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Manufacturing firms' performance and technology commitment the case of the electronics industry in China

Ji Li Hong Kong Baptist University, Kowloon Tong, Hong Kong Kevin Lam The Chinese University of Hong Kong, Hong Kong Yong-qing Fang Nanyang Technological University of Singapore, Singapore

Some manufacturing industries have been growing very fast in East Asia, emerging markets. Take the electronics industry in China as an example, according to a recent study by the World Technology Evaluation Abstract This study deals with one Centre (WTEC) of the USA, the size of China's strategic issue for manufacturing electronics market has been growing firms operating in Asian emerging explosively (WTEC, 1997). Take the markets technology telecommunication equipment market as an commitment or investment. It compares two different example. In a period of five years from 1991 to approaches adopted by 1995, the number of telephone lines increased international manufacturing firms from less than 10 million to over 70 million, in China, one of the major and the number of pagers increased from emerging markets in the world. zero to over 40 million. In 1998, in spite of the Analyzing the data from the 100 largest manufacturing firms (in Asian financial crisis and the slow-down of terms of market share) competing domestic economic growth, China's in one of China's manufacturing telecommunication industry continued its industries, i.e. electronics, this rapid growth. According to China's Ministry paper shows an interesting positive relationship between of the Information Industry (MII), in the first technology investment and firm half of 1998, the total sales in this industry performance in China's increased by 30.9 per cent (MII, 1998). manufacturing industries. This Table I shows the market growth in recent paper concludes with a discussion on the implications of the findings. years and the number of foreign investors competing in each of the 21 sectors of China's electronics industry. It indicates that over 2,640 firms funded by foreign capital have been set up in all 21 sectors of China's electronics industry since the end of the 1970s, and the average growth in sales revenue among all these sectors from 19931996 was 77.47 per cent per year. To obtain a share of this fast-growing emerging market, electronics firms from all over the world have been competing in China since the 1980s. Recent studies have found that these firms in China adopt different approaches in terms of their technology Submitted March 1999 Revised February 2000 investment. Many firms funded by Hong Accepted March 2000 Kong and Taiwanese capital, for example, have adopted a policy of low technology investment. They invest little in R&D, little in advanced equipment and little in training of skilled labour. Their policy is to take advantage, as fast as possible, of low-cost Integrated Manufacturing
Keywords
China, Manufacturing, Performance, Technology, Electronics industry

labour in China and the special policies applicable to foreign investment. Many of these firms are located in Guangdong Province, which borders Hong Kong and has the best infrastructure in China. According to Boulton (1997), in many cities within this province, the monthly rentals for factory space are about $2-4 million or less compared to about $40 million in Hong Kong. In 1996, the average monthly manufacturing wage in Hong Kong was over $820 as compared to about $125 in Shenzhen (Guangdong Province) and about $65 outside of the Shenzhen Special Economic Zone. These wage rates were also much lower than those of about $750 in Taiwan, and $1,500 in Japan in the same year. The abundance of low-cost labour in China allows economic restructuring and the relocation of sunset electronic products and the rationalization of production and distribution through vertical integration. Also in 1996, the areas outside the Pearl River Delta in Guangdong Province were about 30 per cent cheaper, and the neighbouring provinces of Fujian, Guangxi, Hunan, and Jiangxi had labour costs only half those of the Pearl River area (WTEC, 1997). In contrast to the above low-technologyinvestment policy, many large Western firms adopt a policy of high technology-oriented strategy. On the one hand, they invest heavily in advanced technology and equipment in their China ventures. For example, as WTEC (1997) reported:

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Mitsubishi Electronics, Hitachi, and NEC are all expanding IC production and packaging capabilities in China. Intel is establishing a flash memory factory in China. Not to be outdone, companies like AST and IBM have installed their most advanced production facilities in China. The expected growth in Chinese PC production to 8 million units annually by 2000 provides a major incentive (03-06, pp. 1-2).

