Business Analysis: Joint Venture of VW in China - Essay Example

Business Analysis: Joint Venture of VW in China Abstract Joint Ventures are an effective way to form strategic partnerships in foreign countries. A joint venture partnership helps the foreign organization to enter the market, to learn the local business, and to gather market share rapidly. It also helps the local partner to gain access to global business processes and technology and to raise their stature in the local and the international market. However, a successful Joint venture can only be maintained if both the partners share their local vision, agree on marketing and production strategies, and can provide complimentary capabilities to the business. Joint Ventures can only be nurtured by transparent and effective communication between the partners. Volkswagen two joint ventures in China started off on an excellent note and made VW the market leader in the passenger car and taxi segments. However, with the opening up of the Chinese market and the coming of new foreign players, VW is incurring a loss of market share and sales. The reasons for the debilitating condition of Volkswagen may also include its problems with its Joint Venture partners. There appears to be a lack of communication and presence of discordant vision of the its partners that is preventing VW from reaping the benefits of an expanding Chinese economy. Chapter 1: Volkswagen: Company Background Volkswagen is the Europe’s largest Car Manufacturer, and world’s fourth biggest, after GM Toyata and Ford. with a presence in countries like France, UK, and China. It has followed a strategy of penetrating the international market with strategic partnerships at the local levels. Volkswagen has been following a policy of global expansion since the early days of liberalization. It was among the first international organizations that made a foray into the Chinese market. With the help of joint ventures, it started its manufacturing operations in China, and benefited from the sales channels of its joint venture partners. Volkswagen had penetrated the market and established a near monopoly in the passenger cars and taxi segment. Its approach had been dictated by a policy and practice of continuously presenting the market with carefully segmented cars, and promoting an aggressive growth. (Volkswagen.com, 2007) The two joint ventures of Volkswagen in China have been doing extremely very well till recently. With the increase in the material costs, aggressive pricing and enhanced competitive presence, Volkswagen’s share has dwindled to a mere 18%, down from its near monopoly in the passenger and taxi segment of the Chinese market. The entry of competitors like Honda and General Motors has further made it difficult for Volkswagen to maintain its superior position in China. It is also finding it difficult to maintain a competitive advantage due to its inability to curb manufacturing and distribution costs. The two joint ventures too are unable to work in tandem to create value for Volkswagen. Instead, at times they are senselessly competiting against each other and thus further debilitating the efforts of Volkswagen to survive in the face of external competition. It is apparent that Volkswagen needs to rethink its strategy and to realign its process so that it continues to reap benefits from its Chinese joint ventures. (Chinadaily.com, 2007) Chapter 2: Introduction Joint Ventures are strategic partnerships that organizations operate to produce, promote and sell their goods and services. Joint Ventures are specially very useful for foreign countries that are seeking to establish their presence in countries other than their own. The foreign investors therefore formulate joint venture partnerships with local organizations in the hope of tapping in on the local partners’ already established distribution networks, local market knowledge and capacity to deal with local suppliers, customers and legal requirements. The local partners see such a joint venture as an opportunity to expand their scope, to enhance their business knowledge and to acquire technology and global processes. The Chinese Market has opened up for foreign investment, and as a result there have been an influx of Joint Ventures in the past. The Volkswagen Organization has been among the first to establish a partnership with the Chinese automobile manufactures. Its two joint ventures have been successfully serving the Chinese market, with a monopoly for nearly two decades, though now it is facing a slump. The paper will include an in depth literature survey on successful business theories in the present day context, and will also explore the factors responsible for lucrative joint ventures. The following paper is aimed at examining the Volkswagen’s Joint venture in China, and thereby to comment on the overall effectiveness of Joint Ventures especially in the China. The paper will be using an exhaustive literature survey to collate all the available data regarding the concept and nature of joint ventures and their