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International Market Entry and Development in China's Automobile Industry - Case Study Example

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The paper “International Market Entry and Development in China’s Automobile Industry” is an impressive variant of case study on marketing. In recent years, China has emerged as a very strong economy and has offered certain attractive investment opportunities in different sectors. This report discusses the international entry of the automobile sector and its development in China…
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International market entry and development in China’s automobile industry Contents International market entry and development in China’s automobile industry 1 Executive summary 2 Introduction 2 Country profile 3 Macro environment 5 PESTEL Analysis 6 Political: 6 Economical: 6 Social: 7 Technology: 7 Environment: 8 Legal: 8 Industry analysis 8 Target market 10 Market plan and strategy 11 Models for selecting foreign markets 11 International market entry theories 12 Porter's Five Forces Analysis 14 Recommendations 16 Conclusion 16 References 18 Bibliography 22 Executive summary In the recent years China has emerged as a very strong economy and has offered certain attractive investment opportunities in different sectors. This report discusses international entry of automobile sector and its development in China. The report starts with a general introduction of China as an emerging automobile market, winds through an in-depth background on the same and highlights car market in specific. The report then discusses various entry modes as applicable to such international entrants and weighs each model against other. The report also enumerates why foreign automobile investors in China have succeeded and why domestic manufacturers could not face the competition. The report analyses the reasons in detail. Introduction China is the fastest growing economy in the world. On the world economic scene, China has shown more than 9 percent gross domestic product growth rates (Vieter, 2007). If this is seen through the prism of purchasing power parity then China stands at the third number in terms of the largest economy (Wilson and Purshothaman, 2003). Economic analysts across the globe see this as a factor that could help China surpass Japan by 2020 in purchasing power parity and leave behind United States at the second number by 2050 (Hawksworth, 2006). The pointer to this fact is that around 400 of Fortune 500 firms now have operational bases in China (Fishman, 2005). If foreign direct investment is a precursor to good business opportunity in China then the figure of around 4 to 5 billion US dollars worth of investment in 2005 should not be surprising. One chief reason for this is cited as the rising income levels of average Chinese middle class citizens which determine the market-seeking and buying behaviour. In the recent years, China has been encouraging open business environment across a variety of sectors and industries. Other factor, for example, in Western businesses, that has triggered a shift in focus towards China is plummeting sales in home countries of these industries. Under this backdrop it becomes imperative to analyse the previous disasters of entering into Chinese market. It must be noted that the earlier entrants into China did so on a number of factors which might seem trivial now; like acquiring resources, banking on certain low-cost factors, lure of supplies that were diverse in nature and also securing of key supplies (Vernon, Wells, and Rangan 1996). That was more than a decade-and-a-half before; things have changed now drastically. The changing demographics and half-assessed market conditions in China have led, as mentioned above, to as many successes as failures. Tunistra (2000) says that Procter & Gamble rose to become a market leader in almost everything that it launched in China, while, on the contrary, Unilever faced innumerable problems in 14 joint ventures that it launched in China until 1999 from 1986 onwards (Dasgupta and Dutta 2004). Country profile China is a huge nation and for automobile industry China has emerged as a favourable destination. For example, car sales in China have seen an unprecedented growth of 40 to 60 percent annually. Fast and steady growth of China's car industry has been attributed to the favourable policy and macro- environment. While the macro environment is driven by social, economic, political and technological factor, the mircoenvironment has led China to open a specific entry mode of joint venture in the automobile industry. Automobile industry experts say that if the pace with which China is moving on the automobile front, it could soon leap to the second place. Volkswagen has the distinction of being the first foreign automobile company that invested in China way back in 1984 and proverbially helped the nation give up bicycle for a car (Hill, 1999). Presently Chinese car market is booming. Notable factors responsible for the same include banks offering car loans, price cuts that have been made recently on homemade cars and huge network of new roads that are coming up. That means as on date China's automobile industry is still left with immense potential. A little over decade ago per 1000 persons owned 1.5 units but that was still 90 units over the global average. Five years down the line more than 32 percent urban residents in China owned cars. This trend was well responded by both international automobile giants and automobile marketers in China. International giants made vast investments in China and came up with concepts for small cars that suit average Chinese families’ small in size. While Volkswagen was the first to enter China, it was followed by Citroen and now all major car manufacturers