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On the other hand, these firms also commit a large amount of capital to attract and develop skilled labour. In other words, these firms

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Ji Li, Kevin Lam and Yong-qing Fang Manufacturing firms' performance and technology commitment the case of the electronics industry in China Integrated Manufacturing Systems 11/6 [2000] 385392

Table I Foreign investment in China's electronics industry Number of foreign investors Overseas Chinese Foreign 54 44 69 41 1 1 16 43 77 20 43 34 302 30 71 10 2 1 0 5 113 44 58 132 70 1 0 25 65 125 21 79 66 594 57 148 32 2 0 1 6 137

Electronic sectors Transmission equipment Communication switching equipment Consumer communication products Communication terminal products Radar Radar parts Broadcast and television equipment Computers Computer peripherals Vacuum tubes Semi-conductor device Integrated circuits Electronics components Television sets Radio and sound recording equipment Electronic calculators Communication equipment repairs TV equipment repairs Computer repairs Other electronic equipment repairs Other electronics equipment

Market growth (%) 1993 1994 1995 53.00 181.87 49.48 111.76 39.87 38.35 26.57 57.68 104.53 54.07 34.64 38.32 44.19 38.98 10.12 575.91 330.26 90.18 285.41 97.66 17.06 104.95 34.06 27.60 19.13 8.48 7.98 4.41 36.82 36.31 10.99 48.29 52.68 4.55 19.77 99.03 49.63 48.04 69.76 98.41 123.36 40.47 18.57 182.03 326.87 19.33 67.51 5.14 173.64 161.99 13.00 18.33 199.57 32.00 25.30 24.19 113.60 60.43 85.26 180.15 383.14 5.59

Source: The Data of The Third National Industrial Census of The People's Republic of China in 1995
often offer the most competitive pay in the market to recruit employees with high education or work skills, and they also invest heavily in the training and development of their employees (Chen et al., 1995). Although there have been many articles discussing the impact of technology transfer to China (Balasubramanyam et al., 1996), few have really tested, with empirical data, the effects of technology investment on performance of manufacturing firms in China. This paper addresses this issue. In the rest of this paper, we first provide a brief review of relevant literature. Based on this review, we propose and test two hypotheses on the effects of technology investment on firms' performance in the Chinese market. 1981, 1993). Also, because of the market imperfections that commonly exist in developing economies, MNCs' selection of a wholly-owned investment vehicle can create an internal market to reduce transaction costs in such activities as production coordination, market exploitation and technology protection (e.g. Rugman, 1981). Foreign firms were more likely to select a wholly-owned investment vehicle when the risk conditions deteriorated in a developing economy (Pan, 1997). Finally, it was shown that, among US computer and pharmaceutical firms, foreign acquisition and joint venture resulted in a higher rate of failure than greenfield wholly-owned investment (Li, 1995). On the issue of investment location, research has also been conducted in China (e.g. Head and Ries, 1996, among others). These studies suggested that foreign investors favoured areas with an established industrial base and good infrastructure. It has also been pointed out that location advantages are associated with other regionspecific political and socio-economic characteristics (Cho, 1988; Dunning, 1988; Schroath et al., 1993). For example, it has been shown that firms located in areas with a high level of education achieve better performance than those in low education

Literature review and hypotheses


Foreign direct investment (FDI) in China and other emerging markets has been an important economic phenomenon of recent decades. Many authors have studied this issue (e.g. Dunning, 1993; Chen et al., 1995; Balasubramanyam et al., 1996). For example, on the issue of investment vehicle, some authors have suggested that multinational firms (MNCs) enjoy ownership advantages by controlling intangible assets, including technology and know-how (e.g. Dunning,

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areas (e.g. Schultz, 1988). Moreover, it has been argued that market-share extension is a critical strategy for MNCs in developing economies (Dunning, 1981, 1988). To increase their market share, foreign investors may take advantage of regional gaps in demand and supply (e.g. Chen, 1996). Yet, when making a decision on this issue, the investors also consider such factors as accessibility to the national market or potential for market extension (Chen, 1996; Dunning, 1988; Helms, 1985). Finally, on the issue of investment approach, i.e. selecting a labour-intensive or a capital/technology-intensive strategy, there have also been several studies. It has been pointed out that a main motivation of FDI is to lower production costs through the utilization of low-cost labour and other resources in developing countries (e.g. Cushman, 1987). On the other hand, it is argued that the activities of major Western MNCs are mainly directed towards technology-intensive industries and products. These firms also involved themselves overseas in these same industries (Reyome and Baker, 1995). In spite of all these studies, there has been no empirical testing on how a manufacturing firm's technology investment will affect its performance in Asia's emerging markets. In other words, it remains a question which of the two different investment approaches, i.e. the no-technology-investment approach (widely adopted by overseas Chinese firms), or, the more-technology-investment approach (typically adopted by large MNCs in manufacturing industry), leads to better marketing performance in China. Lacking research evidence, we rely mainly on empirical observations in this paper to propose our hypotheses. The empirical observations seem to provide conflicting information on the effects of technology investment on firm performance in an emerging market such as China where labour cost is low and technology is relatively backward. On the one hand, empirical observations have suggested the critical role of technology investment in the Chinese market. As some researchers have already pointed out, China is not a marketplace for older or out-of-date models or technology (Preston, 1996). When reporting that Intel sells its new microprocessors in China with the highest average speed among markets throughout the world, Kirkpatrick (1998) concludes ``people there crave the best technology'' (p. 48). At lease three examples can support this conclusion.

