HCCS Management Discussion

The world’s biggest information-technology firm is diving into green technology and the health
business. It should take care; its rivals should take notice
IN 2000 Samsung started making batteries for digital gadgets. Ten years later it sold more of
them than any other company in the world. In 2001 it threw resources into flat-panel televisions.
Within four years it was the market leader. In 2002 the firm bet heavily on “flash” memory. The
technology it delivered made the iPhone and iPad a reality, and made Samsung Apple’s biggest
supplier–and now its biggest hardware competitor.
The handsome payoffs from these ballsy bets made the South Korean company a colossus; last
year its sales passed $135 billion. Now it is embarking on a similarly audacious plan to move
away from electronics into technologies where it barely has a presence today. It intends to spend
$20 billion over ten years on solar panels, light-emitting diodes (LEDs) used for lighting,
electric-vehicle batteries, medical devices and biotech drugs. These businesses shift Samsung
away from easily substitutable gadgets towards more essential industrial goods (see table)–or
from “infotainment” to “lifecare”, as the company puts it. Just as electronics defined swathes of
the 20th century, the company believes green technology and health care will be central to the
21st.
With these plans Samsung sees itself bringing technologies that are vital for society into much
broader use. The company has always had an eye for more than just the bottom line, seeking
both to epitomise and to further the progress of its home country. Now it talks idealistically of
improving the world by driving down the costs of zero-carbon power and providing poor
countries and rural areas with medical equipment and drugs that they cannot afford today.
But the plans are also an ambitious industrial power play, one that challenges some of the
world’s biggest companies. Success would raise Samsung to new heights. Failure could lead to
the firm losing what it already has, no longer able to flourish just as a maker of commodity
gadgets and components.
The 83 firms that are tied together in Samsung’s remarkably complex structure provide 13% of
South Korea’s gross exports. Samsung Electronics, the biggest of them, started making transistor
radios in 1969, and has since evolved into the world’s leading manufacturer of televisions and
much else. It is on track to unseat Nokia as the biggest maker of mobile phones by volume next
year. Interbrand, a consultancy which seeks to calculate brand value, puts it in the world’s top
20, ahead of Sony and Nike. It has come second only to IBM in the number of patents earned in
America for five years running.
Yet Samsung wants to diversify away from consumer electronics, a market that suffers from
falling prices, thin margins, fast product cycles and fickle customers. Chinese rivals may do to
Samsung what Samsung did to Western and Japanese firms in the past. “The majority of our
products today will be gone in ten years,” Samsung’s patriarch and chairman, Lee Kun-hee, told
executives in deliberately alarmist tones last January.
To survive, he said, the company must not only go into the new businesses it has identified, but
open itself up to work with partners and even make acquisitions. Samsung has long been a closed
world from that point of view, a disposition reinforced after the disastrous acquisition of a PC
maker in the 1990s. But now the company knows it needs new skills, sales channels and
customers.
Doing it the Samsung way
By 2020 Samsung’s Mr Lee wants the five new business areas to provide $50 billion of revenue,
and Samsung Electronics to be a $400 billion company (for all his provocations to his staff, there
are still going to be a lot of flat screens and memory sold). It is a brash goal, admits Inkuk Hahn
of Samsung’s strategy team. But ten years ago people were incredulous when Mr Lee insisted
that Samsung, which then had sales of $23 billion, could be the number-one technology
company, with sales of $100 billion. It claimed that crown just eight years later. “This is why
you have to believe us,” Mr Hahn insists.
The new businesses look remarkably disparate, but they share a need for big capital investments
and the capacity to scale manufacture up very quickly, talents the company has exploited
methodically in the past.
Samsung’s successes come from spotting areas that are small but growing fast. Ideally the area
should also be capital-intensive, making it harder for rivals to keep up. Samsung tiptoes into the
technology to get familiar with it, then waits for its moment. It was when liquid-crystal displays
grew to 40 inches in 2001 that Samsung took the dive and turned them into televisions. In flash
memory, Samsung piled in when new technology made it possible to put a whole gigabyte on a
chip.
When it pounces, the company floods the sector with cash. Moving into very high volume
production as fast as possible not only gives it a price advantage over established firms, but also
makes it a key customer for equipment makers. Those relationships help it stay on the leading
edge from then on.
The strategy is shrewd. By buying technology rather than building it, Samsung assumes
execution risk not innovation risk. It wins as a “fast follower”, slipstreaming in the wake of
pioneers at a much larger scale of production. The heavy investment has in the past played to its
ability to tap cheap financing from a banking sector that is friendly to big companies, thanks to
implicit government guarantees much complained about by rivals elsewhere.
From crisis to crisis
Competitors also balk at the way that Samsung scales up quickly to supply parts to other firms as
well as to price its own gadgets keenly. Supplying the rest of industry drives down Samsung’s
costs yet further, with its rivals in effect financing its success. This strategy can create problems.
