Sino-Finnish Paths to International Competitive Advantage Contact Information

Perspective John Jullens Hannu Suonio Tony Tang

Booz & Company John Jullens Partner Suite 2511, One Corporate Avenue No. 222 Hu Bin Road Shanghai 200021, P.R. China Tel: +86 21 2327 9800 Fax: +86 21 2327 9833 Blog: www.johnjullens.com [email protected]

Booz & Company Oy Hannu Suonio Partner Mikonkatu 15B, 7th floor Helsinki 00100, Finland Tel: +358-9-6154 6614 Mobile: +358-40-511 9324 [email protected]

Booz & Company It may seem ironic that China’s future depends increasingly on the country’s EXECUTIVE ability to forge new paths for growth through international expansion. Over SUMMARY the last 30 years, China has grown at a breakneck pace, largely because of the West’s insatiable appetite for goods that China produced with its near-limitless supply of low-cost labor. But success breeds its own challenges. Rising wages are gradually eroding China’s low-cost advantage, and the country’s continued progress now increasingly hinges on its ability to transform itself from a low- cost to a high-value economy.

Some of China’s best opportunities for target sector is in a “sunrise” or glob- developing the capabilities and acquir- ally mature industry. These criteria ing the technology needed to make serve as the basis for our Market that transition are to be found abroad Opportunity Matrix, which charac- and can be captured only through terizes four broad opportunity sets for partnerships with foreign entities. Finnish and Chinese companies seeking international partnerships. Finland also needs its companies to expand internationally to drive overall The first part of this report explains economic growth. But many Finnish why Finnish and Chinese companies companies lack the capabilities to need to pursue international expansion expand in emerging markets, where to secure their futures. We start with their growth prospects are greatest, the Finnish case, but we dedicate most because of their limited experience of this section to explaining the com- operating in these countries. And plex historical circumstances that make many lack the capabilities and capital internationalization critical for China. to commercialize innovation, even when they are strong in R&D. In the second part of the report, we introduce our Market Opportunity We believe win-win opportunities Matrix and provide details about the abound for international partnerships four opportunities the matrix high- between Chinese and Finnish compa- lights: good enough, latent demand, nies because they possess many com- breakthrough, and leapfrog. We plementary tangible and intangible describe multiple real-world partner- assets. Chinese companies have deep ships between Western and Chinese experience operating in emerging mar- companies that have been established kets, and they can provide access to to pursue these opportunities. And we China’s vast home market. They can offer guidance on the types of Finnish also supply the capital and low-cost and Chinese companies that would resources that many Finnish compa- make good partners. nies need in order to bring innovation to market. Finnish companies have No country has ever advanced so far world-class technology and possess in such a short time as China has. many of the capabilities—including But the strategies that brought it to experience navigating developed mar- where it is today won’t take it where kets—that Chinese companies need to it wants to be in the future. Finnish move up the value chain and tap new companies face different but often markets for growth. daunting challenges, in part because many have not been sufficiently pre- The best opportunities for Sino- pared for the rise of emerging econo- Finnish partnerships fall into four mies. Together, Chinese and Finnish categories, depending on whether the enterprises have an opportunity to target market is already developed gain tremendous ground and even to or still emerging and whether the take the lead in some markets.

Booz & Company 1 To achieve their growth potential, development will also continue to grow PART I: companies in both Finland and China rapidly in emerging markets, including THE CASE FOR must increase their efforts to expand in the area of information and com- abroad. We explain why in the fol- munications technology. INTERNATIONAL- lowing two subsections. We start with IZATION Finland, whose needs in this regard International growth is particularly are similar to the needs of many other important for companies in small developed economies, particularly countries like Finland because domes- those with relatively small home mar- tic demand often is not sufficient to kets. We then discuss China, giving justify the large capital investments more space to explaining China’s required to bring innovation to situation because the nation’s urgent market. This is a matter not only of present-day needs are best understood finding new markets for proven prod- when put in historical context. ucts but also of accessing a sufficiently large customer base to cover the cost Finland’s Internationalization of launching the new products that Imperative will enable Finland to maintain and Finnish companies began to pursue extend its competitive advantages. international expansion on a large scale in the 1980s, and many have To expand their reach and compete built strong global positions in their with multinational corporations own segments. The trend was led (MNCs), large Finnish companies by large companies that had the must further extend their efforts from resources to finance international developed to emerging economies. efforts, and most of those companies They will often need help from local pursued growth through acquisitions enterprises to bring their products to that provided them with access to market in countries where regulations new markets in developed economies. may be much looser, consumer needs may be unfamiliar, and ultra-low-cost Yet Finland’s international busi- products may be a prerequisite for ness presence lags behind that of success. Finnish small and medium other small, open economies, such as enterprises (SMEs) may also be eager Holland, Sweden, and Switzerland. In to focus on emerging markets to gain particular, it does not have a strong access to rising consumers and tap presence in emerging markets. Large financing from local companies that Finnish companies in industries such can help them commercialize innova- as forestry, telecommunications, and tion both at home and abroad. industrial equipment have made important forays into emerging markets, but China’s Internationalization most Finnish companies are not pre- Imperative pared for the shift in the world’s center China’s rise over the last 30 years of economic gravity from West to East. has been astonishing by any mea- sure. China became the world’s Finland cannot afford to sit out the second-largest economy in 2010, up emerging market revolution that has from ninth largest in 1980, bring- already proved to be such a power- ing its share of world GDP to 17 ful engine of growth for companies percent based on purchasing power across the developed world. Emerging parity. (See Exhibit 1, page 3.) In the markets will continue to be a source of process, it lifted 680 million people disproportionate demand as their stan- out of misery: economic development dards of living rise and their consumers reduced China’s extreme-poverty rate increasingly require midmarket goods from 84 percent to 10 percent. and services. Demand for infrastructure Deng Xiaoping, who succeeded Mao

