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Case study: From imitation to        innovation at Zongshen Industrial                      Group                         ...
in regulations were introduced again in 1992 and individuals were allowed to set up privatecompanies, Zuo used this know-h...
Towards innovationIn a more mature market, the users would search for a better quality instead of the traditionallow-end s...
Chinese culture, management positions where those highly desired by technical staff,preventing in that way that they could...
Internal factors               Strengths                                      Weaknesses                      manufacturi...
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Innovation in China: Zonghsen case study. Carles Debart


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Innovation in China: Zonghsen case study. Carles Debart

  1. 1. Case study: From imitation to innovation at Zongshen Industrial Group Carles Gonzalez Debart Innovation Management, University of Strathclyde, Glasgow, UKIntroductionThe case study we are analysing is based in the development of Zongshen Industrial Groupsince its creation in the 80s until nowadays. In these almost 30 years of life, Zongshen hasgrown from a small assembler of motorcycle engines to an important global player in the smallgasoline engine and motorcycle industry. Ironically, what was the main trigger of first year’sfast and prosperous development has turned into a big threat that has had to be addressedthrough a change of the organisation culture: from imitation to innovation.The trigger we are talking about is not other than change in the Chinese regulations. In theearly 80s, and due to the slowing down of the Cold War, the area of Chongqing (wereZongshen industrial group was settled) changed the productive model from defence to morecivilian products. Chinese government fostered this change by allowing some state-ownedenterprises (SEOs) to be reconverted into parts manufacturers. Recently, other changes inregulations such increasing tax laws and emission requirements have made Zongshen walkingin the tightrope. But these are not the only problems that the company owned by ZuoZongshen has had to face recently. One of his main concerns is where to find the talent to beable to drive the company in a more globalised, innovative and competitive world.First yearsTo start with, we are reviewing the birth and the first year’s development of ZongshenIndustrial Group. The area of Chongqing, situated in central south-western of China, was oneof the centres of the Chinese defence industry, especially for vehicles. Chongqing was rapidlyrecognized through the 80s as the chinese centre of motorcycle production. This productivemodel was focused on producing copies, concretely from Japanese brands. As it has beenintroduced above, that was possible thanks to the change on the regulations and concretely tothe fact that in 1979, the opening policy promoted by Deng Xiaoping allowed people to go intobusiness for themselves. Before that, only SOEs could obtain business licenses.Thanks to that change, Zuo quit his job in a production line and set his own repairing business.Over those 10 years he acquired a solid experience in repairing motorcycles so when changes
  2. 2. in regulations were introduced again in 1992 and individuals were allowed to set up privatecompanies, Zuo used this know-how to successfully develop a company focused in assemblingmotorcycle engines from purchased parts.Zuo took advantage of that and selected the best components that SOEs produced, normally inbig quantities and low quality, for his motors. He encountered some problems though: as hewas a private company, sometimes SOEs refused to sell him in the quantity and quality he wasexpecting. Zuo became dependant of “red envelopes” to get what he needed for his company.To solve these problems, Zuo envisaged a new approach for his business: in-housemanufacturing and differentiation. Because of his experience, he knew that all the supplierswhere delivering similar parts, with similar quality standards and only competing in price thatmade the final motorcycles of private owned companies’ products look the same. Zuo startedthe path of differentiation by producing parts in-house, which also brought him positive side-effect such as not being dependable of delays when the demand was high. He focused inexisting technologies that were already implemented successfully overseas, like CAD, CAM,CNC, Pro-Engineer etc. and he even hired manufacturing consultants (mainly retired Hondaemployees) and paid visits to other companies to “import” knowledge. All of these strategiesdeveloped by Zuo at the early stages are a clear example of reverse-engineering. In addition,he also took advantage of WIP inventory, which consisted in the fact that private companiesdidn’t have to pay for parts until they had assembled them into motorcycles and sold them. Inconclusion, these above mentioned facts brought Zongshen the capabilities to produce ready-to-sell motorcycles.Getting aheadIn 2000, Zongshen realised that setting a company group structure would be the next big stepto compete globally. Due to the Chinese law limitations, only companies listed publicly wereable to play in capital markets. Zuo applied the strategy of “reverse merging”, which consistedin acquiring a shell company that would be already listed and with minimal assets or liabilities(failed company). Zongshen acquired a company in Chengdu and another in Canada to boosttheir capabilities to enter into the green energy businesses (growing by buying). Theacquisition of another subsidiary in Jiangsu, made the industrial group count with an annualproduction capacity of 350,000 units of e-bikes. Zuo tried to get technology, know-how andcapabilities by the acquisition of other companies, and if that was not possible in China due thelack of advanced technology, partners abroad were targeted. This strategy was deployedsuccessfully and between 2006 and 2008, Zongshen Industrial group increased its sales from50,000 units to 220,000. In 2009, and due to the decline of international markets and theextremely competitive market in China, the demand of Zohgshen products went downdramatically, implying negative profit for the company. That was the moment when Zuorealised that to successfully compete in such aggressive markets a movement towardsinnovation and differentiation was needed. Zuo recognised the importance of the following 3key factors where to invest in innovation: energy storage systems, power control systems andintegrated design. It was time to get ahead through innovation. The main challenge expressedby Zuo was where to find the talent to drive this innovative path.
