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“Overall, R&D and manufacturing expansion are growing fast in inland regions of China. ABB’s customer industries,
such as oil and gas, electric machinery and equipment manufacturing, and power equipment will grow much faster than
average in the Western World. Inland regions, especially some key inland cities with top science and engineering
universities, also provide a large talent pool.”
Claudio Facchin, Senior Vice-President, ABB Group, Head of ABB North Asia Region, Chairman President, ABB China
Ltd.
By 2020 there will be nearly 800 urban locations (cities and the urban portions of counties) with real disposable income
per capita greater than Shanghai’s today.
Boston Consulting Group
There are over 800 companies waiting for IPO during the last 15 months. Now first 50 will go public and some of them
will be cash-rich and good match with Finnish companies to grow international or make M&A.
Rami Vehmas, Ilmarinen; Mikko Puhakka, Lion Partners; Jari Makkonen, Finpro China
Team Finland Future Watch
China Growth Paths –
Understanding Future Business Trends in China
Authors of report:
Jari Makkonen, Head of Finpro China
+86 1381 667 8981
Email: [email protected]
Tony Yao, Senior Consultant, Finpro Shanghai
+86 1592 105 5305
Email: [email protected]
Contact information
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Contents
1. Summary .................................................................................................................................................................. 1
2. Scope and project background ................................................................................................................................ 4
2.1 General project scope............................................................................................................................................. 4
2.2 Geographical focus of project ............................................................................................................................... 10
2.3 Finland and its position in the global value chain ................................................................................................. 11
2.4 Policies for main drivers of Chinese growth ......................................................................................................... 16
3. Competition and segmentation –related implications .......................................................................................... 22
3.1 Business and segmentation –related considerations in China ............................................................................. 22
3.2 Emerging Market MNCs ....................................................................................................................................... 29
4. More detailed look at Shanghai, Wuhan, Sichuan and Guangdong ...................................................................... 33
4.1 Regions in general ................................................................................................................................................ 33
4.2 Shanghai as a window to world trade ................................................................................................................... 35
4.3 Wuhan (Hubei province) as node of logistics ....................................................................................................... 38
4.4 Sichuan as powerhouse of future ICT cluster and automotive industry ............................................................... 39
4.5 Guangdong as a platform for adapting products for mainland China ................................................................... 41
4.6 Logistics –related on the regions .......................................................................................................................... 43
5. Market entry –related view for companies preparing entry to mainland China and for those already present in
East China ...................................................................................................................................................................... 48
5.1 Aspects on managing talents in China ................................................................................................................. 48
5.2 Basic view to Mergers & Acquisitions in China .................................................................................................... 50
5.3 Finnish newcomers to China ................................................................................................................................ 52
5.4 Established Finnish companies in China .............................................................................................................. 53
6. Conclusion and recommendations ........................................................................................................................ 55
6.1 Future challenges of China ................................................................................................................................... 55
6.2 Challenges to Finnish industry in mainland China ............................................................................................... 59
7. List of sources and interviewees ............................................................................................................................ 64
8. Appendices ............................................................................................................................................................ 70
1
1. Summary
The aim of Team Finland Future Watch is to identify business trends and phenomena
relevant to Finnish companies during the next 2-5 years. The present report focuses
on raising business opportunities in mainland China and there is a special focus on
West China and its importance to Finnish companies.
Research for this report was carried out via interaction with four companies that
made up the steering group. Several Finnish, Chinese and international companies
and stakeholders in Shanghai, Wuhan, Sichuan, Guangdong and Hong Kong were
also interviewed, and a number of publications, articles and web pages were carefully
studied.
The growth of China and other emerging markets was the focus of the Team Finland
Future Watch report “Sino-Finnish Paths to International Competitive Advantage”,
which emphasized how important emerging markets would become by 2050 and
stated that at that time China would represent 28% of global GDP. According to
official Chinese statistics, the country's GDP grew by 7.7% in 2013. However, this
data and other data used for this study were subjected to critical and careful
observation, since Chinese statistics sometimes seem to suffer from systematic
governance problems.
Substantial changes are occurring in China's population and its urbanization process.
Private consumption, in particular, will rise when the challenges of social security
have been dealt with. Large numbers of people do not enjoy equal access to services
reserved for the urban population such as education, unemployment benefits and
health care. It has been argued that China will need at least 10 years to build a social
welfare system.
Easing the One Child Policy will not reverse the problem of China's aging population.
The country's workforce is shrinking – especially with regard to blue collar workers –
and its dependency ratio is rapidly worsening. Meanwhile, more than 7 million
university students begin their studies each year and will have problems finding their
first job.
Middle-income and affluent consumers (MACs) in smaller cities make up the core of
new unknown markets in West China and areas outside known urban centers. They
will soon consume more than their equivalents in larger cities because they enjoy
lower living costs and have suffered less during the recent economic downturn. The
Boston Consulting Group claims that by 2020 there will be nearly 800 urban locations
with a real per capita disposable income greater than that of Shanghai today.
However, in segments such as the luxury market it will be difficult to make money.
2013 saw a 15% downturn in sales of high-end products as a result of government
anti-corruption policies and wealthy Chinese moving abroad. A further challenge in
selling to MACs will be the rapidly-developing e-commerce industry and its role in the
future (“Taobao” –internet platform owned by Alibaba Company, others).
Restructuring of state-owned enterprises (SOEs) between 1993-2003 saw jobs in this
sector cut from 76 million to 28 million. However, the privileged access to credit still
enjoyed by the remaining SOEs has led to a collapse in capital efficiency (regulated
consumer deposit interest rates, shadow banking thanks to unfair competition for
credit). The consequence of this has been overcapacity in various industry sectors
(steel, glass, shipbuilding, and others), since the primary focus of their operations has
been the creation of jobs. SOEs have also paid only a fraction of profits as dividends.
The steel industry and shipbuilding industry are typical examples of sectors with
2
significant overcapacity. Restructuring efforts planned for the near future will probably
result in bigger companies, but companies that have the same headcount and
productive capacity. One further driver incentive for restructuring is the possibility of
access the U.S. driven Transpacific-Partnership, which forbids SOE from its deals.
It is likely that the central government is aware of what needs to be done, but has yet
to acquire the political muscle required for imposing changes on the powerful SOEs.
When it comes to opening capital accounts and having a freely convertible RMB, the
China (Shanghai) Pilot Free Trade Zone is the pilot for making cross-border capital
movements possible in the future. It is possible that the pilot FTZ will come into effect
from 2014. An exact timetable and method of proceeding are in preparation and will
hopefully be experimented with soon. Recently there has been news about the
further 10-12 new Free Trade Zones to be opened in mainland China very soon. This
might imply a faster opening of capital account and freely changeable Renminbi with
related risks.
Intellectual property rights (IPR) remain a very hot topic in mainland China. Different
levels of IPR infringement are happening every day, and this will continue in the
future. Competition is extremely fierce in Asia and especially in mainland China.
Leading companies like Samsung are proof that you have to innovate in certain
sectors (such as electronics) every six months and bring something new to the
market if you want to be the leader in your sector. Companies that are not prepared
to do so may be better off staying out of China or focusing on another industry sector.
For the last 15 months, 800 companies have been waiting for their Initial Public
Offering (IPO), because the government does not want them to compete over funds
with companies that are currently listed in Shanghai. The first 50 companies will go
public at the beginning of 2014. Some of them could become important potential
partners for Finnish companies and their growth in China and the world over the next
1-5 years. They could also carry out M&As in Finland.
The location of current and future APAC headquarters has been evaluated, and some
Finnish and international companies are considering moving theirs out of mainland
China for three reasons: availability and cost of Chinese talent capable of working
internationally; air pollution; and concerns relating to the rule of law (internet, etc.).
These challenges, then, do not only relate to West China but to the whole territory.
Business opportunities for Finns in West China often relate to investment in
infrastructure. Infrastructure construction technology business is set to increase in
West China from 2014-2017, despite the sentiment that tier-1 and tier-2 –cities in this
region are becoming saturated by roads, blocks of flats etc. Finnish companies
already established in East China might be in the best position for seizing the
opportunities of West China because they possess Chinese-speaking personnel and
technology already adapted to the China marketplace. West China has more space
for Base-of-the-Pyramid technologies, but on the other hand mid-market solutions by
Finnish newcomers to China could also work well in tier-1 and 2 cities in West China.
Finnish companies normally have to adapt their high-end offerings to China, if they
wish to become an important and long-term player in their industry field. It seems that
there are two cases related to adaptation of offerings to the local market place. For
investment goods (B2B), the mid-market and upper end of the low-mid market are set
3
to grow bigger in the future because many Chinese companies are increasingly
interested in the export market and must improve the standard of their technology
and quality of their products. Additional pressure towards industry automation is given
by lack of blue-collar workers in the future. This applies both to the production
technology used and to end products made by the same companies. Instead, there is
another type of development regarding consumer goods (B2C). There seems to be a
trend of the low-low segment and high segment selling well, but mid-market and low-
mid market brands are under pressure and often lose money on the China market
place.
Adapting Finnish offerings to the China marketplace, however, will take time, and 10
years is considered normal by some Finnish experts.
Chinese end-consumers are increasing their market share of global consumption.
The statement of several Finnish companies that “we work only with Western end
customers” does not appear to be a sustainable one in the long-run; we must learn to
work with Chinese qualified customers very soon. The fight for “Western” business
will become increasingly intense as emerging-market multinationals (EMNC),
particularly those from China and India, enter to compete for these customers, and
hence Finnish companies will have more and more local (Chinese) competition for
this type of customers, too.
4
2. Scope and
project
background
2.1 General project scope
About this project
The aim of Team Finland Future Watch is to identify business trends and phenomena
relevant to Finnish companies and society in general during the next 2-5 years. This
project is part of Future Watch, which is organized by the Tekes (Team Finland Future
Watch). An important part of the work carried out by Team Finland is collecting
signals from important markets, making sense of them with companies and
anticipating major phenomena that can be turned into business opportunities.
We also expect this work to increase the basic know-how of Finnish companies and
their stakeholders (Board of Directors, industry associations, trade guilds, other)
regarding important markets.
Tekes organized a tender for Future Watch-related work and this tender was won by
Finpro ry. As a result, Finpro is creating the mainland China project. Some other work
related to Future Watch was also recently carried out by Booz & Company and the
Economist Intelligence Unit. For example, the “Sino-Finnish Paths to International
Competitive Advantage”1 Tekes Report is one of the most recent outputs of the
Future Watch. The report explores growth and co-operation opportunities for Sino-
Finnish companies with complementary capabilities. Interestingly, opportunities are
identified for serving markets in both developing countries (“Breakthrough”,
“Latent Demand”) and emerging countries (“Leapfrog”, “Good Enough”). In
addition, Team Finland Foresight has provided an understanding of Common Value
networks in East Asia, Case maritime2. Both these reports are reflected in, and
contribute to, the current project.
Team and Steering Group
The team working on this project consists of Jari Makkonen, Head of Finpro China
and Tony Yao, Senior Consultant at Finpro Shanghai.
The steering group is made up of management and experts from the following
organizations: Tekes (financier), Evac, Glaston, Ilmarinen and MPS China.
From October 2013 – January 2014 the research team (Jari Makkonen, Tony Yao –
Finpro Shanghai) held confidential discussions with several Finnish and international
companies in China in order to gain further insight into relevant issues. The exact
content of these discussions is not quoted within this document, since many of the
companies interviewed are listed on the stock market and have a strict policy on
releasing business information outside normal quarterly or yearly reporting.
1Jullens J, Suonio S, Tang T (2013) Sino-Finnish Paths to International Competitive Advantage.
Booz & company Inc., Tekes. 2FinNode China (2012) East Asia Value Networks – Case Maritime Cluster;
http://www.finpro.fi/documents/10304/77620/TF_East_Asian_Value_Networks_Maritime_Cluster.pdf
5
Finpro ry accepts responsibility for the opinions expressed in this report and its
content.
The Finnish side
The Finnish economy was placed under particular strain in 2013 as a result of falling
export figures as well as some major – and for Finns rather shocking – restructuring,
including the sale of Nokia's mobile phone business to Microsoft. Clearly, one of the
major tasks of the Finnish government is to improve economic conditions for Finnish
companies in order to encourage current and future shareholders to maintain Finland
as the base of their HQ operations, development of R&D, ownership of IPR, branding
and other aspects of company operations that capture value for Finnish society.
This is especially important in light of the following statement from the ETLA3: “Also
the share of distribution and both whole- and retail trade can be a surprise to many;
hence, out of the total value chain added value a significant part of the value remains
always in the country, where the end customer and – user are”. China, then, with
over 1.3 billion consumers, should be in a good position to capture value in the future
world economy; at the same time, this makes our position pretty challenging
considering Finland only has 5.3 million consumers.
This report is not about encouraging Finnish companies to outsource abroad.
The authors believe that there is a need to maintain and develop industrial operations
in Finland, a sentiment shared by several internationally-renowned consultancies that
have argued in favor of on-shoring4. However, Finland's home market is small, and
the same type of on-shoring projects carried out by American companies in order to
repatriate production may not be feasible in exactly the same way in Finland.
When it comes to Finnish industries, the main areas of interest for China and
Chinese companies and other organizations is Finland's arctic know-how,
shipbuilding and offshore oil & gas, the paper and pulp industry, energy-saving
concepts and clean tech, mobile ICT and gaming. These industry sectors may
offer us the most opportunities for developing business in mainland China, since our
image in these fields is relatively positive. However, this obviously doesn't preclude
us from opportunities in other sectors, too. In relation to these sectors it must be
stated that the future Initial Public Offerings (IPO) of approximately 800
companies could bring cash-rich companies to the China marketplace, of which
some companies are in sectors for which Finland is known (paper and pulp
technology, shipbuilding, offshore oil & gas, paper, other) and could be considered as
partners in China or companies interested in M&As in Finland. Finnish companies
in the above-mentioned sectors will be particularly attractive to Chinese
companies, since we have a track record of good technology levels and
existing sales channels globally in these industries that are likely to be
bottlenecks for most Chinese companies.
3Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa
kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247). 4McKinsey & Company: Finnemore, Kim & Pande, 2010
6
The Chinese side
China's integration into the world economy began in 1978 in South China and has
included several milestones, one of which was China's entry into the World Trade
Organization (WTO) in December 2001. This integration is still ongoing: China, for
example, is currently drafting a new Government Procurement Agreement with the
WTO that could lead to the opening up of the vast Chinese government market to
foreign companies5.
The Chinese government launched its “Go West Policy” in 2000 in order to
guarantee more equal development across the whole of China. This, and its
implications for Finnish companies and their success in China, is the focus of this
project. For the sake of simplicity, Central and Western China will be referred to as
“West China”, and comprise all regions except South China and East Coast
including Beijing and North-East China.
