Transcript Why Invest in China?

INVESTING IN CHINA
Why Invest in China?
Guanxi
(personal connections)
Hillman, Wertheimer, Yeap
February 7, 2004
INVESTING IN CHINA
Outline
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Background: the Diamond Model
Investment Factors
How to Invest in China
Conclusions
China GDP
10 years ago
China GDP
in 10 years
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Background:
the Diamond Model
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Diamond Model
Financial Systems
Managerial
Systems
Culture
Political Systems
Entrepreneurship
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Political System:
Economic liberalization with limited political reform
• Committed to continued economic reform: stated
objective to become “socialist democracy”
– Political change more limited and uncertain
– One-party rule by CCP continues as status quo; recent transition
to 4th generation leadership
• Internationalization of economy provides pro-reform
momentum
– Large export sector and growing foreign presence
– WTO entry conditions
– Enhanced foreign policy stature in region
• Ongoing transition into two tier-system: public versus
private sector
– Complex bureaucracy intertwined with commercial activity
Source: Economist Intelligence Unit – Country Report 03/04
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Financial System:
Increasing liberalization but still volatile and high-risk
• Banking system weak, but moving in the right direction
– Creation of a regulatory body to oversee the banking sector
• Two Stock Exchanges (Shanghai, Shenzhen) + Hong
Kong (H shares) and emerging IPO market
• Foreign Exchange pegs the currency to the dollar
– Highly criticized
– Promotes exports at the cost of slower GDP growth per capita
• Credit: too much going to the state
– Not enough competition for capital
– Upper limit of lending rates raised so market forces would
determine availability of credit
• Foreign investment plays a significant role in China's
remarkable economic growth (US$51bn in 2003)
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Managerial Systems:
Reliance on culture and connections
• Communist party once stressed enterprise management:
state was responsible for P&L, not the organization
• Led to quality control issues that persist even now; “just in
case” mentality instead of “just in time”
• Improvement process undertaken in 1970s
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Stronger economic responsibility (forecasts, accounting, controls)
Reorganizations that promote good workers and avoid overstaffing
Stronger penalty system for worker discipline
Better financial controls
• Workers now receive many incentive plans, including
group and personal rewards
Source: “The Great Transition,” Lieberthal and Lieberthal, Harvard Business Review, Oct. 2003.
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Entrepreneurship
• Chinese are naturally entrepreneurial in spirit
• Focus is on small- to medium-sized family businesses
• Limited focus on knowledge-intensive entrepreneurial
ventures
• The non-state sector, contributes 74% of industrial
output, 62.2% of GDP, and more than 100% of the
increase in employment.
– Non-State Sector includes private companies, self-employed
businesses, shareholding corporations, joint ventures with
foreign investment, and community-owned rural industries.
• The emergence of the non-state sector highlights the
Chinese entrepreneurial spirit
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Culture:
Modern façade can cover strong cultural differences
• China has long and ancient history as world power, with
periods of great turbulence
– Continued impact of Communism legacy
• Key Cultural Differences:
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Community and group harmony
Hierarchical with emphasis on relationships
Holistic and circular analysis
Wariness of foreigners
Unreliability of “rule of law”
• Regional and class differences between urban elite and
rural classes
Source: Harvard Business Review (10/03 – “The Chinese Negotiation” Graham & Lam
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Investment Factors
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Strengths – Economic Performance
• Quadrupling of GDP since 1978
• By 2020, region’s GDP will be 50-60% of global economy
• Huge potential for certain American exporters
• In 2003, was the second-largest economy in the world
after U.S. (measured on a purchasing power parity basis)
• 8.6% in 2003 and close to 8% growth in 2002
• Exceeding a $1 trillion figure for economic production
• Partial transition to a market economy
– The emergence of the non-state sector indicates a trend towards a
more open, diverse economy
• Consumer demand growing at rates far exceeding
expectations
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Strengths – Manufacturing
• Used WTO transition period to develop products in which
it has intrinsic strengths
– These areas include machinery and equipment, toys, consumer
electronics, automobiles, bicycles, motorcycles, precision
instruments, textile and garments and consumer goods
industries
• Chinese are expected to undercut less efficient
neighbors and beat them in competing markets
– Produces 50 percent of the world's cameras, 30 percent of the
air-conditioners and televisions, 25 percent of washing machines
and 20 percent of refrigerators.
