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Are you making the most of your company’s ‘software layer’?

Reprinted with permission from McKinsey Quarterly.

As consumers increasingly interact digitally with companies, competitive advantage lies in understanding the range and complexity of those touch points.

The past 15 years have created a very different business environment, which has empowered consumers, commoditized many products and services, and dramatically compressed margins. Not surprisingly, these changes have forced businesses to operate differently. But exactly what kinds of companies have successfully transitioned to the digital age? How have they regained and retained competitive advantage at a time when location is no longer a barrier to transactions, brands alone aren’t a proxy for quality, and pricing is increasingly transparent?

Of course, the answers to these weighty questions vary by industry and company. But I want to advance an idea that can help just about all executives concentrate their thinking. Whether you know it or not, your company operates as two businesses: a core that sells products and services (as it always has) and what I call the software layer (exhibit). This permeable layer comprises the technologies through which customers interact with your company, and vice versa.

To compete successfully, you must run your core business and your software layer as rigorously as possible. That means building an effective experience for people who use digital media and technology to interact with your company, investing to make such interactions a reality, and adopting a product, marketing, and sales approach that integrates the core business and the software layer into one compelling offer. In the digital age, optimizing the performance of both core operations and the software layer is mandatory. You can’t choose one or the other.

Understanding the software layer

For most companies, the software layer includes a corporate Web site, mobile applications, and a presence on Facebook, LinkedIn, or other social networks. It also includes e-mails sent to consumers, contributions to online communities such as discussion boards, digital advertisements on third-party Web sites, or touch screen installations in public venues or stores. Less visible interaction points include the application-programming interfaces through which computer programs connect and communicate with each other, digital marketplaces, and the order-management systems that facilitate business-to-business transactions. Fundamentally, any way someone or something uses technology to interact with your company is part of your software layer.

The need for companies to have a software layer has been driven, not by the digital revolution itself, but by the changes in consumer behavior it has enabled.1 More and more people prefer to do business with companies online instead of in stores. They stream movies rather than find something on television, and pay bills online rather than mail a check. This exponential growth in the number of virtual consumers, upending decades of ingrained business behavior, will only increase as people born after the Internet’s advent become the primary consumers and business decision makers. A company’s digital touch points—the avenues through which it interacts with consumers, such as Web sites, mobile devices, and social media—are in the ascendant, and the software layer is critical to attracting and winning digital-first consumers.

Individual companies recognize this. The retail-banking operation of JPMorgan Chase, for example, ensures that as many aspects of the banking experience as possible can take place through mobile devices, from depositing checks to sending friends money. The software layer can also dramatically change the way industries operate.

Consider the advertising business. To buy a television ad, for example, I must get in touch with a sales representative, negotiate a rate, and go through many manual steps to ensure that the ad gets on air. To buy a search ad on Google, I interact only with its software layer and buy the ad through its Web site; the ad runs within minutes. Or I can write my own software that interacts with Google to place ads. Obviously, there are trade-offs for convenience. Google is a more frictionless, quick, and simple transaction, but the company’s prices are set in an automated way. Television has more fluid, subjective pricing, often the subject of fierce negotiation. Google’s product is standardized, with ads created by filling out an online form; television ads are unique on many levels and require massive human effort to create, with almost every product sale one of a kind. This example shows that operating a software layer isn’t just about running technology—it’s about a completely different way of managing your business.

Operating the software layer

The software layer is meant to streamline transactions so that people and organizations can interact with a company in a more automated and efficient way. This usability is the key determinant of the software layer’s success: the more frictionless and enjoyable an interaction, the more likely users will engage in it and in new ones, bolstering the broader organization. By contrast, confusing Web sites that, for instance, repeatedly crash frustrate users and drive them to competitors.

At Huge, we studied the operations of the Fortune 1000 companies2 and found dramatic differences in the efficacy of their software layers. Retailing, for example, was the most proficient of the industries we surveyed, but even within this group large variances were apparent. One major grocery brand, for instance, scored poorly in part because it hadn’t implemented many digital-media elements that would help it connect with and service users.

