In the last two decades, many European corporations built their China footprint because of significant manufacturing efficiencies and market growth opportunities.
Towards the end of the 2010s, three interrelated dynamics changed the strategic equation. First, geopolitical tensions and policy shifts challenged the "China exceptionalism" narrative in the boardroom. At the same time, the growing local competition created an imperative to localize products and digital infrastructure. Finally, the pandemic introduced international travel restrictions that hampered the usual stream of "in-person" alignment moments between headquarters and China, contributing to an exodus of senior managerial talent from China.
This year, the situation was compounded by the severity of China's zero Covid policy, the war in Ukraine, and the resulting chaos in global supply chains. As a result, China's investment case is becoming ever more challenging to argue. Yet the IMF expects China to contribute 31% of total global GDP growth through 2025, while the EU and the US only contribute 7% and 8%, respectively. So, where does this leave the European corporate growth strategy for the China market?
Multinationals must choose between an investment-lite approach that minimizes risk and an expansion approach that maximizes potential growth. In both cases, they must plan for resilience in their global supply chains while managing the legacy businesses, management talent, locally developed IP, and relationship assets.
Whether MNCs decide to play or pause, digital innovation will play a prominent role in making their operating models in China fit for purpose with reduced dependencies on global operations. The new China strategy conundrum is around aligning global and China digitalization and innovation strategies.
There's considerable talent in China and strategic intent in China's industrial policies. Yet multinationals struggle to leverage global capabilities in a market with distinct digital ecosystems. Moreover, the price to play in the China market is going up. Digital assets must localize to adhere to data management regulations, while customer expectations are second to none in China's highly competitive markets.
China's scale and status as a global economic superpower will help carry these arguments forward. But ultimately, multinationals must decide whether to maximize short-term profits or invest in long-term competitiveness in Chinese markets.
Asia Growth Exchange members made an attempt to start unpacking this dilemma on Thursday, June 16th. I aimed to capture the essence of the executives' comments on the call run under the Chatham House rule.
We tackled the following questions on the call:
- Are companies staying the course? When will business sentiment recover?
- What is the role of 'In China, for China' innovation?
- How to 'hypercare' your China innovation talent?
- Is scenario planning the new modus operandi in strategy formulation?
- When does the team move from pilots to lighthouse projects?
- What are the limits of exporting China innovation globally?
Are companies staying the course? When will business sentiment recover?
Despite a battering of business confidence in recent months, the investment strategy for companies with large footprints, assets, and legacy in the China market hadn't fundamentally shifted, and long-term commitment seems unwavering, even under a backdrop of accelerated tech decoupling and bifurcation trends.
"What I can say is that there's no such thing as a short term strategy. It has to be long term. And we had some painful moments while setting it. But as a witness of that, or even as an actor of that, it's really powerful when you get it done. And to me, it's the only way to survive in the China market."
China's GFW of the last two decades has already fragmented digital ecosystems, and international companies have ramped up their upstream and downstream China footprints alongside that reality. High-profile exits can be attributed to competitive pressures rather than untenable policy circumstances. Sensitive industries are the exception. Many comments on the call seemed to confirm the takeaways from the recent MERICS/EUCCC report on China's innovation ecosystem.
What is the role of 'In China, for China' innovation?
The session kicked off with a focus on innovation for the China market. Some of the objectives, approaches, and benefits mentioned are summarized below:
- Position China innovation: Articulate objectives clearly on how a China innovation resource contributes to the business to avoid the team being perceived as a threat or lacking utility. This alignment process can be underwritten by having frequent monthly and quarterly meetings with key stakeholders in board-level, executive, functional, and commercial leadership roles. As one participant stated: "call your shots, focus, and prioritize."
- Frequent communication: Focus on internal stakeholders in China and head office to build support. Show what's happening on the ground in China when the situation can be fluid at times. This alignment process is necessary to reinforce the innovation footprint for the long term and demonstrate how local innovation complements global innovation projects.
- Tapping into China's policy-driven innovation ecosystem: MNCs with sizable innovation footprints can better understand the government plan, articulate how to contribute to that agenda and leverage digital ecosystem resources to achieve the company strategy.
- McKinsey's three horizon model: Frame and position innovation along with timelines and business impact. One participant described Horizon 1 as relating to innovation activities that supplement current go-to-market capabilities. Horizon 2 refers to value-adding, top-line enhancing actions for local customers in China by leveraging open innovation hubs; and finally, Horizon 3 is their effort to build for long-term sustainable business growth by co- creating with local innovation ecosystem players.