There are several possible growth opportunities for Finnish companies in West
China:
- Growth in turnover; new geographical markets and segments, better “share
of wallet” (higher market share of client’s total purchases) with current
products and services (“zero distance to the customer approach”)6
- Growth in turnover through commercializing new products and innovations
and adapting products and services to new target markets. Same products
can be possibly commercialized in other emerging markets (BRICS, etc.),
once adapted to mid-, low-mid and/or low-low markets
- Better sourcing (new partners or new sourcing locations of the current
partners)
- New solutions for distributing products or delivering services in a more
economical way
- Possibly finding a better environment for Greenfield operations and joint
ventures (JV) active in China, other emerging markets and towards the
developed countries, too
- Interesting possibilities for Mergers and Acquisitions (M&As’)
- Finding new investors to place their stakes and make Overseas Direct
Investment (ODI) in Finland.
China's improvement of industry, agriculture and value chains in general has been
the driver behind phenomenal economic development. The number of Chinese
nationals living below the 1.25 dollar-a-day poverty line set by the World Bank has
decreased from 446 million in 1999 to 160 million in 20097. Urbanization has
5Yao Jing (2014) China aims to open up procurement market. China Business Weekly. Jan 13
th
2014. 6China Development Research Foundation (2013) China Development Forum survey report.
Choosing China: Insights from multinationals on the investment environment. 7People’s Daily Online, Oct 21
st 2013.
7
supported the country's growth8 and appears set to continue at a significant pace:
681 million urban citizens in 2010 will become 798 million by 20209. Basically, it
is generally said in China that there are some 13-14 million very wealthy Chinese,
some 125 million middle-class consumers, and over 1 billion relatively or very poor
people. The middle-class is expected to grow to 356 million people by 202010
.
Much of China's growth has led to inequality among cities and regions, as vividly
illustrated by the following chart:
China: provincial growth rates (Annual average, in percent)
11
The incomes of China's rich have been growing comparatively faster than those of
relatively poor people, and the Gini coefficient for China increased to over 0.47 in
201212
. This has been recognized by the Chinese government, and the role of the
public sector has been enforced through initiatives such as the Go West policy.
However, the results of efforts to create more even distribution of wealth have been
modest.
There has been much public discussion abroad over how to encourage China to
develop its economy in a more consumption-driven direction. This will be no easy
task considering the following: 53 % of the Chinese population lived in cities in 2012,
but only 27% of them had an urban “hukou”, or household registration13
. This means
that large numbers of people do not enjoy equal access to services reserved for the
urban population such as education, unemployment benefits and health care. This
affects people's attitude to the security and predictability of the future, and makes
8Economist Intelligence Unit report, 2013.
9Mary Boyd at EIU breakfast seminar, Oct 31
st 2013.
10China Daily (2013) Middle class sitting in the driver’s seat for consumption. Nov 14th 2013.
11 Il Houng Lee, Murtaza Syed, Xhin Wang (2013) Two Sides of the Same Coin? Rebalancing
and Inclusive Growth in China. International Monetary Fund. 12
International Monetary Fund (2013) People’s Republic of China. 2013 Article IV Consultation. Washington, D.C. 13
China Daily, Nov 7th
, 2013.
8
them less willing to spend money instead of saving it. Thanks to the latest decisions
of the Third Plenum, the government seems to have begun allowing more provincial
sovereignty over budget, which would create a basis for financing social security for
migrants14
. However, it has been argued that in Europe it took approximately 50
years to create a welfare state, and emerging markets will need a minimum of 10
years to build something at least remotely similar15
.
China's government appears to be debating the next steps related to urbanization
and the development of the economy in general. One of the questions is how and
when to solve the problem of household registration, and whether to encourage more
people to move to big cities. The Third Plenum of the P.R. C. Communist Party in
November 2013 contributed to this discussion, even though the initial reaction to its
outcome was mixed; the European Chamber of Commerce in China (EUCCC), for
example, expressed disappointment. According to public opinion, the expectation of a
clear direction seems not to have been met. On the other hand, organizations such
as the American Chamber of Commerce and PwC seem more positive about the
outcome of this meeting161718
. Public opinion also seems to be that it is clear to the
State Council what to do with SOE restructuring, but that the government needs more
time to get the balance of power on the side of this restructuring. One recent
development, however, could encourage SOE restructuring: the United States is
building a Trans-Pacific-Partnership (TPP) and it has a rule that forbids SOEs in its
free-trade zone19
. This could also act a driver for the privatization of China's SOEs.
Finpro's view of the Third Plenum is that there is basic understanding about the
problems to be tackled, but that there is not yet enough consensus on some
measures to be taken. There are also groups of stakeholders who are not prepared
to give up the favorable position they currently enjoy in the name of a holistic
approach to developing Chinese society. In other words, the current way of working
and living with certain problems (e.g. overcapacity) will be sustained during the next
two to five years at least. So, the whole topic of SOE restructuring will be an
important part of the government agenda in the coming years. However, it seems that
the current top party leaders must still build up some political muscle before tackling
the strong interest groups associated with the SOEs. It will be especially interesting
to see if the restructuring will start from 117 State –owned Assets Supervision and
Administration Commission (SASAC)-owned SOEs, and what the method and
timetable will be for other publicly-owned entities.
Relatively recently, the IMF released a report on the economic challenges faced by
China20
. According to the IMF forecast, GDP growth could slip to 4% per annum
from 2013-2030 if the proposed reforms are not implemented. In the event that
14Mattlin M (2013) FIIA Comment 17/2013. The Finnish Institute of International Affairs.
15Dr. Xizhe Peng, EIU Breakfast seminar, Jan 15
th 2014. Shanghai.
16Keith Jarrett, Chairman of AmCham at FBCS meeting, Shanghai, Dec 6
th 2013.
17PwC (2013) China Desk Newsletter October/November 2013. Nordic & Chinese Company
Highlights. 18
PwC (2013) New Roadmap for Achieving the China Dream – Business and economic implications of the Third Plenary Session of the CPC’s 18
th Central Committee.
19Yang Yi (2014) Diverse ownership to boost SOE reforms. Xinhua, English.news.cn. Jan 5
th
2014. 20
International Monetary Fund (2013) People’s Republic of China. 2013 Article IV Consultation. Washington, D.C.
9
these reforms are implemented, the IMF would expect China to grow 6% per
annum during the same period, which would clearly put the whole country in a very
different position. Nevertheless, both growth figures will be challenging considering
that China's population is aging and needs to transfer its industrial base from low
value manufacturing to high value high skill high tech industries at a time when the
working population is diminishing21
.
In the global economy the role of mainland China has been the assembly of
products that are then exported globally through the distribution channels of
traditional multinational companies. In 2012, multinational companies still
accounted for over 50% of Chinese exports. Chinese-owned companies are
frequently involved in the export of non-branded, low value added products (textiles,
shoes, etc.), and large SOEs have been exporting their technology–related products
to BRICS, Southeast Asia and countries where China has been an important
financier of development, typically Africa and some Latin American countries. Two
banks especially active in this field have been China Development Bank and China
Exim Bank. The production of low-value added goods has been sustainable between
1978 and today thanks to large reserves of cheap labor and the relatively cheap
RMB. However, China's currency has been re-evaluated and this will continue in the
future. At the same time, the One Child Policy has resulted in an aging population
and will exhaust spare resources of cheap labor over the years to come. In this
context, the so-called risk of the Chinese “middle-income trap” must be
mentioned22,23
. In China productivity should improve and the position of Chinese
companies in the value chain should be enhanced so that they can excel in at least
one of the following areas: R&D, marketing & branding or operational excellence.
This will be especially challenging for Chinese SMEs, which have relatively small
resources and export capabilities.
China could try to overcome the middle-income trap by going beyond mass-produced
goods, exporting capital and aggressively pursuing ODIs and M&As as it
progresses from 'assembled in China' to 'owned by China' and 'created by
China.'24
21Lemos G (2012) The End of the Chinese Dream – Why Chinese People Fear the Future. Yale
University Press. 22
Stan Shih, 2012. 23
Roland Berger Strategy Consultants (2011) The End of the China Cycle? How to successfully navigate the evolution of low cost manufacturing. 24
Zhang Zhouxiang & Zheng Yangpeng (2014) Overseas investment leads growth prospects. China Daily. Jan 12
th 2014.
10
2.2 Geographical focus of project
Finnish maritime companies25
have identified the Yangtze River and Pearl River as
waterways that contain possible business opportunities. In addition, consultant John
Hoffman26
has indicated the high-speed rail network27
as a possible enabler for
business growth, and hence this has also been considered in the scope of this
project. The mobility of its population will be crucial to the future of China, and as
such we will briefly address matters relating to airports and their development.
The steering group of this project (consisting of four Finnish companies and Tekes)
has asked the project team to focus on the following geographical regions:
1. Primary focus: Shanghai Yangtze River delta (as a link to global trade and
the main hub of Finnish business in mainland China) and Sichuan, with its
capital city Chengdu (Sichuan being, according to several Finnish
companies, the most interesting site right now for infrastructure construction–
related companies)
2. Secondary focus: Wuhan (node of high-speed train and Yangtze River) and
Guangdong province, with its capital city Guangzhou (as a whole entity
looking for new direction for its success in the future).
The regional scope of this project is already rather huge; however, we would also like
to point out the recently-organized EU-China partnership on urbanization28
which
will increase contact between new Chinese cities (cities new to international contact)
and cities in Europe.
25future session of Finnode Common Value Networks in East Asia, Apr 23
rd 2013
26XRG Company, Team Finland Day, May 7
th 2013
27The Economist (2013) Faster than a speeding bullet. Nov 9
th 2013.
28Project Fact Sheet: Sustainable Urbanisation – Europe-China Eco-Cities Link (EC-LINK)
Project – a project funded by the European Union. 2013.
11
This will increase business opportunities between the EU and China, but will also
increase the complexity of the Chinese marketplace and number of future
competitors. In fact, in an astonishing statement regarding “rising pockets of
important consumers”, Boston Consulting Group has claimed there will be 800
urban locations by 2020 with higher real disposable income per capita than
that of Shanghai’s today29
. At the same time, these smaller urban locations are less
competitive and there are more first time buyers30
.
2.3 Finland and its position in the global value chain
Studies have already been carried out by the Research Institute of the Finnish
Economy (Elinkeinoelämän tutkimuslaitos or ETLA) into Finland's position in the
global value chain.31
In this context, it must be stated that the current method of measuring Finland's
economic performance is probably a poor reflection of the overall situation, since it
does not measure added value -based exports and statistics are instead based on
the gross value of goods exported32
. This same statistical bias is seen in Asia. China
is currently acting as the world's workshop for assembly, but is only capturing a very
small amount of the value of the goods it assembles. At the same time, Japan,
Taiwan and South-Korea in Asia are producing the most value-added components.
These components are then shipped to China for assembly and China has been
blamed for the trade imbalance -a problem which is in fact created elsewhere in Asia.
However, China's role in assembly may not be permanent. It is aggressively investing
in R&D, and has already achieved an important position in international rankings:
29The Boston Consulting Group (2010) Big Prizes in Small Places – China’s Rapidly Multiplying
Pockets of Growth. 30
Chinaskinny (2012) 6 Reasons Why China’s Smaller City Consumers are a Pot of Gold. Dec 13
th 2012.
31Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa
kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247). 32
Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247).
12
The biggest countries in terms of R&D expenses (% of the world’s R&D
expenses, 2005)33
Changes of the shares of R&D investments, %-points
34
The ETLA points out that the share of developing countries, despite constituting
approximately 25% of R&D costs, is still lower than it should be in the context of
these countries' share of the world's volume of production.
However, China’s share of R&D work (in person-years) is already higher than that of
the USA due to the relatively low cost of R&D personnel in mainland China35
:
33 Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa
kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247). 34
Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247). 35
National Science Board 2010
13
The number of researchers in countries and areas (thousand person-years)
36
The ETLA argues that there have been in our Western world three (3) stages of
development of productivity37
:
a) Industrialization and people moving away from agriculture. In Finland this
trend was especially prominent after the Second World War until 1970.
b) People moving from less value-added work towards jobs to higher value
added (leading to industrial clusters mostly within one country). In Finland
this took place from 1970 until around 2000.
c) Change of task structures globally (ongoing).
For policy-makers, but also for Finnish industry, it is of the utmost importance to no
longer make future decisions based on past industrial clusters and know-how, but
instead according to the new realities of the world economy. In this context it is also
beneficial to consider the following quote: “Our society is tuned to the needs of
large / traditional enterprises; there is still relatively little enterprise activities
urging for rapid growth”38
. The authors, however, believe this is already changing
and that Finland now appreciates the value of its small and medium-sized
enterprises.
The following ETLA chart illustrates the future movement of value chains and industry
clusters towards sharing functions and tasks:
36 Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa
kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247). 37
see also Jyrki Ala-Yrkkö, 2012 38
Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247).
14
What, then, will be the future role of Finland and Finnish companies in the European
and global economy? There seems to be a common understanding that the Finnish
companies should move towards the service business. This will require
increased understanding about the business of end-customer and how he makes
money. Whatever we do, we should always be capable of articulating why the
end-customer should work with us instead of our competitors, and how much
more money they will make with us39
:
Once we understand how to make more money with our end customer – and
this must be more than what our competitors can offer – then we can start
designing distribution channels. This is very different from the all-too familiar
Finnish approach of 'going to some trade fair without any plan and waiting for
somebody to come'.
There are lots of opportunities relating to products and services in emerging markets,
some of which have been discovered and described in the Tekes report on Sino-
Finnish Paths to International Growth. Making the most of these opportunities now
and better integrating ourselves with emerging market economies is particularly
important since West Europe will constitute just 7% of the world economy in
39Kaj Storbacka, Vectia Consulting
15
205040
. Currently, the EU represents 20% of the global GDP; China represents 16%
and the United States 19%41
.
In this context we must mention the term “creative destruction” proposed by Joseph
Schumpeter. According to the ETLA, “creative destruction” can be more useful
when it takes place during an upturn. Currently, it is difficult for us to take
advantage of this phenomenon during the Finnish and European downturn. In
fact, Finland now finds itself in a situation where debts are in the West and funds are
in Asia. Especially important according to the ETLA is that there is no further
dismantling of Finland's industrial base, although this need not preclude development
of the service sector and its capability of creating international business, and, as a
result, national wealth.
In its research, the ETLA argued that in the past the assembly location of ICT
technology did not have a significant impact on the location of value created.42
However, this seems set to change in the future. In addition, there may be bigger
challenges to Finland in terms of value creation and its location with regard to
investment goods. In fact, it seems like there are potentially huge differences
depending on the location of sourcing, assembly and the end-customer (the ETLA
cases for investment goods, value created in Finland 15-64 %), as follows:
At first, the transfer of assembly work to abroad can also mean the transfer of
sourcing of parts and components together with the assembly. In this case
the negative effects of the transfer of assembly for the national economy will
multiply themselves.
