Preston Smith's Corner

Book Review: Dragons at Your Door: How Chinese Cost Innovation Is Disrupting Global Competition

Ming Zeng and Peter J. Williamson. Boston: Harvard Business School Press, 2007. 239 + xii pages. US$29.95.

There has been a flood of books about China lately, but this one is especially pertinent for Journal of Product Innovation Management readers, as it specifically addresses Chinese product development strategies. It presents a disturbing picture of Chinese incursions into market after market by breaking established strategies of international competition. “What makes the rise of the dragons a new and disruptive source of competition is their use of cost innovation to target low-end segments in novel ways. Rather than simply being low-price or no-frills, they are offering better value for money with an innovative twist” (p. 94).

Disruptive competition is not new. Many contemporary authors — most notably Christensen (1997) but also others (e.g., Kim and Mauborgne, 2005)— have addressed it. Whereas Christensen focuses on disruption via technology, the dragons disrupt by changing the value–cost equation. Here the Chinese can bring to bear their enormous reserves and experience in providing value at low cost.

The authors, Ming Zeng and Peter Williamson, are professors at Cheung Kong Graduate School of Business (Beijing) and INSEAD, respectively. Their thesis is that although we have considered the Chinese threat mainly to be one of low-cost manufacturing, the emerging threat is what the authors call cost innovation: the ability to exploit their low costs in radically new ways across all parts of the business—including research and development (R&D), marketing, and customer service—to offer customers dramatically more for less. “… As leading Chinese firms go global, they are adopting strategies that challenge some of the basic assumptions on which a lot of companies from the United States, Europe, and other developed markets depend to remain profitable” (p. vii).

Zeng and Williamson have a knack for providing three answers or three factors for any subject, so they reduce the myriad ways the Chinese apply cost innovation to three areas: (1) high technology at low prices; (2) product variety at mass-market prices; and (3) specialty products at low prices. The present review describes the first and last of these.

In the high-tech-at-low-price category, the Chinese firm Dawning has put supercomputer technology into the ordinary servers used in information technology networks all over the world. Whereas existing supercomputer manufacturers reserve this technology for those able to afford expensive proprietary chips, Dawning obtains comparable performance by ganging together dozens of ordinary processors on a special motherboard of their own design. Furthermore, the processors they use are not even state of the art, because such chips are denied to them by U.S. government export restrictions. Notice here that Dawning is not playing by the so-called rules by which most companies play, which are to (1) achieve superior performance by advancing the state of the art in chip design and (2) offer the highest performance only in their most expensive products.

In the specialty-products-at low-prices category, appliance manufacturer Haier broke into a niche market for wine coolers by offering what had been considered a high-priced luxury at less than half of the then-prevailing price through Sam’s Club discount houses. At these low prices the market expanded greatly, but the incumbents’ high cost structure prevented them from participating in it.

What is exceptional in both of these cases—and is characteristic of the many examples in this book—is that the Chinese competitors did not play by conventional rules. They purposely skirted the existing players and their strategies, and this is what makes this type of competition dangerous for incumbents. The Chinese seem to be following their propensity for avoiding direct conflict and following the philosophy of Sun Tzu (2003) by winning battles without direct warfare.

Many of the dragons use their home market to gather strength. This market is huge, highly competitive, and open to expansion as the buying power of the typical Chinese expands. But to serve this market, a supplier must find ways to deliver value at drastically reduced prices—that is, as the authors put it, to apply cost innovation. The Chinese have an advantage here because they know their domestic market well, they innately understand that cost innovation is the key to opening the market, and their lower costs enable them to conduct all parts of product development at approximately one fifth of what it would cost a Western company—include Japanese companies in Western.

This does not always mean providing the same product for less, as the previous Dawning example of high-performance servers shows. It often means providing a better product for less, and companies that fail to do this often fall to the dragons. For example, Whirlpool assumed that ordinary refrigerators would be adequate for the Chinese market and reserved premium technologies for higher-priced markets. The dragons used cost innovation to develop advanced “green” refrigerants without chlorofluorocarbons at comparable prices, making the Whirlpool nongreen products look dated and thus shifting the market to the dragons.

