Electronics industry in central Europe: Explaining the emergence of a new global production location

1. Electronics industry in central Europe:Explaining theemergence of a new global production location Dr Slavo Radosevic s.radosevic@ssees.ucl.ac.uk School of Slavonic and East European Studies

2. Background: • The way countries integrate at a micro-level into the global economy will have important effects on their long-term growth • Market integration: necessary but not sufficient condition • Industry integration (production and technology): neglected aspect of integration > assumed that follows automatically from market integration

3. Our perspective • Whether FDI will lead to growth depends on a variety of micro/mezzo/macro factors and complementarities among them • Morphology of industry networks is the key to understanding what we may expect from FDI in growth • International business (business networks + MNCs) & • Political economy (governance systems) • Corporate, local, national, EU governance • Political economy that is centered on firm behavior > a variety of institutional relationships matter to firm behavior.

4. Key problem: • Industrial dynamics is open system > multi-level and multi-dimensional > which variables to include?

5. Network alignment: conceptual basis • Network alignment = effective coupling between the evolution of national specific systems and the global (regional) production networks. • The issue is not only 'the question of developing networks but of integrating locally and nationally emerging networks with global network structures' (Kim and Tunzelmann, 1998, p. 1). • Nature of individual networks + Network linkages • Our perspective: the ways in, which markets, firms, CEE states and EU actions can bring about the 'alignment' of these networks.

7. Networks and their alignment II • Global networks: • closed/open • frontrunners; followers; peripheral; lock out networks • Domestic firms • growth issues (market. technology, finance gaps) • control issues (privatisation) • State • Strategic FDI policy • Privatisation policy • Trade regulations • Local governments • EU • EU regulations

8. Questions • How do we explain the emergence of central Europe as global production location in electronics? • What management and policy lessons we can draw from the success of CEE electronics?

15. OEM Philips Siemens IBM Nokia Ericsson Motorola Sony Matshushita Samsung CEM Flextronics Celestica Jabil Solectron Elcoteq Endogenous manufacturers Videoton Tesla Ecimex Major companies

16. 32% 23% 19% 15% 12% 11% 9%

18. Investors’ perspective on CEECs: ‘tiering’ of the region • CEE ‘sweet spots’ (Hungary, Czech R and Poland) • Developing CEE (Romania, Bulgaria, Baltics) • Future CEE low – cost bases (Serbia, Belarus, Ukraine, Russia, Bosnia, Moldova)

19. Structural change in electronics industry works in favour of CE as production location • from highly localised to highly globalised production pattern • decoupling of manufacturing from product development and their dispersion across firms and national boundaries • focus on reducing costs of integral supply chain through outsourcing, relocation to low cost sites, reduction in number of suppliers, common standards to improve flexibility and global product range • shift from expensive to cheaper areas but also to locate close to main markets in order to achieve flexibility

20. Patterns of upgrading • Specialized operators • Hungary: European product mandates • Extensive production capability upgrading • Rare functional upgrading • From subcontracting to FDI • Critical mass? • Clustering among MNCs

21. Relatively favourable quality of general factors of relevance for electronics industry….. … but huge technology gap in electronics + market access gap + finance gap (cash flow problem) …….

22. What explains the emergence of CE as global production location? • Factor advantages by themselves cannot explain why CE has emerged as global production location • Favourable constellation of network alignment elements has produced virtuous circle in Hungary and Czech R • … but its effects are limited on production capabilities and on few countries • How to spread gains in achieved production capabilities to technology activities (functional upgrading?) … given rise in labour costs • FDI in R&D and SW is primarily in ‘stand alone’ investments • Weaknesses of national systems of innovation and of local firms, in particular

23. Network alignment elements in CEE electronics

25. Case study: Videoton: • ‘The success stories will not be the vast government organisations that are easy to identify - Robotron in what was once East Germany, Videoton in Hungary, Iskra in Yugoslavia - but companies founded by men and women whose names are as yet unfamiliar’ • Harvard Business Review, January – February 1991, p. 26, ‘Micro Capitalism: Eastern Europe’s Computer Future’ by Esther Dyson

26. State owned enterprise (1945 >) - Military, hunting rifle cartridges - Bicycle motors - Consumer radio sets - B&W Television - Loudspeaker system - Military radio transceivers - Car stereo system - Computers, terminals - Colour TVs - Line printers - Defence communication systems Privatised 1992 Contract manufacturing (95%) Export 80% OBM (5%) Loudspeaker system Colour TVs Defence communication system CDs Videoton:a step back in value added chain

27. Contract manufacturing: • the basis for survival and growth • ‘Downsize radically, stop developing new products, focus • on labour intensive manufacturing to serve MNCs’ • Services: • - qualified middle management and labour - • - flexible technological base and facilities - • - reduced investment risks and costs - • - quick project start up time - • - openness towards innovation for strategic partners - • ‘We don’t want the high cost and risk of marketing our • own products’

