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that it would not hold any equity. The application was rejected again in June 2007 by the Department of Industrial Policy & Promotion (DIPP), which suggested that Starbucks take the 51% FDI route rather than the franchisee route.

With its application being rejected for the second time and amid speculations that the Indian government would further tighten franchisee regulations, Starbucks withdrew its application from the FIPB in July 2007, without giving any date for its Indian debut. A Starbuck, spokesperson said, "Starbucks Coffee International, a wholly-owned subsidiary of Starbucks Coffee Company, notified the ministry of commerce & industry and FIPS that we decided to postpone our entry into India and officially withdraw the application to operate single-brand retail stores in this country. Starbucks is reviewing all options and evaluating how we can proceed related to our entry into one of the fastest growing economies in the world. It is premature for us to announce any new dates.':" The company was also unsure about the involvement of Sharma and Biyani in its future plans. N WITH THE TATAS

In January 2011, Starbucks took a significant step and signed a non-binding memorandum of understanding (MoU) with Tata Coffee (a subsidiary of Tata Global Beverages Limited) (Tata), one among of India's leading providers of premium Arabica coffee beans. Tata Global Beverages was a part of the global Tata Group and the world's second largest tea company. Its brands included Tata Tea, Tetley, Himalayan natural mineral water, and Eight 0' Clock Coffee. Tata Coffee, a subsidiary of Tata Global Beverages, was Asia's largest coffee plantation company and the third largest exporter of instant coffee in the country, which produced more than 10,000 Metric Tonnes (MT) of shade grown Arabica and Robusta coffees at its 19 estates in South India. Its two Instant Coffee manufacturing facilities had a combined installed capacity of 6000 MT. It exported green coffee to countries in Europe, Asia, the Middle East, and North America.

The MoV was signed for sourcing and roasting high-quality green coffee beans in Tara Coffee's facility in Coorg in south India. Both the parties also explored the development of Starbucks retail stores in India. Starbucks' Schultz said, "India is one of the most dynamic markets in the world with a diverse culture and tremendous potential. This MoV is the first step in our entry to India. We are focused on exploring local sourcing and roasting opportunities with the thousands of coffee farmers within the Tata ecosystem. We believe India can be an important source for coffee in the domestic market. as well as across the many regions globally where Starbucks has operanons.v'"

After a year of signing the MoU, Starbucks set up a joint venture with Tata Global Beverages Ltd. in January 2012. The agreement paved the way for Starbucks to set up cafes in India and for Tata to sell Indian coffee globally. The 50/50 JV was named Tata Starbucks Limited and would own and operate Starbucks cafes branded as 'Starbucks Coffee - A Tata Alliance'. The company planned to open coffee retail stores across the country by the end of the year, starting with stores in Delhi and Mumbai. In a separate agreement, Tata Coffee Limited agreed to roast coffee and supply it to Tata Starbucks Limited. and to export to Starbucks Coffee Company. The agreement paved the way for Starbucks to reach consumers in India. The companies agreed to have an expanded range of beverage offerings for Indian consumers and jointly leverage assets and innovation to offer premium products. John Culver, president, Starbucks China and Asia Pacific, stated, "We're very pleased to have found the best partner for Starbucks in Tara - a company that shares so many of the same values for conducting business in a way that earns the trust and respect of our customers and partners (employees). We look forward to bringing the Starbucks Experience to customers in India by off~rin~,~igh ~uality ara?ica coffee, handcrafted beverag~s, locally relevant food, and legendary service. ~ Stating the business advantages of the partnership, Howard Schultz said, "What Tata brings is a unique perspective in terms of real estate acquisition capabilities. the opportunity to integrate Starbucks into Taj Hotels, the ability to brin? fo?d from the Taj into Starbucks stores and the capability that we Just could not do on our own Just tn terms of the infrastructure and distribution."n

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The companies opined that they shared common values of responsible business ethics and a commitment to community. Tata had been working to improve the li~es of c~ffee growing communities in the state of Kamataka. Starbucks, through an initial financial commitment, would support Tate's 'Swastha' _ a school for children with special needs (in partnership. wi~h the Coorg Foundation) and aim to increase its capacity and outreach into the rural communltle~ I.n.th,e cof~ee growing region of Karnataka, Starbucks and Tate also planned to work together on Intt,I8,tJves like promotion of responsible agronomy practices and training for local farmers, .technl~lans, and agronomists 10 improve their coffee-growing and milling skills and other cornmuruty projects,

The two companies started their venture with an investment of $80 million and proposed to start their stores in August or September of 2012, In September, the company announced that the opening of the Starbucks stores had been pushed back and their opening would coincide with the festive season, which started in October. While the company did not give any reasons for the delay, Saloni Nangia, president at Technopak, said, "The store rollouts of international chains usually take time because they involve a lot of groundwork in terms of sourcing ingredients, menu design, and choosing the furniture for the stores. A lot of effort goes into ensuring that stores are at par with international stendards.?" Analysts also opined that the delay might actually work in favor of Star bucks as consumer spending would be at its peak during the festive season.

Finally on October 19, 2012, Starbucks opened its first store in India, in Elphinstone Building, Horniman Circle, Mumbai. On January 24, 2013, it expanded its presence to Delhi by opening 2 outlets, one at Indira Gandhi International Airport and the other at Connaught Place. In January 2012, Culver along with Tata Global Beverages vice chairman, R.K. Krishnakumar, had announced their plans to open 50 cafes by the end of 20 12 with an investment of Rs. 4 billion, but had missed the target. Culver said: "From the Starbucks perspective, we are a publicly traded company. We do not release those figures publicly. We did not do those numbers specifically from a Starbucks perspecrive.?" As of March 2013, Starbucks operated five stores in Mumbai and four in New Delhi.

INITIAL RESULTS

When the speculations of Starbucks entering India were on, Shoba Narayan, an Indian columnist, wrote.

" 'D~cent.' co.!!eelor a com.m.itted south Indian coffee connoisseur such as me involves a long, very specific list: It has to be piping hot; the loam must be on top; it has to be bubbly and the bubbles have to be breaking down; it should be served in a stainless-steel tumbler and 'davara', which is the Indian version 01a saucer,' the color of the drink should not be as dark as cocoa but not too milky either; and the amount 01sugar should bejust enough to take out the bitternes; but without adding any sweetness to the taste. That's what I would call decent coffee. My dad drinks four cups 01coffee a day and pays 10 rupees per cup at his neighborhood, no~name cafe. I pay 35 rupees for a cup of espresso at Cafe Coffee Day. It still costs under a dollar for the I . -r.... . mos expensive cup OJ coffee In India. How IS Starbucks Somg to get price-conscious Indian consumers who think they are coffee experts to pay US$4/or a talt .Iatte? Lastly, it needs to figure Ollt what the Indian consumer means when they say, All! want IS a simple cup 01decent coffee '. ,,26 However, when Starbucks opened its first store in October 2012 India I. " ,gave a warm we come to the brand. DUring the early days of Its openmg customers lined up to tak . f h b d d h. ' e a Sip 0 t e ran e ot beverage. The lines stretched so .Iong that a 'one-in one-out' policy . I

h h I· ,was Imp ernented After twomont S, t e mes were gone, but not the enthusiasm of the custome C '. rs. ustomers took hour long treks to reach the stores from different parts of the city Apart f ff

b h S b k . rom co lee and snacks customersalso aug t tar lIC s tumblers; others took pictures of the cups SI b k' I '., F b k Th . • ar uc s ogo and the mtenorsto post on ace 00. ey were also smitten by the taste of th d. '

b 'h e d I h e pro ucr, For many Starbucksecame t e prererre p ace to ave coffee and hang out with fro ds: d hev di '. .len s, an t ey did not mind paying

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extra for the Starbucks experience. However, there were some who were disappointed. They felt that Starbucks had not priced its products competitively and that the products were very expensive. Nemat Kaur~ a student, said, "It feels like a reasonable amount, but if you're going to pay that every week, It would take a toll on you as a studem.''"

Analysts opined that the response to Starbucks' arrival in India marked the rising consumer wave that was infatuated with brands and the transformation of India from a frugal population to an economic world power that could afford branded products and shell out the extra bucks. India had thousands of coffee shops and small tea vendors known as ella; wallahs. However, with rising incomes, the Indian consumers supported both - they consumed cups of tea on the street during the day and hung out at coffee shops in the evenings. Commenting on the out-of-home consumption trend in India and a steady shift in consumer preferences like coffee becoming a beverage sipped nationwide, Avani Saglani Davda, chief executive of Tata Starbucks Ltd., said "The size of the Indian economy and the rate of growth of the cafe sector, combined with rising spending power and shift in consumer preferences present a tremendous opportunity for US."28Stating the preference of the country's youth, Roberio Oliveira Silva, head of the London-based International Coffee Organization, said "Young people are turning to places like Starbucks because they want a trendy place 10 socialize and can take their iPhones and connect to the free Wi_Fi."29

COMPETITION IN THE I.NOIAN CAFE MARKET

In the Indian market, Srarbucks would have to withstand competition from established players like CCD and Barista (who had started almost one and a half decades earlier) and had now entered into newer territories with their cafes on highways and locations such as hospitals and college campuses by trying out new formats like kiosks and coffee carts. These competitors had strengthened their supply chains and refined their menus, and offered an improved experience to the Indian customers. Apart from these coffee chains, hundreds of western-influenced stand-alone coffee shops had mushroomed across the country (Refer to Exhibit rv for Key competitors of Starbucks in India).

