The Cost of Doing Business with a World Power

It’s not easy being the first into a new market. Especially a market as vast and complex as China.

In Their Shoes

Let’s say that you are the founder of an Internet search engine, called, um, Yahooglesoft. As a publically-traded company in a growth industry, you know that the greatest growth opportunities exist globally. So you enter China and slowly navigate its unfamiliar laws. To make things easier, you decide to open an office in Beijing. What better way to learn about this new market than to have a satellite office, right?

However, this new market has restrictions. In order to do business here, you have to comply with their regulations on information censorship. In their eyes, this is everyday life and most of its citizens don’t see it as an evil. These regulations also block harmful sites such as child pornography, so they accept it.

Since information censorship runs counter to your values, this makes you uncomfortable. But several factors motivate you to adopt these regulations: the market alternatives are weak and your offering will benefit many new users, to satisfy your shareholders you need to continue growing the company, and a domestic competitor will surely enter this market if you don’t. So you strive forward, ahead of your competitors.

You’ve also censored your search results before, in France, Germany, and your own home country the United States of America. There’s already a precedent of removing certain search results based on the laws of that particular nation. China just has stricter regulations.

Since the Internet basically operates across a network of wires, the further a signal needs to traverse the wires, the longer a user has to wait for a web page. To solve this, you locate some of your web servers into China, to be closer to your Chinese users. This move puts that data under the legal jurisdiction of China, however. But it vastly improves the user experience, your product, and the enjoyment of your users.

Every so often, the local police ask you to release information about private citizens. Refusing them means blocking a police investigation and possible jail time. Not wanting jail, your employees turn over this information each time. In most cases, such investigations are to trace murderers, thieves, and other criminals.

But in one case, the information is used to incarcerate a journalist. As the founder of Yahooglesoft, you don’t hear about this until it’s made the headlines. You’re aghast. You condemn the actions of China, yet you know your employees simply did what they were supposed to, what anyone would have done under those circumstances. There was no way they could have known about the consequences of their actions.

So if you put yourself in these shoes, and without the ability to tell the future, what would you have done in this situation?

Yahoo! and the Case of Shi Tao

Yahoo! (YHOO) was the first US-based Internet search engine to enter China. In 1999 it opened up a Beijing office and launched its Chinese-language search engine. Microsoft (MSFT) and Google (GOOG) entered the market later and enjoyed a second-mover advantage by being able to learn from Yahoo!’s actions.

In 2004, Chinese authorities discovered that a private citizen had sent an email containing what it deemed as “top state secrets” to an overseas organization using Yahoo!’s Chinese email service, according to EastSouthWestNorth’s article “The Case for Shi Tao“. The authorities approached the Yahoo! Hong Kong office with a judicial warrant to obtain the sender’s IP information. The warrant didn’t say why this information was needed, and “it is reportedly customary for e-mail service and Internet access providers to transmit information to the police about their clients when shown a court order,” according to Reporters Without Borders (RSF)’s article “Information supplied by Yahoo! helped journalist Shi Tao get 10 years in prison“.

In the comprehensive article “How Multinational Internet Companies assist Government Censorship in China” by Human Rights Watch, Michael Callahan, Yahoo!’s General Counsel, is quoted as saying, “When we receive a demand from law enforcement authorized under the law of the country in which we operate, we must comply.” Not doing so means legal action against the company and its employees. Callahan continued: “Law enforcement agencies in China, the United States, and elsewhere typically do not explain to information technology companies or other businesses why they demand specific information regarding certain individuals.”

It turned out that the data the authorities needed wasn’t located in Hong Kong—it was located on servers in mainland China. Independent research from RSF confirmed this as well. So the employees of Yahoo! China did what any law-abiding citizen would do when presented with an ominous judicial warrant; they did as the warrant requested.

