Tesla’s Position in the Chinese Market

Source:https://www.energyservicesexperts.com/2018/12/07/tesla-set-to-start-production-at-chin ​ a-gigafactory-in-h2-2019/

Examination Group: S1926004339

Group Members: Peter Skjoldager Delfing Nielsen (57896) Tobias Thuesen Pedersen (60535)

Supervisor: Ole Bruun

Character Count: 97.365

Tesla’s Position in the Chinese Market

Abstract

This project evaluates Tesla’s chances in the Chinese market in order to give a better understanding of foreign firms chances in general. It looks at how barriers to entry in the Chinese EV market is very high, as the Chinese government funnels money into domestic firms and award them contracts. However, Tesla have a significant advantage through proprietary technology. In addition, Tesla have low dependency on its suppliers as they work as original equipment manufacturer. This lower the supplier's bargaining power and ability to squeeze profit out. Beyond the suppliers and the barriers of entry, there is an emphasis on the substitute products and the rivals that present themselves on the Chinese market for Tesla. Here it looks onward, to assess the competitiveness between these firms and goes to show the strength of Tesla and their possible strengthening of their position. The bargaining power of the buyers on the contrary, goes to show Tesla having some effects on the buyers on the Chinese market, as they may choose them due to the high quality of their products, however the buyers present themselves as a strong unit with multiple options to cause Tesla to reconsider their position in the end. At the end a discussion regarding shortcoming of the analysis and other concerns addresses the trade war, which can have devastating effects on Tesla, and how the Chinese is well know to steal intellectual property from foreign firms.

1 Tesla’s Position in the Chinese Market

Table of Content

Abstract 1

Table of Content 2

Chapter 1 - Introduction 4 1.1 - Problem Area 4

1.2 - Problem Formulation 5

1.3 - Research Question 5

1.4 - Working Question 5

Chapter 2 - Methodology 7 2.1 - Philosophy 7

2.2 - Methods 8

2.3 - Data 10

2.4 - Structure 11

2.5 - Limitations 13

2.6 - Literature Review 15

Chapter 3 - Theoretical Framework 17 3.1 - Choice of Theory 17

3.2 - Structural Analysis of Industries 18

Chapter 4 - Analysis 26 4.1 - Barriers to Entry 26

4.1.1 - Economies of Scale 26

4.1.2 - Product Differentiation 28

4.1.3 - Capital Requirements 28

2 Tesla’s Position in the Chinese Market

4.1.4 - Switching Costs 29

4.1.5 - Access to Distribution Channels 29

4.1.6 - Cost Disadvantages Independent of Scale 30

4.1.7 - Government Policy 30

4.1.8 - Sub-conclusion 32

4.2 - Bargaining Power of Suppliers 32

4.2.1 Sub-conclusion 33

4.3 - Substitutes Products and Rivals 34

4.3.1 Sub-conclusion 41

4.4 - Bargaining Power of Buyers 42

4.4.1 Sub-conclusion 44

Chapter 5 - Discussion 45 ​

Conclusion 47 ​

References 49

3 Tesla’s Position in the Chinese Market

Chapter 1 - Introduction

1.1 - Problem Area

One of the most consequential issues of the 21st century is the trajectory of the chinese economy. During the last decade the chinese economy has experienced a massive growth. The gross domestic product went from USD 1.211 trillion in 2000 to USD 12.238 trillion in 2017, with the annual growth skyrocketing in 2007 with 14.2% (The World Bank A&B 2018). One of the key concerns regarding the Chinese economy is its excessive use of state capitalism. The use of state capitalism results in China acting poorly in the global trading system. The Chinese government are funneling money into state owned firms and actively ensuring domestic firms have an advantage, thus putting foreign firms at a significantly disadvantage in the Chinese market.

This belief that China is manipulating the market is not just a Western belief, countries in Asia agree. Chinese growth in the first quarter of 2019 may fall to 6%, which will be the lowest in three decades. Despite the increasing demand for reform and limiting the state’s power in the market by governments and businesses around the world, Xi Jinping, the Chinese President is reluctant to do so. On the contrary, since 2013 the Chinese government has tightened its grip (The Economist A 2019). In the United States (US), it is not only President Trump who is unhappy and frustrated about China’s economy. There is bipartisan support for reform and the business establishment agrees.

“China must protect the rights of foreign firms. Within China that means giving foreigners full ​ control of subsidiaries, including over their technological secrets. Beyond its borders it means respecting intellectual property, which will be in China’s interest as its firms grow more sophisticated” (ibid) ​

4 Tesla’s Position in the Chinese Market

Issues like these are reasons why a lot of foreign firms are reluctant to establish a factory in China, especially highly technological firms. Tesla’s decision to open a factory in China, does raise some concerns. However, the Chinese market has huge potential, as it has grown into the largest market, almost four times the size of the US. In 2018 the sale of electric vehicles in China was 1.26 million, compared to 361.307 in the US (Statista A 2019), offering a significant potential as the Chinese market consisted of 56% of all electric vehicle sales globally in 2018 (EV-Volumes A 2019). The question then becomes if Tesla wants to enter the Chinese market, how would it compete as a foreign firm in China against already established firms and what entry barriers is there.

1.2 - Problem Formulation

The last few years China has become a massive market for electric vehicles, not only in public transportation, but also electric cars. It is a growing market and Tesla’s announcement that it is opening a factory in Shanghai, in order to have easier access to the market, raises some questions. In short, how many restrictions and regulations does Tesla have to obey, what kind of barriers are there and who will they compete against? These questions will help us understand if Tesla will be able to succeed in the Chinese market. More importantly it will give us an overall understanding of what foreign firms needs to be aware of when entering the Chinese market and their competing chances.

1.3 - Research Question

To what extent is it possible for Tesla to successfully enter the Chinese market and compete with Chinese firms?

1.4 - Working Question

Does Tesla have the ability to break the entry barriers of the Chinese market?

How much bargaining power does suppliers have over Tesla as they open a factory in China?

5 Tesla’s Position in the Chinese Market

Do the substitute products and rivals in China present a significant threat to Tesla, as they seek to establish a firmer grip on the EV market in China?

How much bargaining power does buyers have over Tesla in the Chinese market?

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Chapter 2 - Methodology

In this chapter, the methodological choices will be outlined and explained to ensure a deeper understanding of the research, and how we are analysing and the criteria set throughout the project. Thus, giving the reader a accurate account of how the research was performed and the purpose of the selected methodology. In addition, there will be reflections on alternative approaches, that could have been used, in order to critically assess our methodology in relation to other types. This will ensure a more valid and accurate research, and a better understanding of the chinese market, in order to evaluate Tesla’s chance of success.

2.1 - Philosophy

The philosophical standpoint of the authors of this research paper, is that of a critical realist viewpoint. The concept or philosophy of critical realism is not so much a specific philosophical position, but rather a gathering of positions that include ontology, causation, structure, persons and forms of explanation. The philosopher who “invented” or came upon the construction of critical realism, Roy Bhaskar, was the initial person to begin the movement of critical realism (Bhaskar, 1975). It is a position of philosophical reflexive stance, which is concerned with entertaining the readers with informed explanations of the social sciences. As for Roy Bhaskar, we receive the initial understanding of the authors position, philosophically. The Critical Realism “theory” has the objective of conducting investigations based on real and internal mechanisms, which will produce certain specific outcomes (Bhaskar, 1975). It is believed in Critical Realism, that causal relationships are insufficient nor necessary to be established, and as such, what critical realists say, is that science should be treated as an ongoing process, where we adapt and improve on the concepts used to understand the studies (Bhaskar, 1975). In addition to this, the realists, as well as Bhaskar, argue that there is an existence of the necessity for ontology. Critical Realism general pursuit is to understand and explain the phenomena found and experienced in the world, and not just the beliefs and experiences in the world itself. As such, Bhaskar argued, that to understand reality, there is a necessity needed in a structure for openness, differences and

7 Tesla’s Position in the Chinese Market stratification (Bhaskar, 1975). Therefore, we can say that the researchers viewpoint, during this particular research paper, is to go in depth with the given data and/or information given and gathered, with a critical view, to initially uncover and understand the meaning of the given documents, and not simply aim to understand the beliefs and understandings of the people whom have constructed the said documents and data in question.

2.2 - Methods

We have chosen to use a qualitative method to evaluate the selected segment of the Chinese market, in relation to Tesla’s decision to open a factory in China. The qualitative method chosen is document analysis as it will help us identify, analyse and evaluate key aspects in relation to concepts outlined in Michael E. Porter's framework for analysing competitiveness within a given industry, in the primary data gathered. This will be used to support our causality model, which is built using the theoretical framework. Causality will be used as it shows a snapshot of how the real world works. This will help us infer on the effects of the conditions in the Chinese, to give a more accurate prediction (Goertz and Mahoney 2012: 42). It has been chosen as it will provide us with the necessary information in order to assess and evaluate Tesla’s position in the Chinese market, but also add to the overall evaluation of foreign firms chances. In addition, statistics will be utilized during the analysis to illustrate certain aspects of the industry and its key components. This method has been selected as there are limited information and case-studies investigating equivalent aspects. This will ensure if some data is unavailable in certain areas, we can utilize the theory to argue how certain conditions could affect Tesla’s factory and their entry into the Chinese market.

