Catch up processes in the global automobile industry

Content

Acknowledgements

Glossary

0. Introduction

1. The automobile sector
1.1. History of a mature industry
1.2. Value system and fundamental considerations
1.3. Incumbents as the catch up benchmark
1.3.1. Toyota Motor Corporation
1.3.2. General Motors Company
1.3.3. Volkswagen AG

2. A conceptual framework of key catch up factors in the automobile industry
2.1. Learning theories and their importance for catch up
2.1.1. The concept of absorptive capacity
2.1.2. The interaction between tacit and explicit knowledge
2.1.3. Leapfrogging in the knowledge creation process
2.2. Core resources and capabilities in the automobile sector
2.2.1. Developing automobiles
2.2.2. Managing the supply and production network
2.2.3. Operating a dealership and service network
2.2.4. Marketing and branding cars
2.3. Catch up model for the automobile industry

3. Hyundai: Insights from an early catch up case
3.1. Initial institutional setting in Korea and its development
3.2. The Hyundai Chaebol as a facilitator of catch up
3.3. Hyundai’s catch up path
3.3.1. Producing with assistance
3.3.2. Achieving fundamental design capabilities
3.3.3. Licensing core technology for advanced products
3.3.4. Developing distinct core technology knowledge
3.3.5. Establishing a global production network
3.4. Hyundai’s strategic pattern of learning

4. A longitudinal perspective on the selected automobile latecomers BYD, Chery, Geely, Tata Motors and Mahindra
4.1. Institutional environment in China and India
4.1.1. Pre-opening phases
4.1.2. Post-opening phase in China
4.1.3. Post-liberalization phase in India
4.2. The influence of business groups
4.3. Catch up path and current status of the five companies
4.3.1. Capability area I: Developing automobiles
4.3.2. Capability area II: Managing the supply and production network
4.3.3. Capability area III: Operating a dealership and service network
4.3.4. Capability area IV: Marketing and branding cars

5. Strategic pathways for automobile latecomers
5.1. Strategic group I: Follow the leaders
5.2. Strategic group II: Incremental innovation and exhaustive absorption
5.3. Strategic group III: Gambling on game changing developments

6. Limitations, further research and concluding remarks

List of sources

List of figures

List of tables

Appendices

Statutory declaration

Acknowledgements

Besides theory building and empirical observations it is the discussion of topics that tremendously enriches scientific research. Accordingly this research project was not only useful as it broadened the author’s horizon but also as it provided evidence that the discussion is maybe the most important part of research.

Herewith, I want to thank Gregor Beyer, Timo Neumann, Philipp Schilling, Andreas Schreiber, Maximilian Steinhoff, Maria Thaens and Mathias Voigt for joining the discussion and correcting the plentiful mistakes of the initial version of this thesis.

Thanks also belong to Tobias Schmidt for investing time and bright thoughts throughout the weekly meetings and discussions as they encouraged thinking and were always fruitful.

Also, I want to express my gratitude to Dr. Philipp Sandner for correcting and evaluating this thesis and even more so for the lively exchange of information, sources and ideas.

A very special thank belongs to Prof. Dr. Gert Bruche for supervising this paper. His tremendous expertise helped inestimably to guide my thinking when confusion was dominating and his critical comments always challenged me to improve the outcomes of this piece of work.

Glossary

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0. Introduction

During the last two decades the world economy has underwent a process of globalization. Through this dynamic development, a number of countries have achieved a globally important position as emerging economies. Whereas before the millennium developed countries dominated the world economy, these emerging countries have recently gained momentum and are in focus of interest. This development comes along with a wave of new competitors that are tackling the large multinational companies (MNC) of developed countries, which have been dominating the global business landscape so far (Mathews, 2006).

These emerging companies are referred to as latecomer firms (LCFs) or emerging multinational companies (EMNCs) in the business research literature (Bartlett & Ghoshal, 2000; Jiatao & Kozhikode, 2008; Y. Luo & Tung, 2007; Mathews, 2002, 2006). According to Mathews (2002) LCFs have certain distinctive characteristics:

(a) LCFs had no choice but to enter the business lately as a result of historic circumstances. Hence, they are late entrants by historic necessity. This fact clearly separates them from late entrants, which are basically all firms that enter a business after the early mover has done so
(b) Their primary goal is to catch up with the incumbents in the industry
(c) LCFs initially possess only very few resources
(d) However, they have some initial advantages (e.g. a low cost production base).

Based on these characteristics this thesis defines automobile latecomer firms (ALCFs) by adding the dimension of ownership. That is ALCFs have their home base in developing countries and are controlled by investors from these countries.

The term automobile (in contrast to automotive) underlines that the focus lies on the manufacturers of cars – often referred to as original equipment manufacturers (OEMs) – but not on their suppliers or their distribution partners. Subject of investigation is the passenger car segment. Both commercial (e.g. buses and trucks) and agricultural vehicles (e.g. tractors) are excluded. Additionally, the recent trend of electrification in the automobile industry is only considered when necessary. Due to formal restrictions and time limitations of this thesis, it was not feasible to integrate this topic to a large extent.

As a matter of these definitions only China and India are home to ALCFs that are challenging the incumbents from the Triad^[1] countries. Furthermore, only ‘ genuine’ (referring to the dimension of ownership) Chinese and Indian companies will be taken into account. The numerous Sino-foreign^[2] joint ventures (as they are mostly not controlled by domestic investors), their related parent companies (due to the fact that they are not significant as EMNCs) and firms, which are in a very early phase of their catch up, will be excluded (see Figure 1).

Figure 1: Definition of research object

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Source: Own illustration

In line with these conditions five firms have been selected, which are relatively well covered in the literature as they are among the most promising companies with regard to their catch up potential (The Boston Consulting Group, 2011a, p. 13). The observed firms are BYD Company Ltd. (PRC), Chery Automobile Co. Ltd. (PRC), Geely Automobile Holdings Ltd. (PRC), Mahindra & Mahindra Ltd. (India), and Tata Motors Ltd. (India)^[3].