My sense is that the biggest challenge companies face when operating a software layer is precisely that it involves software. While technology companies are created from the ground up to build and operate great software, most others aren’t. And most companies can’t live with this ingrained disadvantage: as more consumers default to digital interactions, companies must become great technology organizations or at least build such organizations within their walls. In my experience, successful software layer operations require a mix of centralization, user focus, and integration.

Centralization

The most effective organizations consolidate the software layer’s management and operations in a central technology group, whose leaders understand what it takes to build successful digital businesses. Such a group must meet the user’s needs, maintain a focus on profitability and technical feasibility, and have the power to make broad-reaching decisions that can affect the entire company. Most important, it can’t be an “internal agency” whose client becomes whatever intramural group hires it, as that will increase the risk of creating a software layer that only adds friction between a company and the lion’s share of its users. To create a coherent digital experience for an entire company, it’s important to break organizational silos and to integrate features and content that would normally reside in very different parts of the organization. The way Facebook and other tech companies—such as Burbn (which developed the iPhone photo-sharing program Instagram), Tumblr, and Twitter—connect with their user bases demonstrates this approach, which creates a standard experience millions of people use.

User focus

A mix of qualitative and quantitative research, market insights, and intuition is central to identifying consumer needs and devising ways to satisfy them. Different companies approach this imperative differently. At one end of the continuum are Apple and the late Steve Jobs, who was famous for putting himself in the shoes of users and intuiting their experience. Google is at the opposite extreme: iterative testing and lots of data.3 Either method has distinct advantages and disadvantages. The Google strategy often produces a series of small, gradual improvements, while the Apple approach is riskier and takes bigger leaps in the user experience and product design. But no matter which style fits a company’s culture and assets, management must dedicate resources to investigating user needs and consider them when making any decision about the software layer.

Integration with the core business

The software layer, at its best, will evolve from a communications or operational tool into an actual digital product or service. Dish Network, for example, has made its analog television service much more desirable by adding streaming video to it through the acquisition of Blockbuster. Nutrisystem has turned a food delivery offering into a powerful online dietary service by providing weight loss tools. Converse, New Balance, and Nike all allow consumers to design their own sneakers through Web-based programs. Integration such as this doesn’t happen magically: the same central technology group that’s responsible for thinking through a company-wide software layer can boost the odds of creating competitive new business models and offerings by focusing on the relationship between digital experiences and a company’s existing analog products and services.

It’s perhaps easiest to envision how consumer-facing companies, such as retailers and financial institutions, can use the software layer. Yet any and all businesses that intend to survive the digital revolution should build a centralized, user-focused, and integrated software layer—or risk being left behind.

The Future of Mobile Banking in Latin America

Mobile Banking

Insights from Argentina, Brazil, and Mexico

Reprinted with permission from Deloitte.

Mobile technology offers an unprecedented growth opportunity for retail banking in Latin America. As these economies continue to prosper, increasingly affluent consumers and underbanked1 segments may create demand for new financial products and services. Many consumers in Latin America have mobile phones, but not bank accounts. The mobile channel therefore provides an effective way to attract them into the financial services marketplace.

These favorable attributes represent new opportunities for banks operating in Latin America. According to Deloitte Center for Financial Services2 analysis, within the next several years mobile banking will be more of a necessity than a choice and it will likely become an integral component of a bank’s business strategy. Realizing this, many banks in the region already have developed basic capabilities. Institutions behind the curve may wish to act soon or risk being left behind, and even market leaders may benefit from re-examining their strategies to fully integrate mobile banking into their operations. Those who accelerate their plans and develop innovative strategies could shape the mobile landscape to their advantage.

