Upgrading to lead firm position via international acquisition: learning from the global biomass power plant industry

1. Introduction

A prominent feature of economic globalization is the increasing dislocation of production activities across various developed and developing countries. The literature on global value chains (GVC) addresses how this global restructuring of production is organized, focusing specifically on the implications for developing country firms from their insertion in GVCs ( Gereffi et al., 2005 ). The concept of upgrading has been used to describe how the industrial performance and competitiveness of developing country firms may be improved from their production of higher value-added products by employing more efficient production strategies and/or increasing the skill content of their activities ( Humphrey and Schmitz, 2002 ). A widespread understanding in the literature is that upgrading is mainly driven by powerful lead firms from developed countries that determine the prospects for upgrading by controlling the flows of knowledge and information in GVCs ( Schmitz and Knorringa, 2000 ; Gereffi et al., 2005 ). Some forms of value chain governance by lead firms are considered more conducive for upgrading of supplier firms in developing countries than others. In so-called captive value chains, for example, lead firms are likely to support process and product upgrading actively in order to enhance product quality, while at the same time preventing functional upgrading beyond a certain level in order to hinder local producers from taking over core competences of lead firms ( Navas-Alemán, 2010 ). This understanding of potentials and barriers for upgrading has recently been criticized by Tokatli (2013) , who argues that upgrading studies need to take into account strategic intentions and outcomes within the realm of supplier firms while also incorporating the room for manoeuvre determined by the institutional environment. Likewise, Pietrobelli (2008) has criticized the prevailing understanding of upgrading as a linear and hierarchical trajectory.

Few studies have looked at how developing country firms may upgrade to become lead firms in their own right, and even fewer have looked at how this has come about through foreign acquisitions of incumbent lead firms at the technology frontier. The few in-depth studies undertaken of particular cases, such as Bonaglia et al. (2007) , Duysters et al. (2009) , Becker-Ritterspach and Bruche (2012) and Nam and Li (2012) , are generally optimistic about the outcome of such investments due to the mutual strategic and economic benefits for the acquired and acquirer firms. For example, benefits in terms of market expansion, access to new sources of financing and the acquisition of complementary assets. In contrast to this prevailing optimism, Nummela and Raukko (2012) and Spigarelli et al. (2013) stress that expected benefits may not necessarily materialize mainly due to cultural differences in the acquiring and acquired firms. These differences are not only underestimated, but also highly difficult to manage successfully and result in a lack of cultural integration in the post-acquisition phase. However, outflows of FDI from developing and transition economies reached a record level of $388 billion in 2010, corresponding to a 29% share of total global FDI outflows (up from around 6% in 2000) ( UNCTAD, 2011 ). Most of this recent surge in FDI from developing countries is in the form of cross-border mergers and acquisitions (M&A) into Western countries, which are mainly motivated by attempts by developing country firms to upgrade through technology-seeking investments ( Luo and Tung, 2007 ). Thus, a fundamental shift in the conditions for upgrading in developing country firms seem to be underway, which has been left largely unexplored in the GVC literature thus far. Hence, there is a need to investigate how the new opportunities beside the conventional mechanisms for upgrading proceed in developing country firms.

This article examines the case of a Chinese supplier of biomass boiler and power plants that has upgraded to a lead firm position mainly through acquisitions in Denmark of two firms possessing world-leading biomass technologies. The biomass boiler and power plant industry resemble a so-called producer-driven GVC (e.g. Gereffi, 2001 ) in which large industrial companies coordinate the production networks of component suppliers, and where competition is mainly based on technological advances through continued R&D. The underlying motivation of the two acquisitions made by the Chinese firm was to acquire and sustain a lead firm position by obtaining the technology and knowledge assets needed to engage in technological development. This makes it an interesting case with which to explore upgrading through international acquisitions while also directing attention to how upgrading by ‘own’ technological learning has taken place during the development of the firm. Consequently, the article incorporates the literature on technological capability formation in developing country firms and the international business literature on knowledge transfer in international acquisitions.

The article is structured as follows. Sections 2 and 3 explain the theoretical and methodological bases of the article. This is followed in Section 4 by a description of the global biomass power plant industry. Section 5 presents the development path of the Chinese firm from start-up to lead firm. In Section 6, key challenges for the firm in sustaining and expanding its lead firm position are analysed. Finally, Section 7 presents the main conclusions and discusses the implications for GVC theory.

2. Upgrading in GVCs

In the literature on GVCs, the topic of upgrading has attracted significant attention, as it according to Kaplinsky (2000) comprises one of the most viable responses for developing country firms to improve their industrial performance and competiveness. The concept of upgrading has been used, in broad terms, to describe how developing country firms may shift to more rewarding functional positions in a value chain or make products that have more value added invested in them and/or can provide better returns ( Gereffi, 1999 ; Gibbon and Ponte, 2005 ). In Humphrey and Schmitz (2002) , a now classical typology of upgrading was developed based on four categories, which has been used extensively in the literature (e.g. Schmitz, 2004 ; Giuliani et al., 2005 ; Pietrobelli and Rabellotti, 2007 ): (i) process upgrading: achieving a more efficient transformation of inputs into outputs through the reorganization of productive activities; (ii) product upgrading: moving into more sophisticated products with increased unit value; (iii) functional upgrading: acquiring new functions (or abandoning old ones) that increase the skill content of activities and (iv) inter-sectoral upgrading: applying competences acquired in one function of a chain and using them in a different sector or chain. Although helpful as a starting point, a number of conceptual and theoretical gaps in this upgrading framework have been identified.