Following Mathew’s (2002) above mentioned definition of latecomer firms, catching up to the incumbents is an important part of ALCFs’ strategic intent. However, no consistent definition of catch up exists. Keun and Chaisung (2001) divided catch up in market catch up and technological catch up, which is largely adapted in this thesis. Market catch up is by means of this study defined as succeeding in the market by e.g. achieving market shares, profits or returns similar to incumbents. Instead of technological catch up, this thesis uses the term c apability catch up in order to include capabilities other than technological ones . Capability catch up is defined as achieving capabilities comparable to the incumbents.

As it is obvious that the five above mentioned ALCFs’ market success is not comparable to those of incumbents (see Exhibit 11), this thesis seeks to contribute by focusing on capability catch up. It considers the latter to a certain extent as a necessary precondition for market success.

By analyzing the capabilities of the five ALCFs, this thesis aims at enriching the catch up discussion by:

(a) Creating insights into the automotive sector of the two biggest emerging economies namely China and India and illustrating their idiosyncratic characteristics;
(b) systematically comparing the most promising latecomers in the automobile industry and evaluating their potential to catch up with the incumbents based on qualitative research and experiences from the catch up case of Hyundai (South Korea) and;
(c) illustrating the latest developments in the automotive industry, which might to a certain extend be beneficial for research in other sectors.

As this thesis describes the industry’s reality and tries to formulate theory, it follows a case study logic (Eisenhardt, 1989, p. 535; Marshall, 1998, p. 56). In line with Eisenhardt’s (1991, p. 626) “comparative multiple-case logic of replication”, insights are partially derived from comparisons among the ALCFs and with Hyundai.

The author used a broad spectrum of sources and categorized their information. This process is referred to as coding (Thomas, 2004, pp. 217-218). By means of developing a catch up framework for the automobile industry, several categories were defined that enabled an evaluation of the catch up status. Then, qualitative data was analyzed and summarized under each category. Since the majority of the observed companies are close-lipped, sources such as blogs and forums are included in this thesis. As the research design is longitudinal (i.e. observations are performed over a long time span), one difficulty was to get access to older sources.

By using various sources such as newspaper articles, studies, journal articles, databases, country and company reports, the author tried to triangulate the data base. That is, he tried to find different sources to describe the same observation and hence increase the validity, reliability and objectivity of this thesis. However, the number of sources was limited as, due to language barriers, only German and English sources were used. During the whole research process the author tried to take a critical perspective especially when the observed ALCFs were the authors of sources. An advanced review process comprising eight students with background in business research resulted in a fruitful discussion on the topic and aimed at further increasing the objectivity of this study.

The structure of this thesis is based on five ‘guiding questions’ each referring to one of the first five chapters:

(1) Which are the characteristics of the automotive industry and which incumbents serve as the catch up benchmark?
(2) What are the crucial elements of catch up in the automotive industry?
(3) How can successful catch up look like and which factors are crucial for success?
(4) What is the status quo of the ALCFs in terms of catch up?
(5) How can the catch up approaches of the ALCFs be characterized and how do they differ?

Chapter one focusses on the industry’s value system and the incumbents. It provides a brief look at the current top three companies that serve as the catch up benchmark. Then chapter two emphasizes the role of learning theories, which explain the processes behind organizational learning and thereby provide insights into the capability building processes of ALCFs. The concepts of absorptive capacity, the interaction between tacit and explicit knowledge and leapfrogging possibilities in the knowledge creating process are in focus. By combining the insights from learning theories with the core activities in the automobile sector, the author defines a catch up framework for latecomer firms in the automobile industry based on four core capabilities. Section three observes the Korean automaker Hyundai as the company provides an example for successful catch up. The author provides a closer look on the institutional setting in Korea and how it influenced the catch up process. Then the focus is on the Hyundai Chaebol^[4] and finally the distinct catch up phases of the company. This scheme (institutional environment – business group influence – capability creation path) will be reused in chapter four. First, the author observes the institutional environment in China and India and the influence of business groups. Second, an empirical analysis of numerous sources forms the basis for an assessment of the ALCFs using the catch up framework developed in section two. Section five then clusters the catch up approaches of the ALCFs by creating three strategic groups in order to highlight the different paths that can lead to catch up. Finally, this thesis closes with a chapter on limitations, further research and concluding remarks.

1. The automobile sector

To understand catch up in the automobile sector, it is first necessary to understand the general characteristics of the industry. Chapter 1 seeks to illustrate these features beginning with a brief description of automobile history in section 1.1.

1.1. History of a mature industry

Very early attempts to design engines - which was the unique criterion of ‘auto-mobiles’ in contrast to horse-drawn carriages - have been undertaken by Christian Huygens and Denis Papin in 1673 and 1690. Almost a century later, the French engineer Nicolas Joseph Cugnot developed first steam engine powered models of automobiles in 1769 (Eckermann, 2001, pp. 11-14).

Despite these early experiments it can be claimed that, it was by the end of the 19th century when the automobile industry was established as most major inventions that are still relevant today, belong to this time (Diez, 2005, pp. 21-23). The four stroke combustion engine was developed by the German engineer Nicolaus August Otto in 1876 (Eckermann, 2001, p. 21) and the first patent for a three-wheeled car was filed on January 26th 1886 by the German engineer Carl Benz. In 1893 the first four-wheeled car was introduced and in 1897 the Diesel engine invented.

As illustrated in Figure 2, all fundamental product innovations took place before the end of the 19th century (Diez, 2006, pp. 20-21).