2 Booz & Company after his death in 1976, finally opened advanced MNCs. But in cooperating era. Many Chinese people still experi- the path to economic growth in the with Chinese companies, which they ence a deep sense of shame about this late 1970s, when he began introduc- knew sought to acquire technology period and would prefer a remedy ing market reforms that paved the and capabilities from their partners, based on national self-sufficiency. way for modernization. To do so, Western companies risked surrender- Deng struck what some have charac- ing their competitive advantages. Those familiar with Chinese history terized as a Faustian bargain with the understand that the bargain was West, allowing foreign companies to Deng’s bargain was particularly always about survival and moderniza- access China’s vast supply of surplus painful because many in China felt tion for China, not Westernization or labor and potential demand from its humiliated by the historical record democratization. It ultimately enabled billion-plus consumers in exchange and were reluctant to embrace any China to emerge from the decades of for foreign direct investment (FDI) solution that would seem to involve near-autarky and economic misman- and transfer of advanced technology turning to foreigners for help. The agement that threatened its survival and know-how. feeling persists even today. China and rendered it virtually irrelevant to had been one of the most powerful foreign businesses. In fact, the bargain had the poten- countries in the premodern world, tial to be Faustian for both sides. In from at least 600 to the early 1800s; China’s tremendous growth over the giving Western companies access to it became one the poorest seemingly next 30 years was concentrated in its market before most of its domestic overnight. A period of chaos and three spurts that each persisted at businesses were ready to compete, immense suffering lasted for almost high levels of intensity for five to six China risked losing entire industries to 150 years, until the end of the Mao years. The first arose as a result of an unleashing of Chinese entrepreneur- ship in the early 1980s and was not export-oriented. The second came Exhibit 1 in the 1990s and was propelled by China: Reclaiming Global Economic Leadership % OF GLOBAL GDP IN PPP (CONSTANT 2005 INTERNATIONAL $) the labor-intensive, low-price export model that is familiar to most read- 100% ers. The third resulted from the com- bination of China’s accession to the World Trade Organization (WTO) China: 28% in 2001 and the credit-enabled 80% consumer-spending binge that drove demand from U.S. and other Western markets until the 2008 global finan- India: 12% cial crisis.1

60% Latin The surge in FDI fueled massive America: 7% domestic expansion, and Chinese United demand for various metals and other States: 10% natural resources drove commodity Western prices to all-time highs. Indeed, China’s 40% Europe: 7% Japan: 3% rapid rate of growth continued even in the wake of the 2008 economic crash. In the four years ending in 2011, China doubled its GDP per capita. 20% All other countries: 33% Though Deng’s bargain could still prove to be Faustian in coming years, it’s difficult at present to see it as any- 0% thing less than the animating spirit behind China’s astonishing 30-year 1500 1550 1600 1650 1700 1750 1800 1850 1900 1950 2000 2050F rise from poverty and irrelevance to Source: EIU, Nexis, World Bank, CEPII, literature research, Booz & Company analysis prosperity and power.

Booz & Company 3 Turning Point such as the fact that most Chinese fallen into decades of stagnation as a China is now approaching a criti- companies have many opportunities consequence of their inability to sus- cal stretch along a path that has so to improve the productivity of their tain growth in the face of rising costs. far delivered transformative growth. existing operations so as to increase This is no surprise. Economic theory productivity and suppress costs.2 From Low-Cost to High-Value predicts that China could experience To avoid the middle-income trap, slower growth as it reaches the end Nevertheless, if China doesn’t find China must transition from a low- of an initial catch-up phase fueled new avenues for growth, it will cost to a high-value economy. The primarily by low-cost advantages. eventually fall prey to the “middle- challenge is neatly summarized in the Indeed, the Chinese government set a income trap.” This happens when a “smiling curve” proposed by Acer growth target of 7.5 percent for 2013, country’s surplus labor runs out and founder Stan Shih to describe how down from the 10 percent annual wages begin to rise (that is, when its companies can avoid stagnation as growth rate it averaged during most economy reaches the Lewis turning their low-cost advantages erode. of the previous 30 years. point), rendering it increasingly less (See Exhibit 2.) competitive in the labor-intensive, Until recently, growth was fueled by low-value-added industries that Most Chinese companies still oper- high rates of investment, a growing enabled it to achieve high rates of ate near the nadir of Shih’s smiling labor force (resulting from the migra- growth in the past. Indeed, history curve—they compete primarily in tion of workers from subsistence is replete with examples of emerging labor-intensive industries to manufac- farming to industry in coastal cities), economies—including South Africa, ture low-value items such as textiles and technological progress. For Jordan, Turkey, the Philippines, or to assemble electronics. They must decades, the supply of labor greatly Thailand, Malaysia, and many coun- climb the smile’s right or left side exceeded demand and costs remained tries in South America—that have to migrate up the value chain. This low. But wages began to rise as the remainder of China’s surplus labor, Exhibit 2 mostly from the agricultural sector, Ways Around the Middle-Income Trap: Innovation, Go-to-Market, and Operational was redeployed in modern industrial Excellence sectors. The point in the development of an emerging economy when STAN SHIH’S “SMILING” CURVE further capital accumulation begins to increase wages is known as the Markets,

High Brands, “Lewis turning point,” named after and Brand and the Nobel Prize–winning economist Customers Service Sir William Arthur Lewis, who first Apple Procter & Gamble 3M Ikea described the phenomenon.

China has now neared—if not reached—the Lewis turning point. Margins are shrinking as costs rise, and export-led demand is falling as foreign companies explore alternative options, including moving operations to other countries, such as Vietnam, Operations where labor is cheaper. Toyota

Of course, Chinese companies could tap rising domestic demand to make up

the growth shortfall, but MNCs chas- Innovation Operational Excellence Go-to-Market ing Chinese consumers have brought intense competition to many industry China Today (Fabrication) Low sectors since China’s 2001 accession to R&D Marketing Value Chain the WTO. Other factors could partially mitigate the effects of rising costs, Source: Literature research, Wikipedia (graph), Booz & Company analysis