have joint venture investments in China. These include General Motors, Honda, Ford Motor, Fiat, Mazda and Toyota. Despite some pitfalls China government says its automobile industry holds the strong position of a "pillar"; one serious aspect which is determined by low labour costs. Macro environment China became part of World Trade Organization (WTO) in 2001; a move that helped China liberalise its trade environment to an extent and international firms plan their next move. Chen (2002) has an interesting bit of statistics and opines that as Chinese gross national income increases by 1 percent, the relative demand for cars shoots up by 1.3 percent. This is one reason why overseas automobile giants make a beeline to be part of the worthy Chinese car market. The most inquisitive ones eye this opportunity through the ever increasing GDP in China. Similarly certain internal factors have determined the shape of China's automobile industry. As the car market was picking up in China demand for quality cars began to be felt. This coincided as China was opening up to the foreign firms manufacturing better quality cars. This phase in China's automobile industry is considered as a 'watershed point' following which many auto companies like Audi, Daihatsu, Subaru, Honda and Citroen accelerated their manufacturing capabilities within China. Sensing this opportunity Toyota began selling not only cars but also trucks, luxury cars, buses, taxis and motorcycles in the country. Japan used to sell cars in China 1970s onwards, but in 1983 - 84 Japan increased by around 7 percent car exports to the country. A new law in China encourages joint ventures to bypass import tariffs in case an automobiles 40 percent value in produced within the country. Before entering WTO China’s own automobile industry was in shambles with around 40 percent of its manufacturing capability in idle mode. The result was colossal for car manufacturers who were losing ground and money very rapidly (Hitt, Ireland & Hoskisson, 2003). Much of the scenario changed after WTO agreement. Average import tariff reduced to 25 percent by 2006 on car and to 10 percent on auto parts (Guo, 2003). The best aspect of WTO agreement was that foreign automobile firms were given permission to get established in China and no limit was fixed on the number of units produced as part of joint ventures. Furthermore no cap as made on technology transfer and distribution and trading fields were fully opened by 2004. The tariff reduction came further as a boon for foreign car manufacturer who got a competitive advantage over the domestic car manufacturer in China. In China an automobile’s competitiveness is determined by the price that it carries. The WTO agreement has enabled international automobile makers to trade and distribute their products themselves. PESTEL Analysis Political: Recent indications from China have revealed that the country might invest huge sums of money in the Hybrid technology. The money expected to be invested would be to the tune of billions of dollars. China has been encouraging such political moves since the WTO partnership, and that makes the political atmosphere in the country all the more conducive for automobile industry. Furthermore, as China has enticed keen interest in hybrid cars recently and plans to fill China roads with millions of hybrid cars in future, it would come as a boon for companies like Honda, which are already into hybrid car making. Economical: China's economic infrastructure can be termed as very complex (Hand, 2002) and service provided by it private and public utilities are so intertwined that they flawlessly foster trade, consumption, and production (Sullivan, 2002, p. 475). There has been one-third growth in Chinese automobile market and given that a huge gap is yet to be filled in, that leaves too much of room for well-know companies to enter, grow and expand there. Social: China's social infrastructure is robust and in a way it backs its economic infrastructure. There has been a very steep rise in its quality of life as its social fabric has progressed remarkably over the past 3 decades. Two primary factors responsible for the same are health and education, and other factors that have also positively contributed to it include work ethics, employment, culture and environment. With an average life span in China being 71 (China.org.cn, 2003), its employment rate is steadily pegged at 4 percent. With regard to cars, Chinese consumers prefer cars with better mileage and performance that can be trusted. In China brand loyalty does not work as much as feature loyalty. That means if lesser known auto player would like to join the fray, their customer base can swell if their deliverables are par excellence. Technology: Analysts believe that China knows more technology than what it shows. Being in a transition phase, a rest of the world i regarding technology, China has never been close-ended towards accepting new technology. If hybrid car are the car of future, China would not have a reservation against any such idea. China knows the key to attracting more customer base is to show them new, state-of-the-art technology. Environment: China is conducive to being business throughout the year; however some specificity does apply. This is because China is so huge that one climatic description cannot befit every of it region. In northern China summers are dry and long and temperatures can go up to 30 degrees Celsius. Southern China is subtropical in nature, where summers are long, humid and hot, but winter short. Legal: Post-WTO since China opened ways for international investors paving ways for regulations and laws that encouraged FDI; the actual seed of a reformed legal system that helped aid business was sown in 1979 by the Sino-Foreign Equity Joint Venture Law. It is 1980s onwards that China has been