Case Study The research is a idiographic case study as it focuses to explain and infer Tesla’s ability to compete within the Chinese market. However, it can also be used in order to say something about the Chinese market competitiveness in relations to foreign firms. The case will be theory guided through a system of mechanisms supported by a well known theory in order to accurately

8 Tesla’s Position in the Chinese Market assess and infer on Tesla’s chances of success (Levy 2008: 4). This will provide us with a in-depth understanding of the challenges Tesla will face and a more accurate evaluate.

Causality Model The causality model used in this research is derived from Michael E. Porter’s framework for analyzing competitiveness within an industry, as it highlights the most vital aspects in relations to successes within the given industry. This allows us to interpret the world according to the model and exclude minor aspects, as everything will have a minimal impact on the chances of success. We have chosen to combine two of the forces, as they are very interconnected. Using causality will allow us to predict on aspects, where there are not enough data, or lacking in it, to give a clear representation of the situation. Thus, the research can still give us an overall evaluation regardless. The model works as an equation, the higher all four aspects are, the higher a chance of success, as the relationship between them is symmetric. Meaning, as X increases, so is the likelihood of Y. It is a complex system consistent of multiple aspects. It is a series of connected aspects that all play a role in the final outcome (Beach and Pedersen 2016: 26, 35). In the research we have chosen to eliminate indirect factors as their impact is unpredictable and minor, in addition to factors that only have a minor impact on the chances of success. Thus, the model that will be used consists of four forces. As mentioned, these are connected to the theoretical framework chosen, which will be explained in details later in the following chapter. Since the model is built on a theory with a large N, it ensures that our model is accurate and can be used to infer. However, it is important to note that this is in general, there can be outliers that does not follow the theory (Goertz and Mahoney 2012: 47).

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2.3 - Data

The data used in this research ranges from secondary data such as peer-reviewed articles and books to primary data such as government policy documents and statistics. In addition, statements from Tesla and academics. The research will start with secondary data, in order to identify certain key areas and discussions relevant to our analysis. This has been chosen as it provides a quick and in depth overview of the different key aspects, in relation to our theory. Thus, ensuring a more thorough selecting of aspects and a better outcome of the analysis.

The secondary data will be data such as peer-reviewed articles and books written on the Chinese market in general and more specific to our case. However, non-peer-reviewed sources such as articles and statements will be used as well. This will help us select the most relevant primary data for the analysis. In order to avoid any biases when selecting key aspects from the secondary data, multiple articles will be read before the selection. This will ensure that a particular author’s bias is not present in the research carried out in this project. In addition, articles from the Economist and other such sources will be used to highlight the current issues with China’s

10 Tesla’s Position in the Chinese Market economy and how it is relevant to look at Tesla’s case to build a factory in China, in order to supply the Chinese market with their cars, to give an understanding of the broader issues of foreign firms in China.

The primary data will be government policy documents and financial statements from individual firms, as they will provide an insight into what regulations, restrictions and obstacles Tesla will face in the Chinese market. Thus highlighting the difference between foreign companies and a Chinese. Statistics will also be utilized as it will give an illustrative aspect to the analysis, in order for the reader to understand the magnitude and implications of key aspects (e.g. growth of the Chinese auto and electric vehicle market, Tesla’s and its competitor’s growth, and Tesla’s current export to China in relation to previous years). The data which will be selected will have to meet a certain standard to ensure validity to our research. The first criteria and the most important one, the data needs to come from an established and reliable source. However, data from the Chinese government can be used with caution, as an extra critical mindset will be used to ensure a reliable analysis.

The research would have benefited from an interview with Tesla, as it would have provided valuable information. However, this was not possible.

2.4 - Structure

The structure of this project is chosen to give the reader a better overview of the project and ensure a more in-depth understanding of the research. We have made it easy to find the different aspects of the analysis as well as methodology.

Chapter 1 will introduce the problem area, problem formulation, research questions and working questions. The chapter will outline why this specific topic is relevant and what its importance is. Ensuring that the reader understands the relevance and importance of the problem is crucial in order to understand our analysis and choice of theory. This is why the introduction gives an account of the growth of China and its economy, more specifically the auto industry, and Tesla’s

11 Tesla’s Position in the Chinese Market export to China and its growth. In addition, it formulates the problem short and concret to ensure a clear and explicit understand of the research.

Chapter 2 will outline the methodology used to carry out the research. It will be outlined in subsections to ensure a easy overview. In addition, each choice made during the research will be outlined as well as some alternative approaches. This will show that we have knowledge of the different approaches and have critically selected ours.

Chapter 3 will introduce and outline the theory and the key concepts from it, as it is important to have an in-depth understanding of it before reading the analysis. It will also highlight why this theory have been chosen, compared to other theories within the same field, and introduce the author of the theory selected.

Chapter 4 is the analysis. It consists of subsections that have been identified from the theory. This has been chosen in order to structure the research and allow for a better overview of the different areas included in the analysis. At the end of each section there will be a sub-conclusion to sum up the analysis from the current section. This will provide the reader with an easy access to a summary of each section, instead of reading an entire section.

Chapter 5 will discuss the findings in the analysis and to what extend Tesla’s decision to open a factory in China is a good choice. It will use the different aspects of the analysis in order to highlight shortcomings within the analysis and provide a theoretical discussion to them. This will provide the reader with a theoretical understanding of the area, thus still contributing to the conclusion and highlight aspects that was not in the analysis.

Chapter 6 will conclude the research. It will sum up all the findings in the analysis and the discussion in order to give a valid and accurate assessment of Tesla’s decision to open a factory in China and their chances of success. In addition, the findings will be used to evaluate foreign firms chances in general in the Chinese market.

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At the end of the project, there will be a list of all the sources used. It will be grouped in the different kind of sources - articles, books, PDFs, and websites - and alphabetical order. This will provide a better overview of the different sources.

2.5 - Limitations

In the situation of our research paper, revolving around Tesla and their interest as well as their operation to construct a factory in Shanghai, more specifically their Free Trade Zone, there are several limitations, which has shaped our project. When speaking of limitations, it pertains to any sort of restriction that has limited or constrained the project in any way. In this particular case there exist three significant project constraints. These three are schedule, scope and cost. The first mentioned of the limitations, the scope, involves our goals and tasks which define the boundaries of our research. More particularly, the research as well as the working questions have forced us to be within certain boundaries, researching specific areas within China, including their governmental and local policies, mainly focusing on their trade policies. In addition to this, we are focused on Tesla, where we are mainly aimed at their Chinese section, however trying to look at their policies, investments, statistics, competition and their marketing strategies. As a result, this has limited our research in the way that we do not research or attempt to understand the entire vehicle industry, nor are we attempting to pry open and investigate the entirety of the Chinese governmental system or Teslas entire operation. We are simply aimed at a fraction of what operates within these boundaries, mainly Tesla and their specific operation in Shanghai, coupled with the Chinese governmental policies revolving around trade. As a result we have chosen to exclude certain analytical tools, such as the SWOT analysis, which would of given us the opportunity to understand the strength, weaknesses, opportunities and threats of all the companies involved. This has in the end resulted in the narrowing of the research, to specific parts of Tesla, the Shanghai Free Trade Zone and the Chinese government. The second limitation found in this research pertains to the schedule. Scheduling has been a significant factor for the researchers, as the research itself has been granted with a four month time limit before it had to be delivered. This has automatically constrained the research, as within such a timeframe,

13 Tesla’s Position in the Chinese Market the researchers can only do and research so much in a given timeframe. Additionally, the schedule has constrained the time given, as it spans from a period where it intertwines itself with both examinations and lectures required to further understand the research itself, or simply it has importance for the researchers due to their educational limits and aspirations. As a result of this, the time constraints that has shown itself to us, has limited us due to us having to attend lectures granting us new tools for our research, not to mention the limit to how much a single individual can gather of data and process within the specific time period. Of course, this does not go to mention, that the researchers have to manage the time given in a way that allows them to not only fulfill the requirements of the research but to at the least grant a satisfactory research paper with knowledge of a new subject. As such, we as researchers may say that, the time allowed to construct and process such a significant research has been limited by time and the events within that time, to the point given, that the time left within these four months has been shortened. However, if we had the free reigns and the tools before the beginning of said research, the project may have been given more time in the sense that less lectures or examinations and such would have constricted the time given. Of course, us, the researchers have to manage the time given to us, which is done through project management, by setting goals, deadlines and using the time together, working on several days to create a satisfactory result. The final limitation found is the cost, which can also refer to resources. In the case of this research paper, this is the amount of research and data that can be processed within the time limit, as well as the limit of resources available, may it be on the world wide web, in a library, articles or even news papers or interviews. All these aforementioned data points have a limit of the amount that can be found within a specific field. As such, this research paper has been limited as to what we have been able to conjure up from the given available data, in the attempt to develop and complete the paper. Additionally, we as researchers have a limited amount of assets, financially speaking, as such we have been limited, unable to go to China to gather data first hand, from their governmental policies or even go directly to Tesla in United States or China to conduct research and/or interviews. As such the culminated limitations goes to show that both the limited time as well as the resources to spend in such time, has resulted in us as a researcher, have to focus on certain areas within the paper.

