By Orit Gadiesh, Philip Leung, and Till Vestring

Presented by

Multinationals and local firms for the first time are squaring off in Chinas rapidly growing middle market a critical staging ground for global expansion and the segment from which world-beating companies will emerge.

CATERPILLAR
The world leader in construction equipment US based In 1975,As the Chinese government invested massively in infrastructure, Caterpillar helped pave the way, literally, for economic growth and modernization in the worlds fastest-growing market for construction

Caterpillar got its start in China by selling goods

To Chinese government High quality equipment to the private sector as a premium segment of the market emerged.

But it never broadened its focus to include other segments

Aim of Multinational Companies by focusing to chinas market

Goldman Sachs estimates that China will account for 36% of the worlds incremental GDP between 2000 and 2030. Businesses wanting to succeed globally will need to win in China first. They are conditioning themselves for worldwide competition tomorrow Theyre building the scale, expertise, and business capabilities theyll need to export their China offerings to other large emerging markets (India and Brazil, for instance) and, ultimately, to the developed markets

An Evolving Opportunity
Historically, there has been a simple structure to Chinas markets: at the top, a small premium segment served by foreign companies realizing solid margins and rapid growth At the bottom, a large low-end segment served by local companies offering lowquality, undifferentiated products (typically 40% to 90% cheaper than premium ones)

Middle segment of market

Growing very fast Creating intense competition

By the early 2000s,Komatsu, Hitachi, Daewoo, and other competitors from Japan and Korea were in the middle market with tools and equipment that cost less but were still reliable. Local manufacturers that had previously focused low end ,now started to focus on middle market

REASON FOR GROWING GOOD ENOUGH MARKET (MIDDLE)

Recent shifts in consumer buying patterns and preferences. Shifts are coming in two direction

(1) Consumers with rising incomes are trading up from the low-end products they previously purchased. (2) higher-income consumers are moving away from pricey foreign brands and accepting less expensive, locally produced alternatives of reasonable quality.

# Chinas middle market is growing faster than both the premium and low-end segments. # In some categories, the good-enough space already accounts for nearly half of all revenues.

# Eight out of every ten washing machines and televisions now sold in China are goodenough brands. # It should come as no surprise, then, that China and, in particular, its opportunity-rich middle market is increasingly capturing multinational executives resources and attention.

CFO OF GENERAL MOTORS Shanghai-based GM China Group, recently told the Detroit News:

General motors and ColgatePalmolive

GM had traditionally been an underperformer in the market for small cars. its acquisition of Koreas ailing Daewoo Motor in 2002 enabled it to compete and ultimately take a leadership position in China. Daewoo-designed cars now make up more than 50% of GMs sales in China, currently its second biggest market

Colgate-Palmolive made similar moves in China. Entered into a joint venture in the early 1990s with one of Chinas largest toothpaste producers, and it acquired Chinas market leader for toothbrushes a decade later Now exports its China products to 70 countries

CHINA

CHINA

Response From Local Producers (Automobile)

Domestic carmakers like Geely and Chery have eaten away at Western companies market share in China by introducing good-enough cars for local consumption Started exhibiting vehicles at car shows in the United States and Europe, buying available Western brands, and exporting vehicles to other emerging markets

The important issues in entering the middle market

when or when not to enter the fray. Attractiveness of the premium segment: Is it still growing? Are companies still achieving high returns or are returns eroding? Another consideration is your companys market position: Are you a leader or a niche player?

Multinational companies need to perform

Market analysis Competitors analysis Customer segmentation Need analysis Application of classic strategy tools Determine key success factors

# This will help in taking of decisions like Whether to go partnership or acquisition of local firms.

The companies should instead focus on lowering their costs and innovating to maintain their premium or niche positions and to sustain their margins Market research suggested that its customers were still willing to pay more for reliability, even with a variety of lower-cost choices out there. The company continued to invest in R&D, hoping to further differentiate its products from those of local players however. If growth in the premium segment is slowing and returns are eroding, multinational corporations will need to enter the good-enough space. Even those companies that because of their strong competitive position initially abstain from entering the middle market should revisit their decision frequently to guard against emerging competitive threats. Chinese companies will need to move up market as the lower-end segment becomes increasingly competitive.

