Strategic alliances and their impact on the expansion of Chinese enterprises

Strategic alliances between Chinese and foreign companies have given Chinese companies the essential impetus to modernize and, consequently, to improve their performance, a milestone in China's economic development.

Strategic alliances as essential tool of expansion

One of the most important milestones in the internationalization of Chinese companies started in the late 1980s, opening a new era in China's economic development. Of key importance were two main strategic alliances generally known as OEM (original equipment manufacturer) and ODM (original design manufacturer).

These two forms of strategic cooperation proved to be a veritable engine for the growth of many Chinese companies, providing the necessary basis for their technological development. In fact, the implementation and intensification of such strategic cooperation was in the best interests of both sides. Thus, Chinese companies offering low labor and production costs, could be linked with capital-rich foreign companies, which, in addition to professional expertise, also had an established brand name they could provide. Besides, thanks to low manufacturing costs, Chinese producers were able to keep purchase prices for foreign customers to such a minimum level that the latter would not be able to resist the temptation of such cost-minimizing logic – with both positive and negative consequences for the country.

The main reason for the initial success of both OEM and ODM business models was that the foreign client was not necessarily being asked to make available its own factory production if any, but could leave the entire manufacturing process to the OEM / ODM partner in China. Thus, this type of cooperation resulted in a relatively large discharge for the client in terms of investment and in-house management operations, as the Chinese manufacturers themselves handled many necessary production operations.

While the original equipment manufacturer carried out the order in the form predefined by the client, and waived the right to make any corrections or modifications to the product by selling its product under the client’s brand name, a company name identifying the original manufacturer hardly appeared anywhere. Meanwhile, the original design manufacturer referred to a company turning out products commissioned by other companies that were partly self-developed, but still ultimately sold under the brand name of a customer.

The consequences of strategic alliances

As already mentioned, it can be concluded that OEM and ODM were in the interests of both cooperating partners. While Western clients benefited from cost-effective purchases, and thus increased their own profits, the Chinese producers gained valuable knowledge of various business processes. Thanks to strategic alliances, the latter were able to accumulate and to analyze business processes and, in some cases, make their own technological achievements. Besides, the emergence of OEM business models represented an important step in the positioning of Chinese companies on the international stage, supporting the Chinese government to be internationally more active than it had been in previous decades. This should be explained in more detail with reference to the following embodiment.

The establishment of the OEM / ODM model allowed many Chinese companies, to no longer have to largely design their business activities according to domestic needs, but would provide their own production capacity to meet foreign demand by specializing primarily in the production of various goods sold abroad. Those companies helped to establish a sales-based relationship between Chinese and foreign economic operators, while at the same time creating a reciprocal dependency between the business parties in and outside China. This resulted in a quantitative increase of inter-state interactions, while also contributing to the development of financial and legal platforms that barely existed before, or were poorly developed. The need for inter-state cooperation thus became unavoidable, as interdependency inevitably leads to the formation of supranational institutions or integration into already existing supra-national organizations. Joining the World Trade Organization (WTO) in 2001 is just one example of the consequences described above.

However, the fast-economic development that was thus achieved brought not only positive aspects to China, but also some of the most dangerous environmental devastation caused by a production industry in human history. The aforementioned cost-minimizing logic led both the foreign producers and the local Chinese manufacturers into the temptation to save cost at any price without considering the potential risk of such an irresponsible activity. On one side, there were the foreign companies who were glad to receive goods at a very competitive prices, so they could maximize their own profits. On other side, there were local producers keen to receive more orders and consequently to increase the volume income. However, to keep production costs to the minimum was only possible by cutting expenditure in areas that seemed, on the surface, less relevant than economic growth – work place safety, workers salary, and environmental protection. While the buyers pushed the producers to sell the goods for as little as possible, the latter did not have a choice other than to minimize operational costs by ignoring the international standards required for the foreign companies. The consequence of this was a disaster for everyone involved. Buyers began complaining about the average quality of goods, the producers had to accept poor working conditions for own workers without paying necessary attention to certain standards, and the environment was exposed to massive pollution. Thus, financial growth suddenly revealed another face that apparently was not pretty.

However, despite all the challenges of the last three decades, it can be stated that many Chinese companies became familiar with the numerous peculiarities of individual foreign markets and were able to start following specific technical standard compliances, so that the production of high-quality goods was no longer a problem. The accumulated experience during the OEM phase, along with the accumulation of the necessary equity, finally enabled many Chinese companies to establish their own company name in and outside the country.

Dr. Konstantin Schamber is an entrepreneur, expert in collaboration between China, Central Asia and Europe, and visiting lecturer at several business schools. He is managing director of the center for strategic intercultural communication GmbH in Germany and founder of the Business Innovation Congress.