By Howard Yu
Given China’s rapid economic development, what sort of global impact will Chinese brands have? This article identifies three scenarios, depending mainly on which sector is being discussed, and offers comparisons with other emerging Asian economies.
China’s economic development seems inexorable. Its economy is likely to be the world’s largest before the end of this decade, and the renminbi will probably become one of the world’s reserve currencies alongside the US dollar and the euro.
But what sort of global impact will Chinese brands have? Three different scenarios come to mind.
Chinese firms successfully develop major global brands by exploiting market segments overlooked by Western multinationals. This is the path taken by many Japanese and South Korean companies, notably in automobiles and consumer electronics.
Chinese firms fail to develop global brands and remain captive suppliers to multinational companies. This is the path taken by many Taiwanese contract manufacturers, most of which remain nameless despite controlling over 90% of global laptop shipment volume.
Chinese firms co-exist peacefully with Western multinationals, with each specializing in core markets and product areas rather than competing head to head. This could be the case in pharmaceuticals, since disease classes vary by region.
Critical historical patterns
Over the last half-century, the world has witnessed the rapid ascendancy of Asian economies. Japan was the first, rising out of the ruins of the Second World War. It pursued a systematic development strategy, starting with heavy industries but rapidly moving into more advanced, sophisticated sectors.
Right behind Japan were the Asian “tigers” – Singapore, Hong Kong, South Korea and Taiwan. These countries later succeeded in many areas in which Japanese companies were once considered unassailable champions: computing components, consumer electronics, home appliances, toys, steel and shipbuilding, and now even automobiles. Today China has replaced Southeast Asia as the global manufacturing powerhouse, with India looming on the horizon.
This history contains some puzzling patterns. Japan, despite its anemic economy in the last two decades, still has numerous powerful global brands. Think Toyota, Honda and Nissan in automobiles; Nikon and Canon in photographic and precision optical equipment; Sony and Panasonic in consumer electronics; Epson in photocopiers and printers; and many others. South Korea, although structurally different, also produces formidable household names such as Samsung, LG, Hyundai and Kia.
In contrast, Taiwan has been strangely absent in terms of global brands, given its importance in the world economy. Taiwanese companies control over 70% of the world’s independent semiconductor manufacturing capacity, and Taiwan is number two in flat panel displays used in televisions and computer monitors. Almost two-thirds of Chinese information technology exports are produced by Taiwanese companies operating in China. Yet, with only a few exceptions like Acer and HTC, most of these companies have not developed a global brand presence but work as contract manufacturers for Western firms.
Why did some emerging firms develop global brands while others did not? What lies behind the different paths of corporate development among firms from Asia?
How to develop a global brand
By comparing the development of firms from Japan and Taiwan in particular, we identify important patterns that can explain the varying degrees of success emerging firms have had in developing a major global brand. Understanding these patterns is crucial in order to make sense of the events currently unfolding in China.
Previous research confirms that for an emerging firm to develop a global brand, it needs to have a complete package of capabilities:1
1. technical capabilities to conduct research and development (R&D);
2. manufacturing capabilities to manage large-scale production; and
3. marketing capabilities to generate market insights and handle sales and distribution.
All the firms I have investigated in Asia have succeeded in developing the first two capabilities. Knowledge transfer enabled local firms to catch up in the area of technical know-how. And by working for Western multinationals as contract manufacturers, they quickly achieved economies of scale in production.
But to develop capabilities in marketing and distribution, an emerging firm must, through first-hand exploration, discover new markets where it can redeploy existing know-how and reduce its reliance on Western multinationals.
In the PC industry, many of Taiwan’s leading contract manufacturers failed to take this critical step. This was partly because their razor-thin margins left little room to invest in marketing and distribution, and also because the ubiquitous “Wintel” (Windows and Intel) platform imposed uniform functionalities on all PCs. The same cannot be said for automobiles, consumer electronics and household appliances, for which there are
multiple sources for critical components.
Consequently, many Taiwanese PC companies remained captive suppliers despite their size and failed to develop global brands.
The Japanese Story
Japanese companies, by contrast, developed successful global brands by using their acquired technical know-how to serve new market segments that Western multinationals were not interested in or ignored.
By repackaging existing technologies into new products for new markets, Japanese firms achieved economies of scale and a lower cost structure while avoiding direct confrontation with Western multinationals. Such a strategy also provided Japanese companies with ample opportunities and time to develop capabilities in marketing and distribution before entering traditional, mainstream markets.
Take the example of Toyota in the 1950s. The company set up its first overseas factory in Thailand and had an extensive manufacturing and distribution network throughout Asia by the time it entered the US. But the firm designed vehicles for the muddy, slow, unpaved roads commonly found in many Asian countries including Japan. As a result, Toyota’s first export to America – the Toyota Crown in 1957 – barely managed to crawl into Las Vegas, having set out from Los Angeles on a coast-to-coast endurance test across the country’s vast highways.
The firm was thus forced to target secondary markets instead – housewives and teenagers who needed a second and/or affordable vehicle to run around town. Instead of hemorrhaging cash in an effort to develop the big cars typically sold in the US, Toyota spent the next decades making subcompact cars that were popular in Asia and selected segments in the developed world, resulting in greater economies of scale globally, while buying time to refine its skills in marketing and distribution.
By the late 1970s, Toyota’s main foreign competitor, Volkswagen – best known for its small Beetle – was mired in its own crisis. The rise of the Deutschmark, along with higher production costs in Germany, made Volkswagens prohibitively expensive in the US. As Volkswagen retreated, Toyota aggressively negotiated with car dealers who were anxious to find alternatives. Leveraging on its manufacturing scale, Toyota was able to fill out the required product lines with comparable models that cost almost 20% less.