The first example is the rapid growth of the mobile phone market in China. Among telephone systems in China, the most technologically advanced one, i.e. digital mobile phones, enjoyed the fastest growth in recent years. Since 1990, annual growth of mobile phone lines has surpassed 160 per cent. In 1997-1998, it took only one year and one month for China Telecom to increase its number of subscribers from 10 to 20 million. In 1998, the number of China's mobile phone users ranked the third in the world, following the USA and Japan (Zhou, 1998). At the same time, new models and new technology are being introduced almost every year. In 1998, for example, dual-band mobile phones (using both GSM900 and GSM1800) are becoming a new fad, especially in those areas where there are many mobile phone users. Several suppliers, such as Motorola, Nokia and Ericsson are competing for this new dualband phone market. Other firms are introducing new instruments or devices based on this new phone system, such as those for infrared-ray connection with computers, and those for data and fax transmission (Xiao, 1998). The second example is the competition in the telecommunications market. Before 1990, China had made its telecommunications equipment market off-limits to all US suppliers. A decision in 1989 by the Chinese government restricted telephone switch contracts to only four non-US MNCs, i.e. Alcatel, NEC, Northern Telecom and Siemens. Not until October 1992 did the Chinese government change this policy in a last-minute agreement with the US government to avert US sanctions and to renew China's most favoured nation trading status (Business China, 1996). This change gave US suppliers such as AT & T another chance to catch up with MNCs from other countries in the fast growing Chinese market. Backed by the most advanced telecommunication technology, AT & T, through its telecommunication arm, Lucent, soon surpassed its competitors in the Chinese market in recent years. Specifically, Lucent is the first that introduced the SDH equipment in the Chinese market. After it was set up in September 1995, Lucent soon closed several significant deals including two contracts to supply 2.5 Gbps SDH equipment to China's Ministry of Posts and Telecommunication (worth US$16 million and US$19 million respectively). In the middle of 1996, Lucent claimed that it had sold similar equipment to 12 Chinese provinces and boasted 80 per cent of the Chinese market for SDH transmission

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equipment (Business China, 1996). In 1997, Lucent became the first again to introduce the state-of-the-art dense wavelength division multiplexing (DWDM) technology in China's fibre optic backbone network. This technology leadership enabled Lucent to win more than 300 contracts for SDH optical networking, worth US$650 million, in the past three years (Wang, 1998). The final example is the change in DVD and VCD in China. In a recent report ``DVD's real market: China'', Lee (1997) reported that more DVD players were sold in China than in the USA in 1997. Although China is still a developing country, consumers there are seeking the most advanced consumer electronics in the market as eagerly as their counterparts in developed countries. The less advanced ones, such as those old models of TV or VCR, simply do not sell. Take VCR players as an example. VCR entered China a few years earlier than other players, such as LCD, VCD and DVD, but the first mover advantage of VCR producers did not last long because the customers soon changed their taste and switch to more advanced VCD and DVD players (e.g. Lee, 1997; Parker, 1998). All these have suggested the importance of making technology investment in a major emerging market such as China. Accordingly, it is arguable that firms which have a high technology investment to maintain technology leadership in China will be more likely than those with a low technology investment to have better performance. H1a: High technology commitment or investment will have positive effects on the performance of manufacturing firms competing in China. On the other hand, some empirical observations also seem to suggest that low technology investment may also lead to high performance of firms. Specifically, a labourintensive policy with little investment in technology allows the firms to take advantage of an abundant supply of low-cost labour in China. Many of these firms are located in Guangdong Province, which borders Hong Kong and has the best infrastructure available in China. According to Boulton (1997), in many cities within this province, the monthly rentals for factory space are about $2-4 million or less compared to about $40 million in Hong Kong. In 1996, the average monthly manufacturing wage in Hong Kong was over $820 as compared to about $125 in Shenzhen of Guangdong Province and about $65 outside of the Shenzhen Special Economic Zone. These wage rates were much lower than those of

