Chinese Phonemakers Are Preparing To Take On The World

If you want to understand how China innovates, look no further than its hyper-competitive market for smartphones. Though Samsung and Apple dominate the business globally, the technology superpowers are being squeezed in China by aggressive local manufacturers. Now Chinese firms are selling their handsets abroad in ever-greater numbers and a battle is set to be fought that will reshape the global marketplace for handsets.

China’s smartphone-makers have a ready launchpad. Thanks to the frugal but feature-rich offerings from local firms, domestic sales have exploded. Over 100m smartphones were sold in the second quarter, accounting for over a third of global sales and making China the world’s largest market.

Strikingly, eight of the top ten vendors were local firms. Xiaomi, a startup that only sells online, shot past Samsung to become the leading brand of smartphones in the country. After selling 15.4m in the second quarter (see chart), the firm is on track to peddle 60m handsets this year, and wants to sell 100m in 2015.

The rise of the inexpensive smartphone is a boon for Chinese consumers, many of whom are going online for the first time. However, Chinese firms are no longer content to scrap for a share of the spoils at home. They are increasingly eyeing lucrative foreign markets.

With much fanfare, Xiaomi launched in India in July. It did so in partnership with Flipkart, a leading local e-commerce firm. Xiaomi’s handsets are now also available in most of South-East Asia and the firm plans to sell in Brazil next. Though it does not officially sell its phones in America, GPS patterns suggest that around 1m of its snazzy handsets have been detected in the country. As foreigners find it hard to pronounce its name, Xiaomi has even grabbed the website, perhaps to rebrand itself overseas as “Mi”.

Another local firm on the move is OnePlus. Reviewers in developed markets have been raving about its clever handsets, which offer top-notch performance and features for around $US300–less than half the list price of the latest iPhone. Carl Pei of OnePlus argues that unlike its rivals, his firm was “born a global company”. Since its founding late last year, it has targeted 16 countries–including such challenging markets as America and Britain. “It helps that a lot of people don’t know that we are a Chinese firm,” he confides.

Adding to the advance are those Chinese firms that have long been global, even if they are relatively new to the smartphone business. Huawei has sold unbranded “white label” handsets to telecoms carriers for a while, but is now keenly pushing its own Ascend and Honour brands. Lenovo has spent $US2.9 billion to acquire Motorola Mobility, Google’s handset division, which dramatically expands its reach in North and South America. It, too, has announced plans for a line of smartphones to be sold only on the internet.

Rumours resurfaced this week that Lenovo might even buy BlackBerry, an ailing Canadian handset-maker. That seems unlikely as it makes little sense for a rising star to join hands with a sinking firm: Lenovo already turns a profit on the phones it sells outside China. Moreover, concerns that the Chinese government uses local tech companies to spy–unproven claims that prompted America’s Congress to blacklist Huawei and ZTE, another Chinese telecoms-equipment firm–might prompt Canadian regulators to block any deal.

They are emerging in force, but how will Chinese firms fare outside their sheltered home market? Some observers are sceptical, dismissing Chinese technology firms as shameless copycats incapable of innovation–the beneficiaries of a dodgy legal system that allows local firms to infringe international patents and keeps out world-class foreign competition. Google services, including the app store for its popular Android operating system, are effectively blocked in China.

Jonathan Ive, Apple’s lead designer, gave succour to the naysayers with recent comments dismissing Xiaomi’s designs as derivative: “it really is theft and it’s lazy and I don’t think it’s OK at all”, he complains. Some things about Xiaomi are clearly borrowed from Apple, from its sleek designs and pleasing user interface to the Jobsian jeans-and-black-top presentations given by Lei Jun, the firm’s charismatic founder.

A serious threat to Chinese firms as they head overseas is lawsuits from Apple and Samsung, who themselves have long been entangled in nasty battles over intellectual property (IP). Ben Qiu of Cooley, an American law firm, believes that “Xiaomi is in dangerous waters of potential patent-infringement claims on the international markets.” But he argues that the firm’s clever management team, which includes former Google executives, can navigate these perilous seas because it is well prepared for legal and regulatory battles.

Xiaomi Mi3UberGizmoThe Xiaomi Mi3

He points out that Tencent, a Chinese internet giant, expanded abroad successfully in part because its general counsel is a seasoned Silicon Valley lawyer. In addition to lawyering up, Chinese handset-makers must also build up arsenals of licences from existing patent holders. To sell phones in rich countries (which, unlike developing ones, strictly enforce IP rights) they have been forced to pay a quarter of revenues to patent holders.

Building patent banks can reduce this burden: a mighty arsenal may scare off lawsuits, and patents can be sold or cross-licensed as necessary, to avoid conflict. Lenovo has spent pots of money of late to acquire thousands of patents from NEC, a Japanese firm, from Motorola and from patent trolls. Most importantly, they must come up with valuable inventions in-house. To their credit, Huawei and ZTE are among the world’s most prolific generators of new patents.

That intense rivalry and race to generate new ideas is the best reason to believe the Chinese upstarts can make it. The confluence of a giant market and cost-conscious consumers has forced them to squeeze component costs, make contract manufacturing more efficient and adopt technological innovations more quickly. This has prepared the best of the local firms to do battle with global titans.

There is no denying that many Chinese firms got their start by copying foreign ones at the leading edge. But imitation has often been the starting point for innovation at companies in the rich world. Apple did not invent the compact music player or smartphone. Steve Jobs even flew a pirate’s flag atop the old Macintosh headquarters as a reminder to his employees that innovators need to be rule-breakers. That transition from imitation to innovation is happening now at a breathtaking pace in Chinese technology firms.

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