DENMARK THE WIND POWER HUB;

DENMARK THE WIND POWER HUB; TRANSFORMING THE SUPPLY CHAIN AU AARHUS UNIVERSITY BUSINESS AND SOCIAL SCIENCES DEPARTMENT OF BUSINESS ADMINISTRATION

This is an excerpt from a coming report on how globalization challenges the organization of the Danish wind energy industry and the strategies of its individual actors. The report and its conclusions are based on findings from interviews and survey data research among actors in the industry, carried out in 2011-2012. It is financed by a grant from the Central Denmark Region, Invest in Denmark and the Danish Wind Industry Association. The report is written by Poul Houman Andersen, Professor at the Aarhus University School of Business and Social Sciences and Ina Drejer, Chief Consultant at Central Denmark Region. 1. The global wind energy industry in 2012: Current trends Market developments Global demand for energy is growing, and growth rates have surged over the past five years. The energy statistics speak for themselves: Measured in terms of energy units (oil equivalents), the global energy consumption is approximately twice as large today compared to 25 years ago. This development is especially due to a strong increase in production and consumption in the BRIC countries. Year-on-year growth in installed wind power capacity is accelerating despite the global economic crisis, and the number of installed MW has almost grown exponentially (see Figure 1). In 2010 alone, approximately 24,000 wind turbines were installed in 50 different countries worldwide. prognosis offshore prognosis onshore realized 600000 500000 MW Installed 400000 300000 200000 100000 0 1999 2001 2003 2005 2007 2009 2011 2013 2015 Figure 1: Accumulated volume of installed MW actual and projected (Source: GWEC 2011, BTM 2011) The growth pattern is not even, but reflects an underlying regional market differentiation. China accounts for the strongest growth in terms of MW installed, whilst Europe has recorded moderate growth rates in the past two years. Europe still has the largest combined 002

volume of installed MW, but in terms of MW installed in 2009 and 2010 alone the region was overtaken by Asia (primarily China and India). Asia is expected to consolidate and expand this position in the period up to 2015. The US and Europe are both expected to expand and catch up with the expansion momentum of Asia, but Asia is expected to become the biggest market by 2015 measured both in absolute terms as installed MW and relatively in terms of growth rates. MW growth/share 2010 120000 Cumulative installed MW in 2010 Europe 100000 80000 Asia 60000 Americas 40000 20000 Africa Oceania and others 0-10 0 10 20 30 40 50 60 70-20000 % of installed MW in 2010 MW growth/share 2015 (Prognosis) 250000 Cumulative installed MW in 2015 Europe Asia 200000 150000 Americas 100000 50000 Africa, Oceania and others 0-10 0 10 20 30 40 50-50000 Share of installed MW in 2015 Figure 2: Actual and projected market size and market growth across regions: 2010 and 2015 (size of circles indicates size of markets relative to each other) (Source: BTM 2011, GWEC, 2011) 003

In the years ahead, capacity growth in Europe will be driven increasingly by offshore projects. Offshore is expected to account for nearly 10% of aggregate demand for installed MW by 2015 (BTM, 2011). As such, there seems to be ample room for continued expansion of the market and demand for wind power plants and related services within but especially outside Europe in coming years. Indeed, a number of drivers are pointing towards continuing wind power proliferation. Overall, this will be impacted by political, economic and social framework conditions and by technological advances and competitive dynamics in the value chain. Moreover, in addition to uneven market growth, the demand configuration in the three mentioned regions seems to follow different patterns. Starting with Europe, business (and political) actors in this region wager on the coming offshore market growth and increasingly adjust to these market opportunities. This also means that investment focus increasingly is on increasingly larger turbines. In comparison, the Asian region continues to expand their turbine capacity predominantly through smaller turbines. This seems to reflect a different business model, where growth is fuelled by short-term needs for capacity expansion that spurs volume production. Finally, the Americas region, dominated by the US, the tax incentive schemes and strong differences with respect to political regulations and incentives across US states, suggests a third market logic, with corresponding consequences for market configuration and competitive parameters. In short, the global market for wind power is best described as semi-global. There are overlaps and interdependences across regions with respect to competition and market drivers, but despite the fact that growth can be witnessed in all regions, there is no uniform trajectory for the market. 004