developing regulations that protect both its domestic interest and interests of its foreign investors (ChinaLaw, 1998). Industry analysis For international market entry and development in China, the country is not only unique but also distinct. Market analysts say that the country is distinct also from other Asian markets like South Korea and Japan. Given its most populous nature and large land mass, it goes without debating that it represents a huge market that is full of potential for international automobile brands and services (Mongabay.com). However, the secret to success of these entrants lies, in part, within the correct identification of where do the correct opportunities lie and how to tap these opportunities. Both tasks are quite challenging. Mark Hedley, an international market research and intelligence professional, says that lack of ample knowledge and local understanding can stymie any international entrants – either a new entrants or one who already has some presence in China – to the level of sheer disappointment. Hedley argues that the international entrants need to first realise that China is a non-homogenous and non-uniform market even though the country is geo-politically unified. On the economic and social parameters it is more fragmented and disparate (Asia Kronels, 2010). This is because the country, in the recent years, has seen uneven economic growth in different areas which has led to social and economic disparities between 33 of its provinces. Not only that, these provinces exhibit high variations in terms of per capita GDP, population levels, consumer spending potential, income levels, literacy rates, education levels, and lifestyles. So international market entrant have to first understand that China is not a single, unified market but is composed of several sub-markets the nature of which is determined by differing economic, cultural and demographic characteristics. These submarkets must act as vantage points for international entrants since the nature of a particular market defines the location for a given industry. For example any automobile entrant choosing Shenzhen province might be doing collateral damage to the very purpose of setting up base in China as Jiangsu is a market known for semiconductors, IT, biomedicine, electronic information and communications. On the contrary, for an automobile entrant, provinces like Shanghai, Guangzhou, and Jiangsu would be the ones offering correct vantage points for a successful entry. Each province is known for a specific industrial orientation as shown below in the table: Province Industry Shandong Agricultural, pharmaceutical, foodstuffs, oils Shenzhen IT, biomedicine, semiconductors, electronics information, communications Zhejiang Light industry, textiles, plastics, apparel, metallurgy, toys, furniture, kitchenware, household electrical Jiangsu Chemicals, communications, textiles, petrochemicals, foods, auto parts, steel, biomedicine Beijing IT, electronics, communications Shanghai Petrochemicals, pharmaceuticals, chemicals, automobile, financial, electronic apparatus Guangzhou Automobiles, textiles, electronic appliances, apparel, toys, chemicals, petrochemicals Target market In the recent there has been a shift on part of international entrants in China to choose Tier 1 cities of Shanghai, Guangzhou and Beijing. These cities have begun to be realised as a predominant choice on account of being highly populous and having income levels in its middle-class representation that are far higher than the national average. These cities are known for impeccable consumer behaviour and are considered as mature markets. Hedley explains that these cities are ideal for international entrants having limited local experience and yet wanting to make their most suitable business turf. While Tier 1 cities' populous nature and higher income levels are an advantage, the companies willing to enter these have to see in depth on competition and operational costs alike. Tier 2 cities, which include cities such as Shenzhen, Wuhan, Tianjin, Chongqing, Nanjing, Chengdu, Qingdao, Suzhou, Dalian, and Hangzhou, on the other hand, offer lower operational or set-up costs. Since these cities are largely unexplored, it is held that the much untapped nature of these cities could be used to exploit commercial opportunities to a greater extent. Tier 2 cities, or for that reason even Tier 3 cities, thus, can offer first-mover merits to international entrants if they want to ensure long-term growth and success (Starmass.com, n.d.) Automobile industry entrants have to be very calculative in whether or not to enter a tried and tested city or risk being in a market that is less developed. A number of factors determine this like assessing what is the supplier and customer location, how would the distribution channels work and would they be cost-effective and what would be the regulatory barriers which would need to be understood before setting up a plant. The industry will have to research a number of factor before moving into a specific city like transport infrastructure, investment policies applicable locally, access to raw materials, local manufacturing scenario, and cost and availability of human resources (Hedley, n.d). Market plan and strategy Models for selecting foreign markets According to Papadopoulos & Denis (1988) two models for screening and selecting foreign markets have been proposed. These are both context-specific and general, which means they can be applied to specific industries in specific situations. The difference in each model from the other is not that much significant. Cavusgil (1985) proposes a three-step approach, which involves selecting an attractive country and screening it, assess potential of the industry market, and checking sales potential within this country. Stam, Kumar & Joachimsthaler (1994) put this in