Case Study: BYD Innovation and Entrepreneurship in China

This case study examines BYD's innovation within the Chinese context, focusing on its strategic diversification, production methods, and vertical integration. The analysis highlights how BYD leverages local factors such as low-cost skilled labor and a growing middle class to drive innovation in product design and market adaptation. The study uses in-depth interviews with senior managers and company reports to explore BYD's journey from battery manufacturing to becoming a major player in the automotive industry. It also discusses the company's approach to product design to meet local consumer preferences and its early success in the Chinese market. The paper contrasts the Chinese approach to innovation with global standards, emphasizing the importance of commercialization and adaptation in the Chinese market.

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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

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its history, to products, to market, competition, R&D, patent protection, production line, and to
human resource management strategies, all of which centered on BYD’s innovation efforts.
To supplement the interviews, we have also obtained information on BYD from other
sources such as websites, newspapers, magazines and other research reports. For instance, we
studied the transcript of Chuanfu Wang's announcement on the new auto product F6 and the
following Q&A section in 2007, which contains information on BYD’s product innovation.
4. The case of BYD and its innovation
BYD, short for 'Build Your Dream', was founded in Shenzhen, Guangdong Province, in
1995. It began as a rechargeable-battery factory, competing in the Chinese market against
Japanese imports. Within ten years, BYD captured more than half the world's mobile-phone
battery market and became the largest Chinese manufacturer (and in the top four worldwide) of
all types of rechargeable batteries. (Fishman, 2006) BYD Auto was formed in 2003 when BYD
purchased Tsinchuan Automobile Company. BYD obtained RMB 55 Billion in revenue in 2014
in total, and Figure 1 shows the contribution of each category of products to BYD’s total
turnover in 2013 and in 2014 respectively. BYD built on its battery expertise to produce some of
China’s most innovative automobiles. In 2010, BusinessWeek ranked BYD the 8th most
innovative company in the world, ahead of Ford, Volkswagen and BMW. (Einhorn and Arndt,
2010)

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Figure 1: BYD turnover breakdown by product categories
Source: BYD Company Limited Annual Report 2014.
4.1 Product design to meet local taste
BYD Auto had made cars for only seven years when its F3 compact model became the
top-selling car in China. The F3 model led China’s compact car segment in November 2008 with
sales of more than 17,000 units, an increase of 92% over November 2007. In 2009, BYD sold
440,000 vehicles. (Automotive News, 2010) The success of the model in a large part comes from
the appropriate design of the vehicle.
As the Chinese society emphasize the importance of face (‘mianzi’ in Chinese) in its
social value and relations (Hwang, 1987), the concept of face also needs to be embedded in the
products. This helps shape the design of BYD’s F3 auto model. According to Chuanfu Wang, the
founder and Chairman of BYD, “In China, besides moving people around, an important function
of an automobile is to show face, (or status and prestige,) of the car owner. So the design of the
car should be decent and show some grandiosity. In the west, people drive cars by themselves,

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and there is usually just one person in the car - the driver. But in China, typically you carry your
whole family or several friends or colleagues in your car, and important people usually sit in the
back seat. Therefore the back seat needs to be very spacious. That’s how BYD designs its
models. The exterior look of the F3 model is decent, and it’s very spacious inside, especially for
people sitting in the back seat.” (Interview) The F3 model is targeted as family entry level car in
China. BYD’s later auto models such as F6, F8, and F3R have also followed the same design
concept.
Furthermore, recognizing that the Chinese consumers are very price sensitive, Chairman
Wang emphasized, “The price of the car must be cheap. Our average household income is still
low, compared with many developed countries. So, we set our price for the F3 model in the
range of several ten thousands RMB. For about ¥70,000 RMB (roughly $10,000 USD at the
time), you’ll be able to get a very spacious car with much high quality electronics equipment in
the car, and a car body length of 4.5 meters.”(Interview) BYD is going to mass produce the
world’s cheapest automobile and bring inexpensive motoring to the masses in China. BYD’s cars
have been priced from ¥30,000 RMB (about $4,400) to ¥100,000RMB (about $14,600), which
includes their product lines from mini cars to large sedans. (China Car Times, 2010)
Furthermore, BYD Auto has marched further to the electric car market. Since its release of the
model Qin in 2014, it has been dominating the electric car market in China. (See Figure 2)

