How Large Chinese Corporations Establish International Competitiveness in Other Brics- the Case of Brazil

HOW LARGE CHINESE CORPORATIONS ESTABLISH INTERNATIONAL COMPETITIVENESS IN OTHER BRICS- THE CASE OF BRAZIL

Hans Jansson Linnaeus Baltic Business Research Center; Linnaeus University; e-mail: [email protected] Sten Söderman School of Business, Stockholm University; e-mail: [email protected]

Abstract: A major feature of some large Chinese companies is the massive investments in the emerging markets of Asia, Latin-America, and Africa. One main driver behind the Government´s support of the firms, who invest in the emerging markets, is to strengthen and develop a global competitiveness: going from cost advantages in low and medium-tech industries to differentiation advantages in hi-tech industries. This has enabled Chinese firms to challenge the incumbents of many global industries, in particular Western firms. The main purpose of this paper is to describe and explain how two large Chinese firms have gained competitiveness in China for the global market (exit strategy) and transfer and adapt it to another BRICS country, the Brazilian market (entry strategy). The research is limited to the construction equipment industry which has been globalized for many years with a few major global firms dominating the industry. A theory on initial internationalization strategies is developed through an abductive research methodology. It was found that Chinese firms do not yet compete directly with major global firms such as Caterpillar, Komatsu and Volvo CE since the Chinese firms have mainly built their international competitive strength in the low- price segment, while major competitors focused on obtaining the higher-end of the market by relying on their perceived superior technologies, customer service and branding, which differentiates themselves from Chinese construction equipment firms, thereby justifying premium prices for their products and services in the high price segment. It seems as if these major firms respond to the Chinese threat by entering the low price segment to compete head on with the Chinese firms.

Key words: large Chinese companies, global competitiveness, take-off and entry strategies, BRICS

Proceedings of the 28th Annual Euro-Asia Management Studies Association Conference “The Changing Competitive Landscape in Euro-Asia Business Relations” School of Business, Economics and Law, University of Gothenburg Gothenburg, Sweden 23rd - 26th November, 2011

1 1 THE PROBLEM

Foreign direct investment (FDI) of Chinese companies has been increasing steadily over the last ten years. Until 2004, the dominant motive for investing abroad was to seek new markets, which has increasingly been complemented by resource-seeking and asset-seeking investments (Buckley et al., 2007; Alon et al 2009; Lu, Liu & Wang, 2010). A major feature is the massive investments in the emerging markets of Asia, Latin-America, and Africa. Contrary to the investment behavior of most firms, the FDI even increased during the Great Global Recession of 2009-2010, in particular the asset-seeking investments, Chinese firms taking advantage of the opportunities to buy underpriced assets (Time 2009). The (Chinese) government has flooded the market with liquidity, produced a massive stimulus and created massive spending on an unprecedented scale, and as a result has papered over some of the problems. One main driver behind the Government support of the firms who invest in emerging markets is to strengthen and develop global competitiveness: going from cost advantages in low and medium-tech industries to differentiation advantages in hi-tech industries. This has helped Chinese firms to challenge the incumbents of many global industries, be it Western, Japanese or Korean multinational corporations (MNCs). According to Söderman et al (2008), Chinese firms prefer to trade with and invest in European markets. However, this priority now seems to have changed due to major changes taking place since 2009. Europe and the US have not yet recovered from the great global recession. EMU countries even risk a new financial crisis. Many emerging markets, on the other hand, especially the BRICS (Brazil, Russia, India, China and South Africa) have continued to grow. This new development seems to turn the world markets upside-down, creating a unique potential for the growth of the South-South trade and FDI compared to before. Even if the economic climates in the EU and the US improve, the potential for growth is much less than in the emerging markets. This article focuses on large Chinese companies and not small- and medium-sized enterprises, which work under significantly different conditions compared to larger companies with global ambitions which have stronger support from local authorities and government (Keister, 2000; Zeng and Williamson, 2003; Deng, 2004; Wu, 2005; Buckley et al., 2007). We expect further internationalization, but how will it happen and what will be the key drivers? Following Child and Rodrigues’ (2005), the essential drivers in different strategic positions of Chinese firms were examined in by looking at the impact of pricing and product positioning strategies (Söderman et al., 2008). The major question studied is how large Chinese firms become competitive in global markets, i.e. the strategic process of gradually building competitive advantages, initially at home and later in foreign markets. The main strategic drivers, both internal and external drivers, behind this development are also studied, We agree with Alon et al (2011) that existing theories can satisfactorily explain the globalization of Chinese enterprises. However, since it cannot be taken for granted that theories about Western MNCs are valid for Chinese internationalization firms, the issue is which theories that are useful for the particular problem studied and how to combine multiple theoretical approaches to offer a richer explanatory terrain (Rugman, 2010: 353). Due to the international strategic problem at hand, we apply the resource-based view together with institutional and internationalization theories to explain the developments studied, and which are all integrated from an institutional theoretical perspective. The main purpose is to describe and explain how large Chinese firms gain competitiveness in emerging markets, here represented by Brazil. Its role in the global economy is growing rapidly. E.g. Brazil is predicted to advance in the global economy ranking from no. 15 in 2005 to no. 4 in 2015 (Minevich & Richter, 2005). Brazil has invested approx. 650 billion USD in

2 infrastructure recently and domestic investments of almost 960 billion USD will occur in 2011-2014, inter alia in infrastructure for the World Cup and the Olympic Games. The research will therefore be limited to the construction equipment industry. Moreover, this industry is highly globalized since many years with a few major dominating global firms. It has also been intensively studied as a global industry since many years. The structure of the article is as follows: after the problem discussion we describe our theoretical framework on initial internationalization strategies, followed by the methodology on how we collected and analyzed data in the construction equipment (CE) material industry in China and Brazil. The conclusions and limitations finalize the paper.

