasing trend toward patient advocacy. 9 PricewaterhouseCoopers’ Health Research Institute, HealthCast: The customization of diagnosis, care, and cure, April 2010. 10 Texas Health and Human Services Commission Business Opportunities, “Promotores(as)/ Community Health Workers in Texas Health Steps Enrollment Contract,” Texas Health and Human Services Commission, http://www.hhsc.state.tx.us/about_hhsc/BusOpp/Promotora.shtml. PwC View issue 13 51
  • 54. 85% of health leaders and 66 percent of consumers said short wait times are important or very important for an “ideal” health system. Touchpoint 3: Patient experience benchmarks Going forward, individuals will begin to set their own rules by which health organizations must play. Not only will they expect one-on-one customized service, but also their expectations will be broadcast at a speed and on a scale that could quickly separate winners and losers in the health marketplace. Thanks to a proliferation of online databases and patient communities, these individual patient experiences are creating new kinds of benchmarks. The benchmarks can be used by patients, employers, and insurers to assess a health system, but they can also benefit health providers by delivering ongoing customer feedback, which will enable those providers to better meet consumers’ needs. First, though, health providers must learn to listen— not only through traditional surveys and focus groups but also through Web and social media that provide access to real-time conversations. The power of patient experience benchmarks stems from their broad reach via the Internet. In a recent survey, a majority of global consumers cited the Web as their top information source on health. (See Figure 3.) Both online databases and social networking sites are setting new benchmarks tailored specifically for patients. PatientsLikeMe (patientslikeme.com) is a good example. Established in 2004, today it has 17 disease communities where members can enter data pertaining to their conditions. The site aggregates and shares this real-time data with all members. One of the most visible patient experience benchmarks is wait time. Both health leaders (85%) and consumers (66%) said short wait times are important or very important for an “ideal” health system. Figure 3: Where people go to find information to make decisions about their healthcare (In percentages) Health website 48 Doctors 43 Friends and family 30 Magazines or newspapers 27 TV or radio 24 Hospital 22 Government 21 Social networking websites 17 Community services 14 Health clubs 8 Schools 7 Grocery stores/supermarkets 7 0 Source: PricewaterhouseCoopers’ Health Research Institute Global Consumer Survey, 2010 52 PwC View issue 13 50
  • 55. There has been a sharper focus on wait times, which are increasingly being mandated by law, such as new legislation in California that sets maximum wait times for HMOs. Via patient experience benchmarks, wait time limits will also be informed by consumer expectations. In response, health stakeholders will need to adjust the ways in which they determine resources and care pathways in order to meet both government and customer standards. Until recently, individuals did not have good information about the length of waits. Further, because patients were putting their names on multiple waiting lists, the accuracy of the measures was undermined. As health systems begin moving toward individual-centered metrics, this is changing dramatically. In response to the rise in the use of patient experience benchmarks, some health systems are beginning to look at care through the eyes of patients. As a result, they’re removing barriers to care—such as confusing signage, lengthy forms to be filled out, and so on—in an attempt to make patients’ healthcare experiences friendlier and more accessible. To help employees take a hand in managing their own healthcare, leading employers are providing access to online communities where their workers can find and share patient experience benchmarks. PwC View issue 13 53
  • 56. Touchpoint 4: Medical proving grounds Advances in medicine are resulting in new medical testing grounds where patients can receive better care. Through collaboration and investment, some regions are making themselves medical proving grounds for a new generation of medicine that customizes care to the individual. That trend also represents a new type of medical tourism. Just as France is known for wine, and Switzerland for watches, biomedical centers are building global reputations in the new While medical tourism represents a small slice of overall delivery, medical proving grounds will attract patients, researchers, and providers looking for faster cycles from bench to bedside. 54 PwC View issue 13 biological sciences. While medical tourism represents a small slice of overall delivery, medical proving grounds will attract patients, researchers, and providers looking for faster cycles from bench to bedside. Almost half of health leaders surveyed said they thought medical tourism would increase by 2015. However, while the previous trend in medical tourism was built on low cost, the new one will focus on the value that consumers place on coordinated research and care systems. Another promising proving ground focuses on individual patients to create value centers around personalized medicine. The goal is to pair pharmaco­ genomics (the use of drugs for only those patients whose biologies will respond to them) with corresponding diagnostics in order to test for the biologics biomarkers that reveal whether a patient will respond to a given biologics treatment. In this way, biologics and a companion diagnostic (1) are used through clinical trials—involving only
  • 57. patients with the biologies to respond—and (2) are approved on parallel tracks. However, realizing the full potential of biologics will require a consolidated effort among all players shaping their development, including venture capital firms, pharmaceutical and large biopharmaceutical companies, drug regulators, and payers. (For a more detailed discussion of personalized medicine, see page 58.) Governments that want to capitalize on centers of research and care for personalized medicine will need to reenergize drug development with the same vigor as other innovations, such as energy exploration and the build out of renewable energy generation. Increased government backing is one component. For example, the US stimulus funding in health information technology could build a vast electronic bioinformatics database at a time when phase III clinical trials in the US are estimated to cost $135 million to $270 million.11 11 PricewaterhouseCoopers, Pharma 2020: The Vision, 2008. The days of the winner-takes-all model in healthcare research funding may already be over, with the blockbuster drug model on the wane and US stimulus funding possibly facilitating a revived role in public financing. The onus of paying for basic research and drug development may well move to consortia of players. In the realm of personalized medicine, employers are beginning to take an active role. They are becoming educated about the science and benefits of personalized medicine, consulting with experts and institutions at the forefront of advancing the new science. They’re also beginning to work with pharmaceutical and diagnostics companies to maintain current and accurate information on the clinical efficacy of personalizedmedicine tests and treatments and then use the information to inform benefits policies and coverage decisions. At the same time, they’re working with insurers in the analysis of claims data so as to identify unmet needs that personalized medicine could address. And they’re looking at redesigns of reimbursement models that would focus on pay for performance. PwC View issue 13 55
  • 58. Touchpoint 5: Care-anywhere networks The last touchpoint demonstrates how information technology is redefining access to healthcare. In this new model, mobile EHRs, telecommunications, and in-home and implantable devices will reduce the need to visit hospitals, nursing homes, and physician offices. No longer will people have to leave the comfort of their own homes for basic services, because virtual visits of all kinds will be available right at their fingertips. For example, using special wireless thermometers to take a child’s temperature and electronically transmit it to the doctor can spare some sick kids a doctor’s visit. Wireless services that connect to all of a patient’s monitoring and safety devices have proved to be major accelerators of care-anywhere networks right now. For example, electronic intensive care units whereby physicians and nurses reach out to home-based patients via remote command-and-control centers are already in use. In addition, the development of cutting-edge devices continues. Currently in clinical trials in the US, Proteus Biomedical exemplifies the wave of the future. Proteus uses ingestible Mobile EHRs, telecommunications, and in-home and implantable devices will reduce the need to visit hospitals, nursing homes, and physician offices. 56 PwC View issue 13 monitors that sense and record when a patient takes one or more microchip-enabled drugs. The technology runs on an electric charge generated by the patient’s stomach acid. It’s reasonable to predict that increasing the distribution of service delivery via electronic health tracking will not only make the healthcare system more efficient but also make life easier for patients and their families. Ironically, though, the current payment structure raises a major barrier to the use of remote monitoring devices despite these advantages. But there is encouraging news on the funding front. Government financing around the globe is migrating from funding brickand-mortar hospitals to funding virtual access points, broadband networks, and telemedicine. Here, too, employers can make their voices heard to support funding, adoption, and coverage of technology-based advancements. For example, they can start by looking at how their companies’ benefits plans handle home care via monitoring devices. Additionally, it’s important to recognize that care anywhere is not only about remote access between physicians and patients. It can—and should— begin right in the workplace. Realizing the benefits of wellness initiatives, many employers are now embarking on wellness campaigns in the workplace. They are implementing wellness initiatives by establishing onsite clinics and fitness centers, holding health fairs, and offering reduced-cost gym memberships and weight-loss and smoking-cessation programs as benefits plan options, along with compelling incentives that encourage participation.