Figure 2: Schematic automobile industry life cycle

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Source: Own illustration based on Tidd and Bessant, 2009, pp. 38-40; Utterback and Abernathy, 1975

In principle, cars are today still running the engine technology invented by Diesel and Otto towards the beginning of the 20th century. While there have been incremental product innovations during the past century, improvements were more evolutionary than revolutionary in nature. The introduction of mass production by Henry Ford in 1913 and the Toyota production system, which both have become de facto standards in the industry (Clarke, 2005, pp. 71-99), point to the dominating role of process innovations in the 20th century. Thus, the absence of revolutionary product innovations^[5] and the dominating role of process innovations since the beginning of the 20th century hint at the maturity of the industry’s life cycle (Diez, 2006, pp. 20-21; Magnusson & Berggren, 2011, p. 5; Tidd & Bessant, 2009, pp. 38-40). This observation is supported by the theoretical concept of Abernathy and Utterback (1975), who term this phase the ‘specific’ phase (see also Tidd & Bessant, 2009, p. 40). Both argue that in this phase crucial development factors are cost savings and process innovations along with integration and standardization. Evidence for the latter can be found in the instances of Volkswagen’s MQB^[6] and Ford’s ‘world car’^[7] approach (Clarke, 2005, pp. 6-7; Handelsblatt, 2012a; The Financial Times 2011d; Volkswagen AG, 2010) as both attempts strive for standardization and modularization.

1.2. Value system and fundamental considerations

Section 1.2 is now focusing on the value system of the industry taking the perspective of OEMs. The author describes the relationship between the central actors i.e. suppliers, OEMs and customers and highlights the most important factors for success.

One of the predominant success factors in the automobile industry is scale (Pavitt, 1984, p. 354) as the development of cars is highly resource demanding. According to Sturgeon and Van Biesebroeck (2010, p. 11), the development of a new model requires more than 30,000 engineering hours, several billion dollars as investment and lasts three to five years. By distributing R&D costs among total production volume, manufacturers decrease per unit R&D costs and hence stay competitive. This stresses the importance of standardization and modularization as these concepts increase the degree of common parts across different models and thus enable OEMs to realize higher economies of scale. Additionally, modularization leads to lower development costs as fewer parts need to be developed. Many experts and analysts claim that scale is necessary in order to stay competitive. Fiat’s CEO Sergio Marchionne for instance believes that car manufacturers from developed countries have to produce five to six million cars p.a. to compete successfully (MarketWatch Inc., 2011).

Besides development, the core processes of OEMs include component integration and final assembly execution. This requires in-depth knowledge in various technologies such as information and communications technology (ICT) (e.g. infotainment systems, engine management), electrics (e.g. CAN bus system^[8], sensors, probes, and recuperation) and mechanics (e.g. engine, transmission, drive train).

Due to the fact that OEMs concentrated on their own core competencies, the role of suppliers in the automobile industry has changed dramatically during the past three decades. Originally producing parts and few components, suppliers have grown responsible for subassembly of ever bigger components and, are involved in the development process of new models making them an increasingly important source of innovations (Sanz, Semmler, & Walther, 2007, pp. 25-48; Sturgeon & Van Biesebroeck, 2010, p. 4). Estimates about corresponding value-add in the industry go as high as 75 percent on average (Djabarian, 2002, pp. 7-14). The rationale behind this outsourcing trend is again economies of scale. Suppliers specialize in the production of certain components. By producing these components for many OEMs, they achieve higher cost efficiency than OEMs that produce the same components for their own demand.

However, one area has been largely unaffected by the shift towards suppliers. The development and production of the powertrain components (e.g. engines and transmissions) has to a large extent remained with the OEMs, since it represents the technological core of a car and involves crucial know-how. In general, it is nevertheless likely for the outsourcing tendency from OEMs to suppliers to continue, as the modularization trend and the ever more important target of cost efficiency are gaining weight in a more competitive context of a globalized market.

When shifting perspective from the industry as such towards its final product, a few important facts have to be considered. First, the automobile itself is a product with a medium-length product life cycle of about six years on average (Brunn, 2009, p. 58). Second, new generations of products (e.g. Golf VI is the latest generation of Golf) are introduced gradually earlier than in the past (Brunn, 2009, p. 59; Helfat & Raubitschek, 2000, p. 965). This trend increases the pressure to develop new models faster, which in turn leads to significantly higher R&D costs. This further stresses the importance of cost efficiency.

Hence, as the pressure to be cost efficient is increasing, automobile manufacturers continuously seek for optimization potentials. A result of this quest is that production is highly automated in mature economies, particularly in the Triad. As a result of the high wage level in these countries, the number of employees on the shop floors has significantly decreased being substituted by robots during the past three decades. However, the picture in developing countries (like Brazil, China, India and Russia) is different, as dramatic differences in wage levels have resulted in a high degree of hand operated manufacturing in these countries. To benefit from this wage-advantage, local industry has shifted to favor manual labor over automated production (The Boston Consulting Group, 2010b). Especially Brazil and China were in focus of incumbents’ offshoring activities. Recently India is also gaining momentum, outperforming the other countries in terms of market growth (The Boston Consulting Group, 2010b, pp. 5-10). Thus, most of the OEMs’ upstream activities are executed globally to leverage cost advantages in low cost countries^[9].

The same is true for downstream activities which show an equally global footprint. Generally, cars are distributed through dealership and service networks, where subsidiaries are either directly owned by the OEMs or by independent dealers. However, the degree of independence is highly different as independent dealers could (a) sell cars from one OEM on a contractual basis in a franchise system or (b) be completely independent and sell cars from the brands and companies of their choice (Diez, 2005, pp. 129-163). No matter whether a firm’s network is organized in one or the other way, it is obvious that any kind of network is necessary in order to sell cars to customers.

