Kaesong Industrial Complex Part V: Economic Flow Architectures
A Case Study on Globalization's Reach into North Korea
Analyzing Architectures
I have discussed the five supply chain architectures in several previous posts, but I believe I forgot to emphasize that only high-performance supply chains truly employ all five architectures successfully. Arguably, due to underdevelopment across a significant part of the region, the majority of supply chains running through East Asia are either unable to employ all five architectures or are doing so insufficiently enough to not be labeled "high-performance."
Thus, when discussing Kaesong's architectures across the four flows, it is necessary to understand some architectures might simply be non-existent depending on the flow in question. Those architectures that do exist will vary in terms of quality as well as suitability.
It is also necessary to understand that this case study cannot possibly capture all the architectures being employed. I will be relying primarily on the availability of online resources and thus my goal is to capture the essence of each architecture type while providing concrete examples to illustrate my points. At the end of this attempt, I will summarize the case study by briefly looking at how Enterprise Resilience Management (ERM) might be deployed to better integrate Kaesong-related flow architectures.
Economic Flow Architectures
The economic dream for Kaesong is driven by the optimism of its supporters. This optimism is captured in the promotional videos for Kaesong, which not coincidentally resemble the promotional video for Incheon's Songdo technology park and videos I have seen for special economic zones in China. (Dramatic music and intense voices included)
On June 30, 2003, three years after the Joint Declaration, a joint groundbreaking ceremony was held for Kaesong, it having officially been designated a special economic zone by the North Korean Government (see picture).
Although later than initially inticipated, by December 2004 fifteen South Korean companies moved into the Phase I, 91,840 square meter model complex, illustrated in the picture on the left (Chul, pg 1). One of these companies, a South Korean kitchen utensil company, Living Art, had manufactured and sold all of its 1,000 sets of Kaesong-made stainless steel cooking pots only two days after hitting the South Korean market (Chul, pg 1).
Physical Architecture
Starting with the most basic infrastructure utilized in the supply chains driving economic flows to and from Kaesong, reconnection of the Seoul-Sinuiju railway and roads crossing the DMZ was first agreed upon. Specifically, roads opened up in the first half of 2004. The first-stage infrastructure at Kaesong is to be completed this year--a plot of 3.3 square kilometers. Including the 91,840 square meter pilot complex illustrated above, this will be a small part of the final, 65.7 square kilometer site, of which 60% will be residential housing and services infrastructure (Chul, pg 3-4).
With the following pictures, we can review how Kaesong's geograhical location is appealing. (Graphics are taken from Hyundai Asan's English website. Please reference for a nice outline of Kaesong's basics).
The lead developers are Hyundai Asan and Korea Land Corporation, which together have obtained leasing rights from Korea for 50 years. Handling the above-ground, electricity infrastructure is the Korea Electric Power Corporation, which launched its service of 15,000 kilowatts to Kaesong on March 16, 2005. However, this service is limited to the pilot fifteen South Korean companies (Chul, pg 4-5). The initial companies are low-tech, low-resource firms who don't have the ability to initiate production in China or elsewhere overseas, nor the talent to facilitate such an effort. In this sense, North Korea's proximity, low-cost, and language familiarity are significant deal winners. (Note: English websites tend to be quite outdated, but are helpful for the basics).
Korea Telecom has a agreed to provide telephone lines, through a service agreement signed on December 30, 2004 and supplemented on March 24, 2005. However, due to the complexity of deliverying telephone and internet service across the DMZ into Kaesong, several details are still under negotiation. These include such things as: telephone area code, how to physically install the optic cables across the DMZ, call rates, management, income shares and worksheet methods (Chul, pg 6). In other words, no short list! An update from Korea Telecom dated March 29, 2005, however, states that the call rate will be US 40 cents per minute with telephone numbers from South Korea to Kaesong designated by 001-8585-XXXX and from Kaesong to South Korea 089-XXX-XXX. As of February 24, 2006, there is now caller ID service for Kaesong phone calls.
North Korea supplies the human capital. As of March 2005, 1900 North Koreans were working at Kaesong, 730 to 740 were in training, and 950 were working in construction and road paving in building the site infrastructure. Another 220 North Koreans were involved in office work assisting the management committee and Hyundai Asan or are involved in basic services such as cleaning, convenience store sales, and cooking (Chul, pg 6). More recently, an article in chosun.com from April 9 (in Korean) states that there are currently 6500 North Koreans working at Kaesong, almost double from the same time in 2005. The article also mentions that the plan is to utilize approximately 100,000 North Korean employees when Phase I of Kaesong is in full swing. UPDATE: A new article lists the employee number as 6895, an indication that employment is rising quickly in the complex:
"The number of North Korean workers at a South Korean-run industrial complex in the North Korean border city of Kaesong rose 22 percent every month over the past one and a half years, the South's Unification Ministry said Wednesday.