Whether the relentless pursuit of a new market segment by Japanese companies was intentional or born out of necessity – think of Toyota – is irrelevant. It marks a crucial difference when compared to the development path of leading firms in Taiwan, where companies were trapped as captive suppliers for the industry.
The Chinese story: Powerful global brands?
What are the implications of these different development patterns for Chinese brands? Although situations vary across industries, the evidence so far indicates that some leading Chinese companies are following the Japanese and South Korean model and developing powerful global brands.
One critical factor is the enormity of China’s less affluent population. This means local firms that can effectively serve segments once ignored by Western multinationals will develop an immense competitive advantage in the long run.
Haier, a home-grown electrical appliance company, began by making compact refrigerators for small homes in China, a market segment Western multinationals deemed unprofitable. Then, in the 1990s, Haier entered the US market, targeting a largely untapped group of consumers who would use its refrigerators in college dorms and hotel rooms. It has since captured almost half of that market segment. By 2009, Haier had surpassed Whirlpool as the world’s top refrigerator producer by sales volume. Haier’s current development path is similar to the early history of Toyota in the US, as described above.
Similarly, Chinese PC maker Lenovo was able to avoid the predicament of Taiwan’s PC industry by focusing on the rural retail sector early on – again, a market segment that Western multinationals shunned. Starting in 1998, the company invested aggressively in infrastructure – including local offices, sales teams and supervisors – to directly manage a sprawling retail network that covered the most obscure cities and even villages in China. HP and Dell, by contrast, concentrated only on coastal cities where reputable, third-party distributors operated. As local demand soared, Lenovo achieved greater economies of scale, attained lower production costs, and generated healthy profits for reinvestment. In 2005, Lenovo acquired IBM’s personal computing division, paving the way to enter more developed markets.
China’s green energy sector faces a promising future for a similar reason. Domestic solar panel and wind turbine manufacturers have been focusing on serving rural areas of western China as they have better access than overseas competitors to remote areas. China’s Suntech and Goldwind are now among the world’s largest solar panel and wind turbine manufacturers. While it remains to be seen whether Chinese firms can beat GE and Siemens in leading the green energy revolution, the competitive landscape is tilted toward the East.
…or a Taiwanese model?
Chinese companies in other sectors might find it harder to develop global brands. As the example of Taiwan’s PC industry shows, the use of acquired know-how in certain industries can sometimes be severely limited to the existing mainstream market. This also applies to some Chinese firms. For example, civil aircraft manufacturing is one of the industries where the requirements of all customers – existing and potential – are virtually the same. International and Chinese airlines require similar product performance and they must comply with universal safety standards. In other words, Chinese aircraft manufacturers are forced to compete directly with Boeing and
Airbus from day one – a very unfavorable situation for a fledgling firm. Understandably, the prospects for local Chinese firms become much less certain in these circumstances.2
…or peaceful co-existence?
A third scenario is for Chinese firms and Western multinationals to co-exist peacefully, with each specializing in core markets and product areas rather than competing head to head.
This could be the case in pharmaceuticals, where leading Western companies are outsourcing more and more of their research and manufacturing to organizations in China and other lower-cost Asian economies. Consolidation and vertical integration among these outsourcing organizations are speeding up, and joint ventures and acquisitions abound. Take the merger between Tokyo-based GNI and Shanghai-based Genomics, the acquisition of AppTec by Wuxi Pharmatech of Shanghai, and the investment in Commonwealth Biotechnologies by Beijing-based Venturepharm Laboratories.
Chinese outsourcing organizations will most probably use the continuous knowledge transfer to broaden their offering and become more profitable, and may eventually develop new drugs of their own. But these emerging Chinese pharmaceutical players are more likely to co-exist peacefully with western firms than to compete head-on.
This is partly because of the unique disease mechanisms that exist in China. By its nature, drug discovery is fragmented into geographical regions that each have their distinctive disease classes. These variations persist because of different climatic conditions, dietary habits, living standards and lifestyle. In China, gastric and liver cancers are much more prevalent, with different disease etiologies. This implies different “white spaces” in which drug discovery efforts can specialize.
Second, and more importantly, big Western pharmaceutical firms will find commercializing large-scale prevention and treatment diseases found in China to be far less attractive financially than tackling diseases important to the Western world. This reflects, among other things, the local population’s ability to pay and the corresponding institutional arrangements. The fact that charity organizations such as the Bill & Melinda Gates Foundation are needed to fund the development of a variety of vaccines and drugs for impoverished communities in Africa underscores this broader phenomenon.
The likelihood is, therefore, that emerging Chinese pharmaceutical firms are unlikely to compete directly with established Western companies in the same market. This is in contrast to consumer electronics, personal computers or home appliances, where consumer needs converge on a global basis.
Conclusion
Mark Twain is supposed to have said that “History does not repeat itself, but it rhymes.” An understanding of how companies in Japan, South Korea and Taiwan have evolved differently provides enormous insights into how Chinese companies across different industries might behave.
About the author
Howard Yu is Professor of Strategic Management and Innovation at IMD, where he teaches in the Orchestrating Winning Performance, Building on Talent and Strategic Marketing in Action programs. His teaching and research activities focus on why and how some firms can sustain new growth while others cannot. Currently, he is collaborating with private equity firms and venture capital funds in studying how established companies can expedite the process of creating new businesses by involving external entrepreneurs and third-party investors. Howard received his PhD degree in Management at Harvard Business School. Prior to that, he worked in the banking industry in Hong Kong.
References
1.Alfred D. Chandler Jr., Scale and Scope, The Dynamics of Industrial Capitalism, Cambridge, MA: The Belknapp Press of Harvard University Press, 1990.
2.Japanese manufacturers also failed to develop commercially competitive large civil aircraft.