order of i) screening, ii) identification, and iii) selection. Some scholars put it in order of preliminary screening, in-depth screening, and final selection (Root, 1994 as cited in Koch, 2001, p. 67). This approach is a little in line with another model that is based on filters. Filter 1 is macrolevel research (general market potential) and preliminary opportunities, filter 2 is general market relating to the product and possible opportunities, filter 3 is macrolevel research (specific factors affecting the product) and probable opportunities, and filter 4 is target markets and country priority listings. International market entry theories Entry of an international industry into a foreign nation is governed by a number of entry mode theories and as explained by Andersen (1997) only one theory cannot provide logic to an industry to make inroads into another nation. Normally, it is the strategic decision selection that leaves an indelible mark on a multinational's competitive advantage in a foreign market. It is thus important for a foreign investor to have comprehensive knowledge of these theories in order to be able to monitor local operation in a foreign country, control the overall operations of the venture, minimise risks and meet objectives (Contractor and Lorange 1998). Several theories abound such market entries and the notable ones include Transaction Costs Theory, Market Imperfections Theory, Internationalization Theory, Resource-Based Approach, and the Strategic Behavior Approach (Shi, Ho, ad Siu, 2001). For the last 3 decades transaction cost theory has been widely used when multinationals have made international investments (Sun, 1999). Masten (1993) has argued that it is this theory that firms employ while making an international entry based on least cost factor. Most of the automobile stakeholders in China follow the former. Poppo and Zenger (1998) have opined that this theory when applied to an international market entry greatly affect a company' performance. This theory is generally used to offset uncertainty that normally prevail when entry decisions are made (Chiles and Mcmackin, 1996). Willianson (1996) has said that transaction cost solution offer safeguards against potential hazards that a firm might encounter in the process of making an international entry. Normally transaction cost theory is discussed together with internalization theory. This theory explains the reasons why subsidiaries are launched by many firms in foreign markets while establishing supply or licensing agreement with local firms (Ekeledo and Sivakumar, 2004). Johansson (2000) has said that internationalization theory help firms retain control over its activities which is done through two different modes, namely FDI option or foreign investment, and export option or domestic production. This theory does not give much credence to location while choosing an entry (Ekeledo and Sivakumar, 2004). Transaction cost analysis supports internationalization theory and the combined resultant outcome is contract law, industrial organization, and organizational theory (Anderson and Gatignon, 1986). Principally, it is the organizational preference that is explained by transaction cost theory between markets and firms (Chen, 1999). Scholars have argued that the most suitable entry mode is the one that establishes balance between cost of resource commitment and control (Anderson and Gatignon 1986). Dunning (1993) has another point of view. His theory of foreign direct investment mentions three advantages. According to him location advantage, ownership advantage and internalization advantage are major determinant into which a firm should look before entering a market. This is also known as eclectic theory and urges firm to involve multiple theories before entering or serving an international market. Eclectic model, however, has critics in Ekeledo and Sivakumar (2004), who argue that it does not provide a specific choice with regard to the entry mode. Dunning, on his own, has also admitted to these shortcomings of the model. Goodnow (1985) argues that problem with theories, eclectic theory and internalization theory, is that they overlook a firm's internal characteristics and strategic alliances. In sharp contrast to transaction cost theory is the resource-based theory (Ekeledo and Sivakumar, 2004). This theory relies on shared control based on licensing, franchising, supply contract or management. Capron and Hulland (1999) say that this theory views competitive advantage as emanating from firms, and that the theory cannot be applied uniformly across all firms even though they may be belonging to the same industry. This is because capabilities and assets vary from firm to firm. Johansson (2000) has a different point of view on this theory and says that it focuses more on technology, products, know-how and allied services which enable a firm to succeed. Another market entry theory that is equally debated firms want to make foreign investments is institutional theory. This theory, suggests Zucker (1983), rests on the belief that organisations in a given segment have common understanding of what is logically correct and what constitutes meaningful behaviour fundamentally. This theory propounds that decisions that are taken by firms are influenced by external institutions. These also determine the firms' behaviours. By institutions the theory refers to anything from public opinion to regulatory structures, laws to courts, and interest groups to professions. That implies that both external and internal influences and pressures have a great role to play in the decisions that are made by firms to enter foreign destinations (Olive, 1991). Haveman (1993) is of the opinion that in order for decisions to gain legitimacy, firms must make it a point to assess both external and internal environments. Haveman terms