Operating in the Chinese market offers some advantages that are open to foreigners but come more easily to the dragons. China’s government research agencies are a storehouse of useful product technology, and many Chinese manufacturers create complex hybrid government–public–private ownership arrangements that give the company the best of government resources, management autonomy, and isolation from shareholders. Finally, the rudimentary rural Chinese logistical system with which the dragons have learned to cope over the years prepares them well to offer products in other developing countries.

In fact, the dragons’ global rollout strategy often starts in China, where they can establish a large local market and gain economies of scale, and then moves to other countries, beginning with less developed ones first. Starting in less developed countries has two advantages for them. One is that they are at home in such regions because they resemble rural China, and the other is that they can gather global strength while remaining under the radar of Western multinationals, which often classify developing countries as rest-of-world, thus rating a low priority. Just at they did in China, the dragons build strength in these countries by unlocking latent demand. Consequently, by the time the Western multinationals recognize the threat, it is too late.

Western firms have inadvertently aided the dragons by investing in China and by outsourcing their operations to China. Both of these Western strategies provide economic advantage to the Chinese and transfer Western technology to them, which develops the management expertise needed to develop products and run businesses. In addition, as globalization has leveled the playing field; the dragons have been able to go abroad to find what they need. For instance, they have made good use of Western consultants to fill key gaps in their knowledge.

Zeng and Williamson also make it clear that the dragons face some obstacles. One of these is product areas where the Chinese market is small, which deprives them of the opportunity to start by building strength domestically. Another is products with complex, tightly integrated value chains, such as packaged food or pharmaceuticals, in which it is difficult to break up the value chain and attack it piecemeal by applying cost innovation to a critical portion. Such products also often possess strong brands, which is another Chinese weakness.

This book provides examples from a broad range of industries, such as automobiles and motorcycles, aircraft, electronics and white goods, computers, medical diagnostic equipment, and shipping containers. The authors describe the dragons’ process of gaining a foothold in world markets as one of looking for loose bricks, which, unfortunately, are more easily spotted by them than by the incumbents. Loose bricks “… are segments in which cost innovation (not just low labor costs) provides a potentially powerful source of competitive advantage. Second, and equally important, they are segments in which Western incumbents are reluctant or ill equipped to mount a strong counterattack” (p. 91).

There are some flaws in the book. It rambles and is somewhat repetitious; it could be perhaps a third shorter with some tightening. I became a bit tired of the authors’ tendency to reduce all types of vulnerable products to the three categories outlined previously and to other similar categorizations. Most importantly, Zeng and Williamson provide little specific guidance for Western incumbents to protect themselves against the dragons. There is a chapter, “Your Response,” toward the end of the book, but it is largely more examples of dragons cleverly applying cost innovation to overcome firms like Maytag and Volkswagen. I encourage the authors to continue their important research and to publish a sequel on opposing this threat, as Christensen (2003) has done. But if your firm has any chance of being vulnerable to Chinese competition, do not wait for a sequel; read this book now while you have the strength to deal with it.

Christensen, Clayton M. (1997). The Innovator’s Dilemma: When New Technologies Cause Great Firms to Fail. Boston: Harvard Business School Press.
Christensen, Clayton M. (2003).

The Innovator’s Solution: Creating and Sustaining Successful Growth. Boston: Harvard Business School Press.

Kim, W. Chan and Mauborgne, Renée (2005). Blue Ocean Strategy: How to Create Uncontested Market Space and Make the Competition Irrelevant. Boston: Harvard Business School Press.

Sun Tzu (2003). The Art of War. Philadelphia: Running Press Book Publishers.

(c) Copyright 2013 Preston G. Smith. All Rights Reserved.

This Review was published in Journal of Product Innovation Management, November 2007, pp. 630-632

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