4 Booz & Company would involve investing in R&D to become real innovators such as Apple China has had mixed success upgrading and 3M or investing in marketing to develop iconic brands such as Procter its technology and capabilities through & Gamble and Ikea. acquisitions of foreign companies. A third option involves rising straight up the center of the chart to achieve distinction through operational excel- Siemens and Kawasaki to acquire the United States on Fortune magazine’s lence, as Toyota did via its famous technology to build its high-speed- 2012 list of the world’s largest com- production system. train network. panies, there are no Chinese companies on Interbrand’s 2012 list of the All of this is easier said than done. But Chinese companies have had world’s “best global brands.” Deng set his sights on technology mixed results in other areas such as and knowledge transfer as well as the automotive industry. Although International Gambits FDI when he struck his bargain China recently became the world’s Competition at home has become with the West more than a quarter largest automotive market, it is domi- increasingly intense since China’s century ago, and China has made no nated by foreign brands that operate accession to the WTO in 2001, secret of its motivation to develop through mandatory joint ventures, and China has had mixed success high-value capabilities and acquire and China has yet to produce a upgrading its technology and capa- technology through partnerships with globally competitive car company. bilities through domestic partner- foreign companies. It has had many Moreover, while China has more ships with foreign companies. As successes, including working with entries than any country except the a result, Chinese companies have increasingly pursued international expansion, often through M&A, Exhibit 3 to acquire technology and develop China Invests Abroad to Become More Competitive at Home high-value capabilities. Indeed, China’s outbound M&A grew at a CHINA OUTBOUND DIRECT INVESTMENT AND OUTBOUND M&A / 2002-10, IN $BN compound annual growth rate of 35 percent from 2002 through 2010. Value of Deals — Minority Ownership 66 (See Exhibit 3.) Value of Deals — Majority Ownership ODI This is unusual. Companies from countries such as Japan and South +35% Korea at the time of their emer- gence initially pursued international 34 growth by introducing in foreign markets products that they had 40 37 already launched successfully at home. And they usually started in 11 countries that weren’t too far away. But because technology and skills 26 24 22 acquisition are a primary motiva- 5 20 tion for many Chinese companies, 9 32 4 developed countries far from home 29 have received an increasing share of 10 China’s outbound direct investment. 16 21 7 3 6 15 15 (See Exhibit 4, page 6.) 1 2 7 4 6 But Chinese companies have had an

2002 2003 2004 2005 2006 2007 2008 2009 2010 exceptionally high failure rate when it comes to foreign expansion. Only 47 Source: Global Insight, Booz & Company analysis percent of announced Chinese overseas

Booz & Company 5 deals are completed, compared with R&D. The top reason they cite for Moreover, Chinese midmarket 67 percent for Indian companies. partnerships is to develop low-cost innovators have shown that they And of the overseas M&A deals by products for the Chinese market, can sometimes leverage their Chinese companies that are com- but a number want to leverage their unique factor conditions to become pleted, more than 60 percent don’t low-cost know-how to enter other global category killers. Like achieve their expected outcomes.3 emerging markets, and some want other successful Chinese compa- to do so to boost performance in or nies, midmarket innovators focus This can be attributed, in part, to enter mature markets. relentlessly on cost, but they also Chinese companies’ tendency to innovate to improve their products, take an overly aggressive approach In fact, despite the high failure rate processes, and business models, and to expansion. Under pressure to noted previously, Chinese companies they strive to achieve standards of achieve rapid successes, they often do not internationalize solely from a reliability and performance compa- try to do too much at once. More position of weakness. Industrial com- rable to those of Western MNCs. importantly, most lack capabilities panies and companies from sectors Their goods are lower in cost but to execute deals successfully. They where branding and blue-sky innova- better attuned to Chinese needs have little experience integrating tion are less critical often do well than goods from MNCs. Chinese enterprises or managing turn- abroad. These companies frequently players such as Lenovo, Haier, arounds, and they lack the language excel at reducing complexity, rede- Mindray, and Sany are using their and other skills required to navi- signing products and processes to dominant position in China’s mas- gate other cultures. Talent is often lower costs, and navigating markets sive midmarket to build a global underdeveloped, and many Chinese whose institutional environments leadership position and challenge companies lag behind MNCs when are not as developed as they are in established multinationals from it comes to governance, managerial, Western economies.4 developed countries.5 and systems standards. A survey we conducted with more than 100 Exhibit 4 MNCs revealed that they perceive Developed Countries Get an Increasing Share of China’s ODI Chinese companies to be weakest in the areas of HR management, GEOGRAPHIC DISTRIBUTION OF CHINA ODI FLOW, 2003–111 branding and marketing management, and management of cultural 100% 12% differences. MNCs are particularly 16% concerned that Chinese companies lack the people skills to navigate 26% Western Europe 8% 14% multicultural environments. (See 1% Exhibit 5, page 7.) 5% 5% 9% North America But MNCs perceive Chinese com- 9% panies as having strengths in several 12% Japan and Singapore areas as well, including low-cost manufacturing. They believe Chinese Oceania 51% 12% companies are good at developing 29% products to meet local market needs, and they recognize that Chinese 23% Asia players often have extensive experi- (Excluding Hong Kong, Singapore, ence navigating markets that are less and Japan) 19% regulated than Western markets. (See 11% Exhibit 6, page 7.) 11% Africa 6% 5% 3% Eastern Europe MNCs see these strengths as the 3% 5% 3% Latin America (Excluding Tax Havens) basis for win-win partnerships. 2003 2007 2011 Many say they expect to cooperate 1 Tax havens are excluded. with Chinese partners internation- Note: Sums may not total 100 because of rounding. ally in the future, particularly on Source: Oxford Handbook of International Business, Booz & Company analysis

6 Booz & Company Exhibit 5 Chinese Firms Are Weakest in HR and Branding, Say MNCs

MNCS’ PERCEPTION OF CHINESE COMPANIES’ CAPABILITIES1

Human Poor Resources 29% 49% 20% 2% Fairly Poor Management Global Average Above Average Branding and World Class Marketing 17% 57% 19% 7% Management

Managing Cultural 15% 59% 17% 9% Differences

Clear International 10% 48% 31% 12% Strategy

Integrating R&D/ Technology 10% 33% 49% 8% Capabilities 100%

1 Based on survey of more than 100 MNCs with a 30% response rate Note: Sums may not total 100 because of rounding. Source: Survey data; Booz & Company analysis