this as internal isomorphism of both subsidiaries and parent firms. Porter's Five Forces Analysis China is an interesting market for Porter's Five Forces analysis. The growth of automobile industry in China is such that it sold more cars in 2009 than were sold in the US. Porter (1982) says that there are five forces that work in an industry during the competitive game. These are strategy context and enterprise rivalry, threat from potential entrants, substitute product threat, customers' bargaining power, and suppliers' bargaining power. In China the first one relates to the automotive industry policy. This is the first industry in the country which has a formal state industrial backing. This policy came into existence in 1987 and subsequently modified in 1994 and it stresses the need for three point which include shifting of automobile industry focus to passenger car from commercial vehicle, restructure industry and boost economies, and invite foreign inventors for technology transfer. As on date, China's three biggest Saic, Faw and Dongfeng have resulted in partnership with international major as GM, DaimlerChryler, VW, PSA and Toyata. Apparently competition is both from foreign as well as domestic firms. At present there are huge FDI investments in China's automobile industry through a total of more than 600 joint ventures. Since Volkswagen was the first entrant, it has been considered as a colossus of the scene there. New entrants pose a threat to that perception. This is because there is an explosive demand for more vehicles in the country. In 2002 the country sold 0.5 million units and the figures are rising. At the same time independent car makers in China such as Geely and SAIC-Chery have been emerging as aggressive marketers in economy car segment. But this all might change as the interest in hybrid cars picks up. That could pose threat from a substitute product. The biggest advantage in hybrid cars is supposed to be their emissions which product half the level of carbon dioxide as emissions (WMRC, 2004). Other factors that might contribute to changing equations in the automobile industry in China would be the bargaining tendencies and power of customers on one hand and suppliers on the other. Recommendations i. China's automobile industry is booming but still fragmented; this needs to be restructured. ii. The current focus of Chinese government is to attract foreign direct investment, but in the process it is ignoring its own manufacturers since benefit of FDI does not get passed on to one and all. iii. The longterm focus might shift to the hybrid cars, but since China is a huge car market it should be prepare well in advance for this transition so that the transition does not hit some very hard. iv. Upper end of the market is booming which the government is happy about, but it is not doing much for the small domestic segment. Conclusion This report has discussed international market entry and development in China and how automobile industry has competitively progressed in this country both in stiff competition with other firm in the segment and domestic car manufacturers too. The report has established certain entry modes based on market entry theories that are relevant to this industry. As the report establishes Chinese GDP has seen unprecedented growth in the last two decades and continues to rise. The increasing GDP and the population alike transform into proportionate demand for automobiles. The report analyses how important are the entry modes to gain a strong foothold in the expanding Chinese automobile sector. While analysing the internal and external market environments, it was clear that politically Chine made a big leap when it signed accession to WTO in 2003. Hailed as one of the most important happenings in Chinese history, it had a direct impact on the automobile sector. Given all these factors and the present scenario in automobile sector in China, it can be concluded that international entry and development of automobile sector in China is headed for a great leap. References Anderson, E. and Gatignon, H. (1986) ‘Models of foreign entry: transaction cost analysis and propositions’, Journal of International Business Studies, Fall, pp.1-25. Asia Kronels.com (2010) China’s not a homogeneous market. Available http://asiakronkels.wordpress.com/2010/11/15/chinas-not-a-homogeneous-market/. Accessed July 23, 2012. Capron, L. and Hulland, J. 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It is important for Delta to understand the complexities and challenges that face china's business environment.... … The paper "market Analysis of Delta Signal" is an outstanding example of a marketing case study.... The paper "market Analysis of Delta Signal" is an outstanding example of a marketing case study.... The company lacks presence in the Asian markets, hence a good time to venture there for the continent has many emerging economies there like China and India who are densely populated and can provide a larger market especially in the area of low-cost cars and cars for the middle class....
16 Pages (4000 words) Case Study

Guangdong Province in China - Industry Analysis

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9 Pages (2250 words) Case Study

Toyota Company Automotive Increase in Sales Units

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10 Pages (2500 words)

Comparison of Different Investments and Trade Performances between China and Japan

… The paper "Comparison of Different Investments and Trade Performances between China and Japan " is a perfect example of a micro and macroeconomic case study.... nbsp;The purpose of his essay is having a comparative analysis of the different investments and trade performances between two selected Asian countries....
9 Pages (2250 words) Case Study
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