Why Have VW Internationalised

Overview

Though VW have a long history of geographical expansion in Europe and other

international areas, this paper is focused on their internationalisation into the Asia
Pacific (A/P) region, specifically China, analysing factors shaping this corporate
strategy. Typically, such factors include the nature of the market itself, cost factors,
external environmental variables (government/institutional environment), as well as
firm-specific factors (such as its level of international experience, degree of
competitiveness). These key drivers which motivated VW to expand into the A/P
region will be discussed and further analysed using relevant frameworks: the Uppsala
model to describe the nature and pace of their internationalisation including the
business network considerations; Eclectic (OLI) Paradigm to analyse VW’s operations;
FSAs and RBV to describe VW’s ability to create and maintain competitiveness; and
Porter’s Diamond to examine the factors contributing to VW’s national and
international competitiveness.

Drivers to Internationalise

Companies are more likely to internationalise when they have a global mindset and
international experience (Verbeke et al., 2019). The want to expand is a significant
push factor for any organisation engaging in international business, which will not
only expose the company to growth in emerging markets, but it also provides
diversification, hedging against uncertainties and risks in their existing market(s). VW
had a long and fruitful history of responding to and prediction of industry drivers,
continually adapting their portfolio and strategy in relation to cost drivers (e.g. R&D,
manufacturing), competitive drivers (other manufacturers increasing quality to
match VW) and market drivers (changes to taste in terms of style, efficiency, safety)

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(Yip, 1989). The section “Why VW Internationalised into Asia Pacific, specifically
China” herein will go into discussing the government drivers in more detail.

Cost Drivers

Cost drivers consist largely of micro-factors thereby are under control of the MNE.
Whilst specific markets demanded distinct end designs, VW enjoyed economies of
scale and low product development costs by manufacturing common components
in low-cost production centres for distribution across the globe. They were also able
to capitalise on experiential learning through operations is many overseas markets,
honing and re-shaping practices on a global scale where applicable. There are also
cost drivers on the macro-level which shape the decisions of where to manufacture.
The main macro cost factor for VW relates to differences in country costs and skills
which drove them to tailor their production locations of specific components and
models in countries based on hourly labour costs to reduce production costs
considerably (Yip, 1989). VW developed a strategy to decrease cost of production
through an international division of labour. It was at this time that the Asia-Pacific
region was flagged as a potentially significant export market due to its low
production costs and strong economic growth.

Market Drivers

Firms entering international business markets on the global stage need to master four
Key Success Factors (KSF) at home to achieve success: innovation, creativity,
flexibility and speed (Verbeke et al., 2019); and VW’s strength in these KSFs were
pivotal in forming their response to the changing market drivers in both their home-
country and abroad. The basic needs of VW’s customers domestically and
internationally were homogeneous in nature, allowing them to innovate the
standardised components, thus making it easier to participate in various international
markets. The global nature of VW’s customers and the channels through which they

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purchased the autos also permitted them to lean on their brand foremost and
choose to either coordinate their international marketing practices. In practice,
VW’s responses to these market drivers included upgrading their domestic
manufacturing facilities to centrally control production, improve efficiency and
create flexibility in their production processes. They also innovated water-cooled
engine technology, creating new and improved technology. One of the primary
reasons for companies to internationalise relates to market-seeking opportunities.
This push factor speaks to a firms’ ability to capitalise on intangible ownership
advantages (brand image, marketing expertise and innovation) whilst also taking
advantage of supply and distribution networks. The process also considers the firm
looking at new and existing products.

Competitive Drivers

Whilst cost, market and government drives are more or less fixed for the industry, VW’s
competitive drivers are dictated by their competitors themselves (Yip, 1989). On this
front VW faced a variety of experienced domestic and international competitors in
each country they operated in and faced stiff competition from the likes of Ford and
Toyota across many regional boundaries. This drove VW to tailor their marketing
practices for specific regions, introduce initiatives to lower production cost, as well as
seek other international markets.

The Nature and Pace of VW’s Internationalisation

The nature and pace of VW’s internationalisation into the A/P region can be
described with the assistance of the Uppsala model. Prior to the establishment of the
joint venture with Shanghai Volkswagen Automotive Co., Ltd in the late 70’s, VW did
not have any regular export activities into China. The Uppsala model “states that
firms progressively consider markets further away, especially in terms of psychic
distance” (Verbeke et al., 2019). This can be applied to VW as at the time of

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expansion into China, VW were already active in in Australia (production as well as
sales), as well as many, further afield operations including Brazil and Mexico. The
Uppsala model also includes for business networks, by stating “relationships offer the
potential for learning, building trust and commitment in a foreign market” (Verbeke
et al., 2019) and also encompasses experiential learning i.e. learning from their
experience in operating in other foreign markets. This experience coupled with VW’s
firm specific advantages (FSAs) assisted to reduce VW’s liability of foreignness when
entering China. Geographic distance is often correlated with the psychic distance
between home and host markets, and together these brings about a variety of
distance factors which possibly result in lower survival rates of companies entering
foreign markets. The CAGE Distance Framework outlined by Ghemawat (2001) can
be used to highlight these specific differences. Many attributes including languages,
religions, institutional weakness, weak transportation links and differences in
consumer incomes, were created distance for VW in the automobile industry and
there were significant institutional voids to consider, such as infant policies regarding
international investment and a non-existent market for international automobiles.
Notwithstanding, in the late 1970’s and early 1980’s when VW began exploring
opportunities in the A/P region, the outlook was less than convincing. The region was,
and still is, rich in diversity in terms of economics, politics, culture and climate, and
VW’s experience in A/P could be considered as almost non-existent.

VW’s Ability to Create and Maintain Competitive Advantage

Whilst a company has limited control of the macro- factors (e.g. political, legal,
sociocultural, etc.) which affect operating practices, they do have a high level of
control over the micro- factors affecting their business performance and decision
making (e.g. competitors, channels to market). There are several crucial factors,
besides the nature of the firm’s industry itself, which influence the internationalisation
journey: environmental factors; the location of the foreign market (geographic and
“psychic” distance); and firm-specific advantages (FSA’s) including its level of

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international experience. As stated above, there were significant institutional voids
that VW faced in their expansion into A/P. However, as Doh et al. (2017) argue “voids
become enabling when firms enact them”. A company’s ability to capitalise on a
differentiator is paramount to the success, especially in the context of international
business. VW had various possession of FSA’s or capabilities, and knowledge which
give them proprietary advantage. Their capability to build FSAs and subsequently
adapt and integrate in response to changing markets made them considerably
competitive.

VW’s Operations

The Eclectic (OLI) Paradigm can be used to analyse the operations of a firm and the
role that their ownership advantages (FSA’s) play in their internationalisation. The
aforementioned FSA’s represented VW’s ownership of unique/intangible and
complimentary assets. From an internalisation point of view, VW had a history of
retaining control over its assets, both intangible and complementary in their prior
internationalisation ventures. Locational-wise, VW were already producing and
selling autos in the A/P region (Australia) and had considerable knowledge operating
in other emerging economies such as Brazil. Despite the vast diversity of the A/P
region, the region was not completely unknown, and they would be able to build on
and take advantage of their experience in the existing supply and distribution
networks in similar regions.

VW’s National and International Competitiveness Factors

Porter’s Diamond model can be used to analyse the determining factors of VW’s
competitiveness in both their home and host-country environments, thus providing a
view for consolidating the position of a company wanting to expand in international
business. In the late 1970’s all facets of the model suggested VW’s home base

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allowed and supported development of a strong base on which VW could build
specialist skills and capabilities that could be transferred onto the world stage. Hence
they should be able to perform better internationally than other rivals (Verbeke et al.,
2019).

Factor Conditions

The first determinant in the model is factor conditions, which can be summarised as
the “home grown” resources/capabilities. VW’s human resources, capital and
infrastructure provided them with the ability to create value in terms of ownership of
unique advantages such as market power, superior innovation, and advanced
production facilities. These building blocks were geographically transferable and
could be capitalised on in international markets.

Demand Conditions

VW enjoyed a large sophisticated, savvy, demanding customer base in Germany.

There are strong links between this and the market drivers and KSFs described
previously herein. In summary, the demand conditions drove VW’s ability to be
innovative, creative, flexible and fast, which are examples of the development of
competitive advantage, allowing VW to be competitive in international markets.

Supporting and Related Industries

This factor speaks to the key role of industry clusters, which supported the automobile
industry in Germany as a whole, as well as VW. Both government and non-
government entities across numerous related and supporting industries manifested
process and technical innovation which in turn, could be applied to VW’s operations
internationally.

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Firm Strategy, Structure and Rivalry

For many decades, VW were competing against a number of strong of domestic rival
who were pushing them to innovate and improve technically and process-wise, while
also driving them to reduce costs. VW’s international competitors also drove them
to be innovative and subsequently strengthened the platform for their success in
uncharted overseas markets.

Why VW Internationalised into Asia Pacific, specifically China

The mid-1970’s was a tough period for VW. VW’s exports to Europe and North
America were weakening, energy prices were increasing, and their costs increased
due to poor conditions in the currency market. The financial wellbeing of VW was
vulnerable to the oil crisis of 1974/75 and the global recession presented further
difficulties (Lupa, 2008). As shown in the figure below, Germany’s GDP growth went
into negative figures for the first time in decades and despite the correction in 1976,
the German economy continued to slowly decline towards the 1980’s. China’s GDP
on the other hand was quite volatile in the mid 1970’s, having suffered a major fall
from the lofty highs experienced in the 1970.

However, growth in China was stabilizing, supported by the Chinese government’s

initiatives and interest in attracting FDI into China. It is also important to note the
importance of the role the German government played during this time; they had
just established diplomatic relations with China which made it possible for a Chinese
delegation to visit the Germany with a view to explore potential partners for an
automobile project ("Volkswagen in China – a long lasting friendship," 2018). The
actions of the German and Chinese governments are important government drivers
contributing to IB growth.