This led to the arrest of Shi Tao in 2004, a journalist, writer and poet. According to Wikipedia, “the Chinese authorities confiscated his computer and documents without showing any proper permit or document, and warned his family members not to talk about it with others.” He was sentenced to ten years in prison.

This past Wednesday, Yahoo! co-founder Jerry Yang and Callahan testified in a hearing called by Representative Tom Lantos, chairman of the House Foreign Affairs Committee. The purpose was to determine if Callahan intentionally gave misleading testimony in February 2006 on this case. “While technologically and financially you are giants, morally you are pygmies,” Lantos chided. RSF also condemned Yahoo!: “We already knew that Yahoo! collaborates enthusiastically with the Chinese regime in questions of censorship, and now we know it is a Chinese police informant as well.” Even Zhao Jing (also known as “Michael Anti”), a Chinese journalist whose blog was removed from MSN Spaces by Microsoft at the request of Chinese authorities, had these scathing words: “Yahoo is a sellout. Chinese people hate Yahoo.”

Yahoo! has also been implicated in the jailings of three other Chinese journalists: Lijun Jiang in 2002 (four-year imprisonment), Wang Xiaoning in 2002 (ten-year imprisonment), and Li Zhi in 2003 (eight-year imprisonment), all of whom used Yahoo!’s Chinese services.

Reaction from Chinese Bloggers

Words like “repressive regime” and “totalitarian” are used often in the Western press to describe China. Especially when it comes to censorship. But there are two sides to every story. It’s easier to criticize and assign your own values to another society than it is to try and understand them.

From Zhao Jing (Michael Anti)

In a statement on his web site (and translated into English), Zhao writes:

When foreigners repeatedly use “totalitarian” to describe China, this is a deep shame for me as a Chinese person. This shame cannot ever be forgotten.

These kind of sentiments cannot be understood by foreigners. When the US Congress holds a hearing about Internet freedom in China, this is an American affair. When the US Congress proposes Internet freedom of information legislation, this is truly treating the freedom of the Chinese netizens as maids that they can dress up as they see fit.

From Angry Chinese Blogger

An article on by Angry Chinese Blogger entitled “Truth, Justice – or a near sighted attack on the Chinese way” also adds (emphasis his):

Critics have noted that, while the US administration, the private sector, and the NGO sector, will be well represented at the committee hearing, there will be no panel for representatives of the Chinese government. Leading some observers to accuse the committee of ‘judging a foreign state using domestic standards‘ and of ‘acknowledging only to two sides of a three sided confrontation‘.

In a previous article, “Aiding the enemy: Congress’s New Dilema“, he pointed out the hypocrisy of China’s critics. One of the loudest is RSF, a France-based organization that “fights against censorship and laws that undermine press freedom.” Ironically, the French government once mandated Yahoo! France to remove all neo-Nazi memorabilia from its auctions. Angry Chinese Blogger writes:

While, under French law, the sale of items, promotion of ideologies, or denial of war crimes, relating to the the Nazi, is forbidden, all of these activities are protected as basic human rights under the US constitution; which guarantees freedom of expression and association, even in the case of revisionism and hate speeches.

As such, the removal of Nazi item from Yahoo’s French website, under local law, could be constituted as illegal censorship under any new US laws governing complicity in overseas censorship.

RSF also publishes a Worldwide Press Freedom Index that rates every country in the world. Iceland is ranked #1, while France is #31. The US is further down the list at #48, below Nicaragua, Israel, and South Africa. China is #163.

Angry Chinese Blogger also wonders about the good-hearted intentions of the US government. In 2002, Lantos and Congressman Chris Cox proposed the creation of an “Office of Global Internet Freedom”, which later materialized as the Global Internet Freedom Task Force (GIFT).

Despite the apparent benevolent intentions of the proposed body and bill, critics have however questioned whether they would really be a force for the preservation and promotion of global internet freedoms, or if they would merely be another avenue for the furtherance of US ideologies. With critics asking whether such an office would, for example, fight with equal vigor to protect websites promoting socialism in South America, as it would sites promoting US style democracy in China.