Secondly, the transfer of assembly has smaller effect in cases where the
value of the product consists of non-material property. This non-material
property is for example brand, patents, software and other similar.
Thirdly, the effect of transfer also depends on, which business entities carry
the business risks of the group and own its non-material property. These
business units should receive the biggest share of the company profit.
Fourth, effects of transfer of production also depends on the transfer pricing
policies of the company group. The prices with which business units of the
group deal with is reflected directly to the place where value is created.43
The Finnish government is further addressing this topic of the future direction of
Finland through such works as Pekka Himanen's “Blue Book / Kestävän kasvun
malli, Globaali näkökulma”44
. Above all, the Blue Book confirms technology as the
driver of innovation, as well as the importance of information technology as a
facilitator of future value-added products and services.
40Jullens J, Suonio S, Tang T (2013) Sino-Finnish Paths to International Competitive
Advantage. Booz & company Inc., Tekes. 41
The Conference Board (2013) Global Economic Outlook 2014 42
Ali-Yrkkö J (2013) Mysteeri avautuu – Suomi globaaleissa arvoverkostoissa. Helsinki: Taloustieto Oy (ETLA B257). 43
Ali-Yrkkö J (2013) Mysteeri avautuu – Suomi globaaleissa arvoverkostoissa. Helsinki: Taloustieto Oy (ETLA B257). 44
see also www.pekkahimanen.org
16
However, it seems to the authors of this report that Finland lacks a master plan and
future direction; or, if these do exist, they have yet to be implemented.
2.4 Policies for main drivers of Chinese growth
The main bulk of the Chinese banking sector is made up of four major state-owned
banks that are also listed on the stock exchange45
. These four banks are ranked
among the ten biggest banks globally. The state sector is also present as a minority
owner of other major Chinese banks. This ownership structure has implications for
the development of public and private enterprises in China.
The role of large banks in shadow banking should probably be better understood and
regulated. However, in the course of interviews with an important shadow banking
industry expert, he confirmed that the problems of this sector are equal and valid
across the whole territory of mainland China. The more problematic part of shadow
banking might be to understand and regulate the role of local government and local-
level SOEs.
An interesting point is that the Chinese government classifies companies as “public”
and “non-public”, which reflects the leading position of the Communist Party in the
country and confirms the leading role of the state in the market.
In January 2014 news emerged regarding the banking sector being opened up more
towards the private sector. For example, Alibaba (owner of the Taobao e-commerce
site) has begun some banking activity through its Alipay platform (limited banking
rights, but tremendous know-how and data bank of buying habits of individuals and
organizations).
The relatively “easy life” of the Chinese SOEs in terms of
-relatively cheap and unlimited finance from SOE banks
-low share of profits paid as dividends to the State
-focus on job creation instead of high profitability
has permitted them to build overcapacity in various industry fields. This remains a
persistent problem even today.46
Many SOEs are controlled by provincial and
municipal governments and inefficiently managed. A further consequence of this is
that they are not producing dividends, but instead have been contributing to ever
decreasing cash flow vs. CAPEX (Capital Expenditure). This mechanism has
been well-documented in recent research47
.
In 2014 there have been signs that the banking sector is opening up, but it is too
early to identify an exact direction and timetable for these changes.
45Korhonen I (2013) Kiina vapauttaa rahoitusmarkkinoitaan – Mitkä ovat riskit?
Kansantaloudellinen aikakauskirja. Suomen Pankki. Siirtymätalouksien tutkimuslaitos. 46
Zheng Yangpeng (2013) New warning on overcapacity. China Daily. Nov 5th
2013. 47
IIAA report, Oct 2013
17
Chinese Prime Minister Li Keqiang recently called attention to this issue and said that
provinces must be forbidden from entering into business with their provincial
industrial operations48
. Should this be respected by the provinces, it could change the
competitive landscape of some industrial fields.
Below is one example of overcapacity in China. With regard to shipbuilding,
Chinese shipyards, which are spread over the whole of the East Coast, clearly suffer
from overcapacity. Officially there have traditionally been over 1500 shipyards in
China, but the state has expressed a desire to consolidate them into 10 strong
shipbuilding groups. However, it is not clear when and how this will take place, even
though organizations such as the DNV have predicted that it will occur between 2013
and 2015. Finpro is less convinced by the DNV's forecast, and believes that the
restructuring may take some 2-3 years more; this is because the government will be
worried about exacerbating unemployment. Future difficulties in finding an adequate
supply of young and cheap blue collar labor will change this, but that is more likely to
happen in around 2017-2020.
With regard to river systems, there seems to be high shipbuilding activity in Wuhan
(in Hubei province), but otherwise the inland locations are not significant at all, as is
logical. Also, the sentiment is that there will be no significant relocation of shipbuilding
inland.
When interviewing Finnish, Chinese and international companies it became obvious
that they were not optimistic towards China's ability to cut overcapacity in several
industry fields. Even highly polluting factories have been allowed to continue
operating, provided they are located in a fairly remote location and not next to tier-1
or tier-2 cities. The Asian tradition of not wanting to “lose face” and the need to close
down certain operations do not seem to go well together. This was also understood
during the Finnode project on Factory automation (2011-2012), which noted that
Finnish companies' integration with Chinese machine manufacturers failed to result in
greater efficiency and profitability: …mergers of local machine tool enterprise
turned out less successful than what had been expected. Most of the mergers
conducted in China lacked clear objectives and consisted mainly of scale
expansion and asset increases, without any clear synergies gained49
.
For the purpose of this study and future development of China's economy, the big
question will be whether growth in West China will produce
- Even more excess capacity in some industry sectors
- New excess capacity for which some capacity in the East Coast has to be
closed, or
- New value-added tasks or other, which can renew part of the Chinese
economy
For the time being, it appears that business development in West-China will be once
again be driven by investment in infrastructure, such as high-speed rail, airports
and roads in Sichuan, rather than the massive building up of further overcapacity.
48China Daily, Nov 7
th 2013
49 Long Nanyao (2011) Inter China Insight: Chinese Machine Tool Producers – A long and
Slow March Ahead. Inter China Consulting.
18
This was discussed with David Frey of KPMG50
. However, it must be stated for the
record that Chengdu, for example, has managed to attract a large share of the
automotive, pharmaceuticals and ICT–related industries, which can be considered
very healthy and a positive contribution to national growth.
A recent study of FDI in China in 2013 confirms the positive development of FDI as
such (growth 5.48% year on year for the first 11 months), but especially good
development in FDI in the service sector. This is an encouraging sign and shows that
there is room to transfer people from sectors suffering from overcapacity to jobs in
the service sector.51
.
The boom in investment in developing infrastructure in West China clearly presents
numerous business opportunities for Finnish companies involved in infrastructure
construction.
There have been, and continue to be, doubts about China's public debt and the
eventual “burst of the bubble” in the real estate market. David Frey, however,
commented that all the debt in practice is public and we are currently at 25% of GDP
in China, whereas in the US this figure is 75%. So, for the time being we must state
that there are risks of this type on the market, but any imminent default of the public
sector seems to be very remote if the comparison to the US is accurate. That said,
local government debt remains a concern and this has also been confirmed by The
Annual Central Economic Work Conference in Beijing52
.
Chinese public statistics present certain difficulties to understanding China's
economic future. Public statistics seem to have systemic governance problems,
thanks partly to the fact that China is the only country amongst G20 countries
to not accept all the common practices of keeping statistics. In addition,
individual companies also seek to circumvent regulatory restrictions and boost their
profits, even when being surveyed by world-class accountancy firms53
.
It is possible that problems of systematic governance may have been exacerbated by
the 2008 financial crisis, following which the government promoted growth through
various stimulus packages that may not have always worked out as it would have
wished.
Whatever the difficulties involved in surveying China's current and future economic
development, it must be stated that the country has achieved stunning growth over
the last three decades since 1978, and China's growth seems set to remain strong
until 201754
.
In early 2014 there has been frequent mention of the risks of doing business in
China, one of the most prominent of which has been saturation of the market in tier-1
and tier-2 cities in mainland China. The chart below shows economic growth
worldwide up to 2017 and provides a clear indication of regions with the most
dynamic growth. Based on this, China's growth seems set to continue; whilst
50Economic Intelligence Unit, Strategic Forecast September 2013
51Song Shengxia (2013) FDI sees moderate rise. Global Times. Dec 19
th 2013.
52China Daily (2014) Tuning up for 2014 reform. Jan 6
th 2014
53The Economist Intelligence Unit (2013) Flawed data, flawed decisions
54The Economist Corporate Network Asia (2013) Regional Strategic forecast
19
forecasts of growth in Latin America and Brazil appear to have been overly optimistic,
nonetheless they are still faster than the EU, Japan and the US.
There is little need, then, to be worried about the durability of China's growth and the
concerns raised by the Economist Intelligence Unit (EIU) in its report “Flawed data,
flawed decisions” (2013). It seems that the slowing economic growth is
accompanied by the stressed financial situation of (especially privately-owned)
companies, who already have steadily falling returns in investment e.g. on the basis
of excess capacity built in several industrial sectors. This has made companies in
China reluctant to invest in R&D and other long-term projects, and they have
instead been seeking quicker returns by diversifying into non-core businesses. The
consequence of this has been the creation of business empires whose constituent
parts are only very loosely or not at all related to each other. Companies' hesitance to
invest in R & D and other long-term projects may have something to do in the
Chinese method of building up national companies, and this will be discussed in
greater detail in the paragraph about segmentation and competition.
When looking at the big picture of China’s future direction in innovation and economic
growth, the book “Why Nations Fail” offers an interesting view on the topic55
:
“…Chinese economic growth today has several commonalities with
both the Soviet and South Korean experience. While the early stages of
Chinese growth were spearheaded by radical market reforms in the
agricultural sector, reforms in the industrial sectors have been more muted.
… As in the Soviet Union in its heyday, China is growing rapidly, but
55Daron Acemoglu, James A. Robinson (2012) Why Nations fail
20
this is still growth under extractive institutions, under the control of
state …”
The authors of “Why Nations Fail” claim that the Chinese government has to turn
towards so-called 'inclusive institutions' and a political system for guaranteeing
“constructive destruction” (terminus technical from Joseph Schumpeter, 1942),
and must create incentives for people to innovate and compete under certain wider
rights than they have today.
In China it is difficult to evaluate whether certain investments in fixed assets are
reasonable or not. For example, a municipality may be motivated to develop a new
metro line not to generate cash through selling tickets at commercial prices, but to
create access to new locations in the city. The land in these locations is often owned
by the very same municipality, and hence the objective is to earn money through its
increased value. In this way money is made from valuation of the land property
instead of cash earned from ticket sales.
In the past, some investment was carried out in municipal buildings and other similar
structures in remote locations, and such investment was not reasonable. The current
Party leadership is working hard to avoid such investments in the future.
To mitigate the risks associated with a slowdown in China's economy and the
resultant problems that this would cause for local companies, China has been
promoting the aggressive expansion of its companies abroad, partly through
enforcing the “Go Out” -Policy during the Party Congress of November 2012.
This could contribute to sustaining the utilization rates of factories higher than would
otherwise be the case had these companies restricted their operations to within
China's borders.
The slowdown in the global economy has led to reduced valuations of companies in
the developed world, thus making them attractive targets for acquisition by Chinese
companies looking to carry out mergers and acquisitions in Europe and elsewhere.
This is likely to contribute to higher Overseas Direct Investment (ODI) by Chinese
companies in the years to come.56
.
The recent interviews amongst stakeholders near to the Shanghai Government have
revealed that there is a genuine Chinese concern about the future quality of M&A and
their success. So, there clearly exists the intention of having more M&A in sight than
has been the case up till now.
Possibly this also represents an opportunity for the sale of Finnish companies in
instances where the owner is approaching retirement age and there is no family
member to take over – a widespread phenomenon amongst Finland's post-WWII
generation. In this way these companies would benefit from new, active
entrepreneurs who might be interested in serving North European markets from
Finland whilst also making inroads into the Northwest markets of Russia.
In 2012, mainland China’s Overseas Direct Investment (ODI) was USD 84.22
billion57
, the third highest worldwide after the US and Japan and ahead of United
Kingdom, Hong Kong and Germany. The ODI share probably reflects the location of
56South China Morning Post, Nov 23
rd 2013
57Antwerp Management School (2013) Euro-China Investment Report 2013-2014.
21
company headquarters, but also the sophistication of companies and their
international exposure.
For the purpose of comparison, we would like to confirm that in 2012 Hong Kong’s
FDI was US$75 billion58
and its ODI was US$83.9 billion59
. FDI in mainland China
was USD 243.1 billion.
At the provincial level, FDI was as follows: Guangdong 9.6%, Shanghai 6.2%, Hubei
2.3% and Sichuan 4.3%. The figures for Sichuan are likely a reflection of massive
investment in the automotive industry, ICT industry and pharmaceutical industry,
especially in Chengdu.
Direct Domestic Investment figures were not available for mainland China.
58http://www.info.gov.hk/gia/general/201306/27/P201306270290.htm
59http://www.info.gov.hk/gia/general/201306/27/P201306270290.htm
22
3. Competition
and
segmentation
–related
implications
3.1 Business and segmentation –related considerations in China
'We study the mid-market to enter into a new and growing segment' is a
statement commonly heard in discussions with Finnish companies listed on the stock
market. When talking with Finnish mid-size companies, however, this is unfortunately
rarely heard and even less frequently truly implemented. This mid-end performance
segment is, though, growing the fastest, and will also become also highly competitive
in terms of pricing60
. In many cases Finnish SMEs have no choice but to stay with
their usual high end solutions - but they should also design the so called “good
enough” products which are very often in the mid segment61
.
Challenges of segmentation often have a lot to do with local regulations, which may
not support energy-efficient buildings, low-carbon and emission burning technology
and so on. For example the current building code is from the Soviet era and hence
does not address the need for resource-efficiency or energy-efficiency. This obviously
might make the mid- and especially high-end solutions totally obsolete for the local
market, for the time being. Things could of course change, but not in the short-term. It
is also worth mentioning that the so-called 'China speed' sometimes causes strange
outcomes. For example, residential buildings built 20 years ago are considered “old”,
meaning that both developers and end customers somehow feel that the life span of
a residential high rise is only 30 years - after which it must be rebuilt!
Let us take a look at market segmentation challenges from the point of entering the
China market.
It is the opinion of Finpro and the companies we interviewed that there is a
strong argument for companies entering China to first focus on developing
sales before considering manufacturing operations. Only when they have
achieved a genuine presence and significant sales volume in the country should they
turn their attention to production and Supply Chain Management (SCM). Doing so,
however, represents a major challenge: companies will want to establish a sound
network of operations across the whole of China, but it would be impossible for any
company to have the resources to be 'everywhere' in a country that is essentially a
continent. Companies should not be under the illusion that it is possible to have
one office or partner in Shanghai and be truly present in the whole of mainland
China.
