The creation of world class firms in China

By | April 19, 2015

Content page

Introduction 2

Overview of china’s rise 2

Key areas which have witnessed transformation 3

Economic growth 3

Labor market 4

Culture changes 5

The creation of world class firms 5

Haier 5

China National Petroleum Corporation (CNPC) 8

Huawei 10

Obstacles toward world class firms 11

Recommendations 12

Reference list 14

Introduction

1978 means a lot to the Chinese people because in this year the once biggest and strongest country stepped out of the struggling of ideology chooses and broke the economic and political separation from the capitalist markets. Through the release of the control over the market by the government and activation of the private industry since 1990s the world has witnessed a fast rising China in term of economy, politics and cultural influence. But during the 1990s, China was not more than the world’s low cost factory, big but of little importance. By importing the western countries’ modern management and technology, Chinese companies through a generation’s effort, have been getting close to the leaders in most industries.

But Chinese top companies are still lack of core competitiveness and experience in competing with the global giants. In this case, the government could be helpful in creating good business environment for these top companies in winning the international business competitions. But in the Chinese business system which has been deeply influenced by its culture and conventions, the government has long been putting strict control over the business for thousand years. How to help the large state-owned business and private companies become world class firms and build up their own core competiveness will be the joint effort between the government and the firms.

Overview of China’s rise

The economy reform which is also called as “Socialism with Chinese characteristics” started in the late 1978 under the lead of Deng Xiaoping aiming at creating economy value in the mainland of China by adopting the market economy under the constitution of socialism. Because the use of market economy is unprecedented in the socialist countries, it is called Chinese characteristic. Irrespective of the ate whether China is still a socialist country or not, the mainland of China is clearly advancing in the direction that is closing to the western style market economy with more and more free hands offered to the private business sector together with the economic reform. This is proved by the statistic that the private business sector accounted for 70 percent of the GDP of China (Engardio 2005).

Even so, the major economic entities including the US, EU and Japan have not recognized the market economy status (MES) of China. The most recently the second round of the China-US Strategic and Economic Dialogue (S&ED) in which no substantial progress is made in the recognition MES of China makes analysis believe that the US, as the biggest trading partner of China, will only accept the MES China in 2016 in which China will automatically gain the qualification according to the rule of WTO (Lan & Qingfen 2010). According some economies, this is more linked to the trade barrier strategy to the cheap China product rather than a subjective evaluation of the Chinese market economy because without the MES the exports of Chinese products are more likely to be found dumping by the anti-dumping investigations. China as a global player in the international economy deservers an equal status with other counterparts, but there are also distortions in the Chinese market economy where the unwilling recognition of MES of China lay their rationale (Green 2004) such as the control of the exchange rate of the Chinese currency RMB.

Key areas which have witnessed transformation

Economic growth

Chart 1 GDP growth from 2006 to 2010

 

chart 1.0

Since the first several years of the implementation of the economy reform, China’s Gross Domestic Product has kept a near 10 percent growth; this has brought great changes to the life of the people in China which explains the result of the survey done in 2008 in which among 24 countries the Chinese people are the most satisfied with their country’s direction and economy (Wang 2008).

While the Chinese GDP seems to be keeping a similar fast growth rate since the 1980s, the configuration of the incentives that drive such growth has changed from time to time. In 2008, 30 years after the begin of the economic reform, the per capita GDP exceeded the threshold of 3000 US dollars and according to the past experiences in the developed countries the consumer demand will grow dramatically. And the domestic demand showed its influence in 2009 when the export decreased suddenly with the spread of the economic crisis from the United States. Together with the large investment of the stimulation package, the domestic consumer demand first time in nearly 10 years’ time contributed 4.6 percent to the economic growth (Chinahourly.com 2010). With the turbulent and uncertain international economy, it is for sure that the Chinese domestic demand should contribute more to the economy growth rather than just investment led growth.