First, as noted in Ponte and Ewert (2009) , the operationalization of this framework constitutes a significant methodological challenge in empirical research, as there are inherent conceptual overlaps that make it difficult to distinguish sharply between the four categories of upgrading. Generally, upgrading is understood as a vertical upward movement of firms away from competition based on lower wages and production costs (and low entry barriers) towards higher value-added activities. As a consequence, a prevailing understanding suggests that an upgrading trajectory exists which begins with process, continues to product, then moves on to functional upgrading and possibly even ends with inter-sectoral upgrading ( Hobday, 1995 ; Kaplinsky and Morris, 2003 ). In a similar vein, Gereffi (1999) describes upgrading as a transition of firms from involvement in the assembly of (imported) inputs, towards increased local production and sourcing, to the design of products sold under the brand names of other firms, and finally to the sale of their own branded products. This hierarchical understanding has been criticized by Pietrobelli (2008) for constituting a rigid and schematic way of handling issues of firm- and industry-level competitiveness. As pointed out by Ponte and Ewert (2009) , functional downgrading into lower value-added products may, for instance, be advantageous for firms seeking to increase their competitiveness. The relationship between upgrading and competitiveness therefore does not appear to be as straightforward as a hierarchical, linear sequence might indicate. Hence, Gibbon and Ponte (2005) and Gibbon (2008) suggest that upgrading should be determined according to the risk and reward structures for developing country firms in a given value chain which Ponte and Ewert ( 2009 , 1637) simply describe as ‘any trajectory or strategy that is likely to yield a positive impact on developing country firms’. ¹

Secondly, a number of issues related to the lack of attention being paid towards the role of learning and innovation in upgrading processes has also been stressed. The existing literature is dominated by a narrow focus on developing country firms' relationships with Western lead firms as the exclusive source of upgrading through their management of information and knowledge flows in value chains. For instance, Pietrobelli and Rabellotti (2011) directly deduce the prospects for upgrading from the strategic interest of lead firms. This overlooks additional intra-firm, local, regional or global sources of learning and innovation, which could play an important role in upgrading. As a corollary, most empirical analyses lack a systematic attempt to investigate the deliberate investments and efforts firms devote to upgrading ( Morrison et al., 2008 ). ² Despite a general recognition that the accumulation of different types of capabilities is a necessary condition for upgrading to take place, most empirical analyses of upgrading do not investigate learning, capability formation or innovation at the firm level ( Kawakami and Sturgeon, 2011 ). Indeed, firms are largely treated as a black box in upgrading research ( Kadarusman and Nadvi, 2013 ).

With a basis in the problems identified above, this article will incorporate two alternative analytical perspectives on learning and innovation. Not only will this approach enrich a GVC-based empirical analysis of upgrading via international acquisitions, it will also advance the theoretical understanding and analytical use of the existing framework on upgrading. The focus is on ‘industrial’ (or economic) upgrading as opposed to what has been termed ‘social upgrading’ and ‘regional/national upgrading’ ( Tokatli, 2013 ).

First, the article builds on insights drawn from the literature developed around the concept of technological capabilities that focuses on the micro-level dynamics of technological change in developing country firms ( Lall, 1992 ; Bell and Pavitt, 1993 ). In this literature, a distinction is made between ‘production capabilities’, which denote the ability of firms to use and operate existing production systems given various input combinations, including the ability to introduce efficiency improvements, and ‘innovation capabilities’, which comprise the ability of firms to generate and manage technical change in their products, equipment and processes (see Table 1 ). Research in this field is concerned mainly with exploring the intensity, persistence and effectiveness with which firms engage in various intra-firm learning efforts to build technological capability, such as the establishment of specialized task forces and R&D engineering teams, training programs, in-house project databases and reporting systems ( Malerba, 1992 ; Figueiredo, 2003 ; Marcelle, 2004 ; Bell and Figueiredo, 2012 ; Dutrénit et al., 2013 ). ³ As this analytical perspective draws attention to the deliberate activities that firms undertake to learn and innovate, it is considered useful to open the prevailing ‘black boxing’ of firms in upgrading research. We focus on exploring the following three key categories in the analysis: (i) establishment of an in-house R&D unit; (ii) strategic recruitment of experienced engineers and (iii) establishment of systematic experience-collection procedures.

Secondly, we draw on the literature on knowledge exchange in international M&As within international business and management research ( Teerikangas and Very, 2006 ; Easterby-Smith et al., 2008 ; Van Wijk et al., 2008 ; Birkinshaw et al., 2010 ). This literature is considered appropriate in the specific context of this article, which is concerned with exploring upgrading based mainly on international M&As. Since it is widely recognized in this literature that acquiring a firm with a valuable knowledge-based resource does not ensure that the knowledge is successfully transferred to the acquirer, the main interest is devoted to understanding the determinants of knowledge transfer ( Ranft, 2006 ). A relational perspective, which focuses on the specific relationship between the acquired and acquiring firm, is considered useful for this article ( Cummings and Teng, 2003 ). This perspective emphasizes the social conditions for knowledge transfer, such as the strategic interests of the parties involved, the learning intent of the acquirer and the willingness of the acquired to disclose knowledge, relationships of trust and property rights, cultural dimensions, and the interaction and communication patterns (including mechanisms of knowledge transfer, language proficiency and the tacitness/codifiability of the knowledge transferred) ( Hamel, 1991 ; Szulanski, 1996 ; Uzzi, 1997 ; Bresman et al., 1999 ; Björkman et al., 2008 ). We focus on the following three factors: (i) working practices; (ii) trust and intellectual property and (iii) communication patterns.

Combining theories regarding GVCs, technological capabilities and knowledge exchange in international M&As allows us to analyse processes that are central to the field of economic geography. It has recently been noted by Dohse et al. (2012) that economic geography has paid little attention to the increasing global presence of emerging multinationals and the resulting changes in knowledge flows (see Kedron and Bagchi-Sen [2012] for an exception). This is an important omission, as knowledge flows within emerging market multinationals may be fundamentally different from knowledge flows from developed to developing countries within Western-owned MNCs. Even though the main direction (from developed to developing countries) is the same, the different ownership structure and location of headquarters (in developing, not developed countries) implies that the organizational context for these knowledge flows is very different. Thus, as pointed out by Dohse et al. (2012) , a central question for economic geographers is the extent to which emerging multinationals succeed in transferring knowledge from acquired Western firms to their headquarters, in spite of knowledge transfer barriers. Naturally, such processes are central to understanding the possibilities for convergence in technological capacity between developed and developing countries.

