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Apr 8th 2017
ON A RECENT weekend several hundred academics and lawyers gathered in a hotel ballroom in Shenzhen for a discussion on “Innovation, inclusion and order”, an event jointly organised by the law schools at Peking, Oxford and Stanford universities. Legal conferences can be soporific, especially in China, and a scholar from Beijing duly set the tone by asserting that “order is important in the market.” But one of the local speakers livened things up by delivering a surprisingly stout defence of disruptive innovation. Xu Youjun, vice-chairman of the Shenzhen division of the Chinese People’s Political Consultative Conference, a government advisory body, said Shenzhen owed its success not to the government or the Communist Party but to its policy of allowing people to go “beyond the planned economy”.
The city imposes few limits on freedom of movement (though only a minority of its population has an official hukou, or household-registration certificate), is relaxed about employment contracts and does not discriminate against outsiders. “People are the greatest source of our growth,” Mr Xu concluded. The contrasting views of the boffin from Beijing and the local apparatchik help explain how disruptive entrepreneurs turned Shenzhen into one of the world’s most innovative cities.
Between 1980 and 2016 Shenzhen’s GDP in real terms grew at an average annual rate of 22% and today stands at 2trn yuan. The city’s Nanshan district, home to about 125 listed firms with a combined market value of nearly $400bn, has a higher income per person than Hong Kong. Unlike Beijing, which has many top-flight universities, Shenzhen has only a handful of lacklustre institutions of higher learning; but so many graduates from all over China flock to the city that they make up a greater share of its population than do graduates in Beijing.
Shenzhen spends over 4% of its GDP on research and development (R&D), double the mainland average; in Nanshan the share is over 6%. Most of the money comes from private firms. Companies in Shenzhen file more international patents (which are mostly high quality, unlike many of the domestic Chinese ones) than those in France or Britain (see chart).
The official story attributes Shenzhen’s success to brave party leaders and far-sighted policies. Deng Xiaoping is lauded for liberalising the region’s economy. Later political leaders receive praise for investments in infrastructure that enabled rapid growth. That is an incomplete version of history.
An incisive new book, “Learning from Shenzhen”, edited by Mary Ann O’Donnell, Winnie Wong and Jonathan Bach, reveals that many of the advances seen since the city was opened up in 1980 came disruptively from below. For example, early reformers pushed ahead with unauthorised investment deals with non-mainland companies and retroactively developed the legal framework needed to protect foreign firms. Time and again, grassroots innovators hit on better ways of doing things, even though strictly speaking they were not permitted. When their risk-taking proved successful, communist leaders typically took the credit. So the best way to study innovation in Shenzhen is to examine it through the eyes of its entrepreneurial firms.
The common perception that China is incapable of innovation needs re-examining. According to a widely quoted study published earlier this decade, the value added on the mainland to Apple’s iPods (nearly all of which are assembled there) represents less than 5% of the total, reinforcing the stereotype of Chinese factories as low-end sweatshops. However, a more recent study by Britain’s University of Sussex and others for the European Commission concludes that the iPod example “is far from representative”. These researchers calculate that the average value China adds to its exports is 76% (the EU’s is 87%). The World Bank reaches similar conclusions.
The PRD’s companies, which account for a huge chunk of China’s innovation, have been moving up the value chain. Local firms that used to rely entirely on imported know-how and parts have started to work on their own inventions and methods. Foreign firms that used to come to the delta to harness its brawn are now tapping into its brains as well. Today, Shenzhen is attracting many entrepreneurs keen to develop new ways of making things. The innovators are transforming the entire delta into an advanced manufacturing cluster. Many multinationals have a listening post in the city to stay close to the latest trends.
Foxconn, a Taiwanese contract manufacturer which employs over 1m workers on the mainland, is sometimes represented as a low-tech sweatshop; in fact, it holds international patents in areas ranging from electrical machinery to computing to audio-video technology. It is expanding its Shenzhen facility to support rapid prototyping by Apple’s new R&D centre in the city. Its joint venture with Japan’s Sharp is investing $8.8bn in Guangzhou to make advanced liquid-crystal displays. It is also developing industrial robotics in Shenzhen.
BGI, formerly known as the Beijing Genomics Institute, moved to Shenzhen to get away from northern bureaucrats. Seven years ago it was declared a “DNA superpower” by Nature, a science journal, after it bought so many genome-sequencing machines that it ended up owning more than half the world’s total. It is due to go public shortly.
Mindray, a devices firm with $1bn in global sales, is developing new technologies for ventilators, digital operating rooms and surgical robots. The firm’s experience of managing both American and Chinese researchers is revealing. Its researchers in Silicon Valley are not just tutoring their counterparts in Shenzhen, it turns out, but also learning from them. Cheng Minghe, thefirm’s president, observes that Westerners produce high-quality research but take a long time over it, whereas the locals are better at speedy development of new kit.