  • 59. Spanning the entire spectrum: A new mind-set and approach Employers are increasingly recognizing that their healthcare costs—private insurance premiums, absenteeism, workers’ compensation—amount to more than a cost center. Those costs are also investments that can be differentiators in the competition for talent. While many companies have begun exploring wellness programs or work-site clinics, the impending transformation to customized care cuts across everything they do and everything they know. The transformation requires a whole new mind-set and a whole new approach to the designing of strategies and benefit plans. The transition to patientcentered care will not be easy. Creating and sustaining the benefits stemming from the new model will require long-term strategies, crossindustry collaborations, and technical expertise. Before companies can determine how best to position themselves to capitalize on the new health model, they must first understand how it will alter health services, treatments, performance metrics, payment, outcomes, and incentives. Many industry stakeholders—including selfinsured employers—are now reassessing their roles, relationships, and priorities in light of impending change. PwC View issue 13 57
  • 60. Healthcare Personalized medicine What it means for patient-centered healthcare and how to address its current challenges 58 PwC View issue 13
  • 61. By Gerry McDougall and Matthew Rosamond Gerry McDougall is a principal and Matthew Rosamond is a director in PwC’s Personalized Medicine and Health Sciences practice. The announcement of the sequencing of the human genome some 10 years ago drove expectations of a rapid advancement in care and the dawning of the age of personalized medicine. While the subsequent decade has seen many false starts and false hopes, the age of personalized medicine now appears to be upon us. There is an ever-increasing number of examples of drugs and diagnostics treatment decisions being guided by a patient’s unique circumstances and characteristics, including individual gene and protein configurations. Science fiction? Not anymore. But as providers, practitioners, and patients cautiously embrace the brave new world of customized healthcare through personalized medicine, they are weighing the potential of better treatment and lower costs against a formidable set of challenges. Personalized medicine—that is, medicine tailored to a patient’s genetic and other unique characteristics—is at the core of customized healthcare. This major shift in care will touch everyone: not just patients, providers, and payers but also industries and economic sectors that traditionally have not been associated with healthcare. Personalized medicine will revolutionize the practice of medicine, as clinicians and consumers work together to guide individual behavior and treatment decisions before, during, and after an illness occurs. Personalized medicine is often described as the right treatment for the right person at the right time. This emerging science has the potential to truly customize healthcare to the patient, enabling providers to match drugs to patients based on their genetic profiles, to identify which health conditions an individual is susceptible to, and to determine how a given patient will respond to a particular therapy. As a result, personalized medicine can eliminate unnecessary treatments, minimize the potential for adverse events, and, ultimately, improve patient outcomes. But what exactly is personalized medicine? PwC takes a broad view, defining it as consisting of products and services that directly or indirectly leverage the science of genomics (the study of an organism’s genes) and proteomics (the study of the proteins that genes create, or express) and that capitalize on the trends toward wellness and consumerism in order to facilitate tailored approaches to prevention and care. As we see it, personalized medicine encompasses everything from high-tech diagnostics to functional foods, to technologies PwC View issue 13 59
  • 62. When health providers partner with scientists and research institutes, they can translate scientific discoveries into more-customized—and more-effective—treatments for patients. that enable the storage, analysis, and linking of patient and scientific data.1 For example, personalized medicine may mean either a biologic that targets specific cells or an interactive technology that allows diabetic patients and their physicians to develop customized food plans and exercise regimes. Toward the tipping point Many in the healthcare industry are wondering whether personalized medicine has reached the tipping point of mainstream medicine and at what point it deserves serious attention from clinicians. A few health systems are forging ahead and making personal­ ized medicine available to their patients—health systems like El Camino Hospital in Silicon Valley, which last year opened its Genomic Medicine 1 PricewaterhouseCoopers, The new science of personalized medicine: Translating the promise into practice, September 2009. 60 PwC View issue 13
  • 63. Institute. The institute provides genomic testing covering some 40 conditions and offers genetic counseling services to help patients make informed decisions about treatment. The institute’s programs will also provide access to genomicsbased clinical trials as they become available.2 But outside these pioneers and the largest academic medical centers, most health systems have not yet embraced the practice. However, we see encouraging signs of change: From recent conversations we’ve had with providers both in the US and internationally, we’re seeing an excitement and an urgency about how to integrate personalized medicine into a new era of customized care and treatments.3 As health systems move ahead, it will be essential for medical practice and medical research to work together. Such collaborations are already occurring in some areas. For example, oncologists and clinical research professionals are experimenting with clinical trial pilot projects to accelerate the process of more quickly applying research findings to patients. Those pilots are guiding doctors in the design of personalized treatment regimens for cancer patients. When health providers partner with scientists and research institutes, they can translate scientific discoveries into more-customized—and more-effective—treatments for patients. Before such changes can occur, though, clinicians and the organizations where they practice will need to overcome significant challenges in the areas of education, business, and regulation. The education challenge One of the fundamental challenges for both providers and patients involves simply keeping up with all the advancements that are occurring. Health providers will have to build expertise in personalized medicine if they want to succeed in the new era of customized healthcare delivery. The rapid growth of research in this field is making it difficult for even the most dedicated clinicians to understand and apply new findings or to interpret diagnostic test results. Ambitious physicians will educate themselves in genomics and proteomics as well as gain knowledge from experts in the field. Health systems will need to recruit physicians and genetic counselors who can interpret the results of sophisticated genetic tests and translate them into effective prevention and treatment strategies. Providers must also communicate to medical colleges the need for more education in the field of genomic and proteomic science. At the same time, healthcare providers have an important role to play in teaching patients to be co-managers of their own health and wellness. In an era of individualized care, educational efforts that target patients will help raise awareness of and demand for new, personalized therapeutics. The dynamics of the doctor-patient role will change. Physicians will no longer be the sole sources of knowledge, and educated patients will participate more in medical decision making and choice. Providers, for instance, will counsel patients on the benefits of contributing genetic information for research, participating in clinical trials, using health-oriented social networking sites, and donating biospecimens for biobanks. 2 http://www.elcaminohospital.org/Genomic_ Medicine_Institute. 3 PricewaterhouseCoopers and HealthLeaders Media, The impact of personalized medicine today, 2010. PwC View issue 13 61
  • 64. The business challenge Health systems also need to better understand how the new approach would change the way they conduct business— from the services they provide to the way healthcare decisions are made and paid for. For example, offering personalized approaches may be a competitive advantage. A cancer center that integrates molecular medicine into patient care might be viewed as a leader in the field, thereby attracting more patients than would other providers that offer only traditional therapies. 62 PwC View issue 13 In addition, reimbursement decisions may become more complex. When it comes to genetic-based tests or therapies, subjectivity on a case-by-case basis may be required, calling for far greater collaboration among payers, providers, and the makers of drugs, diagnostics, medical devices, and therapeutics. Moreover, healthcare providers must also consider how personalized medicine will affect their technology capabilities and infrastructures. Today, a vast amount of healthcare information is already being collected, including patient histories, diagnostic reports, and clinical research findings. The increasing levels of adoption of electronic health records (EHRs) by hospitals and health systems will ramp up the collection of health data exponentially over the next few years. And this is on top of a growing body of genomic data that ultimately will evolve into billions of data points on every individual, as powerful analytical tools are being developed. The value of the genomic, proteomic, and other health data being collected becomes greater as it gets shared among research organizations and mined to become more predictive. How well providers manage, share, and make use of that data will be crucial to their ability to provide coordinated care and give broad-based clinical decision support for individualized patient management. As personalized medicine becomes a reality, provider systems, payers, and the pharmaceutical industry will be working together to create a new data architecture that will enable interoperability among information technology systems to facilitate the linking and analysis of health data across the country.