28. CD Ltd. (1993), 100%, from the Dutch partner. Acquisition MBKE Ltd. (1997), 100%, from Austrian owner BRG Radiotechnika Ltd., (1999), 1000%, ? DZU, (1999), 51%, Bulgarian government Informatics Ltd., to Philips, 1995. Television Ltd. and Galvano Plastic Ltd., to MB Video, 1995. Subcontracting Mechatronics Ltd., to IBM, 1995. Informatics Ltd., to Alcoa Fujikura, 1995. AFL-VT Electronics Ltd., to AFL-Stribel, 1995. VT Kenwood Ltd., to Kenwood (France), 1996. VT MBKE Ltd., to Sanyo, 1998. Videoton Holding VT MBKE Ltd., to Philips, 1998. VT, to VW, 1998. MT-Liz Ltd. (1989), VT 49%, Muszertechnika 49%, 15 private investors 2%. VT Fuba Ltd. (1994), VT and Fuba Printed Circuits GmbH. Joint Ventures VT Artrans Ltd. (1996), VT and a private Hungarian firm (?). Hungarian Speaker Systems Ltd., VT and Philips. VT-t Hybrid Electronics Ltd. and VT Soft Ltd. VT Slider Ltd., leasing to IBM, 1996. Motorola, a regional service centre, 1998. Alliances Goodsman Loudspeaker Ltd. provide production lines of the newly established loudspeaker plant, 1999.

29. VT Holding as a network organiser • Fortunately attempts to break up VT holding failed • Advantages and disadvantages of holdings • concentration of strategic functions • managing firms as profit and cost centres • credibility • cost of finance • Entrepreneurship in a large firm

30. Industrial parks and local networks • VT as a facilitator • Local government (Szekesfehervar) • Relations with government • Productive rents • head start: all liabilities forgiven • industrial park development programme • preferential loan for privatisation deals • VT goes east Europe • DZU Stara Zagora - Bulgaria

32. Key management challenge: How to avoid subcontracting trap?

33. VT: conclusion • Entrepreneurship • & • Network alignment • MNCs • Government keen on attracting FDI • Local government • EU accession

34. CEE Electronics: Conclusions I • FDI > the primary vehicle of integration of the CEE electronics firms into global production networks, • Hungary has moved the furthest along this path, positioning itself as a major low-cost supply base in the region. • Central Europe (Hun, Cz R, Pol) as the first tier > Other countries: the emerging second tier • EU = the main source of demand for the CEE electronics industry. • Networks reflect the strategy of the dominant actor – MNC > confined on subsidiary with still limited local subcontracting, are export oriented and are expanding. • Local subsidiaries > mastered production capabilities + several subsidiaries in Hungary are European Product Mandate Suppliers

35. CEE electronics: Conclusions II • Ex-socialist electronics conglomerates > significantly reduced & loose associations of SMEs • Videoton > notable exception • Layer of local firms > weak with very limited capabilities in core technologies. • This is the key weakness for further alignment of networks in the CEE electronics > the local networks will remain very much dependent on foreign investors • Local governments in Hungary and Poland play an important role in network alignment • Hungary, and after 1996 in Czech R > national government played an important role in attracting FDI in electronics.

36. Industrial networks in CEE areorganised by MNCs and are limited in scope (mainly intra-firm) • Emerging linkages are confined on parent firm and local subsidiary and their subcontractors in some cases. • Strategies of MNCs are shaping the profile and objectives of these networks

37. The weakest node for further industry upgrading via network alignment are national networks • National networks: Large and small local firms, their mutual links and their links to infrastructure organizations (university, services) • Local firms are the weakest as potential network organizers • Emergence of few domestic firms that operate as network organizers > seed of potentially different pattern of industry upgrading • Local champions of opening > firms that grow based on networking with foreign firms

38. EU demand operates as a strong ‘focal point’ (attractor) to the emergence of new industry networks • EU demand generates necessary ‘coherence’ for initial and still rudimentary local clustering organized by MNCs • However, accession to EU seem to play secondary role

39. Regions are emerging as important players in aligning local and foreign networks • … despite limited decentralization and lack of financial autonomy • Large room for the EU policy actions … • … but also need to avoid ‘old recipes’

40. Policy implications I • Policy should aim to identify relevant complementarities between firm and region specific advantages and disadvantages. • Alignment of different networks cannot be enhanced by centralized and coordinated change. The real policy challenge is to know what are the triggering or missing elements that might generate complementarities between national and global production and technology networks. • Rather than trying to be generally attractive to foreign investors policy should aim to develop those parts of its infrastructure and national innovation system that complement the business strategies of companies that are moving towards knowledge based activities.

41. Policy II: Support the weakest link! • Given that domestic large and small firm are the weakest links in network alignment there is a strong need to enhance NSI of the CEECs within the wide EU system of innovation (cf. support local and international networking and diffusion activities) • Danger of FDI as the only industrial policy

42. Policy III: Two steps forward one step back • EU accession will take further away prerogatives for decision making from CEECs in areas like FEZ and tax incentives • (cf. FEZ are the second best institutions) • EU actions will have to compensate for reduced policy freedom with respect to FEZ and tax incentives by enhancing first based institutional solutions • Interim outcome may not be positive!

43. Window of opportunity: strategic FDI policies • 1st generation policies: liberalization of FDI flows • 2nd generation: marketing of countries as locations and setting of national investment agencies • 3rd generation: targeting of foreign investors at the levels of industries and clusters • CEECs should learn fast to implement 2nd and 3rd generation polices (cf. CzechInvest as role model) • Strategic FDI policy as the second best policy option

44. Policy proposal: EU wide FDI contests • Even after the EU accession CEs have remained heavily dependent on FDI for industry upgrading • Instead of trying to limit competition for FDI between EU regions EU should use contests for FDI between regions as a mechanism to improve business environment in the weakest regions • Purposes: • An incentive device • Coordination device • Mechanism to share policy knowledge • Key policy challenge: how to couple policy towards value chains and NSI