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News : Innovation Last Updated: Feb 3, 2011 - 7:01 AM

China’s drive for ‘Indigenous Innovation' and foreign multinationals
By Michael Hennigan, Founder and Editor of Finfacts
Feb 2, 2011 - 7:13 AM

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Source: Brookings Institution

China's focus on developing what it terms ‘Indigenous Innovation' is putting foreign multinationals in a bind.

The electronics sector is dominated by foreign firms and last year Foxconn, the giant Taiwanese contractor for firms such as Apple and Nokia, got unwelcome attention because of a series of suicides among its almost 1m strong workforce in China. 

The Chinese market has been a difficult one for MNCs to crack and just as some companies are at last making a profit, they are concerned about China's 'National Medium- and Long-Term Plan for the Development of Science and Technology (2006-2020)' report, which says  China will build its dominance by "enhancing original innovation through co-innovation and re-innovation based on the assimilation of imported technologies." This key report is known as 'MLP.'

Korean electronics giant, Samsung, says the Chinese market accounts for more than 25% of total global sales; 19% of Nokia's revenues were generated in China in Q4 2010; the 10 markets in which Nokia generated the greatest net sales in all of 2010 were (in descending order): China, India, Germany, Russia, the United States, Brazil, the United Kingdom, Spain, Italy and Indonesia, together representing approximately 52% of total net sales in 2010.

Samsung had long prepared for a “big jump” in the booming Chinese market. “In China, now we have 24 research and development centers and more than 4,000 R&D staffs to develop new products for Chinese consumers," the company says.

German cars - - Mercedes, BMW and Volkswagen's Audi - - are popular with wealthy Chinese consumers.

Last year, almost on-third of VW's global sales were in China; General Motors also has a similar sales ratio.

US industrial giant, General electric (GE), targeted $10bn of sales in China in 2010. The outturn was over $6bn compared with total revenues of $150bn.

European rival Siemens can be compared with GE if GE Finance and the media businesses are separated.

Siemens reported revenues of €76bn in fiscal 2010 (October 1, 2009 – September 30, 2010). Siemens’ sales in China amounted to €5.8bn and new orders totaled €5.6bn. With a workforce of over 33,600 from a total of over 400,000, Siemens is one of the largest foreign-invested employers in the country.

Jeff Immelt, General Electric’s chairman and chief executive, was appointed last month as chairman of President Barack Obama’s new Council on Jobs and Competitiveness. Immelt said the US needed to be “a country that builds things” if it was to create sustainable growth and good middle-class jobs.

On China and intellectual property, Immelt said: “It’s going to be in the Chinese interest to have better IP protection, over time. It’s got slightly better, but there’s still more room for improvement on IP protection. We’ve got to be careful about that.

“When I talk to some of my friends in high-tech companies, they have legitimate concerns. I have a lot of empathy for those guys.”

The US restricts high-tech exports to China which have a military potential but it's the fear of losing control of the technology behind existing US products sold in China that worries US companies.

A report by the US Chamber of Commerce says China's innovation campaign is focused on employing China’s fast-growing domestic market and powerful regulatory regime to decrease reliance on foreign technology and develop indigenous technologies that will enable China to solve its massive environmental, infrastructure and social problems, and as a result enhance both its economy and national security.

The slogan and broad plans for indigenous innovation were officially unveiled in 2006. But the policy’s importance and complexity are just now coming to global attention as supporting regulations pour out of bureaucracies in Beijing and across the country. In Party liturgy, 'Indigenous Innovation' is China's follow-on blueprint to Deng Xiaoping's 1978 'Reform and Opening.' The Chamber says the evidence for the historical importance of indigenous innovation includes: the turbulent preparation process, unprecedented senior level management mobilization, elaborate web of policies and implementation tools and surging government science and technology spending -- topping $130bn in 2010, according to the National Bureau of Statistics -- as China races to develop its own integrated circuits, passenger airliners, global technology standards and all manner of intellectual property.

The US Chamber says China's MLP report is steeped in suspicion of outsiders. The MLP explicitly states that a key tool for China to create its own intellectual property and proprietary product lines will be through tweaking foreign technology. "Indeed, the MLP defines indigenous innovation as 'enhancing  original innovation through co-innovation and re-innovation based on the assimilation of imported technologies.' It also warns against blindly importing foreign technology without plans to transform it into Chinese technology. The report states: 'One should be clearly aware that the importation of technologies without emphasizing the assimilation, absorption and re-innovation is bound to weaken the nation’s indigenous research and development capacity.'

