Social Network Construction and Competitiveness in Global Value Chain Network Analysis Perspective on Chinese Aerospace Industry

Yihan Wang, Ekaterina Turkina, Ari van Assche

HEC Montréal, Canada

This article explores how the allocation of MNEs’ industrial specialization and geographic location in Global Value Chain affects their position in horizontally and vertically integrated business network in the context of emerging markets, thus enhances MNEs’ competitive advantage in the specific market. Based on network data of Chinese aerospace industry, it exhibits that industrial specialization, geographic location as well as social embeddedness all affect MNEs’ horizontal partnership network and vertical supply chain network. Nonetheless, the degree of impact varies across multiple determinant attributes and there exists a significant divergence between horizontal and vertical networks.

Obtaining competitive advantages at global scale has been widely recognized as MNEs’ ultimate motive of internationalisation, whilst analyzing the manifold cross-border business relations and activities embedded in global networks has arisen as a new pattern to understand their MNE’s internationalisation strategies in recent international business research (Andersson, Forsgren, & Holm, 2002, Cantwell, 2013, Coviello, 2006, Ernst, 2002). This network perspective can be attributed to the fact that MNEs are “internally differentiated inter-organisational networks” (Ghoshal & Bartlett, 1990) and that the embeddedness in the industrial structure and relational dynamics strongly affect MNEs’ performance and behavioral logic (Uzzi & Gillespie, 2002, Zaheer, Gulati, & Nohria, 2000). Trending the globalised production, coordination and distribution activities of MNEs, such hierarchical distribution of functional units and business relationships have been weaved into Global Value Chain, where MNEs could exert their influence on global market based on transaction complexity, codification and supply-base capabilities (Gereffi, Humphrey, & Sturgeon, 2005).

The competitive advantages of MNE’s functional units, which are spread over various phases of Global Value Chain, are embedded in multiple complex business networks. However, in international business research, only handful studies have attempted to bridge the relationships between MNE’s value chain position and business network position with empirical evidence, leaving wide potential for further studies considering the new trend of globalization and knowledge-driven economic growth. This study aims to reconcile these overlapping notions from a network perspective taking the industrial and institutional complexity into consideration. Furthermore, the research focus will be set on a complex industry in the context of emerging economies.

The major contributions of this article are as followed. First of all, this article excavates the analytical advantages of Social Network Analysis on social capital in business networks base on the in-field relational data collected. Subsequently, it builds up the connection between new paradigm in internationalisation based on social capital, divergence between globalization and regionalization in various locations, industrial complexity in Global Value Chain, knowledge creation and diffusion in global network, and the specific institutional constructs in emerging economies. Ultimately, it provides a preliminary responds to how MNEs obtain their competitive advantage from business networks and how their position in Global Value Chain impact on its allocation in business networks, specifically in context of a complex industry in emerging market.

This paper is structured as follows: In the second chapter, in recent decades we will discuss the necessity of bridging the gap between global value chain and MNEs’ business network from perspective of the pattern of knowledge diffusion, social capital and strategic resources to overcome “liability of outsidership” and new paradigms of internationalisation in emerging markets. The third chapter explains the reason why aerospace industry and Chinese market is chosen for this study, bridging up theoretical background with real business conducts. The fourth chapter constructs the empirical model of the study and introduces value chain position, geographic location and institutional embeddedness as determinant factors for MNEs’ position in horizontal partnership and vertical supply chain networks. In the last two chapters, some preliminary findings will be discussed based on multinomial logit regression outcomes of multiple determinant factors. Furthermore, future potential research directions will be discussed.

2. New Challenges to Internationalisation Theories

2.1 Knowledge Diffusion, Social Capital and Internationalisation

Mainstream international business research in the 20^th Century argued that firms go abroad seeking for strategic resources to acquire sustainable competitive advantages in terms of ownership, location and internalization (Barney, 1991, Dunning, 1977, Dunning, 1988, Porter, 1985). In order to exploit foreign market, they follow an incremental internationalisation strategy that commences with indirect export, then continues with establishment of sales subsidiary and manufacturing plants (Johanson & Vahlne, 1977). Nonetheless, drastic changes in technology and economic structure of global market in recent decades fundamentally alters cross-border business. Factors of production such as raw material, labor and capital goods are still fundamentally affecting manufacturing activities, but in the era of knowledge economy they are not the first priority in foreign market exploration and exploitation. Intangible assets such as business relations, organizational knowledge and innovation capability increasingly create values for firm and lead to market success (Kaplan & Norton, 2004).

