Innovation in the local context – A case study of BYD in China

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Innovation in the local context – A case study of BYD in China
Abstract
In this paper we have used the case of BYD to examine firm innovation in the China context.
From a historical perspective, with its strategic diversification from battery to mobile phone
manufacturing to automobile manufacturing, we find that BYD has been innovative in its
production method, vertical integration strategy, and design of product for local customers. The
effective understanding and leveraging of local contextual factors including supply of labor
(especially low cost-highly skilled labor), growing middle class, and local industry environments
have played important roles for BYD’s innovation in China.
Keywords: innovation, BYD, China, context, case study

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1. Introduction
China's share of global R&D investment grew to 13% in 2011 (compared with US with
34%, Europe 23%, and Japan 12%), and it surpassed the United States in 2011 in terms of patent
application numbers filed through its intellectual property office (WIPO 2013). However,
debates remain on the innovativeness of Chinese firms.
Out of 1.2million patents that were granted domestically in China in 2014, invention patents,
which have the highest level of innovativeness in patent evaluations, only accounted for about
13%. (Data calculated from Chinese government SIPO annual patent report) In comparison,
utility patents in the Unites States, which are equivalent to invention patents in China, accounted
for about 90% of total patents granted in 2014 (USPTO data).
At firm level, one study on Apple's products (iPod and iphone) value-added at different
stages from different vendors shows that Chinese manufacturers are only able to claim less than
2% of the entire gross margin (Dedrick, Kraemer, Linden, 2010; Dedrick 2012), which indicates
a low level of technology innovativeness of those manufacturers. Meanwhile, although the
number of R&D labs established in China by multinational corporations grew at an astoundingly
high speed expanded over 10 times since the late 1990s, relatively low value added modules of
R&D are still conducted in China to prevent intellectual property right leakage and correspond to
a lack to comprehensive R&D talents in China. (Quan & Chesbrough, 2010) Some argue that
most Chinese firms don’t invest enough money in research (Simon, 2013).
Innovation however is not all about technology innovation. According to Schumpeter’s
definition, innovation is to carry out new combinations. There are five types of new
combinations—production of new types of goods; introduction of the new method of production;

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opening of a new market; use of the new sources of raw materials and intermediate goods; and
new organization of production. (Schumpeter, 1934)
GM China president Kevin Wale observes that innovation in China’s auto industry is
more about commercialization than technical achievements. Indeed, as a recent McKinsey study
pointed out, Chinese innovation is evolving in diverse ways and at an uneven pace across a range
of different industries. (McKinsey Quarterly, 2012)
Scholars have been trying to explore the Chinese ways of innovation, as shown in the
following literature review section. However there is still no consensus reached regarding an
overarching archetypal Chinese model of innovation. Due to the exploratory nature of the topic,
in this paper we use a case study of a Chinese company BYD to help explore the nature of the
Chinese way of innovation.
2. The Chinese way of innovation
Indigenous innovation has become a popular term in China especially after the Chinese
government advocated using an indigenous innovation strategy to build China into an
innovation-based economy. The indigenous innovation policy became explicit in 2006 in China;
however discussions on indigenous innovation started earlier than that. In his book, from a
historical perspective, Lu (2000) thoroughly studied four computer companies in China including
Stone, Legend(now Lenovo), Founder, and Great Wall Computer, which all started with
indigenous innovation with a ‘top-down model of technology learning’ (where firms started with
product design) and later adopted vertical integration strategy to build up their manufacturing
capabilities. Indigenous innovation was a key prerequisite of the top-down technology learning
model there.