  • 65. Looking ahead: How personalized medicine could change pediatric cancer treatment Diagnosis and treatment in 2010 Today, there is no defined protocol for diagnosing childhood cancer, so pathologists vary in levels of rigor in the testing they undertake. In cases in which they are less aggressive, there’s greater likelihood of misdiagnoses. When it comes to treatment, children with rare cancers such as neuroblastoma are all given the same chemotherapy drugs; there is no personalization of treatment approaches. Furthermore, because relatively few children get cancer (childhood cancer accounts for less than 1 percent of all cancer), few therapies are tailored to them. Children often are treated with much higher doses of drugs originally designed for adults. Such drugs are extremely toxic and therefore harsh on young, growing bodies. The result? Treatment is usually performed through trial and error, leading to unnecessary pain and suffering because the treatment for each form of cancer is so different. Additionally, the majority of children who survive after chemotherapy and/or radiation therapy develop a plethora of long-term side effects, such as infertility, hearing loss, abnormal bone growth, secondary cancers, and a marked decrease in the functionings of the heart, lungs, and kidneys. What might personalized medicine really mean for patients? Here’s an example that Beth Baber, PhD, a cancer researcher and mother of three, is working on that she intends will soon be a reality. Several years ago, Baber’s own 15-month-old son was diagnosed with high-risk neuroblastoma—a malignant tumor that originates from the spine. After seven rounds of intensive chemotherapy, surgery, and retinoic acid therapy, Nicholas remains in remission. However, the experience opened Baber’s eyes to the problems inherent in the one-size-fits-all treatment approach that is the current standard of care for childhood cancer. Baber is changing things through an organization she cofounded, The Nicholas Conor Institute (TNCI). The institute, a not-for-profit 501(c)(3) enterprise, has formed TACTiC™, a collaboration of personalized-medicine diagnostics and therapy research organizations. Operating as the translation and business management hub, TNCI receives its funds from foundations and grants and disseminates the monies to the TACTiC™ partners for research and development of pediatric cancer diagnostic kits and new treatments, all of them focused on stratified populations and personalized cures. Baber’s regimented, business-oriented infrastructure maintains careful control over initiatives to carry new discoveries forward to targeted life sciences companies. With TNCI leading the way with venture philanthropy funding, the companies are relieved from early-stage risks and costs. Upon commercialization, license fees are returned to TNCI for sharing with the TACTiC™ partnership and reinvestment into further research. Diagnosis and treatment in 2020 In the next decade, The Nicholas Conor Institute hopes to see cancer therapy customization for each and every child. Initially, rather than requiring the costly development of new treatments, TNCI is working with biotechnology firms and other organizations to develop companion diagnostics that will provide better guidance for the use of existing chemotherapy drugs, including those that have been shelved because they were thought to be ineffective. Companion diagnostics could help identify exactly who would benefit from a particular therapy, so that drugs could be pulled off the shelf and commercialized for children. TNCI is also collaborating with diagnostics maker AltheaDX to develop a uniform approach to making the cancer diagnosis— by way of a single, definitive test that could be performed from a single biopsy. A definitive diagnosis would portend the optimal chance that a child would be immediately placed on the right treatment and therefore have the best chance of being cured. Already there’s promise: AltheaDX is currently producing the first childhood cancer diagnostic panel for small round blue cell tumors—a category of tumors that look much the same under a microscope but that are produced by a variety of cancers, each requiring a different treatment. The diagnostic can differentiate the types of small round blue cell tumors with 99 percent accuracy, so that the appropriate treatment can be prescribed. PwC View issue 13 63
  • 66. Employers are working with pharmaceutical and diagnostics companies to maintain current, accurate information on the clinical efficacy of personalizedmedicine tests and treatments and using the information to inform benefits policies and reimbursement decisions. The regulatory challenge Even though it is outside direct health system influence, the drug development and approval process is, arguably, one of the most formidable barriers to personalized medicine. Once the era arrives when personalized medicine reigns, the current approval process for drug development and commercialization will become outdated. The current structure of the US Food and Drug Administration is poorly equipped to handle all of the many individual variations associated with personalized medicine. Diagnostics, for example, play a crucial role in advancing personalized medicine because they can help doctors target specific therapies for specific kinds of patients in whom these therapies are known to work. But approval of diagnostic tests and approval of drugs are handled separately, reviewed in two entirely different centers and under very different rules. The regulatory pathway for the commercialization of new diagnostics is unclear due to diversity in approval pathways and the ongoing expectation of regulatory reform. Many health leaders are talking about developing a common regulatory regime for all healthcare products and services rather than separate regimes for pharmaceuticals, medical devices, diagnostics, and the like.