In the following chapter we will discuss the growing number of purely national
producers in China that often produce mid-market or low-market products with
extremely low prices. Some of them will eventually fail and go out of business, but
others will begin looking towards international markets, as argued in the materials on
EMNCs.
There are several methods of segmenting the B2B -end-user market, but one
good approach used by the companies focusing on sales development is to
divide Chinese cities into tiers (from 1-5) and then serve each of the tiers with its
60Roland Berger Strategy Consultants (2011) Production Systems 2020 – Global challenges
and winning strategies for the mechanical engineering industry. 61
Jullens J (2013) China’s Mid-Market: Where “Good Enough” Just Isn’t. Booz&co.
23
own set of technology and partners. China only has four tier-1 cities: Beijing,
Shanghai, Guangzhou and Chengdu. Tier-2 cities are the second most important
cities and are often municipalities or provincial capitals. Hence it is clear that
important cities can be found basically anywhere in China even though there is only
one tier-1 city in West China.
When debating in this chapter some aspects about how to organize business in
China from the point of view of competition and market segmentation, we presume
that any Finnish company – when entering China and when developing its business
here – is ready to adapt its business model and way of working to the local
conditions. A relevant statement on this is from Chesbrough (2010)62
:
“a mediocre technology pursued with a great business model may be
more valuable than a great technology exploited via a mediocre
business model”.
It is clear to everybody that China is not a country, but a continent and that
particular attention is required when addressing its business opportunities. This is
especially true for Finnish companies, which are often very small (including Finnish
companies listed on the stock market) when compared to the size of the Chinese
market, competitors, and potential partners. It could well be that we need several
business models when working in mainland China depending on our resources
and the sophistication of our market segmentation. All efforts in oversimplifying
the above situation will most probably result into an unprofessional approach to the
market.
As a matter of fact, out of four types of innovation (business model, process, market,
product or service)63
Finnish companies mostly seem to focus on product innovation.
In case of mainland China more creativity on other forms of innovation would be
definitely required.
This also implies that, due to the size of several Chinese competitors, Finnish
companies will not enjoy a level playing field in terms of resources and low-cost
manufacturing facilities, etc. At the same time, Chinese companies' model of
competing with their international equivalents is unprecedented. This will be
discussed in more detail in a separate chapter. In this context we should point out
that competitors in China are generally very numerous and they are fast to
learn from us. In some interviews with companies in Finland they stated that they
had 3-4 international competitors; in China this figure is at least 400 competitors or
more. Another example is the Chinese car market, which contains 375 brands64
. This
number is probably unsustainable in the long run and this field will see a large
amount of mergers. Despite these numerous competitors, Finnish companies should
follow the most relevant ones (at least those relevant in our segment) to understand
how the competition will evolve over time.
Several concepts are important to understand when working in China and Asia in
general. One of them is that there is increasing local competition, which may become
truly international very soon. There has been some international research on this and
62Chesbrough H (2010) Business Model Innovation: Opportunities and Barriers. Long Range
Planning. 63
Trias de Bes F & Kotler P (2011) Winning at innovation – The A-to-F Model. 64
The Wall Street Journal (2013) Chinese Car Buyers Will Wait for Deals. Nov 28th
2013.
24
we have enclosed one of the latest reports regarding so-called Emerging Markets
Multinational Companies (EMNC). In this context, end customer segmentation also
has to be addressed and Finnish companies have to become better at this.
Unfortunately, the Finnish market is so small that true market segmentation is not
possible, and hence we have not acquired substantial know-how in market
segmentation from our domestic market.
In this section about segmentation we use the type of segmentation mostly discussed
and used with Finpro China and its Finnish clients’ operative business development
work in the field. Each company, of course, might use its own vocabulary with regard
to segmentation, but what's important is that the segmentation is carried out and
implemented in daily work. The following example is based on concrete segmentation
cases of some Finnish companies. In the brackets we use typology often used by
Roland Berger Strategy Consultants (later: RBSC).
- Imported product (high according RBSC) / mid-market (mid and low-mid
according RBSC) / national level (low-low according RBSC)
- International leading level (high according RBSC ) / local leading level (mid
according RBSC) / mid-market (low-mid according RBSC) / national segment
(low-low according RBSC)
- And several other ways; important is that this directs our implementation
efforts of selling aggressively on the mainland China market place.
Later in this report we discuss segmentation based on Finpro's experiences, and we
can characterize the segments as follows:
High segment: end customer has his/her set of tender parameters, which not only
include price range (budget) for the product or service to be sourced, but also lots of
parameters and attention to resource efficiency, long product life, reasonable life time
cost and similar (Total Cost of Ownership, or “TCO”). Opportunities for service
business after having sold machinery or similar are relatively high and the business
model for service business might be relatively “Western”. For the purposes of this
exercise let us suppose that this segment has a price level of 100 RMB per unit and
that the size of this segment could be 1-5 % of the total size of the market. It is clear
that this segment is small, in addition to which it is very often already occupied by
multinational companies with strong brands. Hence, entering this market as an
unknown Finnish company with an expensive product will not be easy at all. NB: A
company with an expensive product is not automatically part of the high-
segment market. The end-customer decides the set of comparison parameters,
not the manufacturer!
Mid-segment: end customer has his/her set of tender parameters, which not only
include price range (budget) for the product or service to be sourced, but also some
parameters and particular attention to operating costs, relatively long product life, life
time cost and similar (Operating Expenditure, or “OPEX”). Opportunities for service
business after having sold machinery or similar exist and the business model for
service business might be relatively “Western”. For the purposes of this exercise let
us suppose that this segment has a price level of 70 RMB per unit and that the size
of this segment could be 10-15 % of the total size of the market. There could be
significant growth in this segment in the future, and all Finnish companies should
study it carefully and implement competitive products on this segment.
25
Low-mid segment: end customer has his/her set of tender parameters, which not
only include price range (budget) for the product or service to be sourced, but also
some parameters and attention especially towards operating cost and somewhat long
product life but rather little attention towards life time cost and similar (Capital
Expenditure, or “CAPEX”). Opportunities for service business after having sold
machinery or similar might be relatively small and the business model for service
business might be very different from the “Western” one. For the purposes of this
exercise let us suppose that this segment has a price level of 50 RMB per unit and
that the size of this segment could be 30-40 % of the total size of the market. Some
good Finnish companies have already designed and launched products into this
segment, which will open to them markets not only in mainland China but in all
emerging markets. Chinese national champions are about to begin exporting to
Europe and will create a lot of competition in 2014/2015. What will happen to our
market share in Europe if these companies offer their products 30-50% cheaper to
our customers than we do ourselves currently?
Low-low segment: end customer has his/her set of tender parameters, which very
much focus on price for the product or service to be sourced (Capital Expenditure, or
“CAPEX”). The end customer very probably believes that everything produced in the
Western countries is automatically “expensive”. Opportunities for service business
after having sold machinery or similar might be extremely small and the business
model for service business might be totally different from the “Western” one. The
after-sales market exists, but most probably in the format of using the machinery
without or very little service, breaking it up and then having one retrofit repair before
abandoning it or similar. For the purposes of this exercise let us suppose that this
segment has a price level of 30-40 RMB per unit and that the size of this segment
could be 40-50 % of the total size of the market. Chinese companies in this segment
will most probably be not capable of exporting their products, but they will certainly
get their share of business in mainland China in the coming 2-5 years when this
segment will exist and flourish.
In discussions of product life, one thing must be taken into consideration: In many
cases the Chinese end users may have much less sophisticated ways of using or
servicing products. Hence, a product that might normally be used for 10 years in
Finland may only last for 3-4 years in China. This is commonly seen in Russia, too
(construction machines, etc.).In this context the following chart illustrates the situation
and segmentation described above65
:
65Finpro, Professor Kristian Möller of Helsinki Business School, other
26
To elaborate, what the chart shows is that low-low and low-mid segments focus on
Capital Expenditure (CAPEX) - i.e. what it costs to buy the product - and are less
concerned with the products’ life-cycle cost and length. In the mid-segment,
customers are more interested in Operating Expenditure (OPEX) - i.e. what it costs to
operate the product, and how long it will remain in operation, etc. In the high-segment
the customer may be interested in the Total Cost of Ownership (TCO), green values,
and sustainability, etc. This segment is probably extremely small in China. At the
same time, the service business is bigger in TCO and OPEX –businesses, whereas
in the lower segments it may exist but is out of our reach. However, it was expressed
by some companies that despite the difficulties involved in offering industrial services
to Chinese customers, it was still worthwhile since copying products is easy, but
copying services is more difficult and not possible for local companies that do not
have their capabilities geared to the levels of Finnish MNCs and other similar
companies.
According to interviews and meetings with people working in the machinery sector, in
China the mid-segment and low-mid segment may increase in value and
volume during the coming years. The low-low segment will probably continue to be
an important presence from 2014-2020, but will suffer from a lack of blue-collar
workers later on, and will have to give away to more automated and higher segment
solutions from around 2020.
Basically, the companies interviewed can and must vary the intensity of their
commercial focus on the different tiers of cities in terms of their method of
sales funnel management (that is, how to qualify potential customers into further
phases of sales process in some understandable and efficient way) and type and
quality of partners used as distribution channel. Furthermore, there will be a
need to adapt products and technology to the various geographical segments (tiers of
cities in this example) and type of distribution channel used.
In fact, one of the interviewees has two product lines (one for mid-segment, one for
low-mid segment, each of them with its own marketing department, brand image and
level of technology) and is typically more aggressive in its offering of mid-segment
products to tier 1 and 2 –cities, low-mid segment products to tier 4-5 cities and then a
combination of both to tier 3 cities. Another interviewee in the Small and Medium-
Sized Enterprise (SME) category focused their efforts on the level of provinces of
major interest, working with their own personnel on system integrators and important
end customers. In other – for them “secondary” provinces - they build either agents or
27
distributors, and some of the provinces are only dealt with through OEMs during the
times when they happen to have business there. The combinations are of course
infinite and must be the result of good strategy and consideration of the resources
available.
As stated previously, few Finnish SMEs seem to be evaluating the possibility of
launching two separate product lines of differing technology content and quality. This
is understandable, but where companies are only able to support one product line it
should be aimed at a growing market segment and positioned in a way that allows it
to be defended from the competition. This project's steering group also proposed the
idea that Finnish SMEs could and should more easily experiment with segmentation
and various production lines and or productive units in regions such as Southern
Europe or Central Eastern Europe, when recent years have seen increasing
investment from Chinese SMEs.
The following is an excellent example of a company adapting its product to local
market conditions. GE Medical Appliances is specially mentioned in the context of
EMNCs and TMNCs (traditional multinational companies) responding to their
competition66
. In fact, during research for this project the GE Customer Innovation
Center in Chengdu was visited and it was very clear to us how effective their
approach to adaptation is: the product, usage of it, training for it and other aspects
are all very strongly tied to the end user and the benefits they can gain from using
GE's specially engineered products. Products developed in Chengdu specifically for
the conditions in West China are sold in China, other emerging markets, but also
partially in developed countries. In this way, GE's work in developing West China can
serve new segments poorly served in developed countries, too. This permits GE to
be present in the customer's life during the whole life cycle of their medical
product, opening possibilities to serve the end customers with other products
and further services (education, etc.).
Lately Finnish infrastructure related industry seems to have lot of work
especially in Sichuan, which has traditionally been a rather poor and backward
province. Basically, according to theory we should be offering more low-low or low-
mid segment products (Base-of-Pyramid, or BOP products) when operating in the
relatively poor West China.
On the other hand, Finnish companies with factories in East China but whose market
are in West China should theoretically focus on higher segments to compensate for
the cost of transport to West China.
So, to summarize, Finnish companies that wish to maximize their profits should
theoretically locate themselves in West China and sell BOP products to West China
and high-segment products to the East Coast. Obviously, tier 1-2 cities also exist in
West China and there would be some space for higher-positioned goods locally, too.
However, where Finnish factories are already located in East China they will probably
have very little economic opportunity to move them to the West China unless for
some specific reasons that we can truly calculate at the level of P&L. The impression
we gained from interviews was that, whilst they may be planning to strengthen their
66Chattopadhay A, Batra R, Ozsomer A (2012) The New Emerging Market Multinationals –
Four Strategies for Disrupting Markets and Building Brands. The McGraw-Hill Companies.
28
distribution operations in West China and possibly source local components, etc.
from there, in general they were not seriously considering relocating the whole of
their operations to this region. In other words, though some part of the supplier base
may be transferred to West China, the factories themselves and possibly system
integrators used by companies will remain where they are, which is probably in the
East Coast or South China. Lately there has been a spectacular decision of
relocating Baosteel from Shanghai leaving only R&D unit of 1000 people in
Shanghai. However, we believe that this is no major short- or medium-term trend for
industry in general.
Should we consider serving West China from Shanghai and the surrounding area, we
would probably have to reconsider our current logic of production. Several locations
in West China may be difficult to serve with the usual “manufacture to order”
philosophy, and would require us to produce goods for stock and have them available
in various types of distribution centers or similar venues in West China.
China is also a continent with a variety of regional markets, as confirmed by
McKinsey. This may require the use of local sourcing partners, business model(s)
and other parameters to become locally successful.
A big question for newcomers to China is: where should I locate my productive
operations? The only valid answer to this is to just make your business plan and
draft a P&L, and then you will know where to be. Most probably it will also be useful
to build up some possible scenarios in order to evaluate the raw materials,
markets, competencies and capabilities present in certain locations.
At the end of the day, each Finnish company must select the location of its main
factory and eventual logistics centers based on its own circumstances: location of
component and system suppliers, location of end customer segments to be served,
logistic cost serving said customers and possible other topics, if any.
Based on our interviews, China's river systems would appear to offer almost no
potential for machinery products, but play an important role for bulk products
(chemical products, construction material industry raw materials, coal to some extent,
etc.).
Railways appear to be used occasionally, but most machinery-related products travel
on trucks. The large number of corruption scandals involving China’s railways during
winter 2012-2013 has limited the possibility of innovation and development of the
country's railway network. Possibly this problem will improve once it becomes clear
that administrative changes in this industry have been effective, which could then
result in more substantial development of the railway network in relation to goods
traveling between the East Coast and West China.
As previously stated, the consensus appears to be that, in the machinery sector, the
mid segment is growing the fastest. At the same time, we know that Chinese and
international companies are striving to produce suitable products and services for this
segment. Another trend in B2C business also seems to be occurring, especially with
regard to luxury goods. It appears that only a limited number of high-end segment
brands have been able to break even, and many mid segment brands are losing
money or exiting the Chinese market; the low-low segment, meanwhile, is very large
and important. In fact, the owner of one luxury brand that we interviewed said that
they only expected to start making money in China after investing in the market and
29
educating Chinese consumers up to 2020. In this context, it is instructive to analyze
the way Chinese consumers adopt new products and technologies. The following
example comes mainly from the B2C sector.
