In a recent television programme, a top executive of a domestic cellphone maker said that he was confident of beating all foreign competitors in the mainland market. Domestic manufacturers would win, he said, because they could keep their prices low.

The secret, according to this executive, is in the costing. "We pay our people less, much less, and we do not advertise as much and, more important, we are willing to accept a much lower profit margin than our foreign competitors," he said.

What this chest-thumping executive pronounced, unfortunately, was not in any way a winning formula. But rather, it was nothing short of an open admission of defeat - the surrender of the high value-added market to the less cost-conscious foreign competitors even before the battle is joined. This obviously cannot be the business philosophy shared by all domestic cellphone manufacturers.

To be sure, the high-end segment of the cellphone market, not only on the mainland but also around the world, has long been dominated by a few major brands, notably Nokia, Motorola and Sony Ericsson. But their stranglehold of that segment of the relatively newer and more volatile mainland market is not as assured as in the more mature marketplace.

This window of opportunity for domestic manufacturers to break into the high-end market segment is closing fast though. Many foreign cellphone makers are expanding not only their manufacturing facilities but also research and development centres on the mainland. They are willing to make the investment because they can see that the high-end segment of the mainland market has the biggest potential for future growth.

Cellphone technology is pretty commonplace. The chips that give the phone its variety of functions are readily available from various vendors. With such a low entry threshold, the competition, especially at the high-end segment of the market, unsurprisingly has been focusing almost exclusively on design and branding.

Any businessman worth his salt can tell you that it takes big bucks to excel in these two attributes. Foreign manufacturers are widely known to be more willing than their domestic counterparts to pay for design talents who can create products that appeal to the target consumers.

Maintaining a low salary structure than the competitors is hardly a sound policy in the high-end marketplace. Talents in design, management, marketing and sales are always in strong demand and staff poaching is particularly rampant in an economy growing as fast as the one on the mainland.

Brand building, as most business people know, is costly and time-consuming. A substantial portion of that cost usually goes to advertising to raise consumer recognition of the products and the company that stands behind them. Relying simply on direct sales even through well-established channels may not be enough to create a brand name that can add value to the products.

Mainland manufacturers have won worldwide recognition for their capabilities in producing quality products at low costs. But to widen their profit margins, they must try to move up the value-added chain by acquiring the expertise in both the front end, research and design, and the back-end, packaging and marketing, of the manufacturing process.

Intensifying competition from other low-cost manufacturing bases and rising raw material and energy prices are relentlessly eroding the profit margins of factories engaging only in the actual production part of the process.

Although many mainland enterprises have secured a big share of the domestic market, they are mostly competing on price. At that segment of the market, manufacturers can only hope to widen their profit margins by squeezing their costs.

This business model has been called into question by changing consumer spending patterns and the opening of the domestic market to foreign competition. The increase in personal wealth, especially in the cities and coastal regions, is fuelling the expansion of the high-end segment of the market which is the focus of most foreign vendors of brand-name products.

The profit margins for vendors of high-end products are much wider than those at the other end of the price range. Take the cellphone - the profit margin for high-end cellphones ranges from 15 percent to 20 percent, compared with less than 5 percent for the low-end varieties.

There is no reason for domestic manufacturers to continue to accept a low profit margin. Going up-market, therefore, is a matter of survival, not greed.

(China Daily October 18, 2005)