2 METHODOLOGY

Judging from our and others’ previous research experience from emerging markets (Jansson, 2007a,b; Söderman et al. 2008; Cardozo & Fornes, 2008; Child & Rodriguez, 2005), one cannot assume that the internationalization of Chinese firms occurs in the same way as that of firms in mature economies. Moreover, this study is also exploratory in the way that the information on the international business strategy (IBS) of Chinese firms is barren. This knowledge gap combined with a lack of the validity of theory makes the purpose of this research to gain a better understanding of the IBS of Chinese firms. Our main concern is to study the validity of theory and develop theoretical models, rather than the confirmation of existing theory. This claim necessitated a holistic approach, mainly to deal with the boundary between firms and environment, which implied in-depth case studies (Merriam, 1998; Scholz & Tietje, 2002; Yin, 2003). The methodological approach behind this research is mainly abductive (Alvesson & Skoldberg, 2008; Dubois & Gadde 2002; Josephson & Josephson, 1996), where theory and method are interrelated (Van Maanen et al. 2007). It rests on the limited possibilities of generalization of various theories in time and space. Extant theory is developed in parallel with the empirical fieldwork and the case analysis, where the final aim is to create a solid theoretical and empirical base at the same time as strengthening the practical validation of the research, by making the results relevant for organizations and society.

Thus, the abductive approach requires a careful, theory-led selection of cases. An embedded case study method is used to integrate qualitative and quantitative knowledge (Yin, 2006; Scholz & Tietje, 2002). Secondary data from various public sources is the main source of information. The problems with secondary data are mainly due to the fragmentation of statistics over a large number of sources, making it hard to build a true picture of the firms and the strategies studied. There might also be distortions of data through wishful thinking and misreporting.

In order to select case interviews we asked one of the incumbents, based on its experience from doing business in China and their perception of the competition from Chinese firms, to give us a list of the top Chinese competitors in its industry. This list included Xuzhou Construction Machinery Group (XCMG), Sany Heavy Industries (Sany), Zoomlion, Liugong, Changlin, Lovol and Longgong. Two of these companies viz. XCMG and Sany, had entered Brazil. Since we had decided to focus on Brazil as an interesting example of a BRIC country these two were selected,.

3 A major result is that the major incumbents of the CE industry seem to face threats to their competitive positions in emerging markets, such as Brazil, but not yet in the mature markets of Europe and North America. The research employs a triangulation method to maintain reliability and validity, mainly relying on a large number of secondary data sources: books, published articles, peer-reviewed articles, company reports and databases mainly found on the web and referred to in the endnotes. This data was used to gain insight into the research problem, triangulate theories and form theoretical frameworks. Investigator triangulation was obtained by having three investigators assigned to the project. Most of the data was collected by two master students under close supervision by one of the authors. To reach an acceptable level of internal validity (Yin, 2003), theories were continuously assessed against the cases, where patterns were matched and alternative explanations were sought. The external validity was established through analytical generalization (ibid). To control for reliability of data on the web, a multitude of sources were used, where pieces of information from one web source were checked with other sources. However, since this was not always possible, some data might be biased, especially when coming from company web pages. Besides this article there is another report from the project, viz. the master thesis by Halak & Reinke (2011), where more data on the firms and their strategies can be found.

3 THEORETICAL FRAMEWORK: INITIAL INTERNATIONALIZATION STRATEGIES

To describe and explain the formation of competitive advantages in emerging markets by Chinese firms, a process view to international strategy is taken. Strategy theory, mainly the resourced-based view, is combined with internationalization process theory. The focus is on the earlier phases of the internationalization process, meaning that we concentrate on the take- off strategy from the Chinese home market and the entry strategy into the Brazilian market. The environmental impact (drivers) is viewed from the lens of institutional theory. The take- off strategy is founded on the take-off process to internationalization (Jansson & Söderman, 2012). It concerns how competitiveness for foreign markets is founded in the domestic market in competition with foreign companies. The domestic firm builds a general firm specific ability to compete abroad, and develops sources of competitive advantage in the domestic market as well as adapting this ability to foreign markets.

3.1 The inside-out perspective to internationalization strategy

According to the inside-out perspective on IBS, the main factor behind a strategy resulting in competitive advantages is the managerial and organizational processes, shaped by the resources and constrained by the external environment (Jansson, 2007a). A firm can generate a competitive advantage by employing its organizational capabilities, which it can use to leverage its economic resources which results in an increase in its economic value to customers and higher profits than its competitors. But IBS is also based on the legitimacy logic of rationality coming from the social environment, usually expressed as corporate social responsibility (CSR). Certain other resources and capabilities are therefore legitimacy- oriented. MNCs utilize their capabilities not only to increase economic values but also higher social values and natural values are created with stakeholders. Resources are individual inputs into organizational processes, such as capital equipment and individual skills. Since few resources are productive in their own right, resources are bundled together to create organizational capabilities. The capacity of a collective entity to perform some task is defined

4 as an organizational capability. The organization as a collective entity consists of a number of resources and capabilities that work together to create customer values and competitive advantages. The competitiveness of the MNC is therefore decided by how the resources and capabilities are integrated with one another into a system. To achieve competitive advantages, such organizational processes need to be organized in specific ways, i.e. an organization structure has to be in place. Consequently, organization structure is seen as an organizational capability.