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2.6 - Literature Review

There are plenty of research of the Chinese EV industry and policies surrounding it. However, when it comes to Tesla, there are very limited information. Thus, most literature will be regarding the industry environment of the Chinese EV industry and some on Tesla.

Hao (et al. 2014) have researched the policies regarding subsidies for the consumer and how this will affect the future sale of EVs in China. The Chinese government have significantly increased its subsidies from 2005-2012 (ibid: 722-4). They have increased the subsidies and the scope of them significantly. However, they are currently trying to scale them back as the industry is booming and trying to phase them out entirely (ibid: 724). In addition, all projects have been awarded to Chinese EV manufacturers. In addition, there have been an increase in government control on the issuing of license plates, which is needed to drive. Some cities are auctioning them of, others are awarding them to random individuals, just like a lottery. This does present a dilemma for producers as it makes it harder to obtain a license plate and being able to drive a new vehicle (Hao et al. 2011: 1017-9).

On another note, there are some research showing that exporting from Europe, is a reliable practice as China is becoming more political and economical stable. In addition, more Chinese firms have started to invest in Europe as well (Lin and Liu 2018). This includes a more competitive price from Europe, in comparison to the US. Furthermore, China have an increased preference for compact EV SUVs and relatively cheap high end cars, which are usually not produced by Chinese firms (ibid: 8).

When we are talking about the rapidly development of the EV industry, one of the vital components are the original equipment manufacturer, as they are the backbone of the industry (Rong et al 2017: 234). As a result, the Chinese government have encouraged joint ventures between domestic and foreign firms to increase the development of R&D in domestic firms.

15 Tesla’s Position in the Chinese Market

However, policies surrounding these joint ventures have been rather unfavorable for foreign firms (ibid: 238).

In terms of Tesla, when we are talking R&D and joint ventures, they are one of the frontier. They are considered one of the backbones, as they are considered a original equipment manufacture and have had multiple joint venture with other firms. However, none of them Chinese as a result of unfavorable terms (Edward et al. 2015). Tesla is a firm that have heavily invested in R&D and export some of their in-house produced parts to multiple other firms around the globe. This includes joint ventures with well known car manufacturers globally (ibid and Cheong 2016: 1-3).

China is already Tesla’s number two sales destination, even though there was a 15% import tax on their cars. The opening of the new factory in Shanghai, does produce an opportunity for Tesla to avoid the new heavy 25% import tariff and any further complications, as a result of the Trump-China tariff war (Industry Newswatch 2018).

Jiang and Lu (2018) suggest that Tesla is not necessarily a competitor to Chinese EV firms as their cars advertise to different consumer groups. In addition, they do not believe Tesla wants to dominate the EV industry as such, but wanna share in its potential (ibid: 494-5).

16 Tesla’s Position in the Chinese Market

Chapter 3 - Theoretical Framework

Evaluating a potential scenario, such as Tesla’s potential position in the Chinese market, requires a solid theory that can guide and hypothesize if data is unavailable. This is one of the reasons we have chosen to utilize Michael E. Porter’s theory on structural analysis of industries. It will provide us with the necessary concepts to identify and evaluate key factors in a hypothetical scenario and an in-depth analysis of Tesla’s chances in the Chinese market. In deciding what theory to use, an important aspect was the hypothetical part and the factory is not build. This required us to utilize a theory that would analyze certain aspects of the market. A theory such as SWOT, assumes that the firm is already present, evaluates its current position, and does not take into account government policies and entry barriers. It is a simple evaluation of the company. A theory that could have been utilized is PESTEL (political, economic, social, legal, environmental, technological). Both looks at the competitive standing of a company in the market. However, in the end, we decided to utilize Porter’s five forces as we believe it will highlight the different key aspects in our case.

3.1 - Choice of Theory

The theory used in this research is initially from 1980. However, it has been developed and improved since then. The core concepts have not been altered since. In a article in the Harvard Business Review from 2008, Porter uses the exact same framework to explain how they can help shape strategies to successfully compete within an industry (Porter 2008). The core concepts (the five forces) have not changed, despite being developed in 1980. In addition, his framework has been considered to be one of the 20th century most influential works.

Michael E. Porter Porter is an American known for his theories on economy and business strategy. He attended Princeton for his undergrad in mechanical engineering, Harvard Business School for his graduate in Business Administration and a PhD in Business Economics. He graduated top of his class

17 Tesla’s Position in the Chinese Market every time. Already in college he started working with his competitive forces. He have published 18 books including numerous articles. In addition, he is one of the founders of Monitor Deloitte in 1983. It is a consulting firm that specializes in providing corporate and business unit strategy, demand analytics, organization and leadership, economic development and security, marketing, pricing and profitability to governments and businesses.

He has published a total of 24 books and articles. Most of these works are research within competitiveness strategy, however, he have also published research within US political competitiveness, domestic health care, and global health care. His stance is very liberal as his later works shows an clear notion that businesses need to create societal value, and not only profit (Denning 2012).

3.2 - Structural Analysis of Industries

In this section the theory will be explained in a structured way, introducing and explaining the concepts individually, to ensure an in-depth understanding of the overall theory.

Barriers to Entry There are six crucial sources when talking about barriers to entry. Each describes a specific aspect that plays a major role in determining whether a business will be profitable in a given market.

The first is economies of scale and refers to the unit cost of production in terms of cost disadvantages or advantages. In simple terms, it is the “unit cost of a product as the absolute ​ volume per period increases” (Porter 1980: 7). Smaller companies that only focus on one market ​ will usually be at a disadvantage compared to firms that have joint costs. An example of this is air passengers services: A plane can only accommodate a limited amount of people, and the remaining space can be used for a different purpose, freighting. This would produce a cost advantage as the expensive cost of flying is shared among the two products. There are more than one way to achieve a cost advantage such as shared operations or functions, thus producing a

18 Tesla’s Position in the Chinese Market product that can be used for multiple purposes (e.g. small electric engines for fans, cooling systems). This is also known as a multibusiness firm as it produces one product with multiple usages. The last aspect is the intangible assets, meaning the sharing of brand names or know-how (ibid: 8-9). One or all of the above mentioned methods can be used to create economies of scale and produce a cost advantage in a market.

The second is product differentiation and refers to the advertising, customer service, and product differences. This is connected to brand identity and customer loyalty, and results in entrants needing to spend heavily in order to overcome existing loyalties to rival brands. The process of building customer loyalty takes time and a huge amount of capital, but once it is established, it provides the firm with an advantage (ibid: 9). The importance of this aspect when entering a market, depends heavily on the nature of it.

The third is capital requirements and refers to the capital needed in order to compete. This is usually associated with unrecoverable up-front advertisements, research and development, but also the capital for production facilities, inventory and start-up losses (ibid: 9-10).

The fourth is switching cost and refers to the one time cost for the buyer, from switching from one supplier to another. This includes the training of new employees, cost of new equipment, cost and time associated with testing and qualifying a new sources (ibid: 10).

The fourth is access to distribution channels and refers to the entrant’s need to secure distribution of its products. If there already is an established distribution channel among existing firms, the entrant needs to persuade the channel to accept its products through various methods such as price breaks and cooperative advertisements. This effort will reduce the entrant’s profitability (ibid: 10).

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The fifth is cost disadvantages independent of scale and refers to the advantages not replicable by potential entrants. This includes proprietary product technology, favorable access to raw materials, favorable location, government subsidies, and experience (ibid: 11-12).

The sixth is government policy and refers to the most important entry barrier. It is policies set by the government to limit or restrict industries. In addition to having control over licensing requirements, access to raw materials, and regulations in industries (ibid:13).

Bargaining Power of Suppliers Suppliers have bargaining power over firms in the sense that they can threaten to raise prices or reduce the quality of the goods purchased. If a supplier is powerful enough, it is possible to squeeze the profitability out of an industry. The characteristics of a powerful supplier is few dominant companies and a concentrated industry, there are no substitute products, the industry is not an important customer, the product is crucial in the buyers output, products are differentiated, and they pose a threat in terms of forward integration (ibid: 27-28).