From EastSouthWestNorth

In EastSouthWestNorth’s article “Yahoo! and the case of Shi Tao“, the author examines the need for censorship.

Yes, there is true outrage about suppression of freedom of speech. But the answer is not to say that no censorship whatsoever shall be allowed at all. There are in fact legitimate reasons for some things to be censored (for example, child pornography is universally abhorred).

He further explains the need for some Internet censorship in the article “Hinano Mizuki: The Case for Internet Censoring in China“, which argues that pornography should be censored, not just from children, but from everyone. In Western societies, nudity is generally more acceptable. Not so in many Eastern cultures. In Angry Chinese Blogger’s About Me page, he writes: “I have a number of pet hates, including commercialism, cultural imperialism, and the insidious way that loose western values appear to have crept into Asian society.”

EastSouthWestNorth also posted a brief in response to a number of articles from RConversation, the blog of Rebecca MacKinnon, an American journalist and assistant professor in Hong Kong. One in particular, “China censorship: Microsoft’s defence“, motivated EastSouthWestNorth to write:

You can condemn these companies for all you want, but in the end there has to be a practical and workable solution for them. Rejecting every single Chinese government warrant is NOT the answer, because you are in fact aiding and abetting real criminals most of the time. I personally do not see how this can be done. The change will eventually have to come from inside China about the law.

From Danwei

Dror Poleg of Danwei, a marketing manager for an international investment company in China, argues for a more free-market approach to changing China’s Internet censorhip regulations in the article, “China and the Internet: It’s access, stupid.”

The web, with or without Tibetan rebels or the BBC, is the main driver of change in China. Concerns should focus on the fact that currently only 110 million people in China have Internet access. This comprises the world’s second largest online market, but counts only for 10% of China’s population.

US lawmakers should keep that in mind when approaching China. It is necessary to set ground rules for U.S. companies operating abroad, but as far as China is concerned, the imperative should be to allow access to as many people as possible. After that, when 400 million Chinese citizens are online, leave it to the market to bring down the walls.

From the New York Times

In the thorough New York Times article “Google’s China Problem (and China’s Google Problem)“, author Clive Thompson writes about a discussion he had with Kai-Fu Lee, who founded the Microsoft Research division in Asia in 1998 and Google China in 2005.

But as Lee and I talked about how the Internet was transforming China, he offered one opinion that seemed telling: the Chinese students he meets and employs, Lee said, do not hunger for democracy. “People are actually quite free to talk about the subject,” he added, meaning democracy and human rights in China. “I don’t think they care that much. I think people would say: ‘Hey, U.S. democracy, that’s a good form of government. Chinese government, good and stable, that’s a good form of government. Whatever, as long as I get to go to my favorite Web site, see my friends, live happily.'”

He also reports that the Chinese government does not hide its censorship regulations. It’s well-known throughout the country that information is censored. In one example, a group of Harvard researchers presented a study on the Chinese Internet to a Chinese professor. The professor related the following story: “I talked to them and asked, ‘What were your results?’ They said, ‘We think the Chinese government tries to control the Internet.’ I just laughed. I said, ‘We know that!'” Another professor added, “Chinese people have a 5,000-year view of history. You ban a Web site, and they’re like: ‘Oh, give it time. It’ll come back.'”

The Western press often misunderstands what exactly is censored. Zhao, who has no reason to defend the Chinese government after they removed his blog, told Thompson: “If you talk every day online and criticize the government, they don’t care, because it’s just talk. But if you organize — even if it’s just three or four people — that’s what they crack down on. It’s not speech; it’s organizing.”