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In recent times much has been written about the Asia Pacific region in terms of
international business opportunity for MNE’s. The A/P region has been flagged by
many as being the global trade, economic, and political epicentre for this century
(McKinsey, 2019; PwC, 2019; Verbeke et al., 2019). The attractiveness features low-
cost labour and large and growing markets. The global value chains are shifting
within the region, there is growing consumer demand and the role of technology
and innovation is increasing in importance.

The attractiveness of emerging markets include opportunities for MNE’s to access

new markets, to take advantage of lower-cost conditions, creating learning
opportunities, and using reverse innovation (Verbeke et al., 2019). However, these
pull factors also exhibit certain elements of risk; uncertainty, macro factors, cultural
distance and political risk. The host-country institutional environment is vital to
success and the host government has significant influence of political, institutional
and legal policies. Furthermore, economies characterised by instability (economic,
social, political) are generally not attractive to investors. China had very tight
regulations in foreign exchange, however this was about to change, as in the late
1970’s the Chinese government introduced economic reforms and protracted an
openness to foreign countries, signalling they were willing to engage with the rest of
the world (Wang & Wu, 2005). This move by the Chinese government was a
significant growth driver for VW’s interest in internationalising in the region. China’s
GDP growth was quite strong – double that of VW’s home-country – and such rates
can bring about structural change to an economy, possibly driving increased
sophistication of economic institutions, a growing middle class and growing
specialisation (Verbeke et al., 2019).

Changes in the political landscape drove the establishment of diplomatic relations

between China and Germany and in 1978, a Chinese delegation visited the Federal
Republic of Germany to explore potential partners for an automobile manufacturing
project. Other car manufacturers failed to recognise the growth potential of the
region and the risk was perceived to be too high. The GDP per capita was too low
and the number of units required to be produced to realise ROI was too great.

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Further, the passenger car industry in Chin was quite small at the time (Lupa, 2008).
Despite the negative trends in the automobile industry in the 1980’s, VW bravely
ventured into the Asian market. A confidence building factor, for both China and
VW alike, was VW’s commitment to Brazil and Mexico. VW had almost
singlehandedly pioneered the development of the automobile industry in these
countries and production had been in place for decades. When VW opened their
production plants in China, they were competing against state-owned plants
producing outdated models in a “low-tech, inefficient environment that lacked
product-development capacity” (Lupa, 2008).

Alcacer (2014) presents a framework which can be used to analysing the “fit”
between a firm and its environment, that is, if there’s a fit between what the firm is
good at doing and the culture of the host-country, it’s a good place to do business.
Applying this lens, it can be determined that VW’s venture into China, while bold,
could be justified. The market size and labour force as well as the presence of clusters
in the major cities provide sufficient Location characteristics. Government incentives
were very strong, and the Firm fit characteristics enhanced the value of China as
location; VW’s unique FSA’s, business model and prior experience all worked in their
favour. From a competitive viewpoint VW had the chance to establish themselves
as a strong MNE competing against domestic producers within the clusters and thus,
being an attractive prospect for talent.

VW’s first mover advantage, from an international business perspective, would also
provide them with the ability to seize considerable market position and power. They
could take advantage of structural market imperfections such as their knowledge
advantages and product differentiation to in effect, temporarily close down the
international market and increase their power. 73

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What entry mode did they employ and why?

Over the past 40 years Volkswagen, the German car manufacturer has entered
several Asian markets with varied success. The following section will analyse
Volkswagen’s entry into the Chinese market in the late 1970s. Today China is
Volkswagen’s most significant market outside of homeland Germany and due to the
profound success of this venture, the Chinese market will be the sole focus of this
analysis.

During the late 1970s the government invited companies from across the globe to
invest capital, know-how and western management and in return they would
provide access to the biggest national market in the world with the prospect of high
growth rates and promising yields (Posth, 2006). Focusing specifically on the
automobile industry, the Chinese government saw this to be a critical missing link, in
which Posth, (2006 pp. 3) mentions that “the automobile industry was the driving
force behind many modern economies”. The Chinese were looking for a global
automobile manufacturer and Volkswagen were seeking market opportunities and
expanding its capability in developing Asian markets.

Considering Market Entry Options:

Decisions on foreign market entry and development of strategies is critical to the

success of the venture. At the time in China and as is the case in many other parts of
Asia, regulatory constraints dictate market entry, which restricts foreign ownership,
making joint ventures (JV) the most viable option for entering the market (Verbeke
et al, 2019).

However, ignoring this fact for the moment and using a model developed by Dyer,
(et al, 2004), below will consider the different entry modes Volkswagen could have

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adopted when entering China. Dyer et al, (2004) mentioned this model would help
companies systematically decide whether to ‘ally with or acquire potential partners’.
The model uses 5 factors broken up into ‘resources and synergies’ (factors 1 – 3) and
‘market’ factor (factors 4 – 5) which each will be explained below, with the summary
seen in Table 1.

1) Types of Synergies: Volkswagen would transfer knowledge and expertise on

manufacturing, while the Chinese partner would share local market insight and
provide expertise on local activity such as government and local supplier
relationships. Therefore, it was determined that the factor was reciprocal and
according to Dyer et al, (2004) this is when partners ‘work closely together and
executing tasks through an iterative knowledge sharing process’ which explains
the Volkswagen and Chinese story. Due to the reciprocal factor, Dyer et al, (2004)
has suggested acquisition would be the preferred strategy.

2) Nature of Resources: Dyer et al, (2014) model looks at the ‘relative value of soft to
hard resources’ and in this particular case, car manufacturing plants would be
considered hard resources and the nature of this resource would be high.
Therefore, the suggested strategy using the model would be equity alliance.

3) Extent of Redundant Resources: As Volkswagen are looking to enter the market

and assist its partner to develop manufacturing capability in China, the extent of
redundant resources would be medium as the partner would contribute to the
local manufacturing facilities and Volkswagen would be bring human capital and
physical resources from its global operations. As this is deemed medium, an equity
alliance would be the suggested strategy.

4) Degree of market uncertainty: Despite China opening its country up to the global
market, at the time the automotive industry was in its very early stages of
development with a lot of uncertainty around its potential. The Chinese were in
talks with General Motors (GM) and Toyota, however both manufacturers did not
see the opportunity at the time. In the late 70s China only had eight vehicles per

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 1,000 people compared to Japan and America which had 200 and 500 per 1,000
people respectively (Posth, 2006). Based on this it was deemed the market had a
high degree of uncertainty and an equity alliance is suggested by Dyer (et al,
2004) rather the acquiring a would-be partner.

5) Level of Competition:

The level of competition has deemed to be low and the risk of competitors
entering the market and potentially acquiring the partner were low, as mentioned
above Toyota and GM were not interested in the Chinese market. Dyer et al,
(2004) goes onto mention that companies should avoid taking over firms when
the degree of business uncertainty is high and competition is low, the preferred
method is a nonequity alliances as this gives access to the market, allowing for
first mover advantage and gives the option to change the agreement at a later
stage if the uncertainty has receded.

Table 1: When to Ally & When to Acquire: China and Volkswagen

Factor Strategy Volkswagen / China

Modular Nonequality alliance

Type of Synergies Sequential Equity alliance

Reciprocal Acquisition X

Low Nonequality alliances

Nature of Resources Medium Acquisition

High Equity alliances X

Low Nonequity alliances

Extent of Redundant
Medium Equity alliances X
Resources
High Acquisition

Low Nonequity alliances

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 Low /
Degree of Market Acquisitions
Medium
Uncertainty
High Equity alliances X

Low Nonequity alliances X

Level of Competition Medium Equity alliances

High Acquisitions

Based on the Dyer et al, (2004) model, the suggested strategy for Volkswagen to
enter China would be equity alliance which was suggested by 3 out of the 5 factors
and also happened to be the approach that Volkswagen were forced to take due
to the policy in China at the time. The two factors where the model diverged from
indicating equity alliance, were ‘level of competition’ and ‘types of synergies’. As
the level of competition was low, nonequity alliance strategy as the model suggests
make sense for this factor. However, with the type of synergy being reciprocal, it has
little relevance for this particular case, and it could be argued that as Volkswagen
were not actually acquiring anything when they entered China, a non-equity
alliance or equity alliance would be the preferred strategy for this factor.

In summary, this model aligned with the strategy Volkswagen used to enter China
and despite some of the contradictions of the Dyer et al, (2004) model, I concur it
was the best strategy to enter China based on the factors established above. It is
mentioned by Dyer et al, (2004), that this model should weight up the importance of
each factor based on the industry, however at the end of the day Asian cultural
elements trump all of these factors in the model and should be an important
consideration when entering a market.

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The Entry Mode: Joint Venture (JV)

In 1978, the central committee of the communist party of China (CPC) agreed to
implement the automobile project in Shanghai by means of a joint venture known as
Shanghai Volkswagen (Farhoomand & Tao, 2005). This collaborative market entry
approach is a cooperative agreement between two or more organisations and
according to Verbeke, (et al, 2019) ‘no one party possesses all of the resources and
capability needed to exploit an available opportunity’. When considering
Volkswagen and China’s story, Volkswagen is a global leader in automobile
manufacturing which brings quality, cost effectiveness and western know-how from
product production technology to management and administration. However, on
the other hand Volkswagen had no understanding of the local Chinese market, the
culture, the way of doing business or the institutional environment which meant an
equity-based joint venture would make sense in this scenario.

The Shanghai Volkswagen joint venture would see Volkswagen invest half of the
equity capital with the other half being provided by the three Chinese partners: the
Shanghai Tractor Automobile Corporation (STAC) (25% shareholding), the China
National Automotive Industry Corporation (CNAIC) (10% shareholder) and the Bank
of China (BOC) (15% shareholder) (Farhoomand & Tao, 2005; Hosth, 2006). The
significance of partner selection will be covered below, however the background of
the Chinese partners certainly contributed to the success of the JV.

The Chinese had a vision for Shanghai to be the centre of the automotive industry in
China, in which they would build manufacturing plants and develop a number of
automotive spares and supplier factories which would support the industry (Posth,
2006). Therefore, this made an easy decision for Volkswagen to establish a JV in
Shanghai as it would be heavily supported by the industry cluster and the local
Shanghai government and industry bodies.