  • 67. How employers are responding When it comes to personalized medicine, employers are beginning to take an active role. First, they’re becoming educated about the science and benefits of personalized medicine by consulting with experts and institutions at the forefront of advancement of the new science. Employers are also working with pharmaceutical and diagnostics companies to maintain current, accurate information on the clinical efficacy of personalized-medicine tests and treatments and using the information to inform benefits policies and reimbursement decisions. For example, looking at just one diagnostic tool—Genomic Health’s Oncotype DX® breast cancer test—illustrates the potential for cost savings and the ability to spare patients unnecessary treatments. Genomic Health estimates that by identifying those who would not benefit from treatment, the test can reduce chemotherapy use by 20 to 35 percent and yield a savings of approximately $1,900 per patient tested.4 At the same time, employers are working with insurers in the analysis of claims data to identify unmet needs that personalized medicine could address. And they’re looking at redesigns of reimbursement models to focus on pay for performance. As more and more companies embrace these practices, the road to full execution of personalized medicine becomes far easier to travel. And from where we sit, that’s an inevitability that’s bound to occur and will benefit everyone. 4 http://www.oncotypedx.com/ManagedCareOrgs/EconomicValidity.aspx. PwC View issue 13 65
  • 68. By Steve Del Vecchio, Chris Thompson, and George Galindo Assurance Steve Del Vecchio is PwC’s US Third-Party Assurance Leader. Chris Thompson is a PwC Risk Assurance Partner. George Galindo is a PwC Risk Assurance Director. verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify Trust but verify From transparency to competitive advantage 66 PwC View issue 13 verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify verify 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  • 69. Figure 1: The trust and transparency shift Moving away from… Shifting to…   Sole sourcing and vertical integration  Longer/more complex supply chains Closed information systems  Open source systems Domestic sourcing  Global sourcing Specialization (one product)  Conglomeration (many products) Deregulation  New forms of regulation Closed business models  Collaborative models (e.g., limited JVs) US dollar  Another currency Western-based business environment  Multiregional rules setting Finite intellectual property rules and regulations  Limited ability to protect IP across borders “But I have promises to keep.”—Robert Frost How many promises has your company made today? How many has it received? Are your stakeholders likely to believe what you say? Do you believe what your business partners say to you? In an uncertain economy, blind faith just doesn’t suffice. No matter how positive your brand, more is needed. Successful companies know that strategies grounded in increased transparency of nonfinancial information, coupled with heightened credibility, will not only position them for greater success, but also help them mitigate risk, improve operations, and deepen relationships with stakeholders. Is your company among them? “Trust but verify” was a slogan used during the Cold War to describe the basis for transparency in political relationships. Today, the term can be used to describe a strategy for narrowing the “trust gap” not between nations, but between companies and stakeholders. No matter what kind of organization you manage, trust is an integral component of your brand. Yet, in a globalized, hyper-networked world where information—good or bad, true or untrue—can go viral in a matter of minutes, trust is under siege. Reputations that took years to build can be lost in seconds. Consider the plights of companies caught up in a rash of trust-eroding situations: financial services companies that underestimated their exposure to subprime securities, Internet companies accused of mishandling private information, manufacturers struggling to explain the causes of poor product quality and serious mishaps at their facilities. Such events were once exceptions. However, with emerging technologies and business practices such as digital distribution, cloud computing, and longer supply chains, they are increasingly becoming the norm and are causing a significant shift to greater transparency. (See Figure 1.) How should companies respond? How can they protect their brands? How can they effectively address these issues and tell their stories with credibility? Whether you are trying to prevent a trust-eroding event or repair the damage after one has occurred, transparency is key. No longer a luxury limited to forward-thinking, market-leading organizations, transparency has become a marketplace imperative that is being demanded of all companies by regulators, board members, shareholders, customers, and business partners—in short, all stakeholders. PwC View issue 13 67
  • 70. While transparency is an all-important first step in building trust, it is not the entire solution. Without credibility, transparency remains an unverified promise. Fortunately, companies are not powerless in this regard. Clearly, in an increasingly competitive environment, good governance demands that organizations address transparency issues in order to be able to establish and maintain credibility. Indeed, transparency can be a company’s salvation and a powerful differentiator. But is transparency enough? What companies can do While transparency is an allimportant first step in building trust, it is not the entire solution. Without credibility, transparency remains an unverified promise. Fortunately, companies are not powerless in this regard. Organizations can achieve the transparency and credibility that lead to trust in the marketplace in two ways: (1) by taking steps to do so internally and (2) by enlisting the help of an independent third party. 68 PwC View issue 13 Taking steps internally The steps that companies can take internally to achieve transparency and build trust include communicating frequently and consistently, establishing priorities, focusing on customer service, and leveraging social media. Communicating frequently and consistently Lurking in the back of every CEO’s mind is the fear that any day could bring a trust-eroding event that threatens the very life of their business. Consider the pharmaceutical company whose marquee drug turns out to be more harmful than healthful, the toy company whose best sellers contain life-threatening chemicals, or the automotive manufacturer plagued by an unrelenting stream of product defects. Such an event affects not only the company directly, but also its customers, suppliers, and vendors. There was a time when a company caught up in a trusteroding event such as a product failure or a financial scandal might take a defensive, even a confrontational posture with customers and investors. Those days are gone. In today’s business landscape, frequent and consistent communications are critical to establishing and maintaining trust and credibility among stakeholders. The accepted wisdom among those who deal with corporate crises is that once an event has occurred, communicating the problem honestly to stakeholders, accepting responsibility, and positing a workable solution beat stonewalling any day and are most important to defusing a volatile situation. In fact, with regard to trust, it has been our experience that the communication around an event ultimately trumps the event itself. Even in the absence of a problem, frequent and consistent
  • 71. communication can be critical to building and sustaining stakeholder confidence and loyalty. Certain industries are more prone to publicized trust-eroding activities, and companies subject to such events are wise to have communication plans in place. A company’s plan might include analyzing regulations and the company’s own policies, procedures, and agreements to determine compliance and its manufacturing processes to uncover any risks—financial reporting, operational, product safety, and so on—that, if left unmitigated, could result in a negative event. A public statement regarding such an assessment might be appropriate and could provide a level of comfort to company stakeholders. Consider the following two companies, each involved in a negative event, and each approaching that event quite differently. When Company A discovered that tampering had occurred to one of its products, it immediately pulled the product from store shelves. Consumer safety was a core value at Company A, and that value shaped the organization’s immediate and effective response. While some loss of market share occurred in the wake of the crisis, it was eventually restored and in time exceeded prior levels, once the product had been repackaged and reintroduced. In fact, the company’s product design became the standard in the industry. A crisis had occurred, but it was remarkably well managed on the basis of sound values and effective communications. Trust and credibility were restored. Company B faced a similar problem, but without a plan in place, was uncertain as to how to proceed. Management ignored the impending crisis and suffered the consequences. The costs in terms of money and brand damage were high, and the CEO lost his job. With regard to the impact of a negative event, timing is critical. Some questions to consider: When should statements be made? A mistimed public statement could sound an alert rather than provide comfort. If a competitor makes such a statement, do you make one as well? Even if you do, have you waited too long? And does that also raise a red flag? We ask these questions because we want to stress that, outside of a regulatory response, there is no single formula, no one proper approach, when it comes to trust and transparency. But once a unique situation has been identified and assessed, there are tools that can be brought to bear to deal effectively with the challenge of maintaining or reestablishing trust. PwC View issue 13 69