1.3. Incumbents as the catch up benchmark

After having understood the fundamentals of the industry, the focus in section 1.3 is now on the incumbents of the industry, in order to illustrate the target of ALCF’s catch up efforts. The next section provides a brief observation of the three leading companies in the industry, beginning with the largest one in terms of produced units.

1.3.1. Toyota Motor Corporation

Toyota Motor Corporation (TMC) is part of the Toyota Group, a large Japanese business group active in various areas such as real estate, steel and communication systems that was founded in 1926.

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Table 1: Toyota Motor Corporation key facts 2010

Source: Toyota Motor Corporation, 2011

TMC was established in 1937 as an independent company and began manufacturing with the AA sedan including the Type A engine that was independently developed in-house. (Toyota Motor Corporation, 2011). A major driver for TMC’s success was the ability to copy certain parts and processes from American manufacturers while independently developing own know-how (Clarke, 2005, p. 89).

After World War II the company was in severe financial problems and close to bankruptcy in 1950 (Toyota Motor Corporation, 2011). However, TMC managed to stay in the automobile business and began exporting its Crown model to the US in 1957. The 1960s were characterized by a strong domestic demand with an average national sales growth rate of 26.9 percent. In the 1970s TMC profited from a sharply increasing international demand (Clarke, 2005, pp. 91-92). In 1984 overseas production in the US was realized via a joint venture with GM. Finally, in 1988 and 1992 global production was augmented by plants in the US and UK (Toyota Motor Corporation, 2011).

Starting with the introduction of a total quality management system in the mid-1960s which would eventually integrate suppliers, TMC laid the foundation for its price winning Toyota Production System (TPS) (Clarke, 2005, p. 92). TPS optimizes the efficiency of processes by avoiding wasteful, non-value adding activities through continuous improvement. Since the 1990s all major OEMs in the automobile industry have adapted at least significant parts of the system in order to improve manufacturing processes and cost efficiency (Clarke, 2005, pp. 88-99).

TMC was the first OEM to introduce a mass produced Hybrid car in 1997. In 2010 the company was the largest automobile manufacturer with 8.56 million produced units (OICA, 2011). The company is active in all passenger car segments, in light and heavy commercial vehicles. It sells its products under five brands in all important global markets.

1.3.2. General Motors Company

William Durant, who was President of Buick since 1904, founded General Motors (GM) in 1908 and integrated Buick into the new venture. In the following years GM accumulated more than 20 brands such as Chevrolet, Vauxhall, Opel, Cadillac and Pontiac. The company profited from the strong domestic demand in cars and went international by establishing more than a dozen new plants in the 1920s (General Motors Company, 2011b).

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Table 2: General Motors key facts 2010

Source: General Motors Company, 2011a, 2011b

During World War II, GM supplied the allied forces and continued producing cars for the private market shortly after. Although in 1974 the company invented the catalytic converter, which became global standard, it faced serious problems in the 1960s and 1970s. Recovering from World War II, German and Japanese manufacturers entered the US market. These companies tackled GM at its home base and benefited from the demand in smaller cars which was induced by the oil crises in that period. GM reacted by introducing Saturn, a new brand which was established to develop a new small car and meet the challenge imposed by European and Japanese brands. Moreover, the company continually extended its global presence motivated by market and efficiency seeking in the 1980s and 1990s (General Motors Company, 2011b).

Suffering from high manufacturing costs and a product portfolio that was still focused on bigger cars, the economic crisis of 2008 pushed GM to bankruptcy in 2009. Receiving a bridge loan from the US government, GM downsized its dealer network, reduced its brands and re-negotiated labor agreements with the unions (General Motors Company, 2011b). With 8.48 million vehicles produced in 2010, GM is the second largest car manufacturer globally (OICA, 2011). The company is active in all passenger car segments and in light commercial vehicles. It sells its products under eleven brands in all important global markets.

1.3.3. Volkswagen AG

Founded in 1937, Volkswagen (VW) built first plants to produce automobiles in 1938. As World War II began in 1939, the company did not produce significant numbers of cars for civil use but instead built utility vehicles for the German army (Volkswagen AG, 2011b).

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Table 3: Volkswagen AG key facts 2010

Source: Volkswagen AG, 2011b

After World War II, VW started manufacturing the Beetle, the export of which began in 1947. In the 1950s the company exported its models to a number of foreign countries in Europe, Latin America, Africa and North America, where an own dealership and service network was set up (Volkswagen AG, 2011b).

In 1969 VW acquired the Auto Union GmbH, which is today known as Audi and thereby initiated a series of takeovers. In the 1990s Spanish Seat S.A., Czech Skoda a.s., British Bentley, French Bugatti and Italian Lamborghini were added to the company’s brand portfolio. Swedish truck producer Scania followed in 2008. MAN and Porsche from Germany are likely to follow in the near future (Lossie & Petermann, 2011).

VW began manufacturing in China in 1982 and expanded its global production network to Russia and India in 2007. As VW strives to become the world’s largest manufacturer of automobiles by 2018, the company opened a site in the US in 2011 and entered a partnership with Suzuki, which is the market leader in India (Volkswagen AG, 2011b). In 2010 VW was with 7.34 million produced vehicles the third largest manufacturer of automobiles (OICA, 2011). The company is active in all passenger car segments as well as in light and heavy commercial vehicles. VW sells its products under nine brands in all important global markets.

With respect to the manufacturers (i.e. OEMs), the automobile industry is dominated by large MNCs. These firms share some important characteristics:

(1) All of them are multi-brand companies, which allows them to penetrate the market in a finely grained way;
(2) all companies are active in the important global markets having a significant dealership network;
(3) their production network has a global footprint, i.e. supply chain activities are performed in various regions including developed and developing countries;
(4) all firms cover the entire passenger segment and;
(5) all of them possess huge economies of scale in production.

Latecomer firms strive for catching up with these incumbents, which largely includes achieving above named characteristics. Chapter 2 describes this catch up process from a theoretical perspective followed by chapter 3, which observes the case of Hyundai.