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Understanding Shanghai Volkswagen:

The Shanghai Volkswagen joint venture was successful, putting Volkswagen on track
to be the market leader in China. However, according to Verbeke et al, (2006) many
strategic alliances and JVs do not reach their potential and a survey by the Boston
Consulting Group indicated that 54% of respondents say they get less than what they
give in JVs with 19% dissatisfied with the JV. So, the question must be asked, what
made this JV successful that defied the odds? A model developed by Verbeke, et al
(2006) titled ‘road map to understand alliance design, management and
performance’ helps provide a framework to analyse the JV and the success that
come as a result of this relationship. The model is broken into three phases or key
aspects; 1) pre-deal: design, 2) post deal: management and 3) exit plan:
performance. The first two phases will be the focus of the analysis.

Pre-design Phase:

The first critical element in Verbeke et al, (2006) pre-deal phase is ‘synergy’, which is
creating more value together rather than what each party could create on their
own. The importance of synergy is clearly defining what each party brings to the JV
ahead of the deal to ensure there is strategic alignment and avoids confrontation
after the deal has been established. The type of synergy in the JV was established
above using the Dyer et al (2004) model, in which it was very clear for both parties
that Volkswagen would bring manufacturing know how and capability, while the
Chinese would bring the local market knowledge and facilities.

Unity and clarity are another two elements that are essential for developing strategic
purpose for the JV, and prior to the formalisation of the agreement both parties
agreed on the following objectives in which again there was alignment before things
moved at a rapid rate:

1. Modernise the automobile factory

2. Gradually increase technical capacity
3. Gradually increase domestic production components

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 4. Establish a nationwide customer service and supply network
5. Export short engines to Volkswagen

In many examples of failed JVs there is a misunderstanding in the strategic objectives

and some parties feel the other is not contributing equally to the objectives. This leads
to another key step which is partner selection, potentially one of the major
disadvantages of a JV is choosing the wrong partner which could derail a MNE’s plan
to enter a market or another risk is the partner ‘stealing’ key intellectual property.
However, both of these elements were eliminated early in the pre-deal design phase
in the JV structure as the agreement covered a 25-year period which would have
went a long way to signalling the intentions of both parties, building trust and
commitment that they were in for the long haul. The length of the initial agreement
cannot be underestimated as Volkswagen could be comforted in the fact the
Chinese would not ‘steal’ their IP and according to a Volkswagen executive, the
manufacturer promised to ‘transfer technology and expertise on a permanent basis’
taking away any suspicion from the Chinese that Volkswagen was just looking to get
access to the market ‘to make a quick buck’ (Posth, 2006 pp. 9).

When considering the disadvantages of a strategic alliance: choosing the wrong

partner, ‘stealing’ IP or creating a competitor, the pre-deal phase went a long way
to reducing these concerns and set a solid foundation for future success. In 2004
Shanghai Volkswagen extended the term of the JV company by another 20 years to
2030, again demonstrating commitment by both parties (Farhoomand & Tao, 2005).

Post-deal Management:

In Verbeke et al, (2006) the post deal management phase highlights the importance
of ‘building trust, empathy and getting culture smart’ and there were signs of this
developing early in the JV. A good example of this was when the Director of
Volkswagen, Dr Carl H. Hahn personally wished to show their new Chinese colleagues
the scope of ‘global product, sale facilities and operations and at the same time
demonstrating the quality standards by traveling around the global operations
(Posth, 2006). This move by Volkswagen demonstrated commitment to the future

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partnership which would have taken some time to develop if this trip was not
initiated. The relationship between both parties was further enhanced and it was
here that the vision and strategic purpose became more evident as they visited
different manufacturing facilities, with both parties getting firsthand exposure to the
German Volkswagen and the Chinese culture.

The trip was significant for many reasons, becoming attune to the different cultures
was very important early in the partnership and a Volkswagen executive mentioned
from the ceremonial speeches given by the Chinese, you can get a ‘good
understanding of the state of mutual relationships’ which highlights the cultural smart
elements. This was just one example, however spending multiple weeks together
traveling from different manufacturing plants would have given the Chinese parties
an exposure to the Volkswagen world, setting the tone for how operations should be
run in China.

As established above, the JV was made of three Chinese partners and upon
reflection of the three parties they were selected carefully as they all had a critical
role to play in the JV. The 25% shareholders STAC provided capability in
manufacturing and human capital on the ground in China, while CNAIC the 10%
shareholder was an industry body and the President of CNAIC was also invited to join
the traveling party visiting Volkswagen’s facilities. The move to include the President
of the CNAIC which works with multiple manufacturers could have been considered
risky at the time even though they were a 10% shareholder, however it proved to be
a stroke of genius on behalf of Volkswagen. At the time, the automobile industry in
China was in the early stages of development with limited institutional framework and
the government had assigned CNAIC to develop the automobile policy within the
industry (Posth, 2006). For an MNE to enter a market like China, one of the major
challenges is navigating a weak legal and regulatory system, however having CNAIC
as a partner was critical to not only have the relationship with the government but
also help shape the development of policy. Finally, the third partner a 15%
shareholder, the BOC also had a role to play which would become evident later in
the journey of the JV, however being a bank with close ties to the government, they

17
can control investment in associated supply chains which would be critical to support
the localisation of manufacturing in China. Without having a local supply chain,
manufacturing locally would not be viable and having access to capital would drive
the development of the industry and put Shanghai Volkswagen on track to achieve
its objectives. Reflecting on the partner choices, the JV had good foresight to
anticipate the challenges they would face as each party could play an active role
in mitigating some of the risks and challenges associated with developing the
business in China.

Reverting back to Verbeke’s model, the last two key points to make in the ‘post deal
phases’ is the notion of ‘adaptation’ and ‘integration’. On the point of ‘adaptation’,
Shanghai Volkswagen was the first JV worldwide for the manufacturer. The change
was quite significant for Volkswagen as management and equity was shared 50:50
between the two parties and the head of the JV was from the Chinese party (Posth,
2006). Again, this point talks to the respect that both parties had for each other and
the priority was achieving the strategic objectives rather than management
hierarchy decisions which has been known to create conflict in the early phase of
JVs. From Volkswagen’s perspective, allowing the Chinese party to lead the JV was
a rapid shift in the way they carried out business and according to Farhoomand &
Tao, (2005) Volkswagen were far superior in the areas of technology, business
management and negotiation which gave it the upper hand in the negotiation,
however they could be considered fair and reasonable with this appointment
marking a big shift in how they enter other markets. Finally, on the point of
‘integration’, a comment from a Volkswagen executive at the time spoke volumes
to the work put in from both parties as he mentions that ‘without an agreement,
nothing would happen’ and he goes on to mention ‘together or not at all’ (Posth,
2006).

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Exit Plan Management:

According to Dyer et al, (2004) most acquisitions and alliances fail, a few may
succeed, but acquisitions on average, either destroy or do not add shareholder
value and research suggests that 40% to 55% of alliances break down prematurely.
The Shanghai Volkswagen JV bucked this trend, and much can be credited to its
work in laying the foundation in the pre-deal phase, followed by the post deal phase
where it ensured knowledge was shared, cultural elements do not interfere, and the
strategic objectives are the priority of the JV.

As the JV has been running for just under 40 years, the Exit plan will not be the focus
of this analysis. Ending a JV is inevitable, however in the event that this does occur,
Volkswagen have come to understand the Chinese market, with strong brand
recognition and as a result of their commitment to the JV’s objectives, they have
transferred technology and western know how during the course of the agreement.
74

How are they orchestrating upstream value chain activities?

What is a value chain orchestration?

All firms, whether it be manufacturing, or service based are modelled off a ‘value
chain’, or a set of activities to produce, deliver and support products or services (i.e.
value), to end consumers. The collection of activities in which a firm performs is
decided on and organised in a way, across the value chain in an effort to achieve
competitive advantage – figure 1 below is a depiction of a general value chain
developed by Michael Porter:

19
 Figure 1: Michael Porters’ Value Chain conceptual framework (Source: Porter 2017)

These activities can be organised into two distinct categories – Primary activities and
Support activities where:

• Primary activities: tasks belonging to end-to-end delivery and servicing of the

product or service to consumers which include but not limited to;
manufacturing, marketing, logistics and post-sales support.
• Support activities: tasks underpinning the firm as ‘enablers’ to primary
activities, such as firm infrastructure, technology, human resources,
procurement (Borja de Mozeta 1998).

Value chain orchestration therefore are strategic decisions regarding the structuring,
coordinating and integrating of activities (or functions) of a firm, to extract value and
gain competitive advantage amongst peers within the same industry (Li, De Souza &
Goh 2016).

In the context of Volkswagen (VW), the automotive value chain represents the
common set of activities which VW and competitors need to consider when making
decisions for competitive advantage. These activities span across manufacturing,
distribution, commercialisation and post-sales services (Paunov & Planes-Satorra

20
2019) – figure 2 below represents the automotive value chain relevant to
Volkswagen:

Figure 2: Automotive value chain (Source: Paunov & Planes-Satorra 2019)

From figure 2, a distinct hand-off between upstream and downstream activities can
be drawn upon. The following sections will focus on the upstream portion of the value
chain – that being the manufacturing of vehicles which include inbound logistics
(multi-tier suppliers) to operations (assembly of vehicles).

Strategic sourcing

A key consideration for an organisation is where and how it will source the goods and
services it needs early in the process, to deliver value to customers. This is referred to
by Pierson and Shish (2013, pp. 6) as strategic sourcing and involves two key
decisions:

1. Make, Buy or Ally

2. Where-to-produce e.g. geographic and proximity

21
These decisions must be of strategic value and alignment to business and operational
strategy – some of which for upstream activities include may include, inbound
logistics, operations, R&D, procurement, etc. – depending on the nature of the
business.