Starbucks was a late entrant into the market, where CCO had the first mover advantage and was a tough competitor in terms of market experience, number of stores, and thereby number of customers (Refer to Exhibit V for Cafe competition in India). There was also competition in terms of positioning. Starbucks positioned itself as a 'third place' - a place between office and home where people felt comfortable enough to spend their time with friends or relatives, or to have a business chat over a mug of steaming coffee and snacks. The competitors too positioned themselves on the same lines. Costa Coffee positioned itself as a 'fun place', Dunkin' Donuts positioned itself as a food cafe, and CCD's theme was 'sit down' - which implied that everything could be resolved once you sat down and made the cafe your hangout spot. Pricing too was a competing factor. While most of the cafes were premium brands with little price difference, CCO's regular cafe was promoted as an affordable brand.

The cafes also competed through localization and personalization in terms of the look of the cafe and items served. Costa Coffee, for instance, used bright colors and lighting for its interiors and its menu contained more cold drinks than its menu in the UK, which was dominated by hot drinks. Barista Lavazza stores, on the other hand, retlected the Italian connection through all things Italian such as art, culture, fashion, etc. Starbucks, which followed personalization everywhere it went also introduced a few things that reflected Indianness. The store interiors were inspired by the culture of different parts of the country. In terms of foods and beverages, Starbucks retained its classic signature items suc.has ch.ocolate"mufflns ~r.cooki.es ~r cakes. Ho.wever, at the ~ame time, some Indian food items like Chicken Tikka Panini, EIRIChlMawa Croissant, Tamarind Peanut Chicken Calzone Murg Makhni Pie, Mutton Seekh in Roomali Roti, and Chai Tea Latte were introduced keeping the palate of the local customer in mind.

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Though Starbucks was a late entrant, it made its presence felt even wit~.o~ly a few stores. According to Ankur Bisen, vice president of retail and consumer products division at Technop~k. "Foreign brands such as a Costa Coffee or a Starbucks have a huge pull and ther~fore can ~sily milk the market based on their clear-cut positioning. But, as of now, the retailers aren t too worried.?" Competitors in the Indian market were, however, feeling the ~eat of the nC\,l/ entrant and were making moves like positioning themselves better, expanding their menu. openmg more stores, increasing their investments, etc.

LOOKING AHEAD

India was predominantly a tea drinking nation, with coffee ~oder~tely ~opular .only in so~e southern states. Pamela Boykoff at CNN said, "Most Indians still begin their day with a stearmng cup of milky, sweet chai, and it's unclear whether their taste for coffee will grow. Plus S~bucks' profit margins in India are smaller: It's selling its products at a significant discount so pnces are more in line with Indian standards. III I But Schultz, retorted, "Not any more. Walk the streets of India. There arc so many coffee players doing pretty well. That gives us a lot of confidence that the winds are going to be at our back."n Some analysts like Arvind Singhal at CNN too were optimistic about Starbucks' chances of success in India and said, "Indian coffee market could double in the next five years, hauling in more than $500 million. And Indian consumers - hungry for clean, safe places to get together with friends - may view Starbucks more as a hangout spot than a purveyor of coffee. You could be selling lemonade in Starbucks in india and people would still come.?"

The home grown brands like CCD and Barista pioneered the cafe concept in India in the 1990s and paved the way for foreign coffee chains to join the bandwagon. They redefined the whole coffee drinking experience for the Indian consumer with innovative products and entered newer territories. Consumers too were becoming more open to experimenting with their choice of beverages and foods. Cafe retailing was not just growing but evolving as well. India's urbanization, growing youth segment, and their rising disposal incomes and their aspiration to be part of a global lifestyle and culture were driving this change. Likewise, industry experts believed that with the entry of global heavyweights like Starbucks and Dunkin' Donuts, the segment would mature over lime. However, they opined that it would strengthen the market with heavy investments, new offerings, and formats and help in the broadening of the cafe market.

As the coffee shop industry was growing at a rate of 25% in India (adding 100 million coffee drinkers in future) and with the encouraging response that Starbucks stores had gal in the country, the company planned to expand to more locations to tap the vast potential of the Indian market. John Culver, President, Starbucks Coffee China and Asia Pacific, said, "We are excited about the great opportunities that India presents to Starbucks.v" However, in addition to tough competition, the comp.any also had to ~vercome other pote~t roadblocks. A major challenge faced by Starbucks was findmg. a good location at r.easonabl~ pnce. With every player targeting a similar customer profile, having the store at the right location was crucial for the company. And the rent-to-sales ratio in India \~as among the highest when compared across global markets. Higher rent costs and lower menu pnces ~u~stremendous. pressure on the company. Moreover, there was an investment of around Rs. 6-8 million that went into each outlet along with a nine year leas Ad". " - e. wrong eCISlon tn t~rms of real estat~ could mean huge losses for the company over the Ion term and hence it decided to team up WithTate. g term and nence,

The next challenge was employing the talent pool and training them h ' , E'" 1 as per t e company srequirements. extensive tratrung lad to be imparted to the employees to . .. . . ensure supenor customer

expertence. With every player claiming to offer a unique customer expe ' d S k . nence an taste, tarbuc sneeded the best team at each of Its outlets. Coffee chains like CCD a d GI . J

nona ean's had set up

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their own training schools, but it was rough and a riskier proposition for Starbucks as it had just made its entry into the country. Di Bella Coffee India, on the other hand, brought its own baristas and technicians from Australia to Mumbai to train its staff in-house on a weekly basis.

Cost management was yet another challenge faced by Starbucks, amidst a scenario where it had to deliver a cafe experience of the best international standards. In India, every customer looked for value-fer-money offerings. Value-for-money pricing was one of the three success factors - product quality, value-for-money pricing, and customer engagement - which Starbucks could not ignore if it wanted to attract the Indian consumer. In order to satisfy this need of the Indian consumer, Starbucks had to have a competitively priced list of items on its menu (Refer to Exhibit VI for the prices at Starbucks).

Summarizing the market response and Starbucks' plans, Avani Davda, chief executive of Tata Starbucks said, "Till now, we have had a tremendous response to all our outlets in Mumbai and Delhi. We will go where we find customer demand. We see a lot of potential. It's a country of over a billion people. You cannot gauge how much demand there is and will be.,,)3 However, the company did not reveal the destinations or the numbers of the stores that it intended to open in future. But Davda said, "Surely, the southern Indian market is a very important region and is known for its coffee consumption (and production). We'll look at all the opportunities which come our way.?"

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Exhibit I

Starbucks Presence Across the Globe

Asia Europe North America

• Bahrain (14) • Austria (12) • Aruba (3) • China (851) • Belgium (9) • Canada (1,324) • Hong Kong (129) • Bulgaria (4) • Curacao (I) • India (8) • Cyprus (9) • EI Salvador (4) • Indonesia (145) • Czech Republic (14) • Guatemala (2) • Japan (989) • Denmark (4) • Costa Rica (2) • Jordan (9) • Finland (2) • Mexico (377) • Kuwait (79) • France (82) • Puerto Rico (20) • Lebanon (18) • Germany (167) • The Bahamas (8) • Macau (9) • Greece (36) • United States (13,279) • Malaysia (141) • Hungary (7) • Oman (6) • Ireland (30)

Oceania• Philippines (206) • Netherlands (28) • Qatar (12) • Norway (I) • Australia (25) • Saudi Arabi. (73) • Poland (33) • New Zealand (32) • Singapore (87) • Portugal (7) South America • South Korea (556) • Romani. (9) • Argentina (64) • Taiwan (291) • Spain (80) • Brazil (78) • Thailand(171) • Sweden (3) • Chile (43) • Vietnam (I) • Switzerland (52) • Peru (55) • United Arab Emirates (III) • United Kingdom (806) .-~Transcontinental(Europe and Asia) Africa , .,

? ~.~....

• Turkey (179) • Egypt (27) 4, • Russia (63) • Morocco(4)

. ~

"Data as o 2013if Source: "How Many Starbucks are There? ", 1'WlVW,loxcel,comlsbu.x{aq,hlml

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Exhibit II

Starbuck. Financial Information

As of and For the Fiscal Year Sep 30, Oct 2, Oct 3, Sep 27, Sep 28, Ended 20t2 2011 2010 2009 2008

Results of Operations In millions except per share data Net revenues:

Company-operated stores $ 10,534.5 $ 9,632.4 $ 8,963.5 $ 8, 180.1 $8,771.9 Licensed stores 1,210.3 1,007.5 875.2 795.0 779.0 CPG. foodserv ice and other 1,554.7 1,060.5 868.7 799.5 832. I Total net revenues $ 13,299.5 $ 11,700.4 $ 10,707.4 $ 9,774.6 $ 10,383.0

Operating income $ 1,997.4 $ 1,728.5 $ 1,419.4 $ 5620 $ 503.9 Net earnings including 000- 1,384.7 1,248.0 9483 391.5 311.7 controlling interests

Net earnings (loss) attributable 0.9 2.3 2.7 0.7 (3.8) to non-controlling interests

Net earnings attributable to 1,383.8 1,245.7 945.6 390.8 315.5 Starbuck.