Labor market

Like many fast growing developing economies, since 1978 the labor market in China has experienced dramatic change with the creation of the large pool of labor force in the major cities with the inflow of the labor from the agriculture. The labor force in the agriculture accounted for 71 percent of the total labor force in year of 1978 and this number fell largely to 45 percent 2005 while the labor force in the urban areas employed in the state owned enterprises also fell dramatically from 78 percent to 24 percent together with the reform of the SOEs (Cai, Park & Zhao 2006).

The development and reform of the labor market did not go as smoothly as the GDP growth did. With a large population of more than 1.2 billion but large employment happened in just limited fast developing cities most of which are located in the southeast coastal areas, the Chinese government uses the “Hukou” (household) system to restrict the mobility of the population into the major cities in fear the development of the regions become extremely uneven and what’s more the major cities could not sustain such a large inflow of labor force. The “Hukou” system performs the function by limit the welfare and rights of the migrant workers in areas of employment and education and it is actually a discriminative policy to the large number but still in minority status migrant workers. As the recently appointed minister of agriculture mentioned in People’s Daily which is the official newspaper of the government that the after more than 30 years’ time, the second generation of the migrant workers begin to develop a strong sense of equality and need of democracy in a more open society (Junting 2010) and this has put more pressure into the change of the “Hukou” system. Some attempts of reforming the “Hukou system” have been tried in some cities such as Shanghai but it seems that the hope of fundamental change of the system is still far away.

Culture changes

Before the economy reform in 1978, under the planned market economy and close governmental interference in people’s economy life with ideology control, people tend to accept the arrangement of the government and they did not possess any properties. But since the gradual implementation of economy reform, people were even encouraged to work hard for their own interests rather than the group interests. And driven by Deng’s slogan of “Becoming rich, and lead those lagged behind”, people started to work nights and days which was best described by the slogan of Shenzhen city, the first special economy zone in China, that “time is money and efficiency is life”. With mutual acquiescent acceptance of private ownership, the whole country is striving to catch up with the developed countries in the economy field.

The creation of world class firms

Haier

Haier is one of the most reputable Chinese brand in the world, it focuses on the production of electrical household appliances and Haier refrigerator is its best known blue chip product that is manufactured by 20 production facilities worldwide with an annual production of 12 million units (Haier.com 2008). According to Global Major Appliances Brands 2009 rankings, Haier has reached the top of the rankings in its major products which include the refrigeration appliances and home laundry appliances in term of market shares with a respective 10.4% and 8.4% retail volume market shares (Euromonitor International 2009). Haier’s success has come together with Chinese economy miracle as Haier started from a small factory that was forced to the brink of failure by the poor management and quality control caused largely by the planned economy system. Under the leadership of Zhang Ruimin, the managing director of Haier appointed in 1984 upon its reestablishment as Qindao Refrigerator Co and later the CEO of Haier group, who managed to put the Chinese brand into Harvard Business Review as a successful example with Haier’s own featured managing practices.

Zhang Ruimin’s leadership is considered as one of the major driving factors that bring about the success that Haier has today. If Zhang Ruimin’s leadership could be put into a managerial grid (Blake & Mouton 1964), we could find out that Zhang achieve high scores in both ends: concern for people and concern for production. On one hand, Zhang Ruimin does concern a lot for his employees. In the later 1984, upon his appointment to Qindao Refrigerator Factory, despite a debt of CNY 1.47 million Zhang’s first action was to add up the debt by borrowing money to clean the unpaid salary of more than 800 anxious employees. And in the first Chinese new year after Zhang’s appointment, he even borrow money to buy five catties of fish to each employees as a present to show his care to the staffs. As quoted by Zhang in Harvard Business Review (Zhang 2007) that the first of three areas that he will think about every is whether the company has provided employees with enough of room to create value and achieve self-realization. On the other hand, Zhang Ruimin is also a performance demanding leader that focuses on the accomplishment of tasks. For example since his takeover of the factory, strong disciplines have been taken to those who were not willing to perform and break the rule of the company even in the 1980s when the governments would not allow the companies to fire their people.

