Shunde and the World Economy
Photo: 河北新闻网
By Henry Hing Lee Chan

Shunde and the World Economy

Apr. 02, 2019  |     |  0 comments

In a span of 40 years from 1978, Shunde successfully transformed itself from an agricultural society to become a key manufacturing centre in Southern China. The transformation of Shunde reflected the successful integration of China into the global economic system. The transformation of Shunde’s town and village enterprises (TVEs) into global manufacturing giants today was not an easy process which is really worth of studying. This article reviews the growth story of Shunde and its integration into the global economy.

Shunde before Chinas 1978 reform and opening up

Shunde is endowed with favourable natural resources and its agricultural economy is cash-crop based. Historically, it is famous for its silk and aquaculture. A good number of its people worked as petty traders and workers rather than traditional subsistence farmers in the past, hence Shunde’s society was already familiar with the operation of market-based economics before the 1978 reform and opening-up. There were some agricultural-based industries before 1978.

Before the reform and opening-up, peasants were tied to the planned economy of the state and bound to the land. They had little incentive to work hard and had no power to make personal decisions on what jobs to take. At the same time, the state-mandated price gaps between industrial and agricultural products were widening in favour of the industrial sector. Farmers were not able to obtain necessary funding to develop rural industries. Up until 1978, Shunde had only 214 manufacturing businesses, mainly engaged in activities supporting the agricultural sectors such as bambooware workshop, wood machinery manufacturing, tractor repair and maintenance, etc. The industrial output value was only 847 million yuan, typical of an agricultural society.

At that time, Shunde industrial talents faced a 'one too little, two very low, three very old' (一少、两低、三老) predicament. 'One too little' refers to the small number of professionals working in the industrial sector; Shunde had fewer than 10,000 professionals, and they were concentrated in educational institutions, medical clinics, and state-owned enterprises (SOEs). There were only 51 professional technicians and engineers in the industrial sector. 'Two very low' refers to the low level of professional qualifications of the engineers. The entire Shunde county did not have a single engineer who graduated from university. Out of the 51 engineering professionals, 14 graduated from polytechnics while 37 graduated from technical schools. 'Three very old' means that the technical know-how of all the 51 industrial professionals was old and outdated.

In a nutshell, before China’s reform and opening-up, Shunde lacked funds, skills, and technology to develop the manufacturing sector.

Shundes Rongqi Dajin Clothing Factory (容奇大进制衣厂) spearheaded the country in adopting the compensation trade export model and integrating it into the global trading system

In August 1978, Shunde’s Rongqi Town set up a garment factory with Hong Kong’s Dajin Co., Ltd. (Later in 2000, Rongqi Town and Guizhou Town merged to form today’s Ronggui town.) The Hong Kong partner provided capital investment, equipment, technology, management, raw materials and export orders, while the garment factory supplied local labour to work on the export orders.

Dajin Clothing Factory was China’s first group of TVEs to engage in the compensation trade export model. In the model, the foreign partner brings in raw materials, machinery and technology, while the local partner provides labour and factory space to make the products specified by the foreign partner. The foreign partner buys all the finished products and its input is compensated by the labour component of the product.

The original contract period for Dajin Clothing Factory was six years. The factory’s business model was quite successful; in its first year of operation, the small factory of 300 workers earned 200,000 US dollars in net income. By 1983, the company successfully paid back all its obligations to the Hong Kong partner one year ahead of the original contract terms, learnt all the production techniques and became an independent TVE of Rongqi Town.

Complementary reforms in the 1980s transformed the economic landscape of Shunde and unleashed the vitality of TVEs

The success of Dajin Clothing Factory created the Dajin Effect and caused the proliferation of compensation trade-based TVEs. On the one hand, the government took loans and built extensive physical infrastructure in transportation and telecommunications to facilitate the operation of new TVEs. On the other hand, incentives were implemented to entice foreign investors and local governments to set up export-oriented TVEs. 1987 saw the establishment of 548 compensation trade businesses, the most since the model was started by Dajin in 1978. Labour income from the compensation trade hit 7 million US dollars that year.

In 1983, there were 2019 TVEs with a total output value of 610 million yuan. This was a 8.3-times and 1.93-times increase in the number of TVEs and output value compared to 1978. The TVEs’ output value accounted for 40% of the county’s 1.53 billion yuan industrial and agricultural output value, and 50% of the county’s industrial output value. This was the year when TVEs became an indispensable part of the county’s industrial development. The rapid of growth of TVEs within five years reflected the courage and determination of Shunde’s people.