In addition to the internal environment of the firm, IBS is constrained by the external environment, which consists of two parts: the industry and the institutional contexts. Foreign country market environments are defined as institutional settings based on the institutional network approach (Jansson, 2007a). There is an inter-play between strategy and institutions, where institutions are seen as constituting the framework for IBS, e.g. ”macro rules” such as the judicial system. Internationalization is therefore determined by the institutional distance between country markets implying “informal” and “formal” rules. This concept involves major differences between how societies are organized (Hilmersson & Sandberg, 2011). It improves cultural distance as a concept for international business research along the lines suggested by Shenkar (2001), expanding from a country-level characteristic to a country institutional profile based on institutional theory (Kostova, 1997).

3.2 Theory on the internationalization process

The basic patterns characterizing the initial part of the internationalization processes are related to the internationalization process as a whole represented by the Uppsala model (Johanson & Wiedersheim-Paul, 1975; Johanson & Vahlne, 1977). However, the most relevant literature found to study the internationalization of firms to and from emerging country markets is represented by the network approach (Jansson, 2007b; Jansson & Sandberg, 2008; Hilmersson & Jansson, 2012), which in turn builds on a more general network approach to internationalization processes, viz. Agndal & Chetty (2007), Chetty & Blankenburg-Holm (2000), and Johanson & Vahlne (2009; 2003). Internationalization takes place through firms establishing relationships with parties in foreign markets, which is typical of the strong relationship orientation of Chinese firms, usually expressed as ‘guanxi’ (Jansson et al. 2007; Redding, 1990). A gradual build-up of internationalization knowledge takes place, inter alia through increased experiential knowledge (Eriksson et al. 1997; Katsikeas et al. 2009). New stages of internationalization are established through a discontinuous learning process, where the firm is extending its business from one major type of market to another or from one type of foreign environment to another (Sharma & Blomstermo, 2003), .

3.3 The take-off strategy

In accordance with Boisot & Meyer (2008), we mean that the internationalization strategy of Chinese firms cannot be fully studied without considering how competitiveness is built in the domestic market. The transformation of the firm between domestic and foreign markets is defined as a take-off process consisting of a number of stages (Jansson & Söderman, 2012). First the firm has mainly a domestic market focus, and no international business. This stage is important because it sets the primary conditions for internationalization. This is highly relevant for firms from emerging markets, since their sources of competitive advantage are developed at different paces depending on how fast domestic markets evolve: viz. the marketization process. Eventually, an awareness of foreign business opportunities emerges,

5 e.g. sparked by threats from imports, or customers and competitors internationalizing, leading to a start of exporting.

Factors behind the initiation of the internationalization process are usually defined as external and internal stimuli (Tan et al. 2007) or external and internal barriers (Leonidou, 2004). Financing constraints are an important reason according to Zhou (2007) and Leonidou (2004) who consolidates previous work into a limited number of obstacles: three major internal barriers relating to the resources, the capabilities, and the approach to export business; plus four external barriers relating to the home and host environment. Taking a strategic perspective, we define such factors as internal and external drivers. The external drivers are further divided into push and pull factors. A further approach to be illustrated later is the “Five forces model”. As found by Jansson & Söderman (2012), sources of competitive advantage for international markets of Chinese firms initially took place in the domestic market inextricably linked to local market development. A major condition for take-off was that the firm first develops competitive advantages in the domestic market. Moreover, the development of competitive advantages and the start of internationalization were conditioned by the phase of development of the domestic market. Firms moved through an expansionary phase of the market, where an initial stage of an oligopolistic situation consisting of a limited number of mostly state-owned enterprises was replaced by a considerably larger number of mostly privately-owned large and small companies, creating and intensifying competition. In the second and third phase, the market was consolidated, resulting in a shake-up of firms. The ‘wild’ and fragmented market of the second stage began to be turned into a more adolescent and ‘tamed’ ‘Western’ type of market consisting of a more limited number of competitors of both national and foreign origin. Rivalry was changed from domestic to global and from supply driven to demand driven. Market driven competitive advantages started to develop in the second phase, where intense price competition lead to firms developing strong cost advantages. Differentiation advantages were mainly developed in the third stage, when competition on quality becomes more important and firms invest in more advanced technologies, R&D and brand building.

3.4 The entry strategy

The main purpose of the IBS is to gain a sustainable competitive advantage or staying power in the foreign market. To reach that a ‘beachhead’ or strategic platform is first established, from where to build this competitive advantage. Four major criteria are used to evaluate the competitive advantages: value, rareness, inimitability, and suitability (Jansson, 2007a). Resources and capabilities create value when they are related to customers and other stakeholders as well as to the markets and market environments of these parties. Value creation is not enough. The resource and capability also need to be rare to be a source of competitive advantage. If a capability is both valuable and rare it may help the firm to achieve temporary advantages over its competitors. Whether these advantages are sustainable or not depends on whether they could be imitated or sustained. The rarity of the resources might vary between different countries, making it possible to achieve competitive parity in one national market and sustainable competitive advantage in another market. Inimitability of resources and capabilities is therefore critical for the sustainability of competitive advantages. If a resource is to be a source of sustained competitive advantage, competitors should face a cost disadvantage when they try to imitate the resource. There are three reasons for inimitability: unique historical conditions, causal ambiguity and social complexity (Barney, 1991, 1994). To gain competitive advantages, the resources and capabilities also need to be suitable or

6 appropriate for the specific environment, where the resources and capabilities are used. In that way, the suitability criterion expresses a local approach to the strategy analysis of resources and capabilities. A basic condition for achieving a competitive advantage in a specific local market is the existence of a suitable relationship between internal resources and capabilities and environmental factors in the foreign market. But the sustainability of the competitive advantages of MNCs is also based on how the resources and capabilities are organized collectively on an international scale, i.e. the global aspect of the strategy. Thus, it is not enough to locate knowledge and skills in a foreign market. If they are to be valuable and rare, the local knowledge and skills together with their supporting resources and capabilities located outside the country need to be suitable for the needs of the market and the society within which these needs are found.

