Case Study: Volkswagen builds its brand in China

The story

As early as the 1980s, stirrings of economic reform in China encouraged Volkswagen’s senior managers to identify the country as a future growth market for passenger cars. They decided to establish sales and production in the country as soon as possible in order to reap the benefits of being first.

The first challenge

The Chinese government insisted on foreign businesses forming joint ventures with domestic companies. But most Chinese automobile makers concentrated on vehicles for industrial use rather than cars. Also, design and technology were both basic.

As for consumers, a tiny fraction of the population earned enough to buy a car. Keeping a vehicle running was also problematic: Shanghai, for example, had a population of 12m in 1985 but 70 petrol stations at most.

The market would have to develop substantially before western carmakers could operate there profitably.

The initial response

Most of Volkswagen’s competitors were content to export small volumes to China and wait to see what would happen. The German company opted instead to establish operations on the ground, with a view to building its brand slowly and also establishing key relationships, including at various levels of government. Volkswagen accepted that it would be years before it saw financial returns – if ever.

It established a joint venture, called Shanghai Volkswagen, with Shanghai Automotive Industry Corporation in 1985; and a second, with First Automotive Works, in Changchun that began production in 1991. The Chinese companies and Volkswagen held equal shares in both cases. Volkswagen shared its technology, and factories were built or retooled to make Volkswagen brands.

Good relationships with government were cultivated, partly because of the levels of state control over business but also because government bodies were important potential customers. These relationships bore fruit early on when Volkswagen won contracts to supply taxis to the municipalities of Shanghai, Beijing and other cities. Red Volkswagen Santana taxis became a common sight on Chinese streets.

The taxis put the Volkswagen brand in the public eye. As more people bought their first car, Volkswagens made in China were a natural choice for many.

By 1995, Volkswagen had at least 70 per cent of the Chinese domestic car market. It had achieved a powerful first-mover advantage, and for several years other carmakers, domestic or foreign, were in its shadow.

The second challenge and response

By the early 2000s, that first-mover advantage was diminishing. Aggressive marketing of low-cost brands by other foreign companies, such as General Motors, and improved quality on the part of local carmakers meant that by 2004 Volkswagen’s market share had fallen to 15 per cent.

Its response was to introduce new technologies at the two joint ventures to bring down unit costs of production, and to launch new low-cost models such as Skodas.

Chinese customers still had a favourable view of the brand, and once Volkswagen was again matching rivals on price – and outdoing many on quality – they flocked back.

By 2010, Volkswagen was once again the leading car company in China, with Skodas accounting for about 20 per cent of sales.

Volkswagen has achieved an almost “heritage” appeal, and the company is admired for its long commitment to China.

The lessons

First, strong brand image was important. And the early contracts that established the brand in the public’s imagination were won at least partly through having good relationships with government.

Second, first-mover advantage takes a long time to establish and can be eroded very quickly. Volkswagen might have not acted quickly enough to protect that advantage but in the long run, the brand and good customer relationships enabled it to recover its position.

- Financial Times, Mar 11. 2013