The corporate culture of Haier has two major features: customer oriented and performance driven. To build a customer oriented corporate culture, interaction between employees in all levels and customers is strengthened by strategies. All employees would be required to sell the products that they will focus on in their positions. And for the middle and senior managers, a requirement of maintaining customer contact on a weekly basis is enforced by the company to reduce the distance between the managers and the customers. Since 1995, the concept of “star service” is promoted among the company upholding the principle that “customer is always right” and so the employees are not allow the say “no” to the customers even though it might the wrong with the customers. On the other hand, Haier is also pushing forward a strong performance driven corporate culture. In most collective owned enterprises, employment and promotions opportunities would be preferably given to those with good “quanxi (relationship)” in the social network or good internal social status in the company. But such business conventions are changed in Haier with its performance based promotion and reward and bonus system. Employees are classified as probationary, satisfactory and excellent and their performance is accessed on a month basis and their bonus has strong connections with their status falling into which of categories above (Yeung & Woskin 1998).

And in the area total quality management, in order to improve the work efficiency and quality, a OEC model was created to enhance the work performance. In the OEC model, O is short for “overall”, E stands for “everyone, every day and everything” and C stands for “control and clear”. The fundamental principle of OEC system is to increase the work performance by 1 percent than yesterday. And in the implementation of the OEC model, three stages and nine steps are adopted to set the target and perfect the control and incentive mechanism to create a standard operational process (SOP) for both workers and managers. For example, there are 156 procedures which include 545 items identified in the work of a refrigerator quality check with specified responsible workers (Jeannie & Shawn 2003). With the target of zero error rate in production, the layered control process help prevent and detect errors in their early stage. The control process includes self control with the help of appropriate incentive system, cross control between production procedures achieved by bonus scheme to finding out the errors made in the upper production procedures and managerial control by layered check by the supervisors, workshop managers, director and divisional general manager.

In strategic field, Haier has kept a fast speed in technological innovation. There are several strategies that Haier uses to catch up with their international competitors in term of advanced technology. Firstly, Haier invest greatly in its research and development activities (R&D). It had set up R&D centers overseas including developed countries such as United States, Japan and Korea. As shown in the table below, as a late comer, Haier spent a high percentage of its sales into the R&D activities in a similar level as Sony had at the same period.

Table 1.0 R&D spending as a percentage of sales from 1997 to 2006

table 1.0

Source: Liu & Li 2002

And secondly, as a late comer Haier adopted follow up strategies especially in its beginning stage. In 1984 when Haier built up alliance relation with Liebherr, a German refrigerator company, to acquire a new refrigerator production line which is a turning point for Haier, Haier not only acquired the technology but it also followed up active learning and R&D strategy after sending 40 of its best engineers and managers to Libherr for training purpose. This convenience of transfer of technology and business model from industrial leaders rather than building from the basis is one of the strategies for new emerging MNCs to become established in the global market. What’s more the emerging companies can easily apply the business model with modifications which are found hard to happen in the established leaders which is call “success breeds failure syndrome” (Starbuck, Greve & Hedberg 1978). Besides the technological strategies Haier also focuses on building it brandings with a greater effort than the long established brands in the developed countries such as Philips and Siemens. The image that most Chinese brands are low end with low cost advantage has put Haier into a lagging position in brand building. There are two major branding strategies that Haier adopted to increase its brand awareness in the oversea market. On one hand, Haier has built up long term cooperative relationships with OECD-based brand building specialists to build up its own brand in a long term strategic perspective. On the other hand, acquisition of the established brands could also help increase its brand awareness in the target market in a short period of time. For example, Haier acquired 60 percent of Sanyo-Electric Company to form a joint venture company and name the it as Haier-Sanyo-Electric.