This paper addresses the current climate, future prospects, and possible challenges to the growth of mobile banking in the region, focusing on Argentina, Brazil, and Mexico. Though the final form may vary locally, we expect a rapid transformation in mobile banking and payments in Latin America throughout the next several years.

The full report can be downloaded from here.

1 In this document, the term “underbanked” refers both to those with limited access to financial services and those with no access at all.

2 As used in this document, “Deloitte” means Deloitte LLP. Please see www.deloitte.com/us/about for a detailed description of the legal structure of Deloitte LLP and its subsidiaries. Certain services may not be available to attest clients under the rules and regulations of public accounting.

Bangladesh: The next hot spot in apparel sourcing?

Reprinted with permission from McKinsey Quarterly.

Lower costs are an advantage for the country’s ready-made-garment industry, but challenges remain.

In 2010, China dominated European and US markets for ready-made garments, accounting for about 40 percent of the import volume in each region. A recent McKinsey survey, however, found that 86 percent of the chief purchasing officers in leading apparel companies in Europe and the United States planned to decrease levels of sourcing in China over the next five years because of declining profit margins and capacity constraints.

Although Western buyers are evaluating a considerable number of sourcing options in the Far East and Southeast Asia, many chief purchasing officers said in the survey that they view Bangladesh as the next hot spot (exhibit). Indeed, our study of the country’s ready-made-garment industry identified solid apparel-sourcing opportunities there—but also some hurdles.

With about $15 billion in exports in 2010, ready-made garments are the country’s most important industrial sector; they represent 13 percent and more than 75 percent of GDP and total exports, respectively. McKinsey forecasts export-value growth of 7 to 9 percent annually within the next ten years, so the market will double by 2015 and nearly triple by 2020.

Our survey of chief purchasing officers found that European and US companies that focus on the apparel market’s value segment plan to expand the share of their sourcing from Bangladesh to 25 to 30 percent by 2020, from an average of 20 percent now. Midmarket brands, which generate about 13 percent of their sourcing value in Bangladesh, plan to increase that share to 20 to 25 percent over the same period. While growth in current product categories will drive some of the increase, 63 percent of the chief purchasing officers said that they want to expand into more fashionable or sophisticated items, such as formal wear and outerwear.

In our study, all the respondents identified attractive prices as the most important reason for purchasing in Bangladesh. They also said that price levels there will remain highly competitive in the future, since they expect significant efficiency increases to offset rising wage costs. Half of the respondents mentioned capacity as the second-biggest advantage of Bangladesh’s ready-made-garment industry. With 5,000 factories employing about 3.6 million workers (of a total workforce of 74.0 million), Bangladesh is clearly ahead of other Southeast Asian suppliers in this respect. It also offers satisfactory levels of quality, especially in value and entry-level midmarket products.

Five challenges

While Bangladesh presents some distinct advantages for sourcing, our study identified five challenges for apparel companies seeking to do more business there.

Infrastructure

Transportation bottlenecks create inefficient lead times for garments and delay deliveries to customers. This issue will become even more important in the future, since buyers want to source more fashionable products with shorter lead times.

Energy supply is a concern, too—90 percent of the more than 100 local suppliers we interviewed rate it as poor or very poor. The government has prioritized improvement in this area and started to upgrade power systems over the last two years, however.

Compliance

Nongovernmental and other organizations monitor Bangladesh for labor and social-compliance issues. While most European and US chief purchasing officers said in the survey that standards have somewhat or strongly improved over the past five years, they noted that suppliers vary greatly in their degree of compliance. Environmental compliance is just beginning to get attention.

Suppliers’ performance and the skilled workforce

Our study found that the suppliers’ productivity must improve not only to mitigate the impact of rising wages but also to close gaps with other sourcing countries and to satisfy new customer requirements for more sophisticated products. Two other concerns are a lack of investment in new machinery and technologies and the insufficient size of the skilled workforce, particularly in middle management.

