Play Fair Day Analysis

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Jeff Marowits, Principal: jmarowits@keystonestrategy.com

Irshad Allana, Analyst: iallana@keystonestrategy.com

Joseph Quan, Analyst: jquan@keystonestrategy.com

Analysis of competitive disadvantage experienced by licensed manufacturers in emerging markets with rampant piracy

About the Keystone Strategy study

To date, piracy research has primarily investigated licensing enforcement drivers, as well as the rates and impact of rampant

piracy in emerging nations (like the BRIC countries) - specifically as piracy harms firms in developed markets such as

the United States.

Microsoft commissioned Keystone Strategy to study enterprise piracy in a new way – by focusing on companies within emerging

markets taking steps to play by the rules and reduce piracy.

Today, we release the results of Keystone’s first-of-its-kind study, in which we tackle the following critical issues regarding the future of piracy reduction and growth of innovation in emerging economies:

1. The perceptions and attitudes (distinct from enforcement) of emerging market companies taking positive steps to reduce piracy and play by the rules.

2. The financial impact of competitive disadvantage that firms playing by the rules face when their competitors engage in piracy.

Background

Central elements of Keystone’s analysis

• For this global study, Keystone looked at software piracy in the manufacturing sector for 17 different countries in the Asia Pacific, Latin American, and Central and Eastern European regions.

Study scope

• We reviewed third party research and conducted interviews with companies playing by the rules, and drilled down on one major company in each of the emerging market regions to see how firms were utilizing information technology, and how piracy was affecting them.

Understanding perspectives and attitudes

• We analyzed data from the Bureau of Labor Statistics, the Business Software Alliance, the CIA World Factbook, government statistical reports, Microsoft research, UNIDO, software resellers, and the World Bank to assess the impact of piracy at the macroeconomic level.

Determining impact on companies that play by the rules

Our study focuses on manufacturing firms because they are the drivers of rapid economic growth in emerging markets

In China, the world’s fastest growing economy, manufacturing accounts for almost 40 percent of GDP.

Thaila

Turkey

Russia

60%Manufacturing as percent of economy

Source: Local government websites, CIA World Factbook

System

Content

Data Managemen

Collaboration

Manufacturing/Design

Operations

PC Operating System (Windows 7/XP) Security (McAfee Business)

Word/Data Processor (Office)

Database Server (SQL)

Collaboration Server (SharePoint) Messaging Server (Exchange)

General Engineering Design (AutoCAD) Manufacturing Process Design (PTC Pro-

Engineer)

ERP- Project/Order Management (Project Pro) Supply Chain Management (Infor SCM)

Customer Relationship Management (SAP)

Through extensive interviews with manufacturers, we were able to map the IT software deployments of a typical emerging market manufacturer

Perceptions and attitudes of emerging market manufacturers playing by the rules

Key findings from extensive research and interviews with manufacturers in emerging markets

We studied the perceptions and attitudes of firms that play by the rules to understand the competitive landscape and their motivations (distinct from enforcement) with respect to IP

We arrived at four primary insights:

Protection of intellectual property is necessary for the growth of innovation

IT is a point of competitive advantage and differentiation – these firms are industry leaders in large part because of their use of technology

Firms are well-licensed because it’s the ethical decision; pirating software contradicts their corporate commitment to integrity and honesty

Licensed IT in particular has many technical benefits – it gives them the assurance of partnership with software firms which keeps their operations running at optimal levels

Key Informat

China India Colombia Russia

Company:

Industry Appliance and tools

Glass containers

Apparel manufacturing Steelmaking

Revenue $278 Million $275 Million $300 Million $13.6 Billion

Employees

3,100 4,500 3,000 84,000

Leading international manufacturers that play fair in emerging markets provide a deeper understanding of perceptions and attitudes regarding intellectual property

Source Hoovers, OneSource, company annual reports, comments by HNG and Severstal results of direct interviews by Keystone, Crystal SA (Fabrica) and Great Star data result of third-party research.