Substitutes Products Substitute products or firms that bring a new product to market, which will compete with existing products, will eventually cause the existing products to be limited with potential returns, as it places a ceiling on the prices, firms in the industry can profitably charge. Additionally, they also reduce the bonanza (sudden increase in profits) an industry can reap in boom times. When looking at what a substitute product may be, it is important to understand that it is a matter of searching for products that can perform the same function or service as the product delivered by your own company (ibid: 23) In the case of Tesla these may be other car, motor cyclist and other transportation manufacturers. More specifically other electric vehicle manufacturers. Generally, the impact shown by substitute products can be summarized through the industry’s overall elasticity of demand.

20 Tesla’s Position in the Chinese Market

Rivalry Among Existing Firms Rivals as a definition is a broad term, as it encompasses all sorts of competition. Generally the rivalry among existing competitors boil down to them utilizing tactics such as price competition. Additionally, using advertisement, not only to show their own product but at times rack down upon their competition (ibid: 17). An example of competition between two existing competitors can be the rivalry between Coca Cola and Pepsi, as they have made numerous advertisements to not only get themselves onto markets but to also show that they are better than the other (https://www.youtube.com/watch?v=DijFob8vxgI). In rivalries it does not only pertain to ​ ​ advertisement, but it also shows that rivalries in general, occur whenever a competitor or a new business on the market, experiences the pressure or finds the opportunities to improve their position or to take some sort of advantage against their competition. In addition, to companies actions, it also causes their competitors to retaliate in different types of ways of simply counter the move that the company is doing (ibid: 17). These sort of retaliations or moves that companies may do, depends on the origin of the firm and what comprises it. An example of such events maybe when law firms attempt to poach the competitions’ clients, causing the opposition to retaliate either by filing lawsuits, attempting to keep their clients, or to retaliate through the attempt to take the other firms clients in return. In addition, issues can occur in that business, through separate businesses. What I mean is, that if a company is being sued by a law firm such as a prison, then the companies who constructed the firm or provides the workers for the prison may have issues with these lawsuits, as it would give them a negative reputation. Essentially, when looking at existing rivalries between companies there are many intricate ways of seeing them, and we will be looking at equally balanced competitors, industry growth, high fixed and storage costs, lack of differentiation and switching costs, capacity augmented in large increments and diverse competitors.

Numerous or equally balanced competitors When it comes to the competition between balanced competitors or when there are numerous companies, these competitors generally have the habit of attempting to make moves and decisions that will in some way impact their competition, and do so without being noticed. Of

21 Tesla’s Position in the Chinese Market course, in a situation where the companies are somewhat equally balanced in terms of resources and manpower, it may cause some severe instabilities, if a single company gains a distinct advantage above the rest of the competition, which may eventually cause the competition to retaliate in different and dangerous ways, or they will eventually “die out” as the competition from the company with the advantage may be too difficult to handle (ibid: 18). In addition to this, in a situation where a single or a select few companies control the market due to the sheer size and their competitive strength, such as in the situation of Aerospace Engineering (Boeing and Airbus), it is highly known that they dominate the market, and not only that, it is considered highly difficult if not impossible to compete with these two firms, as they control the market entirely (ibid: 18).

Slow Industry Growth In a situation where the growth is slow in an industry, it causes the firms to turn the competition into a game for market shares, as it is one of the most effective and profitable ways to create expansion in such a situation (ibid: 18). In such a situation, a company can seize assets, market shares and more through different means, or some companies can be authorized to be allowed to have a merger, resulting in two companies becoming one, effectively increasing their strength, size and competitive power.

High fixed or storage cost The high fixed cost also related to storage cost, causes a generally strong pressure for a company to fill capacity, which in turn will create escalating price cutting, when there are an excess amount of available space. Many companies suffer from such situations, especially large industries involving, aluminium, paper, steel etc. Generally, we can see that high fixed cost is one where the products have a high cost for storage. In a situation like this companies, may be tempted to either hide or shade prices to insure sales, or if cost is simply too high, they may liquidate or sell off products. An example can be H&M, a clothing company, whom have been known to sell or send their clothing to factories to be burned to produce heat, electricity and more (ibid: 18).

22 Tesla’s Position in the Chinese Market

Lack of Differentiation or switching costs This is the stage, where the product in question has turned into a commodity, and generally the buyer is choosing his or her products through pricing and service, which causes severe competition. This type of competition is fierce, however, through product differentiation, you may create a layer of protection towards competitors. This is of course due to preference, loyalty and more from buyers (ibid: 19). Of course, examples of heavy competition and differentiation can he shown through the clothing industry, such as the competition between Nike, Adidas, Hummel and more, whom create products that may be very similar in looks, with different brands on them, it is more of a way of showing preference and loyalty through these companies.

Capacity Augmented in Large Increments Capacity is generally a risk, in the way, that it adds to and can be disruptive to the supply and demand in an industry. As such, in a situation like this, there is a risk of bunching capacity additions, especially if the industry faces recurring periods of exceeding capacity and pricing, especially in manufacturing.

Diverse Competitors Competitors have a very diverse and substantially different way of strategizing on the market, they even have different personalities, relationships between partners and unique goals specific to their company and the different sectors. As such this gives companies a high level of difficulty in reading and understanding one another's intentions. Additionally, it is important to mention that some decisions made by one company may be wrong for another, generally depending on the type of company, size, goals etc.. If we look at foreign companies, they bring a diverse set of values, goals and norms with them to the new market. The intentions, goals and perspective also depends on the type and size of company, as if it is a owner-operators company of a small manufacturing company, it may be satisfied with mediocre rates of return.

23 Tesla’s Position in the Chinese Market

Bargaining Power of Buyers The bargaining power of buyers, is shown through their competitiveness in forcing the prices down, demanding higher quality and more services, and generally playing competitors against one another. This is generally at the expense of industry profitability. These buyer groups depend on several characteristics which range from market situation to the relative importance of its purchases. The factors which make a buyer group powerful in front of the industries are as follows:

Purchasing in concentrated or large volumes In this case, the buyers are aiming for buying a large portion of sales, this eventually raises the importance of the buyer’s business in results. Large volumes buyers are heavy hitters in the industry, as they aim for fixed costs and they are strongly competitive towards the industry, as the different businesses would want such a buyer on their list.

The products they purchase, represent a fraction of the buyer’s cost or purchases Here the buyers aim to shop for a favorable price, and general purchase selectively. Generally buyers are less sensitive if they purchase products which hold a fraction of the buyer’s cost.

Standard or undifferentiated products Even though buyers can find alternative products, they may force companies to compete for the buyer’s by playing them against one another.

Switching costs The buyers power is generally enhanced if the seller faces switching costs, causing their products to fluctuate in pricing.

24 Tesla’s Position in the Chinese Market

Low profits Low profitability, increases the incentive for a company to decrease their prices. For a company, it also translates into their suppliers, where the suppliers may be pressured into delivering higher quality than before, which may change prices as well as relationships.

Backward integration If a buyers motivation are based on safety of supply or non-price factors, this will end with companies being forced to grant price concessions for safety precautions. A good example of a company is General Motors and Ford, whom are well known to use the threat of self-manufacturing as a bargaining chip with their suppliers. This is due to them producing some of it themselves, will importing parts for their vehicles from outside manufacturers. As such their threat for further integration and increase in their own production, is highly credible, and will cause other manufacturers to give more reasonable pricing.

Unimportant to the quality of the buyers’ products or services When the quality of the products are highly affected by the industries products, the buyers are less price sensitive.

Buyers have full information In this case, the buyer have full information about the demands, actual market prices and the suppliers costs. This gives the buyers more leverage than when informed poorly. This gives the buyer opportunity for more favorable prices.

25 Tesla’s Position in the Chinese Market

Chapter 4 - Analysis

This chapter will analyze Tesla in four subchapters, corresponding with the causality model. The first part will evaluate the entry barriers of the Chinese market. The second part will evaluate the suppliers and how much bargaining power they have. The third will evaluate substitute products and rivals within the Chinese market. The fourth part will evaluate the buyers and how much bargaining power they have. Dividing the analysis up into 4 sections will ensure an in-depth analysis can be carried out without the reader getting overwhelmed with information from 4 different areas.

China is not known for its transparency or the protections of foreign firms rights such as intellectual property rights or in general lacking free market values. However, China is a complex example. This is rooted in the fact that there are different regions within China, where the local governments decides certain legislation. In the research there will be a focus on the region of Shanghai, as this is where the factory is being build.

4.1 - Barriers to Entry

There are certain aspects of a firm that is needed in order to be able to establish itself in a market. Those aspects will be analyzed and evaluated in this section of the analysis. Barriers that is considered is economies of scale, product differentiation, capital requirements, switching costs, access to distribution channels, cost disadvantages independent of scale and government policies. These factors determine whether it is possible for a firm to establish and enter a certain market.