Samsung is Apple’s most important supplier in the smartphone and tablet-computer markets.
Samsung components, which include all the product’s application processors, account for 16% of
the value of an iPhone. It is also Apple’s greatest competitor in those markets. Apple is now
suing the socks off the company for copying the look and feel of its products. At the same time it
is urgently seeking new ways to diversify its supply chain.
Many companies saw the potential of technologies such as liquid-crystal panels, flash memory
and rechargeable batteries. But few could or would invest billions in a single shot. That Samsung
could is in large part due to a cult of personality around Mr Lee, who likes to keep things shaken
up. “Change everything but your wife and children,” he exhorted managers in 1993. Three years
later he lit a bonfire of 150,000 gadgets because some were defective. Other bosses often need to
face a crisis–a “burning platform”, in the memorable phrase of Stephen Elop, Nokia’s boss-before they make changes. Samsung does so when things are going well. The company has
pushed out older managers and restructured its divisions over the past two years despite posting
record profits even in the global financial crisis.
Management by perpetual crisis is perhaps a reflection of the company’s national roots. In 1960,
when the Samsung companies were taking off, South Korea, battered by recent war, had a GDP
the same size as Sudan’s; its last dictatorship fell only two years before the Berlin Wall. Today,
though it enjoys one of the world’s highest living standards, South Korea is still an emerging
market in some ways, with endemic corruption and some economic structures that border on the
feudal.
Samsung, like its host country, has a foot in both the industrialised and developing worlds, which
it has used to its advantage. While it has always produced things for major IT firms and Western
consumers, it has aimed products at poor countries, too. This not only gave Samsung scale, but
also market shares in the world’s fastest-growing economies. Whereas Western firms reeled in
the recent recession, Samsung flourished, buoyed by sales in markets that never stopped
growing.
From laptop to rooftop
Some of the five new businesses Samsung has set its sights on are not that far from what the
company does already. Its experience in semiconductors and flat-screen televisions fits easily
with solar cells and LED lighting: the technology, materials and production processes are
similar. Likewise, its expertise in batteries for gadgets smooths the way for making car-sized
ones. The firm wants to apply the magic of ever cheaper chips to medical devices as it did
mobile phones. Even drugs aren’t so far afield when one sees them in business-process terms:
high-volume manufacturing with low defect rates. In all these fields Samsung believes it can sit-rather as Korea does geographically–in between China, with its cheap products, and Japan, with
its costly, high-quality ones.
In solar energy Samsung plans to make panels for both domestic and industrial use. Producing
panels for “utility-scale” projects may allow it to lower prices for the residential market.
Changsik Choi, who heads the business, also speaks optimistically of a “brand halo effect”:
consumers whose living rooms are stuffed with Samsung products may choose the company for
their rooftops too.
Samsung’s dominance of the television market has already made it the world’s second-largest
maker of LED components (Japan’s Nichia is the first). Since they consume a fraction of the
power of conventional light bulbs, last longer and avoid some of the drawbacks of compact
fluorescents, the first-generation alternative, LEDs are expected eventually to become the norm
for all sorts of lighting; the market is growing by 65% a year. Samsung already sells LED
lighting in South Korea and plans soon to expand abroad. In this market it will hew to its strategy
of supplying parts to others, thereby lowering costs for its own products.
In electric-vehicle batteries Samsung has joined forces with Bosch, the world’s biggest supplier
of car parts and a fount of expertise on power- and engine-management. Samsung sees their
partnership, SB LiMotive, as crucial since the car business relies on close ties between carmakers
and their suppliers. Some carmakers, like Nissan and Toyota, will continue developing their own
batteries, but Samsung thinks that many carmakers will not want to be in the battery business,
just as they are not in the petrol business, and that they will be a rich source of demand. Chrysler
and BMW are among SB LiMotive’s first customers.
For medical devices Samsung aims to use information technology to lower costs, add features
and make devices accessible to more people, particularly the poor. For example, it is developing
X-ray machines that expose patients to less radiation and do away with physical film. Last year
Samsung began selling a machine for testing patients’ blood chemistry that is smaller, cheaper,
uses less power and offers more functions than rivals’ devices. In April it bought Medison, a
South Korean maker of ultrasound equipment, as a way to get further into the market: it is
looking at buying body-scanner firms too.
In biotech drugs the company plans to begin as a contract manufacturer of biosimilars (generic
versions of biotech drugs) and has partnered with Quintiles, a drug outsourcer. The strategy lets
Samsung gain experience while assuming little commercial risk. It is building a factory outside
Seoul and has already begun developing biosimilars for medicines with patents that expire in
2016.