MNEs are as key agent of knowledge development and transfer. Their incremental investment and cross-border transactions in R&D sector lead to worldwide knowledge diffusion as well as regional specialization (Buckley & Casson, 1976, Cantwell, 2013). Alternatively, knowledge-based economic growth is also reshaping the pattern of MNEs and determinants of competitive advantages. Firms learn in networks, where they benefit from spill-over effect, rather than on point-to-point basis and learning in networks turn out to be more effective and efficient than external market mechanisms (Gupta & Govindarajan, 2000, Podolny & Page, 1998). Particularly, for firms specialized in industries that require intense knowledge inflows and complex effort in R&D, cohesion and range of a network could contribute to ease of knowledge transfer in an industrial network consisting of inter-related firms (Reagans & McEvily, 2003).

Dunning (2001) recognized the limitation of his original eclectic OLI model of internationalisation and suggested that the model should also take strategic asset-acquiring and non-equity alliances into consideration. As network relationships strongly influences entry mode and sequence into foreign market (Coviello, 2006), Johanson and Vahlne (2009) revised their “Old Uppsala Model” of sequential internationalisation process, and proposed that MNEs exploit new business opportunities embedded business network to overcome “liability of outsidership” in addition to “liability of foreignness”. From perspective of transaction cost, effective connectivity to other influential firms could optimise contracting and coordination costs (Zaheer, Gulati, & Nohria, 2000). The construction and the quality of inter-firm linkage in various types of network, as well as shared goals and culture, trust, norms and identification all determine the heterogeneity of individual firms, their influence on the others and behavioral logic (Inkpen & Tsang, 2005, Uzzi, 1997). In this sense, resources accessed through social ties, that is, social capital (Bourdieu, 1986), is regarded as strategic resource that determines firm’s competitive advantage in a inimitable and unsubstitutable path-dependent process. (Barney, 1991, Gulati, 1999).

In international business research, MNE’s social capital accumulation, which is reflected by their establishment and control over flows of strategic resources in world-wide business networks, strongly affect their competitiveness in global market. (Cantwell, 2013) When a MNE enter, to certain degree will they encounter liability of foreignness, that is, threats from entry barriers into foreign market, including spatial distance, unfamiliarity with local environment and the possible host country and home country transaction costs. (Chen, Griffith, & Hu, 2006, Zaheer, 1995). In order to grasp the enormous entrepreneurial opportunities created by “insidership” in foreign market entry, it is necessary for MNEs to identifying their local business partners and exploiting social ties with them through experiential learning, trust and commitment building, and opportunity exploration and exploitation (Andersson, Forsgren, & Holm, 2002, Ellis, 2000, Johanson & Vahlne, 2009).

In all, MNE’s market performance and competence developments potential is rooted in the long-term relational commitment between different subsidiaries and interdependence in knowledge sharing and technology development throughout the whole production process (Andersson, Forsgren, & Holm, 2002). Social capital embedded in various business relationships and network enable and optimise knowledge transfer among firms, consequently, fuels business development and sustainable growth of MNEs. In a word, in addition to physical and human capital resources, social capital and knowledge in possession should also be considered as determinant strategic resources that significantly boost MNE’s competitiveness in global market (Winter, 1998).