3. Data collection and analysis

Single case study research designs are generally useful in exploratory research as it allows for a thorough investigation of a complex, contemporary and not well-understood social phenomenon, which is difficult to disentangle from its context ( Eisenhardt, 1989 ; Yin, 2003 ). As these characteristics indeed fit the topic of upgrading to lead firm position through international acquisitions, this research design was considered appropriate for this study (see Supplementary Appendix A for a description of the methodological issues involved in single firm case studies).

The main source of data collected for this article consisted of 20 semi-structured, face-to-face interviews conducted in 2012 and 2013 in China, Denmark and the UK with former and current employees of the acquired firms in Denmark and the acquiring firm in China. As the aim is to obtain a detailed understanding of knowledge exchange and upgrading in relation to the acquisitions made by Delta, actors outside the relationships between the acquiring and the acquired firms (e.g. representatives of the final buyers or subcontracting firms) were not included. The interviewees were selected across different management levels and divisions in order to triangulate the data obtained to ensure reliability. All of the interviews were digitally recorded and subsequently transcribed. Owing to confidentially concerns, the Chinese firm has been anonymized in this article under the name Delta.

Based on the importance ascribed to firms' own efforts to engage with upgrading in the technological capability literature, interview questions addressed the initiatives that Delta had implemented with the aim of improving its technical department in China, the outcome of these efforts and the challenges experienced. Interviewees were presented with specific examples of internal and external sources of learning from the literature and were asked to describe their importance in terms of building technological capability. They were then asked to elaborate how such learning activities became manifested in Delta’s internal processes, products and engineering activities.

Additionally, with a basis in the literature on knowledge transfer in international M&As, interview questions addressed the influential factors for knowledge exchange associated with Delta’s two acquisitions in 2007 and 2009 of Danish firms possessing world-leading biomass technologies. Interviewees were presented with specific examples of influential factors from the literature, such as the strategic motives for the acquisitions, the role of trust and property rights protection, differences in engineering and management working practices, the level of interest in accessing and exchanging knowledge, and the frequency and nature of employee interaction. They were then asked to elaborate on the respective importance of these factors in facilitating or preventing knowledge transfer.

The analysis of the interview transcriptions was undertaken by using the NVivo10 software package. Interviewee responses were coded by using a mixture of predefined categories based on the conceptual framework and by the establishment of new themes, as our understanding became more nuanced during the interpretation process (see Supplementary Appendix B ). The coding procedures were undertaken by two coders to enhance the reliability of the findings, and the inter-coder agreement was generally above 90%, which, according to Hruschka et al. (2004) , corresponds to an almost perfect agreement.

4. The global biomass power plant industry

A biomass power plant is an industrial facility that transforms biomass resources into energy through a combustion process. The two most widespread technologies are fluidized bed systems and grate-fired combustion systems; our focus is on the latter, as the firm studied in this article specializes in this technology. In a grate-fired biomass power plant, high-temperature and high-pressure steam is generated in a boiler by burning the fuel on a grate; the steam then enters a turbine that converts mechanical energy to electricity ( Yin et al., 2008 ). In the power plant, the transformation of biomass to energy can be separated into three main sub-processes:

• fuel feeding: sourcing and possible pre-treatment of biomass fuel resources, followed by feeding by mechanical stokers into the power plant;

• combustion: generation of steam from the direct combustion of biomass;

• electricity generation: generation of electricity in the combined turbine and generator unit, and its subsequent transmission in power lines through transformer stations.

Biomass power plants may be divided into three different sizes according to energy generating capacity: small scale (<10 MW), medium scale (10-30 MW) and large scale (>30 MW). Small-scale plants are widely used around the world in cogeneration plants supplying steam and/or electricity to meet the energy requirements of local industrial facilities, particularly in developing countries, where agro-industries (e.g. palm oil and sugar) use biomass waste to generate energy in their processing facilities. Globally, there are many suppliers of such small-scale, decentralized biomass power plants that typically use relatively inefficient technology. In contrast, medium-scale and particularly large-scale, grid-connected biomass power plants are constructed in order to generate electricity by using advanced high-pressure and high-temperature combustion technology ( IPCC, 2011 ). Our focus is on such high-performance plants that until recently were limited to Europe, Japan and the USA. A surge in the international trade in biomass fuel, for example, in wood pellets, has made such large-scale plants less dependent on local fuel resources and has increased the average size of biomass power plants due to improved economies of scale ( REN 21, 2012 ).

The global biomass power plant industry resembles a producer-driven chain similar to other large-scale capital goods industries such as aircraft or heavy machinery (see Figure 1 ). It is characterized by high capital- and technology-intensive products and high barriers to entry in terms of investments, economies of scale and advanced (proprietary) technology ( Gereffi, 1994 ). The chain is dominated by large, transnational lead firms with core competences in R&D and engineering know-how and which are specialized in the development and construction of large-scale, high-temperature and high-pressure biomass power plants. Globally a few European, American and Japanese lead firms dominate the market, including Metso (Finland), Foster Wheeler (USA), Babcock Wilcox (USA), Doosan Babcock (UK), AREVA (France), Andritz (Austria), Mitsubishi (Japan) and Alstom (France). As total engineering solution providers, these lead firms are typically responsible for the main plant design and engineering contracts or for substantial parts of the plant design. However, due to considerable regulation (e.g. emission, health and safety standards) and the scope of engineering involved, engineering sub-contractors are typically involved alongside legal consultants. Some lead firms are also involved in plant construction, but this may also be undertaken by specialized construction companies.