Raw materials

Bangladesh lacks a noteworthy supply of natural or artificial fibers, and its dependence on imports creates sourcing risks and lengthens lead times. Compounding the problem is the volatility of raw-material prices over the past few years. The development of a local sector would improve lead times.

Economic and political stability

About half of the chief purchasing officers interviewed stated that they would reduce levels of sourcing in Bangladesh if its political stability decreased. The survey found that political unrest, strikes, and the ease of doing business are top of mind for respondents.

Realizing the potential

The three main stakeholders—the government, suppliers, and buyers—must work together to realize the potential of Bangladesh’s ready-made-garment market. The government’s top three priorities for investment are infrastructure, education, and trade support.

What can European and US buyers do to secure Bangladesh as a sourcing powerhouse? At the highest level, they should review their approach from a full value chain perspective; for example, to increase the supply chain’s efficiency and transparency, they ought to expand their support for lean operations and electronic data exchange. Buyers should also build closer and long-term relationships with suppliers and, if necessary, rethink pricing negotiations with them. The most developed suppliers are choosing their customers more carefully and even breaking off ties with long-established ones.

Buyers must also improve their own operational execution. Their long response times, the complexity of internal procedures involving the merchandising and sourcing functions, and a high number of last-minute changes slow down the overall process. In addition, buyers must actively pursue compliance efforts.

The full report, Bangladesh’s ready-made garments landscape: The challenge of growth (PDF), is available on the McKinsey & Company Web site.

Language Concentration in USA

 

 

Languages spoken at home are not evenly distributed throughout the nation. Some areas have high percentages of speakers of non-English languages, while others have lower levels.

The percentage of people who spoke a language other than English at home varied substantially across states; just 2 percent of West Virginians 5 years old and over reported speaking a language other than English at home, while 43 percent of people in California reported the same. Moreover, Figure 3 shows that relatively high levels of other language speakers were common in the Southwest and in the larger immigrant gateway states of the East, such as New York, New Jersey, and Florida. With the exception of Illinois, relatively lower levels of foreign-language speakers prevail in most of the Midwest and in the South.

Quite often, concentrations of specific language groups were found in certain areas of the country. In the short term, the factors creating these concentrations include points of entry into the United States and family connections facilitating chain migration (Palloni, et al. 2003). In the longer term, internal migration streams, employment opportunities, and other family situations help to facilitate the diffusion of language groups within the country.

These maps show the percentage of people 5 years old and over in each state who spoke Spanish, French, German, Slavic languages, Korean, Chinese, Vietnamese, and Tagalog.

For Spanish speakers, three states (Texas, California, and New Mexico) were in the highest interval, but the southwest corridor of the United States also had a sizable percentage of the population speaking Spanish (see Figure 5a). Louisiana and Maine had the highest percentage of French speakers, but Florida and many states in the Northeast had a substantial percentage as well. The presence of French Creole speakers in Louisiana and of Haitian Creole speakers in Florida contributed to the higher levels of French speakers in these states.

German speakers spanning the Canadian border of the United States, with the highest percentages in the Dakotas. Pennsylvania had a sizable number of speakers of Pennsylvania Dutch, which is a West Germanic language. Indiana, with a relatively large number of people of German ancestry, also had a high percentage of German speakers. Slavic languages, which include Russian, Polish, and Serbo-Croatian, had the highest percentage of speakers in Illinois, New York, New Jersey, and Connecticut. A substantial level of Slavic speakers also was found n the West Coast states.

Emerging market growth strategies, practices and outlook

Emerging Market Growth

Emerging Market Growth

Reprinted with permission from Deloitte.

In mid-2011, Deloitte Consulting LLP conducted a survey of 628 executives to understand where they perceived the greatest revenue opportunities in emerging markets, which growth strategies have proved most effective and the challenges companies face. The survey respondents included 389 executives from companies that currently generate revenues from one of 10 key emerging market countries or regions.