Exhibit 6 Chinese Firms Know Low-Cost and Emerging Markets, Say MNCs

MNCS’ PERCEPTION OF CHINESE COMPANIES’ CAPABILITIES1

Replicating Low-Cost Poor Manufacturing Capabilities from 10% 35% 40% 13% 3% Fairly Poor China Global Average Above Average World Class Product Development to Meet Local Needs 7% 41% 33% 14% 5%

Low R&D Cost 5% 18% 46% 26% 5%

Regulatory Environment 8% 18% 39% 30% 5% Navigation

100%

1 Based on survey of more than 100 MNCs with a 30% response rate Note: Sums may not total 100 because of rounding. Source: Survey data; Booz & Company analysis

Booz & Company 7 Finnish and Chinese companies to advanced technology and learn to PART II: have the potential to strike win-win develop more effective R&D pro- THE CASE FOR partnerships that would enable both grams. They can advance their mar- to expand beyond their borders and keting and branding skills by working SINO-FINNISH capture growth opportunities that with Finnish partners to bring prod- PARTNERSHIPS will lay the foundations for future ucts to market across the developing competitive advantages. world. (See Exhibit 7.) They can also gain operating experience in devel- Chinese companies can help Finnish oped economies that are governed partners reach consumers in emerging by tighter regulatory requirements markets, including in China. They can than they are used to, and they can provide managerial talent with experi- advance their managerial and gover- ence navigating economies with less- nance capabilities through collabora- developed institutional environments tion with Finnish companies that hew than is standard in developed coun- to Western standards. tries. They can also contribute capital to help Finns commercialize innova- The following sections provide details tion, provide the necessary insight for about how Finnish and Chinese adapting Finnish products and services companies can develop success- to suit consumers in emerging markets, ful partnerships. The first section and supply low-cost manufacturing introduces the Market Opportunity resources to help Finnish companies Matrix, a framework that highlights reduce their costs and bolster margins. four broad strategic options that Finnish and Chinese companies can Through partnerships with Finns, pursue to expand internationally. The Chinese companies can gain access second section outlines important

Exhibit 7 Finland Can Help China Move Up the Value Chain

R&D SOURCING MANUFACTURING MARKETING AND SALES

What – Ability to move up the – Knowledge of global – Improvement in – Access to international markets as Chinese value chain and operations and supply manufacturing internationalization effort propels more Companies transform from chain management productivity as China Chinese companies to seek growth from Need low-cost producers to – Optimization of raw gradually yields low- overseas markets high-value innovators materials utilization cost advantages to via access to even lower-cost innovation capabilities countries and R&D expertise

What – Knowledge-based – Leading Finnish – Manufacturing – Geographical proximity to Russia, the Baltic Finnish economy with strong companies possess productivity is 4.5 times countries, and the EU market Business focus on innovation deep expertise on local higher than in low-cost – International marketing and sales knowledge Environment – Among the top sourcing and global countries - Finland’s small economy and limited Offers countries globally in supply chain – Deep understanding of domestic demand have long propelled its terms of R&D spending management manufacturing process most successful companies to go abroad per capita – Advanced technology within mechanical - Finland’s top 10 companies by market value – Ideal test bed for new and efficient use of raw engineering products have an extensive global geographic solutions and materials due to and industrial footprint technologies historically strong components markets forestry industry

Source: Booz & Company analysis

8 Booz & Company considerations for selecting Finnish Exhibit 8 or Chinese partners. The third section The Market Opportunity Matrix highlights three basic questions that companies should ask themselves when they are just beginning to consider international partnerships.

The Market Opportunity Matrix We created a Market Opportunity “Leapfrog” “Good Enough” Matrix to help companies identify Emerging win-win opportunities account- ing for two critical factors: phase of market development (mature or developing), and phase of industry development (sunrise or mature). Based on these factors, the Matrix Market highlights four main strategies for successful partnerships between Finnish and Chinese enterprises. (See Exhibit 8.) “Breakthrough” “Latent Demand”

• Good Enough: Emerging markets, Developed mature industries. Jointly develop low-end or midmarket versions of existing products for emerging markets.

• Latent Demand: Developed Sunrise Mature markets, mature industries. Join forces to activate latent demand for Industry low-end or midmarket products for developed markets. Source: Booz & Company analysis

• Leapfrog: Emerging markets, sunrise industries. Capitalize on particularly likely that companies Western and Chinese companies that latecomer advantages to develop adapting efforts targeting “good successfully pursued them in markets new products and technologies enough” opportunities in emerging around the world. that will be more readily adopted markets will pursue “latent demand” in emerging markets that lack an opportunities in developed markets. It is worth noting that we looked for installed base for an existing prod- Similarly, there may be potential examples of Sino-Finnish partnerships uct or technology. to adapt “breakthrough” plays in the course of doing our research. launched in developed markets to We identified a number that are cur- • Breakthrough: Developed markets, launch “leapfrog” plays in emerg- rently in development, and we found sunrise industries. Create truly ing markets. In some cases, partners that interest in pursuing partner- cutting-edge products for devel- may be able to launch initiatives in ships is high among both Finnish and oped markets (for example, by pursuit of opportunities in multiple Chinese companies. No partnerships combining high-end and low-cost quadrants simultaneously. have progressed far enough to be capabilities). useful as case examples, however, The following sections provide detail which is why we don’t discuss any It is also critical to note that plays about each of these opportuni- particular Sino-Finnish partnerships. focusing on opportunities in one ties, including what is needed from We see this as further evidence that quadrant open opportunities for Finnish and Chinese partners and Finland has fallen behind when it plays in other quadrants. It is examples of partnerships involving comes to pursuing opportunities in