Incumbents and incomers
The markets are certainly promising, but they entail huge risks. Nor is the size of Samsung’s
commitment quite on a par with the overwhelming force it has deployed in the past. The solar
and LED businesses already struggle with oversupply, meaning Samsung may get walloped by
the same dramatic price erosion as it has seen in liquid-crystal flat panels. Electric-vehicle
batteries may be in similar straits if demand for the cars they might power remains sluggish.
They are also in the crosshairs of Chinese companies, as are medical devices and drugs. In a bid
to escape the vagaries of consumer electronics, Samsung may be ploughing headlong into the
areas most ripe for invasion by a new breed of emerging-market titans.
Acquisitions, a way of life in the drug business, are also a challenge: knowing what to buy and
when is a skill that Samsung has never developed. The same applies to dealing with government
regulators: Samsung’s towering importance at home may give it a false confidence in its ability
to handle governments elsewhere.
Its position as a domestic titan could be a hindrance in other ways. Working with partners entails
sharing information and a view of joint success that is at odds with its insular corporate culture.
The international talent the company will need to attract is also less likely to be moved by the
admonishments and appeals to national grandeur that Mr Lee has used to build Samsung’s
success. They might, indeed, find such things wearisome.
Samsung’s rivals are ready for a fight. Philips and GE have been preparing to compete with
firms in emerging markets for years, devising cheap products and building on existing
relationships with clients. Toshiba plans to spend an extra $9 billion in the energy and
environment sectors over the next three years on top of its normal capital expenditure, research
and acquisitions. Fumio Ohtsubo, Panasonic’s boss, praises his Samsung rivals for their low
prices but believes his company develops superior technology. “If we can get the same
conditions in terms of free-trade agreements, low corporate taxes and other incentives, then we
should be able to compete,” he says.
In medical devices Samsung will be up against firms like Philips, Siemens, Toshiba, Hitachi and
GE (for which Samsung made medical equipment between 1984 and 2004). GE’s Indian office
famously reduced the cost of an electrocardiogram machine from $2,000 to $400. And the fact
that hospitals prefer to buy different equipment from a single vendor so that, in principle,
everything works together puts a maker of this-and-that at a disadvantage, even if it is cheap.
Perhaps the biggest challenge, though, will be one of succession. The 69-year-old chairman’s
son, Jay Y. Lee, 43, was named president last December. Educated in Japan (like his father and
grandfather, the firm’s founder) and at Harvard Business School, he has been groomed from the
start. His first test will be reforming the jumble of opaque, interlocking relationships and
conflicts of interest that passes for Samsung’s corporate governance.
The “Samsung group”, as it is often known, has no legal identity. The 83 firms sit under an
umbrella company called Everland, in which the Lee family has a controlling 46% stake. The
family also has minority positions in other Samsung firms, which often hold shares in other
members of the group, and indeed in Everland. For example, the family and related interests own
21% of Samsung’s life-insurance firm, which owns 26% of its credit-card business, which in turn
owns 26% of Everland. Get it? Nobody other than the Lees really does.
The company must change if only to avoid South Korea’s devastating 50% inheritance tax after
the elder Lee’s passing (his father died at the age of 77). That would further whittle the family’s
stakes, notes Shaun Cochran of CLSA, a broker. He expects a holding company to be formed, so
investors have clearer exposure to the different parts of Samsung’s businesses. The younger Lee
will also need to root out corruption, which his father often complained about without rising
above it; the elder Lee’s 2008 conviction for tax evasion was pardoned in 2009 on the ground of
his importance to the country.
When the dealing’s done
Chairman Lee’s fear is that successful companies get flabby when they hit middle age. He saw
that in Sony, founded in 1946, which has been struggling since the 1990s. Samsung Electronics
turned 40 in 2009, which prompted Mr Lee to lay the groundwork for the five new growth areas.
Diversification is essential. In the mid-1990s almost all of its profits came from DRAM memory
chips: when the market soured in 1996, its profits shrivelled by 95%.
Samsung may be swapping “infotainment” for “lifecare”–but it is still in the hardware business,
and that may leave it more vulnerable than it thinks. Many of today’s computer and electronics
giants are getting out of the manufacturing businesses altogether. IBM has shifted to services,
trailed by Japan’s Fujitsu, while Philips and Siemens both sold their IT businesses to focus on
other areas. But getting out of things is not something Samsung is good at. Despite a
commitment to perpetual crisis, a mixture of implicitly subsidised capital, weak shareholder
pressure and family control has allowed it to stick too long with dodgy decisions–such as its
move into cars, brought short only by the Asian financial crisis, and its only-now-ended
commitment to hard-drive manufacture.
Even with a $20 billion bankroll, bets can be spread too thin. Perhaps the biggest risk for
Samsung is not that none of its wagers will win, but that it won’t be able to stop betting on the
ones that don’t. Knowing the right time to bet is a great gift. So is knowing the right time to walk
away.

Purchase answer to see full
attachment