As in other producer-driven chains, lead firms in the biomass power plant industry play a central role in controlling and coordinating the operations of sub-suppliers of components and services. First-tier suppliers include manufacturers of more technology-intensive components used in the final power plant, including furnace grates, automatic control systems and turbines. These items have traditionally been engineered and manufactured by specialized European and American niche firms located in close vicinity to their main markets. However, some of the larger, more labour-intensive components, for example, membrane walls, are increasingly produced by suppliers in emerging economies, such as China, India and eastern Europe. Second-tier suppliers in the biomass power plant value chain are constituted by manufacturers of minor parts and components. These are typically sourced as fully packaged, standardized products. Labour-intensive and low-skilled products (e.g. prefabricated tubes) are often sourced in developing countries with low labour and material costs.

The end-buyers are industrial customers. The owners and operators of large-scale, grid-connected biomass power plants are typically large electricity utilities, such as EDF (France), RWE (Germany), E.ON (Germany) and ENEL (Italy). In some cases, these utility companies may be responsible for the overall plant design, and a variety of contractual models exist for biomass power plant engineering and construction ( Carbon Trust, 2012 ). However, some firms have the ability to engage in supplying complete, operational turnkey power plants. These turnkey plants are often supplied as engineering, procurement and construction (EPC) projects where the contractor is responsible for the complete project. In such cases, lead firms have a dominant and direct role in managing the entire biomass power plant value chain, including component sourcing arrangements, sub-engineering contracts and legal consultants. It follows from the complexity of EPC projects that only lead firms have the competencies to undertake these.

Although the governance structure between lead firms and engineering sub-contractors tends to promote strong relational ties, the relationships between lead firms and (first-tier) suppliers of larger components, and even more those involving (second-tier) minor component suppliers, are of a captive nature or market-based ( Gereffi et al., 2005 ). Competition between lead firms is mainly based on technological price/performance improvements, which require continuous R&D and technological innovation on, for example, combustion modelling systems, chemical and physical processes, and fuel property analysis ( Yin et al., 2008 ). Since large-scale biomass power plants require high upfront capital investments, customers generally seek certainty to secure a return on investments and emphasize technological reliability. Thus, a good track record is crucial for technology suppliers in order to compete. Moreover, as the feasibility of biomass power plants generally increases with size, this favours large (incumbent) lead firms with sufficient resources to handle the full range of activities involved. This means that the entry barriers to achieving lead firm positions are high.

The biomass power plant industry is highly dependent on supportive policies such as preferential taxes, feed-in-tariffs, R&D support and favourable loan and credit schemes. Such support mechanisms may be implemented at various levels. For example, countries such as Denmark, Finland and Sweden have adopted national targets for the deployment of biomass-based power and support mechanisms to achieve these. Incentives for investments in large-scale biomass power plants have also been improved in emerging economies such as China, India and Brazil due to the adoption of supportive policies, resulting in a recent growth in constructed plants ( REN 21, 2012 ). At the European level, the European Union has adopted specific instruments to support biomass power generation in order to achieve a 20% share of renewable energy in the energy supply by 2020. At the global level, the Kyoto Protocol comprises various supportive incentives, such the Clean Development Mechanisms, that countries may use to comply with their CO ₂ -emission reduction commitments.

5. Achieving lead firm position ⁴

5.1. Cultivating the home market

Delta was established in Beijing in 2004 as a biomass power plant supplier company by a Chinese-Swedish entrepreneur with a background as a senior advisor in a large international company. Having worked in Scandinavia during the 1990s, which had a vibrant biomass power plant industry at that time, the founder became interested in establishing a business in China producing biomass-fired power plants. However, in the early 2000s, a regulatory framework to support biomass power plants did not exist in China, and regulation was highly discouraging for biomass energy. First, new power plants had to comply with a minimum installed capacity limit of 50 MW, which only very large biomass-fired power plants can comply with. Secondly, highly standardized, large-scale, coal-fired power plants dominated the power sector in China, and the regional design institutes responsible for plant layout had no experience in biomass-fired plants.

Against this background, Delta initiated intensive lobbying efforts in the preparatory work for the first renewable energy law during the period 2004–2005. The founder of Delta was extraordinarily well-connected at the highest level in the party-state system (see Supplementary Data in Supplementary Appendix B ). He organized the visit of a Chinese delegation of high-level politicians and government officials to biomass power plants in Scandinavia in 2004, which was very influential in mobilizing political support. Further efforts involved drafting strategy proposals to government officials in support of favourable conditions for biomass energy.

Delta’s efforts were instrumental in the design of the first renewable energy law, which included a favourable electricity feed-in tariff for biomass power plants of RMB 0.25/kWh (US¢ 3.7/kWh) added to a province-specific coal power price. Further, an ambitious target of 30 GW was set for biomass energy by 2020. The biomass tariff was approximately double the amount of the coal tariff, thus providing strong incentives for investments in biomass power plants. Subsequently, the biomass tariff increased in 2010 to RMB 0.35/kWh (US¢ 5.2/kWh) and again in 2012 to RMB 0.75/kWh (US¢ 11.1/kWh).

In 2005, Delta engaged directly with an important state actor in the energy sector by forming a public/private consortium with a large Chinese electricity utility company that was to be responsible for investment in and the construction and operation of biomass power plants supplied by Delta. The consortium would operate commercially under a business model based on income generated from the sale of electricity to the grid.

The political interest in supporting biomass energy in China was particularly attributed to the prospects for rural farmers to sell agricultural biomass residues to power plants. It was envisioned that this would create additional income opportunities for rural farmers and thereby contribute to reducing the rapid urbanization in China. Another motivation concerned the positive impact on rural communities of providing a source of electricity in areas without prior access to utility energy services. Beside this, during the 2000s green growth was moving up the political agenda in China, and biomass energy was becoming an important element of climate and energy policies ( NDRC, 2007 ).