  3. 3. Towards innovationIn a more mature market, the users would search for a better quality instead of the traditionallow-end segment motorcycles, which were the norm in Chongqing brands. Most of these low-quality models where just copies of those coming mainly from Japan. Thus, differentiation wasforeseen by Zuo as the way to overcome and gain market share. To achieve this, the Cycloneproject was started in 2005 to offer innovative products of which Zongshen had the intellectualproperty. That was a big step in the organizational mind: from producing cheap copies andlater on improving this copies through investment in technology and partnerships, to reallyfocus in own R&D. The first output of this new era was launched in the market in 2007. Theywere not sold very well. The main reason for that is that people found hard to believe such aradical step in design and quality could have been made by a company like Zongshen, peopledidn’t trust the new products at all. This is the typical case of a failed design due to not takinginto account user’s requirements. This problem was addressed by merging the quality of thisnew products with the old ones, so an above-the-average quality new line was launchedinstead of state-of-the-art one, making it very profitable. Zongshen made use of the strategy ofapplying the know-how of the high segments to improve the low ones.The role of the partnersAs it has been explained before, Zuo tried to get expertise and know-how from othercompanies. Piaggio entered the Chinese market and, despite the promising volume of sales incoastal (rich) areas, failed in the strategy of maintaining a profitable number of sales across thecountry. The restrictions in big cities forced to change the strategy and focus on rural areas,where Piaggio products were too expensive and not designed according to the userrequirements. Was then when they looked for a local partner and found Zongshen the rightone. The joint venture was profitable for both parts, Piaggio outsourced a significant amountof parts to Zongshen, saving costs. It also took advantage from the Zongshen productionmanagement and sales. For its part, Zongshen benefited from a new engine manufacturingfacility, imported technology and international export market knowledge. But the main benefitof all, was the fact that for the first time, Zongshen was applying quality controls to meetEuropean standards.Recommendations for the e-bike challengeFor Zuo was relatively easy to get experienced professionals in R&D, manufacturing, finance ormarketing from other Chinese companies. He also hired people from governmentorganizations and even more, as it has been commented before, he hired retired Japaneseexperts. However he found difficult to find real big talent, individuals with the global view andthe set of skills needed to lead projects. He tackled this problem in several ways byestablishing: agreements with engineering universities, partnerships with overseas companies(like Piaggio), and engagement of talented employees within via incentives or even importingtalents from outside. One of the main problems addressed by Zuo was the fact that, due to the
  4. 4. Chinese culture, management positions where those highly desired by technical staff,preventing in that way that they could reach a deep level of expertise to become real leadersin their field. Zuo pointed out that issue didn’t take place in countries like Germany or Japan,because the lead engineers there can make as much money as a general manager.He found real talent in Phd students in the US, students from the best universities, highlyqualified and with an entrepreneurial spirit. They wanted to develop powerful drive trains thateventually would surpass what was possible with internal combustion engines. Zuo knew thatnot only the e-bike industry was seeking for talents like them, but the automotive as well.Zuo’s concern how they would join a company like Zongshen and once they would be there,will they fit in the organizational culture? Zuo though that the west way to import this talentwas to invest in their start up and become a manufacturing partner in the future. To decidewhether this is the correct route to follow to become self-sufficient in technology, the e-bikesector will be analysed using the Porter five forces analysis:1. Level of competition: High. Over 1000 firms where the largest one only had the 5% of themarket share. Almost 20 million electric motorbikes, scooters and variants are produced inChina each year. The e-bike industry in china is extremely competitive.2. Threats of substitutes: Moderate. Although new regulations were clearly forcing themanufacturers to