2. A conceptual framework of key catch up factors in the automobile industry

Trying to understand catch up, it is a necessity to consider the theory of organizational learning as technological capabilities that have to be learned, are a crucial factor for success. According to Grant (2010, p. 127) “resources are the productive assets owned by the company; capabilities are what the firm can do” (for a detailed description see also Teece, Pisano, & Shuen, 1997). In this sense ALCFs are not only resource poor but also capability poor as they have no or very little experience in how to run an automobile business. It is a primary concern for latecomers to close the gap to incumbent companies. Indeed Teece et al. (1997, p. 514) support this interpretation of learning saying “[it can] become [a] fundamental strategic issue.” Understanding how organizational learning takes place and which areas are to be considered crucial capabilities in the automobile industry is critical to truly gain insight into the topic of catch up. Section 2.1 describes the most important concepts regarding organizational learning theory. Section 2.2 continues to present important resources and capabilities in the automobile industry. Both concepts are then combined in a conceptual framework of catch up for the automobile sector in section 2.3.

2.1. Learning theories and their importance for catch up

2.1.1. The concept of absorptive capacity

Cohen and Levinthal (1990, p. 128) define absorptive capacity (AC) as the “ability to recognize the value of new information, assimilate it, and apply it to commercial ends”. This ability is based on prior knowledge and the knowledge’s diversity. Accumulated prior knowledge increases both, the ability to store more information in memory and the ability to recall and use it (Cohen & Levinthal, 1990, p. 129). Due to associate learning, which refers to knowledge-gain via linkage of new information to preexisting knowledge, prior knowledge may enhance the ability to store information. Moreover, experience in one learning task may result in an improved performance in another learning task; “this progressive improvement in the performance of learning tasks […] has been referred to as learning to learn” (Cohen & Levinthal, 1990, p. 130). The kind preexisting knowledge affects AC shows that knowledge is cumulative and thereby path dependent. Consequently, learning is more difficult in domains where prior knowledge is rare and vice versa. As a result, a diverse knowledge background increases the value of prior knowledge as the probability that new information relates to preexisting information is higher. Cohen and Levinthal (1990, p. 131) suggest that “in a setting in which there is uncertainty about the knowledge domains from which potentially useful information may emerge, a diverse background provides a more robust basis for learning”.

Another determining factor to AC creation is intensity of effort. The more deeply information are studied and the more efforts are made, the more linkages to prior knowledge will be created and the better new information can be utilized. In fact “if practice with a particular type of problem is discontinued before it is reliably learned, then little transfer will occur to the next series of problems” (Cohen & Levinthal, 1990, p. 131). Figure 3 illustrates the concept of absorptive capacity.

Figure 3: The concept of absorptive capacity

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Source: Own illustration based on Cohen and Levinthal, 1990

In organizations AC depends on the AC of its members. While it would not suffice to sum up individual employee’s AC, it ought to be highlighted that organization’s AC depends on the transfer of knowledge both within the organization and between the organization and its environment. In other words, communication is the ‘glue’ that allows for the mosaic of individual’s AC to form organizational AC. It thereby plays a pivotal role for the organization’s AC.

Members of subunits may use very specialized language and symbols, thus complicating communication to external and internal parties. Hence, individuals are needed in order to translate information from subunits into understandable code. These gatekeepers translate external information to make it understandable for members of the organization. Even if they are important, their AC does not determine the subunit’s AC. It is important to note that the effectiveness of the communication process between individuals or subunits in an organization depends on the amount of overlapping background knowledge. However, diverse knowledge among an organizations’ members “augment[s] the organization’s capacity for making novel linkages and associations – innovating – beyond what any one individual can achieve” (Cohen & Levinthal, 1990, p. 133). Therefore, an ideal setting would include as much overlapping knowledge as necessary for effective communication and as much diverse knowledge as possible to be innovative.

Another important aspect of AC, which also supports its cumulativeness and path dependency, is expectation formulation. AC leads to a better understanding of incoming information and consequently to a more profound evaluation of e.g. technological developments. Hence, it influences the expectation of an organization regarding future developments. In the words of Cohen and Levinthal (1990, p. 136) “expectation formation [permits] the firm to predict more accurately the nature of commercial potential of technological advances”. These considerations show that AC is also highly domain- or sector specific.

Cumulativeness and expectation formulation may in an extreme scenario be responsible for a lockout effect. If a firm misses to invest in its AC in a given field, it may be locked out from the developments in this field being unable to recognize the significance of incoming related information. Hence, its expectations regarding this specific field may never change. Investing in AC may be necessary in initial periods and less expensive compared to subsequent periods (Cohen & Levinthal, 1990, p. 136). An important insight is that R&D spending also serves as an investment into AC. R&D not only leads to new technical knowledge but also contributes to AC. Cohen and Levinthal (1990, p. 138) even claim that the trigger that conditions R&D spending and the one that lets a company build AC, is the same. Thus, high R&D spending alludes to a willingness to build AC.

These specifics are resulting in the notion that it is extremely difficult to accelerate the AC-building process by integrating external knowledge e.g. from service firms, personnel hires or mergers. These measures are completely without effect if the organization’s employees do not possess a minimum level of background knowledge that is necessary to understand what these hired or acquired people communicate and do. Moreover, much of the knowledge particularly hired experts possess is very firm-specific and cannot be quickly integrated into any organization (Cohen & Levinthal, 1990, p. 135).

2.1.2. The interaction between tacit and explicit knowledge

As Nonaka (2007, p. 164) notes, “new knowledge always begins with the individual” and thus, is in the beginning always tacit. Tacit knowledge is deeply rooted in an individual and manifests in intuitions, subjective insights or hunches of individuals (Nonaka, 2007, p. 164). Explicit knowledge, by contrast, is every piece of codified knowledge (e.g. blueprints or manuals). Following Ernst and Kim (2002, p. 1423), “explicit knowledge is useful only when tacit knowledge enables individuals and organizations to make sense of and utilize it”. For organizations it is thereby important to internalize explicit knowledge in order to raise the level of tacit knowledge. Otherwise advanced explicit knowledge cannot be utilized.

