Over the past 20 years, many foreign corporations have had to learn the hard way about how best to enter the China
market. Today, they can choose from a range of options, says Professor Jonathan
Story.
In the l98Os. before Beijing had opened up to welcome foreign direct
investment,
corporations tended to consider market entry strategy as best explored
sequentially:
by the turn of the millennium, with more options available, corporations
could choose across a range of options from opening up a wholly-owned operation to
licensing their technology to locals, or just dipping their collective toe in Chinese waters to
test the temperature.
So the first step could involve establishing a representative office
in Hong Kong, possibly manned by an overseas Chinese with local savvy, or at least by a
tried and tested manager with knowledge of the Asia-Pacific. A Hong Kong base could be
used, of course, to service global markets while exploring opportunities on the mainland.
As soon as the corporation began to find domestic customers and start importing through
an import agent, officials would start to push for local production, either through a licensing
arrangement with a state enterprise, or by a joint venture.
Full foreign ownership
Realising that corporations would only start to transfer technologies to China
only if they could be assured of some control over operations, Beijing widened the entry
option in l996 to full foreign ownership. In 1993, the holding company formula received
official sanction, allowing corporations to start using it as a mechanism for integrating their
activities China-wide. That would be a necessary condition for them to fit China activities
into their global business
The entry mode is one question that top management must
weigh. Their answer, which depends on two other considerations, yields a simple matrix
(see table): the expected significance of the China market to a corporation's global
operations is measured on the vertical plane as ranging between low and high, and its
expected bargaining power with the government is portrayed vertically as flinging from low
to high. The matrix produces four broad predicaments:
1. lf the significance of the
market and the bargaining power of the corporation are both low, one approach is to avoid
trouble by not going in, or to limit commitments while keeping options open for the future.
Many corporations have taken this line. Japanese investors, for example, only became
moderately bullish about China in the early 1990s, with the possible exception of
electronic firms such as Hitachi concerned with reducing production costs as a priority. By
the mid-1990s, Hitachi had 28 joint ventures operating across China.
But in general,
Japanese investors looked at China and saw trouble, preferring to invest in other Asia-
Pacific markets or in the US and the EU. Toyota, the global auto giant with an annual output
of about 5m units, decided in 2000 to produce 30,000 units a year in a joint venture with
Tianjin Auto-mobile Xiali. A year before, Honda began producing the Accord model in
China.
Another example of limited initial commitment came from GE's Jack Welsh, who
got fired up about China's potential after his visit in 1992. Over time, China has become
a "massive opportunity", in the words of GE's new chief executive, Jeff Immelt, and the
group now has more than USS I .7bn invested there. But GE's own procedures ensured
that Welch's early enthusiasm was reigned in.
Consider the joint venture with China's
biggest light-bulb manufacturer, Shanghai Jiabao. Too much time was spent bringing the
production side up to scratch, while ignoring the market. Welch drew the lesson and axed
projects that he considered to be heading for trouble, by sticking to his 20 per cent return on
investment rnle while leaving GE business units to experiment on a limited basis.
Examples of GE success are scanning equipment for hospitals, plastics and aircraft
leasing a portfolio without much synergy between the component parts.
2. If the
expected significance of the China market is high, and the bargaining power of the
corporation is low, one option is to a give/go along/ally with local government demands.
Here, the corporation's top man-agement considers that what counts most is to get a
toehold in the China market. In this frame of mind, the corporation is prepared to go a long
way in accepting the government's requirements, such as agreeing to a minority share in a
joint venture, to transfer technolo-gy as soon as possible, and to be satisfied at least early
on with government demands.
Take Nike, the US sportswear group, which saw the
China of the early 1980s as an ideal platform from which to source manu-facture and
exports of shoes. Despite low wage levels, it found that the non-labour costs of operating
there were nearly one-third higher than in South Korea. Additional costs included the import
of expatriates to train, the problems of finding local suppliers, the difficulty of getting staff to
appreciate inter-national quality standards, the discovery that the workforce in SOEs had no
incentive to improve and unanticipated transport costs. No wonder that Nike more or less
accepted the government's terms in shifting its opera-lions to a special economic zone,
where free market conditions prevailed.
Otis, the US elevator manufacturer, had a similar
experience. Powerful competitors were entering the fast-growth market, and negotiations
with the Tianjin authorities for a joint venture were dragging out. So Otis accepted a minority
share, gave the joint ven-ture an exclusive right to distribute its prod-ucts. and agreed tu
employ the local work-force, maintain the existing pricing system and to accept an export
clause all with tongue in cheek.
Not surprisingly, the joint venture got off to a spanking
start and then drifted into trou-ble as the two partners' different agendas came to the fore.
The deal was eventually re-negotiated at the turn of the I 990s by incorporating the Tianjin
operations into a broad-er China strategy. By then, corporate bar-gaining power was given
a big fillip in both Beijing and Washington by organisations such as the US Chamber of
Commerce and the US-China Business Council.
3. If the corporation's expected
bargain-ing power is considered high and the expect-ed significance of the China market is
rather low, an opportunistic approach may pay div-idends. Top management's attitude is:
let's see what turns up in China, as long as we don't get sucked into some never-ending
project that detracts our scarce managerial resources from their main markets.
This was
very much the approach of Jan Froeshaug, the chief executive since 1987 of Egmont, the
Danish children's entertain-ment company. By the early 1990s Egmont, as a Walt Disney,
licensor, was responsible for 50 per cent of Disney's stories. Froe-shaug had been quick t
() spot the opportuni-ties opening up in central Europe and here was a new opportunity in
China. China had about 200m children aged 5-14. with a print size in the five major regions
equivalent to the market size of the whole of German-speaking Europe.
