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Variety at Low Cost

Having gained dominance in the reefer segment, CIMC set its sights on extending its product line to include a wide variety of even higher-end products: containers with tanks, folding containers, and other special-purpose models.

Zeng and Williamson Say:

It is clear from these statistics that CIMC’s impact on the global container business is not a one-off. Chinese companies across a wide spectrum of industries and heritages have begun their assault on the global market. What do you say? Send us your comments here

Over the 1990s the tanker container industry had come to be dominated by South African companies. Led by Consani Engineering, Trencor, and Welfit Oddy, the South Africans controlled close to 50 percent of the world market in 1999. Established since 1928 and winner of several awards for technology excellence and export achievement, Consani alone accounted for 22 percent of world production in 1999.

In attacking these incumbents, CIMC again deployed the strategy of cost innovation, but this time focused on offering potential customers a wider variety of specialist models at lower cost. It began by signing a technology-transfer agreement with a British container specialist, UBH International Limited (UBHI), owner of an innovative technology (the Universal Beam Tank) that enabled the weight of tank containers to be reduced. At that time, UBHI supplied 1,800 TEUs per annum—almost 15 percent of the global market.

CIMC’s second step was to reduce costs below those of the established competitors by driving for scale advantage. Within fifteen months it had built a new plant capable of producing 6,000 TEUs of tank containers per annum—almost three times the size of the incumbent global leader. Having won a large volume of business on the basis of low costs, the next step was to use its competitive Chinese design staff to expand the product line and offer more models and customization services. Key to offering this extra value added while keeping costs down was its innovative redesign of the production line to increase flexibility. CIMC was able to reduce the setup time to change models from twenty minutes to five minutes, allowing it to produce a wider variety of tank containers more cheaply than its competitors.

By 2003, CIMC had captured 30 percent of the world market in the tank container segment. In 2005 it expanded production again to become the world leader in this segment as well. The South African companies that had dominated what they viewed as a safe, high-end niche had been toppled.

Retreat to High-End Leads to Defeat

In our experience, shifting focus to high-end segments is the most common strategy managers in high-cost countries are planning to adopt in response to the new competition from China. But the story of the formerly dominant South African players who found themselves competing with CIMC suggests the need for extreme caution in using this approach. The fact is, their attempt to escape the Chinese challenge by moving to successively higher-end market segments ended in dramatic failure. Tencor ceased production of dry freight containers in 1999 to focus on tanks, but by 2004 it ended manufacture of tank containers as well. Consani was placed into liquidation in January 2005. Meanwhile, UBHI was effectively forced to enter an alliance with CIMC in order to maintain the viability of its “focus on the high-end” strategy.

In 1997, having secured a large share of the volume business, CIMC could afford to establish its own R&D center. CIMC has since consistently invested over 2 percent of its revenues in research, so as its sales volumes and revenues have continued to expand, so has its total R&D budget. In an industry generally populated by medium-sized specialists with limited resources, and aided by the relatively low cost of Chinese engineers, CIMC’s R&D capacity now swamps that of any of its competitors. A powerful new competitive weapon—the ability to back large-scale investigations into new technology—has therefore been added to CIMC’s arsenal.

Paradoxically, therefore, the company that started out as a rock-bottom competitor, relying in cheap labor to win over the basic, volume business in standard containers, now has a greater R&D capability than its volume-starved rivals who tried to move upmarket to escape CIMC’s growing penetration of the low end. CIMC was able to use this new advantage in R&D capability when a shortage of the tropical hardwood used in floors of containers drove the cost of wood up to 15 percent of the total cost of making a container. In the face of declining supply from the world’s rainforests, it could be anticipated that this problem would continue. So as it struggled to procure the half-million cubic feet of hardwood it used every year, CIMC began to focus its R&D capability on finding replacement materials. Many in the industry believed the problem was intractable. But after many rounds of experimentation to get the right combination of functionality, quality consistency, production efficiency, customer acceptance, and cost, CIMC came up with a suitable manmade substitute. Today it has replaced tropical hardwood in 25 percent of its container output and sees the manmade substitute virtually taking over in the future.

CIMC’s R&D capabilities have also allowed it to extend the pattern of successive expansion into higher-value segments to the market for foldable containers. The panels that comprise these containers can be folded down in a “chain” onto their bases so that when containers have to be returned empty, they can be collapsed down to 20 percent of their original volume for easy transport. CIMC used its large-scale, low-cost R&D capacity to develop an alternative to the industry standard technology used for the fold-chain mechanism.

Despite being the leading company with 70 percent of the world market in “foldables,” Britain’s Clive-Smith Cowley got the message: as a medium-sized, specialist company it simply didn’t have the resources to win a long-term race against CIMC, even with its initial technological lead. Before CIMC even finalized a prototype, Clive-Smith Cowley offered to do a deal with its Chinese rival. Such was CIMC’s track record in sweeping through other high-end segments that Clive-Smith Cowley agreed to sell a 60 percent share in its business. This gave CIMC access to the “Domino” chain technology, along with an existing production line that was relocated to Guangdong.

CIMC’s rise from struggling entrant into the bottom end of the shipping-container business to unrivalled global leader in virtually every segment of the market—in volume, value, and technical sophistication, and R&D capability—is a wake-up call to those who still believe that moving upmarket ahead of the Chinese is the way to counter disruptive cost innovation from China. Because the Chinese are using their cost advantage across a broad swathe of activities, including R&D, design, and customization, not just in volume manufacturing, moving to successively higher-end segments is just as likely to result in bankruptcy as it is in salvation.

Dragons at Your Door

It is clear from these statistics that CIMC’s impact on the global container business is not a one-off. Chinese companies across a wide spectrum of industries and heritages have begun their assault on the global market.

As the Chinese dragons’ relentless pressure to obsolete the conventional wisdom of global business gathers strength, few businesses will be immune. Sooner or later, the emerging dragons will come knocking on the door of your industry, whether you are in low tech or high tech, a mass-market or a specialized niche. The questions every manager needs to be asking, therefore, are:

• How will the dragons disrupt global competition?
• When are they likely to come knocking at my door?
• What should I be doing about it?

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Copyright 2007 Harvard Business School Publishing. All rights reserved. Reprinted with permission from Dragons at Your Door: How Chinese Cost Innovation is Disrupting Global Competition by Ming Zeng and Peter Williamson (Harvard Business School Press; 2007).