As a result, the plan is considered by many international technology companies to be a blueprint for technology theft on a scale the world has never seen before."

General Electric, which was formed in 1892 from a merger of the inventor Charles Edison's electric light company with a rival company, has a long history in innovation but copying and intellectual property theft is not a modern innovation.

Finfacts reported in 2007 on the global innovation process of Apple's iPod, showing that it can involve many countries.

Professor Seamus Grimes of the Department of Geography/Centre for Innovation and Structural Change, at NUI Galway, Ireland, has spent 2 periods in recent years at the East China Normal University, Shanghai.

The first link is to a discussion forum on ‘Indigenous Innovation,’ to which Prof. Grimes contributed.

The following are links to articles on Finfacts:

China and the new challenges for inward FDI investment - - Prof. Seamus Grimes, Shanghai

Matteo Ricci: an encounter of civilizations; the first Western visitor to the Forbidden City - - Prof. Seamus Grimes, Shanghai

Letter from Shanghai -- Prof. Seamus Grimes, NUI Galway

A recently published Brookings Institution policy brief (pdf) cites a 2009 survey by Greg Linden, Kenneth Kraemer and Jason Dedrick of the University of California, which suggests that Apple, sells iPhones or iPods for several hundred dollars, most of them 'made in China,' but the Chinese producer and Chinese workers receive just under four dollars a piece. The retail price of the 2005 video iPod was $299, the wholesale price $224 and the factory price $144.56. The largest part of the factory price ($101.40) came from Japanese components, with US companies other than Apple supplying $14.14 in components and many different suppliers providing other small components. The final assembly and checking is done in China for $3.86, while Apple’s estimated gross margin is $80 per unit sold at wholesale, plus a portion of the retail margin through its Apple online and retail stores.

These same researchers deconstructed the value of a 2005 Hewlett-Packard Notebook PC, which sold at retail for $1,399 and had a factory cost of $856.33. Intel and Microsoft received a total of $305.43 for each computer sold, while the assembly and checking done in China netted $23.76— only 1.7% of the retail price. China’s massive export boom in computers and electronics derives from the fact that it is a very good place to assemble electronic products that clearly benefit US companies’ profits. However, Brookings' economist, Martin Neil Baily, says
China’s policymakers want change; they are determined to attempt to obtain more of the value added of the goods their citizens assemble.

Bailey says Germany provides a fascinating case study of the benefits and perils of a strong relationship with China. Spiegel Online notes that the most important driving force behind the current German economic upswing is its exports of sophisticated capital goods to China. German companies find, however, that the Chinese demand access to their industrial know-how. German businesses are reluctant to offend their Chinese customers, but they are deeply concerned about the loss of intellectual property. Beijing does not want merely to catch up to German companies - - its goal is to surpass them. It has already done so in the manufacture of solar panels, by subsidizing research into solar technology. China exports perhaps 70% of its output of solar panels, about half of which goes to Germany, where demand is heavily subsidized by the German government. In electricity generation, Beijing invited Western companies to build power plants jointly with domestic Chinese partners. Now the Chinese are upgrading the plants with their own technology, based on what they learned through the German company Siemens and the French company Alstom.

Martin Neil Baily also cites the $730bn investment by China on its rail network by 2020, which Western companies cannot ignore; during President Hu's recent state visit to the US, GE's Jeffrey Immelt signed a joint venture deal with a Chinese firm in the  avionics  sector and the joint venture’s first contract is to provide an integrated avionics suite for the 160- to 190-seat Comac C919, China’s single-aisle transport that will compete with the Airbus A320 and Boeing 737 families.

Baily says US policymakers must recognize that:

  • Today’s trade deficit is not a technology problem. The U.S. economy simply must become a more attractive place to develop and manufacture new products.
  • Technology may become a problem in the future. The United States should work with the European Union, Japan and multinational companies to develop a uniform code of conduct to protect technology and patents when emerging market companies work with multinationals.
  • Policymakers must work with the private sector to identify and reduce barriers to US exports.
  • The policy debate must focus on the right issue, and not be drawn down blind alleys.
  • Companies should focus on innovation and cost reduction and avoid dragging policymakers and themselves along time-wasting tangents.

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