5.2. Going global through foreign technology acquisitions

In order to start commercial operation Delta needed a suitable technology, and therefore it entered into licensing agreements with two Danish world-leading biomass power plant suppliers. This access to reliable and proven technologies gave Delta a significant head start compared with its local competitors. The licensed technologies comprised principle drawings of power plants designed to operate on wood chips and straw firing. Using the wood chip firing design, Delta’s first power plant started commercial operation in 2006, becoming the first ever biomass-fired power plant in China. Subsequently, at the beginning of 2006, Delta won 10 additional medium-scale biomass power plant contracts and a further 10 in late 2006. This rapid pace put substantial pressure on Delta's organization to meet these contractual obligations, since Delta was fully responsible for engineering and construction of the boiler.

Nevertheless, in 2007, Delta faced increasing financial problems since the first six operational plants underperformed in terms of income from the sale of electricity. Whereas well-functioning plants would have an efficiency of 60–70%, the efficiency of Delta’s plants was as low as 35%. However, Delta managed to secure US$ 150 million in equity investments from an international investment company. This investment amounted to a 10% stake in the company, thus estimating the firm’s value at US$ 1.5 billion 3 years after establishment. Subsequently, a representative of the investment company became the CEO of Delta, Western-style management principles were introduced, and Delta’s board received a stronger representation of Europeans.

Also in 2007, right before the equity investment, Delta acquired a Danish company specialized in the design and manufacture of high-pressure boiler components, as well as a Chinese boiler component production workshop with around 2000 employees. Before 2007 Delta had sourced boiler components from local suppliers in China, but management wished to internalize this to increase quality and improve the poor plant performance, which was causing financial problems. In a longer time horizon, the acquisitions supported Delta’s ambition to produce boilers for the European market at a much lower cost than its European competitors (see Supplementary Data in Supplementary Appendix B ).

Consequently, Delta management initiated a knowledge transfer process between the acquired Danish company and the acquired boiler manufacturing workshop in China. In the following 2 years, a task force consisting of experienced employees from the acquired Danish company trained and supervised Chinese plant managers and shop floor workers. This task force focused mainly on quality and control procedures in welding operations. Significant improvements in plant efficiency and boiler quality followed, eventually leading to certification of the workshop according to European standards. These advancements resulted in some improvements of plant performance and higher profits.

In 2009, Delta had put 20 biomass power plants into operation, 10 plants were under construction and 13 were at the planning stage. This gave Delta a Chinese market share of 90%. A technical department in Beijing now employed 13 engineers and was expanding, including a new R&D unit. However, it became increasingly clear that the operating plants continued to underperform substantially, thus, generating insufficient incomes. Plants constructed by Delta had so far been designed based on blueprint drawings from the 2005 licensing agreements in a ‘copy and paste’ fashion with limited technological adaptation. This caused numerous problems in plant operation since the licensed technology was specifically designed to utilize straw and wood chip, but was ill-suited to the Chinese context where a variety of fuel resources were used, such as corn stalks and peanut shells. Thus, management sought to enhance the Beijing office's engineering capacity and improve the ability of the Chinese engineers to re-design the technology to fit Chinese conditions. The most important initiative was the acquisition in 2009 of one of the previously mentioned Danish licensor companies to secure full access to ‘state-of-the-art’ technology and engineering know-how. This acquisition essentially involved the buyout of around 25 key technology employees, who were transferred to Delta’s new European engineering office in Denmark. Acquiring these key knowledge assets immediately placed Delta among the world’s leading biomass power plant producers in general, and as the world leader in straw-fired power plants in particular.

5.3. Restructuring and market expansion

The second Danish acquisition should enable the Beijing office to handle conceptual design and new product development independently from Delta’s Danish engineering office and to move beyond time-consuming detailed engineering tasks, such as the preparation of construction drawings. Thus, rather than ‘copy/pasting’ existing power plant designs, the Beijing technical department should become capable of generating fundamental technical changes. Strengthening the Beijing technical department was to be achieved through a planned knowledge exchange between Danish and Chinese engineers. A Danish technical chief with substantial experience in biomass power plant engineering was appointed to facilitate this process. Training sessions focused on fundamental biomass boiler and power plant design engineering, as most of the Chinese engineers had a background in coal-fired power plant producers. The ability to engage in some elements of basic engineering tasks and related tools (e.g. modelling of combustion processes) resulted from these initiatives, which led to some improvements in plant performance.

In 2010, the founder’s remaining share was bought by the minority shareholder that entered in 2007 and the Delta CEO. Furthermore, Delta left the consortium with the Chinese utility company and sold the Chinese boiler workshop. The resulting Delta was a global company with headquarters in Beijing, an engineering office in Denmark and a recent green-field investment in a Polish boiler production workshop. Subsequently, in 2011, further investments were undertaken by Delta. First, the existing boiler workshop in Poland expanded with around 50 additional employees. Secondly, a new Polish engineering company was established. Thirdly, a UK-based company specializing in flue gas cleaning equipment was acquired. Following these investments, Delta modified its strategy to focus on turnkey solutions for large-scale power plants under EPC contracts, rather than being limited to boiler contracts. Delta mainly pursued EPC contacts in Europe, but also in Latin America and Southeast Asia, which led to the establishment of regional offices in these regions. Subsequently, Delta started winning such EPC contracts in Southeast Asia and Europe, emphasizing its lead firm position. Simultaneously, Delta remained by far the most important supplier of biomass power plants in China despite increasing local competition and also expanded into waste-to-energy plants. By 2012, Delta had built 50 biomass power plants and 30 were under development. Delta's Beijing office now had 100 employees with around 40 working in the engineering department. A further 300 employees worked in Delta’s three European engineering centres and two manufacturing workshops. In a period of only 9 years, Delta had thereby grown to become a globally leading company within the biomass power plant industry, with a particularly strong presence in China and Europe.