effectiveness to create value for the partners. It will also analyze the Chinese industrial and economic environment to sustain Joint Ventures. Finally, it will also carry out a Business analysis of the Volkswagen’s Joint Venture using tools like PEST and SWOT analysis. The result of the analysis will then be used to reiterate the advantages and disadvantages of Volkswagen Joint Ventures, and to give suitable insights into what needs to be done. Chapter 3: Methodology The research will basically be a descriptive research. It will focus on a literature review that will be carried out from a study of available secondary sources. Volkswagen’s International website, news, and related data will be used to formulate a view of the current states of affairs. The available literature on business strategy for international markets, with an emphasis on Joint Ventures, too will be presented. In addition to a presentation of the available literature on the Chinese Markets and health of Joint Ventures in China, the literature survey will also include an exhaustive section on the Volkswagen’s two Chinese Joint Ventures. The literature survey will also touch upon the available tools that can be used for Business analysis. Following the literature survey, an analysis will be carried out on the effectiveness of the Volkswagen Joint Ventures in China. It will also evaluate the business strategies of Volkswagen in China, and will comment on the effectiveness of using a Joint Venture strategy in China. Chapter 4: Literature Review Organizations that have decided to target markets outside of their country use one of the following market entering strategies, either in isolation or in a combination with each other. These include, indirect export, direct export, licensing, joint venture and direct investment. (Kotler, 2000) The above strategies are accompanied by an increasing amount of direct involvement of the foreign Organization into the chosen countries market. Both the Indirect and direct export can be carried out by an organization from the home country. The production of the goods occurs in the home country, and the firm exports it to the other countries through a direct dealing with the government and organizations of that country, or through the help of governmental and non-governmental intermediaries. Licensing is a step further in the foreign companies commitment and involvement with the external market. It is through Licensing agreements that an organization can let the local companies use its manufacturing processes, trademarks, patents etc and get royalty. This helps the foreign organization in maintaining a sort of presence in the local market, but also saves it from various business risks. At the other extreme end of the direct involvement and commitment lies the strategy to directly set-up operations in the external market. This is done by way of maintaining subsidiaries, direct ownership of all the production, marketing and selling processes, and is also accompanied by highest level of risks. A suitable compromise is therefore the strategy to use Joint Ventures – where the foreign investors partner with local organizations and jointly own and manage the business operations. Joint Ventures are suited for organizations that are trying to gain entry into markets that are still relatively more restrictive, and where the local custom and culture makes it difficult for the foreign investor to decipher the needs of the local people. In markets like China, it is all the more important to have a local partner to get across the highbrow bureaucracy. (Dawyer, 1994). The success of joint ventures lies in the fact that both the partners agree on their larger vision for the market, that they are compatible in terms of business operations and that they agree on marketing and pricing strategies. (Kotler, 2000) The key factors that contribute to the success of Joint Ventures are dependent upon the interpersonal dynamics between the partners. This means that the development of effective communication channels is an important aspect of success. This is followed by developing team spirit, trust, and commitment from all the employees of the organizations involved. (Vanderburg, et al, 2004) Chapter 4.1: Joint Ventures & The Chinese Market Foreign organizations that want to get into the Chinese Market have to often take the route of forming strategic partnerships with a local partner. These partnership can take the form of joint-ventures, licensing agreements, or minority stakes in existing local enterprises. The reasons for these strategic partnerships, as opposed to establishing a fully owned and managed business subsidiary in China, are manifolds. A major reason is that regulatory requirements in China are still restrictive; and these may include a mandatory inclusion of a local partner in any enterprise that is undertaken by a foreign organization. Another the reason that such an arrangement is attractive for the foreign player is that it helps them into tapping in the skills of the local teams, and in making the best use