about $750 in Taiwan, and $1,500 in Japan in the same year. The abundance of low-cost labour in these nearby areas allows economic restructuring and the relocation of sunset electronic products and the rationalization of production and distribution through vertical integration. Also in 1996, the areas outside the Pearl River Delta in Guangdong Province were about 30 per cent cheaper, and the neighbouring provinces of Fujian, Guangxi, Hunan, and Jiangxi had labour costs only half those of the Pearl River area (WTEC, 1997). With these significant cost savings, one may therefore argue that the firms adopting the labour-intensive policy would have a good performance. Accordingly, we propose, H1b: Low technology and labour intensive strategy will lead to good performance of manufacturing firms competing in China. Since these two hypotheses conflict, it would be interesting to test which of the hypotheses is supported by empirical data.

Method
The sample for testing the hypotheses was drawn from China's third industry census (see The Data of the Third National Industrial Census of the People's Republic of China in 1995). The data from this census can be obtained from the State Statistical Bureau of China. Since China established its opendoor policy in 1978, two large-scale censuses have been conducted, which provide the most reliable information about the performance of foreign firms in China. One of the censuses was conducted in 1985-1986 (the second industry census), and the other in 1995-1996 (the third industry census). Each of these large scale censuses was organized by China's central government, with a highranking official (usually a vice governor or a vice mayor) in each province or city as the head of a local team in charge of the census. All enterprises in China were required by law to report accurate information about their ownership, assets, employees and performance. From the data of the third industry census conducted in 1995/96, we selected the top 100 firms in terms of their marketing revenue. Among these firms, 28 were local Chinese firms, 26 were firms funded by overseas Chinese capital (including the capital from Hong Kong and Taiwan), and 46 were firms funded by capital from other foreign countries.

Sample

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Ji Li, Kevin Lam and Yong-qing Fang Manufacturing firms' performance and technology commitment the case of the electronics industry in China Integrated Manufacturing Systems 11/6 [2000] 385392

Measurement Performance

Firm performance can be measured along two dimensions, effectiveness and efficiency. All the firms in our sample could be considered effective in terms of their marketing efforts since they were in the top 100 in terms of their marketing revenue in China's electronics industry, one of the fastest growing manufacturing industries in China today. Therefore, we tested firm performance in this study by focusing on firm efficiency. Specifically, we tested two dimensions of firm marketing efficiency, i.e. efficiency in use of human resources and efficiency in use of financial resource. The former was computed by dividing the total annual marketing revenue of a given firm by the total number of employees; the latter was computed by dividing the total after-tax profit of a firm by its total assets (ROA). We tested two dimensions of firms' technology investment, i.e. technology investment in human resources (CCH) and technology investment in equipment (CCT). CCH was measured by the sum of two variables: 1 average pay of employees in a firm; and 2 percentage of university graduates among employees in the firm. A pre-test showed that these two variables are significantly correlated (correlation = 0.71, p < 0.01). Therefore, we adopted the sum of these two variables as a measure of technology investment in human resource (CCH). Technology investment in equipment (CCT) was measured by the average ratio of equipment depreciation since a firm was set up in China (A/E). The higher the ratio of A/E, the higher the level of technology investment in equipment (CCT). The reason is that firms which depreciate their equipment fast are likely to commit new investments to update their technology level (WTEC, 1997). Using ratios to measure technology investments and efficiencies allows us to control for differences in sizes and products among the firms. Two control variables, i.e. location of firm and ownership of firm, were included for regression analyses. Location of firm refers to whether a firm was operating in China's coastal area or inland regions. Ownership of firm refers to whether a firm is funded by foreign capital. According to past research, these two variables may affect firm performance in China's electronics industry

(Cho, 1988; Dunning, 1988; Schroath et al., 1993). Accordingly, we decided to test the effects of these two factors in our regression analyses. Specifically, location of firm was measured by the six-digit postal code system used in China. We changed this measure into a dummy variable, with ``one'' denoting coastal areas and ``zero'' denoting inland regions. Ownership of firm was also measured as a dummy variable, with ``one'' denoting a firm invested with foreign capital and ``zero'' denoting a Chinese firm without foreign investment.

