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Evolution is Crucial to Chaebol Survival

Christian Oliver and Song Jung-a in Seoul
Friday, 3 Jun 2011 | 1:00 AM ET

Few people know that Samsung Group makes summery dresses and blouses. Even fewer are likely to remember that the South Korean conglomerate famous for its microchips and mobile phones rose to prominence in the 1950s as a woollen mill.

Jung Yeon-Je | AFP | Getty Images

Yet the kind of changes South Korea’s biggest company has underscored how rapid reinvention is crucial to the survival of the chaebol, the colossal family-run conglomerates that dominate Asia’s fourth-biggest economy.

Given their stellar performance during the most recent economic downturn, it may appear surprising that they still feel pressed to branch into brand new business areas.

Indeed, some analysts argue there is little need for chaebol to move away from manufacturing.

“With steel and shipbuilding, you could argue they are reaching a limit. Maybe. But in electronics, auto and petrochemicals, there are so many areas for Korea still to grow,” says Shaun Cochran, head of Korea research at CLSA.

But rising competition from China in the manufacturing heartlands of the chaebol is forcing some bold changes of direction.

Samsung is diversifying from microchips into pharmaceuticals. LG Electronics is branching out from refrigerators into waste water treatment. Under pressure from Chinese shipyards like Rongsheng and Yangzijiang, Korea’s Hyundai Heavy Industries, the world’s biggest shipbuilder, is broadening its portfolio into offshore oil facilities, solar power and wind turbines

The sumptuous, turquoise-drenched advertising campaign by Korean Air promising “Excellence in Flight” highlights an important trend among South Korea’s chaebol, writes Christian Oliver.

More than at any other time in their history, the chaebol are trying to create recognisable consumer brands abroad.

Money is being poured into glitzy advertising campaigns as they seek to put more distance between themselves and the growing threat of lower-priced Asian rivals.

South Korean companies have traditionally focused their efforts on forging tight commercial networks with other businesses. For many years, Samsung Electronics’ key strategy in the mobile business was to develop close and accommodating relationships with international network providers.

But Samsung is now appealing directly to the consumer, launching unprecedented global advertising campaigns for its Galaxy products that challenge Apple’s iPhone and iPad.

"Korea is reaching a limit of what it can do with better, faster, cheaper widgets,” says Shaun Cochran, head of Korea research at CLSA, explaining the shift of focus towards consumer branding.

He says Korea’s motor industry, once a global laughing stock, has seen some of the most dramatic changes in tailoring design and quality to international consumers.

“Look at a Kia. It now looks nice and drives well. You’d have to be a real motor expert to know it wasn’t a Japanese car,” he says.

Chaebol such as Samsung and LG have been active in sponsoring premiership football in Britain to raise their brand profile.

Hankook Tire, a smaller chaebol, is seeking to build its status in developed markets by providing the tyres for major motorsports events.

The tyre company sees this as an important route to building a brand name with a reputation that will win it contracts to supply the original tyres for major European carmakers. It admits that supplying motorsports is not profitable but it has priceless branding value.

"As emerging countries, including China, catch up fast, Korea has to differentiate products with better design and technology,” says Hwang In-hak, researcher at the Korea Economic Research Institute.

But the chaebol are proceeding cautiously. All have bitter memories of the 1997-98 Asian financial markets crisis, when many overextended themselves and collapsed. At the time, some observers wrote the obituary of the corruption-riddled chaebol system.

“We cannot guarantee their success in new growth areas just because they have been successful in traditional manufacturing. We have seen many big chaebol such as Daewoo and Ssangyong go bust after expansion,” says Ha Byung-gi, researcher at Korea’s Institute for Industrial Economics.

However, the chaebol have defied critics to become some of the big winners of the past economic downturn, hammering Japanese competitors with the assistance of a weak won and strong yen.

Samsung Electronics overtook Hewlett-Packard

in 2009 to become the world’s biggest technology company by sales, and its Galaxy smartphone range is one of Apple’s most serious challengers. Last year its net profit soared to Won16,150bn ($15bn), from Won9,800bn in 2009.

Together with its affiliate Kia, Hyundai Motor emerged as the world’s fifth-biggest carmaker after entering the downturn as the seventh largest. Net profit soared 78 per cent last year to Won5,267bn as it challenged Toyota in the US with its family sedans.

While the chaebol remain opaque by western standards, they have cleaned up their governance since the Asian crisis and corruption cases now attract greater official scrutiny.

To set themselves apart from cheaper Asian rivals, the chaebol are prioritising higher-end branded products and glossy advertising.

Furthermore, Samsung’s move into healthcare illustrates where the chaebol believe their strengths lie. The company is pouring $21bn into healthcare and green energy over the next decade and aims to challenge Philips with its medical appliances.

Biosimilar drugs – produced on expiry of the patent for a biopharmaceutical product – benefit from skills Samsung acquired making commodity products like memory chips, which require efficient mass-production lines rather than innovation.

“They are strong when they can turn their business into the production of a commodity,” says Chang Sea-jin, professor at the National University of Singapore.

While they are known abroad primarily for their manufactured goods, Richard Dobbs, director at McKinsey, says the chaebol will need to tap the service sector more effectively to keep growth from flagging. He says a sensible approach would be a “tagging-on” of services to their manufacturing strengths.

The construction arms of chaebol are already active globally in building power stations, hospitals and refineries. The logical next step, says Mr Dobbs, could be to win service contracts for the maintenance and running of these facilities.

“South Korea has some of the most efficient manufacturing in the world but services lag far behind that. It is an area they have to look at,” he says.

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