of the already established distribution and communication systems of their partners. The foreign organization can bring its global knowledge and capabilities into the operations of a strategic partnership, and combine it with the specific local capabilities of its Chinese partner. (Cainey, 2006). There is however a trade-off which the foreign company has to face – it can either start on its own (which, in any case might be difficult due to governmental restrictions) and start making a slow progress in penetrating the market. Or, it can form a JV, with perhaps a minority scale and ride on the back of the Chinese partner and rapidly gain market share and learn the ropes of doing business in China. (Cainey, 2006). The Chinese market is attractive to the foreign companies for several reasons. Firstly, the Chinese market is opening up and the local government is encouraging foreign investment. Secondly, the Chinese firms are increasingly getting listed on the stock market, which can be used for increasing the net worth, or even get capital gains in future for the foreign partner. The fact that the Chinese population is so vast too makes the consumer segment market attractive to Organizations that have already exhausted their indigenous markets. The increasing economic conditions of a large section of the Chinese middle class too adds to the attractiveness of the Chinese Markets. This is coupled by the fact that there is a vast pool of skilled and semi-skilled professionals available in China that assist in the low cost and highly efficient manufacture and assembly of products and services. Joint Ventures and Foreign investments are also beneficial to China. As a result of such investments more jobs are created and more Chinese get employment. They also create a better image for the country and strengthen its claim as a global player and as an attractive business partner for other countries of the world. (Chan, 2007) The decision to enter the Chinese Market via a Joint Venture with a local partner is however tempered with by the intensity of competition that that is present in the local market. It is also assumed that the local partners lack in profit orientation. There is more to managing a joint venture than just deciding about the ownership stakes or selling a product jointly. A research conducted by Hamilton and Booze found that in China, 64% of the foreign firms were operating in a JV, but, when asked if given a choice between a JV and a wholly owned enterprise, only 5% wanted to continue with the JV. (Cainey, (2007 ). This is perhaps because, working in a JV requires that both the partners share a long-term vision, their objectives are streamlined, and that they take steps to maintain themselves focused on those objectives. Even before a Joint Venture is formalized, it is important for the foreign investor to be aware of the extent of bureaucratic involvement that is involved in forging partnerships with the Chinese firms. It is crucial to determine if the firm that is negotiating the Joint Venture actually has the authority to do so. This is because a lot of restrictions and protocols still exist in China, and several times, it is realized too late that the local partner was actually not authorized to deal with foreign companies. (Fuchs and Graz, 1997). Foreign companies may also not find the Chinese partners having the same focus as themselves – instead of a customer and marketing orientation, a lot of Chinese businesses are still focused on the production and manufacturing side of their business. This may contradict with the overall strategies and implementations in the later stages of the Joint Venture. ((Fuchs and Graz, 1997). It is therefore important that the foreign investor should expend substantial amount of time and energy is the actual selection of a Chinese partner. Another important thing that the foreign firms can indulge is in exploring the political, demographic and geographical aspects of the region they are interested in within China. This can also be carried forward by establishing a local ad-hoc office in China that works closely with the prospective partners. The negotiation contracts and the proposals should be thoroughly researched in the light of the fact the prospective organizations may not have the ability or the even at times the right to deliver. Thus, it pays to have a well researched background developed for all the available local resources that can be utilized for the joint venture – in the absence of which, new contracts and outsourcings might become mandatory after the Joint Venture has been staged. (The Canadian Commercial Corporation, 2007) As the Chinese government likes to play an intimate role in all foreign investments, it makes sense to establish cordial relations with the local governmental officials. It is also useful to have a continuous risk-assessment process by taking in the knowledge and understanding of trusted local individuals. (The Canadian Commercial Corporation, 2007) According to Cainey, (2007) a major reason why Joint ventures break