As early as the late 1980s, some Shunde businesses already ventured abroad to set up overseas operations. This also reflected the Shunde people’s can-do spirit and courage. For instance, Leliu Huaxing Fan Factory and Rongqqi Town Dajin Clothing Factory set up factories at Cuba and New Zealand respectively.

The composition of Shunde’s exports also changed dramatically in the 1980s. At the start of the 1980s, agricultural and agricultural by-products were the main exports. By the end of the decade, industrial products like household electrical appliances had become the main exports. Electric fans, rice cookers, stationery, footwear, silk garments, cotton fabrics and other industrial goods were exported to more than 100 countries and regions like Japan, France, Germany, the United Kingdom, and the United States. This export composition transformation in the 1980s was speedier than what the Asian 'Four Tigers' experienced (South Korea, Singapore, Taiwan and Hong Kong) when they first started.

On the issue of the shortage of industrial skills and professionals, Shunde launched several innovative talent policies:

(1)The government cooperated with TVEs to recruit outside talents through various channels. At the same time, it adopted a multiple-level, multiple-format and multiple-channel strategy to train local talents. By 1990, the number of competent talents (including teachers and doctors) rose to 15,260. This was a 34.7-times increase compared to 428 in 1982. Most of the talents worked in township enterprises. 2/3 of them were outside talents from other places of China, and the remaining 1/3 were trained local talents.

(2)Giving up the traditional seniority and academic qualification-based employment system, Shunde’s businessmen adhered to the results-oriented market-based economy and adopted the principle of meritocracy on employment practices. According to the principle of meritocracy, Shunde gave many home-grown experts who had neither academic qualifications nor professional titles the positions and compensation that were consistent with their job performance.

(3)Most Shunde businesses implemented their own internal job classification system rather than job classification based on past academic qualifications or professional titles bestowed by the government. This is a break from the then prevailing tradition where academic qualifications or professional titles determined one’s job classification. The internal job classification system is merit-based, and the focus is on job performance. Freshly recruited technical personnel were first assigned to the factory floor. Based on their performance on the factory floor during the probation period, they are then assigned positions consistent to their ability and performance. Benefits accorded by the company are consistent with their positions and responsibilities. To incentivize employees with outstanding performance, job appointments are not permanent, and they can easily be promoted.

In 1991, Ma Jun, a Doctor in Thermal Engineering at South China University of Technology, was employed by Midea, making the company the first TVE in the country to employ a PhD holder. Ma Jun’s employment story became well-known in Shunde. In the summer of 1991, Ma Jun gave up a school teaching job offer after he defended his PhD dissertation at the South China University of Technology. The move was unconventional at that time as a secured teaching job was the more popular career choice. Instead, he chose to market his research project, which was on energy efficient air conditioners. After being rejected by several big companies, he was finally hired by He Xiangjian, General Manager of Midea, an electrical appliance TVE in Beijiao Town, Shunde. Although Midea was just a medium-sized TVE, He Xiangjian was a visionary. He broke the tradition of requiring fresh recruits to go through three months of probation and low starting wages when he hired Ma Jun. As a result, although Ma Jun started with a relatively low salary, he was exempted from the probation. In return, He Xiangjian asked Ma Jun to finish the energy-efficient aircon prototype in four months.

Three months later, Ma Jun successfully produced the first high-efficiency air conditioner prototype. Upon expert appraisal, it was determined that the output-to-weight ratio substantially exceeded the government-mandated standard, and its energy saving was 30% better as compared to air conditioners with the same weight. Midea immediately set up the production line to produce the new energy-saving air conditioners, with orders quickly exceeding 100 million yuan. Ma Jun was promoted to be a senior engineer and director of the factory, and his monthly salary increased several folds.

By the early 1990s, Shunde’s economic development was in full swing. On average, a new product was launched every two days. A significant contributor to this is a conducive working environment for engineering and technical personnel. They were given sufficient funding and corresponding facilities for their research and were encouraged to establish a strong innovative culture. They were also given the right to participate in decision making. Shunde’s merit-based employment system is a key factor in the subsequent growth of many initially-small TVEs that later became giant corporations.

The three-stage evolution of Shunde’s manufacturing industry in the 1980s, from working for others, to partnering with others, and then to standing alone in the world market

Shunde had a business development strategy from the beginning. TVEs engaged in compensation trade as they faced the problem of shortage of funds, skills and technology. By working for joint venture partners under the compensation trade, they acquired needed technology, capital goods, management expertise, and knowledge on the world market.

