February 5, 2016, by Tony Hong

A Tale of Two Companies

By Professor Cong Cao,

School of Contemporary Chinese Studies,

University of Nottingham Ningbo.

In 1984, Liu Chuanzhi, along with ten colleagues, started a computer-related business in Beijing with borrowed RMB300,000 (or $25,000). The company, “New Technology Company of the Institute of Computing Technology of the Chinese Academy of Sciences,” was the predecessor of Lenovo.

Three years later, Shenzhen witnessed Ren Zhengfei and five persons set up a company reselling private branch exchange, a telephone switching system, for a Hong Kong-based company. The company would later become Huawei.

Fast forward to 2015, both Huawei and Lenovo were among Fortune 500 companies (No. 228 and 231 respectively). In fact, Lenovo was made on to the list in 2008 (No. 499) and Huawei entered the elite club reserved for global companies in 2010 (No. 397). Now, Lenovo and Huawei are world’s largest PC maker and the largest telecommunications equipment maker respectively. These represent tremendous achievements for companies such as Lenovo and Huawei with a short history.

However, having become role models of China’s high-tech development, both companies have been on different development trajectories.

While it is debatable whether Lenovo back in its early days made the right choice to focus on the “trade, industry, and technology” development strategy, its cost-cutting approach, also known as “twisting towels to squeeze water,” and market orientation seemed to have worked, at least up to a certain point. Lenovo also has made a series of acquisitions internationally, most noticeable IBM’s PC unit in late 2004 and Motorola from Google and IBM’s low-end server division in 2014.

However, it is undisputable that PCs and mobile phones are commodities and their manufacturing is in the downstream of the value chain. PCs, whether made by Lenovo or others, are built upon the chips from Intel and the operating system from Microsoft. There is innovation but such innovation tends to be incremental. PC makers make money but margin is razr-thin. Similar situation is applied to smartphones with most profits going to Apple for its iPhones.

If what Lenovo does is only to “twist towel,” one day, the “towel” could dry so that no “water” could be squeezed out. Moreover, Lenovo may not necessarily do better than its competitors in cutting costs. As such, Lenovo has encountered crises time and again; in late 2015, it reported a quarterly loss of US$714 million, the first time in six years. Most of the loss came from its smartphone business.

In contrast, Huawei’s impressive growth in the last thirty years can be attributed to its emphasis on both technology and market. It has competed directly with MNCs such as Cisco and Ericsson and overtaken them one by one. Huawei has deployed its products and services in more than 140 countries. Sales revenue from abroad now contributes some three quarters of the total. In addition to working with major telecommunications service providers on the equipment side, Huawei has ventured into the mobile phone handset business. In 2015, it shipped some 100 million units of smartphones, becoming the first in China and the third in the world to achieve such a volume, after Samsung and Apple.

In the recent Mobile World Congress 2016, held in Barcelona, Spain, against the trend of declining PC sales, Huawei introduced its first PC, Huawei Matebook, signaling that it will compete in Lenovo’s turf.

Lenovo and Huawei differ significantly in terms of their investment in research and development (R&D). In most of the years between 2006 and 2015, Lenovo on average spent less than 1.8% of its sales on R&D (its R&D expenditure was increased to 2.6% of its sales revenue). By comparison, Huawei often spends more than 10% of its revenue on R&D with this percentage reaching 14.2% in 2014. Lenovo’s total R&D expenditure in the last ten years was only US$441 million, less than the amount that Huawei spent in one year, 2014.

Although a larger R&D expenditure does not necessarily mean that it will be translated into innovative products, high-tech development is capital-intensive. To be competitive globally, a company needs to expand exogenously; more importantly, it also needs to make great efforts to innovate endogenously. Paying attention to both sides or to one aspect at the expense of the other determines the development trajectory of a company. This is one of the reasons behind different performances at Lenovo and Huawei.

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