in China is that a over a period of time the chaging environmental and market factors are difficult to adjust within the joint partnership scenario. Another reason could be that both the partners do not agree on specific marketing or pricing strategies. Also, there might be disagreement over the reinvestment of the earnings for growth or distributing dividends. (Kotler, 2007). What needs to be done is firstly to take concrete steps so the partnership evolves along with the changing external factors. Another step could be to maintain an appropriate contingency plan so that in case the partnership dissolves, either of the partners are not stranded. Chapter 4.2: The Volkswagen JV in China Volkswagon had started with a joint venture with Shanghai Automotive International Company in with a small production capacity of 30,000 cars. Shanghai Automotive International Company JV was followed by another partnership for Volkswagen – a joint venture with the First Automobile Works Company in 1987. While the production from the first JV reached a peak of 1 lack cars in 1993, the second joint venture was successful in producing the Audi model. Very soon, almost all the governmental vehicles, both at the centre and the local level, were being manufactured by these two successful JVs. This was made possible by the timely entry of Volkswagen in the vast Chinese market – at a time when other foreign car manufacturers were hesitant about making a foray into China. Companies like Chrysler, Toyota and Mercedes outright refused to explore the Chinese market while some like Honda and General Motors slowly did enter it. Volkswagen’s monopoly in the customer and the taxi segment continued for nearly 2 decades. It was also supported by the growth of the Chinese middle class and increasing demand for cars. As the local and international competition expanded, Volkswagen’s share has seen a continuous erosion. There has also been an increase in the material costs and aggressive pricing strategy followed by it competitors. Even more so, it has been seen that the two joint ventures of Volkswagen, at times perform at cross purposes – by launching models that compete in the same customer segment. In 2005, Volkswagen’s Joint Venture with First Automobile Works Company (FAW- Volkswagen) suffered a net loss of 36 million dollars. Volkswagen’s market share now stands at a mere 18 %, and the its joint ventures stand in need of intense restructuring if the organization hopes to survive. (Chinadaily.com.cn, 2005). Chapter 4.3: Business analysis There is a need to reassess the business strategy, processes and values that an organization is striving for. Thus, a business analysis is required to be carried out to analyze the continued relevance of the business processes to their objectives. A business analysis is therefore dependent upon the stage of lifecycle that a particular organization’s products or services are. In case of the Chinese Automobile industry, the industry is in a stage where it is slowly moving from a growth stage to a mature stage. It is because the market still holds a lot of potential, but the influx of foreign firms is making it slowly move towards a state of maturity. Since the Chinese marketing and industrial environment is a dynamic one, where the government is still directly involved in the business transactions, it becomes important that organizations that are doing business via joint ventures carry out an accurate assessment of the risks and threats as well as opportunities. For a successful business analysis, a firm needs to collect extensive data on its internal weaknesses or strengths and external opportunities and threats. It also needs to carry out an analysis of the legal, financial, technological, and demographic environment. Based upon an analysis of the above collected data, an organization can assess whether it needs to continue with its existing structure and strategy, or it needs to re-model, or even abandon its current stance. Part 2 : Analysis Chapter 1: Introduction Globally, it has been seen that organizations have strived to look for markets outside of their homeland to sell their products. This need is mostly driven by the fact that the markets get exhausted over a period of time due to demographic restrictions. Another reason is that there might be an increase in the number of competitors or the existing competitors might be using aggressive pricing to root out others. Another reason that may lead a firm to turn towards foreign shores is the attractiveness of the new markets. China emerged as a new economic power in the early 1990s riding high on its extensive manufacturing capacity, cheap labor and vast population of middle class eager to buy products. The Chinese industry was helped by the decrease in the communication technology cost and by the Governments’ initiative open up to the foreign investors. Volkswagen was therefore on the right track when it started on its endeavor to enter the Chinese market. What it hoped to do was to gain a substantial recognition by starting early, and