• Two-thirds of foreign manufacturing in China is for the
domestic market
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Strengths – Manufacturing
• Not sure how the following fit into the previous slide
• China has been a “marketer's dream come true”
• The second wave of FDI is characterized by:
– Shift from low knowledge base industries to medium
and highly knowledge-intensive industries and
– Geographic shift from the coastal and southern areas
of the country inward.
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Strengths - Trade Agreements
• WTO
– Accession to the World Trade Organization helps strengthen
China's ability to maintain strong growth rates
• ASEAN
– intention to establish a Free Trade Area (FTA) within ten
years. Would solidify trade within the region and present the
region as a larger market
• 2008 Olympic games
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Weaknesses – Governmental actions
• There are still remnants of a planned economy, prone to
over investment and overproduction, unrelated to supply
and demand
• No predictability in its business environment
– Lack of a consistent body of laws and regulations
– Government known to backtrack and retighten central controls
• Government protects local and state-owned firms from
imports while encouraging exports
– shielding from competition by subsidies
– Keeping state-owned enterprises afloat even though they have
been losing and are unable to pay wages and pensions
• Foreign Exchange – pegging the currency to the dollar
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Weaknesses – Financial
• Weak banking sector
• Too much credit going to the state sector
• Administrative monopolies are a drain on the economy
– Government is proactively moving to dismantle these and create
a more competitive framework (injected competition into telecom
services and broke up the State Power Corporation of China)
• Occupancy rate in most high-rise buildings is less than
50 percent
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Weaknesses – Financial
• Just $5,000 per capita due to population
• Unemployment is rising
– Estimates vary between 3.6 percent and 20 percent (depending
on whether the figures are official or independent)
• Unemployment is expected to intensify further in 2005
– 150 million Chinese small farmers will be rendered jobless as
American, Australian and Canadian large farmers dump their
mechanized produce in Chinese markets under the WTO
agreement
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Weaknesses – Country Issues
• Corruption
– levels are still very high despite governmental actions aimed at
reducing corruption and other economic crimes
• China's population control program
– Essential to maintaining long-term growth yet it has weakened
• Environment
– deterioration in the environment, air pollution, soil erosion, and
the steady fall of the water table
• Arable land
– continues to diminish due to erosion and economic development
• An aging population
– one of every 10 Chinese is over the age of 60
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How to Invest in China
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Investing in China
A how-to
• Get guanxi
– show respect
– network extensively
– avoid jewelry and white items
• Pick a production region: find a location geared toward
manufacturing, engineering, or sales
• Pick a distribution region: find a location based on
internal distribution or export
• Hire staff that can manage the local initiative
• Guard intellectual property
Sources: Hong Kong Trade Development Council; BusinessWeek
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Investing in China
Where to go?
China has established
regions for targeted
manufacturing
Best resources and
skills for a particular
sector can be found in
specialized areas
Source: adapted from BusinessWeek via Mike “Don’t call me Norton” Coppola
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Successful Venturing in China: The Right Leader
• During initial entry, an entrepreneurial manager is
needed
– creative and flexible
– experienced with international startups
• During development, a strong senior manager
– good ties to home base, communication skills
• During a global integration, a global manager
– comfortable working across business divisions
Source: “The Great Transition,” Lieberthal and Lieberthal, Harvard Business Review, Oct. 2003.
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Successful Venturing in China: Staffing the Firm
• Employees are found through two avenues:
– job fairs
– recruiting agencies
• Placing want ads is less common
– requires local government approval
• Employees are usually hired with contracts
– terms can be determined individually or collectively
Source: "Guide to Doing Business in China(2003 Edition),” tdctrade.com
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Successful Venturing in China: Managing Risk
• Vital to establish local country management with strong
senior staff
– coordinate activities
– show a united face for the company
• Understand management goals of the partner in a joint
venture
– JV company often looks to expand labor force
• Hire managers who can interpret and understand
internal issues and devise strategies
• Avoid sharing sensitive technology and data
– Chinese are good at pirating ideas
Source: “The Great Transition,” Lieberthal and Lieberthal, Harvard Business Review, Oct. 2003.
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Successful Venturing in China:
Negotiation Factors
• Guanxi
– Personal Connections
• Zhongjian Ren
– The Intermediary
• Shehui Dengji
– Social Status
• Renji Hexie
• Zhengti Guannian
– Holistic Thinking
• Jiejian
– Thrift
• Mianzi
– “Face” or Social Capital
• Chiku Nailao
– Endurance,
Relentlessness
– Interpersonal Harmony
Source: Harvard Business Review (10/03 – “The Chinese Negotiation” Graham & Lam
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Conclusions
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