Diffusion of a new luxury product in an Asian context
67
Chinese consumers seem slower to adopt new concepts and brands in the B2C
market. However, this may not be the case in B2B markets, especially for those
companies which are capable of convincing customers of their ability to improve
customer P&L.
However, this slow capability in adopting new technology might be compensated for
by the new e-commerce industry in China, which offers great convenience and
extremely low prices (Alibaba being owner of Taobao, other e-commerce players).
3.2 Emerging Market MNCs
An interesting question is where Finnish companies will face the most competition
from in the future. Will it be in China's East Coast, or will it be in West China, or
elsewhere? Who are our competitors – will they be our Finnish or international
counterparts, or will there be increasingly tough Chinese and Indian competition for
the very same markets in mainland China? Or, will these competitors from emerging
markets soon be found in Europe?
Chinese SOEs have traditionally devoted most of their attention to the national
market. In addition, they have normally been very active in Southeast Asia and Africa,
where China has been a very important source of financing for infrastructure projects
and projects producing raw-materials to be imported to China. In fact, China's
importance as a financier has outweighed that of the World Bank Group in
some African countries, and China has also financed much of the infrastructure for
offshore oil and gas in countries such as Venezuela. In these cases, when financing
these countries China is actually paying up to 60% of the financing funds directly to
the Chinese technology suppliers, which are very often large SOEs or big private
67Chevalier R, Lu P (2010) Luxury China - Market opportunities and potential. John Wiley &
Sons (Asia) Pte. Ltd. Singapore.
30
companies. Oil is frequently used as a bartering tool and it makes the overall Chinese
offering very interesting to the countries, which otherwise might not have the
opportunity to develop usage of their national resources.
Chinese SOEs can be found all over China (including West China). Often they were
moved to places such as Sichuan right after the Second World War and following
China's disputes with the Soviet Union, thanks to Mao Zedong's fears that both the
Soviets and the USA might attack these nationally important companies. In various
fields there might be several of these national champions, with each of them
competing against each other but servicing mostly their own region (e.g. SOEs in
Sichuan for West China, in Dalian for North-East China and Shanghai for Central and
South China).
Private Chinese companies seems to prefer staying in regions in which they are
familiar with making new productive operations, possibly not too far away from their
home regions. One further thing has also become clear during this study:
private Chinese SMEs have not been aggressive in exporting their products,
but will now start to do so following encouragement from the central
government's 2012 Go Out policy.
An interesting study was recently carried out of EMNCs68
. It was based on the notion
that in 2005 there were 44 EMNCs amongst the world's top 500 firms; in 2010
this figure had risen to 113. The enclosed chart describes them well and how they
can be classified:
Some companies headquartered in West China will eventually become EMNCs in the
future. The current growth in West China seems, however, to have come from
infrastructure investment (construction), whilst the outlook of private SMEs remains
very local. This may mean that in the near future we will see some Sichuan-based
SOEs becoming EMNCs (and being possibly privatized), rather than seeing the local
private sector go international.
68Chattopadhay A, Batra R, Ozsomer A (2012) The New Emerging Market Multinationals –
Four Strategies for Disrupting Markets and Building Brands. The McGraw-Hill Companies.
31
Before they eventually becomes EMNCs, there is currently an ever-growing group
of Chinese companies that are not (for the time being) growing internationally,
but which nonetheless offer huge competition for us in mainland China. As above and
in a separate project we have roughly classified them as a) high-end product, b) mid-
end product and c) national low-end product companies. High-end products are
mainly introduced to the market by international (also Finnish) companies that have
established a commercial – and as is increasingly the case, industrial – presence in
China. Mid-end products are very often introduced by Chinese competitors copying
some Western products (or rather one product of the whole range) and introducing it
to the national market priced at 30-50% of the Western equivalent. The problem is
that these copies are sometimes even better, technically-speaking, than the
Western ones69
! National products are those made with a simple design, solutions
and drawings currently nationally used by many companies, low quality short product
life and extremely low pricing.
We would expect that the companies currently producing low-low segment products
in mainland China have little chance of being able to export them, and it is highly
dubious that the companies of the low-mid segment will also be able to export
elsewhere, apart from to some poorly-developed African countries and possibly to the
least-developed Latin American countries. Instead, local manufacturers entering the
lower end of the mid-end market can strive to become a Knowledge Leverager or
Niche Customizer 70
in some emerging markets, or alternatively to make the jump
into developed markets with Cost Leader or Global Brand builder strategies.
Whatever the market position of the new Chinese EMNCs might be, they will have to
face the difficulties of the slowing mainland China economy in a very particular way.
This could present them with some huge commercial and productive challenges, of
which there has lately been a lot of evidence71
.
EMNCs, however, have proven to be very resourceful in finding solutions to their
'growing pains', and have been able to effectively move from one category to another.
Below is one concrete real world case of an Indian company that evolved into a truly
international player72
:
69Interview with Jyrki Poikkimäki, VTT Shanghai, Nov 18
th 2013
70Chattopadhay A, Batra R, Ozsomer A (2012) The New Emerging Market Multinationals –
Four Strategies for Disrupting Markets and Building Brands. The McGraw-Hill Companies. 71
Jullens J (2013) Harvard Business Review: How Emerging Giants Can Take on the World. 72
Chattopadhay A, Batra R, Ozsomer A (2012) The New Emerging Market Multinationals – Four Strategies for Disrupting Markets and Building Brands. The McGraw-Hill Companies.
32
Chinese SOEs have a plentiful supply of financial resources for the above-mentioned
evolution, but Chinese SMEs very often have to rely on the gray financing market73
or
on an Initial Public Offering (IPO). It would be interesting to better understand how
Chinese private equity companies evaluate the originality of a business idea and
business plan, but this is beyond the scope of this study. Considering Chinese
companies' current approach of imitating Western technology, they sometimes seem
to operate with concepts and a work approach generally not acceptable or used by
Western companies.
However, those imitating Western products seem to have one big moment of truth in
their growth, since they cannot carry out an IPO if they have IPR-related disputes or
similar. Companies from mainland China today list themselves either in Shanghai,
Shenzhen or in Hong Kong. Several have also been listed even on the New York
Stock Exchange.
IPOs and the infringement of Intellectual Property Rights (IPR) do not go well
together. This delicate moment of transition also might offer good opportunities for
Finnish companies to defend their IPR and get paid for know-how, which has been
“transferred” in a not-so-traditional way. There are around 800 companies waiting for
the authorities’ permission to launch their IPO. This backlog of IPOs is due to
concerns by the authorities that this number of public listings would make shares in
companies that are already listed soar. However, the ban was removed this year and
the first 50 companies are set to go public in the first half of 2014. There is going to
be lot of regulation from the China Securities Regulatory Commission (CSRC)74
.
One must bear in mind that Chinese companies not launching an IPO still may still
find surprising resources for building new companies. This has long been the case
not only in China but historically also in regions such as Southeast Asia, where
Chinese shopkeepers have been able to develop their commercial operations thanks
to 'clan financing' of initial capital as well as their deep understanding of the cash
economy75
.
73Joe Zhang (2013) Inside China’s Shadow banking: The next subprime crisis. Enrich
Professional Publishing. Honolulu. 74
Reuters.com (2014) China says to strengthen supervision of IPOs. Jan 13th
2014. 75
Osborne M (2013) South East Asia – An Introductory History. 11th
Edition. Allen & Unwin.
33
4. More detailed
look at
Shanghai,
Wuhan,
Sichuan and
Guangdong
4.1 Regions in general
Historically, China's modern growth started from South China, where opening of
the market has been going on since 1978. From South China the growth has
expanded towards the East Coast (Shanghai, other) and obviously to the capital
Beijing. One important milestone of this opening was China's entry into the WTO in
December 200176
.
China has achieved phenomenal growth since 1978 and there have been huge
changes in the availability of labor resources inland (with workers migrating to better
jobs in South China and East Coast), as well as in the cost of labor in East Coast
and South China, which has been increasing rapidly. However, China's One Child
Policy seems set to bring an end to this supply of cheap labor, possibly by as early as
2020. At the same time the Chinese RMB has and will strongly appreciate.
Hence, the problem of the “middle-income trap” is further accentuated by these
issues.
However, when evaluating the development of China, it is important to bear in mind
that China will be a superpower, but also a country (or rather a continent) with
some underdeveloped Western regions, a situation that will persist until 2050
or so77, 78
.
The Third Plenum seemed to confirm that the Go West Policy remains one of the
key components of governmental policy, even though there was nothing explicit or
new in the working documents of the Plenum for November 201379
. The Go West
Policy is generally known throughout the whole of China but it is lived in a very
different way in various parts of the country. When conducting interviews in
Guangdong province it became relatively evident that Guangdong province (following
the crisis of 2008) is focusing on re-launching its economy and the development of an
economy with the neighboring western provinces, rather than looking to central or
west China in a way that might be the case for companies in areas such as Jiangsu
province and Shanghai.
Economic growth in West China, as in the whole national economy, is a combination
of growth caused by increases in input volume and growth caused by increases in
productivity. We can hypothesize that there is more capacity for growth in West China
based on increases in productivity (a relative increase of workers from agriculture to
industry), whereas there will be much less room for growth in input volume, since
there are several fields of industry in China suffering from heavy overcapacity
(shipbuilding, steel production, etc.).
The commercial and productive operations of Finnish businesses, on the other hand,
are predominantly located in Shanghai and Jiangsu. A certain number of companies
76Korhonen I (2013) Kiina vapauttaa rahoitusmarkkinoitaan – Mitkä ovat riskit?
Kansantaloudellinen aikakauskirja. Suomen Pankki. Siirtymätalouksien tutkimuslaitos. 77
Jacques M (2009) When China rules the world. Penguin books. 78
International Monetary Fund (2013) People’s Republic of China. 2013 Article IV Consultation. Washington, D.C. 79
Keith Jarrett, Chairman of AmCham at FBCS meeting, Shanghai, Dec 6th
2013.
34
are also based in Beijing and South China. Companies involved in infrastructure
construction frequently claim that a lot of their contracts now come from West China.
However, research into the current situation of Finnish and Swedish businesses
revealed that most of their end customers came from very traditional regions
(Shanghai, Beijing, Guangdong and Jiangsu)80, 81
.
When addressing business growth expectations, Chinese and multinational
companies follow different Key Performance Indicators (KPIs) in their business in
order to forecast the market and its evolution on the level of national economy,
provinces and important cities. One of the typical indicators is the Purchasing
Manager Index (PMI) by the China Federation of Logistics & Purchasing (CFLP) and
it could be also relevant to understanding West China’s speed and direction of
growth. However, there is no provincial data available for the time being and hence
we cannot refer to the KPI.
Part of the future potential of productivity growth is the availability of talent. Below is some information about the top universities in China and their locations.
Chinese top universities
82
Innovation is supposed to be one of the main drivers of economic growth. 2012
patent statistics from China's State Intellectual Property Office (SIPO) for Sichuan,
Hubei (Wuhan), Shanghai and Guangdong are as follows (share of patents from all
national patents granted):
Guangdong: 11.28%; Hubei (incl. Wuhan): 2.21%; Shanghai: 6.62%; Sichuan:
2.27 %
Guangdong constitutes approximately 11% of China's national GDP; Hubei 4.3%;
Shanghai 3.9% and Sichuan 4.6%. So, the number of patents granted compared to
the region's share of GDP appears to be especially strong with regard to Shanghai.
As a matter of fact, companies like GE conduct basic R&D in Shanghai and already
innovate in several businesses in mainland China. At GE Healthcare, the applied
R&D is done in Chengdu, innovating with end customers to find new ways to work in
80Embassy of Sweden, Swedish Chamber of Commerce, Business Sweden (2013) Swedish
Business in China – Trends and Challenges. 81
Finnish Business Council Shanghai (2013) FBCS China Business Climate Survey. 82
China Education Center Ltd. (2013)
35
remote regions of West China. The same experience and solutions could easily be
applied to regions such as India, Africa and Latin America. More Finnish companies
should adopt this way of working - which sometimes requires a more aggressive
attitude to adapting our products to real end customer needs - if they plan to expand
and become a bigger player in their own industry.
4.2 Shanghai as a window to world trade
Shanghai is a provincial-level city and currently has some 23 million inhabitants.
This figure is expected to grow to 30 million by 203083
. Shanghai’s gross domestic
product grew 7.7 percent year on year to exceed 2 trillion RMB (321.2 billion USD) in
201284
. To put this in context, Finland's GDP was 248 billion USD in 201285
.
Shanghai has also profited from the Communist Party's decision in 1991 to relaunch
of China's development in Pudong following the Tiananmen Square incident in 1989.
Shanghai was declared the world’s busiest container port in 2013, an achievement
that accorded with the city's goal of becoming a leading shipping center86
. Shanghai
is not encouraging much manufacturing industry to build more capacity in its territory,
and hence companies from Shanghai often build new manufacturing operations in
the surrounding provinces, typically in Jiangsu province. Finpro interviewed several
Finnish companies in Shanghai and Jiangsu, and visited some of the Chinese and
international companies operating or building new manufacturing operations in
Taicang, which lies close to Shanghai. The impression we gained from these
interviews was that Shanghainese and international companies already established
in Shanghai or Jiangsu do not have any serious intention relocating their
manufacturing operations towards west China; rather, they see the value of
continuing to manufacture in their current locations, in an environment that is familiar
to them and in locations where they have already built up talent and technical
capability.
Shanghai was ranked world number 1 in the latest PISA study. This reflects the
level of education, appreciation of hard work and possibly some “local measures” to
achieve good results in the said competition.
In a relative recent study Shanghai was ranked as one of the top cities for regional
headquarters in the Asian Pacific Region (APAC). Two other highly-ranked cities were
Singapore and Hong Kong.87
Shanghai scored highest overall, but the more
traditional Singapore and Hong Kong also scored highly in certain fields. Beijing is a
good number 4. In this comparison also Guangzhou and Shenzhen are mentioned
and hence Guangdong is also very well in the picture.
83EIU breakfast Seminar, October 2013
84English.news.cn (2013) Shanghai GDP tops 2 trln yuan in 2012. Jan 22
nd 2013.
85http://www.quandl.com/economics/finland-all-economic-indicators
86Richard Fu (2014) Shanghai still container port leader. Xinhua, English.news.cn. Jan 5
th
2014. 87
European Chamber (2011) European Business in China: Asia-Pacific Headquarters Study. In partnership with Roland Berger Strategy Consultants.
36
One study88
has looked at the future prospects of major cities around the world.
Those that ranked in the top ten are as follows: Beijing (26), Paris (25), London
(24), New York (24), Shanghai (17), Singapore (12), Hong Kong (10), Toronto
(21), Moscow (20) and Tokyo (27). The numbers in brackets are related to the
number of Global 500 headquarters based in the city.