The evolvement of the competitiveness of the internationalizing firm passes through three major stages, where each stage is represented by one type of competitiveness: competitive parity, temporary competitive advantage, and sustainable competitive advantage (Barney, 1994). The first stage is formation, where the purpose of the organization is to develop competitive parity. These capabilities are classified to consist of component knowledge, mainly of a straightforward technical kind, being simple, tangible explicit, and transferable, e.g. including blueprints, product patents, and step-by-step instructions for an operation (Tallman et al, 2004). It is normally tied to the technology of the industry, is relatively coherent and definable, and is usually a contextual, transferable, and subject to discovery rather than creation by organizations. The development stage comes next, which ends with the internationalizing firm achieving temporary competitive advantage(s) through developing more advanced component knowledge. This is a more advanced, less transparent and systemic experiential knowledge that is established through learning by doing, e.g. a market development routine. Systemic component knowledge is partly transferable. Finally, there is the long-term stage, which is established when the organization manages to achieve a sustainable competitive advantage. This possibility exists, when a capability has been developed, which is inimitable and efficiently organized. This requires the establishment of architectural knowledge, which is developed by firms by creating understandings through application. It is non-tradable, complex, intangible, tacit, organization specific, causally ambiguous, private, holistic and evolutionary (Tallman et al, 2004).

4 DATA

The first of the selected cases is Sany Group, an international conglomerate that employs more than 60,000 people in over 120 countries1 with a growth rate of 50% per annum in recent years2. It has five industrial parks in China, and four factory/R&D facilities in America, Germany, India and Brazil3, and plans build more plants in Indonesia, Russia, North African countries and South Africa”4. The daughter company Sany Heavy Industries (HI) produces a full range of construction related equipment.

In 2010 XCMG’s, the other case, net profits rose 68% and revenues 22% to 25 billion Yuan5, aiming to achieve revenues of 35 billion in 2011, and 100 billion by 2015.6 On average 15% of the production is exported, with 2.5% going to Brazil, and looked to reach 4% in 2010. XCMG strives to win market share of 8.5% in Brazil, which annually produces about 13,000 machines in the construction machinery category.7 This goal is to be reached through heavy marketing, quality manufacturing and service

7 4.1 General resources and capabilities of the two firms: primarily in China but also worldwide. In the tables 1 and 2 below we have indicated what types of “resources and capabilities” which were identified during our comprehensive data search, however fragmented, and discovered from www sources. These types are dealer network, brand, plant equipment etc listed in the left columns.

Sany HI Resources and capabilities XCMG Resources and capabilities

Dealer CE portion of Sany comprises 24 sales 147 distributors in China, and 100 overseas Network companies worldwide.8 dealers.

Brand Brand is well known domestically and Strong in brand equity. Highly regarded in st becoming increasingly so abroad. With a mix China, ranked 1 and top 10 in the world of good quality, low-cost, and after-market among CE manufacturers. In recent years, shifted from relying on scale and speed to service, Sany is becoming synonymous with 9 brand, quality, high-end and lean good customer value. Top selling excavator management and benefit increase.11 in China (12,000 units in 2010). In 2009 outperformed Caterpillar in market share, and viewed as major competitor by Komatsu, the world's number one brand of excavators.10 Among top 50 CE manufacturers globally. Goal to become world famous brand and be listed among the world’s top 500 enterprises.

Plant and As construction equipment is sophisticated Uses top-of-the-line production equip- and highly complex, the machinery that technologies; owns largest in-house ment produces them has to be equally so. manufacturing and assembly facility in the nation.12

Finan- In December 2010 the Sany Group established No financing service found. cing Sany Auto Finance Co Ltd, created to provide financial services for the CE industry, providing leasing, loans, insurance, trust and financial service solutions to domestic customers. (See employee training below).

R&D Sany Group every year invests 5-7% of sales XCMG has won several awards at national toward R&D of new technologies.13 Holds level for innovative designs and quality,16 536 registered patents; generated over 70 key with 70% of their products achieving the technologies,14 recently the SY75C3EH top technical level domestically and 20% motor-driven small hydraulic excavator.15 internationally.17 Will invest $ 150 million One of few firms possessing the ability to to build a domestic R&D center within five develop such technologies. years, consisting of 13 research and testing facilities - one of the largest, most technologically advanced units in China.

After Attempts to provide above average service to XCMG places great importance on sales all customers. New service regulations are supporting businesses after the sale,

8 service structured on an international level. Three providing technical assistance, a robust sets of standards are defined, and are made up spare parts supply and trained mechanics to of letters and numbers. The first, S250, service customers.18 Has own sales network represents Sany’s pledge to be a market leader around the World. Can supply consulting in attendance, replacement parts and and after-sale services to their local maintenance techniques, and to develop customer.19 CE equipment is economical in effective communication with their customers. terms of maintenance and operations, while Next, S123 illustrates Sany’s promise to act comprising a moderately high level of on solving all problems within one day. durability and technical capacity.20 Maintenance is simple, since the machines are mechanical and not electronic. So not necessary to hire a mechanic to fix it, also becoming cheaper after warranty period expires.