  • 72. Establishing priorities A serious challenge facing all companies in a complex global environment is living up to the specific priorities of stakeholders. For example, regulators, shareholders, customers, vendors, industry watchdog groups, and even the general public each expect organizations to behave in a specific manner. The problem is, many times, those expectations conflict with each other. Establishing priorities, setting measurable goals, and taking action to preemptively identify problems and execute strategies enable companies to operate responsibly in a way that is defensible to stakeholders.1 Taking such actions as letting stakeholders know what and how well you are doing, that is, effectively communicating goals and visions, enables companies to establish levels 1 Christopher Meyer and Julia Kirby, “Trust in the Age of Transparency,” Harvard Business Review, April 2010. 70 PwC View issue 13 of transparency that create trust in the marketplace. A high level of trust can provide a measure of brand immunity when bad things happen to good companies. Software developer Intuit, for example, has set very measurable goals around customer satisfaction and trust with respect to its product. The company has established
  • 73. A serious challenge facing all companies in a complex global environment is living up to the specific priorities of stakeholders. The problem is, many times, those expectations conflict with each other. customer satisfaction and loyalty as priorities and is using them to drive strategy. To that end, Intuit is an active user of Net Promoter®, a methodology that measures customer loyalty. In addition, the company factors in customer feedback to make product adjustments and keep employees attuned with customer needs. The company also fosters innovation aimed at keeping customers satisfied.2 Computer giant Apple is another example in which priority setting has made a significant difference in the levels of trust and transparency the company has been able to achieve. Apple’s established priority is to be an innovative market leader, and, in that regard, Apple’s brand is virtually synonymous with innovation. But this has not been accomplished without a measure of risk. For example, the company launched iTunes and the iPod at a time when the future of digital music with regard to ownership, distribution, pricing, and other intellectual property issues was uncertain, and, as a result, set the industry standard. Today, it’s a fair bet that no one using iTunes either to sell or to purchase music would question whether they are getting a fair deal with regard to pricing or royalties. In fact, Apple’s prioritizing and communicating its commitment to market innovation have gained for the company levels of transparency and trust that have lifted its brand above negative impacts related to product failure that would be devastating to most other companies. For example, even when Apple products such as ROKR (an early cell phone that could play music as well as make calls) and Newton (an early PDA) failed, Apple’s brand was not seriously affected. Because of Apple’s priority positioning as a market innovator, stakeholders understood that something good— the iPhone and the iPad— would eventually come out of these failures.3 Focusing on customer service What CEO hasn’t asked the following question: How much does it cost to replace a customer? Unfortunately, some of those CEOs will discover the answer. Even a cursory scan of the business news reveals a growing perception that customer service is in decline. Why? Generally, customers are losing trust in the organizations they deal with. Focusing on customer service is another way companies can build trust and enhance customer satisfaction.4 Examples might include establishing a customer retention 2 Ben Fowler, “Intuit’s Philosophy on Net Promoter Score (NPS),” At voiceofcustomerguru.wordpress.com, June 4, 2009. 3 For a more in-depth discussion of Apple’s approach to innovation, see Christopher Wasden, “Getting beyond novelty: How discipline and failure foster innovation,” View, fall 2009. 4 Christopher W. Hart, “Beating the Market with Customer Satisfaction,” Harvard Business Review, March 2007. PwC View issue 13 71
  • 74. 500,000,000 The approximate number of users on Facebook, making its “population” larger than that of all but two countries. rather than a customer service department or establishing a complaint hotline that is independent of the manufacturing or sales processes. Whatever the specific approach, embarking on a strategy of focusing on customer satisfaction can be a leading driver for providing transparency and trust to customers, suppliers, and the marketplace as a whole. Take Southwest Airlines for example. Unlike some carriers that have been hit hard by bruising reports in the press and on blogs regarding outrageous runway 72 PwC View issue 13 delays, late takeoffs and arrivals, and cancelled flights, Southwest has made a concerted effort to focus on customer service, not only to prevent problems from occurring in the first place, but also to deal with them effectively from a customer-service perspective once they do occur. Recognizing that great customer service requires a high-level focus, Southwest has managed this issue from the top, having designated a single individual to coordinate all information related to major flight disruptions and to handle customer relations (letters, flight vouchers, etc.) related to storm, air traffic, or other delays.5 However, this customer-service mind-set also permeates the rank and file. Southwest employees are active participants in the various aspects of the company’s service culture, which includes treating customers as if they were family or friends, and ensuring that employees enjoy their jobs.6 Southwest’s historical commitment to customer satisfaction and to achieving the highest customer satisfaction ratings has paid off for the airline in terms of customer loyalty objectives. 5 Jena McGregor (with Frederick F. Jespersen, Megan Tucker, and Dean Foust), “Customer Service Champs,” Bloomberg Businessweek, March 5, 2007. 6 Susan J. Campbell, “How Southwest Airlines Became a Model for Customer Loyalty.” TCMnet.com, June 2, 2010.
  • 75. Today, social media have transformed online communications in ways no one could have predicted. These applications enable companies to reach a broader audience than was previously possible. Leveraging social media Today, social media have transformed online communications in ways no one could have predicted. Starting out as an enhanced means of networking among individuals, these technologies are becoming powerful tools for businesses that wish to provide an impactful level of trust and transparency to the marketplace. These applications also enable companies to reach a broader audience than was previously possible, achieving a transparency beyond the printed word. The result? An enhanced opportunity to capture the hearts and minds of stakeholders by building trust around statements and promises. Various applications and social networking tools offer numerous opportunities to create and reinforce positive company images.7 As a business tool, social media are coming on strong. At about 500 million users, the “population” of Facebook, for example, is larger than that of 7 Renee Dye, “The Buzz on Buzz,” Harvard Business Review, November-December 2000. all but two countries. While in the wrong hands social media can be used in manipulative ways, they have become valid and powerful forces in building trust in a company’s products and services. An effective use of these tools includes taking a proactive stance in social media by acting swiftly on the feedback these mechanisms can provide. Historically, advances in technology have offered companies new avenues for building trust, transparency, and credibility. Companies like Ikea have long realized that involving stakeholders directly online in collaborative activities establishes better relations and increases goodwill. Ikea, for example, invites customers who visit the company’s website to co-create with them by providing design assistance about how to configure the company’s modular furniture to best meet the customer’s needs. Providing levels of proprietary information and intellectual property in open domain builds trust and transparency and strengthens reputation and brand in the marketplace. PwC View issue 13 73
  • 76. Figure 2: How supply chain disruptions affect stock prices Figure 3: How supply chain disruptions affect share price volatility (Annual volatility in percentages) (Mean percentage change) 25 21.79 71.59 75 20 15 65 63.66 10 60 62.86 63.66 Two years before disruption One year before disruption 71.75 63.82 62.23 70 5 0 2.98 .11 Year before disruption announcement to year after -5 -10 65.72 55 50 One year after disruption Two years after disruption Disruption sample Benchmark sample -8.94 Announcement period Source: PwC analysis Disruption-experiencing firms Benchmark sample Source: PwC analysis But the transformative aspects of social media are not really about technology. Rather, they are about the unpredictability and speed that going viral implies—that is, about the unpredictability of where information goes and the speed with which it gets there. More and more companies are embracing social media tools to build trust and transparency in creative ways. Insurer Progressive, for example, provides online not only its own rates, but also those of its competitors, a nothing-tohide attitude that goes a long way towards establishing trust. Cable TV provider Comcast monitors Twitter to pick up on and immediately respond to customer issues.8 This came about through the efforts of a Comcast employee and Twitter user who tired of seeing unanswered service complaints in online communities and decided to do something about it. More than just a company defender, this employee set out to actually fix problems. This somewhat radical approach resulted in a proposal to Comcast’s Chairman and CEO to have company engineers available to answer questions on message boards.9 More innovative approaches like these are bound to appear as this significant trend takes hold. 8 Lauren McCay, “Transparency,” CRM magazine, December 2008. 9 Daniel Roth, “The Dark Lord of Broadband Tries to Fix Comcast’s Image,” Wired Magazine: 17.02, January 19, 2009. Available at http:// www.wired.com. 74 PwC View issue 13 Enlisting the help of an independent third party The internal strategies we have discussed thus far are powerful approaches to building and maintaining trust in the marketplace. However, under certain circumstances they do not go far enough. When dealing with individuals, entities, and issues such as regulators, contracts, technology standards, supply chains, and sustainability matters, the assurance of a well-regarded independent third party can go a long way toward establishing and maintaining credibility with stakeholders. Keeping up with the regulators Particularly in industries where increased regulation seems imminent, some companies see value in being at the forefront of providing the most credible information possible and potentially influencing how new reporting requirements are defined. In the financial services industry, for example, institutional investors have begun seeking greater transparency around internal controls. In response, one major alternative-asset manager produced for investors a detailed, independent assessment of its trade flow processes and controls. While investors remain most interested in market performance, the fund’s reporting also offers substantive information about financial controls that most other funds do not. In other industries or business areas where regulation is imminent but uncertain, companies are preparing for
