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December 31, 2019viewpoints

Gao Feng Viewpoint | Reflecting on China’s Business Disruptions

Reflecting on China’s Business Disruptions

Foreword to China’s Disruptors Japanese Version

Since China’s Disruptors was published almost five years ago in 2015, much has evolved. China has continued to grow, albeit at a slower pace but on a much larger base. Global geo-politics has undergone drastic changes and populism and protectionism have started rising. Technology is quickly advancing and its applications in areas such as social media have created deep-rooted impact on how humans interact with each other. Issues that countries face, such as climate change, probability of a nuclear war and effects of the emerging disruptive technologies are increasingly global in nature and transcend national borders.

When China’s Disruptors first came out, most of the world wasn’t much aware of China’s growing entrepreneurial abilities and the innovations that it had started generating. In China’s Disruptors I profiled a number of Chinese entrepreneurs in an attempt to piece together a picture of how China’s entrepreneurship has come about over different generations within a span of several decades, and how they contribute to business innovations along the way. Having evolved from a Soviet style planned economy after the end of the 1970’s, this process hasn’t been easy and was at times tumultuous. But by the early to mid-2010’s, it was already pretty clear that Chinese entrepreneurs have become a major force driving its growth and entrepreneurship has become a key part of the fabric of the Chinese society. The introduction of smartphones in 2007 and the underlying wireless internet technology proved to be a major enabler of much of this wave of business innovations.

Since then, innovation and entrepreneurship have continued to evolve in speed and intensity, in tandem with each other. Most observers agree that today’s China is innovative in businesses. However, views differ on how “innovative” China really is and how sustainable the phenomenon can be. Tearing off the “copycat” label, China has developed a thriving internet and technology sector which has grown twice as fast as the overall gross domestic product over the past decade. According to the Hurun Global Unicorn List 2019,1 China now leads the world with the largest number of unicorns (unlisted companies valued at 1 billion US dollars or more) at 206, followed by the US at 203 and India at 21.

China’s demonstrated ability to innovate has been in sharp contrast to beliefs of many pundits who for a long time, have insisted that lack of political freedom, a state-controlled command economy, rote learning education and inadequate intellectual property rights’ protection constitute the reasons why China cannot be innovative. Some have even cited the small number of Nobel laureates China has produced in natural sciences as proof of the innate inability of the Chinese to innovate.

Source: Baidu

While none of these factors is necessarily or entirely wrong on a standalone basis, in totality, China’s economic-political system presents a different case. Several drivers contribute to the rapidly growing culture of innovation in China. First and foremost is the “why not me” mindset. During the early days of reforms and opening up, many Chinese entrepreneurs witnessed a huge gap between their own economic conditions and those of accomplished achievers in countries outside of China. This compelled them to work hard and show the world that they too could succeed. As successful Chinese entrepreneurs began to emerge over time, they became role models for other Chinese, especially younger entrepreneurs, who aspire to replicate these role models’ success.

Unlike the “shock therapy” approach that Russia adopted right after disintegration of the former Soviet Union, China’s reform and opening has been gradual. While challenges have been many and varied, this has provided opportunities to innovate. Each time a new reform measure is implemented, it exposes “pain points” that have existed for a long time. In turn, these pain points offer entrepreneurs the opportunity to create new solutions with the help of technology. With increasing income level and more exposure to the rest of the world, the Chinese consumers are generating new demand in products and services in rapid cycles. China’s expanding market and digital-savviness of its people also enable entrepreneurs to scale up rapidly, learn from the market and adapt. Competition meanwhile can be extremely intense, driving entrepreneurs to constantly be on their feet, seeking the next round of innovations. As more experiments are taking place and the probability of achieving success in innovation is low, failures have become pretty common but China has evolved culturally too and failure is now accepted as a normal phenomenon in the society.

Many entrepreneurs who are successful today didn’t succeed the first time and in fact have been serial entrepreneurs. Finally, and not the least, venture capital and angel investors’ funds are abundant and available, supporting entrepreneurs at different stages of growth.

These entrepreneurs have also inspired government officials to formulate policies to encourage entrepreneurship. In 2014, Chinese Premier Li Keqiang officially proposed “mass entrepreneurship and innovation” as a national priority, based on achievements of Chinese entrepreneurs in innovation. That, in turn, stimulated more interest from more people to become entrepreneurs and to pursue innovative endeavors.

