Page 1 Yonsei International Summer School. Course: Innovation & Technology Management. Student essay: Aurélie CLAUSEL, August 2019
How the South Korean conglomerates – chaebols have contributed to make of South Korea an innovative country competing directly with American and European companies?
Aurélie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
Page 2 By the end of 1950s South Korea was one of the poorest and least developed country in the world. The nation had been wiped by two successive devastating wars and a long period of foreign occupation. With the departure of the Japanese in 1945, only 2% of the population older than fourteen had completed secondary school and the illiteracy rate stood at 78% (Kim, 1997). The separation of the two Koreas further handicapped the country as most of the natural resources and most cultivable lands were located in the North. South Korea was an isolated peninsula with a small and poor national market no one would have bet on. However, less than 40 years later the country became one of the richest and more advanced economy in the world. It started to play a critical role on many technology intensive markets and actively innovate. This essay is going to demonstrate how the South Korean conglomerates – chaebols - have contributed to make of South Korea an innovative country competing directly with American and European companies. This essay is mainly going to illustrate the examples of Samsung, Hyundai Motors and Kakao Talk.
Over the four last decades South Korea has managed to transform its industry. It passed from a country whose economy mainly relied on agriculture to a country known for being at the technology frontier in many areas. This part is going to discuss how the country reshaped its economy from being known for its textile and flip-flops to being recognized for its technology-intensive products. By looking at different technology-intensive markets it is undeniable that South Korea took them by storm. For example, on the semiconductor industry, that requires a lot of research, in only twelve years South Korean chaebols passed from being minor producers in 1987 to controlling almost half of the market in 1999. Figure 1-1: Korea’s world DRAM market share trends
Figure 1-2: Semiconductors top 7 corporations by year
Aurélie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
Page 3 This was made possible by the use of knowledge and capabilities learnt from more advanced foreign companies. South Korean groups were successful in catching up quickly and efficiently thanks to their important absorptive capacities of technological capabilities. A technological capability refers to the ability to make effective use of technological knowledge in efforts to assimilate => use => adapt => change existing technologies (Kim, 1997). Indeed, it is easy to distinguish the different phases illustrated by Kim in the development of Korean technologies. However, in the case of South Korea some scholars claimed that the model is too simplistic and does not explain the formidable speed of the process. With this conviction, in 2001 Choi and Lee added to the model the use of Jigsaw puzzle theory to explain the rapid path of the development. According to them at different steps of their learning, companies were dealing with three types of technologies: External dependent => externally acquired => internally-accumulated. Companies were never wholly dependent and gradually passed from a type of technology to another. This can be easily observed with the development of Semiconductor technologies by Samsung. Figure 1-3: Trends of technology composition in product generations
The first phase of development was merely a phase of imitation, duplication and assimilation lasting from 1960 to the end of the 1970S. It marked a politic of massive imports of technologies from Japan and the United States. South Korea was at the time a labor intensive economy, being one of the “cheap factories of the world”. Figure 1-3 illustrates that Samsung started by assembling products for foreign companies, the ones that dominated in the early 1980s – refer to figure 1-2 -. While assembling the parts Samsung engineers could benefit from technological transfer by practicing reverse engineering. The government was encouraging self-learning and technology absorption over R&D, Foreign Direct Investments (FDIs) and Foreign Licensing (FL). They were regulated and highly restricted. Consequently, capital goods imports were worth twenty-one time the value of FDIs and seventy times the value of FL. Reverse engineering allowed for a more rapid independence. In the 1980s chaebols had already externally acquired and accumulated enough technologies to catch up with westerncompanies. This marked the beginning of the appearance of Korean indigenous products. Until the mid-1990s, South Korea was in a phase of creative imitation. Companies were
Aurélie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
Page 4 releasing their own lines of products, different from their competitors, but based on the same technologies. There were not innovating much. It was the case for Hyundai Motors with the release of their Pony cars. Figure 1-4: Product History of Hyundai Motors
The commercialization of their own products allowed chaebols to prepare for innovation and start to do some R&D. In addition, as reverse engineering was not so much useful anymore, the government started to favor R&D. The share of the private sector in the national R&D expenditure rose from 38 % in 1980 to 73 % in 1995. There was also a gradual liberalization and openness to FDIs and FL. Starting in the mid-1990s Korean chaebols had made of Korea a member of the industrially advanced country community. Companies became to follow their own path and innovate thanks to internally accumulated technologies. They eventually got caught in an intensive in-house R&D frenzy that led to high indebtedness and made their situation difficult in the 1997 Asian Crisis. Following the crisis, chaebols entered the new millennial participating more in global alliances, joint ventures or M&A to leverage risks. An ongoing example is Hyundai Motors partnership with the Silicon Valley company Aurora to run the race of self-driving car development.