6. Sustaining lead firm position? ⁵

As documented in the previous section, Delta’s Chinese boiler plant workshop progressed to some extent in meeting international product standards corresponding to the achievement of ‘advanced production capabilities’ level in Table 1 (in Section 2). This advancement was mainly due to the training and knowledge transfer initiatives in welding operations, as well as new quality and control procedures. Yet the quality of the Chinese production did not reach a sufficient level to meet the required standards on the European market. In sum, some improvement of production capabilities took place in Delta’s boiler workshop, but the extent was relatively limited and at a much lower level than initially expected by the management.

Although the acquisition of world-leading, state-of-the-art technology from the licensing agreements comprised a huge technological leap for Delta, the management considered the building of innovative capabilities in the technical department of Delta's Chinese office to be crucial in sustaining and advancing the company’s lead firm position. However, the ability to master new product development and more fundamental conceptual and basic engineering (as opposed to detailed engineering) remained limited. ⁶ The initial objective of placing core engineering tasks in the Chinese office was not fulfilled as planned: the Chinese technical department did manage to implement improvements in the original plant designs, but only in the form of minor incremental modifications. Therefore, the level of innovation capabilities achieved did not progress beyond the level of ‘basic innovation capability’ in Table 1 . Based on our analytical framework and the interview data, we argue that the impeding factors for innovative capability were constituted by a complex mixture of organizational problems, first within the technical department in China (i–iii), and secondly in the knowledge transfer within the company after the two international acquisitions (iv–vi). The factors involved may be outlined as follows.

6.1. Establishment of an in-house R&D unit

From around 2009, Delta established a formal R&D unit in the Beijing office with the aim of engaging in new technology development projects in close collaboration with a leading university in Beijing. The economic rationale in conducting experimental tests and new product development in China was obviously important. The management also aimed at upgrading the technical department in Beijing by implementing a more science-based approach to undertake basic analysis and experimentation with thermal and chemical combustion processes. However, the R&D unit did not materialize to the extent that was initially foreseen by the management and therefore only contributed very modestly to developing the level of innovation capabilities. At the time of data collection only three or four engineers were working part time in the R&D unit. Three main reasons seemed to have been important for the limited role of the R&D unit in stimulating technological upgrading: (i) a lack of skilled engineers to man the unit; (ii) financial problems leading to underinvestment (and understaffing) in R&D and (iii) a lack of time available to devote to R&D activities due to the general amount of work caused by Delta’s rapid expansion. However, the R&D unit did nevertheless become an important element in Delta's marketing strategy in order to give the firm a high-intensity R&D profile to attract customers and policy interest.

6.2. Strategic recruitment of experienced engineers

Owing to the rapid expansion of Delta since its commencement, the management was continuously searching for the recruitment of new employees, preferably Chinese with a high level of English language proficiency and experience in biomass power plant engineering and in the execution of international projects. The search intensified from around 2009 due to the greater focus in Delta’s management on enhancing the technical department in the Beijing office by increasing the ability of the technical department to optimize power plant designs independently. Yet, in spite of intensive search efforts, recruitment remained a key challenge mainly attributed to the relatively narrow and highly specialized search space for recruitment. In addition, engineers with such a profile are in great demand in the Beijing area, where the market competition for talented engineers is tough. Due to these difficulties in recruitment, in 2011 the management started planning for the establishment of an engineering centre in India where engineers would be better able to meet the recruitment criteria.

6.3. Establishment of systematic experience collection procedures

The plants constructed by Delta in the period 2006–2008 were based on replications of the design drawings initially received through the licensing agreements. The technical challenges that were experienced were handled through trial and error, and these problem-solving activities mostly involved the (day-to-day) repair and replacement of broken components, which sometimes worked, but in other cases led to dramatic problems such as explosions. During this period, there was an apparent lack of appreciation in Delta's management of the systematic collection of information from operational plants, such as performance data and log records. However, the management increasingly became aware that the information they did receive from plant operators and managers was subject to substantial errors and direct misinformation, which disguised widespread examples of considerable underperformance and operational problems. As this became evident, the management sought to obtain a deeper understanding of the problems, not only to rectify problems at the existing plants, but also to use this information as a basis on which to improve subsequent plants. This led the management to implement a so-called ‘lessons learned program’ in 2009 with the aim of collecting data and user feedback from the constructed plants in a more systematic manner and to use this information to continually optimize their plant designs. The instrument was the establishment of a database in which experiences of various fuels could be stored and the information fed into the engineering phase of subsequent plants. Another aspect was the systematic comparison of calculated scenarios with actual plant performance data. The management considered that the introduction of such a systematic approach to the engineering process via feedback loops in the project cycle would significantly improve the engineering skills of the technical department in the Chinese office. Yet, the lessons learned program was not effectively implemented across the organization in 2012, although it had already been initiated in 2009. Managers reported that a main reason for the reluctant implementation of the program was the lack of receptiveness from engineers.

6.4. Working practices

There are significant differences in the engineering working culture in Delta’s Danish engineering centre and the technical department in the Beijing office. This contributed profoundly to reducing the level of exchange of knowledge between the two divisions and resulted in problems of collaboration. Although engineers in the Chinese office reportedly focused mostly on project execution, Danish engineers concentrated more on continuous and intensive technology development. Although the management promoted the establishment of cross-organizational teams with Danish and Chinese participants on specific tasks and tried to establish common working routines, the difficulties experienced were not circumvented. Moreover, the management also faced serious problems with the tendency of Danish engineers to over-engineer and, at the same time, to encourage engineers in the Chinese technical department to engage in continuous technology optimization efforts independently. The differences in engineering practices not only related to the level of individual employees but also had a managerial dimension: the Chinese management practices focused on the direct control of engineers, who typically performed well-defined tasks and underwent frequent management inspection. In contrast, the Danish style of management put more emphasis on individual responsibility, which meant that the Danish engineers were accustomed to relatively loosely defined tasks for which they could take individual responsibility. Moreover, while the Danish engineers were expected to openly question and challenge the views of their superior managers, the opposite was expected in the Chinese context. Consequently, many interviewees ascribed differences in engineering management practices a main role in the lack of knowledge and technological upgrading that could be drawn from the acquisitions.