4.1.1 - Economies of Scale

When we talk about Tesla and economies of scale, it is a complex answer. Not long ago there was significant problems with the production of their cars. During the last quarter of 2018 and the first of 2019 they were significantly lacking in their ability to keep up with the demand. Elon Musk promises that in 2018 Tesla would be able to produce half a million vehicles. However, it

26 Tesla’s Position in the Chinese Market turned out to be a lot less, 254,530 vehicles to be exact (Tesla A 2019). Economies of scale is different from industry to industry. In relation to Tesla it would be at the point where they could most effectively produce vehicles. In the first quarter of 2019, the production was at approximately 77.100 vehicles, with a goal of producing a total of 360.000 to 400.000 in 2019 (Tesla A 2019).

Tesla’s production numbers are far from ideal. However, the production of electric vehicles (EVs) are still changing as it has not been perfected yet. Then the question becomes, how far in the EV production evolution is Tesla compared to competitors in the Chinese market. When comparing the production of EVs and plug-in hybrid electric vehicle (PHEV), there are only slight differences between Tesla and the Chinese Build Your Dreams (BYD). They produced 152.150 EVs and 72.986 PHEV (Car Sales Database A 2019), which is approximately the same as Tesla.

Something that have a significant impact when we are talking economy of scale is the ability to share some aspects and research with other products. Tesla is well known for its car, but beside its car production, they are also producing batteries for storing power at home, and solar panels. This allows for economy of scale to a certain degree. In the EV industry, the battery is on of the most debated topics and considered a crucial aspect. Tesla can share their research and development (R&D) between their car battery and the home power storage unit. This provides a significant advantage as they can share R&D between their two products. Despite most parts used in the Tesla is produced in house and is patterned, they earn revenue from partnerships and original equipment manufacturer. They sell electric powertrain components to other automakers such as Daimler and Toyota (Cheong 2016: 2). This allows Tesla to sell components to other automakers and they can then sell it under their own brand name. In other words, it allows Tesla to sell their product to another purpose. This dual-purpose has a huge impact as it does not require anything extra from Tesla. This also includes the dual purpose of their batteries, as it is used in more than one product. In addition to the dual purpose products, Tesla have also had shared ventures with other car producers such as Mercedes-Benz to produce the Smart Fortwo

27 Tesla’s Position in the Chinese Market

E-Cell and Toyota to produce RAV4. If we take a look at BYD, the Chinese EV and PHEV producer, we can see that they have a larger production number as mentioned above. However, what makes a significant difference is that they are producing so many different products, with more or less the same technology. They produce EVs, battery-powered bicycles electric busses, forklifts, rechargeable batteries, and trucks. In terms of technology their R&D can be used in multiple fields. They can use the same technology in the EVs, PHEV, electric busses and battery-powered bicycles. Providing a significantly impact on economy of scale relative compared to Tesla.

4.1.2 - Product Differentiation

There are currently a backlash from customers in China, specifically those who already purchased a Tesla. This backlash is a result of customers paying a significantly higher price, in some cases up to thousands of dollars, before their price cuts (The Wall Street Journal A 2019). However, despite the backlash Tesla have a fairly strong brand identity in China and have managed to establish some credibility in accordance with Tu Lee from Sino Auto Insight. Their EVs are more expensive than a majority of their competitors, which comes from targeting a slightly different market segment (Business Insider A 2019).

4.1.3 - Capital Requirements

There are two ways in which Tesla could enter the Chinese market. The first on through importing its EVs. However, currently this makes the car much more expensive for the customer, as there are a 25% import duty on cars (Industry Newswatch 2018) This significantly increases the price for the Chinese consumer. The second option is the establishment of an factory in China, which would circumvent the import duty. However, building a factory costs a significant capital. Tesla is currently building a Shanghai Gigafactory, which will open in 2020. Tesla said in a statement, that it estimated the factory to cost around $2 billion (CNBC (A) 2019). This is a significant capital invested into the new production in China. However, this does provide Tesla with the opportunity to implement their new production techniques. The new production platform that will be implemented is reducing the unit cost of up to 50%. As a result the new

28 Tesla’s Position in the Chinese Market

Tesla Y, an EV SUV, will be the cheapest in its class. It is estimated to cost $48.000, which is $20.000 less compared to other EV SUV models produced by other brands (Tesla (B) 2019: 2). However, in terms of startup losses and R&D needed to enter the Chinese market, the only significant loss is the capital needed to build the factory. They already have the R&D they need in order to produce the EVs in china, including the research on the new production platform.

4.1.4 - Switching Costs

One problem with the opening of the new factory in Shanghai, is the training of new employees, in order to produce its products. The employees will have to learn the necessary skills. This will provide in start-up loses, as employees need to master certain skills, which can only be learned through experience. In addition, the new factory needs equipment, in order to produce its products. However, this is included in the $2 billion spend on the factory.

4.1.5 - Access to Distribution Channels

In order for the product to be sold, Tesla will need access to distribution channels. This provides Tesla with the means to sell their cars to the Chinese consumer. In recent years, Tesla have opened more physical shops around the world, and at the same time started to focus more on the online platform (Cheong et al. 2016: 2). In addition, Tesla owns its distribution channels, as their products are only sold in their physical and online shops. Currently they have a total of 24 shops in China (5 in Beijing, 2 in Chengdu, 1 in Shenzhen, 3 in Guangzhou, 1 in Zhejiang, 1 in Hangzhou, 1 in Nanjing, 1 in Ningbo, 3 in Shanghai, 2 in Shenzhen, 1 in Tianjin, 1 in Hubei and 1 in Xi'an) (Tesla (C) 2019). This will ensure, that Tesla does not need to compromise or give offers to local car sellers or other forms of distribution channels, in order to sell their products. This allows Tesla to sell their product at the determined price, that they see fit. Including, not having to train local sellers in the techniques of selling their cars. Thus, a focus on vertical integration (Jiang and Lu 2018: 497).

29 Tesla’s Position in the Chinese Market

4.1.6 - Cost Disadvantages Independent of Scale

In terms of cost disadvantages independent of scale, Tesla does have an edge over some of the competition. This comes from Tesla having proprietary technology that some of the other rivals does not, as they operate as a original equipment manufacturer (Cheong et al. 2016: 2). However, a disadvantages for Tesla is, projects are usually only assigned to Chinese companies, which provides subsidies and financial aid. This is a disadvantage for Tesla as projects provides large contracts with cities within China.

4.1.7 - Government Policy

There are two major points when we talk government policies. The first being grants and subsidies in relation to consumers. The second is in relations to R&D. Since China is well known for its state-capitalism and state owned firm, it will not come as a surprise that the government invest in its domestic industry. If we look at BYD, we can clearly see that a significant amount of cash flows in from the government, in forms of grants and subsidies. As mentioned above one of the disadvantages for Tesla is the fact that China funnels cash into domestic businesses. In addition to larger contracts are usually only assigned to domestic businesses as well. This can be seen in the table below, as it demonstrates BYD’s grants and subsidies awarded.

2017 (RMB) 2018 (RMB)

Subsidies on industry 73.055.000 72.647.000 development fund for Changsha Automobile Zone

Subsidies on research and 41.113.000 42.632.000 development for batteries of electronic vehicle

Subsidies on marketing n/a 600.000.000 incentives for new energy automobiles

R&D subsidy Taiyuan car n/a 267.459.000 battery project

30 Tesla’s Position in the Chinese Market

Incentive subsidy on Shanwei 135.305.000 14.695.000 BYD Industrial projects Table 4.1.7.1 - Government Grants and Subsidies (BYD (A) 2019: 103).

However, if we return to the first part of government policy, the consumer subsidies. In other words, this is where the government provides incentives for the consumer to buy an EV, by subsidizing some of the price. There have been major changes to this policy over the last 10 years. There have been two major phases. The first phase was from 2009-2012 and the second phase from 2013-2015. Each providing an increase and broader scope of subsidies given to consumers wanting to buy EVs. However, during the last year, these subsidies have been scaled back, and are planned to be phased out completely around 2020 (Hao et al. 2014: 724, 731).

Other vital policies are the limitation of license plates for vehicles, which was implemented in order to limit pollution in major cities. Some cities are auctioning them, others it is randomly picked who gets one (The Economist (C) 2019). This does present Tesla with an issue, when selling their cars.

In addition, one of the reasons that many foreign producers are unwilling to open a factory in China is a result of policies preventing them from doing it alone. In general, the policy is that it has to be a joint venture with a domestic firm, in order to build a factory. However, in Tesla’s case, Shanghai does not have such policy, this allows Tesla to open a factory, without sharing its industry secrets with a Chinese firm. Joint ventures can be beneficial, as mentioned in economies of scale, however, usually only on a limited scale.