Value of IPR: Intellectual property protection is necessary for innovation growth in emerging markets

“I see much improvement in piracy in Russia in recent years and I expect it will lead to more innovation and more software development since both of them are connected.”

Evgeny Charkin, Chief Information Office at Severstal

“IPR [intellectual property rights] violations not only hurt businesses in Russia, but cost the Russian government billions of rubles in uncollected revenues from counterfeit products evading taxes and duties… IPR violations are barriers to new investment and impede Russia’s effort to join the WTO.”

Peter Necarsulmer, President of Coalition for Intellectual Property Rights

“The international community has attached even greater importance to IPR and innovation. China should never be lax in its IPR protection efforts as it moves towards a high-tech industry and other knowledge-based industries.”

Dr. Zhipei Jiang, former Chief Justice of the Supreme Peoples’ Court IPR Tribunal

Source BRIC manufacturer interviews, IT case studies, comments by HNG and Severstal from interviews by Keystone, Crystal SA (Fabrica) and Great Star from third-party research.

Value of IT: IT is a point of competitive advantage and differentiation – these firms are industry leaders in large part because of their use of technology

“IT has increased the efficiency of the whole operation, not just the production process. Things are much clearer when we have access to the information at the right place at the right time.

In terms of information technology, everything in the business gets faster; all the production processes and supervisory controls are integrated and automated. And since glass manufacturing is a continuous process, it is important that the information is quickly available.”

Bharat Somany, Director at Hindusthan National Glass & Industries Ltd

“Software is critical to our business. Our board believes that it is a key differentiator of our business and a source of competitive advantage.”

Ethical reasons behind licensed IT: Pirating software contradicts the corporate commitment of licensed manufacturers to integrity and honesty

“Transparency is something that starts vanishing pretty quickly when you [pirate software]. Not only do you hide from others, but you end up having things in your own company that are hidden from you… there is no accountability when you go in for pirated software.”Bharat Somany, Director at Hindusthan National Glass & Industries Ltd

“We are a business with a very good reputation and strong ethics - we want to maintain that reputation. We do not steal.”

“When a company uses information technology illegally in its manufacturing process, there is without doubt an act of unfair competition, because some costs are avoided affecting the price of the final product. It is like avoiding payment of social benefits, evading taxes or not complying with the minimum environmental rules.”

Jose Manuel Gutierrez, Manager of IT at Fabrica (Crystal SA)

Technical benefits of legal IT: Licensed IT gives companies the assurance of security and frequent updates, which keep their operations running at optimal levels

“The way I see it, if you don’t actually buy the software, you have a black box – you can’t get any support on it and you cannot really build it up to be a solution which you would benefit from… No software is perfect and does need multiple iterations…That doesn’t work unless you paid for it and have a proper license for it that gets you instant access to updates.”Bharat Somany, Director at Hindusthan National Glass & Industries Ltd

“This [incorporating IT] has been very essential to the improvement of our business processes.”

“We will establish a long-term partnership with Microsoft to set up an effective software asset management mechanism. This mechanism will help make our software license management more dynamic, optimize the allocation of our software assets and provide better service to the company.”

Great Star Industrial

Measuring the Impact

Keystone’s study calculates impact and key statistics that influence competitive disadvantage

Methodology

• Determine total number of PCs in manufacturing

Step 1: Estimate the total number of licensed PCs in

manufacturing firms

• Segment “well-licensed” firms as those with above-average compliance

Step 2: Calculate the

portion of licensed PCs

that belong to well-licensed

• Estimate extent of compliance of well-licensed firms

Step 3: Estimate the number of disadvantage-bearing PCs in well-licensed

manufacturing firms

Step 4: Assess competitive

disadvantage at a national level

• Calculate annual software spend for disadvantage-bearing PCs

• Determine lost ROI suffered by licensed manufacturers

8Estimate number of licensed PCs in manufacturing firms

Determine number of licensed PCs in well-licensed firms

Determine number of licensed PCs at well-licensed firms compared to those pirated at “poorly licensed” firms