The make-buy-ally decision in context of VW for upstream activities would consider

suppliers for components (e.g. parts) and assemblers for production of vehicles –
should VW invest in building its own capabilities to ‘make’ these components and
assemble in-house, or would it make more sense to source (i.e. ‘buy’) from external
suppliers? These decisions result in the reflection of how VW have chosen to
orchestrate upstream activities.

In context of this paper, the second decision of where-to-produce would consider

global sourcing as an option, in alignment to the firms’ strategy of internationalisation.
This is where the firm enters the global market for competitive advantage, some of
which include:

• The most common being cost efficiency when sourcing or producing

internationally – e.g. overseas suppliers of auto parts, and/or plants to
assemble vehicles at a lower cost in host country and sell in home country.
• Foreign monetary policies can be favourable when operating in an Asia-
Pacific host country e.g. exchange rates, tax, etc.
• Strengthen reliability of supply network – e.g. minimise the reliance and risk
where a supplier is not able to provide the required materials or components.
• Leveraging productivity outputs and expertise – e.g. Asia-Pacific host countries
are recognised internationally as manufacturing powerhouses offering high
productivity and quality outputs, firms with access to these regions benefit from
a combination of lower costs and superior performance.
• Penetration of growth markets which allow firms access into an emerging, high
growth market through their sourcing or production activities, based on their
strategic investment and commitment into the market (Zhang & Khabelashvili
2002).

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The next section explores how Volkswagens’ orchestrates upstream activities through
make-buy-ally choice.

Make-buy-ally decision

The core basis of make-buy decision (more on ally later) is the focus in which the firm
should concentrate on, being the internal activities, which are of strategic
importance and where the firm has capability to perform the activities for sustainable
competitive advantage (Pierson & Shish 2013). The questions a firm may ask itself are:

• Make: do we have the capabilities to perform the activity in house and is the
activity strategically important for competitive advantage?
• Buy: is the activity dissimilar to the core business and that, it would be more
effective to find someone else to help us (assuming there is no market failure)?

Further, as part of the make or buy decision, a geographical perspective is

considered – e.g. do we explore a host country to perform these activities for
competitive advantage, referred to as offshoring.

Activities that are not of strategic importance to a firm, should be considered for
outsourcing as expert suppliers/providers can offer economies of scale,
organisational learning benefits and are more efficient (resulting in greater
productivity) in producing, for those where these activities form a core part of their
business (Mudambi & Tallman 2010); as we know from economics, a producer is more
efficient in performing a task where they’re an expert in.

For VW and China, neither make or buy decision was an option due to government
policies of foreign firms entering China. These policies aimed to create a foreign
investment environment, where companies with foreign investment:

• Benefited from lower tax and preferential tax policies and,

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 • As a condition of entry into the Chinese auto industry, foreign firms must be in
an equity-based alliance in the form of joint venture (Zhang & Khabelashvili
2002).

This meant that Volkswagen was limited to an ally decision from the make-buy-ally
options, in order to enter and do business in the China region. Thus, the following will
focus more on the alliance option in the form of joint venture as it relates to
Volkswagens’ hybrid model in China.

Equity-based joint venture

The ally decision can be grouped into two key modes:

1. Process innovation – where a firm learns and/or builds the

capability/competency required i.e. vertical integration, backwards in the
context of upstream activities.
2. Cooperative partnership – where a firm forms an alliance with one or more
independent firms e.g. cooperative joint ventures.

A form of cooperative partnership is a joint venture (JV) – these are equity based (i.e.
FDI if operating across regions) unlike contractual alliance, where two independent
firms establish a new, jointly owned firm with a typical participation of 50/50
ownership stake (each firm owning 50 of the newly established firm). In context of VW
and China, a JV with foreign firms is one of the many ways of entering a new market
and is advantageous to the firm seeking JV, in this case, Volkswagen – some of which
include:

• Benefiting from the host country partners’ local knowledge such as,
competition, culture, political landscape and business systems.
• Sharing of both development costs and foreign market risks.
• Government policies and political navigation

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The third point above referring to government policies is relevant to Volkswagen –
where China as the host country, has made joint venture a condition of entry into
China auto industry (Zhang & Khabelashvili 2002), as part of the 1978 opening policy
in China.

In contrast, disadvantages with joint ventures is mainly around control and risk of
potential conflicts:

• Similar to licensing, firms entering into joint ventures risk control over technology
to its partner.
• Risk of conflicts between partners in terms of direction and objectives.
• Bounded to the ownership stake agreed therefore not allowing control over
subsidiaries where applicable (Zhang & Khabelashvili 2002).

Volkswagen has experience in engaging in partnerships – VWs’ globalisation strategy

remains consistently aligned across different regions, that is – to acquire an existing
company, and make it profitable (Zhang & Khabelashvili 2002). As a result, foreign
direct investment is not made to build new plants in the host country and instead, is
invested in joint ventures to establish Shanghai Volkswagen Automotive Co. Ltd.
(SVW), and subsequently a second joint venture with First Automobile Works (FAW)
following the success of the former joint venture (Wyrwoll & Hanschen 2007). A
depiction of the hybrid model between VW and its’ host partners in figure 3 below.

25
 Figure 3: Joint venture partnerships for Volkswagen in China

For Volkswagen, joint ventures in China establishes and strengthens VW’s position
within the China auto industry. This position benefits VW by creating a foothold for
market penetration into a low cost and high growth emerging market such as China.
Not only does this benefit VW, but also the host country, being China – where the
knowledge and expertise of Volkswagen is shared through the joint venture to further
uplift the skilled labour force and know-how, whilst delivering value and meeting
highly varied consumer needs.

When examining the success of the joint ventures, it can be attributed to the way
value chain activities are orchestrated. The partnership between VW and local
partners brings together resources from all independent firms that are involved and
thus, synergies naturally occur as a result. The following sections explores synergies
further and the implications on upstream activities orchestration benefit both VW and
its’ partners.

Synergies

The notion of ‘combining resources’ to generate synergies is often recognised as a

result of alliances. Resources being human capital, technology, physical assets,
distribution networks, financial, etc. (Dyer, Kale & Singh 2004).

Dyer, Kale & Singh (2004, pp. 5) outlines three types of Synergies as follows:

1. Modular synergies – where resources are managed independently, however

the shared outcome is pooled for better results.
2. Sequential Synergies – interdependent resources work cooperatively where a
firm completes a task and passes the results onto the next firm to perform the
tasks in the subsequent stage.
3. Reciprocal synergies – where firms work closely together through iterative
knowledge sharing, more relevant to acquisitions rather alliances.

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Sequential synergies can be realised for both FAW-VW and SVW joint ventures as it is
common within the automotive industry. This is because of the multi-tier supplier
network of the automotive industry, where suppliers produce components and parts
relevant to their core business (e.g. a tyre maker will make tyres and not engines) and
original equipment manufacturers (OEM) orchestrate upstream activities across
inbound activities i.e. multi-tier supplier network, through to production i.e.
assembling of vehicles. Conceptually, this describes the notion of sequential
synergies, where by a supplier produces a part, and passes the resulting part onto
another supplier to produce the next part and/or build a particular component,
eventually being passed to an assembler to fit the many parts together, thus
demonstrating the nature of sequential synergies.

Implications on upstream activity orchestration

This type of synergy is evident for Volkswagen in how upstream activities are
orchestrated. Volkswagens’ evolution to ‘modularity’ of its product structure and
manufacturing processes i.e. production platform, is a key enabler to supporting this
practice and achieving this level of synergy – Volkswagen developed a modular
platform which divides its’ product (i.e. vehicle) into subsystems with well-defined
boundaries, and rules to ensure each module fits and works together in a seamless
and inefficient way (Pierson & Shish, 2013), helping Volkswagen, FAW-VW and SVW
to orchestrate their upstream activities by integrating suppliers (and distributors) into
a collaborative platform, from both a system perspective and a relationship model
perspective thus, allowing for dynamic upstream supply chain (Csizmazia 2014)
and/or a network of cooperation.

The activities of component makers are closely complementary however, are distinct
enough to be dissimilar thus, each supplier carry out their respective activities to
develop and design their respective components, and cooperate with other
suppliers and partners to orchestrate upstream activities, in a single modular
production platform. This allows for multiple components to be manufactured at the

27
same time and increasing the throughput of end-to-end vehicle delivery, ultimately
achieving greater efficiency and speed to market, and meeting expectations of
demand variety where consumers are after personalisation of vehicles.

This form of upstream activity orchestration enabled by technology and process

innovation, is highly sophisticated and has propelled Volkswagen through its’ journey
in China resulting in sustainable competitive advantage on a global stage.

Other upstream activities

Moving beyond inbound logistics and operations, high value activities such as
research & development (R&D) is often recognised as an advantageous offshoring
strategy for firms who wish to operate in the Asia-Pacific region. China has
accounted for almost half the total global cross-border R&D investment where major
players have increased their FDI e.g. GE, Oracle, Boston Scientific, Toyota and Apple.
Some key benefits to having R&D in emerging economies such as China are:

• Being closer to the market of interest – allowing firms to gather market

information that could help to spot trends, shape products, competitor
intelligence and/or general local knowledge.
• Government support – where policies provide tailwinds in foreign investment
for R&D activities within the host country.

R&D being considered as part of Volkswagens’ upstream value chain activities, was
predominately residing in Volkswagens’ home country – Germany however, the joint
venture allowed for further consideration to new models with the help of their
Chinese partners. The Audi A6 with its extended ‘lengthening’ design, was a result of
the joint venture from China and spring boarded the continuous investment in
configuration tailor-made for the Chinese market (McFarlan et al. 2010). This
demonstrates the success realised by Volkswagen, from having further orchestration

28
of high valued upstream activities cross boarders to achieve sustainable competitive
advantages, globally. 58

Orchestration of downstream value chain activities

Khanna et al (2005) assert that Western Companies ‘can’t assume they can do
business in emerging markets the same way they do in developed nations.’ The
effects of distance, and the liability of foreignness have profound influence on the
way globalising entities must orchestrate their downstream operations.