Booz & Company 9 emerging markets, but we are encour- Governments could take an active capabilities to increase efficiency or aged to see that partnerships between role to facilitate partnerships based on scale and further reduce costs. Finnish and Chinese companies are “good enough” products, but most beginning to emerge. opportunities don’t require government A recent example of this kind involvement. The Finnish government of partnership is the one involv- Good Enough could provide incentives, potentially ing Huawei and Microsoft, which Finnish and Chinese companies can including export financing or guaran- seeks to capture “good enough” cooperate to capture new growth tees, to encourage Finnish companies smartphone opportunities in Africa. opportunities in emerging markets by to grow abroad—although this could Huawei brings low-cost manufac- creating low-cost versions of success- be politically difficult in Finland, as turing capabilities and extensive ful products that are already available some stakeholders may resist initiatives experience in Africa; Microsoft in mature industries. (See Exhibit 9.) that support companies’ overseas activ- brings its Windows Phone 8 operat- This often involves stripping costs ities rather than employment at home. ing system and the technical exper- from products available in developed The Chinese government already tise to tailor it for specific markets. markets—for example, removing provides some incentives to support In 2013, the partners launched the “nice to have” features while preserv- Chinese companies that operate over- 4Afrika Windows Phone in Angola, ing the product’s essential benefits— seas. It could also provide financing Egypt, Ivory Coast, Kenya, Morocco, to make them more affordable for to Chinese companies to help them to Nigeria, and South Africa. consumers in emerging markets. upgrade or expand their production Sweden’s Volvo acquired Shandong

Alternatively, companies could add features to bare-bones products to Exhibit 9 make them attractive to midmarket The “Good Enough” Strategy consumers, or they could combine forces to design entirely new low- priced products from the ground up. The strategy is most attractive in cases when Finnish companies can contribute technology that is already proven and accepted in other mar- “Leapfrog” “Good Enough” kets. Industries where Finns have Emerging advantages include information and communication technology, industrial manufacturing, mining, construction equipment, and forestry. Finnish com- Market panies can also contribute strong international operations experience as well as brand and marketing know-how.

“Breakthrough” “Latent Demand” Attractive Chinese partners have the engineering capabilities and scale to Developed produce low-cost, “good enough” products for emerging markets. They may already have distribution networks in place, and they may have Sunrise Mature experience navigating less developed institutional environments. Many Industry Chinese companies can leverage their – This strategy involves joint development of low-end or midmarket versions of existing products low-cost capabilities and extensive for emerging markets. experience in emerging markets to – Exploring “good enough” opportunities in emerging markets may require Finnish and Chinese expand their presence in countries in companies to establish relationships in China first. Southeast Asia and Eastern Europe as well as Africa and the Middle East. Source: Booz & Company analysis

10 Booz & Company Lingong Construction Machinery access to the automotive market in be most likely to emerge when com- (SDLG) in 2007 to add value and basic India. GM provided manufactur- pany executives recognize that there is brands to its portfolio and to expand ing facilities, distribution networks, latent demand in developed countries its presence in China; it subsequently advanced technology, and its world- for “good enough” products that they developed plans to expand into other renowned brand; SAIC provided low- have already launched successfully in emerging markets as well. Volvo used cost engineering expertise. In 2012, emerging markets. (See Exhibit 10.) its existing supply base, manufacturing the joint venture produced the first facilities, and distribution networks Indian launch of a Chinese-designed Finnish companies with international to boost SDLG’s expected export car, the GM-branded Chevrolet Sail. brand recognition and marketing and volumes by 156 percent by 2015, And 2013 saw the launch of the service expertise can act as end-to- compared with 2011 volumes. The Chevrolet Enjoy, a rebranded version end facilitators to tap latent-demand availability of new excavators based of the popular Wuling Minivan that opportunities. They can help Chinese on Volvo technology drove SDLG’s sells under the SAIC brand in China. comp anies establish relationships and Chinese sales volume up 513 percent influence key stakeholders in devel- from 2008 through 2011. Latent Demand oped markets, and they can provide Finnish and Chinese companies the training and support that Chinese The Chinese and U.S. automakers can join forces to develop low-cost, companies will need in order to deliver SAIC and GM leveraged the partner- midmarket products for developed critical after-sales services. Finnish ship they developed in China to gain economies. These opportunities may companies can also leverage their international operations experience to help their Chinese counterparts under- Exhibit 10 stand underexplored opportunities in The “Latent Demand” Strategy developed economies as well as build critical “go to market” skills.

Chinese companies can leverage their low-cost engineering and manufacturing capabilities to bring low-cost, high-quality products and services to “Leapfrog” “Good Enough” developed markets. Large Chinese com-

Emerging panies are likely to have the scale to keep manufacturing costs low and thus deliver at the required price points.

Geographical proximity is important, Market and therefore countries in Europe as well as Japan and Korea are likely to represent the most attractive opportunities. But it may often be wise for Finnish “Breakthrough” “Latent Demand” and Chinese companies to establish

Developed relationships in emerging markets first, potentially including joint ventures in China, before tackling the greater challenges posed by developed markets.

Sunrise Mature As with “good enough” opportunities, Industry success does not hinge on government – This strategy describes the activation of latent demand for low-end or midmarket products for involvement. But the Finnish govern- developed markets. ment could play a role in helping – Exploring latent demand in developed markets may call for Finnish and Chinese companies to partners navigate highly regulated first establish relationships in other emerging markets—perhaps even in China. In mature markets, direct cooperation may be more difficult and will demand careful nurturing by the Finnish partner. European economies, and the Chinese government could provide financial Source: Booz & Company analysis support to Chinese companies to help

Booz & Company 11 them keep costs down by increasing acquire technology, build capabilities, Chinese government should have a role efficiency or scale. and gain access to developed markets. in providing extensive incentives and (See Exhibit 11.) other support to Chinese companies Mahindra & Mahindra’s entry into (mainly state-owned enterprises) that the U.S. agricultural equipment Emerging industries where Finnish seek to penetrate developed markets market is a good example of a success- companies already have some advan- with cutting-edge sunrise products. The ful latent-demand play. Founded as a tages, such as clean tech and electric Finnish government can help partner- steelmaker in 1945, Mahindra part- vehicles, offer the most promising ships that are focused on clean tech to nered with International Harvester breakthrough opportunities. Market navigate thorny European environmen- in the 1960s to manufacture a line familiarity is critical, so proximate tal regulations. of sturdy, affordable 35-horsepower countries such as some European and tractors for the Indian market under Baltic countries as well as Russia are It’s important to note that none of the the Mahindra name. In the 1990s, the the most promising targets. breakthrough-opportunity partner- company realized there was an oppor- ships we identified have produced a tunity to provide tractors to hobby Chinese SMEs may be suitable partners financial impact at this early date— farmers, landscapers, and build- given that scale may not be as impor- they were all formed fairly recently— ing contractors in the United States tant a factor as ambition, creativity, but many do show promise. Also who couldn’t afford the expensive and the ability to provide capital to worth noting is that breakthrough machines offered by dominant players support technology development. The opportunities often emerge from plays such as Deere & Co. that catered to industrial-scale agribusiness. Exhibit 11 Under the Mahindra USA name, The “Breakthrough” Strategy Mahindra built strong relationships with dealerships and offered highly personalized service to consumers. The company delivered tractors within 48 hours of receiving an order, liberating dealerships from the burden of maintaining expensive “Leapfrog” “Good Enough”