Results
Table II presents means, standard deviations, and inter-correlations for all variables used in the study. A positive and significant correlation was found between technology investment in human resources and technology investment in equipment (correlation = 0.40, p < 0.001). This correlation suggests that, if a firm has high commitment in technology, the firm is also likely to invest heavily in its human resources or vice versa. Both investments help the firm to maintain its technology leadership in China's manufacturing industry. Table II also shows positive and significant correlations between technology investment in human resources on the one hand and marketing efficiency in human and financial resources on the other. Both correlations were significant (r = 0.31; p < .01). Also, there exists a positive and significant correlation between technology investment in equipment and firms' efficiency in human resources. Hierarchical blocked regressions were then conducted to test for the two conflicting hypotheses. In the first analysis, the marketing efficiency in human resources (i.e. sales per employee) was entered as a dependent variable. Two measures, i.e. firms' technology investment in human resources and that in advanced equipment, were first entered as independent variables (Model 1). After that, two control variables, i.e. the location of the firm and the investment vehicle, were entered (Model 2). We entered the control variables in this order so that the stability of the regression coefficients on the independent variables could be assessed (cf. Tsui et al., 1992). Table III shows the results of this regression analysis. A positive and significant B value for firms' technology investment in equipment (B = 9.25; p < 0.001; t > 2.34), i.e. the regression coefficient, supports H1. That is, technology investment

Technology investment

Control variables

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Table II Descriptive statistics Factors Independent variables 1. Tech-investment in human resources 2. Tech-investment in equipment Control variable 3. Firm ownership 4. Firm location Dependent variables 5. Efficiency in human resources 6. Efficiency in financial resources (ROA) M SD 1 2 3 4 5 6 7

1.23 653.38 0.63 0.72

0.93 1.00 894.42 0.40 0.39 0.01 0.37 0.02 1.00 0.28 0.11 1.00 0.06

1.00

914.29 1,992.2 0.06

0.36

0.73 0.13

0.02 0.06

0.03 0.12

1.00 0.09 1.00

0.08 0.31

Notes: Correlation above 0.31, p < 0.1; correlation above 0.36, p < 0.001; one-tailed significance
has a significant and positive effect on the marketing efficiency of human resource in the Chinese market. In other words, firms' capital investment in technology seems to have a beneficial effect on the marketing productivity of its employees. However, Model 2 shows that the two control variables (i.e. the location of the firm and the investment vehicle) had no significant effects on firms' marketing efficiency. Before and after these control variables were entered, the effects of the independent variable remained consistent and significant. We then tested the effects of firms' technology investment on their efficiency in using financial resources. In this analysis, the marketing efficiency in terms of financial resources (i.e. return on assets) was entered as a dependent variable. Two measures, i.e. firms' technology investment in human resources and that in equipment, were first entered as independent variables (Model 1). The two control variables, i.e. the location of firm and the investment vehicle, were subsequently entered in Model 2. Again we entered the control variables in this order so that the stability of the regression coefficients on the independent variables could be assessed (cf. Tsui et al., 1992). Table IV shows the results of this regression analysis. Again, a positive and significant B value for firms' capital commitment in technology (B = 2.87; p < .01; t > 1.96), i.e. the regression coefficient, supports H1. In other words, capital commitment has a significant and positive effect on the marketing efficiency of using financial resources in the Chinese market. Specifically, firms' capital commitment in human resources seems to have a beneficial effect on the marketing efficiency of their assets. Again, Model 2 shows that the two control variables (i.e. the location of the firm and the investment vehicle) had no significant effects on firms' marketing efficiency. Before and after these control variables were entered, the effects of the independent variable remained consistent and significant.