Manu- Through manufacturing knowledge and Has invested large amounts of capital in facturing expertise, Sany focused on developing and state-of-the-art “intelligentized” machining know- manufacturing quality industry-leading equipment and knowledge, while adopting how products, while still remaining competitively the automotive manufacturing procedures priced.21 used in the production of entire loaders.22

Emp- Managers are trained to meet business XCMG holds training seminars for the loyee objectives.23 Sany Finance will become an employees. Annual meeting to discuss training important base to train talents in the fields of future development and train subsidiary finance and law.24 managers, industry delegates and overseas businessmen 25.

CSR Sany also interested in financial human side of No information found business.26 Utilizes recycling program and has above average emission standards, regardless of the nation. Recent Tsunami in Japan Sany donated equipment and support to repair nuclear plants.

Sales & The business philosophy is centered on XCMG will hold about 50 promotional 28 Marke- concept “helping customers to succeed”.27 activities worldwide during 2011. ting

Table 1: General resources and capabilities of the two firms

4.2 Resources and capabilities of the two firms in Brazil (see Table 2 below)

Sany: Sany: Comments XCMG: XCMG: Comments

Resources Resources and and capabilities capabilities

R1 Sany is a new entrant in the R1 Began exporting CE to Brazil in Distribution Brazilian market. Currently distribution 2007. Now has 16 distributors plus 2 they have eleven distributors distribution centers in Recife and Sao in Brazil, generating revenues Paulo, and a third being built in Rio of US $30 million in 2010.29 de Janeiro. Sold 240 units in 201030

9 R2 Although Sany´s brand is R2 Brand The firm has already developed an recognized in many countries above average reputation of good Brand worldwide, while their customer value, thereby developing presence in Brazil is still brand.31 relatively new

R3 In 2011 invested US $200 R3 XCMG spent $22 and $40 USD million in a state of the art million to set up three assembly Plant & factory and R&D facility. Plant & plants with their distributors, but Equipment Besides this hub, Sany Equipment have yet to establish a manufacturing operates three factories in facility within the country. Soon up- CE.32 to-date plant and equipment technology will be transferred to Brazil.33

R4 Sany upholds the industry R4 They hold an average number of average for location with their assets in Brazil, which are expected Location three factories in Brazil Location to increase over time as needed

R5 Plans financial leasing in NI NI Brazil in 2012. Financing

C1 In 2011 opened a new R&D C1 Though XCMG has no local R&D facility (see above). hub in Brazil, they rely on their R& D R& D award winning technology based in China. .

C2 Sany has only recently begun C2 XCMG has begun to develop a to implement customer service customer-focused after sales services After Sales after sales initiatives, as with After Sales network throughout Brazil. They Service many of their Chinese Service currently have two distribution counterparts. centers, with a third being built

C3 Sany utilizes many avenues to C3 The firm uses many different ways to adequately train and retain train their employee’s adequately. Employee employees Employee training training

C4 The company has many claims C4 XCMG has improved a lot in this to high quality, however this Manufactu- area over the years and produce Manufac- quality is relative to price and ring know moderately high quality products, turing know has more to do with perceived how however they cannot compete with how customer value than actual many of the high-end market leaders quality.

C5 Sany upholds the average CSR NI NI Corporate levels in the Brazilian social construction equipment responsi- industry

Bility

NI NI C5 Sales & The manufacturer is strong in sales & marketing, holding a number of

10 Marketing promotional events that strengthen both their brand equity and customer’s perceived value.

Table 2: Resources and capabilities of Sany and XCMG in Brazil (mainly based on Halak & Reinke, 2011, pp 71-72). R=Resources; C=Capabilities

4.3 Market structure and development

The take-off strategy is based on the degree of competitiveness in the home market. The current market structure of the CE industry in China is therefore described in Table 3 below by employing the “Five forces model” (Porter, 1980), i.e. the bargaining power of both buyers and sellers, the threat of substitutes, threat of entry and the degree of rivalry.

Five forces Content Bargaining Power of Buyers: Buyers are mining, agribusiness and construction companies. Global prices Moderate much higher, while prices of foreign manufacturers between 50%-150% higher than local companies. Due to such differences, most buyers prefer cheap, local, homemade products with slightly lower quality.34 Some buyers are demanding machine quality and sophistication on par with more developed global markets. Increasing importance of brands. Recent economic difficulties have prompted small and medium-sized firms to shop around before making a purchase.35

Bargaining Power of Low switching costs for raw materials such as steel and aluminium except Suppliers: Moderate when long-term contracts and obligations. Substantial price variations for raw materials. High switching costs for value-added goods such as engineered components, often being produced in joint development.

Threat of Substitutes: Low Due to the extremely specialized purpose of the machinery produced.36

Threat of Entry: Moderate Barriers: high fixed costs, economies of scale, brand loyalty, intellectual property, and stringent government regulations on manufacturing.37 Large firms hold considerable intellectual property assets (patents, licenses and trademarks), and strong brands recognized worldwide. Potential exists for small-scale entry by short-line and specialty manufacturers, especially at the regional/local level.

Degree of Rivalry: High to Fierce, often vicious competition results in pressure on prices, margins and Moderate profitability. In 2006, the top five producers supplied more than 30% of the market.38 Hundreds of firms: dominated by a few MNCs and large domestic corporations that control a sizable portion of the market39 plus many SMEs competing in low value-added products. Over-capacity and low profitability in a booming market. High exit barriers.