As observed in sub-section 2.1.1 an organization’s AC is not simply the sum of its employees’ AC. Instead, it is important how individuals communicate within the organization and with the organization’s environment. Therefore, one must answer the question how knowledge can be transferred across the organization. Nonaka (2007, p. 165) notes that “when tacit and explicit knowledge interact […] something powerful happens” and identifies four transitional modes, two involving the transition between tacit and explicit knowledge as presented in Figure 4.

Figure 4: The interaction between tacit and explicit knowledge

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Source: Own illustration based on Nonaka, 2007

Beginning with individual tacit knowledge, it is possible to share knowledge in a one on one situation with another individual. This process of socialization (i.e. direct communication of people) does not necessarily have to take place when sharing knowledge; instead knowledge can directly be articulated (e.g. using a written document ), which is much more efficient as it is made available for more people (Zollo & Winter, 2002, pp. 341-342). By combining this new explicit knowledge with existing explicit knowledge a new whole is created. By means of internalizing new explicit knowledge, it becomes tacit again and is learned.

It can be claimed that socialization and combination are optional steps and might be left out as these steps do not transform explicit to tacit knowledge or vice versa. By contrast articulation and internalization are the ‘powerful’ steps which enable an individual to share knowledge with others (Nonaka, 2007, pp. 165-166). This concept highlights implicitly again the importance of overlapping knowledge as “redundancy is important because it encourages frequent dialogue and communication” (Nonaka, 2007, p. 168).

Taking knowledge sharing and creating as a continuous process, it can be seen as a spiral in which the cumulated amount of knowledge is ever increasing. Figure 5 shows layers of learning and the process of knowledge creation in a company. The single layers of this spiral may in practice even occur at similar times.

Figure 5: Knowledge creation spiral

illustration not visible in this excerpt

Source: Own illustration based on Nonaka, 2007

The learning layers represent the notion that certain parts need to be learned before more sophisticated ones can be internalized in a company. Rumelt (2011, pp. 114-115) provides a catchy example in his book ‘Good Strategy Bad Strategy: the difference and why it matters’: After you can fly [a helicopter] you can fly at night […]. After you can fly at night with ease, maybe then you’re ready to learn to fly in formation, and then in combat. Master all that – make it automatic – and you can begin to think about landing on a mountain in high wind […] or […] on a rolling, pitching deck of a ship at sea”. Although learning layers can be achieved faster or slower and even skipped, pieces of knowledge need to be internalized before the next learning step can be achieved (Lall, 1992, p. 168).

2.1.3. Leapfrogging in the knowledge creation process

Leapfrogging is the process of skipping certain learning layers in the learning spiral. This notion is supported by Keun and Chaisung (2001) who describe in their 2001 article how leapfrogging is possible in catch up processes: “The idea of leapfrogging is that some latecomers may be able to leap-frog older vintages of technology, bypass heavy investments in previous technology systems, and catch up with advanced countries” (Keun & Chaisung, 2001, p. 460). According to the authors three types of catch up patterns that compare the latecomer catch up path with those of forerunners exist: (a) path-following catch up, (b) stage-skipping catch up and (c) path-creating catch up (Keun & Chaisung, 2001, p. 165). Path-following is defined by choosing the same technological trajectory as the forerunners without skipping learning layers. Path-skipping is referred to as following the trajectory of the forerunners leaving out certain learning layers which implies leapfrogging. Path-creating also involves leapfrogging and describes the process in which layers are skipped and a new technological trajectory is created.

Based on the work of Keun & Chaisung, this thesis seeks to improve the existing framework by including and adjusting the following elements:

(1) Path-skipping, which includes leapfrogging, is used as originally defined by Keun & Chaisung
(2) As it is very likely that latecomer’s path-following proceeds faster compared to the forerunner companies, path-following will be referred to as a ccelerated path-following in this thesis in order to be more precise
(3) Unlike the authors, this thesis considers path-creating as excluding leapfrogging. Although the latecomer creates a new path, it follows the trajectory of the forerunner initially without skipping learning layers. Hence, it is not necessarily bypassing heavy investments or previous technology systems. In order to highlight the initial adaption of the forerunner’s path, this mode is referred to as adapted path creation in this thesis
(4) A fourth mode of catch up is introduced which is termed path-inventing and includes leapfrogging. Latecomers invent a new technological trajectory and at the same time skip learning layers.

Figure 6 provides an overview on the four patterns of catch up as used in this thesis.

Figure 6: Four patterns of catch up processes

illustration not visible in this excerpt

Source: Own illustration based on Keun and Chaisung, 2001

As Keun and Chaisung (2001, p. 465) point out, catch up is more difficult in industries where many product innovations occur and the technological trajectory is difficult to predict. With regard to the automobile industry, Pavitt (1984, pp. 353-369) describes the innovation path as predictable and states that the frequency of innovation is low. Hence, catch up is possible and more easily compared to other sectors. Assuming that taking a different path is easier under conditions where the technological trajectory is more uncertain, it is likely that in the automobile sector the patterns of accelerated path-following and path-skipping occur. However, this thesis will provide evidence that path-inventing and adapted path creation are also considerable catch up approaches.

2.2. Core resources and capabilities in the automobile sector

Having understood that learning is crucial for capability catch up in the automobile industry, the second step involves a closer look on the areas in which learning is most rewarding. These areas combine resources and capabilities and represent the core skills of any automobile OEM. In line with K. Lee, Cho, and Jin (2009, p. 32) the author is convinced that the foremost important criterion of catch up is technological capabilities. This is because these capabilities are the precondition for success in terms of market share and turnover, especially on an international level (Böing, Müller, & Sandner, 2012, p. 21).

