Liuyang, a city in Hunan Province in China, is known as “the home of firecrackers and fireworks”. The fireworks making in Liuyang has a long history and tradition in China, and enjoys a high reputation in the domestic market. It was also the top fireworks exporter in the world, covering 60% of the global production. However, the fireworks market in China faced an intensified competition and several legal restrictions. Jerry Yu, who was running a small family-owned chain of gift stores in New York, was asked to invest in a fireworks factory.
He has management experience and global insight with an MBA, but he is challenged to decide whether it is worthwhile to invest in it considering the threats it is facing and the weaknesses of the industry. As far as I am concerned, although the downward trend of fireworks consumption (see Exhibit 1) made the whole firework industry seem like a sunset industry, there are still some opportunities for investing this industry and make profit out of it. PEST Analysis Political Factors In the domestic market, local governments have different regulations regarding fireworks consumption.
By 1998, one-third of the cities in China had completely banned the use of firecrackers and fireworks. Another one-third only allowed fireworks in designated places. However, in the mid 2000s, several cities eased restrictions on fireworks. In the meantime, the domestic market still lacks pricing regulation and intellectual property protection, which caused cutthroat price competition and discretionary copying of popular design. Fortunately, Liuyang Firecrackers and Fireworks Industry Department implemented an offensive strategy to revive fireworks industry.
In the foreign market, many countries made restrictive and complex regulations on fireworks. Although fireworks from China were rich in variety and low in price, they had a low reputation in quality control, packaging and timing control. Nevertheless, Chinese fireworks market was a magnet for foreign investors, and by 2009 Chinese imports dominated the entire Canadian market. Economic Factors In the domestic market, on one hand, the initial capital requirement for starting a manufacturing facility was relatively low. Consequently, the number of small companies mushroomed and intensified competition.
On the other hand, as a result of Chinese economic growth, labor costs and raw material costs were steadily increasing. Furthermore, account receivables and bad debt control created a credit crisis and slowed down the cash turnover. As a result, some manufacturers withdrew from selling in the domestic market. In the export market, foreign investments were funneled into the Chinese fireworks industry in recent years. However, China-made fireworks would wholesale for much lower prices than similar products made in Japan or Korea, which resulted in limited profitability.
Social Factors Both in China and in foreign countries, fireworks were widely used for religious festivals and public celebrations. Also, the diversity of cultures greatly reduced the seasonality of the fireworks production and sales. However, the majority of the workers in China were regular famers who had learned how to make fireworks just by watching and following their elders, which means most factories lack skilled fireworks-makers. This would be a big problem because the increasing concerns over safety issues led stringent regulations and quality control process.
Moreover, as people became more environmentally-conscious and more distracted by the endless diversities of modern entertainment, traditional fireworks industry faced great challenges to innovate. Technological Factors Over the last few decades, numerous novelties were added to the fireworks family, but innovation had never reached beyond product variations. Also, most of workers were regular famers and they had never been trained. Therefore, there were no initiative and professional human resources for technological innovation.
Furthermore, machines were rarely used because the work could be done manually and labor costs were lower than costs of investing in machines. Nonetheless, the emerging of electronic marketing was a good news for Chinese fireworks. 20% to 25% of the worldwide sales were through the Internet. Five Forces Analysis Intensity of Competitive Rivalry For the domestic competition, fireworks factories competed mainly on flexibility, price, and variety. Although Liuyang was the most famous place for making fireworks in China, some other cities grew up.
For example, Liling, Pingxiang, and Wanzai were fierce in price and quality, while Dongguan took advantage of its location to compete in export market. Moreover, most of fireworks factories were owned either by villages or families. They were flexible and quick in responding to market demand and they did not entail much administrative cost. They also neglected intellectual property protection and would copy any popular design. These two factors led to a lower selling price. For the foreign competition, products made in Japan and Korea were superior in quality.
When facing stringent regulation of exporting fireworks, China-made fireworks had a lower reputation in quality control. Furthermore, many foreign manufacturers outsourced manufacturing activities to China. As a result, Chinese fireworks were risking losing brand identities. The Threats of New Entrants Chinese fireworks market had a low entry barrier. The initial capital requirement for starting a small family firework workshop was as low as RMB 125,000. Also, the majority of the workers were regular untrained farmers, so labor costs and raw materials costs were low.
In addition, the distribution channels enabled wholesalers to ship directly from the manufacturers, and then resell to street peddlers and convenience stores. Therefore, such low entry barrier led to intense competition. The Threats of Substitute Products Due to the increasing environmental consciousness and more diversities of modern entertainment, some substitute products appeared. For example, laser beams with sound effect, the “make-believe firecrackers”, and little red balloons.
Although these substitutes were very attractive and innovative, no real substitutes could replace fireworks to build an atmosphere of noisy happiness. The Bargaining Power of Customers The domestic customers were usually common people and governments. Economic growth led to higher living standards and lifted restriction. Common customers paid more attention to the quality of fireworks. They could get a lot of information from news and Internet. Governments also had high bargaining power, not only because they invited bidding to decide on suppliers but because they usually purchased fireworks in bulk.
The foreign customers were also powerful buyers. First, they were well informed, both through past dealings with China and Internet. Second, they could hire experienced agents. Third, they could bargain directly with the factories for lower prices. Fourth, they could change suppliers with no switching costs. The Bargaining Power of Suppliers The process of making fireworks was very dangerous. The quality of ingredients was of significant importance since impure materials could greatly increase the possibility of accidents. The main raw materials for fireworks were easy to procure.
In addition, there were enough substitutable labors, suppliers, and services. Although the costs of raw materials were rising in China, once manufacturers establish a long-term relationship with suppliers, the quality and price would be guaranteed. Thus, the threat of suppliers was low. Conclusion and Recommendations To conclude, the fireworks industry has potential. Jerry Yu should invest in the fireworks factory. The investment money will not be a tremendous amount, just around $200,000. If he just decides to invest in a small family-owned factory, it will be way less than $200,000.
As to the functional strategy, Jerry would use high quality raw materials in making fireworks to reduce the possibility of accidents and to improve exportation. He should also invest in high technology equipment and R&D to catch up with or exceed the performance of competitor’s products. Moreover, he should hire skilled factory workers and launch training programs to make them fit the innovation of products. As to the business strategy, Jerry could focus on improving products differentiation. Due to the low labor costs and raw material costs, competing on cost will lead to a low profit margin.
He can upgrade packaging or visual effects of fireworks. Meanwhile, he should attach more importance to quality control and timing control in order to rebuild reputation in global market. As to the corporate strategy, Jerry could ask government to impose penalties on plagiarism to protect brand names and intellectual properties. Furthermore, he can plan to expand foreign markets, especially European market because European countries have large consumption of fireworks (see Exhibit 2) and they have less stringent standards of importing fireworks.