ExampleSources Methodology

Step 1: Estimate the total number of licensed PCs in manufacturing firms

Total manufacturing employees

PC to Employee ratio

Total manufacturing employees from government statistical reports PC to Employee ratio from Keystone analysis using survey data

Number of PCs in manufacturing

Enterprise compliance rate

Total number of licensed PCs in manufacturing

99M Manufacturing employees

0.17 Ratio

Enterprise compliance rate estimated through Keystone analysis of BSA piracy data

16.6M PCs in manufacturing

31% compliance

5.2M licensed PCs

Sources: BRIC government statistical reports, BSA Global Software Piracy Study, Keystone Strategy analysis

Step 2: Calculate the portion of licensed PCs that belong to well-licensed manufacturing firms

Total number of licensed PCs in manufacturing

Percent of licensed PCs in well-licensed firms

Number of licensed PCs in well-licensed firms

Sources Methodology

Percent of licensed PCs in well-licensed firms estimated from normal distribution adjusted with observations from internal Microsoft studies

Well-licensed firms characterized as those with a compliance rate higher than the national average

*Note: Licensed PCs are distributed among well- and poorly licensed firms; even poorly licensed firms license some PCs, though in smaller quantities

Example

5.2M licensed PCs in manufacturing

79% of licensed PCs in well-licensed firms

4.1M licensed PCs in well-licensed firms

Sources: Microsoft internal data on customer piracy rates, BSA statistics, Keystone Strategy analysis

Sources Methodology Example

Step 3: Determine the number of disadvantage-bearing PCs in well-licensed manufacturing firms

Number of licensed PCs in well-licensed firms

(Percent compliance of well-licensed firms

Percent of compliance of poorly licensed firms)

Number of disadvantage-bearing PCs at well-licensed

Extent of compliance above average poorly licensed firms is obtained by calculating the difference between the average well-licensed and poorly licensed firms’ compliance rate

* Note: only licensed PCs in well-licensed firms above the compliance rate of average poorly licensed firms contributes to the disadvantage

Average compliance of well-and poorly licensed firms estimated from internal data for emerging market countries

4.1M licensed PCs in well-licensed firms

(54% compliance of well-licensed firms

12% compliance of poorly licensed firms)

1.7M disadvantage-bearing PCs at well-

licensed firms

Sources: Microsoft and Keystone Strategy internal data, BSA Global Software Piracy Study, Keystone Strategy analysis

Example

Step 4: Assess competitive disadvantage created on a national level

Number of disadvantage-bearing PCs at well-

licensed firms

Software cost per PC

Software costs from Keystone analysis of software costs and usage rates in manufacturing firms; prices from official local resellers Total software costs for

disadvantage-bearing PCs in well-licensed

Enterprise software lifecycle

Potential return on invested capital

Annual competitive disadvantage created by

piracy

Enterprise software lifecycle of 5 years used to determine annual competitive disadvantageReturn on Invested Capital is a conservative average from financials of emerging markets manufacturers

1.7M disadvantage-bearing PCs at well-

licensed firms

$2,194 per manufacturing PC

$3.75B software costs for disadvantage-

bearing PCs in well-licensed firms

5 year software lifecycle

(1.1164) ROIC

$837M of annual competitive

disadvantage created by piracy

Sources Methodology

Sources: Licensed software resellers in BRIC nations, Microsoft support site, IT professional interviews, financial data from emerging market companies

4.1M licensed PCs belong to well-licensed firms

• 79% of licensed PCs belong to well-licensed firms

Key insights into competitive landscape of Chinese manufacturers playing by the rules

The gap between and poorly licensed firms is 1.7M licensed PCs

2 4 6 • $837M of annual competitive disadvantage across China

• 16.6M PCs in manufacturing

1 $750M in annual software costs for disadvantage-bearing PCs in well-licensed firms

• Well-licensed firms, on average, are 42% more compliant than poorly licensed firms