inventories. As many as 15 percent of Emerging consumers who bought a Mahindra tractor received a phone call from the company’s president asking if they were satisfied with their machine. Mahindra also offered special incen- Market tives such as horticultural scholar- ships to neglected market segments such as female hobby farmers. The high-touch strategy enabled “Breakthrough” “Latent Demand”

Mahindra USA to achieve an average Developed sales growth of 40 percent from 1999 through 2006.

Breakthrough Sunrise Mature Finnish companies could partner with Chinese companies to develop Industry superior technologies for developed – This strategy involves creating truly cutting-edge products for developed markets (by combining markets, particularly when domestic high-end and low-cost capabilities, for example). demand is not sufficient to justify – Cooperation in sunrise industries is more likely to occur first in developed markets and then be capital investments. Chinese com- transferred to emerging markets. panies would provide financing in exchange for the opportunity to Source: Booz & Company analysis

12 Booz & Company in other quadrants, as illustrated in Similarly, Hanergy, China’s larg- Wanxiang for its 2012 entry into the Wanxiang example cited below. est privately held energy company, the sunrise space via its acquisition acquired Sweden’s Solibro, the of A123 Systems, a leading U.S. LDK Solar, a China-based solar- world’s leading producer of CIGS battery and energy storage company. energy company, acquired a 70 thin-film solar-cell materials.6 The The purchase gave Wanxiang access percent stake in U.S.-based Solar 2012 deal gives Hanergy access to to cutting-edge battery technology Power, Inc. (SPI) in 2001 to tap into Solibro’s thin-film technology and that it will use to commercialize the U.S. solar market. LDK provided European distribution network. the electric vehicles it is developing. financial resources to accelerate busi- A123 also has strong supply rela- ness development, leveraging SPI’s Wanxiang, the Chinese auto parts tionships with leading automakers strong relationships in the Americas. manufacturer, has made successive in the United States and across the The deal couples SPI’s downstream acquisitions in the United States to globe that Wanxiang hopes to lever- design expertise with LDK’s world- capture “latent demand” opportuni- age to advance its global electric- class upstream capabilities (the com- ties and expand its U.S. presence. vehicle ambitions. pany is a leading producer of solar This includes the purchases of U.S. wafers). LDK will open joint manu- auto suppliers Zeller, LT Company, Leapfrog facturing operations in the United Universal Automotive Industries, Chinese and Finnish companies can States to enhance SPI’s competitive and Rockford Powertrain in the leverage latecomer advantages to advantage in North America. early 2000s. The strategy positioned bring sunrise technologies to emerging markets. The opportunity usually arises when a company is able to Exhibit 12 launch a new product or technology in The “Leapfrog” Strategy an emerging market without having to replace or overcome an installed base for an existing product or technology. (See Exhibit 12.)

The Finnish company will typically bring proven technology to the “Leapfrog” “Good Enough” partnership, dramatically reducing

Emerging the need for R&D investment. The Chinese company typically provides market access. Partners should pri- oritize markets where one participant has previous experience, but Chinese

Market companies can sometimes facilitate entry into emerging markets where they have little presence, given their extensive experience in emerging mar- “Breakthrough” “Latent Demand” kets around the globe. Chinese com-

Developed panies can also contribute low-cost production capabilities and capital.

Partners may often start by targeting the Chinese market itself, particularly Sunrise Mature when they can tap the country’s huge Industry domestic demand to ramp up sales volume without having to overcome – This strategy involves developing new products or technologies for emerging markets that lack installed bases of those products or technologies. an installed base. Targeting China first makes most sense when the – There may be opportunities for sunrise industries to transfer to developed markets when legacy costs are not significant—in electric vehicles, for example. sunrise industry is one that China considers strategic, such as electric Source: Booz & Company analysis vehicles or clean tech.

Booz & Company 13 Breakthrough plays may also open traditional vehicles, the Chinese world-class capabilities and technol- “leapfrog” opportunities. This can government has focused on building ogy are the most attractive partners, happen when companies adapt advantage in electrified vehicles in and these types of companies are sunrise technologies for emerging recent years. As part of the effort, it most likely to hail from industries markets that they first successfully provides robust incentives to encour- that have strong or semistrong launched in the West. Indeed, the age development of vehicle electrifi- domestic clusters. Finnish indus- Chinese government may provide cation in China. The BYD-Daimler tries with strong clusters include incentives to local companies that partnership enables Daimler to bring forestry, base metals, energy, and target developed as well as emerging its technology to China, coupling it telecommunications. Companies in markets with cutting-edge sunrise with BYD’s technology and low-cost these industries are often regional or technologies, knowing that they will capabilities, and supported by gov- international players and thus have later be deployed at home. ernment incentives. The partnership experience operating in a variety is scheduled to launch its first vehicle, of markets. They also tend to have Similarly, the Finnish government may the Denza, in 2013. strong R&D and sales and market- provide incentives to support Finnish ing capabilities. But owing to their companies that are involved in impor- Picking Partners strengths, they may have the luxury tant emerging industries, particularly Selecting the right partner is never to take a “wait and see” approach when this may advance the develop- easy, and it can be more difficult for to collaboration, demanding more ment of an industry cluster at home. companies seeking partners from than others might in return for their very different cultural, economic, contribution and taking extra care to In 2004, China’s Huawei, the world’s and political contexts. International evaluate potential partners. largest telecom-equipment maker, partnerships are more challenging partnered with Siemens, the German precisely because the partners are less Companies in industries where engineering and electronics conglom- likely to understand one another. clusters are nascent or fragile may erate, to develop 3G telecommunica- also have strong capabilities and tions businesses in emerging markets. To facilitate partner selection, we first technology to offer, and they may be Siemens provided its intellectual prop- highlight important characteristics that more eager to enter into partnerships. erty, and Huawei contributed R&D indicate the type of Finnish companies Finnish industries with develop- to design products and sales networks that may benefit from partnerships ing clusters include construction, in target markets. Huawei achieved a with the Chinese; we then do the same clean tech, and healthcare. Positive 40 percent share of the 3G market in for Chinese companies vis-à-vis Finns. signs abound in these industries, but China and a 10 percent share globally. capacity is usually underutilized. Characteristics of These companies are often proactive BYD Auto, a Chinese hybrid- and Potential Finnish Partners in seeking partnerships—particularly electric-vehicle manufacturer, along Two sets of characteristics are par- when domestic demand is too weak with its parent, BYD Group, a lead- ticularly important in determining the to support large capital investing manufacturer of lithium ion types of partnerships that make sense ments—but their value to partners batteries, partnered with Daimler, the for Finnish companies to pursue with may not extend much beyond what German auto giant, to produce elec- Chinese partners: strength of industry they can offer through their core tric vehicles in China. Recognizing cluster and company size.7 technologies. Nevertheless, they can that it will be difficult for Chinese be game changers when their technol- companies to reach parity with Strength of Industry Cluster ogy advantage is strong. foreign automakers in developing Finnish companies that can offer Company Size Large companies as well as SMEs can benefit from cooperating with International partnerships Chinese companies, but their size will affect the underlying logic and suc- are more challenging precisely cess factors for partnerships.