This part examines how VW orchestrated downstream activities in entering the

Chinese market, including: effect of distance on VW’s marketing mix; how
relationships and alliances with entities in distribution have been coordinated in
response to Chinese circumstances; and VW’s post-sales service strategy in China.

Overcoming distance in VW’s Chinese marketing mix

Companies must account for distance when making decisions about global
expansion. Most costs and risks associated with undertaking business in developing
and emerging markets are created by distance. Distance describes the various
factors that can make doing business in foreign markets more or less attractive, and
it manifests along four key dimensions: cultural, administrative, geographic and
economic distance (Ghemawat, 2001).

Deviations in distance between China and Germany along these dimensions

relevant to VW’s marketing mix can be evaluated using Ghemawat’s CAGE
framework, which ‘represents an important complement to the tools used by most
companies seeking to build or rationalise their country market portfolios’
(Ghemawat, 2001).

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For the purposes of this paper, marketing mix refers to activities and strategies
associated with product development, promotion, pricing, placement and people.

Cultural distance

People and firms comprising Chinese and German markets present marked cultural
differences. Cultural distance describes ‘how people interact with one another and
with companies and institutions’ (Ghemawat, 2001). Variation between the home
and host country can be observed in relation to attributes such as language, social
norms, ethnographic and demographic differences. Ghemawat (2001) notes ‘most
often, cultural attributes create distance by influencing the choice that consumers
make between substitute products because of their preferences for specific
features.’

Relevant cultural attributes and their effect on VW’s downstream activities can be
identified and evaluated using Hofstede’s dimensional model of national culture
(‘Hofstede’s model’) (Hofstede 2001; Hofstede & Hofstede 2005). Hofstede’s model
clusters and quantifies the degree of variation in cultural attributes along broad
dimensions of power distance, individualism, masculinity, uncertainty avoidance,
long-term orientation and indulgence.

It should be noted that this model was not developed specifically for analysing
consumer behaviour. Attempting to apply cultural motivation to consumer
behaviour requires selection and interpretation of relevant cultural dimensions (Mooij
and Hofstede, 2010).

30
 Hofstede Country Comparison
Germany China

Power distance
90

80

70

60

50
Indulgence Individualism
40

30

20

10

Long-Term orientation Masculinity

Uncertainty avoidance

Figure 4 – Hofstede Country Comparison Chart

China scores very highly in relation to power-distance dimension, or ‘the extent to

which the less powerful members of institutions and organisations within a country
expect and accept that power is distributed unequally’. A specific example of the
manifestation of this attribute can be observed in relation to VW product
customisation in China.

Unlike German consumers, at the time of VW’s market entry the majority of Chinese
car owners sat in the back seat of their car, being chauffeured by a driver. The
reasons for this are asserted as cultural (McFarlan et al, 2016a, p14) and could pertain
to the high power-distance dimension of Chinese culture and polarity in economic

31
circumstances of Chinese citizens. Specifically, the existence of a broad employee-
class of economically subordinate ‘drivers’ did and does not exist in German culture,
and is not a feature of VW’s German product design.

To cater to these cultural differences, VW customised its product and extended the
wheelbase and length of the Santana, and later-model Audi A6s to provide a more
expansive rear passenger seat to enhance comfort for VW passengers (McFarlan et
al, 2016a).

Significant cultural variation can also be observed in relation to ‘individualism’ or the

degree of interdependence a society maintains among its members, and whether
people’s self-image is defined in terms of ‘I’ or ‘We’’. Highly individualistic cultures
assume their values apply to the whole world, and that personal identity is vested in
the individual rather than the society in which the individual belongs. Conversely, in
low-individualistic or collectivist societies identity is based on the social system to
which the individual belongs (Mooij and Hofstede, 2010).

In this respect, China is a low individualism or highly collectivist nation, and Germany
is highly individualistic. We can see the relevance of this aspect of China’s cultural
distance from Germany in VW’s product strategy. Particularly, in the earliest phases
of VW’s operation in China (i.e. 1980 to 2000) VW largely relied on a basic single
model of car for consumers (i.e. the Santana) and a further single luxury car (i.e. the
Audi 100) for government (McFarlan et al, 2016a).

Based on China’s low individualism score, we may assume that cosmetic product
feature variation designed to appeal to individualistic consumer needs would be of
limited relevance during early stages of VW’s operations. However, as China’s
markets opened to increasing levels of Western influence, distance in this area may
have declined as markets generally began to reflect liberal consumer choice
notable in Western societies. VW’s existing product strategy maintaining a
streamlined portfolio of products to meet the needs of smaller (and collectivist)
general consumer and government segments was no longer sufficient to maintain

32
market-share. In response VW introduced Volkswagen-makes including the Passat,
Polo and Gol as well as the Audi 200 (Farhoomand & Tao, 2005).

Uncertainty avoidance, defined as ‘the extent to which people feel threatened by

uncertainty and ambiguity and try to avoid these situations’ is another major point of
cultural distance between China and Germany. Cultures (i.e. Germany) with high
levels of uncertainty avoidance require greater structure, more rules and greater
formality. Low levels of uncertainty avoidance make people more open to change,
and, explains different rates of adoption of innovations (Mooij and Hofstede, 2010).

China demonstrates considerably lower uncertainty avoidance than Germany. This

could be seen as a driving force behind the adoption of unique digital channels,
‘focus on speed’ and growth characteristic of contemporary Chinese markets
(Whitler, 2019). VW has attempted to capitalise on these unique aspects of Chinese
culture by employing less conventional (by Western standards) influencer and digital
marketing strategies on platforms such as WeChat, in parallel with more conventional
TV and cinema advertising (McFarlan et al, 2016b).

More broadly, it is also worth noting the effects that other aspects of ‘distance’ have
on culture. Specifically, China’s population size may influence cultural distance.
Hofstede’s research (Hofstede, 2001) suggests a positive correlation between
population size and power-distance. Further, some research also suggests that
economic development may influence cultural distance, with corollaries asserted
between economic development and ‘uncertainty avoidance’ aspects of
Hofstede’s cultural model (Tang and Koveos, 2008).

Administrative distance

Administrative (and political) distance describes both the ‘history and political
associations between countries’ as well as relevant policy positions of governments
in individual countries. Unilateral measures and the ‘policies of individual
governments pose the most common barriers to cross-border competition’

33
(Ghemawat, 2001). The degree of difference between China and Germany for the
period of VW’s operation within China is significant on many levels.

Prior to VW’s entry in the 1980’s, Chinese foreign policy curtailed any major trade
association between the China and Germany, and to this day there is still no material
monetary association. On a macro-level we can assume that basic differences in the
political systems, orchestration of government and absence of historical trade
partnership create distance between China and Germany. However, there is also
evidence of administrative meso and micro factors influencing the orchestration of
VW’s marketing activities.

Initially, Sale of the Volkswagen Santana to general consumers was buttressed

through targeting higher-end Audi make car sales to the government segment.
Government clients are characterised by larger purchasing power due to centrally
allocated procurement resources (particularly relevant to general Chinese
consumers). We can assume (due to economic distance factors described below)
that VW’s addition of the Audi as a premium product in the late-1990s was designed
primarily to address the needs of Chinese officials in a time where general consumer
spending was limited. This aspect of its product strategy saw great success and
increasing penetration within this segment (although we can assume its pricing as a
premium product largely excluded sale of Audi make cars to the majority of private
Chinese consumers).

China’s 2001 entry to the World Trade Organisation, accompanied by active fiscal
policy developing Chinese road and highway infrastructure (completed in 2003)
contributed to a diminution of administrative distance between Germany and
China, and a resultant evolution of Chinese market characteristics and increased
penetration by other international car manufacturers no longer deterred by their
unfamiliarity with the Chinese marketplace. In turn, increasing competition and
consumer choice drove changing patterns of consumption and increased
sophistication in VW’s marketing activities in response.

34
VW recognised that the proliferation of Audi make cars as government vehicles and
brand association as the “official car” made it impossible to position Audi as a true
high-end brand for consumer markets. To address this, VW introduced new and lurid
colours, sports models, and introduced various charitable initiatives designed to
increase the appeal to consumers and more closely associate Audi with general
consumer behaviours (McFarlan et al, 2016b).

Geographic distance

Geographic distance refers to the distance between countries, as well as the size of
the country, average within-country distances to borders, access to waterways and
the ocean (Ghemawat, 2001). These factors are also relevant in assessing distance
between China and Germany for i.e. determining the relative cost of activities such
as distribution and transportation.

Table 2 – Comparative Geographic indicators 2018

Factor Germany China Multiple

CN vs GER

Land Area (Sqkm) 349,360 9,388,210 26.8x

Population (Million) 83.1 1,398 16.8x

Population Density 237 148 0.62x

(People per Sqkm)

Climate Cool-seasonal Varied N/A

Source: World Bank

35
Germany is significantly smaller than China in land area, but with a significantly
greater population density evenly distributed throughout much of the country. This
contrasts markedly with China, which despite its significantly greater population and
land area demonstrates surprisingly low density overall. In reality, much of China’s
population is concentrated in the east of the country with a large number of
population centres, most of which significantly surpass Germany’s most populous
cities.

This point is important for VW’s marketing mix, due to the influence of geographic
distance on the creation of channels for product distribution and post-sales service.
Whilst the specific nature of stores will be discussed separately below, the placement
of stores and VW’s ‘area strategy’ is an example of distance between the home and
host countries. Because China is significantly more populous and disparate than
Germany, it is not efficient for VW to locate stores and service centres in each city.
Dealerships are located in tier one and tier two cities, while smaller service centres
are located more prolifically in tier three and four cities. This is because consumers in
China will ‘go to a place two to three hundred kilometres away to buy a car, but
they will not go to a place two to three hundred kilometres away for a service’
(McFarlan et al, 2016b).

Climatic variation is also noteworthy. Germany’s relatively uniform cool-climate

contrasts with China, which presents significant climatic variation between northern
and southern latitudes, and dramatic fluctuations in temperature between regions.
In older model vehicles, this necessitated specific modifications to handle the
fluctuation in temperature between north and south China (McFarlan et al, 2016a).