The problem
was that publishing was out of hounds for foreign investors, and the powerful Ministry of
Post and Telecommunica-tions had control over printing and magazine distribution through
China's 53.00 post offices. Disney agreed to let Egmont explore the prospect and
Froeshaug was duly intro-duced to an agent, Shoul Eisenberg multi-billionaire Israeli
national, escapee from Hitler's Europe, one of Mao Zedong's con-tacts with the western
world and part respon-sible for the Nixon-Kissinger diplomacy with Beijing in 1971-
72.
Froeshaug relates how Eisenberg flew into Frankfurt on a Chinese military plane.
With this outsize character as partner, Froe-shaug stitched up a workable deal, just in time
for the government to announce a ban on other foreign publishers undertaking joint
ventures in China. Meanwhile the Children's Fun joint venture, Egmont's China baby, had
to learn the hard way that Mickey Mouse and Goofy, the Stone Age was not a hit with
Chinese parents and children. Egmont's China operations have done fine but, like many
others investors, less well than might have been hoped for.
4. If both the corporation's
bargaining power and the market's significance are high, then the corporation can
challenge local demands and negotiate favourable concessions with public officials. Take
the ease of distribution networks, which the state began to marketise in the early I 990s.
The sector was opened up to joint ventures and rules about advertising were eased. Car-
refour, the French retail giant, seized the opportunity to build up China's second biggest
retail chain in the short space of five years. By 2000, Carrefour could boast 28 outlets in Is
cities and a turnover of nearly US$ Iba all the while ignoring Beijing's required say-so to
open retail joint ventures. A key to its success is to provide a simple. large store space,
offering a large variety of products and low prices. The stores move goods fast, cut tough
deals with suppliers, carry minimal stocks and eater to local tastes.
There are other
reasons, though, for Car-refour's success. An intangible Carrefour asset is the managerial
savvy acquired in its home market in France, and then across Europe. Europe is, in many
ways, like China, composed of quite separate provinces and governed loosely by a distant
emperor. Knowing the local barons, and winning their support, is essential to success.
Thus, while its arch rival Wal-Mart stuck to Beijing's rules and to the Guangdong markets,
Car-refour managers raced around China cutting deals with city governments, promising
local jobs and tax revenues. They had done much the same in expanding around
Europe.
An additional advantage for Carrefour is that China is a huge France: both
countries pride themselves on their cuisine, both are convinced that they are the centre of
the world. both love mandarinates and both know that rules are there to be bent. When, in
2001, Beijing opened an investigation into the lack of central approval for Carrefour outlets,
Car-refour had already built up an extensive constituency across the country. It also put the
opening of 10 new stores on hold, just to hint at the cost of a negative decision. Given that
there were 270 other foreign-financed retail outlets watching, Carrefour was given the
nod.
Avon, the US direct-selling corporation, had a rather different experi-ence. Like
Carrefour ,Avon found lobbying in Reijing unrewarding, and
headed for the provinces.
Guangdong authorities were receptive, and the T company began to roll-out its plans for
door-to-door sales. Others soon followed Avon's example, so that by 1997 there were
about 2,300 direct-selling firms in China, employing up to 20m people and generating a
sales volume of US$2bn. But the State Council issued a blanket ban in April l990. All door-
to-door sales operations were ordered to convert to stan-dard retail distribution or go out of
business.
One reason for the crackdown was to flush out the get-rich-quick artists. But
the main reason to stop door-to door sales operations was political: officials did not like the
rituals used to arouse enthusiasm at marketing meetings. They were too much like
religious revivalist move-ments. Avon had to concede, and swiftly altered its business
model to turn
its supply stores into retail outlets. The motto is that foreign investors -.
must know when the central government is in earnest, and when it is less T so. Beijing is
definitely in earnest about stamping out opposition movements, before they can
organise.
Learning process
The takeaway for businesses entering China is that
there has been a learn-ing process about how to enter the market. This holds for both
corpora-tions and public officials. There are plenty of examples, of course, where firms that
are fresh to China, and public officials with limited expedience about dealing with
foreigners, have to learn the hard way all over again.
But it is equally true that the Nike
and Otis stories recounted here are more typical of the 1980s, and Egmont's is typical of
the early I 990s. Shoul Eisenberg's skills as a go-between were rooted in the old planning
system, still being vigorously championed by the Ministry of Posts
and
Telecommunications at the time of Lgmont's entry. Since then Eisenberg has
passed on, and the ministry has transmogrified into the Ministry of
Electronic Industries.
Carrefour's and Avon's stories could occur at the turn of the century, because that is when
the party-state was learning how to sort out its policies regarding the marketisation of the
wholesale and retail sectors. In future, foreign corporations can chose from a range of
options on how to enter the China market, whereas 20 years ago they would have had to
proceed sequentially and slowly.
Even so, a few rules of thumb still hold for the future: be
clear about -your own objectives and those of your Chinese partners; don't tailor your
strategy to government demands; control is best exercised by a majonty stake but, failing
that, considerable influence can be exerted by exploiting the leverage derived from the
provision of know-how, technology etc; being in there for the long term does not mean
running a loss-making operation indefinitely; develop good antennae to help you learn
about China's changing environment; remember the government in China is not a
monolith, and relations have to be cultivated at all levels of the state. Not
least,
remember that the best partner, as the Chinese saying goes, is one who shares the same
dreams but not the same bed.
This is an edited extract ham China, the Race to
Market, written by Professor Jonathan Story and published by Financial Times Prentice
Hall, US$27.50. The hook is available from http://www..amazon.com and wwn,.business-
minds.com. Jonathan Story is professor of international political economy at INSEAD, in
France