4.1.8 - Sub-conclusion

We have talked about multiple factors in terms of what barriers Tesla have to overcome, in order to enter the Chinese market. We can see that Tesla does have economy of scale to a certain extend, as they can share research between products to reduce R&D costs, in addition to having patterns on advance parts they sell to competitors. Another thing Tesla will not have to worry

31 Tesla’s Position in the Chinese Market about is distribution channels, as they are vertically integrated. They own their distributor and produce a majority of their own parts in house. However, things that will make it difficult for Tesla is the fact that they have certain disadvantages in terms of contracts and grants, as the Chinese government and cities funnels millions into projects and the development of the domestic EV industry. In addition, the new factor is a huge investment, with a new platform for producing cars and a completely new operators. This does result in huge start-up loses as they need to learn the know-how and the capital needed to build the factory is significant.

4.2 - Bargaining Power of Suppliers

Tesla is in a unique position in terms of suppliers, compared to a majority of its competition. Tesla works as a original equipment manufacturer, which means they are producing a majority of their vital components in-house through vertical integration (Cheong et al. 2016: 2-3). This prevents suppliers from bargaining higher prices for crucial and specialized parts, that might only be produced by a single or very few suppliers. As a result suppliers will not have a strong bargaining power over Tesla. However, this does not mean that suppliers does not have any bargaining power. Tesla produces all its own parts, except for windshields (AGC Automotive), breaks (Brembo), power seats (Fisher Dynamics), instrument panel (Inteva Products), battery cooler (Modine Manufacturing Co.), acoustic dampers (Sika), liftgate gas spring (Stabilus), and power steering mechanism (ZF Lenksysteme). These are the only parts that is not produced in-house (Maverick 2018). This does on the other hand strongly support the fact that suppliers have very limited bargaining power, as most of these parts are not high tech and can be produced by other parties. However, it does not mean that it would be cost efficient to switch to another supplier. Another question that does have an important factor is, if Tesla can import these parts to China, without having to pay a hefty duty. AGC Automotive have production in Asia, both China and Japan, thus will not affect prices in terms of a new factory in Shanghai. The same goes for Brembo, Fisher Dynamics, Inteva Products, Modine Manufacturing Co., Sika, Stabilus, and ​ ​ ZF Lenksysteme. This allows Tesla to buy products without having to pay import duties, nor finding a new supplier. In addition, a important aspect of bargaining power of suppliers is the density of suppliers providing the above mentioned parts. Tesla on the other hand, does have

32 Tesla’s Position in the Chinese Market some bargaining power as a supplier, as multiple car manufacture uses certain parts produced in house (Cheong et al. 2016: 9). In addition, the parts that is not produced in house are not very advance or technological and can be/are being produced by multiple other firms.

Something to mention when we are talking about suppliers, is that Chinese firms do not have the same technological advantage as European and American firms. However, a majority of products are produced in China, despite it being designed by outside firms (Jiang and Lu 2018: 493). This is important to note, especially as designing parts can happen outside China and still be produced there, which eliminates import duties for Tesla, and makes it significantly easier to switch supplier, if it is needed. Thus, many substitute products for parts that is not produced in-house, and this will prevent them to squeeze the profitability out of Tesla. This is also closely connected to the fact that Tesla produces high technological and R&D heavy parts in house.

4.2.1 Sub-conclusion

Tesla’s suppliers does not have a strong bargaining power, as most technological and R&D heavy parts are produced in-house, as a result of Tesla’s vertical integration. This ensures that suppliers can not significantly increase prices on vital parts, and squeeze profits out of Tesla. However, Tesla does import certain parts, but non, which cannot be produced by other firms, both inside and outside of China. That being said, switching a supplier will result in a initial loose in cash as they need to be taught how to produce them and have a production started, which takes time.

4.3 - Substitutes Products and Rivals

In our previous chapters where we have laid out the necessary information of the Porter’s Five Forces, we placed the threat of substitute products together with rivals in constructing the Causal Relationships Model for Competitiveness. In this section of the analysis, we will delve into our data, while containing our focus on who the substitute products are for Teslas vehicles in China and more specifically in Shanghai. Additionally, we will be attempting to thoroughly answer who their rivals are as well as the level of threat there is from both substitute products and rivals

33 Tesla’s Position in the Chinese Market in such circumstances. In this case, we would refer back to our theory concerning substitute products and what defines a substitute product. As defined in chapter 3, a substitute product is any product that may compete with existing products, generally defined as being a product that can perform the same functions or service as the product delivered by your own company, which in this case is Tesla. In the case of Tesla, these substitute products are any and all transportation devices that is available to the public, such as gasoline vehicles, diesel vehicles, hybrid vehicles, electric vehicles, motorcycles, or at least this may be how it seems at first glance. The factory which is undergoing construction in Shanghai will be producing Model 3 and Model Y from Tesla, and it is claimed that they will be producing the first vehicles by the end of 2019 (Clean Technica, 2019).

To further clarify what products deliver the same type of service and function as Teslas Model 3 and Y, we have to understand their two products. The first of the mentioned vehicles is the Model 3, which has a range of 310 miles per charge, and is constructed of a mix of aluminum and steel creating a strong structural rigidity. It has been granted a five star safety rating, meaning that with its energy absorbent crash structure, rigid passenger compartment, and its incredible side impact protection and lowest rollover risk it comes with great safety for anyone driving the vehicle. In addition to safety it also focuses on the performance of the vehicle, which is capable of accelerating from 0-60 miles per hour in as little as 3.2 seconds, which is a thrill to buyers and car enthusiasts. In addition to this, it has a dual motor all-wheel drive, with lowered suspension for added control in all weather conditions, as well as focus on stability at high speed. To delve into the dual motor made by Tesla, it is two independent motors, which digitally controls the front and rear wheels, allowing for better handling and traction, and the car can switch between either engine, allowing for safety of not being stuck on the road due to a problem with one of the engines. The information that the Model 3 has a range of 310 miles per charge, and is capable of being charged in less than 15 minutes, dwindles when you receive the knowledge that the Model 3 is fitted with all-glass roof, wifi, and live software updates, as well as a touchscreen and many more luxurious features. This all goes to show that Tesla albeit aiming for more competitiveness and being capable of selling their vehicles to considerable

34 Tesla’s Position in the Chinese Market prices, the Model 3 does not only allow you to drive from one destination to another, it also grants a considerably high level of luxury with all its different features, and may even have some future technology allowing for Tesla vehicles to drive without the necessity for a driver, granting a higher level of luxury (Tesla Model 3, 2019).

On the other hand we have the Model Y, which is roughly the same size as the Model 3, with a slightly shorter range of 300 miles per charge. It also utilizes similar safety features to the Model 3, with its low center of gravity, rigid body structure and large crumple zones, which provide a high level of protection. Additionally, the Model Y is a more versatile vehicle as it has room for a total of 7 passengers, where the seating and storage is versatile and changeable, with easy access to the trunk. All seats are capable of being folded flat, allowing for storage of skis, furniture, luggage and much more. The Model Y is also situated with the all-wheel drive dual motor, similarly to the Model 3, giving it high level of responsiveness, independent motors that digitally control the front and rear wheels, giving better handling, traction and stability. Additionally, it is stated that it can handle both in rain, snow, mud and even off-road. The range and charging time is roughly the same as the Model 3, and like the Model 3 you have the possibility of charging your vehicle either at home overnight or visit one of their superchargers which allows you to charge your vehicle in less than 15 minutes. This specific vehicle comes with the autopilot feature, which has 360 degree visibility and with ultrasonic sensors and radar that goes 160 meters forward, which then has emergency braking, collision warning, blind-spot monitoring and much more. The model will have full self-driving capability, enabling automatic driving on city streets and highway pending regulatory approval, as well as the ability to drive to your location if necessary. Like the Model 3 it comes with all the luxury perks of all-glass roof, touchscreen display, wifi and software updates being just a few of the features found (Tesla Model Y, 2019).

With these two types of electric vehicles in mind, with their considerably advanced features and capabilities as a vehicle for transportation, you have to consider that substitute products which in our case is any transportation device available to the public, such as cars, motorcycles and more.

35 Tesla’s Position in the Chinese Market

Now these vehicles which are considered substitute products are any and all transportation devices, meaning that there are a considerably high amount of substitute products on the Chinese market, especially seeing as it is one of, if not the largest automobile industry in the world. To support this, we have acquired data concerning the EV stock and manufacturing of electric vehicles in China. From 2014 until 2016, the United States would have been considered the leading country within the Global EV stock with an increase from 293,630 to 563,760 globally. However, they were quickly surpassed by China in 2016, whom had acquired a total of 721,070 in EV stocks, and as of 2018 it had increased to 2,610,000 compared to United States 1,102,450 (ZSW (A), 2019). With these numbers it is visibly shown that China has become the largest player when it comes to the electric vehicle market, but we need to delve further into the market to see who the main actors are within it. To do so, we have acquired the information of manufacturers as well as the models constructed.

36 Tesla’s Position in the Chinese Market

Table for 4.3.1: Largest manufacturers.