Table 3: “Five forces” of the CE industry in China

This market structure has developed rapidly over a relatively short period time, where many local firms have developed a strong manufacturing capacity, but their capital, management

11 and technological capacities lag behind international firms.40 However, there are a small number of large domestic manufacturers that can compete with many of the foreign CE firms.

Some major contractions exist in this very dynamic market, contributing further to turbulence. On one hand, a booming market co-exists with overcapacity and low profitability. When output value is growing rapidly, fierce industry competition leads to lower profit growth than revenue growth. If demand growth would be slowing many firms may fall into a passive situation, whereby they have to rely on price competition to survive. However, many do not have the ability or skills to cut cost, nor the sufficient bankroll and vitality for long-term development and an industry shakeout will occur.41 Consolidation is expected as intensifying competition and rising technological requirements force small and inefficient operations to exit the industry.42 On the other hand, as the Chinese market continues to surpass growth expectations it is also conceivable that many construction firms will continually be attracted by its potential.

Foreign MNCs are still in a good position to dominate the industry, especially as they mostly entered by way of mergers and acquisitions. They are able to familiarize themselves with the local market development, acquire the control on brands and often times significantly improve profitability at a low cost.43 Though there are a large number of domestic firms that lag behind that of many multinationals, Chinese CE firms are learning fast, with a few becoming competitive at an international level, like Sany and XCMG. Even if the market is in a state of growth and remains profitable for the majority of firms, the unstable market condition may work as a driver by domestic firms to look at other markets around the world, especially since global prices are anywhere between 50%-150% higher than in China. Emerging markets similar to China might be interesting, since the majority of the buyers there as in China prefer cheap lower quality products.

4.4 Major institutional differences and similarities

Formal rules Regarding international rules, both China and Brazil are members of the WTO, which means Chinese CE companies can expect relatively the same rules and regulations imposed in Brazil. However, the Brazilian and Chinese legal systems are fundamentally different. China’s legal system has evolved from communist law, while Brazil’s is representative of a democracy. In China the law is used as an instrument of the government to gain power and in Brazil the legal system is used as a means for checks and balances, therefore restricting the government’s power. Despite these differences, corruption is rampant in both. Bribery is common practice and results in ineffective law enforcement. The inability to enforce laws in Brazil makes the two legal systems similar because laws can be overlooked if a company is willing to pay for preferential treatment. Currently, the longevity of bribery in Brazil is uncertain as interest groups are creating anti-corruption initiatives that are starting to gain clout.

The huge stimulus packages to road, rail, power and airport infrastructure, especially in China, have generated demand for construction equipment and created opportunities for construction equipment companies to expand. The education system between China and Brazil is also similar. Both systems are predominantly examination based and foster an environment that encourages cheating, where ultimately the grade the student receives is more important than the methods used to obtain it. Chinese CE companies will have the same

12 challenges in Brazil as in China regarding the legitimacy of credentials held by the individuals they hire.

Informal rules Culturally, China has low levels of individualistic ideologies maintaining a collective mental stance resulting from the communist regime. Historically the Chinese are committed to groups: family, extended family and extended relationships. In collectivist cultures, loyalty is dominant. This is reflected in China’s ability to foster strong relationships where everyone assumes responsibility for members of their group.44 Brazil’s society also shares a collectivist mentality within their culture that honors private relationships over societal rules. Commitment to relationships within groups such as family, extended family and extended relationships is thus of paramount importance to such collectivist societies. Trust is built via relationships. Society as a whole protects and aids members within their group.45 In China it is socially accepted to have high levels of inequality in power and wealth within society, mainly being based on Confucian ideas, its power distance being high relative to World averages.46 Strict laws, rules, policies and regulations imposed by the government reflect the need for stability in Brazil to avoid the unexpected, while their risk aversion translates into an inability to have wide acceptance of change. Thus, both countries have a collectivist mentality and believe relationships are important over everything else, even sometimes superseding the law. Corruption can arise as a result.

5 DISCUSSION

5.1 Take-Off Strategy: China

Both firms are classified as internationalizing firms, meaning that they are found somewhere between the domestic firm and the internationalized firm (Jansson, 2007b). Neither are they internationally inexperienced nor fully developed MNCs. Most of their sales are in the domestic market as well as most of their resources and capabilities are located there. Sany has a higher degree of internationalization than XCMG, mainly by having more resources and capabilities located abroad through FDI. It has come farther on the path to being an internationalized firm than XCMG, which is more of a China-based export company. They both are active in mature and emerging markets with a stronger focus on the latter markets for XCMG. The Internationalization process in Brazil is a critical step toward becoming fully internationalized for the firms. Competitiveness is built, according to our take-off theory, in the domestic market.

Both companies have invested greatly in various marketing capabilities. E.g., over recent years they have begun to commit greater resources to customer service in both China and abroad implying a parallel development of competitive forces. There after sales services including a multitude of offerings, from spare part guarantees, to training services, among many others. XCMG utilizes promotional activities such as customer days, expositions and other marketing initiatives both in China and worldwide. They create brand awareness by exposing their products to people whenever possible, and have a well-developed sales and

13 marketing strategy. The ability to market their brand is a take-off driver that creates opportunities for success in other markets, as they possess marketing and selling know-how founded on a domestic level.

Sany is one of the first Chinese CE firms to offer financial services to customers, which has only been offered since 2010. Despite foreign multinationals offering finance, the majority of Chinese CE companies today do not offer this service. Given the competitive nature of the construction equipment industry in China, there is a high probability that Sany will only enjoy the first mover advantage among their Chinese counterparts for a limited time. It is possible that offering financing can help Chinese companies be more competitive in foreign markets, in particular emerging markets that may lack the financial capital for CE, especially for sizeable projects.