The companies surveyed found the greatest success in emerging markets came not from simply establishing a sales office and selling their existing products and services. Instead, these companies came to understand the special requirements of customers in each emerging market and then designed offerings to meet their needs at market-appropriate prices. A key ingredient in success was to establish company-owned production, service, distribution, R&D and other operations in emerging markets to become closer to customers and part of the local business community.

Executives saw the greatest opportunities and strategies in the following:

  • Opportunities remain in the BRIC (minus Russia). Among 10 leading emerging markets, executives surveyed were most likely to expect revenue increases of 25 percent or more over the next three years in Brazil, India and China.
  • Bigger is better. According to respondents whose companies had revenues of $5 billion or greater—those larger companies were more likely to have exceeded their sales revenue goals in emerging markets over the last three years, while small companies (less than $500 million in revenue) were the least likely to have done so.
  • Go local. Companies that had company-owned operations in at least five of six major emerging markets were much more likely to have exceeded their revenue goals. In addition, some successful strategies were using local sales/service centers, employing company-owned sales and distribution and employing a company-owned supply chain. Local operations may provide advantages such as greater knowledge of customer needs and buying habits, greater brand awareness in the market and more experience in navigating government approvals and procedures.
  • Know your customer. Designing products specifically for customers in the local market and offering a different value proposition were considered as among the most successful strategies. When it came to challenges identified by survey participants, one of the top challenges in five of the six emerging markets studied was to provide products/services that meet customer needs at prices they can afford.

For many companies, the opportunity in emerging markets is significant, but the challenges can be daunting. Driving growth in emerging markets has fundamental implications for a company’s business strategy, operating model and risk management capabilities – now as well as in the future. While organizations should not embark lightly upon their emerging market journey, the lessons learned from this survey – both successes and failures – can help organizations build more sustainable platforms for growth in emerging markets.

Taking Vietnam’s economy to the next level

Reprinted with permission from McKinsey Global Institute.

During the past quarter century, Vietnam has emerged as one of Asia’s great success stories. In a nation once ravaged by war, the economy has posted annual per capita growth of 5.3 percent since 1986—faster than any other Asian economy apart from China. Vietnam has benefited from a program of internal restructuring, a transition from the agricultural base toward manufacturing and services, and a demographic dividend powered by a youthful population. The country has also prospered since joining the World Trade Organization, in 2007, normalizing trade relations with the United States and ensuring that the economy is consistently ranked as one of Asia’s most attractive destinations for foreign investors.

The McKinsey Global Institute (MGI) estimates that an expanding labor pool and the structural shift away from agriculture contributed two-thirds of Vietnam’s 7 percent annual GDP growth from 2005 to 2010.1 The other third came from improving productivity within sectors. But the first two forces have less and less power to drive further expansion. According to official Vietnam statistics, growth in the country’s labor force will probably decline to about 0.6 percent a year over the next decade, down from 2.8 percent between 2000 and 2010. Given the past decade’s rapid rate of migration from farm to factory, it seems unlikely that the pace can accelerate further to raise productivity enough to offset the slowing growth of the labor force.

Instead, Vietnam should increase its labor productivity growth within sectors to achieve an economy-wide boost of some 50 percent—to 6.4 percent annually—if the economy is to meet the government’s target of a 7 to 8 percent annual GDP expansion by 2020. Without such an increase, we estimate, Vietnam’s growth will probably decline to about 5 percent annually. The difference sounds small, but it isn’t: by 2020, Vietnam’s annual GDP will be 30 percent lower than it would be if the economy continued to grow by 7 percent.

Achieving 6 percent–plus annual growth in economy-wide productivity is a challenging but not unprecedented goal. Nevertheless, incremental change will not achieve a revolution of this magnitude. Deep structural reforms within the Vietnamese economy and a strong and sustained commitment from policy makers and companies will be necessary (see sidebar, “An agenda for sustaining growth”). Also, many companies have prospered in Vietnam because of the country’s strong and stable growth and inexpensive, abundant labor. In the future, they may no longer be able to rely on either, so they will need to ensure that their business and financing models are sufficiently robust to withstand a period of lower growth and, perhaps, economic volatility.