In order to get an overview on the core activities of any automobile OEM, Figure 7 introduces a core-process model for automobile OEMs. It shows two main processes that represent the most important value adding activities of automobile manufacturers. That is (a) the product development process and (b) the customer order process. The processes will be briefly introduced in this section and described in detail in sub-sections 2.1.1 to 2.2.4.

Figure 7: Process model of automobile manufacturers’ core activities

illustration not visible in this excerpt

Source: Own illustration

The product development process begins with anticipating the customer demand. It is followed by conceptualizing new models, designing a discrete new model and finally being able to design appropriate manufacturing processes. The customer order process starts with the order of the customer hardly ever involving a dealer. It goes on with production planning, integrating the suppliers of parts and components, manufacturing the car, delivering it to the customer’s preferred dealer and finally being able to distribute spare parts and maintain the car through a service organization.

In these two processes, four capability areas are interacting. In the following four sub-sections these capability areas are presented in detail resulting in a catch up framework for ALCFs in section 2.3.

2.2.1. Developing automobiles

Two factors are essential for successful automobile development. The first is the ability to design a car from scratch without being dependent on the help of third parties. The second lies within a critical absorptive capacity. The latter factor aims at the ability to integrate all parts and components of a car in the development process. Therefore, having considerable AC in the various technological areas (e.g. powertrain, chassis, drivetrain or electronics) is essential. This notion is supported by Magnusson and Berggren (2011, p. 18) saying “the system integrator takes an active role during the development process […] this means that the integrators need to possess technological knowledge beyond what they manufacture in-house.”

Integrating customer demand in new concept cars is the first step on the way towards a new automobile (Diez, 2006, pp. 119-129). After several phases of re-modeling a decision is made on whether a concept car is produced or not. Many concepts do not pass this step; however, once they have passed, a complex process of product development begins. The concept car is now once again re-modeled and virtually constructed under usage of computer aided design (CAD) tools^[12]. Moreover, OEMs integrate suppliers at this early point in the development in order to avoid feasibility problems in later stages and to include innovative technologies which make constructive adaptions necessary. Due to their high value add early supplier integration is a crucial part of the development process which is in the literature referred to as forward sourcing (Kerkhoff, 2006, p. 58). Additionally, feasibility studies are prepared and adaptions are made to the new car to ensure its ‘manufacturability’. First prototypes are built and several product books comprising performance specifications are created. With the beginning of the car launch, first units are built on the shop floor only to train employees, to ensure quality of the production process and to make adjustments if necessary. These early cars are tested in a very extensive process including extreme weather conditions and exhaustive long runs. When the new car is free from quality problems series manufacturing begins and the new model enters the market (Womack, Jones, & Roos, 2007, pp. 105-141).

Various functional departments and numerous subunits are involved in this complex process (e.g. marketing, sales, operations, logistics, procurement and development) (Womack et al., 2007, p. 106). The same is true for external organizations such as suppliers or service firms. In case the OEM has already reached the status of a multinational company all this has to take place across many countries and time zones hence, being even more complex.

Another factor that contributes to complexity is the fact that discrete models (e.g. Toyota Corolla) have shorter development cycles than powertrain components like engines or transmissions. Hence, they are subject to a separate development process requiring both processes to be linked.

As outlined above, managing this complex process is a difficult task and requires thorough organizational learning. As many different subunits within and across the organization interact, all of them need to have a certain level of absorptive capacity otherwise communication and thereby coordination is impossible. Moreover, this process requires a high degree of tacit knowledge of the OEM (K. Lee et al., 2009, p. 36). Leapfrogging may be possible but only to a certain extent. Therefore, learning how to master the process of designing a car needs a certain amount of time - adequately measured in decades.

2.2.2. Managing the supply and production network

The second major capability which has to be learned by any OEM is to be able to manage the whole supply chain in terms of logistics, operations and supplier coordination. This capability represents the core of the customer order process which is triggered by the customer’s order. As cars can be customized to a certain extent, the customer transmits his preferred configuration to the OEM^[13]. The OEM then sends the demand concerning certain parts and components to their suppliers and logistic partners. It is often the case that OEMs produce engines, transmission or other components in specialized plants and do the final assembly in other plants. In case the OEM is a multinational company these sites are spread globally, hence the task of coordinating the different activities is not trivial.

Parts and components are delivered just-in-time or just-in-sequence^[14] to the assembly line which makes the task even more complex as timing becomes crucial due to the fact that part delivery needs to be synchronized with the production process. After having manufactured the car, it needs to be delivered to the customer or his preferred dealer involving importers and logistic partners. However, this part of the customer order process features a much lower degree of complexity compared to the first stages in this process. When the car has been delivered to the customer, the OEM has to ensure that it can be maintained often involving an own service network but always a reliable supply of spare parts (Womack et al., 2007, pp. 141-173).

When managing global production networks, the degree of tacit knowledge is again high. Hence, it takes considerable time to internalize this knowledge as the company needs to pass certain layers in the learning spiral (Malerba, 2002, p. 260). Leapfrogging is possible and it may occur but learning requires time as not every layer can be skipped (Lall, 1992, p. 168).

2.2.3. Operating a dealership and service network

Another important factor for the success of an automobile OEM is a dealer and service network in the important lead markets. These are due to their market potential Western Europe, the United States, Brazil, China, India and Russia. As described in section 1.2, this can either be set up in a franchise system or via subsidiaries fully owned by the OEM (Diez, 2005, pp. 86-89; 2006, pp. 269-286). A reasonable dealer and service network is vitally important as it represents one of the main interfaces towards the customer and stands at the beginning and the end of the customer order process.