The hierarchical feature of organization, production procedure and relationships of MNEs are embedded in the Global Value Chain, where MNEs obtain their indigenous competitive advantage throughout input-and-output streams.(Porter, 1985) Cantwell and Mudambi (2005) suggested MNEs follow different behavioral logics both qualitatively and quantitatively when they conduct mandate upon their foreign subsidiaries as synergy of locational-, subsidiary- and group-specific factors in their internationalisation strategy. They may either reduplicate same type of production or services into several locations, or select the most prominent location with specialized competence for each value-added activities (Teece, 1985). The entry approach of integration of MNEs are determined differently depending on the condition of foreign market. Sturgeon, Van Biesebroeck, and Gereffi (2008) used the sample of global automotive industry to illustrate the necessity to introduce Global Value Chain analysis in international business studies. As Gereffi, Humphrey, and Sturgeon (2005) suggested, the essence of global value chain framework is focused on the power that regulate coordination over inter-firm linkages embedded in production networks. It captures the geographic characteristics, power distribution and institutions structure among multiple players in value added activities fueled by complex information codification and exchange, codification of knowledge based on resident in the supply base at both local and global scale, which is exactly international business research attempt to understand.

Conventional internationalisation models emphasises the resource endowment and intrinsic capabilities of MNEs as pre-condition of internationalisation. Nonetheless, sustainable competitive advantages are also strongly affected by the external opportunities and threats (Barney, 1991). Global Value Chain encompasses exogenous factors such as geographical characteristics, power distribution and institutional structure in addition to the inherent advantages of MNEs, and fill up the divergence between endogenous and exogenous determinants of competitive advantages. (Sturgeon, 2007). Since the whole production process is increasingly fragmented and modularized, the allocation of multiple valued-added activities of MNEs in different countries varies in accordance with the regional specialisation and level of development (Cantwell, 2013) Iammarino and McCann (2013) characterized the value allocation in Global Value Chain as the combination of “global flattening” and “local steepening”, suggesting that industrial complexity leads to the decentralization of value-adding activities. High value-added products are produced in a small range of specialized regions but sold globally, while low value-added products are produced globally, especially in developing world. Industrial complexity and heterogeneity determines the trade-off between globalization and localization, which implies for international business research that rather than ambiguously characterise if cross-border business activities are more “globalized” or “localized”, it is more beneficial to bear the complexity of heterogeneous industries in mind, and dissect their value chain into simultaneously existing and inter-correlated discrete activities.

In conclusion, introduction of Global Value Chain in internationalisation strategy reflect the essence of multiplex construction of network and the determinants of MNEs’ competitive advantages. In this study, the value chain position of business units will be depicted by their intrinsic industrial specialisation allocated over value chain phases and the geographic locations that enhance or constrain the performance.

Another challenge to conventional internationalisation theories come from the new patterns of market entry strategies of MNEs from emerging markets that undergoing economic liberation and institutional reform(Arnold & Quelch, 1998, Hoskisson, Eden, Lau, & Wright, 2000). On one hand, emerging economies are home to more than 80% of world’s population¹, which ensures not only high market potential, but also provide an immense and promising pool of knowledge and local intelligence; on the other hand, as a result of disadvantageous positions in global market, underdeveloped infrastructure and institutional voids, most of MNEs from emerging economies do not own controlling power over strategic resources, technological competitiveness and efficient connection with the most proliferate partners. In order to “catch up” with their counterparts form developed economies, they usually adapt “leapfrog” strategy through linkage, leverage, and learning (LLL) to accelerate their foreign expansion in contrast to incremental internationalisation theory (Malhotra & Hinings, 2010, Yiu, Lau, & Bruton, 2007). In this process, some firms pursue close connection with domestic partners and local governments embedded in home country network at early stage as substitution for external markets before going abroad (Khanna & Palepu, 1997), while others first “escape” for better institutional conditions abroad and grow large internationally ahead of exploiting domestic market (Boisot & Meyer, 2008, Bonaglia, Goldstein, & Mathews, 2007, Witt & Lewin, 2007). For MNEs from developed economies, in order to overcome liability of foreignness and obtain first-mover advantage, they are keen on searching for business partnership with local firms in emerging economies by acquiring their local knowledge regardless of inferior competence (Ernst, 2002, Ernst & Kim, 2002, Mudambi & Santangelo, 2014). Internationalization models based on the experience in developed economies cannot fully explain these phenomena, whilst the immature but rapid changing institutional context entails high challenge and potential to international strategy studies (Hoskisson, Eden, Lau, & Wright, 2000). In this sense, studying emerging economies not only help to understand the specificity of the markets themselves, but it also contribute our knowledge of internationalisation dynamics and evolution embedded in cross-border business networks.