EPS - diluted I.79 1.62 1.24 0.52 0.43

Cash dividends declared per 0.72 0.56 0.36 - ~ share

Net cash provided by operating 1,750.3 1,612.4 1.704.9 1,389.0 1,258.7 activities

Capital expenditures (additions 856.2 531.9 440.7 445.6 984.5 to property, plant and equipment)

Balance Sheet

Total assets $ 8,219.2 $ 7,360.4 $ 6,385.9 $ 5,576.8 $ 5,672.6

Short-term borrowings - - - - 713.0 Long-term debt (Including 549.6 549.5 549.4 549.5 550.3 current portion)

Shareholders' equity 5,109.0 4,384.9 3,674.7 3,045.7 2,490.9

Note: Starbucks fiscal year ends on the Sunday closest to September 30. Thejiscal year elided 0" October 3, 2010 included 53 weeks with the 53rd week/ailing in thefourth fiscal quarter. Source: "Starbucks Corporation Fiscal 2012 Annual Report", hltp:llinvestor.starbucks.com, 2012

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•

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R 'IV I

Exhibit III f Coffee in China (in billions of Yuan)eta I a ue 0

0 INSTANT COFFEE• FRESH COFFEE /II8 /III

""' 6 .... ~I.. 4 - <t -,.. '~i.... II~ 2 ~I

0 '06 '08 '10 '12 '14

10 billion yuan =$1.60 billion "Data courtesy Euromonttor International

Adapted from Laurie Burkitt, "Starbucks Plays to Local Chinese Tastes", hrrp:l/online,wsj.com. November 26,20/2

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Exhibit IV

Key Competitors of Starbuck' in India Cafe Coffee Day

Cafe Coffee Day (CCD), a division of the Amalgamated Bean Coffee Trading Company Ltd. (ABCTCL), opened its first store in Bangalore in 1996. By 2013, it had grown to become India's largest coffee retailer, with exports to Europe and the Middle East. It had over 1.319 outlets in 140 cities across 28 states." ceo offered everything related to coffee including take-home products and equipment. To attract customers, CCD had also revamped its menu, CeD stores on National Highways served Indian staples like idlis (rice cakes), dosas (rice crepes), pararuhas (flat bread), and biryani (vegetable rice) to travelers. CCD Lounge customers were allowed to cook up their own treats with a do-it-yourself menu. CCD functioned in three formats -- lounges. cafes, and kiosks. The company had plans to expand its chain to 2000 stores by 2014.38

Barista Lavazza Batista, the second largest Indian coffee chain, was established in 2000. It was acquired by Italian coffee products manufacturer Lavazza in 2008 and came to be known as Barista Lavazza. Barista Lavazza, by 2013. operated more than 31839 outlets and offered menu items like espresso, lattes, cappuccino, and various pastries, in addition to basic coffee. Costa Coffee Costa Coffee was a British coffee retailer which entered into India in 2005, franchised by Devyani International RJ Corp. in India. It was the first international coffee chain to start operations in India. As of 20 13, it was predominantly operating in the north, east, and western parts of India with 95 stores of which 1240 were located in Bangalore (South India). In spite of its late entry, Costa Coffee claimed the highest average realization per customer. The retailer was aiming to become a mass market player. It planned to open new channels such as outlets in airports, multiplexes, etc., in order to maximize its consumer touch points to penetrate deeper into the market. It was also opening stores with an increased average area of 1300 sq ft to accommodate more customer footfall. Besides, it was adopting location-specific branding strategies to drive footfall and was allowing local store managers to design their own brand strategies. The average age of its customer was 25-28 years, but Costa Coffee aimed to reduce it further by building strong propositions for a younger audience. It had also launched a Facebook page at the beginning of 20 II. Dunkin' Donuts In February, 2011, Dunkin' Donuts entered into a franchise agreement with north India-based Jubilant Foodworks, (which also managed the Domino's pizza chain in India) and opened its first store in May 2012 in New Delhi. Dunkin' Donuts earned a unique position globally for pairing coffee with donuts and bagels. It banked on food to capture a share in the Indian coffee market. Ajay Kaul (Kaul), Jubilant's CEO, opined [hat Dunkin' would gradually expand its westernized menu to include indian fare and had plans to look at all formats for the new stores, including 100 to 150 square-foot kiosks. The target was to open 30 outlets in three years and increase to 100 in the next five years." Gloria Jean Gloria Jean's Coffees, was an Australian-owned global specially coffee company. In 2008, it collaborated with a Dubai-based retail group, the Landmark Group, and opened its first cafe in India. By 2013, the chain was operating 15 outlets across New Delhi, Mumbai, Bangalore, Hyderabad, Chennai, and Pune. However, Gloria Jean's regional general .manager: T~ny While, planned to increase that number to 25 by the end of th~ year, and t~en increase It eightfold to 200 by 2014. For the first time, the company was sourcing and roasting coffee beans outside of Sydney; in this case, in India itself.

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Javagreen

Javagreen, an Indian chain with a mix of store in store formats ~d indepe~ldenl outlets, w~s started by the Reliance Group in 2003 as just an add-on service ~t.Reh~l1ce Infoc?mm, S WebWorld stores.", As of2013, Javagreen was operational across 10 cities with 90 loca~lons In in Lucknow, New Delhi, Chennai, Bangalore, Hyderabad, Kochi, Ahmedabad, Murnbai, Pu~e. and Kojkara." It opened stores in locales like colleges and office campuses that had a captive audience. In exchange for free space and electricity, the i~stitutions dem~nded a 10% to 20% discount on all of Java Green's offerings. The company aimed at generanng volumes for Java Green and also to bring in subscribers for Reliance Telecom. The Chocolate Room

Two Indian Techles as master franchisees brought Australia's The Chocolate Room (TeR), to the Indian coffee market in 2007. TCR had 40 outlets by 20 II and aimed to add 10 more by 201244, comprising standalone shops and kiosks in malls. Cafe Mocha

Cafe Mocha opened its first store in Mumbai in December 200 I. With 19 operational outlets across the country and its own central kitchen, Mocha has developed a reputation for providing a unique menu along with a Mediterranean look catering to the younger generation. Others

There were other coffee chains that operated in the Indian market like Brewberrys Cafe , which opened in 2008 in Vadodara, Gujarat, and had 27 stores across India by 2013. Blue Foods, the master franchisee of the US-based coffee chain Coffee Bean & Tea Leaf, launched 16 stores in India. Cafe Pascucci was an Italian coffee brand which entered India with the launch of its outlet in Bangalore. Madhura Beverages was the exclusive master franchisee for this brand in India and planned to set up 60 outlets across the country. Di Bella Coffee India was an Australian coffee manufacturing company, which opened a chain of coffee shops in Mumbai and Hyderabad. The chain operated 12 outlets across the two cities. Coffee N U was a chain that was started in 2008 in Bangalore and by 2013 had a presence in 35 locations across India. Hindustan Unilever also extended its only coffee brand BRU to a cafe chain, the BRU World Cafe and had six outlets across Mumbai. Another coffee chain named Cuppa Joe, was an independent cafe launched by Umbrella Hospitality in April 2012 in Mumbai. All these smaller coffee chains were exploring the possibility of expanding to other areas in India. Compiledfrom vanous sources.

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Exhibit V

Car. Competition in India

(afe(offet Day(Indlil) 1•••••••••••••••••••••••••••••

B,M'ltt,I,1 J••••••• ns

(o~taCOflet' IUKI _ 100

Mochallndl3) lB

Coffee Bean &. Tea l~af 17

(Callfomia)

GloriaJean'.IAuSlralial 17

Dunkin Donuts 5

lMas5athu$tUsj

Starbuck. ,

r------ ..., Note: Number of Stores as of September 2012; hcept star bucks which were opened in the beginnins in OCtober 2012

Adapted from: Mellisa Allison, "Starbucks brews following in India where tea is supreme ", http://seattlelimes.com, January 27, 20/3

Exhibit VI

Comparison of Star bucks' Prices in US and India

Average Income (in U5$)

In~: f 1,490 48,429

Starbucks Prices

Murg (chicken) tikka panint 2 .•

·• chicken sausage, egg white wrap ~

3.25 'C Char-grilled potato and pepper 2,42c•~

vegSie,egg and Monterey Jack 3.45

t: E 1.67, ::; Blueberry 1.95

• 3.35 E Caramel Frappucdno 4.25~,

Brewed Coffee 1.95c• 1.95::; 2.51

Cappuccino 3.35

Note: Average Income is a mean, computed by dividing GOP by population All drinks 16 ounces; and all prices before taxes (in U5$)

Adapted from: Mellisa Allison, "Starbucks brews following in India where tea is supreme", http://seatt/etimes.com, January 27, 2013

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1,350

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End Notes:

" " "

Anushree Bhattacharya, "Pour out the coffee", www.flnancialexpress.com, March 5, 2013 Megha Bahree, "Starbucks Will Open Cafes in India", http://online.wsj.com, January 31, 2012 "India's coffee market competition is ferocious: Howard Schultz, Starbucks", hnp:l/anicJes.economictimes.indistimes,com, October 25, 2012 "How Many Starbucks are There?", http://www.loxceLcom/sbux-faq.hlml "Starbucks Corporation Fiscal 2012 Annual Report", http://investor.slorbucks.com, 2012 "The Globalization of Star bucks and lts Effect On the World", hnp:/Isiulaw.typepad.com, September 28, 2011 Laurie Burkitt, "Starbucks Plays to Local Chinese Tastes", hltpJlonline.wsj.com, November 26,2012 Ibid.