After acquiring the production skills, experience and export channels through the compensation trade, Shunde’s manufacturers also possessed sufficient capital by then to form joint ventures with new overseas partners. In this change of business model, Shunde’s manufacturers began partnering with others.

After 1987, the labour-intensive TVEs specializing in the compensation trade gradually decreased in Shunde, and local businesses either formed joint venture with foreign partners under the umbrella of foreign-funded enterprises or started their own export operations. By the end of 1991, Shunde had set up 579 joint venture businesses. These businesses had an annual output value of 4.8 billion yuan and an export value of 320 million US dollars. At the same time, the processing fees of the compensation trade companies dropped to 1 million US dollars.

Although joint ventures are a gateway to the international market, there are certain limitations. They do not directly access the market, and production equipment and raw materials are often controlled by foreign investors.

In terms of 'standing alone in the world market', Shunde entrepreneurs had two ways to achieve this. Firstly, after the contracts of their compensation trade businesses expire, their foreign-funded factories were turned over to local ownership. By leveraging on existing production technology, investment was increased to expand production and new local brands were developed, thereby developing both their domestic and foreign markets. Secondly, advanced equipment was brought in to improve the production efficiency of the existing businesses and make new high-end products for the international market.

In the 1980s, Shunde imported more than 30,000 pieces of new production equipment with a total value of more than 300 million US dollars. The new equipment significantly boosted the competitiveness of Shunde’s businesses internationally.

At the end of 1991, Shunde had 262 enterprises with annual sales exceeding 10 million yuan. Of these, 15 had sales between 50 million and 100 million yuan, and 21 had sales over 100 million yuan. 16 of these were TVEs. By then, the technology of these pillar enterprises had already reached the level which was achieved internationally in the late 1970s and early 1980s.

From an agricultural county short on funds, technology and production skills, Shunde became an important light industry manufacturing hub of the world in a decade. The phenomenal growth of Shunde’s manufacturing industry looked more impressive than Taiwan and South Korea in the 1960s.

Economic restructuring in 1993 redefined property rights, incentivizing management to minimize agency issue

Many TVEs had serious management problems in the early 1990s. The direct consequence of the government’s role as the owner of TVEs created a serious agency problem, and the government suffered from a 'limited benefit, unlimited liability' problem as more TVEs in the system suffered losses by the early 1990s. At that time, the non-performing loans (NPL) in Shunde’s banking system exceeded 30%, mostly on loans to TVEs.

At the beginning of 1993, Shunde used the term 'glorious achievements amid frightening burdens' when reporting problems of its economic development. During that year, Shunde piloted China’s first property rights reform. Many local state-owned TVEs were privatized and the new property rights bestowed on management significantly boosted the productivity of the affected entities. As a result of the restructuring in 1993, many TVEs have thrived. Many of Shunde’s most prominent businesses today were a result of the restructuring.

From 'coming in' to 'going out'

By forming partnerships with leading companies to invest in Chinese production or buying their technology through licensing or royalty payments, Shunde’s businesses used the 'coming in' strategy to describe the process of adopting, modifying and then innovating on the imported production technology. This process is the recipe for success of Shunde’s manufacturers and many of them rank among the leading manufacturers in their industries today. They have developed their in-house technologies and possess considerable financial muscle to proceed with worldwide acquisitions of foreign companies or technology.

Through foreign investment and cooperation, Shunde’s businesses used 'going out' to acquire technology, brands and markets for internationalization. In recent years, many prominent Shunde businesses have been taking advantage of incentives offered in their existing export markets to relocate some of their operations overseas. This 'going out' strategy reinforced Shunde’s manufacturers’ overseas market positions. Shunde’s industrial economy is export-oriented. At present, Shunde has trading relations with more than 200 countries and regions.

By the end of 2017 there have been 133 cases of approved overseas investment. The total investment amount was about 6.285 billion US dollars. 12 companies in Shunde have set up 26 production bases overseas, with a total investment of 633.2 million US dollars. Among them, Midea’s 6 production bases accounted for 507.9 million dollars, and Keda’s 5 production bases and 1 after-sales service centre accounted for 65 million US dollars. The remaining 10 companies with 14 production bases invested a total of about 60 million US dollars. Investment regions are scattered in 15 countries, including Southeast Asia, Africa and Europe.

Table 1. Overseas investment over the years

Internationalization of Midea’s electrical appliances is a typical Shunde model. It can be divided into three stages. The first stage is to improve domestic production and make China the world’s factory. The second stage is to establish an international distribution network and foreign production bases, and to become shareholders of international brands. The last step is to finally become a brand operator.