"Over the same period, production increased 36 percent every month due largely to a rise in the number of South Korean factories operating in the complex, according to the ministry.
"As of Friday, a total of 6,859 North Korean workers, including 1,047 construction workers, were registered at the complex."
It also states:
The North Koreans work with about 300 South Koreans in Kaesong.
From the banking sector, Woori Bank has taken the lead in developing physical architecture for banking services.
As I mentioned in Part IV, my friend indicated Hyundai Oil Bank has established two gas stations at Kaesong. After researching Oil Bank's site, I found an English article from August 2004. It is reprinted here in its entirety because it is a great illustration of the physical architectures in place to deliver fuel to Kaesong:
"Hyundai Oilbank (CEO Youngtae Seo) announced on the 29th that it would deliver fuels to North Korea via land for the first time among the Korean refineries. It is said to send 2 tank lorries bearing the logo of the company for construction to link railway and highway lines of the two Koreas named Kyung-i Line and Tonghae Line.
"Fuels to be delivered by Hyundai Oilbank are said to be used for various equipment and facilities on the site of railway and highway construction. For the first ground transportation of fuels, which is a step forward from previous drum transportation method by ship, Hyundai Oilbank will use tank lorries to deliver fuels directly to construction site.
"Hyundai Oilbank is said to deliver fuels to Kyung-i Line construction site first. Hyundai Oilbank will load a total of 58,000 liters of fuels to two 32 kl-tank lorries at its Incheon storage site. The tank lorries will cross Reunification Bridge and pass through the Military Demarcation Line and then finally arrive at a fuel storage site in Gyesung, North Korea, to unload fuels. After arriving at Gyesung, the tank lorries will be sent to Kyung-i Line and Tonghae Line construction sites to unload fuels at fuel storage facilities and then head back to Incheon Storage on the same day.
"Diesel fuel of 58,000 liters to be delivered by Hyundai Oilbank is the volume of fuel consumed at the construction sites in about a week and the company is said to make about 100 fuel deliveries until the railway and highway constructions are completed.
""We are very pleased that our fuels are to be delivered via land to the construction sites where South Korea and North Korea are working side by side to link their railways and highways, which symbolizes reconciliation and cooperation between the South and the North," said Young-moo Lee, Managing Director of Direct Sales Team of Hyundai Oilbank."
Other details, such as plumbing, drainage and roads will continue to be under construction, including separate infrastructure facilities for industrial water, waste water and factory waste treatment centers (Chul, pg 9).
Financial Architecture
As cash flow is created at Kaesong, the companies that have incorporated the industrial complex into their supply chains as well as the governmental organizations managing the site must have the right financial architectures in place to facilitate further growth and investment. In terms of Kaesong's cash contribution to inter-Korean trade, an article posted at the Kaesong Community Forum from January states:
Inter-Korean trade volume broke $1 billion for the first time last year since the North began to import South Korean products in 1988, the Korea Investment-Trade Association (KITA) said Sunday.
Trade between South and North Korea brought to a halt with the division of the peninsula 55 years ago reached $100 million in 1991 and again soared 10 times to $1.05 billion in 14 years last year, up 51.5 percent from a year earlier.
"As companies in the North's Kaesong industrial complex are expected to put themselves into a full gear this year, inter-Korean trade will surely surmount last year's trade volume," a KITA official said.
Of the inter-Korean trade, exports bound for the South stood at $340 million while those bound for the North was at a much higher $710 million. Trade regarding the Kaesong industrial area accounted for 6 percent of the total inter-Korean trade in 2004. It rose 10 percentage point to 16.7 percent, or $177 million, last year.
As a result, the non-governmental, commercial trade amounted to 65 percent of the total inter-Korean trade, the highest level since 2000, while the government-led non-commercial trade accounting for 35 percent.
Moreover, more South and North Korean firms are forming a joint venture turning away from a processing-on-commission. But the inter-Korean trade accounted for only 0.19 percent of the nation's overall trade volume for 2005.