In this study, we specifically select aerospace industry as observation, because the heterogeneity and complexity serves the purpose of studying heterogeneous complex networks well. The complexity of products, manufacturing process, and relationships among various business units in aerospace industry strongly affect the interaction between business network formation and global value chain pattern. Major categories of aeronautical products, including passenger aircraft, aircraft carriers and engines, helicopters, avionics equipment, flight simulator etc. belong to the high cost, complex products and systems (CoPS). These products consist of large number of tailored-made and engineering intensive components, devices and sub-systems, which require high degree of novel knowledge and technology. They are usually made in one-off projects or small patches with specific focus on design, project management, systems engineering and systems integration. In all, the complexity and cost structure of a product shape innovation processes, organisational forms and industrial coordination (Hobday, 1998).

Aeronautical product manufacturing process reflects the hierarchical integration of wide range of inter-related value-added sectors and knowledge exchange activities spread all over the world. The complex manufacturing process of aeronautical products also relies on intensive and diversified R&D and requires world-wide coordination and cooperation, which are strongly influenced by government support (Niosi & Zhegu, 2005). In this sense, the complexity of production necessitate a broad array of organisations including OEMs, multiple-tier suppliers, support service providers, airlines companies, research institutes and universities simultaneously cooperating with each other. As a result, a complex aerospace industrial network is constructed consisting of multiple types of players and differentiated within-and-cross-border relationships. In complex industries, MNEs create markets in networks and exploit their advantages within multi-firm projects. Their long-term success is notably determined by their capability to coordinate business relationships among manufacturers, customers, suppliers and regulators deliver (Ernst, 2002, Hobday, 1998).

Apart from the complexity in production, another point shat shape the unique Global Value Chain governance pattern is the dynamisms of demand. Over the last decade, aerospace industry maintains long-term above-average growth driven by global economic growth and technological innovation, in spite of recent short-term market shocks, including financial crisis, oil price fluctuation and new security threats. (Boeing, 2015). Increase in individual income-level and travel frequency contributes to increasing market demand, which as result creates new market niche for aircraft OEMs. Technological innovation, lower oil price and deregulation lowers market entry thresholds with considerable profit margin as well as accelerate replacement cycle of aircrafts and related-equipment. These demand-driven factors not only creates and amplifies the market potential, but also intensifies global competition between airlines, OEMs and multiple-tier suppliers. On one hand, OEMs still carry out the majority manufacturing and assembly and play the dominant role in controlling and coordinating the value chain top-down, on the other hand, shifts in operational cost structure and technological advances impose drastic outsource of value-added activities to third parties and decentralize their controlling power (Bales, Maull, & Radnor, 2004, Williams, Maull, & Ellis, 2002).

From geographic perspective, although aerospace industry is still dominated by developed countries in North America and Western Europe, emerging economies such as China, Russia and Brazil have settled their roots in the industry and launched considerable challenge to their western competitors. The ongoing interest in studying aerospace industry in emerging market is partly attributed to the gradually exploited market potential on account of the large population base, increasing income level and demand for more frequent demand of travel by air. More importantly, given the ongoing institutional transformation and income increase, aerospace industry development also provide an opportunity to observe the interaction between local institutional change and global industrial integration.

The emergence of Chinese aerospace industry distinctly reflects new opportunities and challenges arising from emerging market in global aerospace industry. This progress is not only attributed to the substantial financial and policy support from the government, but also to the active integration of China’s commercial aviation manufacturers, suppliers and airlines in the global commercial aerospace market and supply chain.

Characterized by world leading economic growth, constant attractiveness to FDI, large volume of population with increasing income, strong governmental support, China appears to be world’s second largest civil aviation market with robust growth rate (Roger Cliff, 2011). Increasing frequent travel by air accelerating establishment of new air routes, delivery of new aircraft and construction of new airports. Regardless of recent economic growth slow-down, the growth rate of passenger traffic and air cargo will remain 1 to 2 percent above the economic growth rate in the next 20 years. Entrance of new airlines, especially low cost carriers, stimulating domestic point-to-point travel, exploitation in less-developed regions, liberation of international travelling all fuel long-term market growth. It is estimated that the current value of Chinese civil aviation market is 950 billion US dollar and the total number of aircraft fleet in 2034 will reach 7210, which triples that number in 2014.