The Approaches of companies to move into good enough space

Leading multinationals in the premium segment attack from above. Chinese challengers in the low-end segment tend to burrow up from below Finally, multinationals that cant reduce their costs fast enough, and domestic players looking for more skills, technology, and talent, buy their way in.

Challenges Attack from above

Multinational companies dominate Chinas small but high-margin premium segment. Move toward the middle certainly holds a fair amount of risk for those already thriving in the premium space. selling to consumers in less-than-premium segments could negatively affect sales of high-end products. Companies also run the risk of fueling gray markets for their wares.

Tackling the problems

Multinational managers need to conduct careful market analysis to understand the differences between Chinas premium and good-enough segments Multinational executives also need to think about the degree to which the premium and goodenough segments will converge over time Managers can use traditional forecasting methods (scenario planning, war gaming, consultations with leading-edge customers, and so on

strategy

GE Healthcare

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Need to consider their possible opportunities in the goodenough space:

Can they take advantage of their lower purchasing costs, greater manufacturing scale, and distribution synergies? which capabilities they may need to develop

How adept is their organization at designing products, services, brands, and sales approaches that will attract customers in the middle market without diminishing their companys position in the premium space?

Burrowing Up from Below

Multinationals for years underestimated the ability and desire of local players in the low end of the market to move up and compete Recent developments have strengthened local competition in China and facilitated Chinese companies' moves up market and beyond. Local companies that were operating not well, they started to make consolidations. Red Star, Wuhan Xi Dao, and 16 other money-losing concerns shifted and resifted throughout the 1990s to form appliance maker Haier. Several of these emerging domestic champions have become direct challengers to global companies in a variety of industries Customers now no more willing to pay high prices The Italian dairy giant Parmalat discovered exactly that when it tried selling fruit-flavored yogurt for the equivalent of 24 cents a cup. Instead, consumers went with local brands at half the price.

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It seemed that brand, innovation, and quality the hallmarks of multinationals in China were no longer critical points of differentiation in customers minds. This price sensitivity is opening up new ground for ambitious Chinese companies traditionally focused on the low end The journey from low end to good-enough to global usually takes a decade and then some but more and more Chinese companies are embarking on it

Challenges for local companies

Lack of appropriate leadership Lack of managerial talent Inability to compete with global players through innovation or by establishing a strong brand Lack of marketing skills Poor research and development situation Ningbo Bird failure Huawei

Buying Your Way In

Mergers and acquisitions. Chinas entry into the World Trade Organization in 2001 fueled a surge in M&A activity Resistant from government Xugong Group Construction Machinery, Chinas largest construction machinery manufacturer and distributor, the U.S. private equity firm Carlyle Group met with unexpected resistance from the government and ended up twice reducing its stake, ultimately to 45%

Officials in Beijing insisted the nations construction equipment industry should be controlled by domestic hands.

Gillettes 2003 acquisition of Nanfu, (Chinas leading battery manufacturer)

Gillettes Duracell division throughout the 1990s was losing market share in China to lower-priced competitors By 2002, Duracells share of the Chinese domestic battery market was 6.5%. By contrast, Nanfu controlled more than half the market.

Gillette decided to buy into the good-enough market, acquiring a majority stake in Nanfu.
Gillette was extremely careful to protect both Duracells and Nanfus brands in their respective segments.

Gillette continues to sell premium batteries in China under the Duracell brand and has maintained Nanfu as the leading national brand for the mass market.

Local Companies

Chinese companies are also wrapping their arms around acquisition strategies Attempting to establish their presence in the middle market by purchasing brands, talent, and other resources from target companies in Europe and North America. Theyve met with mixed results Lenovos acquisition of IBMs PC division

Acquisition experiences of TCL, a major Chinese consumer electronics manufacturer, TCL acquired French firm Thomson

Ending Remarks

In the 1960s and 1970s, the mantra for many organizations was Capture U.S. market share, capture the world. Today, China and its middle market in particular has become the object of multinationals ardent pursuit. The enormous market potential of the countrys population, the formidable growth of the economy, and Chinas established position in low-cost sourcing and manufacturing are providing competitive advantages for many companies Local Chinese companies know their futures depend on entering the good-enough space and attacking global leaders (and their premium positioning) by offering low-cost products of reasonable quality that they can eventually take to the world Multinationals are beginning to recognize that ceding the middle space to Chinese firms may breed competitors that will ultimately challenge them on a global scale.