The Chinese companies have invested heavily on plant and equipment in their home country, comparatively to their overseas facilities. XCMG owns the largest in-house manufacturing and assembly facility in China, while Sany also has four factories/R&D facilities around the world and plans on doubling these in the years to come. Sany and XCMG are well known domestically in China for their research and development innovations. They have many patents and have been recognized in China with awards. Each company takes a different approach to R&D. Sany has multiple facilities around the world and is committed to innovation. Their numerous patents may be attributed to their globally diverse R&D facilities, and their commitment to hiring highly skilled engineers. XCMG on the other hand houses all of their research and development efforts in China. Although the big differences in the configuration of the resources and capabilities for innovation, they are both committed to bringing innovative products to market.

The Chinese CE companies are cognizant of the importance of learning and knowledge transfer. Both companies have programs in place for employees to continually gain knowledge through internal education from their peers. These programs encompass corporate training for managers and skill training for labourers. As a result, employees’ knowledge base continues to grow and enables the companies to provide forward reaching innovations and consistent customer service.

Sany and XCMG have established the resources and capabilities in the home market to produce quality products for their customers. Although their machines do not contain hi-tech electronic components, they possess the know-how to produce good quality equipment in their product range, especially when evaluated on a price basis. Sany and XCMG both offer a full range of construction equipment and claim to have high quality and good services relative to price. This results in a moderate to high level of perceived customer value. This seems to result in sustainable competitive advantages in the low-price segment. The commitments to customer service, e.g., increase their competitiveness in the industry and against their well- established rivals, whom charge a premium for the quality of their products and services. An indication of this is the high growth of the firms, which has made the size and breadth of the firms extensive in China and beginning to do so globally, through the use of distribution networks worldwide. For example, Sany had the highest sales volume of excavators in China in 2010, while XCMG is ranked number one in China and in the top ten worldwide. With the

14 companies enjoying high rankings and ever growing sales, their scope is continually getting larger. Despite the current economic climate both companies show continuous growth in sales units and profits.

5.2 Entry Strategy: Brazil

When entering Brazil, both companies established distribution centers to provide sales, service and spare parts to customers. The companies are gradually building up the distribution network in Brazil, having begun with modest distribution numbers but intend to invest more over the next few years. Geographically, both companies have chosen similar locations for distribution, including the states of Sao Paulo, Minas Gerais, Rio de Janeiro, Espirito Santo and the southern regions. Thus, both XCMG and Sany, as examples of competitive parity, have created a strategic platform or ‘beachhead’ to provide value to their customers. Their commitment to service at home has been successfully executed in Brazil, as parts are readily available and both companies have maintained their service promises. E.g. XCMG and Sany both launched customer service initiatives in Brazil immediately upon entry into the market and continue to maintain and improve upon their level of service provided. XCMG uses the same marketing and selling techniques as they do in China. In fact, they hosted the industry’s biggest new product exposition of its kind; an example to achieve temporary competitive advantage. With customer service being predominant in Sany’s and XCMG’s strategies, employee training has become important as they look to provide competitive customer service. Adequate training was provided to local employees from both firms as they entered the market, for example: managers attend training in China to absorb the company culture and gain an understanding of business objectives. The firms do not currently offer financial services in Brazil. Sany plans to offer financial leasing in 2012 to compete with other foreign competitors. Sany has only begun offering these services in China, while XCMG has no such plans.

The quality of products produced in China is maintained in Brazil from Sany and XCMG’s entry into the market. Proper training and transfer of manufacturing know-how has allowed the companies to continue with quality standards indicating a possible sustainable competitive advantage. In terms of manufacturing there are major differences between the two companies. Currently Sany has three manufacturing plants in Brazil, with limited product offerings produced locally. XCMG on the other hand, has opened three assembly plants and two parts facilities with their distributors. Although there is currently no commitment date made by XCMG, it plans to build a similar facility in Brazil to its one in China. However, both firms still continue to import the majority of their manufactured goods directly from China. As in China, their research and development plans differ in Brazil. Like their manufacturing, XCMG plans to keep their research and development efforts domestic, while Sany has invested US $200 million in a new facility to include R&D.

Sany enters Brazil with the same corporate social responsibility standards as in China indicating another base for a temporary competitive advantage. Regardless of lower local emission standards or environmental policies in Brazil, Sany maintains higher standards. Thus, Sany does not turn the lower standards of Brazil into higher profit margins.

15 Hence, the companies have committed resources to selling quality products (relative to their price), with a high level of customer service, as to generate the perception of value from their customers. This entry strategy into the Brazil has proved successful with up to 150% sales increase.

5.3 Effect on entry strategy from industry and institutional context

The firms entered Brazil without adapting their resources and capabilities in any major way to the Brazilian market. Does this mean that there are no major differences between the markets? With both countries investing heavily in infrastructure, the economic climate in the construction industry is comparable. Regarding the market environment, there are more cultural similarities between China and Brazil than the differences, whereas construction equipment companies seem to have an easier transition into Brazil from a cultural aspect than if they were to go into a country whose social organization was individualistic in nature. Regarding local rules about emissions, the firms do not need to adapt since their standards are higher than the local ones. China’s commitment to enforce Stage 3A/Tier 3 emission standards by 2014 and Brazil’s steadfastness to accomplish the same by 2015, means the current disparity is coming to an end. Still, Sany is in better position to gain sustainable competitive advantages than XCMG through the transfer of their CSR capability to Brazil. Regarding local contents rules, Sany is also in a better position because they are adapting by establishing their own factories, while XCMG has only established screwdriver plants, where there is no need to develop local supply sources. It is noted that despite the high tariffs, and other barriers when exporting goods into Brazil, Sany opened manufacturing plants later after having started with distribution, while XCMG has no plans to start full production in Brazil. One reason is that entrants must have large financial resources for such an investment. It appears that when choosing an entry strategy on manufacturing, each company evaluates the viability of opening manufacturing facilities internationally based on their domestic resources and capabilities. If the company possesses a core competency in manufacturing at home, then they are more likely to keep manufacturing in house, as opposed to attempting to transfer this capability to another facility.