  • 77. greater scrutiny—getting their houses in order, so to speak. For example, although not subject to SEC rules such as SarbanesOxley, Duke University Health System voluntarily conducted a third-party review of critical processes and controls. Needing more than a handshake Not many business deals are based on a handshake. Most are sealed by a contract containing provisions to which both sides agree. Trust in those provisions, though, must be based on a level of transparency and validation associated with the business processes of all parties. While this has always been true, it is particularly so in the digital age, where the procedures, controls, and infrastructure around electronic distribution and royalties associated with products such as MP3s, e-books, and ringtones can be difficult to manage. Also affected are such traditional services as audience measurement—critical in determining advertising rates—that are being dramatically impacted by the transition from a broadcast to an online environment. In this highly competitive landscape, the company that can assure its clients that they are being fairly compensated and that their intellectual property is safe can achieve a considerable competitive advantage. Dealing with technology standards Perhaps the biggest area of cross-sector risk today involves data privacy, integrity, and reliability, and concerns arising from IT trends, including cloud computing, offshore data centers, digital transformation, and social networking. Any large organization with consumer reach—from hospitals adopting electronic health records (EHRs), to banks responsible for safeguarding customers’ financial information, to any organization, online or brick-and-mortar, that accepts or issues credit cards—has a need to maintain information security, and more and more companies are working to provide their stakeholders with independent assurance that their personal data are safe. One commuter bus and rail operator, for example, certifies its compliance with data security standards to reassure customers and payment card providers. With a significant amount of revenue coming from credit and debit cards, the organization must be sure that it is protecting customers’ personal information. Working with supply chains As supply chains, including outsourcing and offshoring partners, become longer and increasingly complex, companies are more vulnerable than ever to disruptions that can decimate shareholder value. In fact, an analysis of 600 companies experiencing supply chain disruptions found that their average shareholder value dropped, and their stock prices experienced greater volatility than their peers for years after the event.10 (See Figures 2 and 3.) 10 PricewaterhouseCoopers, From vulnerable to valuable: How integrity can transform a supply chain, 2008. Reporting on nonfinancial areas Increasingly, companies are seeking to provide assurance over nonfinancial reporting areas such as business continuity, customer loyalty, data integrity, IT outsourcing, online banking, regulation, and supply chains. Nonfinancial reporting areas Aspects requiring assurance Business continuity • Disaster recovery, including controls operating before disaster occurs Customer loyalty • Sampling controls • Validity of results Data integrity • Technical security • Security, segregation, and safeguarding • Availability of data IT outsourcing • Technical security • Availability requirements Online banking • Technical security • Timeliness/accuracy of processing • Availability of data • Interoperability Regulation • Disclosure and compliance controls Supply chain • Workplace rules and safety • Product quality • KPIs (key performance indicators) PwC View issue 13 75
  • 78. Whereas “highest quality, cheapest price” was a customer mantra for decades, entering adulthood is a whole generation of consumers and employees who reject that notion and who have replaced it with a new set of political and social norms. For companies dependent on their supply chains, poor quality, delivery failures, and even business failures can be catastrophic, making the transparency, financial security, and quality control of supply chain partners more important than ever before. As companies evaluate the trust issues around their supply chains, they are asking the following question: Will others protect my interests as well as I do myself? The business press is brimming with examples of supply chain failures that have wreaked havoc on corporate reputations, and CEOs are taking note and providing independent verification 76 PwC View issue 13 that their promises to customers and business partners are true and that they have in place sustainable, repeatable processes for ensuring data, technology, or product quality. For example, the CEO of one prominent consumer apparel company uses independent evaluations to certify that his factories meet global safety and human rights standards and that his products don’t contain lead or chemicals that could cause an allergic reaction. To achieve similar ends, another company, American Semiconductor, is in the process of certifying the management practices of its supply chain. Company leaders believe the assessment on internationally recognized standards will be valuable in attracting new customers who view it as an important policy. Embracing sustainability For some time, leading companies have embraced the goal of being good corporate citizens by respecting the environment through any number of measures, from conservation to waste management. Some have taken it to an even higher level by providing tangible benefits to the communities in which they reside, both domestically and globally. However, unlike in the past when a high level of commitment to sustainable practices was a measure of a company’s progressive thinking, today, that commitment has become a business mandate. Whereas “highest quality, cheapest price” was a customer mantra for decades, entering adulthood is a whole generation of consumers and employees who reject that notion and who have replaced it with a new set of political and social norms resulting in priorities that reward businesses that display, communicate, and verify their commitment to the environment, the workplace, and the community.
  • 79. Being aware of industry-specific issues While most of the issues associated with trust and credibility cross industry lines, some are unique to specific sectors or are more prominent in one sector than in another. Following is an overview of industries most prone to trust-eroding events and the issues that impact them most urgently. Industry Financial Services • Evolving regulations • HIPAA and privacy issues • Medical records acts • PMI (personal medical information) Entertainment, Media, and Communications • Digitalization • Records management • Changing advertising models • Audience measurement Technology • Impact of digitalization on business models, operations, systems, and people • Cloud computing • Software-as-a-service • Virtualization • Data security • Social networking • Software releases • Auto migration • Potential additional regulation Utilities • Regulation • Environmental Automotive As environmental performance becomes an increasingly important factor in consumer, investor, and employee engagement, stakeholders are demanding greater insight into it. And many • Multiple layers of regulation • Regulatory reform • Investor demands for increased transparency • Online banking and trading • Information security Healthcare Because information about environmental impact and a company’s green initiatives varies greatly in scope and quality, the right approach to achieving this objective is difficult to determine. Like financial results, environmental data often reside across business units and systems, but the processes and controls for managing it are far less comprehensive than those used for financial data. Issues • Product safety • Consumer confidence Pharmaceutical • Supply chain optimization • Distribution • Product shelf life • Increased transparency demands companies are finding that the more they disclose, the more value they derive from doing so. Walmart, for example, is deeply committed to reducing greenhouse gas emissions throughout its supply chain and issues a Global Sustainability Report highlighting its progress.11 11 This report and information on other sustainability initiatives at Walmart can be found at walmartstores.com/Sustainability/7951.aspx. Providing value to the company and its stakeholders The trust that results from increased transparency and assurance of credibility can stem potential damage to corporate reputation, drive growth in an uncertain economy, enhance decisionmaking capability through more reliable data, mitigate concerns regarding the privacy and security of business and customer information, and minimize supply-chain disruption. Moreover, that trust adds value both to companies and their stakeholders. For investors and other stakeholders, disclosure and validation of business practices or information provides greater confidence and better investment opportunities. For companies, the value lies in operational improvements, enhanced credibility, innovation, greater efficiency, less risk, and, perhaps most important, competitive and strategic advantage. PwC View issue 13 77
