Executive Briefings

China's 'Second Mice' Enter the Capitalist Maze

So we have a handful of Chinese companies that haven't grown up by the traditional method of attaching an umbilical cord to the government and receiving endless amounts of financial support and monopoly status in return. These "Second Mouse" ventures are going head to head, both in China and around the world, with entrenched, Western-style multinationals. The question is: can they really compete?

The concept of semi-capitalist Chinese companies is a relatively new one, says David G. Hartman, China practice director with Blue Canyon Partners, Inc. Fifteen years ago, there weren't any that played by free-market rules. Now we're seeing companies like Lenovo challenge the Hewlett-Packards and Apples of the world. In the process, they're moving toward establishing Chinese brands. That's a big departure from the previous business model of turning out generic products for well-known Western sellers of electronics and other types of consumer goods.

This new breed of competitor might have started out making "good enough" products for the Chinese market, but has evolved into entities that place a premium on product quality and name recognition. (Even if the name was bought, as with Lenovo's acquisition of IBM's Thinkpad line of laptops, and the Zhejiang Geely Holding Group's purchase of Volvo from Ford Motor Company.)

The emergence of Second Mouse companies is of critical interest to China, which has been striving to build a solid middle class that can afford to purchase branded merchandise, and reduce the nation's reliance on exporting as a means of driving economic growth. Equally important to China, of course, is propagating its own "brand" throughout the world, symbolized by successful, domestically based companies that can dominate global markets.

Hartman sees this trend as a natural evolution from old-style contract manufacturers, who are growing tired of making stuff for others on razor-thin margins, and now want to keep a bigger share of the profits at home. (It would be amusing, if not inevitable, if these Chinese producers were to outsource their manufacturing operations to a low-cost provider in, say, Vietnam or Malaysia. For now, Hartman says, they're looking to leverage their expertise in low-cost production to compete with established brands.)

In a sense, the Chinese are simply following the same path that was previously trod by the Japanese, Koreans and Taiwanese. All of them started out making low-end merchandise, then graduated to more sophisticated products as their domestic populations grew richer and more demanding of the comforts of capitalist societies. What's different is the pace of change; China's transformation is far more rapid than that of its predecessors. Already we're reading of wage increases and labor shortages in China - classic symptoms of a maturing, post-industrial economy.

One has to ask, however, whether these aggressive newcomers are completely free of their roots in a socialist state. Many are still partially government-owned, raising doubts as to whether they are really independent. "It's still a question in my mind whether they're ever going to jump over that last hurdle and truly become market-driven," says Hartman. Will they place the interests of private shareholders ahead of concerns such as employment, as Western multinationals do on a regular basis? The answer is unclear.

Much depends on whether the Chinese government is serious about allowing domestic rivalries within key industries. That's rarely the case today, where large bureaucracies have grown up in sectors such as utilities and banking. The telecommunications industry, on the other hand, has been opened up to a measure of competition, even though the players are still beholden to the state.

The first battleground will be China itself. Consumer markets there are relatively free and open, says Hartman, although small entrepreneurs have a hard time getting traction. "The Chinese market will be very good at weeding out the ones that are great-performing companies from ones that aren't," he says. "It will be a tough environment for state enterprises to compete in, unless they behave in a very market-oriented way."

Chinese companies' march to success faces one short-term roadblock, in the form of a suddenly faltering economy. The nation that appeared unstoppable just a few years ago now finds itself battling seesawing inflation, a moribund real-estate market, depressed industrial production and a falloff in consumer demand. (Not to mention the highly questionable condition of China's banking sector, which seems ever on the verge of a meltdown.) China might be a juggernaut, but it's just as susceptible to economic cycles as the rest of the world.

To my mind, though, the biggest question mark is still the authoritarian nature of China's government. (Witness the recent speculation and secrecy over the whereabouts of would-be president Xi Jinping. Can you imagine that happening in a free society?) In a carefully controlled society, there's little room for business innovation and individualism. Where, after all, is the Chinese Steve Jobs?

"What you need to do is free up the system, allow creative people to start out in a garage, and let them grow," says Hartman. "China is the antithesis of that. It makes it hard to start a company."

Will Chinese companies become global leaders on their own merits, able to slug it out in a capitalist world? Not until China permits a similar measure of freedom at home.