The challenges facing Vietnam

In the near term, Vietnam must cope with a highly uncertain global environment. The economy faces a state of heightened risk because of macroeconomic pressures, including inflation that has built up as a by-product of the government’s efforts to maintain robust growth despite the global economic crisis. In early 2009, Vietnam’s global trade and foreign direct investment declined dramatically, and while exports have recovered, the future of these two sources of economic activity is quite uncertain. The slow recovery of the United States and Europe, together with the nuclear disaster in Japan, has created additional near-term uncertainty. In response to the global economic downturn, the Vietnamese government relied on expansive macroeconomic policies that have led not only to inflationary pressures but also to budget and trade deficits and unstable exchange rates. Some signs suggest that the financial sector is under stress, and international credit-ratings agencies have lowered their ratings on Vietnam’s debt.

In the longer term, Vietnam has a larger challenge. Since the key drivers that powered its robust growth in the past—a young, growing labor force and the transition from agriculture to manufacturing and services—are beginning to run out of steam, Vietnam now needs new sources of growth to replace them. The demographic tailwind responsible for driving a third of Vietnam’s past growth is slackening. Some companies already report labor shortages in major cities. By 2020, the share of the population aged 5 to 19 is projected to drop to 22 percent, from 27 percent in 2010 and 34 percent in 1999. Although Vietnam’s median age, 27.4 years, is still relatively young compared with that of countries such as China (35.2), its population is also aging.

According to government projections, Vietnam’s labor force is likely to grow by about 0.6 percent a year over the next decade, a decline of more than three-quarters from the annual growth of 2.8 percent from 2000 to 2010. Growth in the labor force will still make a positive contribution to GDP, but notably less than it did in the past decade. Vietnam’s growth has also been propelled by extraordinarily rapid migration from rural areas to towns—from relatively low-productivity agriculture to the relatively higher-productivity services and manufacturing sectors. Economic restructuring is unlikely to continue so quickly. Indeed, even aggressive assumptions on the pace of the transition away from agriculture would not compensate for the effects of the decline in overall labor force growth. Without an improvement in productivity growth patterns within sectors, agriculture’s share of the labor force would need to decline at twice the rate of the past decade—unlikely given the aging of rural areas and the decline of agriculture’s share of the total population, by 13 percentage points, over the past ten years.

Vietnam should identify sources of growth to replace those now becoming exhausted. Manufacturing and service industries ought to step up their productivity growth performance. Vietnam could also further develop the capabilities across all sectors, become increasingly versatile as an environment in which companies can constantly innovate and build on recent successes. Offshore services such as data, business-process outsourcing, and IT appear to be promising areas. Vietnam can establish an enabling environment at the level of individual industries and sectors by enhancing domestic competition and helping industries move up the value chain. Building on its expanded pool of university graduates, Vietnam has the potential to become one of the top ten locations in the world for offshore services. Because state-owned enterprises still have enormous importance, accounting for about 40 percent of the nation’s output, reform of their ownership and management incentives is likely to be crucial, as will the need to improve their overall capital efficiency.

As we have seen, to achieve GDP growth of about 7 percent a year, Vietnam needs to raise annual productivity growth to 6.4 percent. Without such an increase, we estimate, the glide path for Vietnam’s growth would decline to between 4.5 and 5 percent annually, significantly below the 7 percent more typical in recent years and the government’s own target, set at the 11th National Party Congress in January 2011, of 7 to 8 percent annual GDP growth to 2020. If growth indeed slows to 4.5 to 5 percent a year, the implications would be significant. By 2020, Vietnam’s annual GDP would be 30 percent (some $46 billion) lower than it could be with 7 percent annual growth. Assuming no shift in the structure of the economy as a whole, we estimate that private consumption would be $31 billion lower. Vietnam’s economy would take 14—rather than 10—years to double in size.