Economic distance

The factor with perhaps the most relevance to VW’s downstream activities is the
economic distance between the two countries. Specifically, as concerns VW’s

36
experience in China ‘wealth or income of consumers is the most important economic
attribute that creates distance between countries’ (Ghemawat, 2001). In
considering China’s economic circumstances it is worth noting several key phases of
economic development that China has experienced over-time, reflecting specific
changes in China’s GDP and individual wealth (as represented by GDP per capita).
This metric can be taken as a proxy to reflect the degree of economic distance
between the two countries and is noted in Table 3 below.

Table 3 – relative average GDP per capita

Growth Phase Period Germany China Multiple

GER vs CN

Phase 1 1980 to 1989 $11,624 $312 37.3x

Phase 2 1990 to 1999 $26,725 $588 45.4x

Phase 3 2000 to 2019 $39,537 $4,804 8.2x

Phase 4 2020+ $54,836 $13,337 4.1x

Source: IMF Data Mapper, GDP Per Capita data set

VW’s product strategy during phase 1 largely reflects the economic reality within
China during the 1980s. VW initially released one basic product in 1983, the Santana,
which remained in the market for nearly two decades following its launch. The
Santana was highly standardised to German specifications and offered as a simple
product to suit the limited sophistication of relevant consumers, avoid costs
associated with customisation, and to support required economies of scale

37
necessary to achieve return on investment for upstream activities (McFarlan et al,
2016b; Farhoomand & Tao, 2005).

In early phases of Chinese growth where economic distance between China and
Germany is high, pricing presented a barrier in accessing broader consumer uptake
of VW vehicles. Most purchases made by Chinese consumers during this period were
in cash, fewer than 20% were purchased with credit facilities and pricing remained a
‘bottle neck in converting consumers from potential buyers to actual buyers’
(Farhoomand and Tao, 2005). We can assume these factors significantly curtailed
penetration of general consumer markets for VW’s Volkswagen make vehicles, and
broadly excluded most consumers from purchasing the higher-priced Audi vehicles.
Institutional voids in consumer credit markets were addressed in 1996 with the
introduction of car-financing. This alleviated pricing constraints and set the stage for
subsequent revenue growth and VW market penetration among the broader private
consumer segment.

With decreasing distance in later phases of Chinese economic growth, patterns of

consumption among Chinese consumers were increasingly reflecting the tastes of
the burgeoning middle-class, characterised by increasingly young consumers
seeking personalisation, with female-dominated decision making, and a shift in the
perception of automobiles from assets to consumer goods (McFarlan et al, 2016b).

In phase 3, accelerating domestic and personal GDP growth during later economic
phases saw GDP per capita cross the $4000 to $6000 threshold assumed by VW to be
necessary to initiate large-scale family car buying (Farhoomand & Tao, 2005). VW’s
additional joint-venture with FAW in 1991 to locally produce Audi model cars
demonstrates an increasing focus on alignment of marketing activities to market
demand (i.e. capacity and willingness to pay for luxury vehicles). Beyond an
increased focus on product variation, the rise in importance of general consumer
segments had several further notable effects on VW’s marketing activities.

Specifically, the introduction of the Audi required an increased focus on placement

and promotion of products that had not been required in earlier phases with limited

38
consumer or market sophistication. To differentiate the Audi as a high-end luxury
vehicle, VW created a unique channel for Audi called the ‘4S’ store, specialised
distributor stores based on VW’s international standards, of exceedingly high quality
and a consumer experience designed to simultaneously place and promote Audi
vehicles to high-end consumers (McFarlan et al, 2016a).

VW’s orchestration of its marketing mix demonstrates considerable attention to

overcoming distance created by the factors noted in this section. By seeking to
identify and overcome specific points of difference between home and host
country, VW has managed to reduce its liability of foreignness, and to avoid many
pitfalls and risks global businesses encounter when seeking to operate in China.
However, the marketing-mix is not the only component of VW’s downstream activities
worth discussing. VW’s coordination of its distribution networks and activities, and its
post-sales strategy, will be explored below.

‘Make, Buy, or Ally?’ decisions in VW’s distribution activities

Central to the evaluation of VW’s management of distribution are the level of

integration within its downstream distribution network, and the relationship between
entities involved in moving VW’s product from production facilities to consumers. As
a foreign entity with significant challenges concerning distance (described above)
and few established networks, the extent and nature of its relationships with local
entities is critical. Arnold (2000) notes that “since markets are nationally regulated
and dominated by networks of local intermediaries, operations need to partner with
local distributors to benefit from their unique expertise and knowledge of their own
markets.”

39
To understand the propriety of VW’s decisions in China relating to distribution, the
‘Make, buy or Ally?’ framework developed by Dyer et al (2004) proposes a number
of salient factors for consideration. These factors include the nature and type of
resources, entity collaboration, as well as the degree of market uncertainty and level
of competition within the host market. These will be examined in turn below then
evaluated collectively.

Types of Synergies, Nature of Resources and Collaboration

Cooperation between entities can generate different types of benefits requiring

different constellations of ownership or alliance. To evaluate these, we must examine
the benefits or synergies created, the nature of resources contributed to generate
the benefit and the extent to which the relationship between entities will generate
redundancies (Dyer et al, 2005).

Types of synergies generated are described as being either modular, sequential or

reciprocal on an increasing continuum reflecting the independence of each entity’s
contribution. These can be defined as follows (Dyer et al, 2005):

• Modular synergies, where resources are ‘managed independently’ are best

orchestrated through non-equity alliances.
• Sequential synergies occur where an entity completes ‘its tasks and passes on
the results to a partner to do its bit’ and are best arranged as equity-
partnerships.
• Reciprocal synergies or ‘working closely together and executing tasks through
an iterative knowledge-sharing process’ lend themselves to acquisition.

Entities ‘should check if they must create the synergies, they desire by combining
hard … or soft resources’ and ‘the amount of redundant resources they’ll be saddled
with’ under the alliance (Dyer et al, 2005). Hard resources and large redundancies
are appropriately managed through equity ownership or acquisition to enable a firm

40
to manage or exploit these redundancies, and soft resources with few redundancies
are best managed through alliances.

Although the upstream relationship between VW and its partner entities involved
shared production and significant capital contribution on both sides, downstream
activities are more discrete and rely on knowledge, information and networks. VW’s
experience demonstrates two key phases of development in its relationship with SAIC
and FAW (collectively ‘JV partners’) with different activities and circumstances
relevant to the manner in which VW’s alliances were arranged during each of two
distinct phases of development in VW’s distribution.

Phase 1 (circa 1983 to 2000): At establishment, VW’s JV partners were local

(governmentally controlled) entities. In the early phases of operations in both cases,
VW’s contribution was limited to the sale of completed vehicles to JV partners with
no role in distribution. Vehicles produced by SVW were sold to JV partners on
completion at a pre-arranged price, and then distributed through State-owned
distributors at provincial and municipal levels. During this phase synergies can be
characterised as modular. Distribution resources are not ‘shared’ between JV
partners for synergistic benefit, and redundancies are limited.

Phase 2 (circa 2001 to 2020): in 2001, VW and SAIC revised their initial arrangement
of the relationship by broadening their joint-venture agreement to incorporate the
joint administration of Regional Sales and Service Centres (‘RSSCs’) with responsibility
for integrated sales planning, management, financial and inventory control,
promotion, after-sales maintenance, and fleet sales management but not actual
sales activities. RSSCs share considerable soft resource with moderate chance of
redundancies, but centres themselves are ultimately a link in the chain to facilitate
further downstream point-of-sale contact. In this case synergies should be properly
characterised as sequential.

41
Market Uncertainty and Competition

Dyer et al (2015) suggest companies should consider uncertainty associated with

both exogenous factors and the outcome or product of the relationship. Whilst the
former concept relates to market forces and competition in China, the latter point in
this context concerns the ‘product’ of the relationship e.g. the distribution
component of VW’s downstream activities, specifically: the collection, sale and
delivery of cars produced under its respective joint venture arrangements. In both
cases, the continuum of equity ownership increases from non-equity alliance in cases
of low uncertainty and competition, to acquisition in the case of high uncertainty
and competition.

In cases of great uncertainty in relation to product-market fit, lower levels of equity

investment in a relationship is preferable at first. This is to limit the exposure of an entity
entering into a relationship until it has sufficient familiarity with the market. Conversely,
if competition in a market is high, an entity may have no choice but to ‘buy a firm in
order to pre-empt the competition.’ (Dyer et al, 2015).

In phase 1 VW’s relationship with JV partners relied on local partners distributing

produced goods at arms-length (non-equity relationship) and predominately to
government purchasers. Government procurement initially made up a large
component of end-user sales, and VW’s product portfolio was limited to the
distribution and sale of a simple Santana-model Volkswagen. At this stage, both
market and ‘product’ uncertainty was low and there was no inherent need for a
sophisticated sales force or distribution network. Local JV partner networks were
capable of reaching appropriate customers.

However, during phase 2 deregulation of the Chinese marketplace caused

increasing competition from other MNEs (both in terms of products on offer and
development of relationships with VW’s JV partners) and an increasing diversification
of both VW’s product mix and customer base. To facilitate this shift, VW began

42
exercising greater control over its downstream supply chain be expanding its
relationship with JV partners to include distribution.

Evaluation – Should VW have bought or allied with JV partners?

Figure 5 below provides an evaluation of VW’s activities for consistency with Dyer et
al’s framework by looking at the mode of relationship management during both
phase 1 and phase 2 of its operations in China, versus the recommendation made
by Dyer et al for those circumstances.

Figure 5 – Evaluation of VW using Dyer et al’s ‘Make, Buy or Ally?’ framework

During its early years the approach taken by VW in managing the complexity of the
relationships with its JV partners is generally consistent Dyer’s recommendations for

43
the appropriate nature of firm alliances. At times where synergies are modular and
market complexity and competition is low, it was appropriate for each of VW and its
JV partners to approach the distribution component of their relationship at arms-
length and through non-equity partnerships.