We should also point out that some multinational companies have been moving their
Asian headquarters out of China. Though the numbers are small, this is probably a
growing trend and is based on the following problems: lack of international talent, air
pollution and problems related to the Rule of Law (internet related security and
usability problems, etc.). This doesn't mean that there is no-one in China capable of
running an international business, but they are very few and cost more than
expatriates in general.
Some Finnish companies we interviewed had been able to find good Chinese talent
to work on the Chinese market itself, but talented employees suitable for managing
the APAC region or global business have to have had experience working abroad in
order to possess a suitable background for the position, and to be accepted by Asian
and other international distribution channels and end customers.
Finnish companies should also more actively consider of finding board members
resident in Asia (Finns and non-Finns), who could add understanding of emerging
markets on the board level.
There is a good supply of university students in Shanghai and the following local
universities are among the top 30 in China: Fudan University, Shanghai Jiao Tong
University, Tongji University and East China Normal University. In this context we
would like to mention the Aalto Tongji Design Factory as an important link between
Finland and Shanghai (http://designfactory.aalto.fi/network/we-partner-with/).
The China (Shanghai) Pilot Free Trade Zone (SHG FTZ) was one of the most
surprising announcements of 2013, and experts remain mystified as to the exact
nature of this initiative89, 90
. There have been hypotheses about freer movement of
capital, trials in the convertibility of the RMB and so on, but the how to do this in
practice is not yet really known. In any case the “negative list” used in FTZ seems to
be an intelligent solution: everything which is not forbidden is principally allowed!
As a matter of fact, there has already been work on the convertibility of the RMB91
and some 19 countries have signed the RMB-denominated Bilateral Swap
Agreement (Japan, South-Korea, Thailand, Malaysia etc.) with China. However,
progress in this area seems to have been slower than expected, since the agreement
was implemented prior to the full opening of capital accounts. In addition, the opening
up has been more government-led than market-led. However, particularly in Hong
Kong this has resulted in the rapid development of the offshore RMB market, and at
88PwC (2012) Cities of Opportunity. Partnership for New York City.
89Martin R, Hordern A, Panagiotou K (2013) IMA ASIA. Asia Pacific Executive Brief.
90Jullens J (2013) Will China's New Leaders Step Up to the Plate? Booz&co.
91Garcia-Herrero A, Xia L (2013) China’s RMB bilateral swap agreements: What explains the
choice of countries? Bank of Finland, BOFIT. Institute for Economies in Transition. Helsinki.
37
the end of February 2013 offshore RMB deposits stood at 7.7% of the total
deposits92
.
The People’s Bank of China (PBOC) recently confirmed that financial liberalization
would be launched within three months' time93,94
. This does, however, seem like a
very optimistic timescale and we will soon see if it is really feasible. However, there
was a surprising announcement in January 2014 about China opening a further 10-
12 free trade zones in mainland China. Possibly this means that the authorities have
increased confidence about more liberal economic politics in near future.
In 2011, Shanghai represented 3.87% of Chinese GDP and 12% of the import /
export commodity value of China through its ports in Yangshan Harbor, Waigaoqiao
Harbor, Zhanghuabang Harbor, and Baoshan Harbor.95
Shanghai is also very
convenient from the point of view of air freight and air traffic in general, having two
international airports: Shanghai Pudong and Shanghai Hongqiao.
Shanghai and the Greater Shanghai area (including Suzhou of the province of
Jiangsu) is home to more than 200 Finnish industrial and commercial operations.
In Shanghai some 20 Finnish companies have been established that are related to
shipbuilding. In order to understand possible new opportunities related to the Yangtze
River, we interviewed some Finnish and Chinese shipbuilding-related companies
about eventual new types of river ships. They felt that there is currently no need for
any new types of ship, particularly since the Yangtze River is relatively deep and can
be navigated by comparatively large vessels. It was noted, however, that LNG usage
for ships' motors was a new area that the authorities had been looking at in order to
reduce pollution. However, we also discovered that pilot schemes to convert ships to
LNG had all been carried out using public money; without such an incentive, shipping
companies had no intention of implementing conversions using money from their own
pockets. In West China there seems to be no significant shipbuilding industry
whatsoever beyond Wuhan city along the Yangtze River.
In terms of arctic know-how, the Chinese Polar Research Institute is located in
Shanghai and seems to have very good co-operation with Aker Arctic and to be
building up arctic–related contacts with universities and similar institutions. Team
Finland Shanghai enjoys a good relationship with the institute and cooperation seems
to be developing positively. The University of Lapland also appears to have been
especially active in Shanghai in recent years.
Mineral resources in the arctic region have recently become the focus of Chinese
attention. Finpro feels that the sending of one ship through the North East Passage
by shipping companies was merely a publicity stunt designed to attract the attention
of local and international news.
92Garcia-Herrero A, Xia L (2013) China’s RMB bilateral swap agreements: What explains the
choice of countries? Bank of Finland, BOFIT. Institute for Economies in Transition. Helsinki. 93
South China Morning Post (2013) Shanghai free-trade zone reforms to be launched within three months, PBOC says. Dec 4
th 2013.
94Reuters (2013) China’s free trade zone plans herald quicker FX reforms. Dec 5
th 2013.
95IMF (2013) World Economic Outlook Database List, Shanghai Statistics.
38
4.3 Wuhan (Hubei province) as node of logistics
Wuhan is a capital city of about 10 million people in the province of Hubei. The fiscal
incentives for China’s western region are not valid regarding the province of Hubei
and hence for Wuhan.96
However, Wuhan is an important logistics node, since it lies
at the crossroads of the Yangtze River and high speed rail between Beijing and
Shenzhen (in 2-3 years there will also be high speed rail from Shenzhen to Hong
Kong). This has allowed Wuhan to have a strong industrial base, but it has recently
also started to develop itself into a center for IT software and the outsourcing of
services. From Wuhan to Beijing or Shenzhen takes only four hours on the high
speed rail, and Chengdu or Shanghai are less than two hours away by airplane. This
is why Wuhan seems to have good opportunities to develop the so-called 'Optics
Valley' aimed at attracting sectors such as mobile internet, cloud computing, industrial
design, electronic commerce and financial services outsourcing. There will also be an
international R&D area for Fortune 500 companies. Two of China’s ten top
universities are in Wuhan (Wuhan University, Huazhong University of Science &
Technology) and hence there should be sufficient supply of talent97
.
However, despite Wuhan being a logistical railway and river node, this does not seem
to have supported the growth of rail cargo, and the volume of rail cargo has in fact
diminished over the last five years98
. This is rather surprising but confirms the
message received from several companies: goods are very often transported by
road.
It is also interesting to reflect what effect Wuhan's position as a major logistics node
has had on its development compared to, for example, Chongqing – is Chongqing
somehow missing growth opportunities compared to Wuhan? When comparing
Chengdu, Chongqing and Wuhan in terms of their GDP in 2012 and 2013, all three
cities are in the range of 11-13% and hence can all claim to have achieved good
results in developing the local economy. In addition, there has been an impressive
influx of FDI: in 2012 Chengdu received 8.6 billion USD, Chongqing about 15.2 billion
and Hubei province 5.6 billion, out of which Wuhan probably got the major share. So,
its location at the intersection of the Yangtze River and high-speed rail does not seem
to have contributed to the development of Wuhan in any particular way, at least not
for the time being.
This project chose to focus the bulk of its research on a comparison of Sichuan and
Shanghai with Guangdong and Hong Kong as a way of improving understanding of
Chinese growth dynamics. As a result, no further insight is offered into Wuhan at this
stage.
96PricewaterhouseCoopers Consultants (Shenzhen) Ltd. (2011) News Flash – China Tax and
Business Advisory. August 2011. Issue 18. 97
China Daily (2013) Dalian developer brings its success to Wuhan. Nov 14th
2013. 98
Tony interview
39
4.4 Sichuan as powerhouse of future ICT cluster and automotive industry
Sichuan is a province in West China with a population somewhat higher than that of
Germany. It was identified by several Finnish interviewees as the hottest region for
infrastructure-related business (investment goods). One of the reasons for this is, of
course, the previously-mentioned Go West-policy and related fiscal stimulus
(corporate tax rate 15%, etc.). Several fiscal incentives for China's western region
were established on July 27th
201199
, which provide favorable terms for corporate
income tax and customs duty until December 31st
2020.
Chengdu is the capital of Sichuan and has 15 million inhabitants (including those
living in rural areas). The city is very dynamic and its GDP has been growing by over
10% each year. It has also managed to attract significant FDI.
Despite the important position of Chengdu and Chongqing, Finland has no official
permanent presence in this area. However there is an EU-funded soft-landing
platform called EUPIC (http://www.eupic.org.cn), with which Finpro co-operated in
making this report.
Sichuan has previously suffered from a weak economy and has not received much
FDI locally. Hence, Sichuan is in fact the largest contributor of migrant workers to
Shanghai, together with Chongqing100
.
China's government has recently been working on the convertibility of the RMB, and
has designed a number of pilot regions in which the direct trading of the RMB and the
currencies of some small neighbor countries is allowed101
. Yunnan and Laos are one
example of this, as are Xinjiang and Kazakhstan. However, Sichuan does not seem
to have this kind of pilot, in addition to which the local authorities do not seem to be
promoting any similar schemes.
Chengdu in Sichuan province has managed to attract lots of ICT–related industry
(Intel, Dell, HP, Foxconn, etc.) in addition to the automotive industry in particular.
Sichuan (and Chongqing, which used to be part of Sichuan) also has some heavy
industry that was transferred to places such as Deyang during the 1960s. Some of
this is related to the defense industry, and Sichuan produces, for example,
components for Chinese fighter jets. Furthermore, energy technology companies also
have a presence here, some of which are directly controlled by the SASAC (State-
owned Assets Supervision and Administration Commission).
Chengdu might not be a very self-evident long-term solution for various companies
location, since e.g. Foxconn is said to consider Indonesia as a possible new location
for assembly operations (so called China + 1 –strategy).
Chengdu is the furthest inland megalopolis identified by the Economist
Intelligence Unit. Chengdu's rapid growth means that there are now over 8.4 million
urban inhabitants and a total of 15 million inhabitants if rural areas are included. A
99PricewaterhouseCoopers Consultants (Shenzhen) Ltd. (2011) News Flash – China Tax and
Business Advisory. August 2011. Issue 18. 100
Dr. Xizhe Peng. Jan 15th
2014. EIU Breakfast seminar. Shanghai. 101
Garcia-Herrero A, Xia L (2013) China’s RMB bilateral swap agreements: What explains the choice of countries? Bank of Finland, BOFIT. Institute for Economies in Transition. Helsinki.
40
nearby megalopolis is Chongqing, which has 32 million inhabitants (including rural
regions) and is now its own province (it used to be part of Sichuan). In this context we
would like to remind the reader of Finnair and its direct flight connection between
Chongqing and Helsinki.
The GE Customer Innovation Center was visited during this project and we discuss
this in a separate paragraph. Finpro also visited local private SMEs, state-owned
companies and state-owned companies that are listed on the stock market for further
insight.
It is clear that Sichuan SMEs are at the beginning of their expansion into international
markets. Some SOEs, however, are already working globally, although this work has
been focused on Southeast Asia and BRICS countries. Technology partners and
engineering R&D centers used by these companies seem to be either in Shanghai,
Jiangsu or Beijing. They do not seem to count Hong Kong or Guangdong as
technology partners, and Hong Kong’s position as a financial center and location for
building international distribution networks was also relatively weak. Hence they
instead seem to look for partners from Shanghai, with Shanghai possibly also being
the most important downstream city of Yangtze river and sea port for shipping goods
internationally.
After companies indicated that Sichuan was an interesting sourcing location for
foundry products, Finpro did some further research. The China Foundry Association
confirmed that the total amount of foundry production in 2012 was about 42.50 million
tons. Shandong province has the largest production, at approximately 4.88 million
tons. In the Yangtze River delta, Jiangsu produces 3.25 million tons and Shanghai
0.16 million tons. Sichuan produces just 1.07 million tons, Hubei 0.98 tons and
Guangdong 0.80 million tons. As a result, Sichuan does not appear to be a large
player in this industry. However, it should be stated that some of Sichuan's foundries
supply components to the aviation and nuclear industries, and thus must have
attained a certain level of sophistication.
One university from Chengdu – Sichuan University – features in the rankings for
China's top universities. Other top universities confirmed by the Sichuan Provincial
Department of Commerce are: the University of Electronic Science and Technology of
China (http://www.uestc.edu.cn), Sichuan Agricultural University, Southwestern
University of Finance and Economics and Southwest Jiaotong University. Despite
having a large number of educational institutions and some of China's leading
universities, Sichuan seems to suffer from the problem of understaffing in these
institutions102
. Improving vocational training also seems to be a big challenge.
Two additional aspects also come up every now and then when talking about West
China. One concerns the use of West China as a dumping ground for industrial
waste. Not surprisingly, there has been no official dialogue or statistics on this, but we
would expect that it does go on in remote parts of West China. In addition, West
China's water-based energy resources are frequently mentioned as a selling point for
companies establishing their production operations in the region. It is true that there
have been power shortages in East China especially during hot summer months, but
the recent sentiment is that these problems have been overcome in areas such as
Jiangsu.
102The Economist Intelligence Unit (2012) Supersized cities – China’s 13 megalopolises.
41
Sichuan was also the location of the China's last major earthquake, which hit
Wenchuan in 2008. It measured 8.0 on the Richter scale and killed 87,000 people103
.
4.5 Guangdong as a platform for adapting products for mainland China
Guangdong was the first region to open up to business from the outside world
in 1978. It has also been the target for a massive migration from Inner China and has
received a large influx of migrant labor that works in electronics, toys and clothes.
The region has also seen increases in the cost of labor that have made it unprofitable
to produce low value added goods. Part of this business has been transferred to
Inner China, but more still has gone to Bangladesh and Vietnam. Companies are also
considering other locations in Asia, see below104
:
However, it seems that Guangdong can still benefit from its current supply chains and
supply of components to Southeast Asia, since Vietnam and other surrounding
smaller and less developed countries clearly lack this capability. These supply chains
do seem to be being used by international companies moving their assembly lines for
electronic products to Vietnam, but there does not seem to have been lively
cooperation between Vietnamese-owned businesses and supply chains in
Guangdong. This could have something to do with the challenges Guangdong faces
in restructuring its SOEs, which appear to be in extremely bad shape. The troubled
relationship between Vietnam (which used to be a tributary state of China) and China
also needs to be taken into account. This relationship continued even after Vietnam
achieved independence in 939105
.
Guangdong province has two locations that are highly attractive to international
companies looking to establish regional headquarters: Guangzhou and Shenzhen106
.
These two cities also appear to possess self-sufficient R&D capabilities. During
interviews with Guangzhou-based companies and stakeholders, they seemed to view
Hong Kong as a location for making financing deals and finding international sales
channels. Hong Kong was not, however, seen as a technology platform - despite of
103Finnode (2011) Disaster management and monitoring services and technologies –report.