"ColTee output in 2013-14 likely to be same as last year's", hup:llanicles,economictimes.indiatimes.com, May 30, 2013.

Neena Rai and Debi Nayak, "India's Teste lor Coffee to Affect Bean Prices", hllpJlonline .w'Sj.com,March 17,2013 "Capturing India's Percolating Coffee Market", hup:/lknowledge.whanon.upenn.edu, July 1,2011 A Basu Majumdar, et al., "Tea Statistics- Global Scenario", www.teaboard.gov.in,January2012 varun Jain, "Tea Time", www.waghbakritea.com.March-ApriI2012 "Starbucks to open outlets in more Indian cities", http://timesofindia.indiatimes.com, April 7, 2013 "Capturing India's Percolating Coffee Market", httpJlknowledge.whllnon.upenn.edu,July 1,2011 [bid.

Diwash Gaherre], "The Business of Coffee Chains in India", http://zeenews.india.com,2013

Neena Raj and Debi Nayak, "Coffee Culture Catches on in India", www.business ....'itboutbcrders.corn, March 27, 2013 Ibid.

"Unsure Starbucks defers India entry", http://anicles,economictimes.indiatimes.com,July21, 2007 "Starbucks, Teta Coffee sign pact for collaboration", www.thehtnducom.January 13,2011 "Tala Global Beverages and Srarbucks Form Joint Venture to Open Starbucks Cares across India", http://news.starbucks.com,January30,2012

"India's coffee market competition is ferocious: Howard Schultz, Starbucks", http://articles.economictimes.indiatimes,com,October 25, 2012

Rumman Ahmed, "Starbucks Delays India Entry", http://blogs.wsj,com,September 13, 2012 Sujey Medhe, "Srarbucks Opens Store in Delhi", www.lhehindu.com.February6.2013

Shobe Narayan, "Srarbucks Has to Wake Up and Smell the Coffee in India", www.thenational.ae. February 5, 2012 Ankush Arora, "Starbucks in India: Taste Trumps Price as Fans Rush In", http://blogs.reutcrs.com,ApriI4,2013 Neena Rai and Debi Nayak, "Coffee Culture Catches on in India", wv.w.businesSwithoutborders.com, March 27, 2013 Ibid,

Anushree Bhattacharya, "Pour out the coffee", www.financialexpress.com. March 5, 2013 "Can Starbucks make it in lndia?", http://theweek.com,OctoberI9,2012 "India's cofTee market competition is ferocious: Howard Schultz, Starbucks'' hltp;//articles.economictimes.indiatimes.com, October 25,2012 ' "Can Starbucks make it in India?", http://theweek.com, October 19,2012

Anu Barana, "Indeed, A Lot Can Happen Over Coffee!", www.indiahospilalityreview.com. February 12,2012 "Coffee giant Starbucks 10 open outlets in more Indian cities", http://indiatoday.intoday.in, April 7, 2013 Ibid.

Diwash Gahatraj, "The Business of Coffee Chains in India", http://zeenews.india.com,2013 Ibid.

Anushree Bhattacharya, "Pour out the coffee", www.financialexpress.com. March 5, 2013 "India - Coffee Annual 2013", http://gain.fas,usdrl,gov, May 16,2013

"Jubilant FoodWorks to open 100 Dunkin' Donuts outlets in Ind',. hup:l/articles.economictimes.indiatimes,corn, July 25, 2012 in 5 years",

Anuj Byotra, "Coffee with Reliance: Java Green," BII~iness World, December 200l www.java-green.comlabout.htm

"Capturing India's Percolating Coffee Market", hltp:llknowledge.wharton.upenn.edu, July 1,201 I

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INSEAD INS322 --~y~--

The Business School for the World~

The Takeover of Arcelor by Mittal Steel:

Change in a Mature Global Industry (B)

Industrial Strategy

04/2014-5412

The case was written by Martin flash, Managing Director of Mega Associates, with the help of Professor Jonathan Story, Emeritus Professor of International Political Economy, INSEAD, Fontainebleau, France; and Professor James Burnham, Murrin Professor in Global Competitiveness, Donahue Graduate School of Business, Duquesne University, Pittsburgh, Pennsylvania, USA. The case used published sources. It is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation.

Additional material about INSEAD case studies (e.g., videos, spreadsheets, links) can be accessed at cases.insead.edu.

Copyright © 2007 INSEAD COPIES MAY NOT BE MADE WITHOUT PERMISSION. No PART OF THIS PUBLICATION MAY BE COPIED, STORED, TRANSMrrrED, REPRODUCED OR DISTRiBUTED IN ANYFORM OR MEDIUM WHATSOEVER WITHOUT THE PERMISSION OF THE COPYRIGHT OWNER.

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ICMR las Center 1G/Management J!elGCIrch wW-wJCrl'iilndlo o-rg

ISSCenter tor Management Research

China's Pearl River Piano - Tuning into the Global Market

This case was written by Namratha V Prasad, under the direction of G V Muralldhoro, ISS Hyderabad. It was compiled from published sources, and is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of a management situation.

IBS Center for Management Research (lCMR) IFHE Campus, Dcnthonopolly,

Sankarapally Road, Hyderabad-501 203, Andhra Pradesh, INDIA. Ph: +919640901313 E-mail: [email protected]

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ICMR lIS ClUtter lor Manogamllnt RIU'Olch Wi" Iciilifn(llo o,g

China's Pearl River Piano - Tuning into the Global Market

"Our success in Western markets, the cradle a/the piano's history, is the only true testimony 10 the high quality of our products. ,,/

- Tong Zhi Cheng, Former CEO of Guangzhou Pearl River Piano Group Ltd., in 2009.

"In the history 0/ mankind there probably 1I0S11't been fS good an entry-level plano. (Pearl River} ... doesn 'Iplan on being second-best. lJ.

- Robert Witmeyer, Owner of San Jose Piano Company'\ in 2002.

INTRODUCTION

In January 2013, China-based Ouangzhou Pearl River Piano Oroup Ltd. (PROP), the world's largest piano manufacturer, introduced the 'Kayserburg Artist' brand of pianos at the National Association of Music Merchants (NAMMt convention in Los Angeles, US. After the launch, the pianos were distributed across the US through PROP's dealer network, the largest network for a piano company in the US. PROP was the market leader in the American mass market for pianos (See Exhibit I for an Overview of the Global Piano Market). With the Kayserburg brand, PROP intended to create a place for itself in the higher end of the market, thereby having a presence across the entire US piano market.

PROP, a Chinese state-owned enterprise, was founded in 1956. In its early days. the company used a mix of German production methods and indigenollsly developed techniques to produce pianos using imported components. The Chinese Economic Reforms' in the late 1970s gave a major boost to piano sales in China. This enabled PROP to build up its production capability to cater to the growing demand for pianos in the domestic market.

Under the leadership of Tong Zhi Cheng (Tong), who became the CEO of PROP in 1992, the company began focusing on international markets. In order to create an impact in the foreign markets, Tong undertook measures to enhance the quality of the pianos. Over the years, PROP invested heavily in the implementation of automation technologies and new production methods. Tong also brought in several international piano consultants to advise PROP on methods to improve its production processes.

I Ding Weniei, "TIle Return of the King," ww\v.bjreview.com.cn, May 15,2009.

2 Kerry A. Dolan and Quentin Hardy, "The Challenge from China," www.forbes.com. May l3, 2002. J San Jose Piano Company is a privately held piano rental and leasing company in San Jose CA. It was

established in 1975 and had annual revenues of around US$ 500,000, as of20 12. •

4 The National Associati.on of Music Merchants (NAMM) started in 1901 is the world's largest music products trade Show. It IS held annually In the month of January in California. US.

s 'Chinese Economic Reform' began in 1978after refo~mistswithin the Communist Party of China (CPC), led by Den~ X180Plng, opened. up the eoul1tr~ to foreign Investment and brought in privatization of state- run enterprises, From 1978 until 2013, the Chinese economy grew almost 9.5% each year.

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In 1995, in a bid to gain management ti '. d '. " . . exper Ise In producing pianos of global quality, the company

subsidi Int? a jomt venture with Yamaha Corporation'' (Yamaha). In 1999 PROP set up a sales SU 51 lary In the US In 2000 with h", I

.' ,I t e mtenuon of adding brand value and creating a foothold in the European plano markets, it acquired Germany based 'Ritmuller Piano Company' (RitmuIJer).

By 2000, PROP was a market leader in the Chinese piano market with a market share of more than 60% ~nd a 50% l~arket share in the Chinese export market. Moreover, it held 5% of the market share In l.he US plano market. By 2002, PROP became the leading manufacturer of pianos in the w~rld, with an output of 71,000 units per annum. In 2002, global piano production was 700 000 unl~. t

However, by the mid-2000s the global market for pianos had shrunk due to a fall in interest in learnin.g and ~wning pianos. The company then refocused its efforts on creating a place for itself in the Chmese plano market that still had room for growth, especially in the higher end of the market. In 2007, the company introduced the Kayserburg brand of pianos, targeted at professional piano players. Over a period of time, the success of the Kayserburg brand in China contributed to all increase in the company's sales and profits.

As oflOl3, PROP held 28% of the market share in the Chinese piano market, 18% of the market share in the American piano market, and 15% of the market share in the European market." The company sought to further increase production of pianos through capital investment.

BACKGROUND NOTE

In the 18905, a few Germany-based piano manufacturers constructed factories in China to produce European pianos for the locals. In the 1950s, the Chinese government nationalized these factories that had still been producing pianos using German production methods.