However, as complexity and competition increased, the question remains whether

VW’s increased level of control over the supply-chain was appropriate. In phase 2 of
VW’s distribution relationship with its JV partners the relationship required increased
‘soft’ resource contribution, and now generated sequential synergies with the
potential for moderate resource redundancy. VW arranged this relationship as an
equity joint venture with its JV partners. Dyer et al suggest that this might have been
better managed through an acquisition to enable VW to pre-empt moves by VW’s
competitors. In the circumstances, and due to peculiarities of the Chinese market
(i.e. Chinese government intervention in the auto manufacturing market) this
strategy was not open to VW.

VW’s intent in increasing the level of control exercised over the shared value-chain
can be seen as an effort by VW to both ‘impart its greater experience’ on its JV
partners in marketing, sales and distribution practices, as well as positioning itself
closer to consumers to respond to rapidly changing consumer demand to ensure
that product requirements are incorporated into product design (Farhoomand &
Tao, 2005). It should be noted that although VW’s later shift toward greater
participation and vertical integration may not be consistent with advice provided by
Dyer et al, it generally follows the pattern noted in Arnold’s commentary regarding
early-phase distribution in foreign markets i.e. “the multi-national’s product line and
the distributors business probably fit best at the point of market entry. As time passes,
the fit deteriorates. The distributor may be less able to deliver growth as the business
moves away from its core customer base” (Arnold, 2000).

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Evaluating VW’s post-sale service strategy using the ‘AAA Triangle’

After-sales service and client relationship management are aspects of VW’s

downstream value chain activities affected by VW’s decision to globalise and enter
the Chinese market. Evaluation of VW’s orchestration of these activities requires
consideration of the extent to which VW customised or standardised these elements
of its Chinese business to meet differences that arise between home and host
country.

Evaluation of the extent of local-market customisation can be undertaken using the

‘AAA Triangle’ framework (Ghemawat, 2007) which operates on the premise that
‘companies growing their business outside the home market must choose on or more
of three basic options’ including adaptation, aggregation and arbitrage. These three
options reflect the extent to which a global business has customised its offering to
meet the needs of varying host markets and the ‘AAA triangle’ itself can be used to
‘develop a scorecard to see how well a company is globalising’.

Adaptation

Adaptation, or ‘the achievement of local relevance through national focus’ on the

host country market must be undertaken in relation to activities where significant
difference exists (Ghemawat, 2007). As noted in the section above titled
‘Overcoming distance in VW’s Chinese marketing mix’ significant differences exist in
relation to many facets of the German and Chinese markets.

Though examples from VW’s experience in the late 1990s have been provided earlier
in relation to VW product customisation to overcome cultural distance (e.g. VW’s
Santana model wheelbase extension), a further contemporary example relevant to
post-sales activity concerns VW’s efforts to enhance its use of consumer data to
inform decision making in China.

45
Collectivist aspects of Chinese culture and the absence of privacy and consumer
data protections in Chinese regulations mean that consumer data is more heavily
captured and centralised in China than in Western markets. The collection and
usage of granular customer information to maintain existing and attract customers
(in all industries) is noted as a point Western companies must embrace when
operating in Chinese markets to effectively compete (Whitler, 2019).

From as early as 2002, VW engaged in the development of a ‘tailor-made data

warehouse, which can store information about millions of Chinese customers,
prospective customers and dealers’ which was touted at the time as being the
‘largest consumer database in Asia’ (Madden, 2002) and one that at the time had
not yet been replicated in VW’s home country Germany.

VW’s intent in undertaking this effort is consistent with a strategy concerned with
adaptation to local market circumstances. Leveraging huge volumes of data for
relationship management and lead generation departs from its home country
approach during the relevant period and recognised the need to adapt to enable
effective competition in China versus other MNEs.

Aggregation

Aggregation, or ‘the achievement of scale and scope economies through

international standardisation’ attempts to build competitive advantage by
emphasising horizontal relationships and standards between regions and countries
(Ghemawat, 2007). VW’s aggregation strategy has been more complex than its
adaptation strategy.

As part of its post-sales activity, VW pioneered and developed the concept of the
integrated ‘4S’ store. The term ‘4S’ initially coined by VW for the distribution of Audi
vehicles is now applied to any integrated automobile store offering sales, service,
spare-parts and surveys.

46
VW’s establishment of 4S stores for Audi were modelled on German counterparts and
required significant standardisation in both construction and training for local dealers
for consistency with their international stores. When pioneered by VW 4S stores were
initially considered luxurious and unnecessary by VW’s local partners.
Notwithstanding local attitudes, VW insisted on high standards of quality in 4S stores.
VW considered the store itself to be a unified representation of Audi’s brand (both
domestically and internationally), and necessary to its positioning within the Chinese
market (McFarlan et al, 2016a). By following VW’s international model for
distribution/promotion of high-end vehicles the 4S stores came to represent a form of
organisational aggregation.

However, the popularity of 4S stores following launch led other MNEs follow VW’s
lead. In contemporary China, after-sale service is a key driver of purchasing
decisions, may sway consumers in relation to the nature of the vehicle they chose to
purchase, and ‘the most important factor affecting consumer decisions on after-
sales is the delivery of a professional and quality service’ (McKinsey, 2019).

Over time and with increasing competition and market participation, VW have
changed position and disaggregated this dimension of its downstream activities. This
gives dealers more freedom to adapt 4S stores to local markets. Stores now ‘match
different cities or regions according to the needs and purchasing power of
consumers in these cities or regions’ (McFarlan et al, 2016b).

Arbitrage

Arbitrage, or achieving ‘absolute economies through international specialisation’

and emphasis on functional or vertical integration between business units
(Ghemawat, 2007), does not feature prominently in VW’s downstream operations in
China. VW’s China business is the headquarters of its Asia Pacific operations and is
answerable directly to the VW board (Farhoomand & Tao, 2005).

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To this extent, VW’s refusal to use an arbitrage strategy when already pursuing
adaptation and variable levels of aggregation is not a barrier to success. Ghemawat
(2007) notes that there are ‘serious constraints on the ability of any one organization
to use all three A’s simultaneously with great effectiveness’ due to the added
complexity, multiplicity of objectives and difficulty competing on all frontiers at once.

VW’s choice not to seek arbitrage in relation to post-sale activities (e.g. by not using
low cost labour in neighbouring countries) may be deliberate, and VW actively
seeking to focus only on adapting and aggregating its post-sales activities is certainly
not inconsistent with the AAA Triangle.

Evaluation of VW’s post-sales AAA position in China

Observation of VW’s positioning on the AAA Triangle can be observed in Figure 6

below.

48
 VW's 'AAA Triangle' Strategy
1980 to 2000 2000 to 2020
Adaptation
4
3.5
3
2.5
2
1.5
1
0.5
0

Arbitrage Aggregation

Figure 6 – VW positioning on Ghemawat’s AAA Triangle Framework for post-sales activity

Based on the examples provided, we can see VW first deploying an adaptation-

aggregation strategy, then moving more toward focused adaptation. Ghemawat
notes (2007) the framework is ‘not about ticking off the boxes’ of all three A’s’ and
‘most successful companies will focus only on one or two.’ Further , ‘Success in “AA
strategies” takes two forms. In some cases, a company wins because it actually beats
competitors along both dimensions at once. More commonly, however, a company
wins because it manages the tensions between two A’s better than its competitors
do’. We may assume that VW’s evolving position in relation to the aggregation of its
post-sales service is an attempt to balance the tension between adaptation and
aggregation.

49
Further, it is not unusual for a company to emphasise different aspects of the AAA
triangle at different stages. We might assume that VW’s pursuit of an ‘AA’ and then
‘A’ strategy, with less emphasis on aggregation, relates to the increasing importance
of the Chinese market. For example, in 2016 sales of Audi in China accounted for
one-third of global sales, and ranges between 40 and 50% for some specific models
(McFarlan et al, 2016b, p24). In those circumstances, it seems more appropriate to
adapt global standards to Chinese circumstances, rather than to try to force Chinese
standards to adapt to global circumstances.

Conclusion

As noted by Khanna et al (2015) ‘Corporations can’t smoothly transfer the strategies

they employ in their home countries to those emerging markets’ (Khanna et al, 2015).
Part of VW’s historical success in China relates to the recognition of this truism,
coupled with the manner in which VW has been able to evolve and adapt traditional
downstream activities to suit the varied circumstances of the Chinese market.

An analysis of the specific methodologies employed by VW reveal various insights in

relation to VW’s ability to tailor the nature of its marketing activities to distance, to
arrange distribution relationships based on market and resource variables, and to
adapt post-sale service to changing market and consumer behaviour. However, few
tactics have been employed consistently for the duration of its operation in China.
One might say that the key overarching strategic theme relevant to VW is its ability
to recognise the dynamic and ever-changing nature of the Chinese market, the
impact of distance and foreignness on the success of its downstream operations and
to respond in a manner that is consistent with particular circumstances. 82

50
How is Volkswagen managing managers in China?

When businesses internationalise, human resource management faces multiple

concerns like attracting, engaging, managing and retaining the right local talent,
ensuring the management team has the knowledge and the know-how to operate
effectively in the international arena, designing favourable compensation and
managing labour relations. Most of MNE’s utilise expatriation as the way of
management to facilitate international expansion. Such expatriate managers are
also called Knowledge and Culture carriers, often assigning responsibility for
expatriates to human resource managers. For joint venture success in China,
achieving a good fit between the two partner’s corporate strategy and culture are
critical success factors. Hence, an understanding of Chinese social and cultural
characteristics is necessary to manage the business management challenges in
China.