Finnode project. 104
Economist Corporate Network ABOS, 2014 105
Osborne M (2013) South East Asia – An Introductory History. 11th
Edition. Allen & Unwin. 106
PwC (2012) Cities of Opportunity. Partnership for New York City.
42
the efforts by the Hong Kong government and the creation of the Hong Kong Science
and Technology Park.
Guangdong already has a long-standing arrangement with Hong Kong called the
Closer Economic Partnership Arrangement (CEPA). It seems, however, that this
rather complicated tool for use between the two regions and the Pearl River delta has
not provided any significant benefits.
Guangdong is currently suffering from reduced growth coupled with Hong Kong's
identity crisis regarding its future direction of business and growth. Shanghai’s
impending launch of its China (Shanghai) Pilot Free Trade Zone initiative has further
confounded the challenges faced by Guangdong in identifying its future direction.
Guangdong will attempt to submit a new free-trade zone proposal to the State
Council and is in the process of drafting its proposal107
. We were unable to locate the
exact date of submission for the proposal, but it is likely to differ from Shanghai's and
it is supposed to somehow foster the implementation of Guangdong and Hong Kong’s
Closer Economic Partnership Agreement (CEPA). Currently the understanding in the
market is that this kind of proposal will not be approved by the State Council108
.
However, there has been recent news about the Central Government reassessing the
situation and opening the negotiations about the above-mentioned Guangdong FTZ.
The following is understood in relation to South China109
. Guangdong province has
decided to build a more knowledge-based economy and began work in this direction
as early as 2008 by seeking assistance from Singapore. Guangdong and Singapore
have an especially important initiative in the form of the SINO-Singaporean
Knowledge City Initiative in Guangzhou, where they will build a new city district (the
Guangzhou Development District GDD, leading to the Guangzhou Knowledge City
District). It will contain 500 000 inhabitants and may be completed by 2017. This
initiative has the same parent company as Suzhou Industrial Park in Jiangsu
Province, where there are many Finnish companies successfully running their
manufacturing operations. However, Knowledge City will not accept the same type of
basic manufacturing capacity; instead it will focus on attracting R&D capability and
high-tech related headquarter functions, and will put a lot of effort into protecting IPR.
In fact, SIPO – the partner of the Finnish patent authority (PRH) - will be located in
the Knowledge City district.
Some Finnish companies have seen Knowledge City as an opportunity and have
established initial contacts there. Further information is available from the authors of
this study should the reader be interested in finding out more.
Go West policy is seemingly not used by Guangdong-based companies; instead they
look for opportunities abroad, e.g. Southeast Asia and elsewhere globally, and do not
seem to focus on provinces like Sichuan and business opportunities in West China in
the meaning of the “Go West” policy. In practical terms, Guangdong seems to be
more interested in developing/re-launching its own province and possibly working
with the neighboring western province of Guangxi.
107Chen G, Tsang D & Ren D (2014) 12 New free-trade zones to follow in Shanghai’s
footsteps. South China Morning Post. Jan 23rd
2014. 108
Keith Jarrett, Chairman of AmCham at FBCS meeting, Shanghai, Dec 6th
2013. 109
Guangdong province authorities interviews, Dec 9th
– 10th
, 2013
43
One interesting aspect of Guangdong province is its relationship with Singapore.
Approximately 75% of Singapore's inhabitants are of Chinese origin and a large
number of them come from southern China. This might offer to Guangdong-based
Chinese companies very international networks through Singapore to the whole world
in a way which we can hardly imagine. As a matter of fact, one of the Finnish
companies we interviewed mentioned a particular aspect of Guangdong: when
supplying Guangdong-based service partners with spare parts, the very same spare
parts appear in various Southeast Asian countries. Possibly there is a relatively high
capability of exporting components to Southeast Asian countries, maybe without
paying all the necessary duties and taxes!
The project manager of this study also visited the Hong Kong Science and
Technology Park on November 1, 2013. The park, as well as the Hong Kong
government, is promoting innovation that strictly abides by IPR110
. Also, highly flexible
new financing instruments make it possible to use half of these instruments in Hong
Kong and half of them elsewhere in China or abroad.
This presents an opportunity for Finnish companies with technology and a high
sensitivity to IPR. In many cases, these companies need to adapt their high-end
European market products to the mid- or low-mid end of the market, and this could
probably be done very efficiently between Hong Kong and Guangdong. The
Guangdong region is skilled at producing components and semi-finished products,
which could be assembled as prototypes in Hong Kong and tested in the highly-
equipped laboratories of the Hong Kong Science and Technology Park. It seems that
few Nordic companies have taken advantage of this opportunity, but it does exist in
reality and could be flexibly used e.g. for the creation of emerging-market versions of
high-end Finnish products.
4.6 Logistics –related on the regions
Goods logistics
When evaluating cities and regions in China, it is instructive to look at the ease of
logistics and quality of services available. Countrywide information is available, and
the World Bank’s Logistics Performance Index (LPI) analyzes China and other
countries in terms of six components111
:
1. The efficiency of customs and border management clearance. 2. The quality of trade and transport infrastructure. 3. The ease of arranging competitively priced shipments. 4. The competence and quality of logistics services. 5. The ability to track and trace consignments. 6. The frequency with which shipments reach consignees within scheduled or expected delivery times.
110interview on Nov 1
st, 2013 in Hong Kong
111Arvis J-F, Mustra M. A, Ojala L, Shepherd B, Saslavsky D (2012) Connecting to Compete –
Trade Logistics in the Global Economy – The Logistics Performance Index and Its Indicators. The International Bank for Reconstruction and Development / The World Bank. Washington DC.
44
China is ranked 26th
of the countries measured despite being the “workshop of the world”. At the same time, when compared to the situation in Finland and other developed countries this is understandable given the rapid expansion of China's economy (South-Korea nr. 21, Japan nr. 8 and Finland nr. 3). As a matter of fact, being ranked 26
th can be considered a job well done considering that China only
began opening up to the world economy in 1978, and that this opening up was not done uniformly across the whole country but only initiated in South China. The World Bank has argued that “a trade supply chain is only as strong as its weakest link. Progress in one area cannot always offset a lack of progress elsewhere”. So, how does this relate to Central and Western China and the productivity of current and future industrial operations there? When comparing countries (China, South-Korea, Japan, etc.) from the point of
view of not only logistics but the whole supply chain competitiveness,
research should begin at the product level. It should then progress to industry,
and only then should the general characteristics of the countries in question be
looked at. At this point, country-specific factors would then have to be taken into
account (e.g. level of customs, how smoothly certain products are customs-cleared,
how easy to find suitable transport companies and distributors etc.). Research at this
level is beyond the scope of this study.
However, when designing supply chain solutions in mainland China, various
scenarios on different parts of Chinese territory should be made and how it might
affect the productivity of operations. Unfortunately there is no World Bank’s
provincial-level a.m. data for China since it will only become accessible in
2014, so we can only work at the national level for the time being.
It is clear that China is well connected to the world thanks to the phenomenal growth
of assembly work carried out in mainland China. In fact, in its materials112
the World
Bank defines China in all terms as a “logistics friendly” country. To put this in
context, Vietnam is a “consistent performer” and Indonesia a “partial performer”.
Some comparative data on China and other countries illustrates the situation as
follows113
:
112Arvis J-F, Mustra M. A, Ojala L, Shepherd B, Saslavsky D (2012) Connecting to Compete –
Trade Logistics in the Global Economy – The Logistics Performance Index and Its Indicators. The International Bank for Reconstruction and Development / The World Bank. Washington DC. 113
Arvis J-F, Mustra M. A, Ojala L, Shepherd B, Saslavsky D (2012) Connecting to Compete – Trade Logistics in the Global Economy – The Logistics Performance Index and Its Indicators. The International Bank for Reconstruction and Development / The World Bank. Washington DC.
45
In investment in fixed assets of logistic structures and its change between 2011 and
2012, it is seen that there has been significant investment in Guangdong (5%
increase) and Sichuan (4.5%). In addition, Hubei Province has had its share of
investment in areas such as high-speed rail, which grew by 4.2%. Shanghai's grew
by only 1.4 %, which is very natural: Shanghai is already extremely developed but is
still aggressively enlarging its metro network (already the world’s longest).
No need for new types of river ships transporting goods or people along major rivers
has been identified.
The building materials industry makes heavy use of river transport for moving basic
materials like sand and cement. Furthermore, some coal and oil-based products are
traditionally transported by river. Using rivers for machinery type of products does not
seem to be any particular success case or similar.
Segmentation of end-customers is important, so too is an understanding of
segmentation of sourcing partners and their classification into tiers. Possibly
the lower tier sourcing partners can be located in West China but system suppliers
and other critical tier 1 partners must be located near to the major production sites of
end-product.
On the basis of the interviews carried out in the machine-building industry, factories
built on the East Coast will continue to remain the main factories for most industrial
companies. Finpro did not find any major trend of moving the current factories to
West China in short or medium term.
Possibly sourcing of single components might move towards West China, together
with some “tasks” related to manufacturing as foreseen by the ETLA. Obviously, the
smaller the size of components, the easier it would be to transfer them to West
China. On the other hand, in the case of high volume and very bulk parts of the
46
components (of less importance), possibly also very big components might be
advantageous to produce “in loco” in West China.
Most companies that we interviewed which produced large products in the East
Coast of China seemed completely happy in their current location from this point of
view (and e.g. supplying to Mongolia).
People logistics
China has been highly successful in extending its high speed rail network across the
whole country, and even some of the most western and clearly less important
locations have been reached. Connecting these western regions to the high-speed
rail network is important from a political point of view and from the perspective of
unifying the Chinese territory.
ASEAN and China have also talked about plans to construct the very same high-
speed rail from mainland China to Singapore through the various countries in South
East Asia. This will integrate SEA to mainland China in a way never seen before.
(China – Singapore 10 hours by train by 2020).114
The opening up of China's economy began in 1978, but mass tourism and large
numbers of Chinese citizens flying abroad is only a very recent development that
started to gain momentum at the beginning of 2002. This has led to an emphasis on
improving infrastructure related to air traffic, and China's development in this regard
has been massive. The most important airport in China is Shanghai Pudong; the
second most important is Beijing and the third is Guangzhou.
114Railway Bulletin (2013) China Railway commissioned the first section of Kunming –
Singapore line. Sept 19th
2013.
47
For Finnish companies it is obviously useful to understand which locations are
accessible by direct flights. In fact, Finnair's flight network in Asia is almost as
extensive as that of British Airways and Lufthansa. In China, Finnair has regular
flights to Beijing, Shanghai, Hong Kong and Chongqing in West China. In addition
there are also direct flights to Xi'an in the summer time.
48
5. Market entry –
related view for
companies
preparing entry
to mainland
China and for
those already
present in East
China
5.1 Aspects on managing talents in China
During China's recent history there has been the concept of the 'iron rice bowl', which
refers to state employment that guarantees a job for life. From 1993 to 2003 many
jobs in SOEs were slashed115
, and state employees are no longer exempt from the
possibility of unemployment. However, working directly for the government is still
appealing due to its favorable pension schemes (more than 80% of final salary)116
.
The private sector, meanwhile, continues to suffer from extremely high employee
turnover. In a way this is understandable since the living cost especially housing is
becoming more and more expensive in China and working people try to compensate
this inflation with even higher salary increases. Lack of people in some categories
(blue-collar, healthcare, other) pushes salaries even further upwards. This problem is
particularly acute in West China, with Chengdu being the leading place of people
considering changing job (60%)117
. As a consequence, salaries have been increasing
and will increase by 10-15% per year depending on location. Below are the latest
average salaries:
Average wages across China, 2012
118
115Lemos G (2012) The End of the Chinese Dream – Why Chinese People Fear the Future. Yale
University Press. 116
Lemos G (2012) The End of the Chinese Dream – Why Chinese People Fear the Future. Yale University Press. 117
RMG Selection Market Research Center (2013) China Talent-Flow Survey 2013, 2nd
edition. China. 118
China Briefing – Magazine and Daily News Service (2013) Average Wages in China –
Determining Minimum and Maximum Social Insurance Contributions. Nov 19th
2013.
49
Salary information on minimum wages at the provincial level is provided below119
.
China has already currently oversupply of university graduates. Amongst BRICS
and emerging economies, China is the strongest nation in terms of the world's
top-ranked universities, with 44 out of 100120
. This should however mean that the
quality of graduates is at a rather high level.
Despite the quality of the Chinese higher education, illiteracy has been, and still is, a
significant problem amongst West China's rural population. Illiteracy in China stands
at 5.2%. Sichuan, at 7.2%, is higher than the national average, whereas Shanghai
has only 2.4% illiteracy and Guangdong 3.05%.
First Finnish companies have started to sell their products to China already long time
ago (Metso, first paper machine to China 1933), but most Finnish companies have
made their market entry as from year 2000 on. Motivation often had been “low
production cost”, which however is fast changing.
Without doubt, it is becoming more expensive to do business in the East Coast of
China, and the region offers little incentive in terms of cheap labor or weak currency.
Finnish companies previously interviewed for the Team Finland project on value
networks in East Asia clearly indicated that nowadays they were primarily
motivated by the ability to supply local customers quickly from the local
production unit in mainland China and provide their services in the local
language and time zone(s) through Chinese and Asian personnel.
Finnish companies that we interviewed clearly stated that the language problem
becomes relatively challenging when outside Shanghai, Jiangsu province and the
East Coast. This is undoubtedly the case, since people inland are much less exposed
to the English language and foreign influences.
119www.china-briefing.com
120People Daily (2013) China leads in university rankings for emerging countries. Dec 5
th
2013.
50
When evaluating West China as a potential location, international schools, the level
of pollution, hobbies and the general standard of living also need to be taken into
account where the presence of expats is needed to start or start and run some given
operations. The common understanding in regard to West China seems to be that
Chengdu offers a good basic infrastructure for expat families; most other locations,
however, are rather challenging for expats. We will not go into this in detail, but a
quick look at schools in Chengdu and Shanghai shows that Shanghai has 18+
international schools versus 5 in Chengdu.
To offset lack of talent, some R&D–related companies that we interviewed in
Chengdu used a recruitment system in which 33% of the staff are recruited locally,
33% come from the East Coast, and the remaining 33% are made up of people who
are originally from Sichuan but have resided long-term in the East Coast for work or
study. However, one must be aware that recruiting a large number of new employees
in a relatively strange environment to us will initially lead to a large turnover of staff,
which must be duly budgeted. In fact, when looking into building up commercial
and/or production operations in West China one should always consider how much
local talent can really be found and developed, since this may be much more
sustainable than building up operations using expats or Chinese people moving to
the new location from the East coast.
Compared to traditional Western multinationals, emerging market multinational
companies (EMNCs) often find it difficult to attract talent when in getting their brand
established. However, once they have overcome this problem, it is substantially
easier for them to offer better career opportunities to employees since their HQ is
directly in the region and not somewhere in Europe or the U.S. Hence offering high-
quality and high-profile domestic jobs makes them attractive to Chinese talent.