In 1956, six small piano repair shops merged together to form 'Pearl River Piano Company' (PRPC) in Guangzhou, China (See Exhibit I!lor Timeline 0/ the Company), The combined entity was made a state-owned enterprise, accountable to the Guangzhou municipal government. Located in the northern region of the Pearl River delta, Guangzhou was an important trading center, key port, and capital city of the Guandong province.

The company primarily undertook repair and rebuilding work on pianos for a small market. The company's technicians then tried producing a piano. After they successfully developed a piano model which was purchased by a customer in Hong Kong, the company took up piano production in earnest. The pianos were sold under the brand IPearl River'.

In the first year of operations, the company's 100 employees produced around 13 pi.anos. This was quite a noteworthy achievement considering that there was hardly .an~ ot~er Chll1~se ~ompany producing pianos at that lime. In its early years, the company built Us pianos usmg Impor~ed components that included plates, actions, ke~boards, and olh~r hardw,are. from overseas compon.les However, the company's inexperience in plano manufactur~ng and Its Improper .wood.seasom~g practices meant that the early piano models ~eve~o~ed by It were flawed both JI1 design and In quality. The company produced about four upright pianos a month.

6 Y ah C ' f ndedin 1887 is a Japan-based multinational corporationoffering a wide rangeam a orporanon, Oll '.. I' I d f d d ' vhich includesmusical Instruments, e ectroucs, mororcyc es, an power sportso pro ucts an servrces;v J

equipment. 7 www.pearlriverpiano.cn . . ., , .• e ' I '01' configurations namely the Upright Plano and the Grand Plano. TheModern pianos lave two mej ' , '. fr d rri , 1

. , 'I II d 'Vertical Piano'iscompactandIts amean s nngsare vertrcai.'Upright Plano a so ca e

I I

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During the 19605 and 19705, Mao Zedong'i's Cultural Revolution" left the Chinese wary of either owning a piano or learning to play it, as this was believed to be a symbol of the ext~ava~ant Western lifestyle. This scenario adversely affected the prospects of the company, causing It to maintain low production levels. Up till the mid-1970s, the company produced .Iess than 1,000 pianos each year. Speaking about that era, Tong said, "We didn't have ~ostop m~klllg them but we can't have sold more than a hundred or so a year back then. Learning the plano was frowned upon.':"

After China brought in economic reforms in the late 19705, the compa~y experienced 8 spike, in sales. The Chinese government's large scale planning programs along with a relaxed export policy resulted in rising incomes that dispelled poverty and improved the standard of living of the people. The one-child policy" that was brought in as a part of the reforms, encouraged parents in China to invest significant resources in the academic, cultural, and personality development of their only child. Speaking on this issue, Tong said, "It's not just in developed areas. People like to spend money on their children to improve their educational level. It's a cultural investment.':" A large number of parents believed that piano lessons were a good way to raise a cultivated and disciplined child and they went in for the purchase of a piano. The total annual sales of pianos in China grew from 20,000 in the early 19805 to 60,000 by 1992.

In 1987, the company was granted permission to export its products, and it began hunting for partners and markets abroad. The same year, the company began operations at its new five-storied factory in Guangdong which was spread over a total space of one million square feet. The company was renamed 'Pearl River Piano Industrial Corporation' (PRPIC). In 1988, the company implemented 'Total Quality Management'!" (TQM). Between 1985 and 1995, the production capacity of the company increased by almost five times, reaching 4,000 units a month.

In 1992, Tong became the Chief Executive Officer (CEO) of PRPIC. He had joined the company in 1959 as a piano tuner. Over the years, he had risen through the ranks having held various manufacturing and sales positions.

Tong was disappointed that 'Pearl River' pianos were perceived to be of low quality and that this was the reason for the very low exports. Moreover, even in the Chinese domestic market, the company was not earning much when compared to foreign piano makers, as its pianos were priced low. At international events, where the company showcased its pianos, people would come and play the pianos but leave without buying them. Speaking about the issue, Tong later said. "Fifteen years ago, dealers would come to the NAMM (National Association of Music Merchants) show, sit down and play our pianos, and then leave. Rather than continue in our ways, we took these criticisms to heart and set out to build a piano that could compete with other fine pianos of the world.':" He specified a clear goal for the company: To produce high quality pianos that could compete effectively in the global space.

9 Mao Zedong, born in 1945, was a communist who later founded the People's Republic of China. He formulated the political theory of Maoism, wherein emphasis was placed on the uplift of the peasant class.

10 The Cultural Revolut!olllasted.from 1966 t.il!Mao Zedong's death in 1976, During this period, people who showed bourgeois tendencies were punished by groups of young people, who called themselves the 'Red Guards'. China plunged into a period of chaos, which resulted in the deaths of millions of people.

II "Piano MakerTunes into China's GrO\..'ing MiddleClass," www.chinadaily.com.cn.JUly2, 2004. 12 The One-child policy introduced in 1979 allowed a couple to have only one child. The policy was

implementedto alleviate the social, economic, and environmentalproblemsthat were plaguing China. 13 "Piano Maker's Keyto Success," hLtp:/lapp1.chinadaily.com.cn,July 8, 2004. I~ Total Quality Management a:QM) is an .organization·~de approach to management that seeks to

Improve the products and services by conlUlLJouslyrefining the production process after receiving the right feedback. I '

IS "Inside Pearl River PiWlO," \\lww.highbeam.com,February I, 200I.

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ENHANCING TECHNOLOGY

To improve the quality of its pi I'RPIC . . . .ianos, Invested heavily In technology and Invited piano experts from around the world to guide it in its production processes. Over the next several years the company spent RMS16 500 million to modernize its production equipment and technology: One of th~ first ,experts to be brought in for consultation was Bud Correy (Correy). A manu:ac~unng engmeer, ~orrey had been involved previously in designing the piano plants at America ~ Rudolph Wurhtzer Company", He had been actively involved in quality control and was considered to be the foremost expert in that field. He worked almost 10 years with PRPIC to help streamline its production processes.

At that time, PRPIC was producing pianos through a hand machined manufacturing process that was labor intensive. Correy advised the company to invest in automation, He reasoned that the new t.echno~ogy would improve the company's finished product, enabling it to compete more effectively 111 Western markets, The low labor rates in China were the main reason Chinese companies did not take up automated production processes. However, with Tong specifying that his main goal was to improve the quality of the company's pianos and not cost savings, the company did not hesitate to make the required investments. Speaking about the technology implementation at PRPIC over the years, Tong said, "We are not looking for the most cost- effective solution as we improve our piano operations. Rather, we are always lookin~ for the best solution. And, in many cases that requires a very large investment in new machinery." 8

Consequently, PRPIC invested in CNCI9 machines from Germany, Italy, and the US. These machines were utilized in cutting keys, hammers, and other important components. The company also air-conditioned its key and action department to facilitate control of humidity levels and prevent warping of the wood parts, Correy was credited with revamping and automating the final assembly line, soundboard and back departments too, Speaking about Correy, Tong said, "He systematically looked at every area of production and figured out how to make them better.':"

In 1993, two German experts were brought in to help refurbish the quality of the tuning process. The resultant changes helped enhance the quality of the pianos and enabled the company to raise the price of its pianos by 10%, Later, Tong invited seven expatriates from Germany and the US as consultants and advisors to guide PRPIC's technicians and workers on the piano manufacturing process, On the advice o~th~ experts, the company a,cquired a ~e\V cabinet finishinfl process. Th2~ Italian-built polyester finishing system not only applied the finish, but also sanded and buffed the piano to give it a smooth, glossy shine. PRPIC shelled out large amounts of money for these foreign experts, each of whom charged almost US$ 3,000 per day - more than double the then annual income of the average Chinese staff. However, the company did not completely eschew manual processes: Tong believed that there ~as a need for manual work in certain production processes to have a finished product of beuer quality. Even though the company had two computerized labs to test the final products, Tong trained up to

16 The Renminbi (RMB) is the official currency of tile People's Republic of China, lt is also known as the Yuan. I RMB = O.t 6 (USD)(Average rate lor 20 13).

17 Rudolph Wurlitzer Company founded in 1853 was a US~b~sedcom~any rnat.produced V~riOliS stringed instruments, electric pianosandJukeboxes, lt was later acquired by GIbson GUitarCorporation.

19 'S I' th D·str,·hutionChannelat Steinway & Sons," http://digitalstrategies,lUck.darl1110uth.edu,, trengt lenmg .e I February 15,2007.

19 CNC or Computer NumericalControl is used in machine tools to automate the process through computer control. ')

20 ., til "Right Methods"" \V\.vw.englandpiano.com,December _006."lnvesnng 111 e I, . 21 .. 1 I olishing or smoothingwith sandpaper or a mechanical sander,Sanding IS uie process 0 P " 22 Buffing is the process of polishing or shining with a piece of soft material.

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100 skilled technicians to test and adjust the product. He also believed that manual sanding was better for giving a brilliant finish to the pianos. He therefore ensured that workers used hand tools and sandpaper to eliminate imperfections from the rough casting.

Even though PRPIC paid a fraction of what its counterparts in the US and Japan paid, it ";85 considered to be a good employer. It provided several benefits to its emp~oyees, apart: from paying wages of US$ 1 per hour for a 45-hour week. It provided free transportation through Its flee~ of 40 buses and free lunch, offered medical compensation, and deposited. a fixed a!nount mt? a government supervised pension plan. Moreover, employees had the option of paying a nominal amount to stay in company provided housing.