Nonetheless, China’s ambition is more than being a gigantic market await to be partitioned by foreign MNEs. With strong support from the government and better command of local knowledge, domestic firms are determined to enforce their strength in safeguarding their home base. As one important sector of “High-end Equipment Manufacturing”, aerospace industry is officially recognized by Chinese central government as “Strategic Emerging Industry” that will serve as national economic pillar and forerunner of economic growth (MoFC, 2012). Chinese central government provides special funds and enacts preferential policies for domestic firms specialized in aerospace industry. In 2008, new domestic OEMs are founded, seeing re-merge between AVIC I and AVIC II as the new Aviation Industry Corporation of China, as well as the foundation of The Commercial Aircraft Corporation of China (COMAC). In 2015, COMAC unveil its independently designed large commercial airliner at the same time, COMAC announced the first delivery of its own regional jet ARJ21. Both models have attracted the attention in international commercial aircraft market as low-cost substitutes for counterparts manufactured by Western OEMs. This is a clear signal that, China is determined to develop a complete and independent aerospace industry and challenge the existing global commercial aircraft market constitution.

In sum, studying Chinese aerospace industry not only helps to understand the development of Chinese market itself, more importantly, it forecasts the future development direction of aerospace industry seeing the drastic changes of complex business relationships among various business units in world-wide production and services.

H5: For domestic business units, those located in high output efficiency regions have better position in business networks than those are not located in those regions.

4. Research Methodology and Data Description

In previous paragraphs, we briefly discuss about the necessity to study social capital as competitive advantage embedded in Global Value Chain, in addition, we explained why aerospace business networks and value chain in China are selected as observations of the data. Previous scholars have been conducted extensive research on each specific issue, but few of them attempted to synthesis these aspects together with empirical evidence.

Social Network Analysis is about the structure of social relationships and position of interacting actors in relations with each other (Borgatti, Everett, & Johnson, 2013). Having been profoundly elaborated both theoretically and practically in sociology (Burt, 1992, Granovetter, 1973, Mitchell, 1969, Padgett & Ansell, 1993, Uzzi, 1996), management science (Cowan & Jonard, 2004, Porter, 1998, Powell, Koput, & Smith-Doerr, 1996) and statistic science studies (Albert & Barabási, 2002, Fortunato, 2010, Watts & Strogatz, 1998), in recently decades Social Network Analysis is introduced to international business studies (Coviello, 2006, Ghoshal & Bartlett, 1990, Nohria & Garcia‐Pont, 1991, Nohria & Ghoshal, 1997, Porter, 1998, Zaheer, Gulati, & Nohria, 2000) as a comprehensive, powerful, and compatible analytical method capturing both identical and structural characteristics of various business entities, including individuals, organizations and communities(Burt, 1992, Coleman, 1994, Coviello, 2006, Kogut, 2000, Kossinets & Watts, 2009, Zaheer, Gulati, & Nohria, 2000), in order to explain interconnectivity among multinational enterprises as well as agglomeration phenomenon in cross-border business activities. Reviewing the key concepts proposed in previous paragraphs, including multinational enterprises, internationalisation and localization, knowledge diffusion, social capital, Global Value Chain, and institutions in emerging economies, we may find that all these notions are characterized by inter-connected heterogeneous players at various levels embedded in multiple positions an extensive hierarchical structure. In a word, they could all be conceptualized as network in different forms. Therefore, Social Network Analysis will be a justified tool that may help to understand the relations and interactions between these elements, and build the bridge between social structure and content.

The main research question of this article is how firms’ allocations in Global Value Chain affect their hierarchical position in business networks and how firms can achieve competitive advantages in terms of social capital composition, control and coordination. Based on the motive and status of dyadic relations among the units, two types of business networks are built up including