Step 2: Calculate the

portion of licensed PCs

that belong to well-licensed

Step 3: Estimate the number of disadvantage-bearing PCs in well-licensed

manufacturing firms

Step 4: Assess competitive

disadvantage at a national level

5.2M licensed PCs in manufacturing firms

Sources: BLS, BSA, CIA World fact book, Government statistical reports, Keystone Strategy analysis, Manufacturer and software seller interviews, Microsoft internal data, UNIDO, World Bank

Step 1: Estimate the total number of licensed PCs

in manufacturing

Conclusion

Asia Pacific

Emerging market financial measures of annual competitive harm to manufacturers playing by the rules – annual disadvantage = $2.9B globally / $1.6B in BRIC nations

Central and Eastern EuropeLatin America

$52M $27

R P T U R B

$46M$39M$31M$18M $8M

Brazil Mexico Peru Chile Colombia

$76M $36

Breakdown of total BRIC manufacturing employment and competitive harm - aggregate software lifecycle competitive disadvantage = $8.2B in BRIC countries

Percent of total BRIC manufacturing employment in

each country

Competitive disadvantage breakdown

(5 year software lifecycle) 165 Million total BRIC

manufacturing employees$8.2 Billion in aggregate competitive disadvantage

China; 60%

In-dia; 31%

Brazil; 4% Russia 5%

China India BrazilRussia$M

$1000M

$1250M

$1500M$4185M$2527M

$4185M $2527

How does the unfair financial competitive disadvantage translate into pirating firms’ ability to make investments by avoiding legitimate costs?

$837 Million = 12,700 molding machines for a plastics manufacturer

How much equipment can pirating firms buy with the $$ from their unfair advantage?

$837 Million = complete construction of 66 major manufacturing plants, or over 82 million square feet of

industrial land

How many plants can pirating firms construct with their unfair advantage?

$837 Million = 217,000 employees for a year

How many employees can pirating firms hire with the $$ from their unfair advantage?

Sources: BCG manufacturing report, machinery reseller websites, BRIC government labor statistics reports, Keystone analysis

Conclusion

Keystone Strategy’s findings from its study of competitive effects on manufacturers in playing by the rules in emerging markets with rampant piracy

Microsoft commissioned Keystone Strategy to study enterprise piracy in a new way – by focusing on the impact of widespread piracy on those companies within emerging markets that are

taking steps to play by the rules and reduce piracy.

Through interviews and third party research, Keystone’s study highlights important implications from the perceptions and attitudes of manufacturing firms regarding IP:

1. Protection of intellectual property is necessary for the growth of innovation

2. IT is a point of competitive advantage and differentiation – these firms are industry leaders in large part because of their use of technology

3. Manufacturers are compliant because it’s the ethical decision; pirating software contradicts their corporate commitment to integrity and honesty

4. Licensed IT in particular has many technical benefits– it gives them the assurance of security and frequent updates which keep their operations running at optimal levels

Asia Pacific

Annual disadvantage:

Software lifecycle disadvantage (5 years)

Financial impact of competitive harm to manufacturers playing by the rules by region – aggregate competitive disadvantage = $2.9B annually and $14.4B over software lifecycle

Central and Eastern Europe

Annual disadvantage:

Latin America

Annual disadvantage

$1,975M

About Keystone Strategy

Keystone works closely with academic experts to deliver high-impact, data driven solutions to global companies and government institutions

ExpertsLeading affiliates at top institutions including Harvard, MIT, Stanford, Wharton and Berkeley

ClientsInnovative global companies, governments, and government institutions

OperationsIn recent months, Keystone engaged with clients in the Americas, Europe, Middle East and Asia

OfficesBoston, San Francisco, Chicago, Abu Dhabi, New York, Seattle and Milan

IndustriesFocus on industries driven by science and technology

FocusStrategy and policy built around industry leading experts and experienced consultants

Keystone is a global consulting firm with deep expertise in manufacturing supply chains and software piracy in emerging markets

Manufacturing ExpertiseWorked with several clients to develop an expertise in global manufacturing and supply chains

Software PiracyDeveloped comprehensive understanding of software usage and piracy in emerging market manufacturing environments

Intellectual Property ProtectionAnalytical reports have served as evidentiary support in several anti-trust and damage recovery cases