While pianos were a common household item in the US and Europe, they had always been considered a luxury in China. Tong believed that understanding the piano culture would enable the company to build world class pianos. He encouraged PRPIC's managers to learn the piano, while he himself' was an outstanding pianist. He added, "You must remember that the piano was truly a foreign object to the Chinese people. It was not a situation like you had in Europe where people had been making pianos since 1700." 23

PRPIC also benefited from the wide availability of raw materials for piano making in China. This gave the company a competitive advantage over Korean and Japanese piano manufacturers. For all the components, except for the soundboard, China had domestic sources for the wood. However, PRPIC, like the rest of the world was dependant on Sitka spruce" from North America for its soundboards,

In collaboration with 'Guangzhou Energy Research Institute' of the 'Chinese Academy of Sciences', PRPIC launched a project to better understand the science involved in drying timber. This knowledge was needed to enhance timber processing that ultimately determined the quality of a piano. Eventually, the company developed a proprietary technology that was used to develop computer controlled kilns, which improved the timber quality. In the company's own lumber yards, spruce, pine, maple, and Chinese walnut wood were carefully processed and then dried in computer controlled kilns. In order to ensure consistent conditions, PRPIC introduced climate control for its entire production process.

JOINT VENTURE WITH YAMAHA

In 1995, PRPIC entered into a US$ 10 million, 20-year joint venture agreement with Yamaha. The lV was called 'Guangzhou Yamaha Pearl River Piano Inc.' A 200,000 square foot facility was established in Guangzhou as part of the Jv. The facility was actually an assembly unit that built three models of upright pianos using a combination of parts from both Yamaha and PRPIC. The facility employed 250 people and had the capacity to build 9,000 upright pianos in a year. While PRPIC would get 40% of the output, the rest was for Yamaha.

Through this Jv, PRPIC lear~t management techniques, manufacturing expertise, and knowledge fro~ an ~xpeflenced competlto~ .. On the other hand, Yamaha achieved access to the growing Chinese plano market and the ability to manufacture export-quality pianos at competitive prices. From 1996, Tong initiated several steps to promote the 'Pearl River' brand as a Chinese national brand. The company built a wide sales and distribution network in China and was the first Chinese company to have a nationwide distribution network. Tong strove to build alliances with distributors and musical schools and colleges in a bid to promote pianos. He built up close relationships with famous pianists and request~d them to play on 'Pearl River' pianos at their concerts. The company also sponsored several piano concerts and competitions.

23 "Investing in the "Right Methods"," \\IWW.englandpiano.com, December2006.

24 ~ilk? spruce, a .nativeof.Nort~ America, is ~ I~ge coniferous evergreen tree growing almost 100m tall. It IS WIdelyused III producing pianos, harps, violIDS, and guitars, due to its high strength-to-weight ratio and the presence of regular, knot-free rings that make it an excellent conductor of sound.

CHINA'S PEARL RIVER PIANO: TUNING INTO THE GLOBAL MARKET

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In late 1997, the Chinese governm t k d PRP ow d icat : en as e re to take over several smaller loss-making state-ne musrca instrument manufa t Th ' ,

• <:: • .' curers. e new entity consisting of a guitar factory a percussion rectory and a violin facto b II d ' 'Ltd RGP " . . ry ~ame to e c.a e the Guangzhou Pearl River Piano Group : .(p ) . Over a period of ume, Investment In organization and productivity helped these

ennues to return to profits Sp k' he i ,f ili . . ea log on t e Issue, Tong later said "Most of these companies were the trig badly In the mid-90s and losing a lot of money. In late 1997, the government decided that y sh~~ld become part of the Pearl River Group since we had such a strong record of

profitability. We are pr~u? that the workers in these factories are making almost three limes as much as when they first joined the Pearl River Oroup.?"

In 1998" PRPG became the first Chinese piano company to obtain the ISO 9001" quality cert~ficat~on. In a scenar~o that was rare for even a US-based company, PRPG received the certification not only for Its complete line of grand and upright pianos but also for its parts and components. Tong added, "Like a certified financial audit that verifies the assets and liabilities of a corporation, an ISO 9001 certification verifies that a company maintains and documents the highest quality standards.?"

MAKING INTERNATIONAL FORAYS

The Chinese piano market had become overcrowded by the late 1990s. The entry of hundreds of private companies offering low priced and low quality products drastically increased the competitive pressure on PRPG. Tong then trained his sights on international markets, especially the US. Tong said, "As [foreign companies] come to China, we not only need the domestic market, we also need the international merket.?"

In the late I980s, PRPG had relied on US-based importers to sell its pianos. However, the company failed to find a market for its pianos in the US, mainly due to the perception that Chinese products were of low quality. Moreover, it had tried to find a US-based piano builder as a partner, but was unsuccessful ill finding a partner who would not look upon it as a competitor.

Tong then decided to directly sell 'Pearl River' pianos in the US market and target the mass market. In 1999, the company set up its US~based sales subsidiary, 'PRPG America, Ltd.' (commonly referred to as 'Pearl River USA') in Ontario, California. The Ontario center had a showroom and a distribution center. Tong was confident that direct selling would enable PRPG to carve a niche for itself in the mature piano market of the US. He believed that the low labor cost involved in making' Pearl River' pianos would prove to be a strong competitive advantage. Making pianos in the US was a costly affair. The cost was six or seven times more than that of manufacturing in China due to the high labor costs involved in some of the manual processes inherent in piano production. Tong believed that he could take advantage of the low labor cost in China to produce high quality pianos at lower prices and offer them in the US market. PRPG sold its pianos from US$ 2,000-4,000, with an extremely thin profit margin. Tong was also attracted to the U~ piano .mark~t because it was the world'.s biggest ~arket and American customers displayed an Interest m trymg out ~ew brands that prOVide? value fo~ money. Moreover, there were no import restrictions in the US plano market because or Its small size when compared to other industries.

2' "Investing in the "Right Methods"," www.englandpiano.com. Dece~lber 2006.. . . . 26 ISO 900 I is part of tile series of standards published by the Internatl~nalOrdganl~tlO.n drorS~andardlZatlOn

(1 ) If ctive quality assurance system for manufacturing an service III usmes.

SO to ensure an e e 27 "I inain th "Right Methods"," www.englandpiano.com.December2006.

nvestmg me' " I d Q tin Hardy "The ChallengefromChina," www.forbes.com,May 13,2002.

Kerry A. Do an an uenI ,

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Takingcognizanceof the limitedinternati,onalma~~~e(~~~)~~C~~~I~C~h~fs~:s~~~~~~ a;:st~~ importance of the US market, Tong rec~ulted .AI lC

US ' . d stry Rich recruited local staff

American who had long years of experience In the plano In u', .' . . ti f . n d American salespeople Speaking about the Issue of hiring local staff,ccnsrs tng 0 expene ce '., di t lbuti h

Rich said, "Any company that's come from Asia and tried to manage Its own IS n unon as failed.,,29

The strategy to use people with knowledge of the American piano ~arket coupled. with ~n offering of low cost but high quality pianos paid off. Withi,n two years, Rich succe~ded IJl g:ttl~,ga,lmost one-third of the specialized retail piano dealers In the US to carry the ~eQ1:1~lveJ pla~os. Speaking about the long term goals of PROP, Tong said, "Our biggest mO,t,vat,on In the United States (US) right now is to allow customers [Q know us and bring home our pianos. The money can be made gradually. ,,)0

BUlLDING BRAND POWER

In 2000, PRPG acquired Rirmuller with its brand license and piano manufactu~ing technologr- Founded in 1795 by Wilhehm RitmulJer, the company was one of the first p,lanos ~aker.s m Germany and the world. Ritmuller had the reputation of being o.ne of th~ most mnovauve 'plano makers in the world, having developed the double soundboard 10 the plano thal resulted In the "Euro Sound" a distinctively warm and rich lone.

However, RitmuJler had ceased production in 1977. Ritmuller's style of small-scale handcraft- based piano making could not continue in a world where pianos were produced on a mass scale at low costs. A piano consisted of 8,000 components, its production process involved 300 steps, and it took 200 man hours of skilled labor to produce. Before PRPG and others came into the picture with their mass production methods, 60% of pianos and almost 80% of high end pianos were produced completely by hand. Automation cut down on the time and effort involved in production.

The acquisition of Ritmuller was undertaken by PRPG to boost its international image and get a foothold in the European piano market. PRPG planned to produce new Ritmuller pianos in a special division at its Guangzhou factory. The pianos were to be based on the scale designs of Ritmuller pianos that had been successful in the past. In a bid to maintain the unique brand image of the Ritmuller, PRPO used only the finest materials in their production. PRPG later marketed the Ritmuller across the world, including in the US.

Soon after, PROP acquired the research & development center of another Germany-based piano manufacturing company, Rudisbeimer. This acquisition not only provided it with advanced piano production teehnology, but ~Iso helped it garner 40% of the US uprijjht piano market. PRGP also tied up with US·based furniture manufacturer, Herman Miller, Inc. in order to develop pianos that would complement the interiors of modern homes.