  • 80. Interview Interview by Gene Zasadinski Gene Zasadinski is managing editor of View magazine. Capitalism reset: Anatole Kaletsky looks at how markets and governments affect our financial future
  • 81. Anatole Kaletsky is editor-at-large and principal economic commentator of The Times of London. An award-winning writer and soughtafter speaker, Mr. Kaletsky is author of Capitalism 4.0: The Birth of a New Economy in the Aftermath of Crisis, published by PublicAffairs. As American humorist Mark Twain once famously quipped, “The report of my death was an exaggeration.” The same might be said about capitalism. Through crisis after crisis, through boom cycles and busts, capitalism manages to reinvent itself and prevail. In this interview, economist and journalist Anatole Kaletsky shares his unique perspective on the resilience of capitalism and on the current state of our economy and its prospects for the future. GZ: In your new book, Capitalism 4.0, you argue that three periods of capitalism have come and gone and a fourth is on the horizon. Can you elaborate on that? AK: The capitalist system started in the middle of the 18th century. The first period was one where economics and politics were completely separate and government had no economic responsibilities except to raise a minimum amount of taxes to wage wars. That period came to an end in the 1930s because the system had outlived its usefulness. Social change, the First World War, and the Great Depression destroyed the economic basis of that system. So, capitalism reinvented itself. Capitalism 2 lasted about 40 years, going through various sub-versions, starting with the New Deal and continuing on through the war economy and the postwar Keynesian golden age. A crisis of inflation that began in the late ’60s, coupled with oil shocks and the Vietnam War, brought this phase of capitalism to an end. But again, the capitalist system reinvented itself, and from 1979, with the election of Margaret Thatcher in Britain and then of Ronald Reagan in America, another version of the capitalist system, Capitalism 3, arose. GZ: So the differences among these phases of capitalism were essentially different dynamics between government and markets? AK: That’s right. In the first phase, government and markets were completely separate. Then from the 1930s onward, there was a belief that the market had failed and that government had to be brought in to fix it. After about 40 years, the opposite view took hold. This time the conclusion was that government is always wrong and that the market is always right. That was Capitalism 3.0. GZ: So, what does Capitalism 4.0 look like? AK: The essential feature of this new phase will be a much more skeptical attitude, both toward the market and toward the government, and this is quite empowering. To recognize the fallibility of both political and economic institutions doesn’t mean everything is going to collapse. What it does mean is that both these sets of institutions have to undergo improvements. If something’s fallible, if something’s imperfect, by definition it can be better, but also, they have to be balanced against one PwC View issue 13 79
  • 82. another. We can’t rely solely on the market or the government. We have to create a system of checks and balances, where the market prevents the government from becoming too powerful and the government prevents the market from going off on a tangent and making the sort of catastrophic mistakes that we’ve seen particularly over the last ten years. GZ: Clearly, Capitalism 4.0 sounds like a distinctive phase, yet the laissez-faire and the Reagan–Thatcher phases seem pretty much the same, or are there important differences? AK: That’s a very interesting point. The ideals, if you like, are the same, but, actually, if you look at the Capitalism 3 period, the 35 years from the mid 1970s until 2010, you had an infinitely greater role and responsibility for government than existed when the role of government consisted of nothing more than running a standing army. The 1930s taught us that it was impossible for a capitalist market economy to work for an extended period without some degree of government intervention, at least in monetary and fiscal policy. The idea that government could just completely get out and allow markets to stabilize themselves was no longer plausible. So I think even in the most radical periods of Thatcher and Reagan, there was never really any pretense of going back to a market economy that was totally unregulated and totally without government intervention. I think the biggest risk to the world, not just to America or Europe, is to continue with business as usual. 80 PwC View issue 13 GZ: The previous phases of capitalism seemed to provide the right solution at the right time. Will Capitalism 4.0 do the same? AK: I think if the attempt to reconcile politics and economics, to make them work together rather than working against each other, if that is seriously attempted, then I think it probably could work, but I may be wrong about that. It may be that there is an intrinsic incompatibility, if you like, between democratic politics and the requirements of the market system in the modern world, and, more likely, even if it could work, it may be that people aren’t going to try it. I think the biggest risk to the world, not just to America or Europe, is to continue with business as usual. If that happens, another version of “new” capitalism, such as state-run capitalism, could prevail. GZ: But aren’t there basic flaws in state-run capitalism? AK: Of course. There are basic flaws in every system. It’s a question of how big the flaws are and how they are dealt with. There’s no question that a totally state-dominated market system, where you have central planning and a bit of markets on the side, is doomed to failure. But there certainly is a case to be made for some government intervention in private markets. GZ: What’s that? AK: Government intervention and private markets have always coexisted because of private property. Private property exists only if you have a government to protect it. So the idea that somehow economics and politics are completely independent has never been valid. But new relationships between government and the private sector are needed. In some cases this will mean a bigger role for government, but in other cases it will mean a smaller role. In other words, government is going to get bigger and smaller at the same time, and there’s nothing contradictory about that.
  • 83. The wonder of capitalism and the reason that capitalism has survived world wars, revolutions, disease, and whatever, is that it is a very adaptable system, unlike any other socioeconomic systems we’ve seen throughout history. GZ: It’s a matter of adaptability? AK: It’s all about adaptability. The wonder of capitalism and the reason that capitalism has survived world wars, revolutions, disease, and whatever, is that it is a very adaptable system, unlike any other socioeconomic systems we’ve seen throughout history. It is highly adaptable, and that’s why it continually reinvents itself. It’s an evolutionary system. GZ: In what areas do you think government is likely to expand? AK: Financial regulation is obviously one area where we need more government. Even more important is the macroeconomic role of government in stabilizing growth. The idea that somehow the private economy had found a way of moderating itself and of just stabilizing itself and avoiding booms and busts is not valid. Booms and busts have to be consciously averted through macroeconomic policy. Also, international trade imbalances will not be left to market forces in the future. GZ: In what areas will government contract? AK: There clearly are areas where government is going to have to shrink. The enormous growth of social spending that we’ve seen all over the world, largely on pensions and medical care, is completely unsustainable. What the crisis did was bring the crunch point forward by about ten years, so instead of becoming unsustainable in 2025, the Medicare and Social Security system here in America or our National Insurance system in Britain is going to become unsustainable within the next few years. GZ: If the proper steps are taken, you’re optimistic? AK: I am potentially optimistic. And what I mean by that is I think the reasons for optimism are still valid. In other words, we have seen that the system can adapt, can save itself, and can change in response to a changing environment. GZ: Specifically, what needed to occur for that to happen? AK: First, a deep depression had to be avoided after the crisis, and now a double-dip recession has to be prevented. To do that you had to guarantee the credit system without limit. You had to ensure that the banking system, the financial system, did not collapse, and it was only, ultimately, the government and the central banks that can do that. Second, you had to reduce interest rates to the lowest possible level, which again, the US did extremely quickly, getting it right down to zero rates within three months. And the third—and this one is most debatable and probably least important—was fiscal stimulus. All three of those actions were the right actions to take in the aftermath of the crisis, but the real question is, How big should they be, how long should they go on, and what should be the exit strategy? That’s where the real debate is. GZ: What about investment? AK: We are now moving into a phase where government stimulus has to make way for business spending. Businesses have strong cash flows and profits and should become sufficiently confident or even optimistic about the outlook for demand in the next five years to start investing some of that money. There is some sign that’s happening. I mean, even the last couple of quarterly GDP figures show that real corporate investment in the US has been PwC View issue 13 81