- Robert J. Bowman, SupplyChainBrain

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So we have a handful of Chinese companies that haven't grown up by the traditional method of attaching an umbilical cord to the government and receiving endless amounts of financial support and monopoly status in return. These "Second Mouse" ventures are going head to head, both in China and around the world, with entrenched, Western-style multinationals. The question is: can they really compete?

The concept of semi-capitalist Chinese companies is a relatively new one, says David G. Hartman, China practice director with Blue Canyon Partners, Inc. Fifteen years ago, there weren't any that played by free-market rules. Now we're seeing companies like Lenovo challenge the Hewlett-Packards and Apples of the world. In the process, they're moving toward establishing Chinese brands. That's a big departure from the previous business model of turning out generic products for well-known Western sellers of electronics and other types of consumer goods.

This new breed of competitor might have started out making "good enough" products for the Chinese market, but has evolved into entities that place a premium on product quality and name recognition. (Even if the name was bought, as with Lenovo's acquisition of IBM's Thinkpad line of laptops, and the Zhejiang Geely Holding Group's purchase of Volvo from Ford Motor Company.)

The emergence of Second Mouse companies is of critical interest to China, which has been striving to build a solid middle class that can afford to purchase branded merchandise, and reduce the nation's reliance on exporting as a means of driving economic growth. Equally important to China, of course, is propagating its own "brand" throughout the world, symbolized by successful, domestically based companies that can dominate global markets.

Hartman sees this trend as a natural evolution from old-style contract manufacturers, who are growing tired of making stuff for others on razor-thin margins, and now want to keep a bigger share of the profits at home. (It would be amusing, if not inevitable, if these Chinese producers were to outsource their manufacturing operations to a low-cost provider in, say, Vietnam or Malaysia. For now, Hartman says, they're looking to leverage their expertise in low-cost production to compete with established brands.)

In a sense, the Chinese are simply following the same path that was previously trod by the Japanese, Koreans and Taiwanese. All of them started out making low-end merchandise, then graduated to more sophisticated products as their domestic populations grew richer and more demanding of the comforts of capitalist societies. What's different is the pace of change; China's transformation is far more rapid than that of its predecessors. Already we're reading of wage increases and labor shortages in China - classic symptoms of a maturing, post-industrial economy.

One has to ask, however, whether these aggressive newcomers are completely free of their roots in a socialist state. Many are still partially government-owned, raising doubts as to whether they are really independent. "It's still a question in my mind whether they're ever going to jump over that last hurdle and truly become market-driven," says Hartman. Will they place the interests of private shareholders ahead of concerns such as employment, as Western multinationals do on a regular basis? The answer is unclear.

Much depends on whether the Chinese government is serious about allowing domestic rivalries within key industries. That's rarely the case today, where large bureaucracies have grown up in sectors such as utilities and banking. The telecommunications industry, on the other hand, has been opened up to a measure of competition, even though the players are still beholden to the state.

The first battleground will be China itself. Consumer markets there are relatively free and open, says Hartman, although small entrepreneurs have a hard time getting traction. "The Chinese market will be very good at weeding out the ones that are great-performing companies from ones that aren't," he says. "It will be a tough environment for state enterprises to compete in, unless they behave in a very market-oriented way."

Chinese companies' march to success faces one short-term roadblock, in the form of a suddenly faltering economy. The nation that appeared unstoppable just a few years ago now finds itself battling seesawing inflation, a moribund real-estate market, depressed industrial production and a falloff in consumer demand. (Not to mention the highly questionable condition of China's banking sector, which seems ever on the verge of a meltdown.) China might be a juggernaut, but it's just as susceptible to economic cycles as the rest of the world.

To my mind, though, the biggest question mark is still the authoritarian nature of China's government. (Witness the recent speculation and secrecy over the whereabouts of would-be president Xi Jinping. Can you imagine that happening in a free society?) In a carefully controlled society, there's little room for business innovation and individualism. Where, after all, is the Chinese Steve Jobs?

"What you need to do is free up the system, allow creative people to start out in a garage, and let them grow," says Hartman. "China is the antithesis of that. It makes it hard to start a company."

Will Chinese companies become global leaders on their own merits, able to slug it out in a capitalist world? Not until China permits a similar measure of freedom at home.

- Robert J. Bowman, SupplyChainBrain

Comment on This Article