Global production of wind turbines With the growing market demand, the wind power industry as a whole is evolving towards maturity. This has fundamental consequences for the innovation activities in the industry. Other studies of industry evolution over history, suggest a pattern where industries evolve in three broad (ideal) phases (Utterback, 1994): Product innovation Proces innovation Rate of major innovation Radical change in manufacturers demands to suppliers competences Fluid phase Transitory phase Stable phase Figure 3: Industry life cycle A fluid phase, characterized by product innovation intensity, where new technologies are manifold, and each is seeking to become dominant and where the market in terms of active buyers on the other hand is relatively small. A transitory phase, where critical actors in an industry cluster around a smaller number of actors, market volumes are growing and increasing importance is put on the ability to manufacture in larger volumes. As a consequence, predictability through standardization becomes an important competitive parameter. A stable phase, where a dominant design rules, where the role of product innovation is seconded by process innovation abilities and where the market is volume-oriented. And increasingly on a global scale. Here, the ability to configure, coordinate and control value chains becomes a central competitive activity among the remaining contestants. Offshore is expected to account for nearly 10% of aggregate demand for installed MW by 2015 (BTM, 2011) Each of the phases calls for different strategic mindsets and the corresponding recipes for strategic success differ. As industries evolve through these phases, the demands to actors fundamentally change as well. Often, however, managers find themselves struggling with this transition and may be stuck in what used to be a successful recipe. 005

It is our belief that the wind power industry with the steeply rising demand curves finds itself in the shift between the transitory and the stable phase of industry evolution. Possibly already in the early part of the stable phase. However, despite this general trend towards more volume production, regional market developments remain a key factor in understanding the location and organisation of value chain activities. This development works against standardization on a global scale. Local production and demand largely goes hand in hand. In 2010, production sites in Europe supplied about 41% of new wind power capacity, whilst production sites in China and India combined supplied up to 48%. This semi-global state leaves room for regional as well as transnational strategies amongst manufacturers as well as leading suppliers. Also in the coming years, the market will be characterized by regional actors, but they will be challenged by a few actors seeking to straddle the regions in multiple layers of the value chain (see figure 4) 1 GW to 4 GW > 4 GW US leader seeking growth opportunitties outside its home market and offshore Chinese leaders focusing on their home market, seeking export opportunities in the US Mid-size suppliers seeking scale in growing markets and offshore Global leaders with manfacturing presence in over three countries and deliveries in over 15 markets Small suppliers expanding in growing markets and offshore < 1 GW Growing small suppliers with mulitregional presence Local Multi-Regional Glocal Figure 4: Strategic grouping of wind turbine manufacturers 006

Actors in the wind power industry who operates across the regional markets potentially have the opportunities to exploit economies of arbitrage: i.e. the ability to utilize effectively market differentials (Ghemawat, 2007). In the coming semi-globalized wind power industry, successful business actors are likely to base their competitive ability on a combination of scale and location advantages as well as on economies of arbitrage. Competitive advantage (Location) Local price policy Local assortment Development to local market Local production Local framework conditions Competitive advantage (Aggregation) Volume production Agile production and delivery Cross-regional sales Centralization of competences Standardization of sales management and administration Global customers A profile of the Wind power industry Competitive advantage (Arbitration) Price differences across regions Differences in competences available Regional based customer strategies Several accessible knowledge hubs Customers present in multiple regions Figure 5: Profile of the wind power industry 007

2. Development of the Danish wind power industry The growing diversification following from market growth outside Europe means longer and more complex value chains for those actors seeking to grow beyond the region they currently are active in. Ten years ago, the vast majority of the World s production capacity was found in Northern Europe, with Denmark representing the geographic hub measured in terms of delivered MW. Today, the manufacturing hub has relocated. This has a fundamental impact on the organization of the wind turbine industry in Denmark. Until recently (5-10 years ago), the wind power industry had its natural locus in the geographical area comprising Denmark and parts of Germany. Denmark comprised what has been labelled an innovation system in wind power a system where interrelations between research, industry and national policy making are co-supportive and consciously designed and interaction is manifest, and provides benefits for instance in the form of knowledge spill-overs and access to skilled labour. One way of witnessing the local spill-over effect is to focus on suppliers as knowledge go -betweens among manufacturers located in Denmark. Figure 6: Overlap of knowledge relations among wind turbine producers and their suppliers in Denmark. Blue dots mark suppliers sharing knowledge with both Siemens Wind Power and Vestas Wind Systems. Black dots mark those sharing with the focal producer (green dot in the centre). 008

International manufacturers (GE, Gamesa, Siemens and Suzlon), strategic suppliers and knowledge providers naturally located or oriented their activities towards Denmark, increasing its importance. However, as globalization commences, Denmark is now only one of several top manufacturing locations and other innovation systems are developing around the World, each specializing in particular areas, such as offshore (for instance in Glasgow, Scotland). Moreover, the scattering of production activities, together with an increasing emphasis on volume production also puts pressure on managerial mindsets and takenfor-granted practices among Danish business actors. A survey among actors in the Danish Wind power sector shows that there are strong differences with respect to ownership and orientation towards knowledge providers. Interviews with predominantly suppliers and manufacturers in the Danish wind power sector support this impression. Although some frontrunners are establishing a global organization that can help them to reap the advantages globally of the capabilities and knowledge they have developed from operating many years in the wind turbine industry, a vast majority are facing a steep learning curve if they are to survive and adjust to the changing circumstances. For suppliers this means adapting to a very different manufacturing paradigm, calling for an increased global outlook and commitment and new forms of interaction with customers. Several of the suppliers still find it difficult to imagine a future in an industry increasingly driven by process innovation and increasingly hierarchical supply chains. In the coming years it is likely that the division between specialists (firms with a dominant share of their activities in the wind turbine industry) and more general suppliers will increase. Danish control Foreign control Control shared btw Denmark and abroad Total For suppliers this means adapting to a very different manufacturing paradigm, calling for an increased global outlook and commitment, as well as new forms of interaction with customers No collaboration with universities Collaboration with Danish universities Collaboration with foreign universities 64,5% 42,3% 100,0% 60,4% 31,6% 26,9% 0,0% 29,2% 10,5% 34,6% 0,0% 16,0% Do not know 1,3% 7,7% 0,0% 2,8% Total 76 26 4 106 Table 1: Collaboration with universities on knowledge exchange related to wind power, according to ownership control of the firm (N=106) 009