Huawei spends more on R&D than Apple does. The privately held Shenzhen firm made its name as a telecoms-equipment vendor, but is now a big force in smartphones and cloud computing too. Its revenues for 2016 are estimated at 520bn yuan, a 32% increase on a year earlier. It devotes an impressive 15% of its revenues and 82,000 of its 180,000 employees to R&D. Huawei is innovating as it is globalising. Dieter Ernst of the East-West Centre, an American think-tank, praises the company for creating a “global innovation network” of the sort that only Western multinational companies used to have, with more than two dozen R&D centres the world over and a number of collaborative hubs run with leading multinationals and universities.
This has paid dividends. Huawei is one of the world’s most prolific generators of high-quality international patents. Along with Sweden’s Ericsson it is at the forefront of 5G, which will replace the current 4G networks for mobile telephony. Its narrow-band internet-of-things protocol, a cheap and low-energy way to connect machines to the cloud, was recently approved as a global standard.
Another way Shenzhen is rewriting the rules is by embracing open innovation. In the West, corporate innovation has generally been a secretive, top-down affair. Many factories in the city started by making clever imitations of Western goods, which led foreigners to dismiss the locals as mere copycats. That was a mistake. David Li of Shenzhen’s Open Innovation Lab argues that the copycats have since morphed into a powerful ecosystem of collaborative, fast-learning suppliers and factories. “Anybody can come to Shenzhen with an idea and get it prototyped, tested, made and put on the market at a decent price,” he says. Silicon Valley is obsessed with rich-world problems, he thinks, but China’s open innovators work on affordable solutions for the masses on everything from health care to pollution to banking.
Mr Li says the already frenetic pace of Chinese innovation is speeding up further. Dealmaking used to involve long banquets and vast quantities of baijiu, a local firewater. Now introductions are made at the flick of a finger on WeChat, a remarkable messaging and payments app with more than 800m users. As soon as a WeChat group is formed, there is little need for phone calls or meetings. Tencent, the internet and online-gaming giant that invented WeChat, is also based in Shenzhen. Worth some $250bn, it is one of Asia’s most valuable firms. Its snazzy and green new headquarters in Nanshan towers over a modern neighbourhood of startups, incubators and funky coffee shops.
One of Shenzhen’s most daring startups, Royole, is expanding its output of an extraordinary product: the world’s thinnest foldable full-colour touchscreen display. Liu Zihong, a mainlander, earned his doctorate in electrical engineering at Stanford University, where he dreamt of radical new ways for machines and humans to interact. When he started Royole, he says, he knew it had to be based in Shenzhen. Getting from early-stage research to manufactured product would require a massive amount of what he calls integrated innovation: “Materials, process, device design, circuit design—all needed to be innovated…if you changed one material, you had to change the process.” His team had to develop entirely new materials and factory tools, including custom-built robots, to make his screens, accumulating over 600 patents along the way. He insists this could not have been done even in Silicon Valley, because California cannot match Shenzhen’s ecosystem of “makers”.
With $280m in venture-capital investment, Royole is valued at $3bn. It is investing $1.8bn to build a heavily automated factory and integrated R&D complex which should propel sales past $3bn. But Mr Liu has even grander ambitions. He thinks his screens could be deployed more widely, in places such as cups, clothes, desks, even walls. “Last year the display industry was worth $150bn,” he says, “but flexible displays will double that.”
Shenzhen has become the world capital for hardware entrepreneurs. Navi Cohen is the co-founder of Revols, a Canadian startup developing affordable, custom-fitted headphones. His firm raised a fortune on Kickstarter, a crowdfunding site. When it tried to develop its product in Montreal, it found things slow and expensive, so it moved to Shenzhen, where supplies were cheap and factories made prototypes quickly. It is now in production.
Another promising startup that moved to Shenzhen is Wazer, an American firm. A conventional metal-cutting machine on a factory floor costs $100,000 or more. Shenzhen’s know-how helped Wazer perfect a way to cut any material precisely with pressurised water. Its desktop cutter costs about $5,000 and will disrupt the industry when it comes to market later this year.
Revols and Wazer are among dozens of startups that have gone through a manufacturing boot camp run by Hax, a hardware “accelerator” based in Shenzhen’s Huaqiangbei, the world’s largest electronics-supplies market. Benjamin Joffe, a partner at Hax, reckons that Silicon Valley’s experience of hardware is “six to seven years out of date”. Big firms ranging from Johnson & Johnson, an American health-care firm, to Michelin, a French tyremaker, have entered into partnerships with Hax to get closer to these bright sparks.
The most successful of Shenzhen’s recent startups is Da-Jiang Innovations (DJI), reportedly worth over $8bn, which makes affordable commercial drones. Frank Wang, the founder, and his 1,500-strong R&D team had to invent vital bits of the technology needed for its flying robotic cameras. The privately held firm commands over half of the global market for small civilian drones, and is purportedly planning to go public soon. It is now diversifying its offerings. Paul Xu, the head of DJI Enterprise Solutions, says it is aiming for business clients in fields ranging from agriculture and energy to public security. It is also considering a services-business model where users can rent airtime.
Shenzhen has done more than any place on the mainland to debunk the outdated myth of “copycat China”, becoming the global hub of innovation in hardware and manufacturing. Its entrepreneurs are coming up with entirely new industries. It has been the driving force behind the upgrading that should help the PRD withstand competition. But what does its rise mean for Hong Kong, which has been the catalyst of investment and growth in the delta for decades?