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Figure 2: China electric car registrations
Source: EVObsession.com
4.2 The Chinese way of production
BYD’s battery products has clearly demonstrated its innovative way of production. BYD
managed to slash the price of batteries by replacing robots and machines in the manufacturing
process with an army of low cost workers. As Chairman Wang stated, “for electric cars, the key
is in the battery technology, which is also our great competitive advantage.” (Interview)
Let us examine BYD’s battery production from a historical perspective. When BYD was
founded in the mid-1990s, the battery market in China was already large. About 90% of the
batteries were imported from Japan, at extremely high prices. As a chemist and material scientist,
Chuanfu Wang decided to start the firm BYD to produce batteries. At that time, a fully
automated production line for lithium-ion rechargeable batteries cost at least $100 million USD,
which was beyond imagination for the young entrepreneur. “In order to achieve our goal (of
making lithium-ion batteries), we had to design our own production line then. We spent a lot of
time and efforts to research the battery product and its production line. At the end, it cost us
about 20 million RMB (less than $3 million USD) to build a semi-automated production line,

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with similar capacity of production (to the fully automated $100 million facility). For the semi-
automated line, we needed a lot of workers. Since labor costs were very low, it helped us
dramatically lower our overall costs. In 1998, we could sell one lithium-ion battery at $3 USD,
while Japanese firms asked for $8 USD for a similar battery. With a $3 selling price, we still had
about 60% gross margin for each battery. So we became very competitive then.” (Interview)
BYD was the first Chinese company that was able to make lithium-ion battery. The
production method invented by BYD helped lower the entry barrier for many local firms, in
terms of capital requirements. The company also automatically became a training base for talents
in the battery industry. Due to the high employee turnover rate in China, many employees left
BYD and started their own battery manufacturing. As a result, there are about 100 lithium-ion
battery manufacturers now in China, and the price of battery has dropped dramatically.
The fast growth of BYD was made possible by the huge pool of low cost-high quality
labor in China. Employment has increased almost exponentially since BYD was founded. In
1997, BYD had only a few hundred employees. In 1998, it grew to 3000. Employment expanded
to 10,000 in 1999; over 30,000 in 2004, 50,000 in 2005, and about 130,000 in 2009. “We go to
the best universities in China every year to recruit fresh students. It is not hard to hire good
people since lots of university graduates cannot find jobs these days. Once they are hired, we
train our employees well, and give them plenty of promotion opportunities and company stock
options to retain good people.” according to Mr. Huaming Liu, the Human Resource Director of
BYD. Workers on the floor have lower education levels, and it was very easy and inexpensive to
find enough of them. (Interview)
4.3. BYD’s Vertical Integration Strategy

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BYD implements a strategy of vertical integration, unlike many firms in the western
developed world. In a relatively mature market for a complicated product, typically a firm
collaborates with many specialized suppliers to increase efficiency and focus its own resources
on the few important elements that form their core competency, and which maximize their value
creation. However, in the case of BYD, vertical integration was adopted.
BYD’s vertical integration dated back to its battery production. According to Nianqiang
Wang, VP of BYD, “after we mastered the core technology [of battery], we started to integrate
back to the raw materials and many components … The biggest advantage [of this backward
integration] is cost. We were able to lower the cost of the batteries.” (Interview)
Later on vertical integration was adopted to its mobile phone manufacturing in 2003,
when BYD undertook a task on mobile phones for Siemens. At that time, a common pattern for
mobile phone manufacturing was for a multinational corporation from developed countries such
as US or Germany to create a design for the entire mobile phone, and also for many components
of the handset. Local firms in China then started to manufacture these components based on the
blueprints and specifications provided. “Each component supplier is usually allowed a small
range of deviation from the original design parameters. There are over a hundred components for
a mobile phone. When Siemens finally received all components from its suppliers, it found the
phone was not able to function.” says Ms. Qing Gong, the R&D Director of BYD. “Later, we
found that the deviations were responsible for the problem. Even though each supplier was well
within the allowable degree of deviation, the cumulative effect made the product unable to
work.” (Interview) BYD then proposed to take over manufacturing and assembly of all the
components of the mobile phone, and promised a complete functioning product for Siemens.