also to capture the larges share of the market. Volkswagen however, employed the strategy of joint ventures to expand into and to penetrate the Chinese market. The available data on the rationale for formulating Joint ventures states that both the organizations that are entering into such an arrangement, think that they will be better-off together than being alone. Thus a joint venture is almost always the result of an understanding that benefits can be accrued for both the parties. Volkswagen had entered the Chinese market via a joint venture in order to achieve a well thought out objective. Higher echelons of the company were perceptive enough to notice that the Chinese market was tremendous, both in terms of low cost manufacturing and in terms of the availability of customers. But, they also knew that the political-legal structure of China was still not very conducive for foreign investors to foray into the country on their own. Thus, as opposed to entering the market with a full fledged direct investment (which anyways would have been difficult to attain due to the bureaucratic and legal problems still existing in the country), Volkswagen resorted to the path of Joint Ventures. This way it hoped to minimize the risk and yet to develop a local presence and gain market share in China. This was a well chosen strategy that balanced both the risks and benefits of Volkswagen. The Chinese counterparts surely wanted to align with a foreign investor of the stand of Volkswagen, in order to defeat local competition. Another reason was the enthusiasm of the Chinese government to get foreign investors fro China in large numbers. Thus, backed by the governmental strategy, The Shanghai Automobile Company and First Automotive Works, were more than happy to enter into a partnership with Volkswagen. In a joint Venture it is required that partner those partners are chosen who can complement each others capabilities. Both the Shanghai Automotive Company and the First Automotive Works company are well established and highly reputed organizations. The First Automotive Works Co. is the first automobile manufacturer of China, and is itself among the largest Chinese automobile organizations. Shanghai Automotive International Co. too has been among the biggest car manufacturers of China. Both the Joint Venture partners have extensive local capabilities and experience. Thus Volkswagen’s choice of Joint Venture partners was accurate. Joint Ventures are normally based on an agreement on investment in the equity by the two partners. In countries like China, the legal restrictions generally require that the foreign investor hold a minority stake in the joint venture. Thus, the FAW-VW joint venture has a 60-40% equity mix for FAW and VW, while the Shanghai VW has 50-50% share of the two partners. This has been a strategy as the almost at par equity mix provides VW with enough power and capacity to have its say in all the decisions. After having a brilliant start based on its acute understanding of the way successful joint ventures should be formulated, VW continued to enjoy a near monopoly in the Chinese passenger car segment. However, with the inclination of the Chinese government towards its WTO entry, and the subsequent opening up of the market, has led to an influx of competitors. Foreign investors have lined up to formulate their own Joint Ventures with more than willing local firms. All this has resulted in an intensification of competition and lowering of prices – thus adversely affecting Volkswagen’s interest in China. Though the Joint Ventures that it had made have helped VW establish a substantial market, it is becoming apparent that VW needs to rethink its strategy and realign its position if it wants to remain viable. An analysis of the Political, Economic, Social and Technological environment of China will reveal the threats and opportunities that VW is currently facing. A review of the internal strengths or advantages and weakness or disadvantages of the Volkswagen group in China will help in enumerating the strategies that can possibly help it in re-establishing its market share. Chapter 2: Opportunities and Threats Political Environment The politicians at the top level are more than willing to continue the strategic partnerships between Germany and China. There is a build up to strengthen mutual political trust with China and deepen ties. The bilateral trade volume exceeded US$40 billion this year and is expected to reach US$50 billion. Both the Chinese and the German governments are open to promoting co-operation between the small- and medium-sized enterprises and also for exploiting reproducible energies. The North Eastern China is a focus area for development an foreign investment in the form of Joint Ventures. According to statistics, Germany is the second largest European investor in China and it is also the largest trading partner of China. For Germany, China is the biggest trading partner in the Asia and Pacific regions. The Political Environment therefore looks very attractive for the future of