because the partners are less likely Large Finnish companies are most likely to seek Chinese partners in to understand one another. order to gain access to emerging

14 Booz & Company markets and get help navigating MNCs should consider for partnership The category that a company belongs them. Most have little experience will typically have already established to can determine which strategies in the developing world, and few an international presence, whether it are viable for a partnership. For have expertise creating midmarket is broad or narrow in focus. Based on example, state-owned companies products that emerging consumers combinations of these factors, Chinese may have access to more capital can afford. Large companies such as companies can be classified into four than non-state-owned companies, Wärtsilä, Metso, and Nokia may have categories that reflect their internation- but non-state-owned companies may the technology, brands, management alization profile.8 be more nimble and more accept- know-how, and international experi- able to foreign governments. For ence that Chinese companies need. • World-Stage Aspirant: Non-state- instance, transnational agents and owned enterprises with broad commissioned specialists receive Finnish SMEs often have superior international diversification. They more support from government than innovation and technical capabilities, offer an array of products in a world-stage aspirants and niche and they can be much more nimble variety of countries, and they play entrepreneurs do, but they also face than large companies, adept at a significant role in shaping global more red tape and political inter- tailoring niche propositions to new competition where cost is a critical vention. Consequently, risk-taking markets and consumer segments. competitive advantage. behavior, investment strategies, SMEs lack scale economies, however, subsidiary governance, and parent– and they may not have the capital • Transnational Agent: State-owned subsidiary relations may vary sig- to expand their operations even if enterprises with broad international nificantly between state-owned and domestic demand were sufficient to diversification. They’ve invested non-state-owned groups. Moreover, justify their investments. They are extensively abroad to foster overall state-owned enterprises may have most likely to seek partnerships to business growth and support eco- less discretionary power in interna- gain access to larger consumer seg- nomic development at home. tional circumstances, and thus trans- ments and the financing to expand, national agents and commissioned but they also need help navigating • Niche Entrepreneur: Non-state- specialists may not be at liberty to emerging markets. owned enterprises with narrow pursue certain opportunities. World- international diversification. They stage aspirants and transnational Both large companies and SMEs usually don’t receive government agents may have greater freedom to should consider taking a “real funding or have rich industrial pursue returns, but they may also options” approach to collaborat- experience, and they focus on a bear more risk. ing with Chinese companies. Large small set of products in a handful companies can minimize their risks by of markets where their particular Getting Started collaborating first and making select strengths stand out. Finnish companies that are beginning purchases later to acquire assets that to consider partnerships with Chinese they have identified as critical to their • Commissioned Specialist: State- companies should ask themselves success, and they should consider owned enterprises with narrow some basic questions to get an early structuring deals to reserve the option international diversification. They sense of the factors that will be to buy when possible. Of course, the focus on a small set of foreign critical for success. We highlight option approach will enable them to markets where they can leverage important questions in three areas cut collaborations short when they their competitive strengths and below: partner objectives, market and don’t pan out. SMEs are not likely sometimes fulfill government-man- industry maturity, and partner size to be able to purchase assets at the dated initiatives. and the role of the state. The Market outset, and thus may have no choice but to seek partnerships. But they might build a capital base over the course of a partnership that enables Finnish companies of all sizes them to purchase assets down the line. should consider “real options” Characteristics of Potential Chinese Partners approaches to collaborating with Chinese enterprises may be state- or non-state-owned, and those that Chinese companies.

Booz & Company 15 Opportunity Matrix provides a sions, maintain flexibility in setting CONCLUSION framework for considering these and up and running the business, and other questions in detail. tightly manage costs.