6.5. Trust and intellectual property

The management in Delta was highly focused on preventing any uncontrolled spread of proprietary knowledge in the form of technical drawings (e.g. plant design outlay and blueprints) to third parties in China. In the first plants constructed by Delta, this was done by splitting the component sourcing arrangements into smaller pieces for Chinese sub-contractors and withholding key elements (essential for plant operation) to prevent them from accessing information about the full plant design outlay. Before the split in Delta’s organization in 2010, this strategy was also used to manage IPR protection internally with regard to the acquired Chinese boiler production workshop and the utility company partner in Delta’s business consortium. Reportedly, this was based on the circumstance that the boiler production workshop’s access to technical drawings had been used to fabricate and sell components to other customers, which was considered both strategically and commercially counterproductive by Delta’s management.

Furthermore, there was evidence of deliberate knowledge protectionism in the Danish engineering office at both the management and individual level. Despite efforts at the top management level in Delta to promote knowledge sharing, managers in the Danish engineering office deliberately restricted Chinese engineers from accessing printouts from engineering software programs, as well as technical drawings and blueprints. These measures were established to prevent their onward sale to third parties, which had allegedly occurred. The involvement of Chinese engineers in new product development activities was also prevented by making frequent use of Danish consultants on specific sub-engineering tasks. Danish managers were especially worried that knowledge sharing would enable Chinese engineers to seek job opportunities elsewhere. Danish engineers also obstructed knowledge sharing since they were concerned that an enhancement of Delta’s technical department in China would eventually render their own positions obsolete due to wage level differences. Giving away key insights and accumulated experiences was therefore simply not in their immediate interest. All of this meant that few relationships of trust were established across the departments through which knowledge sharing could be facilitated.

6.6. Communication patterns

In the period up to 2007 Delta’s interaction with its two Danish licensors was generally limited to a few instances of technical support. Subsequently, after the two acquisitions of the Danish companies in 2007 and 2009, Delta’s Chinese and Danish engineering departments were not in contact on a regular basis. When contact did occur, it was mostly through Internet and telephone communication, and the limited ability of Chinese employees to speak English generally hindered this form of communication. Although top-level managers from Denmark frequently travelled to the Chinese office (and vice versa) to discuss overall strategic and commercial matters, the exchange of individual engineers across the departments was generally limited. Indeed, although some Chinese engineers visited Denmark (including plant visits), these were only of short-term duration and did not include co-working with colleagues in the Danish engineering office on specific tasks. Conversely, only a limited number of Danish engineers visited Delta’s technical department in China, and those who did only stayed for shorter visits of 2–3 weeks. The time spent by some of the Danish engineers in China was somewhat more intensive in the period after Delta’s two acquisitions, when they concentrated mostly on conducting formalized training and courses in welding operations. It is therefore evident that the prevailing communication patterns did not allow Danish and Chinese engineers to undertake joint engineering activities and practical (hands-on) work on a long-term basis. This was a major barrier for the Chinese engineers in Delta to understand how Danish engineers approached different problems and engaged in engineering activities on a daily basis. Since much of the expertise of the Danish engineers in handling biomass boiler and power plant engineering resided in the form of individual employees’ experience accumulated over a long period of time, the lack of close interpersonal contact and face-to-face communication hindered the exchange of this tacit knowledge.

7. Conclusion

The development of Delta from its establishment to lead firm position in a period of only 9 years is a remarkable example of upgrading in a producer-driven GVC, which was made possible not least by a prolonged period of direct government support providing the nurturing ground for Delta’s market expansion. This illustrates the importance of favourable institutional framework conditions for upgrading and the active exploitation of this institutional room of maneuver through Delta’s lobbying efforts. The analysis presented in Section 5 showed evidence of process upgrading (i.e. improvements in quality and control procedures and plant efficiency), product upgrading (i.e. improvements in boiler quality and power plant performance) and functional upgrading (i.e. some improvements in the ability to engage in elements of basic engineering tasks).

However, the analysis also highlighted the challenges for Delta in sustaining its lead firm position. As evident from the analysis in Section 6 Delta faced significant difficulties in developing the innovative capability needed to compete in the global biomass power plant industry. This was caused by barriers that hindered knowledge exchange in the acquisitions made by Delta (due to differences in working practices, issues related to trust and property rights and unfavourable communication patterns) and the limited results of efforts undertaken within Delta’s technical department in China. In the following, we will discuss our key findings from the detailed analysis of Delta’s main challenges in building innovative capability and relate them to the recent criticisms raised against the existing framework on upgrading in the GVC literature.

As mentioned previously, the existing framework for undertaking research on upgrading has been subjected to three key criticisms: (i) the narrow preoccupation with learning from global buyers as the main source of upgrading ( Tokatli, 2013 ); (ii) the lack of conceptual clarity, which makes it difficult to operationalize the upgrading typology in empirical research, as the categories overlap and are not clearly discernible ( Ponte and Ewert, 2009 ) and (iii) the prevailing (normative) understanding of upgrading as a linear trajectory comprising a fixed, hierarchical sequence of upgrading types ( Pietrobelli, 2008 ). Although these critical reflections are indeed valuable, they may not automatically lead to the conclusion to discard the existing conceptual framework on upgrading altogether, as has been suggested by Gibbon (2008) , Tokatli (2013) and others. Rather, as we will elaborate below, casting aside the existing framework may not be the most promising way forward.