If you look at China’s past and history of media censorship, the Internet has already made radical changes to the Chinese culture, as Zhao tells him:

Before, he said, the party controlled every single piece of media, but then Chinese began logging onto discussion boards and setting up blogs, and it was as if a bell jar had lifted. Even if you were still too cautious to talk about politics, the mere idea that you could publicly state your opinion about anything — the weather, the local sports scene — felt like a bit of a revolution.

There is also no master blacklist of sites and words. Companies must interpret the vague regulations themselves. This confusion has lead to rampant self-censorship by Chinese ISPs to a degree probably stricter than the government intended. Thompson asked Xin Ye, founder of Sohu.com if dealing with these vague regulations was difficult. “I’ll tell you this, it’s not more hard than dealing with Sarbanes and Oxley,” he answered. “I don’t want to call it censorship. It’s like in every country: they have a bias. There are taboos you can’t talk about in the U.S., and everyone knows it.”

The Competition Angle

As US companies face criticism and possible legal repercussions back home, Chinese competitors continue forward.

Chinese companies already have a home-field advantage of innately understanding the market. For example, according to Thompson in his NYT article, Chinese businesspeople “rarely rely on e-mail, because they find the idea of leaving messages to be socially awkward. They prefer live exchanges, which means they gravitate to mobile phones and short text messages instead.” Local competitors were able to build products catering to this behavior before their US counterparts could.

As Yahoo found, these cultural nuances made the sites run by American companies feel simply foreign to Chinese users — and drove them instead to local portals designed by Chinese entrepreneurs. These sites, including Sina.com and Sohu.com, had less useful search engines, but they were full of links to chat rooms and government-approved Chinese-language news sites.

Some of the major Chinese Internet companies are:

• Baidu.com (BIDU) – the leading search engine
• Sina.com (SINA) – the leading web portal
• Sohu.com (SOHU) – another web portal
• Alibaba Group (1688.HK) – the leading B2B marketplace

Wall Street Journal’s article “Yahoo’s Lashing Highlights Risks Of China Market” notes that “while Yahoo and rivals like Google tried to comply with China’s local laws, [doing so] ultimately backfired on them domestically.”

“To be doing business in China, or anywhere else in the world, we have to comply with local law,” Yang is quoted as saying in the Washington Post article “Yahoo Says It Gave China Internet Data“. “I do not like the outcome of what happens with these things, but we have to follow the law.” But what if by following one country’s laws, you break your own country’s laws?

(Ironically, the US government itself has been accused of censorship when it filed a court order urging Google to remove the anti-Scientology organization Operation Clambake from its search results.)

Radio Free Asia points out this apparent catch-22 in “Rights Group Slams Google, Yahoo! Self-Censorship In China“:

Sources in Washington doubted whether any formal sanctions could be put in place to prevent companies from limiting freedom of expression in order to maximize profits, without risking charges of censorship themselves.

“The kind of regulation that would allow you to come after these guys for what they’re doing could also be used to silence them, could be used to impinge on their freedom of expression,” a lawyer with a Congressionally mandated organization told RFA.

This is what Angry Chinese Blogger calls an “Economic Paradox” (emphasis his):

In addition to moral issues, Congress also faces a number of stark concerns from the business community. With US companies stating bluntly that, if they refuse to comply with Chinese demands, and the requirement that all web services must be hardwired for censorship, China will simply switch to other foreign companies that are more willing to please.

Warning that, In effect, any legislation to enforce domestic constitutional standards on companies working in China could ‘hand American contracts, and American jobs, to oversea competitors who are not ‘burdened’ by such regulations’.

He offers this quote from Sonia Arrison, the Director of Technology Studies of the Pacific Research Institute, a free-market think tank in San Francisco, CA: “If Yahoo [doesn’t do] business in China, someone else will.”

On top of the Chinese companies’ home-field advantage, government regulations could add a significant hinderance to the success of US companies in China. “Some observers have cautioned Congress not to rush into the matter, and to be wary of producing ‘knee jerk’ legislation that could be counter productive, or even dangerous,” adds Angry Chinese Blogger.