Implications for companies

The exposure of companies and investors to different economic growth outcomes clearly depends on whether they are active primarily in the domestic or export market. Domestically oriented companies, such as those in the financial-services or retail sectors, are much more threatened by slower growth in Vietnam than are companies that use the country as an export base for manufactured goods. Since prospects for growth vary substantially from sector to sector, each company must understand and manage its own specific problems. The expected slowing in the expansion of the labor force also has significant implications for companies. Those that view Vietnam primarily as a low-cost economy with an abundance of workers need to adjust their thinking.

Multinationals

Primarily to hedge their exposure to China, many multinational corporations have opened facilities in Vietnam (or plan to do so), without adequately assessing the prospects, both positive and negative, for expanding business in Vietnam itself. These companies should avoid locking in excess capacity—the country’s economy may not match the strong growth trends of the past—and ensure that their Vietnamese business models are sustainable even if wages rise substantially. Anecdotal and survey evidence consistently indicates that the wage cost advantage is eroding. Much as domestic and export-oriented companies must boost their productivity to be competitive, so too must multinationals, which could also engage with the government to remove barriers to initiatives that clearly benefit both sides, such as programs to increase capital intensity and improve training.

Training is especially important. Multinationals complain about a lack of basic work readiness among new recruits in both the manufacturing and service sectors. Many companies in other countries have responded effectively to this problem by providing in-house training both before an employee starts working and on the job. Surveys suggest that Vietnam has an even bigger shortage of qualified engineers and middle managers than other rapidly developing economies do. Multinational companies can work with the government and educational institutions to address this skill gap. If the Vietnamese government were to issue certificates for qualified training programs, companies might feel more confident in providing such training.

Private-sector Vietnamese corporations

Improving competitiveness and using the latest global best practices should be priorities for Vietnamese companies in the private sector. They should emphasize long-term value and bottom-line profits rather than merely seeking to increase top-line revenue. Too many domestic Vietnamese companies spend too much energy competing on price and too little on product quality, features, and branding and on developing unique offerings that can command premiums.

These companies must develop programs to recruit employees and train them so that their skills and productivity improve. They should also take a more professional approach to retaining and promoting their best workers, through incentive packages and greater management autonomy. The notion of increasing the value of each employee’s performance is not yet widely understood among major Vietnamese companies. Family-owned businesses, which remain a major part of the economy, have thus far tended to resist efforts to improve their governance.

State-owned enterprises

More limited access to capital and increasing competition mean that state-owned enterprises must lift their productivity before circumstances force their hand. Improved management and better governance could raise their competitiveness and overall growth potential. In China, for instance, the significant gains in productivity that resulted from reform within the state-owned sector led to increased profitability as well.

Vietnam’s state-owned companies will also need to recognize the gaps in their pool of talent and to recruit top-drawer, internationally trained executives to help them become more globally competitive. They will increasingly have to benchmark themselves against the best international competitors not only to measure internal operations but also to create realistic plans for expansion and product development.

In this context, the adoption of international accounting standards will support the creation of the detailed performance benchmarks required to identify areas for improvement. Many maturing state-owned enterprises will have to make hard decisions about which businesses should remain core and which should be exited because they can no longer be profitable.

Selling shares in these companies remains a focus of many policy conversations in Vietnam. But most of the sales carried out to date haven’t fundamentally tackled the efficiency problems, because the state typically remains the controlling shareholder. More aggressive steps toward fuller privatization and improvements in the governance of state-owned businesses might help them adjust more rapidly to an era of increasingly vigorous international competition.

We think Vietnam can act decisively to head off short-term risks and embrace a productivity-led agenda. If the country does so, it can build on its many intrinsic strengths—a young labor force, abundant natural resources, and political stability, to name a few—to create a second wave of growth and prosperity. There are challenges, to be sure, but we believe that they can be overcome.