Besides the reasons cited above, China’s “three-layered duality” development model is the key to the country’s resilience to transformation. At the top, the central government has set the country’s overarching strategy – developing into a technologically advanced and innovative society. At the grass-roots level, private sector entrepreneurs have re-emerged (since the end of the Cultural Revolution) and become a major force driving the country’s economic growth. And in the middle, China’s local governments channel their resources to push national and local priorities, often in close collaboration with entrepreneurs. Leading local governments provide funding to start-ups, as well as incubation infrastructure to support their ventures. While local governments often compete with each other to optimize utility of innovation to people living in their jurisdictions, some also cooperate with companies in regional clusters which may include other cities or provinces also. For example, the “Greater Bay Area” consists of nine cities in Guangdong Province, including Shenzhen and Guangzhou, together with Hong Kong and Macao.

The dual structure of enterprise ownership in China, comprising state-owned enterprises (SOEs) and privately-owned enterprises (POEs), is a definitive feature of its economy. While there were – and are – glitches between these two types of enterprises, they have also developed a symbiotic relationship. SOEs take on initiatives related to the country’s mission-critical projects, such as the high-speed railway, which was built from virtually nothing into the world’s most extensive system over slightly more than a decade. Meanwhile, POEs, led by China’s entrepreneurs, have become the main drivers of innovation, often enabled by technologies such as the wireless Internet. According to the data provided by the Evergrande Research Institute,2 Chinese POEs have achieved an admirable feat that can be conveniently described as “456789” (using around 40% of the country’s bank loans, contributing more than 50% of tax revenue, producing more than 60% of GDP, accounting for more than 70% of industrial upgrades and innovation, providing more than 80% of urban employment and owning more than 90% of enterprises).

Source: Baidu

China’s automotive industry is a good example. Technology is making autonomous driving an increasingly commercial reality, initially in goods movement and over time, in people movement. Private sector companies have shown that “mobility-as-a-service” (MaaS) is a large, game-changing business in China’s increasingly shared economy. To catch this trend, companies – whether traditional OEMs or new disruptors, locals or foreign, state-owned or private – are all trying to position themselves as “automobility” players. They often take up new forms of partnerships or alliances, competing or collaborating.

Toyota is one example of a company that has recognized the importance of China in the automotive industry and the need to develop a separate China specific strategy in order to meet China’s unique communications, information technology and software requirements. This September, Toyota invested 600 million US dollars in DiDi, China’s leading MaaS company. Along the way, the two have formed a joint venture through Toyota’s local joint venture (with Guangzhou Automotive Corporation) with a plan to provide futuristic vehicle-related services to DiDi’s drivers. These partnerships have been formed alongside similar moves targeting the US-led markets, where Toyota has played a major role in the forming of Monet (a MaaS joint venture between Toyota, other Japanese carmakers and tech investment firm,Softbank) and making multiple investments in Uber, the leading MaaS player in the US.

Meanwhile, the Chinese central government has made smart cities construction a national strategic imperative. More extensive, intelligent and connected smart infrastructure will enable more effective and speedier development of “automobility” including smart and connected vehicles, MaaS and ultimately, autonomous driving. Both SOEs and POEs are active stakeholders and play a role in this initiative. Among others, key examples include Hangzhou’s “Smart City Brain” project and pilot zones in Shanghai, Chongqing, Wuxi and other cities for development of autonomous driving. These developments are fundamentally disrupting the automotive industry.

Another example is the artificial intelligence (AI) industry. Here too, collaboration between governments and businesses is just as significant. Last December, China’s Ministry of Industry and Information Technology released a three-year action plan that called for breakthroughs in landmark AI products, focusing on “core competencies” such as intelligent sensors and neural network chips. Following the lead of the central government, Baidu, Alibaba, Tencent, iFlytek and SenseTime have formed the “national AI squad” for backing the development of autonomous vehicles, cloud-empowered smart cities, medical imaging, voice recognition and intelligent vision.

While the US may be ahead in core research and development at least for now, China is catching up as the Chinese are faster in materializing commercial applications. Robin Li, the founder of Baidu, once said “the penetration of AI technology is constantly growing, at the same time the AI capability is exploding. No company can claim to be independent of AI”, stating that AI commercialization has moved towards a booming stage. Besides Internet giants, there are many entrepreneurial technology companies participating in the competition. For instance, companies like SenseTime, Megvii and Horizon Robotics are all leading AI companies with stunningly high valuations.

China is fast evolving into a leader in innovation, developing new disruptive technologies and their applications. Businesses in general and the thriving tech entrepreneurs in particular are working in concert with governments both local and central, taking China on to new paths and new platforms. As a result, the industry structure, competitive conduct and financial performance of all sectors in China will evolve in their own ways into completely new forms.