- An effective prescription for mitigating IP risk: Several participants confirmed that their teams had developed 'homegrown' software solutions with patents originating from China and then filed in other regions. There needs to be some risk appetite, too: "If you don't want to face risks, you will get nothing."
- Opting for local partnerships: Several executives on the call confirmed their decision to choose local cloud and digital ecosystem partners such as Alibaba Cloud and Tencent Cloud to stay on the right side of cybersecurity and data regulations and secure long-term participation in China's growth potential. They would usually work with Microsoft Azure, Amazon, and Google in the rest of the world.
- Silver lining when a crisis hits: All the lockdowns and travel restrictions helped accelerate the trend of empowered local leadership. Many companies have broadened the decision- making rights and autonomy of local teams to be able to operate faster at a time when speed is critical.
How to 'hypercare' your China innovation talent?
The kick-off speaker emphasized the importance of appreciating the criticality of getting the talent strategy right. It's not just about finding the right talent, but equally important to motivate them with skills development incentives to operate in an environment without an "operating manual.“
The cost of labor is increasing, and working at a corporate innovation center does not offer the prospect of a significant payoff upside that one can find in startup environments. The downside is that capabilities get questioned.
Therefore, it’s essential to allocate the adequate coaching resources that help employees shape their development agendas and cross-functional teams help top talents to collaborate better across silos. Cross-border mentoring can also provide better bi-directional understanding.
Is scenario planning the new modus operandi in strategy formulation?
"We cannot strive to make a strategy based on a previous experience.”
One executive from a blue-chip company shared an exciting and quite extensive approach. His company conducted a one-year study where they developed a series of hypotheses with multiple teams of 30 ~ 40 people to explore various facets of digitalization in China, including topics such as cross-border data, cybersecurity policy, and regulation.
Three significant scenarios emerged from the process. The scenarios were frequently verified and quantified in terms of costs and benefits. They were then updated several times yearly. Teams presented the findings to the board every six months. The leadership and various functions are assessing how the three scenarios are evolving.
When does the team move from pilots to lighthouse projects?
Everyone is getting more accustomed to talking, thinking, planning, and acting along with multiple scenarios instead of one imagined future. A best practice with highly varied experience was building a portfolio of pilots, with small bets on each to learn and test strategic hypotheses.
"Here's the thing, if the folks in other regions such as EMEA and North America did not feel invited, they will raise a lot of objections even though it's a beautiful piece of software.“
One digital incubation unit learned from their "alignment" experience when building a pilot was to keep other regions looped in from the get-go. When they got to planning a lighthouse project, they made sure to collect feedback from EMEA/US teams to get those folks on board, even if just 70% of their user pain points were accounted for.
What are the limits of exporting China innovation globally?
Leveraging local ecosystems to service customers in China is just one piece of the innovation puzzle. The session's second half focused on companies rolling out homegrown innovations from the China team to other regions.
The group shared success in building up a portfolio with small bets and proof of concept projects. Yet the challenges arose when further iteration work had to be done in collaboration with other areas to localize solutions for customers worldwide. The limits of virtual collaboration became apparent. Virtual town halls, Microsoft, or Zoom calls weren't going to cut it, and people needed to get into a series of in-person workshops to move the needle on their China innovation. Now, innovation folks are traveling to European and American cities to reconnect with their colleagues and counterparts at head office. Some companies are opting for more extended stays and deeper integration of cross-border teams.
One China executive discussed the necessity of spending time with customers in Germany to take his team's patent-pending software application one step further.
Unfortunately, the virtual calls led to issues managing samples and other tactical details. As a workaround due to travel restrictions, it helps to have a good network of relationships at head office, cultivated over many years to get initiatives pushed through the back door to avoid their China initiatives getting stalled.
"The other regions are now leaning in and saying, what can we learn from what you're doing and export it? It's not the code that exports, nor it's the exact user experience either, because of course, we use WeChat. And they don't have WeChat. But it's more the learning from a mobile first environment, and they don't have that yet.“
There are large pools of talent, a speed and lean-in approach related to innovation funnels, and openness to exploring adjacent opportunities. In addition, some technology-driven organizations in sensitive sectors have an outsized upstream focus to support innovation efforts in other regions despite headwinds growing in China.
China teams inside multinationals often have limited resources to pursue market share improvements in a large and complex market. Using open innovation models that leverage relationships with government, technology, customer, and startup partners can identify problems and solutions quickly. As a result, China innovation teams have become adept at a collaborative, solution-focused approach that leverages open innovation hubs to do early-stage product development, MVP, and prototyping.