Which businesses could be effected? There a fair number of US companies that have been implicated in aiding the Chinese government in Internet censorship, including:

• Yahoo
• Google
• Microsoft
• Skype (EBAY) – for censoring certain keywords from their text messages
• Cisco Systems (CSCO) – for providing censorship technology
• Sun Microsystems (JAVA) – for providing censorship technology
• Nortel Networks (NT) – for providing censorship technology
• Websense (WBSN) – for providing censorship technology
• Intel (INTC) – for providing censorship technology
• IBM (IBM) – for providing censorship technology

Lessons for Businesses Going Global

Please don’t get me wrong. I don’t mean to make light of the deplorable imprisonment of Shi Tao or his colleagues. While I understand that the Chinese government is trying to use Internet censorship as a tool to prevent what it feels is morally reprehensible content, it’s my cultural bias to believe it is abusing its authority by censoring politically different viewpoints as well.

Also, consider this sociological point of view: every time you preventing a group of people from seeing something, you’ll make a few in that group want to see it even more. It’s like putting a “Do not push” sign over a button and watching everyone push it. China’s Internet censorship plan may actually strengthen its opposition more than it is protecting itself.

It is easy to criticize Yahoo!’s actions in hindsight, especially with a US perspective and value system. But this isn’t a black-and-white case. The question shouldn’t be, “Is Yahoo! good or evil?” It should be, “What can we learn from this situation?” Here’s my take from the business perspective.

• Sometimes Being Second is Better

  In the early days of Internet businesses, there was (and sometimes still is) a strong belief around the value of the first-mover advantage. While there certainly are benefits to being first, there is also a high level of risk for first-movers in uncertain markets. Countries whose cultural thinking may be very different or contain complex & vague regulations, like China, are a good example. In such markets, there can be an advantage in letting the someone else take all the punches. Microsoft and Google both learned from Yahoo!’s actions and have not set up servers that contain personally-identifiable information within China, for instance.

• Be Prepared for Worst-Case Scenarios

  As Andrew Grove says, “Only the paranoid survive.” While it’s highly unlikely for Yahoo! to have forseen the consequences of locating their servers in China, a paranoid audit of China’s regulations may have netted this worst-case scenario. This doesn’t mean stalling out and taking no action; your business can’t grow if you don’t act. It means being prepared for & able to manage the potential risks of worst-case scenarios with any number of safeguards, including and perhaps especially legal safeguards.

  Human Rights Watch also adds this best practice:

  Human Rights Watch believes that it is likely impossible for an Internet company to avoid intentionally, negligently, or unknowingly participating in political repression when its user data is housed on computer servers physically located within the legal jurisdiction of the People’s Republic of China. Thus the first step towards human rights-compliant corporate conduct in China is to store user data outside of the PRC (or for that matter, outside any country with a clear and well-documented track record of prosecuting internationally protected speech as a criminal act).

• Understand Your Customer

  This concept is as old as apple pie, and just as good. When dealing with a foreign culture, it’s extremely important to understand the mentality, traditions, mannerisms, behaviors, and values of the people. This can be done with research reports, hiring international consultants, or working with a partner in the target country. According to Thompson in his NYT article, Baidu.com “invented a tool that allows people to create instant discussion groups based on popular search queries,” which capitalized on their users’ preference for online chatting, because it understood their users better than their US competitors.

• Understand Your Government’s Role

  This one’s a bit controversial and I am still debating it. Not everyone agrees that governments should get involved with business affairs (nor to its level of involvement). However, in the global marketplace, many governments are involved. Every government, to some extent, sets up trade barriers to protect local businesses, while hopefully not stifling foreign investments. In some cases, without your government’s support, it can be difficult or impossible to enter a foreign market. But how do you get your government’s support? Throw money at them? I’m not sure that’s in the best interest of the people, though it’s certainly what many companies do.

What other business lessons can be learned here?