Retrieved: (ZSW (A), 2019) - See bibliography

With the above table we are able to determine the development of the electric vehicle market, and as we can see in 2014 it was actually Nissan that was the largest EV manufacturer. However surpassed by BYD and Tesla. Now, these numbers show that Tesla and BYD by the year of 2018, both manufactured 215,000 and 233,000 electric vehicles world wide respectively. When looking at the list of manufacturers, we can determine that there are a considerable amount of competition within the market, with manufacturers from China, USA, Japan, Germany etc (ZSW (A), 2019). This goes to show that there are several substitute options for the buyers within the electric vehicle market alone, and that is without taking into account the gasoline market. In addition to the electric vehicle market, there is also substitute products outside, and when looking at China we can identify the largest competitors or substitute products through the given data. This data shows that Volkswagen, General Motors, SAIC, Geely International, Dongfeng Automobile, Baoding Great Wall Motors, Changan Automobiles, Beijing Hyundai Motors and Honda Automobiles are the largest manufacturers within China (Statista (B)). One final factor to consider besides the different automobile industries for substitute products, is the public transportation which is also considered a threat. As a result of this, when looking back on the available substitutes for Tesla’s electric vehicles which will be available in China, we look at

37 Tesla’s Position in the Chinese Market

Porter’s Five Forces, where we understand that the low switching costs, availability of substitutes and performance of said substitutes are of significant importance. As a result of this, the low switching cost enables a high level of competitiveness, which enables substitute products such as public transportation to attract customers, especially in large cities in China. This substitute is increasingly competitive, as in many cities, there are limits to the amount of vehicles allowed on the road certain days, and due to pollution the Chinese government have issued regulations for the vehicle industries and what is allowed on the road (The Indian Express, 2017). As such, public transportation is in a strong position with trains and busses, especially in some cities where they have been converted to electricity. Especially seeing as some cities have fully embraced electric transportation both public and private (The Guardian, 2018). In addition to the public transportation there are substitute products available, which would be the electric vehicle industry and the regular gasoline industry, which grants a considerable amount of substitutes, however electric vehicles are increasingly more important in China due to their regulations and their pollution issue, meaning that electric vehicles will continue to become a larger part of the Chinese market. This of course narrows down the possibilities for substitutes in China, with the government initiatives, meaning an increasing amount of people will want to consider electric vehicles over gasoline vehicles, which in turn means that the amount of substitute products is narrowed down. This shows that, if we look back on the table above, we can see that there are 10 heavy hitters on the global market currently listed, with BYD and Tesla being the top contenders. Eventually, this goes to show that due to low switching costs, there is a high possibility of population wishing to switch to products as it is easy to do so, and in addition the substitute availability and performance would be considered moderate due to the low level of competitiveness from a large quantity of manufacturers. Especially considering that the largest amount of substitutes coming from electric vehicle manufacturers have a lower level of performance than Tesla, with the exception of BYD, causing Tesla to be in a decent position when entering the Chinese market. Of course, with reference returning to the construction of the gigafactory in Shanghai Free Trade Zone, this would grant Tesla a stronger position on the electric vehicle market in China with easier access and less barriers protecting the Chinese manufacturers, granting them a stronger position as a competitor.

38 Tesla’s Position in the Chinese Market

Now that we have a thorough understanding of the substitute products and available substitutes in general, with an intricate understanding of the position that Tesla currently has before the construction of the factory, we move on to understand who their rivals on the Chinese market are, and how significant the threat currently is, and how it may change after the finishing of the factory.

In the wake of the electric vehicle revolution initially led by Tesla, BYD and Nissan, there is an increasing rivalry amongst the manufacturers. This is signified by the increased focus from global actors such as General Motors, Bayerische Motoren Werke, Volkswagen, Porsche, Jaguar and Mercedes-Benz, whom have dedicated considerable resources to the development of mass market electric vehicles (The Economist (B), 2019). This is outside of the current BYD, Nissan and Tesla whom are competing with one another for the shares of the market. Now, if we delve further into the electric vehicle market, we can not only identify the companies who produce and sell the most amount of electric vehicles but also the type of vehicles, which can be seen in the table below.

39 Tesla’s Position in the Chinese Market

Table for 4.3.2: Models Sold.

Retrieved: (ZSW (A), 2019) - See bibliography

From the above table we can identify, that Tesla has the most sold car model as of 2018, the Model 3, followed by the BAIC EC-series and Nissan Leaf, where the Nissan Leaf sold more than 80,000 vehicles. However Tesla also has the Model S, which sold for almost 50,000 accumulating it together with the Model S, we see that Tesla over all with these two models, sold almost 200,000 electric vehicles in 2018. Additionally, there is heavy competition from Chevrolet, Toyota, BYD, Renault, BAIC, BYD and BMW whom all manufactured and sold between 20,000 to 50,000 electric vehicles in 2018. As such we can determine with the above table, that there has been an increase in competition among the electric vehicle companies of Tesla, Nissan, BAIC and BYD, combined with the entrants from BMW, Mitsubishi, Chevrolet, Toyota and Renault, starting all the way back in 2014 for some of them (ZSW (A), 2019). An important note before continuing to determine the rivals within the Chinese market for Tesla, we can see through the Global EV registration, that in 2018, China had a total of 1,256,000 registered electric vehicles compared to USA whom was in second place with 361,310 registered vehicles, with every other country having less than a 100,000 registered electric vehicles (ZSW (A), 2019). This determines China as the largest electric vehicle market, by far, as of 2018. As a result of all this development from current competitors and future competitors entering the

40 Tesla’s Position in the Chinese Market market, and especially in the Chinese market, we draw back to Porter’s Five Forces, with the definition on rivals (See chapter 3). Rivalry among existing competitors boil down to them utilizing tactics, including price competition, advertisement both to increase sales and to rack down on competitors. Generally rivalry exists when a competitor or business enters a market and experiences pressure or finds opportunities to improve their position while taking advantage of their competition. As a result of the definition on rivals, it is a rather broad term which makes it difficult to determine who the rivals of Tesla are, however when referring back to the table above as well as the information that BYD and BAIC registered a total of 376,590 electric vehicles compared to Teslas 233,760 electric vehicles globally, and in the situation of BYD and BAIC being mainly on the Chinese market, it goes to show that they control a large portion of the market (ZSW (A), 2019). As a result of this the biggest competitors or rivals that Tesla would face on the Chinese market would be BYD, Nissan, SAIC and BAIC if we solely look on their market share of the Chinese market (ZSW (A), 2019). This translates into a form of high aggressiveness from the different companies as they wish to maintain their control or expand it upon the market, as well as the competitiveness of the current rivals on the Chinese market have a firm position which makes it easier for buyers to switch between products, especially seeing that BYD, SAIC and BAIC produce more electric vehicles than Tesla on the market and for more considerable prices, allowing for what we call low switching costs, making competition that much more fierce. Additionally, there is a small number of companies on the Chinese market whom control the largest portions of the electric vehicle market, which means that in some ways the competition will be limited within how it affects Tesla, especially seeing how they are constructing a gigafactory in Shanghai which will circumvent the tariffs and other barriers making them far more competitive on the market.

4.3.1 Sub-conclusion

As previously mentioned in this section, the rivalry and amount of substitute products have caused an intensive competition. Of course, we would argue that Tesla is the most recognizable brand among the electric vehicle industries giants, however with major automobile companies announcing their plans to focus on electric vehicles such as BMW, Volkswagen, Nissan and

41 Tesla’s Position in the Chinese Market

Mercedes-Benz, where BMW and Nissan have already released their vehicles onto the market. Additionally, in China it is especially important to note the existence of BAIC, SAIC and BYD, as giant electric vehicle and battery producers, which subsequently increases the level of competitiveness. As such, we come to the conclusion, that the situation within China and Shanghai is moderately intense, while it will definitely increase in intensity over the coming period of time.

4.4 - Bargaining Power of Buyers

The bargaining power of the buyers are defined in the Porter's Five Forces (Chapter 3), as it refers to the pressure that the consumers exert on businesses to get them to provide quality products to reasonable or lower prices than first anticipated. The importance behind defining the bargaining power of the buyers in China and in Shanghai, is due to its effects on the competitive environment for the seller and because it influences the abilities of the of sellers to achieve profitability. It is important to note, that Michael Porter wrote the book Competitive Strategy, with an emphasis on practitioners of business, such as managers whom seek to improve the performance of their businesses, and aim to forecast business success or failure (Porter, M., 1980, introduction). Additionally, the book Competitive Strategy, and mainly the section concerning bargaining power of buyers, was originally aimed at groups of buyers such as governments, organizations, and generally all types of groups that may be interested in the product which the company is selling (Porter, M., 1980. Pp. 24-27). On the contrary, we understand that this is not the only possibility behind buyers, but as seen we are mainly focused on the general public in Shanghai and China, to look at their bargaining power, to determine the impact that they may have upon Tesla, now that they are constructing a factory which should be producing electric vehicles by the end of 2019. Now moving forward we need to understand what the determining factors behind the power that the buyers hold in the market.

