The changing nature of China’s economic development provides both opportunities and challenges for multinational industrial companies. Where they once served the traditional domestic manufacturing machine, they now must meet the needs of a more sophisticated market.
China is on course to become the world’s largest market for a variety of products and services. This demand has encouraged local players to up their game to a stage where they offer serious competition to global leaders. Domestic manufacturers, long adept at localizing foreign products for the Chinese market, are continually improving the quality of their products.
To succeed in this new world, global companies must show agility and creativity in developing successful business strategies suited for China.
Quality as well as price
The Chinese industrial market can typically be characterized by two generic segments; a quality segment with higher priced products which historically has been populated by multinationals and a value segment, which supplies cheaper products, usually made by domestic companies. While historically there may have been clear distinctions across these customer segments, in China’s dynamic environment of evolving customer needs and intense competition, value and quality are converging in many industrial sectors.
International executives recognize that domestic manufacturers’ quality is continuing to improve at a rapid pace. Although many perceive domestic players’ current quality to be only half of that of global manufacturers, they see this as changing rapidly in the next five years. Furthermore, domestic firms are likely to maintain their substantial price competitiveness against multinationals.
Strategic responses to this situation are varied. Many multinationals do not yet view domestic players to be a major threat in the premium segment that they compete in. For instance, a large global paint and coating manufacturer recognized that in the “middle- and low-end market, the tech gap is closing,” but stressed that multinationals and their domestic competitors were targeting distinct customer segments. A medical devices manufacturer stated that “multinationals and domestics are competing for different groups of customers.”
However, as local companies’ quality continues to improve, it is essential for global players to be well prepared and have the right strategies in place to effectively compete.
Despite rising competition from domestic manufacturers, foreign companies are not currently considering leaving the market. This suggests that management teams believe that with the right strategies, China still offers attractive opportunities. Executives also appear to believe that continuing innovation to keep their companies’ products premium is the key to success here.
Their responses to the present situation can be aggregated into three high level strategies: Focusing on innovation, finding new markets to serve and competing directly with local firms.
A frequently employed strategy is to continue with vigorous innovation in an effort to retain control over the high-end segment. A large European based engineering and electronics company noted that “domestic players do not innovate now; they just imitate global products. So multinationals need to maintain their R&D (research and development) capabilities to build competitive advantage.”
As many multinationals in China rely on continuing innovation to stay ahead of the competition, deciding on how to foster innovation is likely to be one of their most important strategic decisions. This can include setting up or moving R&D centers to China, bringing more innovative products to the local market and integrating Chinese engineers into global R&D.
Finding new markets to serve is also a commonly cited strategy by executives. A US laminate manufacturer stated that “we are currently trying to expand our product range to also serve the flooring and roofing markets.” Expanding the potential customer base is often a key strategic initiative for multinationals to compete effectively in China.
Companies have adopted various approaches to this. Typically, they will take existing products and services and target new industries, new geographic markets within China or approach new customers or segments. There is also the option to produce new products to serve adjacent markets based on existing similar products, technology and facilities.
Going head on
Another way to compete is to go head-to-head directly with local players, which typically involves expanding the multinational’s presence beyond the high-end premium market. Strategies can involve making simpler (and cheaper) products, renewing a focus on cost, or acquiring or launching a budget brand into the market.
Multinationals have discovered that many of their original products are over-specified for many applications within China, and so have successfully increased sales by addressing the demands of the local market and simplifying their products. Options for doing so include redesigning the appearance and replacing non-core materials without changing the core function. Removing additional features or functions of the product is also a popular choice, as is changing the volume or size of a product to make it more suitable for users with minimal demand.
Controlling costs is critical to staying competitive but a need to provide low cost products risks putting too much attention on reducing production costs. A low cost product strategy must be implemented cautiously to avoid erosion of valuable brand image associated with high quality.
Some global enterprises are making adjustments with their feet, shifting manufacturing to places with lower labor costs. This can involve internal relocation from China’s coastal regions to its hinterland or going overseas to countries such as Vietnam, depending on the type of industry.
Directly targeting the value segment, as opposed to focusing only on premium lines, offers multinationals the opportunity to expand their customer base. This can be achieved through the acquisition of a local player or by launching new low-cost brands. Such a strategy is intended to allow multinational manufacturers to enter middle-to-low end market segments without tarnishing their original brand image. Acquiring local players also allows the possibility to leverage domestic brands’ position and low-cost infrastructure.
The China market is entering a new era, of that there is no doubt. It does, however, still offer plentiful opportunities for global companies. By addressing some of the changes underway in the market, global players can position themselves better to reap the rewards and reduce the risks.
Michel Brekelmans is a partner at and co-head of L.E.K. Consulting’s China. Eric Yan is a manager at L.E.K. Consulting.
This article is based on a survey of multinational business executives, including several from large industrial project supply companies.
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