Anti-Piracy Outreach and EnforcementSupported anti-piracy legislation in the U.S. and created strategies for targeted anti-piracy campaigns globally

Appendix: Country-by-country analysis of emerging markets

Appendix: Individual Country breakdown (ordered by region and impact)

Asia Pacific

Latin America

Central & Eastern Europe

China, India, Brazil, Russia

Thailand, Vietnam, Indonesia, Malaysia

Mexico, Peru, Chile, Colombia

Poland, Turkey, Ukraine, Romania, Belarus

AreaManufacturi

ng employees

# of licensed PCs in firms

playing by the rules

Software Lifecycle

Disadvantage (5 Year)

Annual Competiti

ve Disadvant

China 99.0M 4.1M $4185M $837M

BRIC 164.8M 8.2M $8216M $1643M

Asia Pacific 194.7M 9.6M $9873M $1975M

$837 Million =

217,000 employees

The substantial, financial unfair advantage of software pirates over firms playing by the rules can be used for many purposes,

including hiring thousands of employees.

Key impact statistics illustrate piracy’s significant, unfair impact on Chinese manufacturers playing by the rules

Key impact statistics illustrate piracy’s significant, unfair impact on Indian manufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

India 50.5M 2.7M $2527M $505M

BRIC 164.8M 8.2M $8216M $1643M

$505 Million =

215,000 employees for a year

Key impact statistics illustrate piracy’s significant, unfair impact on Brazilian manufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Brazil 7.2M 0.9M $929M $186M

BRIC 164.8M 8.2M $8216M $1643M

Latin America 19.8M 2.5M $2729M $546M

$186 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Russian manufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Russia 8.1M 0.5M $575M $115M

BRIC 164.8M 8.2M $8216M $1643M

25.7M 1.7M $1778M $356M

$115 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Thai manufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Thailand 5.2M 0.3M $273M $55M

BRIC 164.8M 8.2M $8216M $1643M

$55 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Vietnamesemanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Vietnam 7.0M 0.3M $259M $52M

BRIC 164.8M 8.2M $8216M $1643M

$52 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Indonesianmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Indonesia 4.4M 0.2M $135M $27M

BRIC 164.8M 8.2M $8216M $1643M

$27 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Malaysianmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Malaysia 1.0M 0.1M $76M $15M

BRIC 164.8M 8.2M $8216M $1643M

$15 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Mexicanmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Mexico 3.2M 0.4M $382M $76M

BRIC 164.8M 8.2M $8216M $1643M

$76 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Peruvianmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Peru 1.6M 0.2M $178M $36M

BRIC 164.8M 8.2M $8216M $1643M

$36 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Chileanmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Chile 0.9M 0.1M $110M $22M

BRIC 164.8M 8.2M $8216M $1643M

$22 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Colombianmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Colombia 0.6M 0.1M $95M $19M

BRIC 164.8M 8.2M $8216M $1643M

$19 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Polishmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Poland 2.4M 0.2M $229M $46M

BRIC 164.8M 8.2M $8216M $1643M

25.7M 1.7M $1778M $356M

$46 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Turkishmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Turkey 2.4M 0.2M $196M $39M

BRIC 164.8M 8.2M $8216M $1643M

25.7M 1.7M $1778M $356M

$39 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Ukrainianmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Ukraine 3.9M 0.2M $156M $31M

BRIC 164.8M 8.2M $8216M $1643M

25.7M 1.7M $1778M $356M

$31 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Romanianmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Romania 1.1M 0.1M $90M $18M

BRIC 164.8M 8.2M $8216M $1643M

25.7M 1.7M $1778M $356M

$18 Million =

Key impact statistics illustrate piracy’s significant, unfair impact on Belarusianmanufacturers playing by the rules

AreaManufacturi

ng employees

Software Lifecycle

Annual Competiti

ve Disadvant

Belarus 1.2M 0.05M $42M $8M

BRIC 164.8M 8.2M $8216M $1643M

25.7M 1.7M $1778M $356M

$8 Million =

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