China National Petroleum Corporation (CNPC)

China National Petroleum Corporation (CNPC) together with Sinopec and China National Offshore Oil Corporation (CNOOC) are the three major oil and gas producers and suppliers in China and CNPC is the largest one (Cnpc.com.cn 2008). In the recent years even though these three oil companies have been keeping a world class output but compared to the large energy demand driven by the world’s fast economy growth the oil output in China is obvious not enough. So the recent 7 years mark the three oil giants’ oversea growth under the policy of “Going global” strategy which is also applicable to the private business sector. In 2008 CNPC as China’s largest oil company had shown its presence in more than 70 countries. And as mentioned above, according to the Financial Times this year CNPC’s has led ExxonMobil to be the largest company in term of market value with its assets reached 329.3 billion USD (Sasac.gov.cn 2010).

In 2008, 86.29% of CNPC’s share was controlled by the central government and the government is playing a very important role in the growth of CNPC and other two oil giants. Firstly, the oil and gas industry is a highly monopoly industry in China. Until several days ago the third company China North Industries Group Corporation (CNIG) other than CNPC and Sinopec finally got the qualification to import crude oil (Tang 2010). But CNIG is also a state owned company. So the oil industry will still be monopolized by several oil giants. By the issue of crude oil import permit, the country actually controls the upstream of the oil industry. Secondly, the price of the gas and oil is set by the government. How much of the gas and oil will mainly designed by the “directive price” which is set by the National Development and Reform Commission, again the government has strong presence in the forming of the oil and gas prices. Thirdly, the so called “Oil diplomacy” has created good oversea business environment for the oil giants. The frequent appearance of the Chinese politicians in the North Africa, Russia and Middle East has directly brought a lot of oil field exploitation and other energy projects to the Chinese firms and obviously CNPC is one of the biggest winners under such “Oil diplomacy”.

In term of scale CNPC and other Chinese oil giants are already world-class big, compared to their original directing policy which is to be “bigger and stronger” are they strong enough? One authoritative ranking in the oil industry is the World’s Top 50 Oil Companies carried out by Petroleum Intelligence Weekly (Energyintel.com 2010). This ranking is base on six operational criteria which includes detailed comparison of gas output and reserves, product sales and distillation capacity, total assets, net income, revenue and so on. It is a comprehensive assessment of the oil companies compared with the competitors and many of the top 50 companies are 100% state owned like CNPC. In 2008 and 2007, CNPC had been ranked in the 5th while US Exxon Mobil was ranked in the 3rd in the same rankings. Among these measurements, what worth a mention is that CNPC has the number of employees which is 4 times more than Gazprom. In this way the per-employee value created is relatively low in CNPC. What’s more in the areas of mining, exploration, distillation which shows the capability of managing the industrial chain, CNPC is still far away from the global leading competitors (Pang 2010). But as seen from this ranking, CNPC is closing to a world class firm in the oil industry even though improvements are still needed to build competitiveness.

Huawei

Huawei is a leading telecom solutions provider, products includes telecom network infrastructure, application, software wire line, wireless devices and so on with service coverage over 100 countries and one third of the world’s population. Huawei’s recent achievement Huawei since establishment in 1988 has been keeping a fast growth rate. As shown in chart 2 below, in 2009 financial year, the sales revenue has reached RMB 149.1 billion (USD 21.8 billion) with a year on year growth of 19 percent. This growth rate is relatively high in the industry which had been severely influenced by the economic crisis and the growth has been reinforced by the 3G market dramatic growth in China in 2009. So in 2010 it is possible that Huawei may find its position in the global Fortune 500. But obviously Huawei is more pragmatic and does not eager to gain the ranking and this can be seen from the fact that Huawei is still not a listed company in any stock market. Unlike CNPC, Huawei is a non state owned company. In the 2009 Huawei Corporate Responsibility Report, the company emphasized that the company’s share is 100% percent held by the 65% of employees which means Huawei is not controlled by any third party organization or governments.