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Liu and Cheng (2011) examine China’s indigenous innovation strategy from the
perspective of national innovation system, involving entities such as central and regional
governments, university and research institutes, state-owned enterprises (SOEs), private
businesses, and research consortia. Grimes and Du (2013) discuss some dilemma between
multinational corporations’ R&D efforts in China and the indigenous innovation policy which
are emphasized by the government. A most recent paper concludes that theories on innovation in
China are still scarce and calls for more focus on China’s indigenous innovation capabilities
(Vinig & Bossink, 2015).
However the concept of indigenous innovation, which emphasizes the source of
innovation that should derive from domestic Chinese firms, is still opaque as the main
characteristics of innovation remain unexamined. Much studies are still needed to research on
how exactly Chinese firms innovate in the China market.
Recently, scholars and practitioners have come up with various terms to try to
characterize the way of innovation of Chinese firms. Steinfeld and Beltoft (2014) believe that the
China style of innovation comes from making ideas commercially viable, whether it involves
product design in the semiconductor industry or novel ways of component sourcing in the wind
turbine manufacturing. Erik Roth, a partner at McKinsey & Co.'s Shanghai office, also identifies
the Chinese way of innovation as innovation through commercialization, and believe that
Chinese firms figured out a way to dominate their markets by adapting existing technologies and
business models.
Through interviews with 23 Chinese companies, Williamson and Yin (2014) find that Chinese
companies are adopting an accelerated innovation approach, which allows them to reduce the
time it takes to bring innovative products to mainstream market. An example is Lenovo, which

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purchased IBM’s PC business in 2005, and had since then managed to cut the new product
development cycle in half to 6 to 9 months (from 12 to18 months previously). Another recent
research on innovation by companies in China reports that there are at least eight types of
innovation: cost innovation, process innovation, application innovation, supply chain innovation,
product innovation, technological innovation, business model innovation, and non-customer
innovation. (Yip & McKern, 2014)
Despite increasing attentions given to examine how Chinese firms innovate, the main
characteristics of the Chinese approach to innovation still need further research, especially that
how firms innovate corresponding to local context challenges. Our paper uses a case study to
examine the China style of innovation in the local context in details.
3. Research method
It is well accepted that “how” or “why” questions are more explanatory when using case
studies, since such questions ‘deal with operational links needing to be traced over time, rather
than mere frequencies or incidence’ (Eisenhardt , 1989; Yin, 1994). This paper hence uses an in-
depth case study method to investigate how firms innovate in the China context and the case of
BYD Auto -- a Chinese domestic grown auto company-- is analyzed. The case study method
allows the development of an initial theoretical understanding of the unique way of Chinese
firms’ innovation in the local context.
The case BYD Auto was selected due to the following reasons: First, the automotive
industry in China has experienced rapid growth in the past two decades. China became the
world’s largest automotive market in 2009. China’s share of global auto production grew from
3.5% in 2000 to 26.4% in 2014 (OICA data), and it became the largest auto producer in the
world in 2008. Second, as a relatively young company, BYD Auto emerged as one of the top

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three China brand car manufacturers in just ten years since its formation. Third, BYD is
recognized as an innovative company in the world. In 2010, BusinessWeek ranked BYD the 8th
most innovative company in the world, ahead of Ford, Volkswagen and BMW. (Einhorn and
Arndt, 2010). Fourth, as a private firm (instead of a state-owned enterprise), BYD represents an
emerging force of innovation growing in China in the recent decade. Lastly, it is worth
mentioning that BYD is not just an automotive company. It first started as a battery
manufacturer, then expanded into the field of mobile phone manufacturing, then move to become
a star in the automotive industry. This seemingly unique development path in fact also represents
a common scene of diversification that can be observed among many Chinese firms.
The case analysis is based on eight in-depth interviews with senior managers of BYD
Auto totaling 12 hours and 31 minutes' interview time resulting 143 pages of interview
transcripts (in Chinese language). Specifically, the interviewees include: 1) Chuanfu Wang, the
founder, President and Chairman, for two hours and twelve minutes’ interview (transcript pp. 1-
28) 2) Zhibing Xia, General Manager for Sales, for two hours and seven minutes (pp. 28-56) 3)
Huanming Liu, Director of Human Resource, for forty minutes (pp. 56-64) 4) Zhanghui Hang,
Director of Intellectual Property, for two hours and ten minutes (pp. 64-86) 5) Yizao Sun, Vice
President for one hour and forty five minutes (pp 86-104), 6) Hongbo Deng, a manager who is
among the earliest hired employees for twenty minutes (pp. 104-109); 7) Nianqiang Wang,
Vice President, for two hours and two minutes (pp. 109-130) 8) Qing Gong, Director of the
Central Research Institute, for one hour and ten minutes (pp. 130-143). The interview transcripts
were obtained as a result of the Chinese government’s efforts, and questions were asked by a
CCTV correspondent in 2008. The questions cover broad business aspects of BYD ranging from