Partner Objectives In sunrise industries, partnerships Are potential partners primarily involving innovative companies seeking to gain market access or to that own value-adding technology Both China and Finland face chal- acquire technology? platforms and have the ability to lenges that will be difficult to solve shape emerging-industry policies are without expanding their international The objectives for entering into a best positioned to succeed. In mature reach. China must make the transi- partnership can determine which markets, partnerships need strong tion from a low-cost to a high-value markets the partnership targets. branding capabilities, established economy, and it is not likely to suc- Geographic proximity may be sales and distribution networks, and ceed in doing so within the required important when market access is the the ability to manage across product timeframe unless its companies primary objective, because compa- and consumer life cycles. pursue opportunities to improve their nies may be more familiar with and capabilities and acquire technology knowledgeable about markets that Partner Size and the Role of the State through international partnerships. are near home. Chinese companies What company size is appropriate Finnish companies often lack the are more likely to facilitate entry and what role should governments resources to commercialize innova- into emerging markets, while Finnish play? tion, in part because domestic demand companies are more likely to facili- is insufficient to justify investments, tate access to developed markets. But To avoid power imbalances, Finnish and most Finnish companies don’t Chinese companies may often have companies should usually seek have enough capabilities to succeed in links to Japan and South Korea, and Chinese partners that are of similar emerging markets where the potential Finnish companies may have ties in size. This will help ensure that no for growth is most promising. emerging markets in Eastern Europe. party has disproportionate bargain- When technology acquisition is the ing power. Chinese SMEs often make Opportunities for Sino-Finnish part- primary objective, geographic prox- good partners for this reason— nerships abound precisely because imity is less important. they are commensurate in size to Chinese and Finnish companies so most Finnish companies—and also often possess complementary capa- Market and Industry Maturity because they face intense competi- bilities. They can achieve their own What capabilities can potential part- tion from large domestic companies objectives by addressing one another’s ners contribute, and what markets and MNCs and may be particularly challenges—and in the process, they and industries should companies motivated to enter partnerships. can develop the competitive advan- target as a result? tages to secure a strong economic Governments can facilitate part- future for their countries. Finnish companies should take the nerships through policy, includ- time to identify their own strengths ing providing tax incentives and and weaknesses first, and then look shaping regulations to encourage for Chinese companies that possess cooperation with foreign compa- the resources and capabilities that nies. The Chinese government may they lack. The universe of potential be motivated to contribute capital Chinese partners will help them and other incentives to finance the determine which markets and indus- international expansion of Chinese tries to target. businesses. The Finnish government may be able to help partnerships Success in developed markets is more gain a footing in developed mar- likely when at least one partner has kets, particularly in Europe where a strong brand, a stable business it has strong relationships with model, and a reputation for good other governments. corporate governance. Success in developing markets typically depends on the ability to make quick deci-

16 Booz & Company Endnotes Acknowledgments

1 See David Beim’s 2011 working paper “The Future of Chinese Booz & Company and Tekes (the Finnish Funding Agency for Growth” for more details about these periods in China’s economic Technology and Innovation) are pleased to present this study on development. partnership opportunities between Finnish and Chinese companies in overseas markets. 2 John Jullens discusses five factors that could mitigate the effects of rising costs in China in his 2013 strategy+business More than 100 senior executives from leading companies in article “Is China the World’s Next Rust Belt?” Also see the 2012 China and Finland participated in our online survey. In addition, strategy+business article “The New Chinese Economy” by Sarah we conducted numerous in-depth follow-up interviews with Butler, Edward Tse, and John Jullens for a perspective on how senior executives from many of these companies, including China might evolve and what MNCs can do to position themselves Huawei, Haier, Kemira, Lenovo, LDK, Metso, Nokia, Shanghai for success in the country. Electric, Wärtsilä, and ZTE, to shed further light on the topic. Their 3 S.L. Sun, M.W. Peng, B. Ren, and D. Yan. “A Comparative Owner- responses and insights added tremendous value and depth to ship Advantage Framework for Cross-Border M&As: The Rise of Chi- the study, and we would like to thank all of those who participated nese and Indian MNCs,” Journal of World Business, 2012,47: 4-16. for giving us their valuable time. 4 See Winning in Emerging Markets by Tarun Khanna and Krishna We would also like to acknowledge and thank the following Palepu, published in 2010 by Harvard Business School Press, for international business and corporate strategy scholars who details about the ways that “institutional voids” create obstacles for participated in in-depth interviews to provide further insights: companies trying to operate in emerging markets. Professor Jay Barney (University of Utah) 5 For more details on mid-market innovators, see “China’s Mid- Professor Jean-Paul Larcon (HEC Paris) Market: Where “Good Enough” Just Isn’t” by John Jullens and Professor Mike Peng (University of Texas at Dallas) “China’s Mid-Market Innovators” by Edward Tse, John Jullens, and Professor Alan Rugman (Henley Business School, Bill Russo, both published in strategy+business. University of Reading) 6 CIGS, which stands for copper indium gallium selenide, is a direct Professor George Yip (China Europe International bandgap semiconductor that is used in the manufacture of solar Business School) cells. Note that Hanergy bought Solibro from the German company Q-Cells, which owned it since 2006. Finally, this study could not have been completed without our colleagues Victoria Jiao (Associate, Shanghai) and Yiren Yin 7 Instrumental to our analysis on Finnish industry clusters was the (Senior Consultant, Beijing), who provided dedicated and able 1996 report Advantage Finland: The Future of Finnish Industries by support throughout the process. Hannu Hernesniemi, Markku Lammi, and Pekka Ylä-Anttila. 8 Our analysis in this section draws on the article “International Ex- pansion of Emerging Market Enterprises: A Springboard Perspec- tive” by Yadong Luo and Rosalie L. Tung, which was published in the Journal of International Business Studies in 2007.

About the Authors

John Jullens is a partner at Hannu Suonio is a partner at Tony Tang is a senior associate at Booz & Company with more than Booz & Company with more than 17 years Booz & Company with more than 10 years 20 years of management consulting and of management consulting and invest- of management consulting experience in industry experience in North America, ment banking experience in Finland, the the United States and China. He focuses Europe, and Asia. He currently co-leads United Kingdom, and the United States. on topics such as Sino-foreign cross- the firm’s engineered products and He currently co-leads the firm’s Helsinki border cooperation and investments, services practice in Greater China. He has office and further development of the joint ventures and M&A, postmerger advised numerous multinational and local capabilities-driven-strategy concept. He integration, and organizational alignment Chinese companies on a wide range of has advised numerous leading Finnish and has particular functional expertise in strategic challenges, including market companies on a wide range of strategic consumer goods and healthcare. He has entry into China as well as international challenges, including international acquisi- copublished articles such as “Sustainable expansion out of China and how to tions and expansion in emerging markets. Development Model for Fast-Growing achieve top-line growth through organic or He resides in Helsinki with his wife and Chinese Cities” and “Organizational inorganic means. He currently resides in three children. Alignment for Fast-Growing Chinese Shanghai with his wife and daughter. Businesses.” He resides in Shanghai. He blogs at www.johnjullens.com.

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