Chart 2 Huawei’s financial growth (Source: Huawei 2009 annual report)

chart 2.0

In 2009 Huawei had make prominent achievements: it was ranked as the second in the global market share of radio access equipment which reinforce its leading position in wireless; its successful launch of the first LTE/EPC commercial network in the world also help it win the world’s largest number of LTE commercial contracts; it also win a lot of honors as a recognition of its leadership which included “Supplier of the Year” of Vodafone, “Asia-Pacific Wireless Infrastructure Vendor of the Years” and “Broadband Equipment Vendor of the Year” and so on. Huawei’s fast growth is attributed to the continual innovation that has been kept since the founding of the company. By having submitted more than 18,000 standard proposals and filed a total of 42,543 patent applications Huawei was ranked the second in term of global Patent Cooperation Treaty patent application across all industries. While other Chinese large companies are trying to get their selves into the track of the world within the rules in the business system dominated by the western forces, Huawei makes a further step by having its 148 employees who hold leadership positions in 123 industry standards organizations worldwide, such as OMA, ATIS and WiMax Forum (Money.cnn.com 2009).

Obstacles toward world class firms

Unlike state-own Zhongxing, China Mobile (Huawei’s competitors), who can easily enjoy the government purchase order, a 100% private telecom service provider like Huawei since the founding has been seeking rooms for survival in the gas between these giant SOEs. In 2008, the sale in oversea market accounted for 75% of the total annual revenue (Huawei Annual Report 2008). The government support will be more critical while the oversea is shrinking in the recent years and the Chinese domestic market is growing to be the biggest market.

Another critical problem seems to be surrounding Huawei all the time. It’s the technology innovation. Even though as mentioned above, Huawei is in a leading position in term of number of application for patents, and Huawei has been insisting in invest 10% of its sale revenue in the research and development, but Huawei still does not have a 100% original product invention (Fang 2006). So Huawei’s huge number of patents mostly came from the purchase or paying the fees to get the right to use the patents and what Huawei does most is add some functions and features base on the products and technologies that the western companies had developed. Huawei’s success in using this follower strategy on one hand provides with Huawei a short cut to catch up with the industry leaders but it also means that on the other hand Huawei has to follow other companies’ strategy and could not foresee the future in a strategic way. As a senior manager in Cisco said sarcastically several years ago, if Cisco stopped R&D, Huawei will lose its direction. This judgment may not be credible but it reflects the problem of Huawei that it does not has its core invention and patents.

Recommendations

The more internationalization the products become, the more important the role of the country will be in increasing the value of the brands in the country. For the last 30 years, the low cost advantage of “Made in China” has brought great benefit to the Chinese companies in surviving in the highly competitive business environment. But now the “Made in China” name which has long existed in people’s mind which explains the fact that some eminent Chinese brands are seeking to create a non Chinese brand name that can separate from the “Made in China” cover. But a Chinese brand would not be a western brand when it born in a Chinese firm cultivated in the Chinese cultural, so for the Chinese industry leaders, adopting a high position in a currently weak Chinese cultural will be a recommendable strategy because in the long run the output of value and cultural will be an increasingly important indicator of a world firm and a powerful country.

The second recommendation for the Chinese firm is continual innovation strategy that is carried out well in Huawei. Like IBM, Huawei has been dedicated to transform itself into an integrated industrial solution provider rather than just product manufacturer. Even though Huawei now is not as successful as IBM in this change to service provider as the service revenue just accounts for a small part of the sale revenue of Huawei in the recent years. But the continual innovation of Huawei has set a very good example to the rest of the Chinese firm. And in the years to come, the innovation that Chinese firm may find more important is how to follower the western industry leaders in term of strategy and value building, it is the building and reinforcing the Chinese business model that would mark the rising of the world class firm of China.

The last advice that I have to the Chinese firms through this study is that China is the fast growing market in the world and the market is still forming which means the market is changing towards a rule base economy and the government and the Chinese local enterprises need to play more important role in setting the rules of the new Chinese market. But until recently, the Chinese government has finally put the foreign companies in the same level of treatment, before that the foreign business even enjoyed better policies than the local Chinese private firms. And now the government need to protect more the private firm as they are vulnerable and if not get protected by the government back in the local market, it is possible for these private business to yield a group of world class firms. On the other hand the Chinese firms should play a more important role in the rule setting activities such the patent application rather than just investing their money into the real estate market driven by the short term interest.

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