At the start of the 21st century, Midea accelerated the setting up of its overseas sales network. Major branches were set up in Europe and New York, and sales offices in Japan, Singapore, and South Korea. In 2007, Midea’s first overseas production base was completed and put into operation in Ho Chi Minh City, Vietnam. It had an annual production capacity of 5 million to 8 million small household appliances. At present, Midea has 21 factories and 260 logistic centres in more than 200 countries around the world. Overseas sales have exceeded 50% of its business.

In 2016, Midea launched a large-scale global expansion where it acquired 80.1% of Toshiba White Goods Division, a leading Japanese home appliance company. Midea has also obtained the right to use the Toshiba brand name globally, and more than 5,000 patents related to white appliances. In January 2017, 94.55% of the KUKA Group, the world’s leading supplier of robotics and automation equipments, was acquired for 4.5 billion euros.

At present, Shunde’s businesses’ footprint has reached six continents. Shunde precision machinery manufacturer Yizumi has set up production bases in North America and India, and it is increasing its overseas business to 30% of sales. Global microwave manufacturing leader Galanz has sales and retail centres in the United States, Britain, France, Germany and other countries, and its export sales accounts for 60% of the company’s business.

Shunde’s businesses have also set up overseas R&D institutions to facilitate innovation and globalization. They have developed innovative products and earned differentiated competitive advantages in the international market.

The leading Shunde company, Midea, has set up R&D facilities in the United States, Japan, Italy, Germany, and other countries. Among them, the Louisville home appliance R&D centre in the United States was set up to take advantage of Louisville’s home appliance research ecosystem. And the second one in Silicon Valley was set up to take advantage of the digital and high-tech talents there. By the end of 2017, the Louisville Home Appliances R&D Centre had submitted more than 45 patent applications in the United States, and the 6-month old Silicon Valley Future Technology Centre has successfully developed two AI-based smart home appliances and achieved many AI application breakthroughs in home appliances. Fang Hongbo, chairman of the Midea Group, has maintained that if the company wants to achieve new breakthroughs, resources should be deployed in leading research centres where Midea had no presence.

Shunde-based Yizumi Precision Machinery Co., Ltd. has followed the same path of setting up an overseas R&D centre to acquire new technology. The company hired ENGEL’s retired chief engineer and his team to set up an R&D institution in Europe. ENGEL is one of the world’s largest injection moulding machine manufacturers. In 2017, the institute set up a R&D centre in Germany and became a member of the Aachen University of Plastics Processing Research Institute. The advanced robotic flexible manufacturing centre developed by Yizumi and the Aachen University of Plastics Processing Institute IKV is currently moving into the production phase.

Galanz has also established R&D institutions in many countries such as the United States, South Korea, Japan and the United Kingdom. In 2006, it established the 'Galanz Korea R&D Centre' in Seoul, South Korea. Other R&D centres soon followed. The company’s international R&D experts are engaged in cutting-edge home appliance technology development such as smart appliances network development and using new materials in home appliances.

From a global R&D innovation perspective, Shunde’s businesses in their 'going out' strategy have invested in overseas factories to gain market share, particularly in developing countries. They have also invested in R&D facilities in developed countries to tap into high-quality innovation resources like talents and technologies. By effectively absorbing technological spill-overs from developed countries, they have accelerated the upgrading of their manufacturing operations.

'Coming in' and 'going out' at the same time - Shunde businesses going global

Going out to get new business partners and acquiring production capacity and technology, while at the same time bringing in attractive inward investment, is the new strategy adopted by the now world-class Shunde manufacturers. The new strategy can be illustrated using two examples.

By 'going out' to discuss cooperation with Hannover Exhibition Company, Shunde brought in the Hannover Robotics Academy as well as Guangdong (Tanzhou) International Exhibition Co. Ltd. to set up the Foshan Robotics College together. The goal of the institute is to train robotics specialists in China and promote the industry.

In 2016, Midea Group acquired the majority stake of KUKA Group by 'going out', and it partnered Kuka in the 'coming in' stage to invest 10 billion yuan in the Shunde Sino-German Industrial Service Zone to put up the 80-hectare KUKA Smart Manufacturing Technology park. The Park houses four business segments; intelligent manufacturing, intelligent logistics, intelligent healthcare, and intelligent homes. Together, Midea and KUKA will market the products of the park in the world market.

The internationalization of Shunde’s enterprises will further integrate local enterprises into the world economy. The Guangdong, Hong Kong, and Macau Greater Bay Area (GBA) will promote the economic and technological development of the entire Pearl River Delta, and further enhance the globalization of Shunde’s businesses.

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