  • 84. If we are going to have a decent rate of economic growth in the world over the next ten years, it is going to have to be led by business investment. growing at annualized rates of 10 percent-plus, so there is some sign of this coming back, but it’s a slow process. And, unfortunately, unemployment is the last indicator to start improving in any economic cycle. GZ: What would help to unleash a wave of investment? AK: Tax cuts are a popular prescription, and they might be the right thing to do if there were no other constraints. The problem is that we’re not in a world where everything else is equal because we already have enormous deficits. So, sure, if it weren’t for the deficits, this would be a great time for tax cuts, but given the size of the deficits not just in America, but in most countries, I don’t think large-scale tax cuts are really feasible. However, I would do all I could to avoid raising taxes. I also think public spending would help if it was directed towards actions that generate immediate economic activity, like physical investment in energy, roads, and so on and in things like unemployment benefits which go to people who immediately would spend the money because they’re living from government check to government check. Again, the constraint is that you already have these enormous deficits, and you can see them growing rather than shrinking in the future, and we’ve already spent so much, and government revenues have fallen so far as a result of the recession. GZ: Despite the problems, if you were a businessman, would you be holding back or looking for opportunities? AK: I would be very much looking for opportunities, but specifically, I would be looking for the kind of opportunities that are ripe for exploitation despite the generalized excess capacity and unemployment in the world economy. So let me give some specific examples. For instance, it’s clear that one way or another, the US is not going to have the same kind of trade deficit over the next ten years as it’s had over the last ten years, because it’s unaffordable, it’s not financeable, and the country won’t stand for it. It is also clear that the world will be shifting away from fossil fuels—not only because of environmental pressures, but because oil will eventually run out. Therefore, the incremental opportunity for American business over the next ten years is going to be in exports rather than in serving the domestic market, and in developing new energy technologies, even if they seem uneconomic relative to today’s prices for coal and oil. GZ: What about consumption? AK: House building in America is going to be much weaker in the next ten years than it has been in the last ten, but the other side of that coin is that the opportunities to supply overseas markets from an American production base employing American workers are going to be larger. Now, it may be that will occur because the dollar will be much cheaper. It’s already cheaper to employ workers in America than in almost any other really advanced developed country, much cheaper than Germany, cheaper than France, significantly cheaper than Japan. But so far, many American businesses have not really tried to exploit this very large cost
  • 85. advantage. So I’d be looking at opportunities involving how American companies can exploit the growth of overseas markets. Perspectives GZ: Is this easier said than done? AK: Yes. There are a lot of adjustments that have to take place, but I would look at which of the sectors have grown too fast over the last ten years and are going to decline. I would take capital out of these, and then I would try to determine which sectors are likely to develop over the next ten years, and that’s where I’d be putting capital. Interest rates I think interest rates are going to stay low for much longer than people were expecting a few months ago. Even now, I don’t think people have quite adjusted themselves mentally to how long interest rates are going to stay low. They won’t necessarily be at zero, but we’re not going to see interest rates above 2 percent anywhere in the world in any major economy at least until the second half of this decade. Interest rates are going to have to stay very, very low over the next ten years, because huge cutbacks in government borrowing will be occurring and ultra-stimulative monetary policy will be the only way to prevent economic slumps. GZ: Once Capitalism 4 has run its course, what’s Capitalism 5.0 going to look like? AK: Sooner or later, there will be a crisis that actually can’t be dealt with by national decisions. There will have to be some kind of global governance. So, I think Capitalism 5.0 will be about evolving a global system for running the world. I can’t imagine if or how that’s going to happen, but one way or another it will have to happen—and therefore I believe that it will. Anatole Kaletsky on . . . Economic recovery If we are going to have a decent rate of economic growth in the world over the next ten years, it is going to have to be led by business investment. Companies are very nervous about whether there’s going to be another recession, about whether they’ll see another collapse in their markets. And this is quite understandable. But if companies don’t invest that money, you wind up with a classic Keynesian slump. So companies have got to be encouraged to invest. And, really, there are only three things that will make that happen. One is the growth of the market, another is low cost of capital, and the third is significant changes in technology or market structure, which create new opportunities or new requirements for capital. Under those conditions, you could really have a corporate-led expansion in the world economy which will surprise people with its strength. PwC View issue 13 83
  • 86. view issue 13 Editorial Contributors Editorial Director Tom Craren We thank the following individuals for their contributions to this issue of View: Managing Editor Gene Zasadinski Assistant Managing Editor Christine Wendin View points Editor Reena Vadehra Kris Brown Kelly Conley Dennis Curtis Jim Kelly Michael McHale Gary Meltzer Sotiris Pagdadis Carter Pate Contributing Editors Vinod Baya Anne Maloney Deepali Sussman Peter Vigil Online Managing Director, Online Marketing Jack Teuber Peter Raymond Erik Skramstad Photography AP Images Wolfgang Bellwinkel/laif/Redux Todd Bigelow Corbis Stephan Elleringmann/laif/Redux Getty Images Design Odgis + Company Mark Graham/The New York Times/Redux Justin Guariglia/Redux Paul Hahn/laif/Redux Creative Director Janet Odgis iStockphoto Art Director, Senior Designer Banu Berker Nele Martensen/laif/Redux Designer Rhian Swierat Sally Ryan/The New York Times/Redux Kit Kittle Hans-Christian Plambeck/laif/Redux Reuters Pictures Bertram Solcher/laif/Redux Mario Weigt/Anzenberger/Redux 84 PwC View issue 13
  • 87. View magazine is printed at an ISO 14001:2004 certified plant with Forest Stewardship Council (FSC) Chain of Custody certification (BVCOC-080903). It was printed with the use of renewable wind power resulting in nearly zero volatile organic compound (VOC) emissions. The paper used is 10 percent recycled minimum with postconsumer waste. By printing at a facility that uses wind-generated electricity: 6,440 lbs of greenhouse gases were prevented equivalent to 5,588 miles not driven in a year equivalent to planting 438 trees By using postconsumer recycled fiber in lieu of virgin fiber: 105,932 gallons of wastewater flow was saved 12,070 lbs of solid waste was not generated 32,676 lbs net of greenhouse gases was prevented 158,000,000 BTUs of energy was not consumed Source: Environmental Defense Fund paper calculator 10% Cert no. BV-COC-080903 To request additional copies of View or to comment: www.pwc.com/view. PricewaterhouseCoopers provides industry-focused assurance, tax and advisory services to build public trust and enhance value for our clients and their stakeholders. More than 163,000 people in 151 countries across our network share their thinking, experience and solutions to develop fresh perspectives and practical advice. © 2010 PricewaterhouseCoopers LLP. All rights reserved. “PricewaterhouseCoopers” refers to PricewaterhouseCoopers LLP, a Delaware limited liability partnership, or, as the context requires, the PricewaterhouseCoopers global network or other member firms of the network, each of which is a separate and independent legal entity. This document is for general information purposes only, and should not be used as a substitute for consultation with professional advisors. The information contained in this document is for general guidance on matters of interest only. The application and impact of laws can vary widely based on the specific facts involved. Given the changing nature of laws, rules, and regu­ations, there may be omissions l or inaccuracies in information contained in this document. Before making any decision or taking any action, you should consult a competent professional adviser. Although we believe that the infor­ ation contained in this document has been obtained from reliable sources, m PricewaterhouseCoopers is not responsible for any errors or omissions contained herein or for the results obtained from the use of this information.
  • 88. Rear view www.pwc.com/view Does your company operate in China? These questions frame the key challenges. {{ As China moves toward becoming the largest economy in the world, will it align its political, economic, regulatory, legal, and commercial systems with those associated with today’s developed nations? Or will it establish a new set of rules? {{ Is China a socialist country with significant state involvement and ownership in the economy? Or is it a capitalist country with free markets and private enterprise? {{ As China moves up the value chain, how should Western companies compete and partner with Chinese domestic companies and state-owned enterprises? {{ Can we realize new efficiencies in the supply chain while maintaining its integrity by collaborating with Chinese companies that are penetrating the domestic market at lower price points? {{ Where are the opportunities for growth within China?