One can always nitpick and say that the lack of even one given component of this overall change, China might not be at the cutting edge of all aspects of technology and innovation. However, China’s edge lies in its overall approach and its systemic characteristics. This is being manifested through the country’s three-layered duality approach in the world’s largest and digitally-savvy consumer population.

As China continues the opening up and reform process, and its market continues to grow, innovation will become even more prevalent. Of course, the pathway will inevitably involve many ups-and-downs. The current US-China relationship, for example, does cast a huge shadow over China’s march down the path of innovation. No one should underestimate the risks involved. China won’t do everything perfectly well and the China development model, which is experiential-based, will undergo more stress tests going forward — no development model is perfect and China’s included. However, the intrinsic nature of China’s system and the scale and diversity of its economy provide a source of resilience that is not to be discounted.

Today, internet giants Alibaba and Tencent rank among the ten most valuable companies in the world. Other tech companies such as Meituan Dianping, Ant Financial, ByteDance, DiDi Chuxing, Pinduoduo, JD.com and Xiaomi are all growing fast and have become the next pack of “exponential organizations” together with other tech incumbents, Baidu and NetEase. Most importantly, entrepreneurship has become the very fabric of the Chinese culture in which entrepreneurs are often young (many are “post 90s”); they are present not only in innovative hubs such as Shenzhen or Beijing’s Zhongguancun, but also across many parts of China. Perhaps most importantly, as a society, China has accepted failure in entrepreneurial pursuit as a part of life. This is a sea change in China.

China’s innovation is manifesting across a wide range of sectors, from more traditional sectors such as consumer and home products/electronics, to newer sectors such as “new retail”, “big health”,new energy vehicles and mobility-as-a-service*. With major emerging disruptive technologies, such as Internet of Things (IoT), 5G connectivity, cloud computing, AI and blockchain thriving at the same time in the world’s largest digital economy, and a data privacy regime that is more relaxed compared to that in the West, China is at the cusp of entering another tech innovation era that probably will be of a larger scale and have a longer duration than the wireless internet era.

Source: Baidu

Against the backdrop of a large domestic market, entrepreneurs can launch and improve their business innovations based upon trials and market feedback. Young, daring, diverse and often epitomized by their speed and agility, the Chinese entrepreneurs are not afraid of using the market as a test-bed for new ideas. Probability of success in entrepreneurial pursuits is always low. Only a small percentage of people who try end up being successful. But with a large number of people trying, a small percentage of a large number can have a large impact.

China has evolved itself into a rather unique situation – innovation and entrepreneurship have become an integral part of the Chinese culture. This won’t be going away any time soon.

The rapid advancement of innovations in China requires all companies, foreign-owned included, to frequently revisit their strategies in China. In the past, foreign companies used to copy and paste products, services or business models from their home markets or other parts of the world and expected that to work. In some cases, it did work; in some cases, it required some local adaptation and in some minority cases, it simply didn’t work, but largely that was what foreign companies did. However, with the rapid evolution of the innovation landscape in China, foreign companies are increasingly discovering that this old game no longer serves them well. They need to come up with new games for competing in China especially against new and emerging and often very capable local competitors. Increasingly, they have come to realize that competing on their own (solo) or through binary joint ventures won’t necessarily lead to sufficient needed capabilities to compete. Not only would they need to learn and embrace China’s innovation culture into their own repertoire but also to embed themselves into multi-party business (and often government) ecosystems in order to build the capability to compete. Paradoxically, the trade war with the US has accelerated China’s opening up and reform and more sectors have been opened for foreign participation. This includes, of example, banking, insurance, asset management, securities, digital payment, chemicals and others. Foreign companies have a greater degree of freedom to maneuver in China but the requirements of success have also become higher due to increasing prevalence of disruptive technologies, changes in demand patterns of the Chinese consumers, intensifying competition especially that due to the rise of Chinese competitors, the changing role of the local governments and how they are building new and smart infrastructure for enabling new business models, as well as the increasingly international nature of Chinese business and government behavior.

Stakes have become much higher. Foreign companies need to build a strong local team on the ground and empower it, and at the same time, best leverage their global capabilities for success in China. They will need to build greater intimacy with the Chinese market and the general social-economic circles in China and be able to sense the operating environment better. Speed, agility and resilience are key sources of competitive advantages.

* “New retail” refers to the integration of online and offline shopping using data and customer engagement techniques. “Big health” refers to all sectors related to providing a comprehensive range of products and services in healthcare. New energy vehicles (NEVs) refers to non-internal combustion engine vehicles. Mobility-as-a-Service refers to transportation services based on the concept of “shared economy”.

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Founder & CEO of Gao Feng Advisory Company, a global strategy and management consulting firm with roots in China. —learn more
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