shift to electric engines, the traditional combustion ones have still a specificweight in China. Although not mentioned in the paper, other substitutes can be gasoline carsor even e-cars.3. Threat of new entrants: High. The e-bike segment can be targeted by any of the current bikemanufacturers or even by new companies with no experience in bikes but with know-how ofelectrical engines and batteries.4. Bargaining power of buyers: High. As the buyers of the e-bike products are mainly thedistributors, and due to the fact that the level of competition is very high, they can play a mainrole in the possible success or failure of Zongshen e-bikes.5. Bargaining power of suppliers: Low. Zongshen is an industrial group that has integration asthe main characteristics. They almost produce all the components needed for the finalassembling. Zongshen tries to get expertise and talent to manufacture the new generation ofbatteries and powertrains in-house, even if the know-how comes from outside the company.6. Value chain analysis: We don’t have enough information about the last part of the productlifecycle (marketing, sales and customer service). However, we can assess as positive thecompetitive advantage of innovation and differentiation that Zongshen wants to deploy.In that point, we need to evaluate the viability of the change in the Zongshen organizationalculture (from imitation to innovation) in the e-bike project by identifying internal and externalfactors that could lead into success or failure. SWOT analysis is provided:
  5. 5. Internal factors Strengths Weaknesses  manufacturing know-how  Heavy investments to support R&D  Low dependence from suppliers  Difficulty to attract talent from abroad  Acquired knowledge by buying  Damaged imaged because cyclone project high specialized companies  Financial position due to 2009 crisis  Knowledge of chines market  HR regarding Chinese culture Opportunities Threats  High growing e-bike segment  Zongshen investment in R&D can be copiedExternal factors  Change in regulations can boost e- by other manufactures bike industry  Perception from the market, Zongshen still  Size of Chinese market seen as low-quality product maker  Small manufacturers cannot  Competitiveness of the market compete in quality nor quantity  Fast changing regulations can bring new threats in the future.  Barrier of entrance is relatively low The outcome of the analysis is clear. In a very competitive market like the chines e-bikes, innovation and differentiation are the key factors to succeed. Zongshen lack of capabilities on R&D are supplied by a great buy force, that enables them to buy or to make partnerships with other small but high advanced technology companies. But the way that Zongshen is approaching this challenge on R&D may be not sustainable in long term. Competitors can follow the same path and buy acquire technology to catch up, what could lead into a buying race. Zongshen should develop and invest in own R&D, trying to supply the lack of talent of their employees with continuous improvement and training strategies. The agreements with universities and partnerships with other companies are beneficial. The approach of hiring high talented individuals is a solution as well, but as Zuo expressed, it is unlikely that world-top engineers want to develop a career in China. And even in the case of successfully attracting them, Zongshen should apply strategies to avoid knowledge spill over in the likely case they want to leave after some time. In a market with more than 1000 small manufacturers, as it has been said before, differentiation is absolutely necessary. But this doesn’t mean that innovation has to be applied at any cost. User requirements should be put in first position, relegating radical innovation in the foreground. Zongshen has to learn from mistakes in this sense, as it happened with the cyclone project. The products were ahead the expectations and needs of the users and that led into poor sells. Another interesting learning that Zongshen should take into account for the future is role of distributors. It is not only necessary to convince the final customer that your product is the best; distributors have a last word as well. If the solution is to change from a high-volume and low-quality products to medium-volume but high-quality products, changes in distribution and marketing can be beneficial. One possible approach can be brand stores, where only Zongshen products would be sold. These stores are normally deployed to achieve three goals: to strengthen costumer awareness with the product, improve the retail experience and learn more about consumer demands and requirements.