In 1960s, after the end of the Korean War, President Park Chung Hee used the funds given by the US - Asian version of Marshall Plan - to launch an export strategy and mobilize all the country’s resources to counter the country’s poor market conditions. The previous part distinguished three main actors to South Korea development: chaebols, universities (Korean engineers) and the government. If South Korea managed to catch up and innovate so quickly it was thanks to the well-developed relationships between these three actors. The development around those three entities characterized the triple helix model. Together they composed the National Innovation System (NIS). The NIS is ‘‘the network of institutions in the public and private sectors whose activities and interactions initiate, import, modify, and diffuse new technologies’’ (Freeman, 1987). This part is mainly going to deal with the government and universities.
Aurélie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
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In the NIS, “The government steered the wheel and supply the fuel while chaebols are the engine” (Kim 1997). Under Park’s presidency the government borrowed heavily from abroad to catch up as fast as possible. It also took control of commercial banks. The aim was to create a meritocratic system to encourage and reward the most ambitious and determined entrepreneurs. This is precisely this meritocratic politic of learning and granting that created the giant chaebols and the situation of monopoly/duopoly in certain industries on the national market. In the 1960s the government was the first investor in companies that were granted seed money. To be able to perceive more, grow, stay alive and be granted lucrative licenses they had to stick to the government’s fixed objectives and take risks. These objectives were always very ambitious and set by short period plans like the export targeting system launched in the 1960s. When a stable landscape of companies started to emerge, the government began to subsidy R&D and to organize research. In 1969 a ministry of Science and Technology was created and throughout the 1970s and early 1980s several government research institutes were established. Nowadays, the government is still an active actor of innovation. For example, in order to maintain Korean technological advance, the Korean government started funding research on 6G last year while many western countries have barely access to 5G. Nonetheless, if the level of illiteracy and of education had not evolved significantly from the situation of 1950s no chaebols would have succeeded. Many of the first entrepreneurs were people who learned from the Japanese during the occupation and South Korea was in gradual need of educated engineers. In coincidence with what was explained in the first part, universities became gradually more important when Korea started to acquire technology and do R&D in the 1980s. As we can see in the following graph the 1980s educated students were certainly at the origin of the starting growth in number of Korean patenting applications in the 1990s. Today, to sustain this growth, the government and firms are investing more and more in academic research. Thus, those investments passed from $894 million in 2002 to $3.4 billion in 2012. As a result, from 2000 to 2012, the number of patent applications increased by 85 %. Figure 2-1: Number of patents in South Korea
The three actors of the helix are at the origin of cluster effects. South Korea and especially
Aurélie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
Page 6 Seoul is in some extend a large scale “Silicon Valley” where private/public actors are sharing resources and knowledge to innovate and promote South Korean success. Figure 2-2: The cluster effect
By becoming innovative, South Korean companies entered in direct competition with large American tech-groups like Google or Apple, or European long term established companies like Renault-Nissan. Their success can be seen in the Global 500 where sixteen of them are ranked. It makes South Korea the 7th nation in term of number of companies in this ranking. The prosperity of chaebols is partly due to their high capacity to innovate that gives it a first mover advantages. In this part we are going to discuss both the present place of South Korean chaebols on the international market and on the national market. Innovation allows chaebols to be competitive on the world market and to compete with the high standards of Silicon Valley companies. For instance, on the mobile phone industry –also they were relatively late entrants - South Korean companies changed the game thanks to their innovative capacities. Today, Apple and Samsung are competing for the leading position of alongside Huawei. The chaebol is a colossal competitor for Apple, so much that even on Apple’s own market, Samsung together with LG, the other big mobile phone manufacturing chaebol, managed to impose themselves very early. Notably thanks to their broad range of offers targeting the high-end market as so as the lower-end market. Figure 3-1
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Nowadays LG was outraced but Apple and Samsung are still big rivals. The innovative capabilities of Samsung allow it to out course Apple in certain cases. For instance, Samsung released curved screen phones from 2014 with the Galaxy Note Edge and Infinity display screen phone from April 2017 with Galaxy S8. Apple’s first infinite screen phone was released later in 2017. Apple was however the first to release features such as facial recognition sensors. This race and rivalry led to a patent war initiated by Apple between the two firms. As early as 2010, the American started to fear the chaebol that was growing exponentially. Job was claiming: “I’m going to destroy Android, because it‘s a stolen product. I’m willing to go to thermonuclear war on this. They are scared to death, because they know they are guilty.” This patent war is a proof of the success of Samsung as it managed to disturb the established market and worry Apple. Figure 3-2: The Apple Samsung patent war
However, the high competiveness of the NTC market can be harmful to innovation and chaebols. Manufacturers want to enjoy first mover advantage and to be the first on the market at the expense of safety or performance. In the last few years, Samsung’s reputation was hurt twice because of products launched too fast. Once in 2016 with the Galaxy Note 7, that was released despite being not safe and once this year with the not reasonable plan to release their first foldable phone in April, many pre-released phones being broken at first use. Apple encountered a similar problem as with the Note 7 in 2009 with the exploding iPods case. However, in this war Samsung had for a long time an important advantage on Apple: it was one of its important suppliers. The nature of chaebols and their high vertical integration allow them to better control their supply chain, and in some cases also their competitors supply chain. Until very recently the American giant was highly dependent on Intel, Qualcomm or the Koreans SK Hynix and Samsung for semiconductors procurements. Early investments in semiconductors allowed South Korea to produce in 2018 61% of the world semiconductors. This importance could already be observed in 2015.
