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Weekly Comment

A strategy for beating China

18-Jul-2005

As Chinese producers move in on western markets, the first response by many established players is to protect and defend their previous market positions. It's a doomed strategy.

The Chinese business model has turned business orthodoxy on its head, by achieving domination through being second to market. China undercuts, out-produces and quickly replicates quality levels in any manufacturing domain where it can cross the barriers to entry.

That makes these barriers key.

The Chinese model is to build brand new plants with large capacity. It plays to its advantage in lower labour costs by re-engineering the production process to use more labour and less capital.

It then distributes through a huge network of traders in Europe and the US already dealing with numerous Chinese products. Western firms, under pressure from retailers, dive on the opportunity to cut raw material costs, switching to the new, cheaper supply.

The killer blow for existing suppliers is the combination of the speed and the price at which the Chinese enter new markets.

And it is this that tends to push western companies straight onto the defensive. The first step is often the flight to protectionist shelter. But quotas and tariffs only give temporary respite, distorting the marketplace along the way.

If those don't work, we start to shout about unfair play. It is true that China's undervalued currency gives its producers an undeniable advantage. So does a banking system that props up overambitious firms with endless loans.

But we cannot keep fighting the Chinese for dumping vitamins, citric acid and almost any ingredient that they produce and sell.

Western consumers want cheaper supplies. And China has devised a model that delivers cheaper supplies.

Anti-dumping claims target production that is not commercially sustainable at the current pricing. But China is delivering product at these prices because it has made its cost advantages stretch.

Low equipment costs, in what is now one of the biggest tool markets in the world, combined with shrunk capital investment means the capital required to set up shop in China is as little as a third of the costs faced by western firms.

Bigger ingredient groups are already taking advantage of this, moving any capacity expansions to China.

More firms, however, are responding to the competitive threat from China by upping their marketing budget.

Yet more marketing, the development of brands and other devices to add value has not saved jobs, stopped factory closures, or boosted sales growth. Such stop-gaps are simply too easy for the Chinese to move around with the same quality at lower prices.

And the quality of Chinese products is constantly improving. Chinese firms have GMP plants; new food safety measures are on the way. Chinese producers are also starting to offer premium products, such as certified non-GM soy ingredients, showing a dangerous appetite for the once European dominated luxury market.

So, what's left for the food industry of the west? Little more than their old fashioned values. They must revisit their old theories of 'first-to-market' competitive advantage, best achieved through innovation in high-tech products.

China's R&D capabilities still lag those of the west. Their international patent applications, though growing, are less than 1 per cent of the total filed in the US and Europe. And low margins offer little surplus for research and product development.

China's cost advantage will decline as the WTO makes its influence felt on currency.

But if food ingredients are ever to recover previous levels of growth, and food makers are to protect against the ambitions of Chinese consumer goods firms on their own home turf they need to inject some Chinese pace and urgency to their old, rusty model.

Deng Xiaoping, the man credited with opening up China's economy in the 70's to the international market, liked to say: "It doesn't matter if a cat is black or white, so long as it catches mice."

If western industry wants to keep catching mice, it needs to find a safer place than a defence built on either protectionism or marketing. This is one strategic battle that rests on science. The kind of science that is simply hard to replicate, with or without patent protection. The kind of science that is not a defense, but an advance.

In sum, the way for western firms to make one great big patch of business out of the reach of Chinese competition is by being first - again.

Dominique Patton is the editor of NutraIngredients.com, where she has been recognised by industry awards for the publication's strength and for her own news reporting.

If you would like to comment on the article, please contact Dominique Patton .

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