Table III Technology investment and efficiency Efficiency in labor Model 1 Model 2 Independent variables 1. Tech-investment in human resources 2. Tech-investment in equipment Control variables 3. Firm ownership 4. Firm location Constant Overall model F Multiple R R square Adjusted R-sq Standard error Notes: * p < 0.05; ** p < 0.01; *** p < 0.001 [ 390 ] 1.08 9.25*** 1.02 9.13*** 0.75 0.22 546.12 67.47*** 0.74 0.55 0.54 972.99

Discussion and implications


Because of its great potential, the Chinese market is characterized by fierce competition among major international players. This competition, as this research suggests, leads to a significant and positive effect of technology investment on a firm's marketing efficiency and profitability. This is true regardless of firm location and ownership. In other words, if a firm has sufficient technology investment in equipment and

508.97 89.57*** 0.74 0.55 0.54 973.18

Ji Li, Kevin Lam and Yong-qing Fang Manufacturing firms' performance and technology commitment the case of the electronics industry in China Integrated Manufacturing Systems 11/6 [2000] 385392

human resources, this firm is likely to have marketing efficiency and effectiveness. This finding is consistent with recent studies and observations in China's manufacturing industries (e.g. Preston, 1996; Kirkpatrick, 1998). This is true even for local Chinese manufacturing firms. Although the majority of local manufacturing firms are losing money and cannot compete even in domestic markets today, some manufacturing firms are doing well. There have been empirical observations suggesting that local Chinese firms may also compete efficiently if they have sufficient technology investment in equipment and human resources. One example of these local firms is Legend, the largest personal computer (PC) producer in China today. According to latest statistics, Legend had a market share of 12.7 per cent in China's PC market in the first quarter of 1998 (Wei, 1998). This firm was founded in 1984 by researchers of the Chinese Academy of Science (Kirkpatrick, 1998). In recent years, Legend overtook such large MNCs as IBM and Compaq to become the top supplier in China's PC market. Studying the structure and strategy of this firm, one can see that this firm has made heavy capital commitment in human resources and technology, which have helped the firm to compete with large MNCs in China's PC market. Specifically, Legend has made large capital commitment in R&D, in advanced equipment and in sophisticated facilities. All these have increased the firm's assets rapidly. With a start-up capital of only 200,000 yuan (US$24,096), the firm had grown to a size with net assets of 1.6 billion yuan (US$192 million) by 1997 (CD News, 1998). Also, Legend has made technology investment in human

Table IV Technology investment and financial resources Efficiency in financial resources (ROA) Model 1 Model 2 Independent variables 1. Tech-investment in human resources 2. Tech-investment in equipment Control variables 3. Firm ownership 4. Firm location Constant Overall model F R square Adjusted R-sq Standard error Notes: * p < 0.05; ** p < 0.01; *** p < 0.001 2.87* 0.27 2.86* 0.27 0.66 0.58 33.11 5.31** 0.10 0.08 12.99

resources. For example, in Hong Kong, Legend set up QDI, which has extensive design capabilities for circuit boards. Most of its 57 design staff are from famous universities in China. QDI has its own source code to allow for BIOS and driver modifications, and it is the only beta test site for Intel in Hong Kong (WTEC, 1997). The case of Legend seems to explain why, among the top 100 market players in China, there is no significant effect of ownership on the firms' effectiveness and efficiencies. Although the majority of local Chinese firms can still hardly compete with the large MNCs in the Chinese market, a small number of large local firms have already become a threat to foreign firms in the markets. Many of these local Chinese firms are in the list of the top 100 that we have just studied in this paper. They have become one of the top 100 list because they invest heavily in technology and human resources to build their own competitive advantages. The finding in this paper is applicable to electronics firms as well as other manufacturing firms competing in China. Because of the competition among international manufacturing firms in the Chinese market, if a manufacturing firm does not have sufficient technology investment, it might be hard for this firm to achieve good performance in the Chinese market. If a firm decides to compete on low technology and to manufacture only the labour-intensive or non-cutting-edge products in China's fast growing markets, it may be driven out of the markets by other MNCs who are willing to sell something better. Selling non-cutting-edge or out-of-date products will also make a firm more vulnerable in their competition with local firms which often do not have sufficient capital to develop new technology. However, these local firms often have their own competitive advantages, such as good connections and familiarity with local culture. If an overseas firm decides to compete with them in labour-intensive or low-tech product markets, it might not have too much competitive advantage.

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33.90 5.34** 0.10 0.08 13.18

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