Aurélie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
Page 8 Figure 3-3:
Semiconductors are strategic tools for the South Korean dominance of the mobile phone industry so that there are at the heart of the trade war between Japan and South Korea. Japanese politicians understand that to hurt their neighbors in case of political discordance, they need to prevent them from selling chips and so putting in difficulty the whole global mobile phone supply chain. It works since after reselling its Toshiba chips ownings, Apple did the large scale buying of semiconductors suppliers Intel in July 2019. The Japanese had anything to win, Toshiba that is independent again needs to boost sells to stay alive and so eliminating giants like Samsung and SK Hynix and break their relationships with Apple is their best choice. The importance first mover advantage of South Korean chaebols is very visible on the Korean market. Ones who comes in South Korea for the first time would be surprised by the absence or near inexistence of some leading global firms. For instance, while observing the South Korean car fleet, the two Korean big brands Hyundai Motors and KIA dominate alongside position the French owned Renault-Samsung manufactured in Korea in third position. Other examples, can be the struggle of Google on the search engines market long dominated by the South Korean Naver or the low performance of Facebook Messenger against Kakao Talk on the instant messaging market. The very innovative Korean market appears as nearly impenetrable market for many high technology foreign firms. There seems to be a Korean exception. This can be explained by several factors such as the first mover advantages, Korean citizens’ patriotism and the importance of buying Made in Korea products. There are also political factors like a high level of protectionism and in the case of IT technologies an important network effect. Figure 3-4: the network effect and Kakao Talk
AurĂŠlie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
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We saw in the previous part that the government plays a significant role to enhance innovation in South Korea, nonetheless it is not its sole role. In many countries “the overriding purpose of government regulation, it is supposed by regulators, is to avoid or correct for market failure.” (Liebenau, 2007) but in South Korea the government plays a role of prime supporter for chaebols. It kind of closes the country on itself and is sometimes responsible for lock-in effects that deprive the market from using alternatives and block the circulation of know-how. The Korean government uses a lot of non-tariff protectionism measures to promote and favor South Korean companies. The government is giving import subsidies to chaebols to help them cover for their R&D expenses and promotion. It also prevents foreign companies from entering the market. It can directly ban a company/service from entering the country like Uber taxi or Google Maps. The latest was denied access to the mapping data of the country for security reasons and following protests of citizens. In 2017, while Google tried to gain access bringing forward the Winter Olympics, the government subsidies both Kakao and Naver for them to quickly develop a service available in several language and did not lift the ban. The second way to prevent the entrance of a foreign company is by indirect measures like the establishment of ‘Korea-unique standards’ that makes exports uninteresting for foreigners. A striking example of the restrictions on heavy vehicles, which are 5cm less than European and 10cm less than US standards to favor Hyundai Motors and Daewoo bus. This is the reason why the only way for Renault to enter the market was by buying a Korean firm that produced Korea goods exclusively for the Korean market.
In a nut shell, South Korean chaebols managed to catch up quickly and became innovative thanks to a well-orchestrated process. At the beginning the aim was to quickly absorb technologies thanks to foreign importations. Once the technologies were acquired and well understood, companies started to develop their own indigenous models and do R&D. This will later lead to innovation. However, in this process chaebols were just a part of a helix system. Their prosperity was in big part due to their good relationships with the government and universities. The first being at the wheel of the process implementing policies that helped to the development of chaebols and boosted exportations. Today, chaebols are still helped by the government’s indirect protectionism to compete against western giants that are more and more impacted by the fierce of Korean chaebols.
Aurélie CLAUSEL | YONSEI INTERNATIONAL SUMMER SCHOOL, 07.2019
Page 10 Sources
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