Although cars can be configured via the internet, it is in most cases not possible to place an order via the World Wide Web. Hence, most orders and deliveries are managed via a dealer, which underlines their importance. Dealers provide maintenance service including the supply with spare parts over the lifecycle of the car (Diez, 2006, pp. 265-267). They effect corporate communication as they represent the manufacturer and thereby need to be integrated in marketing activities and the customer relationship management.

2.2.4. Marketing and branding cars

As stated in sections 1.1 and 1.2 cars’ technical characteristics have become largely homogenous. Hence, marketing and brand management become important in order to differentiate products (Aral AG, 2005, p. 9; 2011, p. 13). In a classical definition the marketing mix consists of product, price, communication and distribution (Wöhe & Döring, 2005, p. 484). Distribution as understood in this thesis is part of the capability described in the previous sub-section (2.2.3) as it involves primarily the dealership network.

Strategies revolving around product and pricing have a high impact on the product development process and the customer order process. In the automobile industry product marketing involves defining and pricing the features and characteristics of a car based on customer demand. Ideally customers’ preferences and price sensitivity influence the development of new cars already towards the beginning of the development cycle.

Moreover, corporate communication embodied in product design and brand management is crucial as both increasingly gain importance in the buying decisions of customers (Aral AG, 2005, p. 9; 2011, p. 13). In the near future, this trend will be visible in emerging countries as well (KPMG, 2012, p. 6). Thus, building capabilities in this area will be increasingly important for ALCFs in order to succeed in both developing and developed markets.

2.3. Catch up model for the automobile industry

The resources and capabilities as described in chapter 2 ultimately result in a catch up framework for the automobile sector. Figure 8 summarizes the capability areas and learning layers described above.

Figure 8: Catch up framework for the automobile industry

illustration not visible in this excerpt

Source: Own illustration

The white boxes represent the learning layers of the four capability areas (see sub-sections 2.2.1 to 2.2.4). These four areas are tied together in a chain-link system i.e. “[the systems] performance is limited by its weakest subunit” (Rumelt, 2011, p. 116). Consequently, if all subunits are weak, all of them have to be improved as an improvement in one subunit would be without effect (Rumelt, 2011, pp. 116-123). Thus, if an OEM does neither possess the capability to design an appropriate product nor a sufficient dealership and service network to sell it, it will fail in the business. OEMs need to have proper products and a sufficient dealership and service network; otherwise market success is unlikely. The same is true for the other areas: If an OEM has good products and a sufficient dealership network but lacks the capability of managing the supply and production network e.g. quality problems or high costs will probably be the result.

In product development ALCFs start with semi knocked-down (SKD) or completely knocked-down (CKD)^[15] assembly involving licensing agreements with MNCs (e.g. Hyundai and Mahindra; both collaborated with Ford). This pure focus on assembly activities is the first step in learning how to design a car. Often blind imitation is involved in this phase which is defined by Jiatao and Kozhikode (2008, pp. 435-436) who differentiate between blind imitation and emulation. Blind imitation is referred to as the simple reproduction of actions without understanding causal relations. Emulation, on the other, hand is about understanding the nuances and causal relations of an action, which results in a much more flexible form of knowledge. The authors consider both types as complementary. Imitation requires less effort and hence, is a reasonable learning approach towards the beginning of the catch up process. Emulation might be superior in a more advanced learning phase (see also Bruche, 2010, pp. 8-9). Therefore, both types of learning can be beneficial.

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^[1] The Triad comprises three economy regions: NAFTA, EU and East Asia (Taiwan, Hong Kong, Japan, South Korea, and Singapore).

^[2] Sino is a prefix relating to China or the Chinese.

^[3] For practical reasons the firms will be referred to as BYD, Chery, Geely, Tata Motors and Mahindra in this thesis.

^[4] Chaebols are South Korean industrial conglomerates, owned and managed by the founding family.

^[5] As mentioned in the introduction, the trend towards electro mobility may represent a revolutionary product innovation; however, this huge topic is largely excluded in this thesis.

^[6] The MQB (Modularer Quer-Baukasten) is a modular toolbox, which aims at increasing the number of common parts across different models by using standardized components.

^[7] Ford seeks to develop a car that can be sold without major adaptions in all markets globally to increase the number of standard components.

^[8] A CAN (Controller Area Network) bus system describes a special data network for vehicles.

^[9] Porter categorized the value adding activities in an industry into up- and downstream. All activities executed before a firm’s value chain are referred to as upstream activities whereas all activities executed after a firm’s value chain are described as downstream activities. Thus, from an automobile OEM’s perspective all activities performed before the production of the car can be termed upstream and all activities performed after the production of a car downstream (Porter, 1991).

^[10] Segmentation according to European Commission: A=mini cars, B=small cars, C=medium cars, D=large cars, E=executive cars, F=luxury cars, S=sport coupés, M=multi-purpose cars, J=sport utility cars (including off-road vehicles).

^[11] LCV=Light commercial vehicles, HCV=Heavy commercial vehicles.

^[12] CAD software is used to create construction drawings and blueprints. Lines are recorded as vectors and hence based on mathematical equations. Thereby drawings can be moved or twisted and are automatically adjusted (About.com, 2012).

^[13] Some OEMs manufacture cars to stock and serve customer demand out of the latter. Others (like Hyundai for instance) produce cars after the customer’s order.

^[14] Just-in-time and just-in-sequence are defined as the delivery of parts and components right at the time when they are needed to be assembled. This concept reduces inefficiencies as stocks are minimized.

^[15] Semi knocked-down is a form of production where partially assembled components (e.g. cars without interior) are delivered to a plant for final assembly. Completely knocked-down is comparable but includes single parts (crankshaft, tires, brakes etc.) instead of partially assembled components. Both types are used in the automobile industry in order to circumvent tariff barriers like import tax when manufacturing overseas.