Using the technological capability perspective directed attention towards Delta’s own efforts to engage with functional upgrading by focusing on the resources devoted to move from copy and paste-based engineering into more basic technology design activities. This enabled us to identify the varying degrees of success of the different efforts. A number of examples serve as illustrations. First, although Delta’s two acquisitions did contribute to increasing the overall skills content of activities in Delta’s Chinese office, the extent of this was reduced primarily due to factors limiting knowledge transfer (as shown in Section 6). Secondly, while the efforts to establish a data collection programme were not successively implemented in Delta, the ability of Chinese engineers to master combustion simulation models was significantly improved, which allowed Delta to progress into more sophisticated products with increased unit value. Thirdly, while the establishment of an R&D unit did not materialize, the production capability of Delta’s boiler workshop increased substantially, along with improvements in process efficiency (as shown in Section 5). Fourthly, despite challenges in recruitment, Delta was able to hire engineers with some experience in biomass power plant engineering, which provided an input with which to enhance the technical department of Delta in China. Hence, this analytical perspective provided a more nuanced understanding of firms’ learning efforts underlying various upgrading types compared with the existing GVC framework. This article thus shows that a variety of learning efforts are involved and that upgrading depends greatly on the activities undertaken by firms themselves. More importantly, the article demonstrates that a combination of the existing framework with a complementary analytical perspective is able to provide substantial analytical leverage on how learning and innovation in firms unfolds as part of upgrading.

Using insights from the literature on knowledge exchange in international M&As enabled a detailed understanding of the specific challenges related to upgrading via Delta’s two acquisitions of Danish technology frontier firms. This directed attention to issues of trust and property rights, working practices and communication patterns, all of which played a key role in preventing knowledge exchange between the Danish and Chinese departments of Delta. This also showed the usefulness of complementing the existing GVC framework with an alternative perspective in order to better comprehend upgrading in the context of international M&As. Given the continued increase in technology-seeking FDI from developing country firms into Western countries as a new strategy for upgrading ( UNCTAD, 2011 ), the GVC literature needs to pay more attention to this particular type of upgrading. Although upgrading to lead firm position via strategic acquisitions may be a feasible strategy, as it involves leapfrogging earlier ‘stages’ of upgrading, this is not without its own set of challenges. These challenges are due to the inherent complexities of attaining access to core technical knowledge through foreign acquisitions and facilitating the transfer of such capabilities. The problems of knowledge exchange identified in this article as a key impediment for upgrading through cross-border acquisitions are in line with the findings of Nummela and Raukko (2012) and Spigarelli et al. (2013) that limited knowledge exchange was caused by cultural differences between the acquiring and the acquired firms. However, this article stresses that the factors hindering knowledge flows cannot be reduced to cultural issues alone.

In agreement with Pietrobelli (2008) , this article suggests that the conventional understanding of upgrading as a trajectory beginning with process, then moving on to product and eventually ending in inter-sectoral upgrading is not as linear and hierarchical as often assumed. For example, when Delta achieved process efficiency improvements in its boiler workshop by introducing more systematic quality and control procedures, this resulted in the manufacture of higher quality boilers (which resulted in some improvements to plant performance). Similarly, it is not clear whether the enhanced ability of engineers to handle combustion simulation models should be considered as process or product upgrading (or both), as it both enables a more efficient engineering process and leads directly to improved plant quality. The boundary between process and product upgrading was thus unclear in this case, as process upgrading led to product upgrading. Furthermore, functional upgrading led to product upgrading when the ability of Delta’s engineers to engage in elements of basic engineering tasks resulted in improvements to plant performance. Hence, the traditional understanding of the hierarchical sequence of upgrading types is turned upside down. These examples show that relations between upgrading types are more complex than previously assumed: they are not segmented but coexisting, there is no apparent temporal progression, and no given hierarchy. Therefore, instead of abandoning the existing GVC framework on upgrading, research should aim at improving our understanding of the relations between its constituent elements.

In sum, we argue that the basic typology of the existing GVC upgrading framework should be maintained as a foundation for upgrading research due to its indisputable heuristic value, but it should not be applied as inflexibly as previously. Future GVC research on upgrading can benefit from the integration of complementary analytical perspectives that are generically incorporated (the technological capability perspective) and supplemented with analytical perspectives tailored to the phenomenon under examination (in our case, knowledge transfer in international M&As).

We would also argue that the analytical perspective developed in this article makes an initial contribution to the literature within economic geography on knowledge transfer in emerging multinationals. Thus, our article responds to the call by Dohse et al. (2012) for economic geographers to consider the sources of spatial stickiness of knowledge in relations between acquired Western firms and the acquiring firms’ headquarters (and related subdivisions). The analysis highlights that the knowledge underlying innovative capabilities is very difficult to transfer due to factors such as differences in working practices between Danish and Chinese engineers and the challenges associated with long-distance communication. This echoes the findings of Gertler (1995) on the implications for collaborative innovation processes of spatially bound differences in industrial practices. However, we extend this perspective beyond actual collaborate innovation processes to draw attention to the importance of barriers impeding the initial development of capabilities that are necessary for engagement in such innovation processes ( Bell and Figueiredo, 2012 ). As the development of innovation capabilities is central to promoting technological catch-up by developing country firms, our analysis highlights that the acquisitions of Western firms that possess advanced technologies do not necessarily imply a convergence in technological capacity between developed and developing countries.

Supplementary material

Supplementary data for this paper are available at Journal of Economic Geography online.

Acknowledgements

Teis Hansen acknowledges financial support from Stiftelsen Riksbankens Jubileumsfond (through the project ‘The Challenge of Globalization’), the Swedish Research Council (Linnaeus Grant No. 349200680) and the Swedish Governmental Agency for Innovation Systems (Grant agreement 2010-07370).

References