China is guided by the principle of Confucius, with emphasis on values of a family,

balanced lifestyle, accepting authority, sacrificing personal ambition in favour of
larger groups and society is an essential ingredient in core thinking of China. The
centralised political power, combined with the non-controversial nature of Chinese
people, impact the conduct of the business in China. Many other MNE’s seeing
growth in China region have faced challenges and have spent a great deal of
money and time in the region for many years with very little progress; however, VW is
an exception. Its success story speaks volumes about its corporate strategy,
relationship building, management skills and talent management process as one
amongst many success factors (Lin and Stoianoff, 2004).

After several years of negotiation between VW and the Chinese government, a

contract was signed by 1984. In ten years, by 1994, VW became the largest car
manufacturer in China, accounting for more than 50% of total car output. With more
than 100,000 employees, the Volkswagen Group China (VGC) is the division of
German Volkswagen Group in China and is responsible for supervising the Chinese
business. Its joint ventures with First Auto Works (FAW) and Shanghai Volkswagen

51
(SVW) in 1981 has been extremely successful. In this section, we will be focussing on
understanding the issues and challenges and successes of VW in managing and
engaging with local talent while recognising the differences across culture, value
system, management practises, HRM policies and labour laws.

Understanding Cultural differences

National and organisational culture impacts the success of the international business
activity and corporate strategy. Using Hofstede’s framework of six cultural dimensions
to identify the cultural differences between Germany and China, a clear distinction
does exist between cultures of both (Country Comparison - Hofstede Insights, 2020).
These cultural differences and similarities between the home and host country of VW
can be utilised in understanding critical
issues in managing human capital. Highly
decentralised and supported by a robust
middle class, the Co-determination rights
are comparatively extensive in Germany
and have to be considered by the
management. A participative and direct communication style is typical, and
leadership is challenged to demonstrate
Source: Hofstede company comparison
and choose the best. At the same time,
China is a society that accepts inequalities amongst people and hierarchy in
organisations. The superior-subordinate relationship becomes polarised with no
defence against abuse of power by superiors. People are influenced by formal
authority and rank in society. German society is Individualistic with a strong belief in
meeting self-actualisation needs. Responsibility, sense of duty and loyalty is based on
personal preferences for people. Communication is more direct in Germany with a
culture to give honest feedback by providing the counterpart with a fair chance to
improve.

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At the same time, China is highly collectivist, where people act in the interests of the
group and not necessarily as individuals. This impacts hiring and promotions within-
groups (such as family) getting special treatment. Germany and China both are
considered a masculine society where performance, success and competition are
highly valued. People believe in living for work and draw a lot of self-esteem from
their jobs than spend leisure time in any other activities. Status is often shown,
especially by physical possessions like cars, watches and devices. Germany has a
preference for avoiding uncertainty for adopting deductive rather than inductive
methods across thinking, communicating, planning or presenting. Overall view of the
system is needed before any decision making with the requirement to have a high
level of details. Germans like to use details, expertise and experience to manage
highly uncertain situations. At the same time, the Chinese are comfortable with
ambiguity and their adherence to rule, processes and laws may be flexible to suit the
real situation. For Chinese rationality is a reality of life. Germany and China’s both
with a high score in long-term orientation believe in rationality with a strong tendency
to save and invest to achieve long term results. Germany and China both have a
restrained with a tendency to be cynical and pessimistic and have the opinion that
their actions are Restrained by social norms and think that indulging themselves is
somewhat immoral.

Impact of cultural difference on management and leadership

Using Erin Meyer (2014) eight-dimensional framework to understand the impact of

cultural differences between Germany and China on managerial behaviour, various
other gaps can be identified. In low context cultures (Germany), communication is
simple, straightforward, precise. Messages are repeated in multiple forms like writing;
however, in high-context cultures (China), communication is layered and confusing.

53
 Messages are implied but not stated with
less emphasis on writing. When it comes
evaluating and giving feedback,
Germans adopt giving negative
feedback directly while the Chinese
avoid giving negative feedback directly.
Persuading and being able to convince
others demonstrates someone’s ability to
balance specific and holistic thought
patterns. Germans like to use a sequence of components (specific thinking) in an
argument and tend to find deductive arguments (principles-first) most persuasive. At
the same time, Chinese are more likely to be influenced by applications-first
(inductive) logic using holistic thinking to show how the components fit together. Trust
can be cognitive-based (Germany) or affection/relationship-based (China). In task-
based cultures like Germany, trust is built cognitively through demonstration of work
and collaboration.

In contrast, in a relationship-based society like China, trust is built through relationships

and knowing each other personally. Disagreements and confrontational
conversations are not welcomed in China, while Germans consider it to be
productive for the team. Sticking to strict
schedules and time-table, comes naturally
to Germans(linear-time), while Chinese
enjoys flexibility treating schedule as a mere
suggestion than a must-have. When it
comes to leading, Germans are egalitarians
Source: Armbrecht, A. (2015) while Chinese prefer hierarchy and respects
people with authority and power. In top-down decision making culture like China,
decisions are made quickly (Small “d” cultures) which isn’t firm and has a tendency
to change with every new input. At the same time, Germans like to make decisions
consensually, where while it may take longer to make a decision (Big “D” cultures),
however, one its made, execution is quick (Myer, 2017). The cultural gap between

54
Germany and China explains the
influence of culture on the behaviours
and beliefs of people in both cultures.
With a clear high-gap across key
management behaviours for both
cultures, the gaps in management style
have an impact on the effective
operation of VW international business in
Source: Own made
Shanghai. Such cultural diversity is bound
to cause communication issues, and inefficiencies and applying multiple
perspectives with an ability to minimise such gaps through continuously tweaking
existing management practises or adapting to the host country management style
can be of help (Myer, 2014).

Expatriation and localisation of management

For large MNC’s like VW, it is of prime importance to assign local managers in mid
and senior-level positions instead of expatriates in China to navigate the large
cultural distance, which if not met can increase the risk of losing control and
coordination. After 30 years of VW operating in China, while the portion local Chinese
employees remains at 56% of the overall employee base, with 28% of expatriates
making up the majority of the senior and
top management in finance, human
resources and purchasing at VW show a,
16% Local Emoloyees
The company incurs a high cost in
Expatriates relocating and supporting managers and
56%
28%
Local-hired non-
their family. With the difference in
chinese
payment between expatriates and local
Chinese managers, can cause the local
Source: Company data Chines employees feeling resentment and

55
commitment issues. Based on company data, the cost of employees across
expatriate and locals shows vast pay gaps, with almost 30% of expatriate cost five
times more than 50% of local Chinese national employees. Apart from experience,
knowledge, skills and other factors, the most important factor leading to VW’s
success China depends on its ability to tap into the network of a local manager
(guanxi) where the local managers can be easily found, embedded in a trusting and
relational network. With the power of guanxi, VW can minimise risks, disappointments
and frustrations when managing locals in China (Larimo, 2014). Also, it is believed that
having a local manager in China is good for work morale and effectiveness amongst
other local Chinese employees. To gain access to the same quality of local talent as
expatriates, VW hires Chinese employees with a good local network, ‘Guanxi’ and
other Chinese locals who are exposed to western cultures, have prior work
experience in Germany or have graduated from German universities.

Talent Management

VW experiences the challenge of a high turnover rate with expatriates in China. Most
expatriates leave China at the time when they gain enough experience in China to
manage team and operations well. This frequent and untimely movement of
expatriate managers leads to the loss of company tacit knowledge and know-how.
The strategy to relocate people in the short term of three years isn’t helpful for VW
business success in China (Behrendt, 2015). The lack of trust in Chinese employees
has led to VW not being able to hire local Chinese managers for top and strategic
executive positions in the business. Due to the perceived risk of a Chinese manager
favouring another Chinese manager, VW decided to use expatriates in human
resources roles to ensure personal connections are not preferred during the
recruitment process. The language barrier between the German HQ management
team and Chinese locals only made situations a lot more complicated and close.
There is an ethnocentric mindset leading to an organisation structure with a large
number of German employees in senior positions. VW also faced issues in attracting

56
the right local talent in China as the company provide minimal opportunities for
career development, limiting locals chance to reach a high rank in the business. This
further contributes to higher attrition of local employees who would work with VW to
gain experience and move to other original equipment manufacturers in the region
to take managerial positions. Overall, this led to the high cost of replacement and
knowledge loss to competitors in the Chinese market. Using the EPRG (ethnocentric,
polycentric, regiocentric and geocentric) framework used in international corporate
management in staffing and training process, it has been found that German
companies based in China adopt an informal week-long in-house induction for new
employees, where there is no distinction made between experienced workers and
school-leavers. Local employees hired for mid-senior level positions are sent to
Germany to acquire particular skills for two to three months. This shows that there is a
minimum interest demonstrated by the German MNC’s like VW to understand
Chinese culture and then adapt their training process to accommodate local
requirements. These specific training concentrated on job-related skills and not
international business management, interpersonal or communication skills. In China,
the training practises of German companies, including VW, could be summed as
being a dual training system dominated by the ethnocentric and polycentric effect.
(Matthias, 2016). VW in China, training programs focusses on primarily transferring
technical competencies from home country to the host country (training based on
German model), on-job training and team-based training for both Germans and
Chinese together. While the process is established to train individuals and teams on
job-related skills, aspects like working with a collaborative mindset while
acknowledging cultural differences seem missing (Charron, 1998). The vast
difference between western and Chinese HRM practises needing to be streamlined
to bring in systemic changes with hiring, staffing, training and retention policies for
VW in China.

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Conclusion

A lack of streamlined international human resource management system for the

process of career development, compensation and cultural assimilation stressed the
locals to perform without mutually agreeable motivating sustainable employment
plan. Like many other western MNC’s, VW has faced the challenges of managing
local managers and team in China. While it has relied heavily on expatriation for its
operations management, the burden of high-cost attached to these expatriate
managers combined with the burdensome process of rotating expatriate managers
in a short-term basis is very complex and overall business operations in a Confucian
society like China brings out the opportunity for VW to consider localisation of
management with experienced, well-connected, local Chinese managers. And, to
become the local talent choice of employer, VW needs to have a strategic and
Agile International HRM system to implement a regional talent management policies
and processes for attracting, hiring, engagement and retention of local employees.
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