Christina Stringer says there is an urgent need for New Zealand companies to upgrade their GVCs to avoid becoming little more than Chinese cost centres

By Christina Stringer*

Today’s global economy is characterised by companies looking to optimise operations by moving parts of their value chain offshore.

International trade and investment is being organised within global value chains (GVCs).

According to the Organization of Economic Cooperation and Development, the use of the GVCs framework challenges the way in which we view the global economy.

GVCs use the structure where value added activities take a product or service from conception to output. This order of activities may be performed by one or more companies.

GVCs connect firms and consumers in different locations. Geography determines where certain segments of the value chain are located.

At the industry level, GVCs connect geographically scattered activities. They can be used to explain patterns of production, trade and investment.

In turn, GVCs are governed by lead companies through, for example, ownership of core technologies and brands.

Companies will look to move along the value chain in order to capture more value – a process known as upgrading. Of course, downgrading can also occur.

Understanding GVCs is important for policy-makers looking to create a favourable business environment.

An understanding of a country’s or industry’s position within a GVC has implications for growth, development and employment. Governments play a key role in shaping the environment for upgrading opportunities.

Integration into GVCs is an important developmental step for many emerging economies. Over time, China has shifted from specialising in labour-intensive products (at the low value end of the value chain) to upgrading their export mix to become an exporter of higher value added products (e.g. computer, electronics).

China’s rise is closely linked to foreign companies incorporating domestic companies into their GVCs through offshoring and outsourcing. 

A country’s position within GVCs is particularly important for agricultural exporting countries such as New Zealand.

What does growth in China mean for New Zealand exporters?

In 2013, China surpassed Australia to become New Zealand’s largest export market. The majority of our exports to China are primary products.

While export totals are impressive, the question we should ask is whether New Zealand companies are capturing the most value from Chinese markets or can they capture more?

China’s development has led to an increasing demand for food and agricultural products; this is providing opportunities for New Zealand companies to supply intermediate products for the food processing sector as well as servicing a rising middle class.

In recent years there has been a significant increase in exports to China of protein-based foods. Last month, a report was released predicting that by 2020 milk demands in China will increase by 75% over 2013 levels. New Zealand is well-positioned to tap into this demand.

However, companies need to understand their positioning within GVCs in order to be able to maximise value and move into the higher value added segments of China’s value chains.

Is this achievable through exports? Or by having a distribution and sales presence in China? Or by re-locating production to China?

Importantly, how can companies upgrade their position within their value chains by undertaking more complex tasks?

Recent initiatives by New Zealand companies in China

In July, Fonterra announced an agreement with US-based multinational Abbott to establish a dairy hub in China. The two companies will specialise in certain segments of the value chain.  Fonterra is a supplier of premium dairy products while Abbott is a supplier of value added products with extensive marketing expertise in China.

Keith Woodford, in a recent Sunday Star Times column, suggests that Fonterra entered into an agreement with Abbott because Fonterra lacks the capital and marketing expertise to expand their operations in China.

In August, ServeCo established a wholly foreign owned enterprise in China. ServeCo represents a consortium of businesses in the primary sector including Sealord, Silver Fern Farms, Villa Maria Estates and Synlait Milk.

Located in Shanghai, ServeCo will act as an go-between to build relationships with Chinese and New Zealand authorities in China in order to expand market initiatives for consortium members. It is critical for New Zealand companies to have a physical presence in the market in order to better understand, and capture more benefits from, the market.

What many New Zealand companies seem to lack is sufficient capital to build brands in China and without a recognisable well-positioned brand it will be challenging for them to succeed in the long run.

While some initiatives have been undertaken by large New Zealand companies, what about the future of New Zealand small and medium-sized enterprises in China?

Are they able to acquire sufficient working capital to succeed in the Chinese market?

How can they achieve bargaining power in China’s increasingly complex markets?

Ultimately, companies must map their value chain(s) in order to identify ways in which they can further benefit from participating in GVCs and where and how they can capture the highest value.

Unless New Zealand producers take steps to upgrade their GVCs they may become little more than a Chinese cost centre.

----------------------------------------------------------

Dr Christina Stringer is a Senior Lecturer in International Business at The University of Auckland Business School. You can contact here here.