joint ventures in China, and especially for the Volkswagen’s partnership. Economic Environment With a gross domestic product of over $US2.1 trillion in 2005, China is currently the world’s sixth largest economy. It has an annual economic growth of over 9 %, and it is steadily heading to become the world’s fourth largest economy after the US, Japan and Germany. The industry for the passenger cars is also on an expansion trend. With a 28.9% growth (to 5.27 million units) in 2006, China is now the second largest passenger car market after the US. (Chan, 2006) As the economic environment of China is becoming more an more attractive, it is a good time for the existing market players to boost up their sales. Volkswagen Joint Venture can take this as an opportunity to invest more in its marketing efforts. Social Environment The social environment of China is opening up with large scale consumerism settling in. It is good news all around that there are over a billion Chinese who are ready and have the money to buy cars. The Volkswagen Joint Venture should ideally take it as an opportunity and arrange its business values and processes to tap into this large customer segment. Technological Environment With the entry of more foreign players via joint ventures, it has become imperative that cost-cutting technologies be employed to combat the lowering of prices. French and Japanese organization in China are better able to make use of the latest technology to cut costs and maintain operational efficiencies. VW in China pays a lot of attention to its production capacity, marketing and R & D, but it appears to be investing little in cost controlling technologies Chapter 3: Advantages and Disadvantages Of Volkswagen Joint Venture After a fantastic start in early 1990s, the VV joint ventures seem to be faltering in the Chinese market. It appears that there is a lack of communication between the joint venture partners, and also between the two joint ventures. As a result of this breakdown in communication and lack of a united vision, Volkswagen’s two joint ventures have ended up competing against each other in the same consumer segment. This positively is suicidal, and the group needs to take immediate steps to manage its communications and information sharing. While competitors are flourishing, VW sales are plunging. (General Motors saw a growth of 18.9 percent, the Sino-French Dongfeng PSA Peugeot Citroen Automobile, a growth of 54.9 percent, and Japan's Honda rose by 41.4 percent in 2005) (Chinadaily.com, 2007). This clearly speaks that the Joint Venture is falling through its later stage. In addition to the problems with communication, there also appears a lack of coordinated vision among the Joint venture partners. Partner Shanghai Automotive seems to be playing by pitting one foreign investor against other. It has entered into Joint ventures and contracts with General Motors, and is also forging ahead wit expansive plans of its own. There is also a trend that the Chinese partners encourage maximum technology transfer in return of paltry support at the local level. They also use the foreign investors to build their own brand, which they can later use to manipulate their partners or to form new partnerships with the foreign partner’s competitors. Volkswagen needs an immediate restructuring of its partnership with the Chinese counterparts. It needs to assess the long term aspirations of his partners and ponder upon their compatibility with VW’s objectives. It should restructure its processes, refocus on cost-control, and formulate better marketing strategies. In conclusion it can be stated that joint ventures are great avenues for making a foray into new markets, but they need to be executed and maintained with extreme alertness and caution. Only when both the partners are wiling for an equal level of commitment, and are able to formulate a unified long term vision, then the Joint Ventures can remain successful. References Volkswagen.com, 2007. http://www.volkswagen.com.cn/publish/en/index.html Accessed on 21st March 2007. 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Institute of International Management. The Canadian Commercial Corporation, 2007, ‘Managing Your Risk in China’. Available online at http://www.ccc.ca/eng/lat_feature_archive_risk_china.cfm Accessed on 26th March 2007. Chinadaily.com.cn, 2005.’VW sees China sales slump as rivals soar’. Available online at http://www.chinadaily.com.cn/english/doc/2005-07/13/content_459845.htm, accessed on 26th March 2007. Vanderburg, et al, 2004. Driving Forces and Success Factors for Mergers, Acquisitions, Joint Ventures, and Strategic Alliances Among Local Cooperatives. Chan, 2006. ‘The implications of China for World Socialism.’ World’s Socialist Website. Available online at http://www.wsws.org/articles/2006/mar2006/cha1-m09.shtml Accessed on 25th March 2007. Chinadaily.com.cn, 2005.’VW sees China sales slump as rivals soar’. Available online at http://www.chinadaily.com.cn/english/doc/2005-07/13/content_459845.htm, accessed on 26th March 2007. Read More