As of 2000, PROP had more than 200 sales units in China. It was a market leader in the Chinese Piano market with a market share of more than 60% and a 50% market share in the Chinese export market. Though the company produced various kinds of musical instruments the piano remained its key product. '

By 2?01, PRP,O's market sha~e in the US, th.ough only 5%, was growing fast. The vast portion of l~e pianos which PROP sol~ In both domestic as well as international markets was uprights, In a bid. ~o I.ncrease the pro~uctlon of grand pian.o~, PROP constructed a 500,000 square foot new facility In Guangdong WItha production capablluy of30,000 grand pianos per year.

29 Russell Flannery, "Piano Man," ww\v.forbes,com, May 13,2002. 30 Russell Flannery, "Piano Man," www.forbes.com. May 13,2002. 31 Herman Miller, Inc. founded in 1905 is a US-based producer ofhome furni hi d ffi fumit II

h . f d . . furni I' IS tngs an 0 ce rru ore.as a reputation 0 esrgntng rruture considered to be modernist and has d d I fumit pieces that arc considered icons of industrialdesign. pro uce severe lure

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In 2001, PROP brought in David R. Campbell (Campbell), a veteran piano manufacturer with deca?es of expefJ~nce at several leading piano-producing companies as 'Director of Technical Services'. Tong said "Dave Ca b II Id ibl '. . .. ' . mp e cou POSSI y have more experience and understanding of the p~ano manufacturing process than any other person in the world today. He has been hired to help m~rease OUf quality standards, improve OUf production methods, and help with the orderly eXpanSl?" of grand plano capacity.v? Campbell suggested 22 points of improvement in the production process of PROP's grand pianos, which the company implemented in six months.

By 2002, P~GP had cornered 10% of the US piano market and by 2003; it had managed 10 cut prices by IOYo. In 2002, PRPG overtook Yamaha to become the world's largest piano maker with an annual output of 71,000 pianos. In 2003, the company attained the production capability of 100,000 pianos. In 2003, Music Trades rnagazine" named Tong its music equipment manufacturing "Person of the Year".

In 2004, the company opened its first European office in Munich, where it undertook design, research, and development activities. In April 2005, PRPG was contracted to produce the lower- priced 'Essex' line of pianos for the world's most renowned piano making company, Steinway & Sons" (Steinway). PRPG considered this to be an endorsement of the quality of its pianos.

REV AMPlNG THE OFFERING

Over the next few years, there was a gradual fall in demand for low-end pianos. The key reasons were market saturation and a decline in interest in piano playing among young people. By 2005, global piano production fell from 700,000 in 2002 to 400,000,

In 2007, Huang Weilin (Weilin) succeeded Tong to become the CEO of PRPG. Considering the changed market conditions, he shifted the focus of the company to expanding Chinese domestic sales and increasing the company's presence in emerging markets. Speaking about the Chinese market, Weilin said, "Compared with major developed countries where about 20 to 30 alit of every 100 households already have a piano, China has a huge market potential, especially when factors such as urbanization and increasing family investment in education are taken into consideration.":" The company's market share had fallen in the Chinese piano market and in 2007. it was just aroUl~d 25%. The low end of the Chinese piano market, where PRPG earned wafer thin profits was still highly competitive with the presence of almost 140 competitors. Moreover, the profits were being further squeezed by rising labor costs. Weilin then decided to target the high-end segment in China, wherein there was greater brand recognition and the possibility of higher returns. In 2007, Wei lin recruited. Lothar T~omma (a famous Swiss piano designer), as headofPRPG's design team. He al~o appointed a SWISS ma~ter

duct! . Stephen Mohler (Mohler) Both of them were grven the task of developingpro ucuon engIneer . and crafting a new line of pianos.

J2 'H' V t Campbell to Raise Quality Standards," www.higbbeam.com, September I,"Pearl River Ires e eran 2001. , d I in th 'I d

33 Music Trades magazine foundedin 1890 is an American magazine t~rgelt.e at peop e 10 e musrca rra e , d ' 1 'I s d,'stributorsand manufacturersof music a mstruments.who include music re al er " .' .

34 . d d i 1853 is 8 handmadepiano manufacturing company With a global reputation Steinway & SOliS foun ~,~ tions in pianos 11has offices and factories in the US and Germany. Its for high qualit~and vancodo11~venI. old throu~ dealers and showrooms across the world. The price ofannual production of 3,0 pianos IS S its pianos ranges from US! 60,000-100,000.

3j. . "Th n of the King" www.bjreview.com.cn.May 15, 2009.Dmg Wenlei, e kemrn ,

259

260 --------- 314-093-1

Later, "a factory within a factory" was created by Mohler at PROP's Guangzhou :acili,ty ~o d th ' M hler also personally selected the craftsmen who would assist him 10pro uce e new pianos. a . .

building the pianos, which were made in the European guild system (where each Instrument was built by a team of individuals from start to finish).

In 2007, the 'Kayserburg' brand targeted at professional piano players (the high end of the market), was launched. The 'Kayserburg' pianos had the same production lm~ as that 0; Steinway's Essex brand and were built using imported components. Moreover, the K~serbllrg applied certain technologies that had been developed in China, which included chord disharmony coefficient design theory, soundboard vibration mode analysis technology, and maple-rosewood bending structure bridge design.

In China, the 'Kayserburg' pianos were priced between 20,000 and 60,000 Yuan (US$ 2,000 - US$ 8,000), Speaking about the 'Kayserburg' brand, Liu Bo, a tuner at Beijing-based retailer Jiangjie Piano City Co. Ltd. said, "Pearl River Piano's Kayserburg brand has done a good job as a toddler at the high end. But the brand has to catch up with the world's eminent high-end brands such as Steinway in order to be a select choice in the concert piano market.':"

In July 2007, PROP was awarded the ISO 14001 for environmcntal compliance, In 2008, thc company sold about 3,000 pianos under the' Kayserburg' primarily to customers in China, apart from customers in Singapore, Hong Kong, and Macau. Its sales from emerging markets rose by 25%, mainly due to the new brand.

In 2008, at the peak of the global financial crisis, while China's piano exports fell by more than 70%, PRGP's sales revenues rose by 9% and profits grew by 18%. An independent research report published in 2008, mentioned that PROP was the lone Chinese piano manufacturer that had adopted the strategy of self-branding in western piano markets, apart from exporting as an OEM supplier using its own name.

By 2009, thanks to Weilin's marketing expertise, PRPG posted an impressive increase in sales and profits, As of 2009, the Chinese people purchased half of the pianos produced in the world, The company sold almost 83% of its pianos in China. By 2009, PRPG was the undisputed market leader in the lower end market of the upright piano segment in the US. Its market share in the US piano market was 15%, while its share ?f the US upright piano market was 40%.

OUTLOOK

As of 20 13, PROP was the largest producer of pianos in the world, It had the capacity to produce 100,000 pranos at Its factory that occupied 1.3 million square feet and stood seven stories tall. Almost 80% of the company's pianos were sold in China. As of 2013, China was not only the largest market for new pianos, but was also the one that had a healthy growth rate. Apart from pianos, the company produced violins, guitars, and drums. It was also one of the world's largest guitar and violin manufacturers.

PRGP managed a l~rge workf~rce at a single location. It had over 3,500 skilled technicians within a network of factories, foundries, lumber yards, and saw mills. Of its 106 technicians, many had advanced degrees In ~reas such as adhesives, metallurgy, or chemistry and the worked in its 90,000 square foot testing and engineering lab. Y

PRGP exported its pianos to more than 100 countries and regions It h d dornesti d" ". . a a strong ornesuc an international sales organization and a Wide product service network It h d h 200 d I in Chi d b idl . . . a more t an ea ers 1I1 1I1a,an su sr Jary comparues In the US, Europe, and Macau.

36 Ding Wcnlei, ''The Return or the King," www.bjreview.com.cn.May 15,2009.

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In the US and Canada, PROP was the fastest growing piano company with over 300 dealers. It was one of the small numbers of foreign manufacturers who provided a IO-year part and labor factory limited warranty, apart from offering a US-based technical support team. The company's low price point was considered its main competitive advantage in western markets. Speaking about China- made pianos, Roberta Caradine, a British piano builder, said, "In the late eighties, the first Chinese pianos that we saw in the West were really bad. But now, for what they cost, they're not a bad product. The trade price is only about £600 - it's impossible to compete with lhat.,,37

Despite the strides made by PRGP in the global piano market, it had yel to match the quality of leading global players. Speaking on this issue, an analyst said, "But despite the 66 years of technical knowledge and the continuous efforts to improve added value, the company's (PROP) products still cannot match the world's top piano brands, such as Steinway & Sons of the US and Bluthner" from Germany, in quality,':"

The main reason for the inability of Chinese manufacturers to match the quality of globally eminent players was said to be the lack of personnel to do proper 'tuning' - the final but critical stage in the manufacturing process. Fang Yang, Chief Executive Officer of Bluthner Plano (China) Gmbh", added, "If the pianos we produce in Guangzhou are handled by the Germans during the last procedure, our quality can also match up to German standards. However, one generation is not enough for us to catch up with Germans in piano tuning."?'

PROP brought in a fresh infusion of capital to further fund its producti,on expansion plans, On May 30,2012, PRGP went public on the Shenzhen Stock Exchange, China. By 2014, It expected to increase its output to 160,000 units per annum.

