What always fascinates me about China as a country is that it appears to be able to achieve whatever it sets out to do. While this ability is understandable in a deterministic activity like infrastructure development, China is well on its way to replicating this feat in a much more open-ended activity like innovation.
China’s Next Strategic Advantage: From Imitation to Innovation, a new book by George Yip and Bruce McKern (MIT Press, 2016), provides a comprehensive account of the contemporary state of innovation in China. Targeted at an international audience, its main argument is that China has evolved into a leading geography for innovation, and that any company which misses out understanding this phenomenon and participating in it will be at a disadvantage in the years ahead.
What the book says….
Here are my key learnings from the book:
The most striking feature of innovation in China is the sheer quantum of resources that the country invests in R&D. At $162 billion, this is around 2% of GDP. At this level of spending, China is knocking at the door of the advanced economies of the West. Just as a reference point, R&D spending in India has never crossed 1% of GDP, and is generally around 0.8-0.9%.
Just in case you are thinking that this spending is largely in defence or similar strategic activities of the Chinese government, think again—only 30% of the R&D spend is attributable to the government and most of the rest is by business. In India, the ratio is the opposite!
Why have Chinese companies signed into R&D in such a big way? Yip and McKern suggest a three-stage model followed by Chinese companies. In the first stage, they innovated to create “fit for purpose” products for the local market. In the second, they used innovation to bring themselves up to world standards. And, in the third, they now strive for global leadership. As in other countries like Japan and Korea whose model China emulated, Chinese companies borrowed, adapted and then improved upon imported technologies across these three stages.
What is striking is how some large Chinese companies have become innovation powerhouses. Two important examples cited in this book are Huawei and Haier. Over the last decade, Huawei has become the leader of the telecommunication equipment industry displacing such giants as Alcatel, Lucent, Nokia and Siemens who don’t even exist as independent players in this industry any more. Huawei’s $8 billion annual spend on R&D has resulted in versatile products like the SingleRAN that powers the networks of major mobile service providers. Over the last 30 years, Haier has evolved from a producer of poor quality products into one of the leading appliance companies of the world. Haier too spends a significant portion of its sales on R&D. Huawei and another Chinese telecom company ZTE are among the top 10 companies in international patent activities as measured by applications filed under the Patent Cooperation Treaty.
According to Yip and McKern, innovation in Chinese companies is largely customer- or market-driven. Since there is lots of regional variation, opportunities exist to address multiple niches. Customer needs also change over time, brand loyalty is low, and consumers are willing to try out new things. The market is reasonably forgiving, so companies can afford to experiment. It is this customer orientation that has helped Chinese companies compete effectively against multinational companies (MNCs) who have much larger resource endowments. Increasingly, customers want all that the MNCs are known for—quality, brand, etc.—but also a Chinese flavour, and a nationalist feel.
Joyoung is a good example of a company that has successfully met local needs. Its flagship product is a soymilk maker that combines a blender and rice cooker. This product has enabled it to compete successfully with MNC appliance brands like Philips in the Chinese market. Chinese companies are well known for a high degree of product variety to meet regional and niche needs. This approach extends to international markets.
Yip and McKern see speed and adaptability as major strengths of Chinese companies. They cite the examples of several MNCs (e.g. Bestbuy and Walmart) who lost out in China because they did not adapt to the Chinese market and instead tried to replicate the strategies they used successfully elsewhere. In contrast, Chinese companies have successfully launched products to meet local needs and adapted their business models to make money out of these products. MNCs like Coca-Cola and Procter & Gamble that have appointed a local leadership and adopted the more exploratory approach of Chinese companies have done well. I was particularly impressed by Coca-Cola’s introduction of a new drink based on one that was pioneered by a local player—this has, according to the book, now become a billion dollar brand for Coke.
Within companies, internal innovation processes may not be very strong and big ticket ideas seem to come from the top management. However, organizations have good execution skills and can translate ideas into successful products and processes.
The Chinese government has played its part in building the innovation ecosystem. Major contributions include large investments in foundation local technologies like high speed trains and civil aircraft; establishment of high technology industrial parks; efforts to attract Chinese technical talent back to China; and a major transformation of the Chinese higher education system. Universities play a major role in working with Chinese companies in myriad ways.
While the Chinese government explicitly supports innovation in chosen thrust areas, companies can get support from provincial and local governments too. In fact, these governments have been willing to support R&D programmes by MNCs as well, unlike the Central government. Several Chinese companies list substantial amounts received as subsidies and tax concessions under their “Other Income.”
The protection accorded to intellectual property (IP) is improving in China, which is in sync with the national policy to move towards being a more innovative nation. Though special IP courts have been established, administrative rather than legal measures are the preferred method of dispute resolution. Yet, the authors conclude that the Communist party will always have the final say!
…..and the questions that it raises
While I read a book such as this one on China, I can’t help subconsciously making comparisons to India. And this raises a number of questions.
Why don’t we have a company like Huawei? India is such a large market for telecom services, but almost all the equipment used is imported. This import of information and communications technology-related electronics is a major drain on our balance of payments. Huawei’s first product was a PBX system, similar to what the Centre for Development of Telematics (C-DOT) developed in the 1980s, yet today it is a $46 billion company!
And, if not a Huawei, why not a company like a Haier? India had consumer appliances companies like Voltas, Godrej and BPL—why couldn’t any of them make it to the size and impact of a Haier?
The authors suggest that Chinese companies find it difficult to get the money they need for R&D. But they seem to overcome this challenge and invest money nonetheless. Why do they do it? And why don’t Indian companies?
Is innovation a competitive necessity for Chinese companies? Or is it driven by their aspiration? Is there a link between globalization and innovation—do globalized companies spend more on R&D, and can this explain why Chinese companies spend more on R&D than Indian companies?
How do Chinese companies afford the cost of having such product variety? How do they manage such a complex inventory?
So far at least, Chinese companies have pursued incremental rather than radical innovation. This is true of Indian companies as well. The authors assume that Chinese companies will make a natural transition to radical innovation. Is that inevitable? Or, is there anything specific that Chinese and Indian companies need to do to pursue radical innovation?
Yip and McKern have made a useful addition to the growing literature on innovation in China. Unlike other authors who have concentrated on China’s internet giants like Alibaba and Tencent, they have captured the innovation happening across sectors. Their book also covers what’s happening in the Chinese R&D centres of MNCs. The only dimension that could have been covered better is government’s support for corporate R&D and innovation.
And, most importantly for me as a student of innovation, their book triggers many questions that can be the subject of study in the months and years ahead. I hope to share the answers to these questions as I find them with the readers of Founding Fuel.