Inter-Korean transaction seems to have much room to grow given its tiny proportion in the total trade between the two sides, the KITA official said.
"To promote inter-Korean trade," he noted, "Seoul should allow South Korean businessmen to freely visit the North on their needs, make their communication with their North Korean counterparts easy and establish a quick road transport system across the demarcation line."
UPDATE: A more recent article comments on the financial figures from Kaesong:
"Since the first product was made in December 2004, the total output has amounted to US$27.46 million, which means a monthly average rise of 36 percent. In particular, production exceeded $5 million in March, a 40 percent rise from February," he said.
Once cash flow is generated in Kaesong, it is distributed as follows:
- Workers are paid basic wages of $57.50 per month (about 1/3 of China). This includes social insurance and pension, with an annual maximum pay raise of 5% per year.
- Corporate income is taxed from 10% to 14% based on set criteria regarding industry type
Woori Bank, mentioned above, primarily handles remittances and foreign exchange services for the firms at Kaesong (Chul, pg 8). Foreign currency can be used freely and the architectures exist for the use of credit cards.
Informational Architecture
As the saying goes: "Information is power." Thus, given North Korea's long-time isolation in the face of encroaching globalization and Seoul's densely wired metropolis, it is not unexpected that informational architectures lag those already discussed above. In fact, with almost any supply chain in its rudimentary stages advanced informational architecture is often considered a luxury.
For Kaesong, much of the future informational architecture to be expected will rely on the foundation of telecommunications infrastructure being developed by Korea Telecom and its North Korean counterparts. Negotiations will be key and so will the governing political architectures.
For the time being, the basic architectures exist enabling both cell phones and the internet to be freely used, as mentioned above.
Relational Architecture
Relational architectures are a very significant part in making economic flows into and from Kaesong possible. They elevate links between supply chain entities from a simple transaction involving the exchange of cash for a good or service to the level of collaboration and partnership, creating and driving more value through the supply chain and passed on to customers. As an example, The Center for International Cooperation for North Korean Development plays a role in facilitating Kaesong's progress across participants in its development. Its aim is to:
- Facilitate productive interaction between the international development community
and North Korea - Conduct research and evaluate roadmaps for North Korean development
- Work cooperatively with North Korea institutions and potential development partners
in designing and promoting effective programs and projects - Create a worldwide network of experts who can contribute toward North Korea's
development - Strengthen institutional capacities within North Korea to work productively
with development partners - Work to eliminate other barriers impeding cooperation
As can be seen, this organization is all about building relational architectures. They have a list of activities at their site, but like I said before, the English site is less dynamic and outdated compared to the Korean site.
Innovational Architecture
Innovational architectures are often the last to be developed in a supply chain. They represent an evolution of improvements that ends in a firm regularly reinventing itself across and within its supply chains to increase value provided to customers and improve extended enterprise resilience and thus long-term health of the entire organization; not just financially, but in terms of customer success, process strength, and the health of IT, people and leadership foundations (see Balanced Scorecard strategy mapping).
We can safely say that supply chains utilizing Kaesong are not yet to this level. Although this type of outsourcing is intriguing:
"In November 2004, several South Korean companies hired 255 North Korean workers when they moved into the complex at its opening.
"The complex, still in its pilot stage, is now home to 11 South Korean companies that produce garments, kitchenware and shoes.
"Go said four of them, such as apparel maker Shinwon Co. and socks manufacturer Sunghwa, sent a total of 53 North Korean workers to China for technical training."
This utilization of China in the supply chain is a basic form of innovation--and illustrates in one respect China's rise in the food chain. I would bet that the same type of exchange is being initiated by firms operating in Vietnam.
As we will see in the next parts to this case study, the characteristics of the architectures upon which the other flows are built on will affect the supply chain resiliency of economic flows. The flows cannot be divorced from each other, but they can be sequenced and timed according to the development scenario in question.
COMMENTARY: Honestly, collecting and dissecting information on economic flows into and from Kaesong took longer than I anticipated. The economic interaction between North and South Korea has reached a complexity through just this industrial complex above and beyond what I had imagined when I started my research. As we will see, breaking down the architectures for parallel political (Part VI), security (Part VII) and people (Part VIII) flows will add additional, and necessary, complexity--a complexity that I believe can be managed by the ERM (ERM) Solution in development by Enterra Solutions. This component, the third in building my FAR Matrix, ensures the ability to design and describe the appropriate pathways for a DiB solution. I hope this becomes clearer by the end of this case study.