31 "F d Sil "wwwenforbusiness.com, 2009. -a e to 1 ence,. .. Pianofortefabrik GmbH founded in 1853 is a Germany-based piano

38 Bluthner or JulIUS BlOthner . I ighl egarded in the piano market and is a preferred brand of manufacturing company. gluthner IS 11 Y r composers and artists. "1 M h 30 2012

. "CI' Tunes" hnp:llusa,chmadal y,com.cn, arc , . 39 Y Y g and Chen Y mgqun, iangtng , . 2 ad

ang an . b idi of Bluthner set up in Guangzhou m early 20 1 ,It pr uces 40 Bluthner Piano (China) Gmbh ,IS ~ ~~ tl l~i Its annual output was expected to be 20,000 upright pianos

the lrmler brand, the company s t ur a~ge , booming Chinese domestic market.

targeted at the . "Chan in Tunes," http://usa.chinadaily.com.cn,March30,2012. 41 Yang Yang and Chen Yingqun, g g

�1>tI

i 262 International Business Strategy

Over

For a long time, the US and Eur However, from the early 2000s, f the demand for pianos in these re China, India, Brazil, Russia, an consumer.

European (especially German) an until the 1960s. During the 19 emerged as the strong players in and Korea caused them to lose th low cost countries such as Chi worldwide, out of which nearly f

The piano market consisted of the

• Low end: At the Jow end 0 2,000-8,000, Chinese piano p

• Mid Market: The mid-price I I

and South Korea (Young

: manufacturers in this segment

I · High End: At the high end the market was dominated b

i Grotrian, Bosendorfer, Schim From the late 2000s, there was a market segment. High-end piano low- and mid-priced pianos to su was cheaper, they

• Set up factories or • Formed alliances with campa On the other hand, makers of I associated with the high-end com

I America" Piano Market • Before 1850, Americans most • The Gilded Age (1850-1890)

piano industry. By 1890, US and 1928, sales ranged from I

• The American piano industry piano producers were Hallet a Ziedler, Hazelton, William KI Wurlizer, Steck, Kimball in C

· The year 1930 was the last grby the 'Great Depression' cau began to be imported from cv

L. I

314-093-1

Exhibit I

'View of Global Piano Industry

nies.

ope had been the 'largest consumers' of pianos in the \~orl? 'ailing birth rates and the rise of the Internet led to a decline in gions. Global demand then shifted to emerging markets such as d others. As of 2013, China was the world's largest piano

d American piano producers ruled the world piano market, up 70s and 19805, Japanese and Korean piano manufacturers the global piano market. However, the rising wages in Japan eir cost advantage. This prompted piano production to shift to na and Indonesia. As of 2012, 493,000 pianos were made our-fifths were manufactured in China.

three segments:

f the piano market, wherein pianos were priced between US$ roducers were dominant.

was dominated by players from Japan (Yamaha and Kawai) Chang and Samick). There were also several European

of the market, wherein pianos were priced over US$ 100,000, Y American and European piano producers, mainly, Steinway, mel, Bechstein, Seiler, and Bluthner.

move by most piano companies to offer pianos in almost every companies took steps to diversify their product lines to include rvive in a global economy. In parts of the world where labor

ow- and mid-priced pianos were using parts and expertise panies to create higher-priced models.

Iy imported their pianos from European manufacturers.

, mar~ed by high economic growth, gave a boost to the US constituted half the world market for pianos. Between 1890 72,000 to 364,000 per year.

then b:c~me the biggest in the world. The leading American nd DaVISIn Boston, J. and C. Fischer in New York, Strich and iabe, Baldwin, Weber, Mason and Hamlin, Decker and Sons, hicago, and, finally, Steinway. eat year for th Am' .e encan plano. The tough times brought in sed closure of several American piano companies and pianos erseas.

Con/d."

261CHINA'S PEARL RIVER PIANO, TUNING INTO THE GLOBAL MARKET~-1---=--'"

314-093-1

Contd.:

The Japanese "invasion" of the American piano market from the 1960s onward was followed by a wave o~pianos fr~m Korea in the 19805and '90s. Together, these imports put most low- and mid-priced American makers out of business.

Westerners' interest ,in. playing the piano declined over the years mainly due to the popularity of electronic Instruments, the Internet, and a range of other leisure activities.

As of 2012, around 40,000 new pianos were sold in the US annually under 70 different brand names, made by more than 30 companies in a dozen countries.

The sales of Grand pianos fell from 35,000 in 2005 to 12,000 in 2012, a massive decline.

As of 20 13, China-made pianos dominated the mass market in the US and conslituted more than a third of all new pianos sold.

a According to analysts, even a decade ago, most China-made pianos were just barely acceptable technically, and musically undesirable.

a Over the years, however, both the technical and musical qualities were found to have improved significantly. Analysts observed that while some remained at the entry level, others rivaled the performance of more expensive pianos from other parts of the world.

• As of 2013, there were only three US-based piano producers. Stcinway and Baldwin produced luxury instruments that few could afford. Mason & Hamilin made a comeback in the high-end market

•

Peter Stumpf, a US-based registered piano technician, felt that the biggest competitors for the high-end pianos were the luxury pianos manufactured in the 1950s and 1960s that were still in good condition and were flooding the used piano market.

European Piano Market The European piano market suffered from the same macro economic conditions as the American market, thereby leading to a shrinking market for pianos.

Western Europe, especially Germany, was home to most of the world's most respected piano builders such as Grotrian, Bechstein, Hamburg Steinway, Fazioli, Bosendorfer, and Sauter. In recent times, newer brands like Borgato and Fazioli emerged as part of a wave of boutique, high-ticket pianos. Analysts agreed that German piano building was the 'best'. However, the purchase price of German pianos was steep, making them unaffordable to most buyers. Since the 1990s, a dozen or more high-end European piano makers were aggressively marketing their pianos in the US. However, the disadvantageous European exchange rate prevented them from making major inroads in the American market. Pianos from Eastern European, which were earlier competitively priced, seemed to have lost out to Chinese pianos, which offered better quality. There were only two significant players left in Eastern Europe, namely, Estonia and Petrof

•

Japanese Piano Market Japan was primarily a piano producing county and was home to the two or the largest piano companies in the world, namely, Kawai and Yamaha.

Contd.;

i !, II

264 International Business Strategy

314-093-1

Contd ...

• As of 20 13, Kawai produced more than 75% of its pianos i~Japa~. This nU,mber wa~ much closer to 25-50% for Yamaha, which produced most of its pianos In Indonesia and China,

Chinese Piano Market

• In the 1990s, rising wages in Korea and Japan caused much of the piano production in those countries to move to Indonesia and China.

The economic emergence of China during the 2000s enabled it to produce low-priced but low-quality pianos that were introduced globally.

In 2006, China overtook Japan and Korean to become the largest piano producing country in the world.

Large piano makers for the North American market were Baldwin, Pearl River, the government-owned factories in China, Parsons Music (Hong Kong), Yamaha (Japan), Young Chang (Korea), and, for the Canadian market, Kawai (Japan). Other foreign-owned companies that owned factories in China or had contracts with Chinese manufacturers to make pianos for the US market included AXL (Palatine brand), Bechstein (W. Hoffmann Vision brand), BlUthner (IrmJer Studio brand), Brodmann, Cunningham, Feurich, Heintzman, Perzina, Schulze Poll mann, Wilh. Steinberg and Steinway & Sons.

From 2000 onward, sales of pianos continued to be robust in China, increasing 20% year on year. There was a rising demand for pianos produced in Germany and Japan.

The rising popularity of the piano in China was attributed to the improvement in the financial situation of many Chinese in the past 30 years.

As of 2013, China had about 5 million children and youth learning the piano, and about 80% of the pianos sold in China each year were for them.

Compiled/rom Various Sources

CHINA'S PEARL RIVER PIANO: TUNING INTO THE GLOBAL MARKET 265--

314-093-1

Exhibit II

Pearl River Piano Group Ltd. (PRGP)

Particulars

ned enterprise, founded

art its products

w five-storied factory having a total space of one million

ty Management'

ecutive Officer (CEO)

lion, 20-year joint venture agreement with Yamaha

alter loss-making state-owned musical instrument

lane company to obtain ISO 9001 quality certification

ubsidiary, 'PRPG America, Ltd.'

its brand license and piano manufacturing technology

n the Chinese Piano market with a market share of more et share in the Chinese export market me the world's largest piano maker

European office in Munich, where it undertook design lent activities.

the lower-priced 'Essex' line of pianos for the world's ing company, Steinway & Sons

ong as CEO argeted at professional piano players (the high end of the

market leader in the lower end of the US piano market

en Stock Exchange, China

g Artist' brand of pianos in the US

1!.....iI

--. .-----------------

Timeline ofGuangzhou

Year

1956 PROP. a Chinese state-ow

1987 Granted permission to exp

1987 Began operations at its ne square feet.

1988 Implemented 'Total Quali

1992 Tong became the Chief Ex

1995 Entered into a US$IO mil

1997 Took over several sm manufacturers

1998 Became the first Chinese p

1999 Set up its US-based sales s

2000 Acqu~ed Ritmuller, with

2000 Became a market leader i than 60% and a 50% mark

2002 Overtook Yamaha to beco

2004 Company opened its first and research and developn

2005 Won contract to produce most renowned piano mak

2007 Huang Weilin succeeded T

2007 The 'Kayserburg' brand, l market), was launched

2009 Emerged as the undisputed

2012 Went public on the Shenzh

20 I3 Introduced the 'Kayserbur

Compiled/rom Various Sources

266 International Business Strategy::------ ----------

314·093·1