To begin we see that if buyers are more concentrated than sellers, essentially meaning if there are many sellers but few buyers, then the buyer power is considerably high. Additionally, the switching costs, meaning if the cost of switching from one product to the other is low, then the

42 Tesla’s Position in the Chinese Market bargaining power of the buyers are high. Another factor, may be if the buyers are capable of backtracking and end up being capable of producing the product themselves then the bargaining power of customers are high as well. One of the most important factors is the consumers being price sensitive and well-educated concerning the product, meaning that they understand the product well enough to get a high amount of power. Additionally, substitute products on the market gives a high power level to the buyers as well as if they buy large volumes of standardized products which may be the case in the electric vehicle and vehicle industry.

Now to look into Tesla and its situation with the level of power that the buyers have in China and Shanghai, then we look at the amount of sellers and substitute products in general. In doing so, we can refer back to our previous sector concerning the rivals and substitute products part of our analysis, where we identify the said substitute products and rivals of the industry. On the list of models produced and sold (Table 4.3.2.), there are 9 separate models that come from 9 different companies, including Tesla. This goes to show that within just the electric vehicle industry, and without counting the general vehicle industry there exist a substantial amount of substitute products and subsequently sellers. As a result of this, we can say from this particular point of view, that the buyers should have a high level of power, however we should also consider that in Shanghai and China there may be a high possibility for a substantial amount of buyers as well, which may mitigate the power level on this particular point. Additionally, we have to consider the switching costs, meaning the price for switching from Tesla to another product or the other way around, which is quite simple in the sense that you purchase a new vehicle. The current starting price for a Model 3 Tesla is 72,000 US dollars in China, while to comparison the Nissan Leaf or as it may be called in China, Nissan Sylphy has a pricing range of 25,850 US dollars (Reuters, 2019. & Phys, 2018). As a result of this we would argue that the switching costs are low, since the price for substitute products currently are substantially lower than Teslas’ own vehicles, however it may change to some extent in the future with the gigafactory. The people being capable of identifying and producing Teslas’ vehicles themselves is highly unlikely, due to the automation of the manufacturing process and the highly skilled level of intelligence required to understand and work the intricacies of the electric vehicles and the additional content and

43 Tesla’s Position in the Chinese Market technology advertised and used by Tesla. To identify peoples price sensitivity you have to understand the education of the Chinese people and Shanghai where the gigafactory is being constructed, where in general we understand that this is an importance, what is more important is that people educate themselves on the products they are currently assessing if they wish to buy. In such a case, most if not all people, generally go out and educate themselves about products and what they can gain with the different vehicles in this case, and what features accompany them. So to end this, the people would in our case be considerably educated on the matter, in the sense described above. We previously touched on the substitute products, however in our conclusion of this, we would argue that there is a considerably high volume of possible products, coming from not only the electric vehicle industry but also the general vehicle industry, giving the buyers a lot of power, as they have many options.

4.4.1 Sub-conclusion

As a result of the above analysis coming from the bargaining of power of the buyers, from Porter’s Five Forces, we would conclude that the bargaining power of buyers in the electric vehicle industry is significantly high. There seem to be no cost for customers to switch away from Tesla’s vehicles to something more interesting for them, like the Nissan Leaf. This substantially increases the buyers bargaining power. With the significant amount of established and new automobile companies entering the fray as shown above, by the amount of types of electric vehicles, customers may notice that Tesla’s prices are considerably higher than their competitors. If buyers decide on alternate products, they subsequently utilize their bargaining power to make Tesla reconsider their prices. And finally, due to the range of substitute products and services available outside of Tesla and the extent of product differentiation, buyers have a lot of possibilities, making it even tougher for Tesla to compete. As a result of this sub-conclusion we may argue, that the bargaining power of buyers are significant.

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Chapter 5 - Discussion

In the analysis we have looked at each factor and analyzed and assessed how Tesla will compete and if it will succeed in the Chinese market. However, things that will have considerable impact on the sale of EVs is the subsidies policies. The Chinese government have during the last decade increased the amount and scope of the EV subsidies. However, during recent years, they are trying to phase them out. This does raise some concern and uncertainty as new subsidies might be enforced, or in a worst case scenario, there will not be any subsidies at all. This uncertainty is not specifically a problem for Tesla, but for all EV manufacturers in China. Then comes the question of how regulation will change. Currently Shanghai allows foreign companies to build and produce, without entering into a joint venture with a Chinese company. In addition, no foreign company have ever been awarded projects and grants from the government. This does provide a disadvantage for Tesla, however, it might change in the coming years, especially as China is slowly opening its economy.

With the future of Tesla currently in the making, when it comes to Shanghai and China in particular, the infrastructure that Tesla requires is one significant factor which is left out of the Porter’s Five Forces. However, it is a concern that is in fact quite far down on Tesla’s list of troubles they have to come up with a solution for. This is actually due to another company, the NIO car company, who announced earlier this year, that their charging stations will not only be available to their own electric vehicles, but to every electric vehicle on the Chinese market, including Tesla (Teslarati, 2019). This as a result, means that Tesla will enter the market with a more firm position as previously thought, now that they are not required to expand and create their own charging infrastructure, now that they have cooperation with NIO. Of course this is but a single factor, that one must take into consideration when looking at Tesla’s position on the Chinese market and the future of it.

45 Tesla’s Position in the Chinese Market

It does not take a educated individual to determine that EVs are the future and an increasing number of automakers are investing in launching their own EV. The market is quickly and drastically changing. It is a volatile situation. It requires that Tesla can keep up with R&D. In addition, as more automakers are launching their own EVs, the market share per brand is decreasing significantly. The question then becomes, how to compete? Through cooperation, friendly competition, or survival of the fittest. But even more importantly, will the profitability be squeezed out of the industry.

The analysis have showed us how good a chance Tesla will have in the Chinese market. However, there are factors that could have been enlightful when talking about the Chinese market, and that is infrastructure as mentioned above. This is because infrastructure in China heavily depends on where in the country you are. Cities might have the necessary charging stations, compared to the country sites. This makes it undesirable to own a EV if the individual lives in a remote area. Another factor that could have been helpful is the advancement in technology, as the EV industry thrives on it, and it is connected to an overall performance of a EV, most importantly battery life. Lastly, sociology would have helped understand and evaluate if Tesla are a prefered choice compared to the Chinese BYD, or if customers will avoid Tesla. This would have provided us with an overall understanding of the sentiment and help us asses Tesla’s chances of success.

A factor that can completely change Tesla’s chances in the Chinese market, is how the trade war between the US and China will continue. If the trade war becomes more extreme and starts to significantly hurt the Chinese economy, it could have a huge impact on Tesla. Especially as there have been major talks about Tesla’s decision to open a factory there. An additional concern is the theft of intellectual property, which the Chinese is known for. If their technology were to be stolen it would put them at a significant disadvantage, as their technology is significantly better than the Chinese, as mentioned in the analysis.

46 Tesla’s Position in the Chinese Market

Conclusion

There are many concerns when it comes to foreign firms in the Chinese market. In the case of Tesla, they have the necessary conditions to successfully break the entry barriers, as they have a significant advantage from proprietary technology, which they are selling to multiple auto-manufacturers. In addition, they are not dependent on their suppliers, as they have very limited bargaining power. The issues with Tesla entering the Chinese market, through the construction of their new factory in Shanghai, has shown, that with the growing interest from giants in the vehicle industry such as BMW, Volkswagen and Mercedes-Benz entering the market in the near future, coupled with the current competition from Nissan, BYD, BAIC and SAIC, there exist a rather intense competition on the Chinese market, which will only grow over the coming years. As such from the rivalries and substitute products, it is shown that the competition is moderate to considerably intense, which is why it is one of the main obstacles for Tesla to handle. The bargaining power of buyers on the other hand is one that holds significant issues. This is due to the simple fact that there are no switching costs for the buyers, while the amount of competitiveness between substitute products and rivals to Tesla also gives the buyers more power. Additionally in choosing other products they force Tesla to reconsider their position on the market.

Thus, we can evaluate that Tesla have a very high chance of success in the Chinese market. However, there are still concerns, which is reflected in the discussion. If the trade war takes a turn for the worse, it will provide Tesla with some obstacles. In addition, the theft of intellectual property is a huge concern as it is one of Tesla’s advantages.

This provides us with a understanding, which we can use to evaluate foreign firms in China. We can conclude that in general, foreign firms will have a problem competing with a Chinese firm in China. This is a result of the government funneling money into domestic firms. However, if a firm has a technological advantage and proprietary technology, which the Chinese does not have,

47 Tesla’s Position in the Chinese Market it can provide a significant advantage, as illustrated through the case of Tesla. In addition, working as a original equipment manufacturer and a high vertical integration, lowers the bargaining power of suppliers and a firm's dependency on others.

48 Tesla’s Position in the Chinese Market

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