Business morale does not differ much between the countries since bribery is rampart in both, the firms did not need to adapt based on what country they are in. However, the longevity of bribery in Brazil is uncertain as interest groups are creating anti-corruption initiatives that are starting to gain clout. Changes in these practices can result in the Chinese firms having to change their strategies if they currently use bribery to gain favour. For the future, with the legislation on intellectual property rights being imposed, these firms must be cautious in Brazil to avoid legal proceedings, as infringements are taken more seriously than in China.

6 MAJOR CONCLUSIONS

The home market in fast-growing big emerging markets plays the key role in developing competitiveness for foreign markets by establishing the resources and capabilities to achieve competitive advantages in such markets. First, before beginning the internationalization

16 process, a company must establish the necessary resources and capabilities at home to achieve the competitive strength required abroad. Second, for a company to develop later competitive resources and capabilities, a company must develop in their domestic market through competing there with foreign rivals and major local (surviving) competitors. This takes place in the last stage of the marketization process (wild to tame), and in parallel with beginning to compete in foreign markets.

The firms have established the same resources and capabilities configuration in Brazil as in China, i.e. these assets were found to be suitable to the foreign market and in no need to be adapted. This also implies that the firms mainly copied the strategy in the home market to this foreign market. The Chinese CE firms appear to rely on the resources and capabilities that are well developed in their home market when internationalizing. Their core business practices are adhered to and little to no changes are made upon entry. Firms rely on their resources and capabilities in the same manner for both countries, for example: XCMG houses their research and development facilities in China, while Sany diversifies these same facilities by having international locations. Both companies continued the same practices upon entry into Brazil. So regarding competitiveness, both firms are found in the development stage. They have mainly transferred component knowledge and have reached competitive parity. They are now developing systemic component knowledge to achieve temporary competitive advantages, which they seem to have done in the low-price segment. Sany has come farther than XCMG in the process of creating sustainable competitive advantages. The recently established R&D constitutes a dynamic capability needed to develop architectural knowledge and adapt to market changes, also providing a potential to increase the level of competitiveness to advanced level to compete in the high price segment in the future.

Another major conclusion is that China has many similarities with Brazil both economically and socially, which might also be valid for other emerging markets, especially the BRICS countries. CE firms in China face heavy competition, while maintaining steady industry growth. One of the main reasons for this surge in growth is due to the influx of government resources allocated to infrastructure from the stimulus package. With other emerging country markets sharing similar industry trends, it is conceivable that Chinese construction firms will thrive in these markets too. Many emerging economies appear to be attractive to the Chinese because there seems to be little to no adjustments required when entering.

Chinese CE firms are emerging from a past of inferior products offerings and cost savings, in which quality and customer service were sacrificed for the bottom line. They have learnt how to create CE in an efficient and inexpensive manner, while managing to produce a more reliable product, and services that consumers demand. They are following their major western competitors by employing many of the same strategies. Firms are beginning to not only offer, but also commit to providing timely and efficient customer service. Warranties are being offered with several service follow-ups, and commitments have been made to provide spare parts when needed. Customers’ perceptions of quality are rising and Chinese equipment is gaining value in the eyes of the customers. Firms are also beginning to offer full services for their products, including financing and after sales services. Furthermore, Chinese CE firms are strategically building R&D facilities. Sany and XCMG are thriving in the Chinese market despite fierce competition, and have learned how to maximize their resources and capabilities

17 to flourish in the dynamic domestic industry and macro environment. The accumulation of valued and rare resources and capabilities at home in a very turbulent industry environment are the main take-off drivers that allow Chinese firms to exit their market (Jansson; 2007a). Due to these particular circumstances Chinese firms seem to develop dynamic capabilities that are also suitable for other turbulent industry environments. These capabilities might also constitute the basis for future sustainable competitive advantages, perhaps even out- performing current incumbents, especially in big emerging markets.

However, Chinese firms do not yet compete directly with major global competitors such as Caterpillar, Komatsu and Volvo CE. Thus far they have mainly built their international competitive strength in the low-price segment, while major competitors have relied on their perceived superior technologies, customer service and branding to differentiate themselves from Chinese CE firms, thereby justifying premium prices for their products and services in the high-price segment. Rather it seems that these major firms respond to the Chinese threat by entering the low price segment to compete head on with the Chinese firms. This strategy was earlier practiced toward local competitors. By taking them on in the low-price segment, they will not have enough resources to go for the high-price segment, which requires Chinese low-price segment. The plan now seems to be to establish that firm in Brazil.

Future research

The conclusions are tentative, since they are based on only studying two cases, whereas a more extensive study including more firms is necessary to have more conclusive results. Such results also require that secondary data is complemented with primary data, mainly from interviews. To increase the validity and reliability of researching the international business strategies of Chinese firms or firms from the other BRICS future research should therefore include primary data on a representative sample of firms.

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