Strategic issues for change For manufacturers in the Danish innovation system this means taking a more proactive role in bringing these suppliers up to world class production excellence if they want to contribute to maintaining the Danish supplier base as an important asset for future competitive advantage. This can be expressed in four critical challenges for actors in the Danish wind power industry: Danish suppliers, must engage in strategic change processes #1: Strategic renewal requires unlearning Danish suppliers are excellent in providing knowledge inputs to manufacturers and to produce flexibly and in small scale. This ability is reflected both in their informal organizational structures, their technical core and the skills of their employees. Paradoxically, organizational excellence, reflecting a specific trajectory, also works against the ability to change the organization; a phenomenon elsewhere known as the competency trap (Siggelkow & Levinthal, 2005). In order to adjust to the ongoing transformation of the wind power industry, Danish suppliers must engage in strategic change processes and for some this might mean that merging or closely collaborating with others is the only way forward if they want to maintain a position in the industry. #2: A strong Danish supplier base calls for competent customers Not only Danish suppliers are challenged by this development: so are the manufacturers benefitting from the innovative capability and the local knowledge hub, which represent a type of semi-exclusive club good for the members of the Danish manufacturing system. Benefits are expressed in terms of access to a knowledgeable and competent network of suppliers that is present and easily accessible from the inside, through personal networks and prior relations, but can only be accessed with some difficulty from outside manufacturers who do not have privileged access. Without active engagement in developing the Danish located suppliers through providing them with the necessary conditions for forming capabilities to supply globally, localized manufacturers will lose access to an important strategic resource, as the Danish supplier base diminishes. The suppliers need to dedicate resources and develop new skill sets #3: New capabilities are needed to adjust to global industry transition A particular challenge in the transition process relates to the competence profiles of Danish suppliers. The suppliers need to dedicate resources and develop new skill sets in order to be able to absorb the new requirements for managing global configuration, coordination and control tasks in the wind turbine industry. This change is already evident, when comparing to the structure of wind power activities among Danish suppliers 6 years ago, when a similar analysis of the industry was carried out. There seems to be a linkage between specialization and commitment into the wind power industry and the ability to utilize possibilities as measured in growth. This tendency in the data is confirmed by managers in qualitative interviews. #4: Global advantage builds on local commitment In a semi-global industry, the ability to straddle between regional markets and utilize this position to create economies of arbitrage combining resource and activity differences to capitalize on resource differentials - becomes increasingly important. These possibilities of economics of arbitrage are not utilized to a sufficient extent by the Dan- 010

ish suppliers. Several of them report that their market focus is primarily on Denmark and although some have contacts with Chinese customers, they have primarily provided knowledge and insights to these without reaping the potentials. A few cases defy this pattern: They utilize differences in prices and delivery terms actively and tailor customer solutions that utilize complementary advantages, such as low costs and speed. More possibilities for reaping arbitrage benefits are possible if suppliers develop a better understanding of the value chains they operate in and the corresponding needs of their customers as well as how the derived demands from customers customers. A forthcoming report on the Danish wind power industry explores these issues and recommendations in more depth and also discusses implications for industry policy on national and regional level. References BTM. 2011. International WInd Energy Development - World Market Update 2010 - Forecast 2011-2015.In Consult, BTM, editor: Navigant Consulting. Emergent Energy Research. 2011. Wind Turbine Supply Chain Strategies Ghemawat, Pankaj. 2007. Redefining Global Strategy: Crossing Borders in a World where differences still matter. Boston: Harvard Business School Press. Global Wind Energy Research. 2011. Global Wind Report Annual Market Update Siggelkow, N. & D.A. Levinthal. 2005. Escaping real (non-benign) competency traps: Linking the dynamics of organizational structure to the dynamics of search. Strategic organization, 3(1): 85-115. Utterback, J. M. 1994. Mastering the Dynamics of Innovation. Boston, Mass.: Harvard Business School Press. 011

Photos front cover: Siemens, LM Wind Power, Jacob Nielsen. Photos back cover: Siemens, Skykon A/S, KeenPress, KeenPress