Private EMNCs will eventually become more appealing than SOEs because people
will see them as offering better career opportunities, since the companies in question
will be trendsetters in their respective industries and hence less static than most
SOEs.
When considering the future development of Chinese salaries, we must bear in mind
that they have traditionally increased 8-12 % in the East Coast and by an even
greater margin in West China. Coupled with China's aging population as a result of
the One Child Policy, we can presume that the current salary differences between
East and West China will become smaller and smaller, especially after the year 2020.
5.2 Basic view to Mergers & Acquisitions in China
A soon to be pertinent issue in China is the use of mergers to lower the overcapacity
that has been created in the steel, glass, cement, electrolytic aluminum and
shipbuilding industries121
. We can also add paper and pulp mills to this list due to
their small-capacity output but high-capacity pollution of the surrounding
environment. This is likely to be a difficult issue, since closing factories and slashing
jobs will be considered “losing face” and previous mergers have not proven
particularly successful.
121SCMP, November 5
th 2013
51
China became the top dealmaker in corporate acquisitions in 2013122
, when it
surpassed Japan and Hong Kong. The majority of these acquisitions were in the
energy and power sectors, but financial institutions in particular now seem to have
the confidence to take their operations global, too. It is also interesting to note that
there has been a shift from acquisitions by state-owned enterprises to ones led by
the private sector.
The Tekes report on Sino-Finnish opportunities for cooperation discusses the
difficulties faced by Chinese (mostly SOE) companies in their mergers and
acquisitions (M&As’). The same is confirmed by the Economist in its article “Being
eaten by the dragon” (Nov 11, 2010). 123
Finpro has noticed that e.g. in Shanghai there is very high sensitivity of the local
government to support success of M&A of Chinese companies abroad as from the
beginning of 2014.
However, in this report we will not debate more about the difficulties faced by Chinese
overseas, but will instead try to understand, amongst other things, if there are
particular issues that Finnish companies should pay attention to with regard to M&A
in China and beyond.
Discussions of M&A with the steering group revealed the following view, which was
widely shared among the Finnish participants:
When Finnish company considering a certain pre-identified target company to
be acquired in mainland China, it is worth carrying out preliminary work with a
market and industry “insider” before passing the case on to international
accounting companies and legal companies to conduct proper and thorough
due diligence on the accounting and legal side. This will often prevent Finnish
companies from investing in the wrong targets – targets which have special
challenges that can only be discovered by the “insiders”, who are familiar with
the general sentiment of the sector and rumors, etc.
In fact, this “pre-audit” can also help the buyer to evaluate the whole reason for the
eventual acquisition and possibly change the acquisition target region or even
country to correspond better to its future needs in terms of the markets, production
capability, and raw materials etc. to be acquired through the M&A.
Acquisitions seem to present similar challenges all over the world, and no significant
difference was felt between the parties interviewed. Acquisitions in West China might
be as easy or difficult as the East Coast of China, except possibly for the fact that in
the East Coast, English language skills were felt to be much more superior to West
China.
122China Business, November 23
rd 2013
123Tekes –report booz&company; the Economist “Being eaten by the dragon”, Nov 11
th 2010
52
5.3 Finnish newcomers to China
“Let’s just go to Shanghai – the market’s big enough and we only need to
capture 0.5% of it to have huge business there”: This kind of logic and
“mathematics” from some Finnish Board rooms is rather disturbing for somebody who
would expect companies to make professional case studies and business plans for
their market entry and business development in China.
Without doubt, the number one topic for the head of any Finnish company
thinking about coming to China must be future sales and where they come
from (end customer segments and their location). We have to understand, who
the competitors to be beaten are and why the end customer would switch from the
current supplier to us. Beginning somewhere and not understanding why is not a
promising starting point, especially in a country like China, where there is
oversupply of everything. No matter what the business or location is, it is always
important for us to understand who we are competing with, who our partners and end
customers are, and especially how we make money together with them.
Where the structure of the end customer market is too difficult to understand from
Finland, as is usually the case, there is a wide selection of Finnish, Chinese and
international consultants that can provide assistance. This is also typical of the type
of work Finpro does in China.
Once the end-customer is well understood and the target segments are selected,
then the work of channel management and understanding how to make money with
end customers and channel partners begins. Again, the 'going to a trade-fair'
approach will not produce this understanding; such knowledge is, rather, gained from
working in the field and coming into contact with a large number of players and
competitors.
It is important to understand that China is not a country, but a continent. This is
something that McKinsey & Co has confirmed and illustrated with the following
chart124
:
124McKinsey & Co, January 2013
53
McKinsey further debates that individual Chinese locations can vary hugely, and
uses the example of Shenzhen and Guangzhou, which are only 100 km apart from
each other but completely different. The same was confirmed to Finpro and also by
some retail consultants, who noted that the tier-1 cities (Beijing, Shanghai, Chengdu
and Guangzhou according to Nielsen) are all very different to each other. There may
be high variance between regional markets in terms of segmentation, sourcing, and
distribution partners, etc.
5.4 Established Finnish companies in China
Several Finnish companies have operations mostly in the Greater Shanghai region
(in provinces of Shanghai and Jiangsu), but Beijing and South China also have their
share of Finnish companies. There are more than 300 Finnish companies present in
China; the exact figure is difficult to tell since some companies are not directly
invested in by Finland, but through third countries.
Most of the companies are organized through Business Councils in Beijing, Shanghai
and Guangzhou or through the Finland Hong Kong Chamber of Commerce in Hong
Kong.
Several Finnish companies listed on the stock market have established or are
establishing significant production units in mainland China, whereas SMEs only have
assembly units of rather modest size. Some stock-listed Finnish companies do have
R&D in mainland China despite of the challenges of defending their property rights.
Surveys of the business councils provide the following findings, amongst other in the
most recent studies in 2013:
54
- Profits in 2012 leveled off. That is, last year 68% of companies reported increased
or substantially increased profits, whereas this year that figure was only 24%.
- Optimism for this year greater than last year: 72% vs. 66% of companies believed
in an increase or substantial increase.
- Investment levels will remain pretty much the same (58% increase, 28 same, 4
decrease)
- Expectation of change in the investment climate in China. There was a substantial
drop in pessimism, only 10% less favorable, compared to 28% last year.
-Biggest challenge in attracting the right employees. Cost of employment on the rise
– now almost 30%. However, finding them is still the by far biggest challenge (over
half). Availability of competence in Chinese market: 54% view as good, 36% as bad.
This result seemed to be similar to the previous year.
-Reasons for being in China: Serving market 40%, Manufacturing base 17%, Both
reasons 43%.
The studies done did not seem to support any increased attention of the Finnish
companies on the market opportunities in West China. Nonetheless, several
companies seem to work more intensively on new regions or in the neighboring
countries like South-Korea from their Shanghai or Jiangsu province-based
operations.
However, many Finnish companies seem to be happy to have salesmen or agents
out in the field, but do not feel there to be any need for own legal entities to reinforce
their presence in the new provinces of China. To the authors of this report, this does
not seem like the optimal way of achieving improved market share, profits and
presence in mainland China.
This study is not elaborating more the current and future location of Finnish
companies since scope of this study is to identify the trends of the future Chinese
growth.
55
6. Conclusion and
recommendations
6.1 Future challenges of China
China is clearly facing huge challenges. We will describe the main challenges in the
following passages, and will also indicate some opportunities for Finnish companies.
Changes in population; changes in social security related to urbanization
Currently, China is very investment-driven, and stimulating private consumption
remains a challenge. This will most likely be difficult before the challenges of social
security have been dealt with125
. This will also be no easy task considering the
following: 52% of the Chinese population lived in cities in 2012, but only 27% of
them had an urban “hukou”, or household registration126
. This means that large
numbers of people do not have equal access to services reserved for the urban
population such as education, unemployment benefits and health care. This affects
their attitude towards the security and predictability of the future, which in turns
reduces their willingness to spend money instead of saving it. The latest decisions
during the Third Plenum the government suggested that the Chinese government is
willing to allow more provincial sovereignty over budgets, which would create the
basis for financing social security for migrants127
. However, it has been argued that it
took 50 years to build up a welfare state in Europe, and that emerging markets will
need at least 10 years to create something at least remotely similar128
.
China’s population is also aging thanks to the One Child Policy. Easing the policy,
with the “1.5 child policy launched at the beginning of 2014”129
, will not reverse
this situation. Combined with structural changes in economy, this could lead to a
severe lack of talent (e.g. doctors and nurses) in several sectors. The severe
pollution of the living environment is also having an effect on the population, but
improvements in the healthcare system are supposed to compensate this130
. China's
workforce is shrinking, especially when it comes to blue collar workers. The
aging population with dependency ratio (population younger than 15 and older
than 64 as a share of the working age population) has also been worsening
particularly fast, and will go from 13.5% in 2010 to around 30% by 2030131
. At the
same time, more than 7 million university students begin their studies each year, and
thus there will probably be an abundance of university graduates in addition to the
above-stated lack of blue collar workers.
Given China's shrinking blue-collar work force, there must be meaningful growth in
the market for industrial automation from year 2020 or even earlier. Even before
125Lemos G (2012) The End of the Chinese Dream – Why Chinese People Fear the Future. Yale
University Press. 126
China Daily, Nov 7th
, 2013. 127
Mattlin M (2013) FIIA Comment 17/2013. The Finnish Institute of International Affairs. 128
Dr. Xizhe Peng, EIU Breakfast seminar, Jan 15th
2014. Shanghai. 129
Mary Boyd, EIU Breakfast seminar, Jan 15th
2014. Shanghai. 130
Dr. Xizhe Peng, EIU Breakfast seminar, Jan 15th
2014. Shanghai. 131
International Monetary Fund (2013) People’s Republic of China. 2013 Article IV Consultation. Washington, D.C.
56
this there will be more space for mid and low-mid market technology in B2B markets,
since Chinese companies will have to improve their production technology and the
quality of their products in order to become successful in the export business they are
aiming at more aggressively as from 2014.
Finnish companies working in life science (elderly care, etc.) that are capable of
offering mid-market and low-mid market solutions may find growing markets in
mainland China or at least in some of its provinces. The idea of coming to the market
of life science with high-end solutions might sound lucrative, but could most probably
result in some pilot project being copied very soon, leading only to high sales and
marketing expenses of the Finnish market entrant with no opportunity to scale the
operation to new cities and provinces.
A Chinese economy that is purely investment-driven also cause problems for Finnish
investment goods companies and their products and service business in mainland
China in the long run, since saturation - or at least certain level of saturation - will
occur in China at some point.
So-called middle-income and affluent consumers (MACs) will be an interesting
phenomenon in smaller cities, and offer opportunities which have not been
understood up until now. These MACs seem to be more willing to spend than their
equivalents in bigger cities, since their cost of living is lower and they suffered less
during the recent economic downturn132
. BCG claims that by 2020 there will be nearly
800 urban locations with real disposable income per capita greater than Shanghai’s
today. This could well mean that in West China there is an abundance of business
opportunities in locations that have previously been overlooked.
Despite the size and growth of China's luxury market, this sector will be very difficult
to make money from in the future. There have recently been a number of negative
reports about the luxury market suffering in 2013 thanks to government anti-
corruption policies and wealthy Chinese moving abroad (mainly to the United
States)133
.
Air pollution and the general deterioration of the living environment are causing major
problems in China. Beijing was previously the focus of this problem, but the winter of
2013/2014 has shown that it also affects cities such as Shanghai. Issues of this type
have been recognized by both the public and the Chinese government, but we
believe that, over the next 3-5 years, no interventions will occur that involve
increased investment by Chinese companies or even the closing of facilities that are
major polluters. This is because the government is afraid of cutting jobs and
exacerbating unemployment.
Finnish energy-saving concepts and clean tech have big business potential in
China, but it will be difficult to capitalize on this unless Finnish high-end solutions are
translated into mid- and low-mid market products and services for the China
marketplace. Furthermore, good business models and profit sharing with Chinese
and eventually other distributors and stakeholders must also be designed and
launched. An example of an initiative trying to make the most of these opportunities is
132The Boston Consulting Group (2010) Big Prizes in Small Places – China’s Rapidly
Multiplying Pockets of Growth. 133
Frank R (2014) Rich Chinese continue to flee China. CNBC. Jan 17th
2014.
57
Clean Tech Finland with Tekes and its China-based project called “Beautiful Beijing”,
which is aimed at improving the city's air quality.
In China, capital accounts and currency rates are strictly regulated. China has to
consider how to free capital accounts and how to make the RMB freely
convertible134, 135
. It could take up to 10 years for capital accounts to be opened
up136
, but some promising steps have been taken in the form of the China (Shanghai)
Pilot Free-Trade Zone. The government aims to make activities that currently belong
to the so-called “negative list” permissible in the free-trade zone, which could mean
that even as early as 2014 capital account could be free for the companies which
establish their operations there. At the same, there are increasing signs that the
government is willing to relax currency regulations and allow its band of variations to
become progressively broader. New pilot free trade zones might get opened in 2014
against all expectations.
SOE restructuring
There was large-scale restructuring of the SOE sector from 1993-2003, during which
jobs at centrally-controlled, urban-based SOEs were cut from 76 million to 28
million137
. There is, however, further work to be done in this area.
State-owned enterprises have enjoyed a sustained period of growth thanks to their
favorable access to this like cheap financing and public procurement. Despite the
privileged position of SOEs in China's economy, however, we would like to
emphasize that the Chinese market has nonetheless been relatively open to
competition compared to the situation in South Korea and Japan, which the WTO
described as “export out, protect in”. This is also one of the reasons why China has
developed so fast.
The SOE sector in China has been highly profitable, but only a fraction of profits have
been paid as dividends138, 139
. This has contributed to overcapacity in several
industries, which has attracted the attention of the local government. One of
China’s core problems is a collapse in capital efficiency (ROI), which is a
reflection of the banking and related sectors (regulated consumer deposit interest
rates, growth of shadow banking thanks to unfair competition for credit)140,141,142
.
134BOFIT Kiina-ryhmä (2013) BOFIT Kiina-ennuste 2013–2015. Suomen Pankki. BOFIT –
Siirtymätalouksien tutkimuslaitos. Helsinki. 135
IMA ASIA (2013) China's New Course – Asian Issues Management Paper. Hong Kong, Singapore. 136
Cheung Y-W, Herrala R (2013) China’s capital controls – Through the prism of covered interest differentials. Bank of Finland, BOFIT. Institute for Economies in Transition. Helsinki. 137
Lemos G (2012) The End of the Chinese Dream – Why Chinese People Fear the Future. Yale University Press. 138
International Monetary Fund (2013) People’s Republic of China. 2013 Article IV Consultation. Washington, D.C. 139
Kallio J (2013) FIIA Comment 18/2013. The Finnish Institute of International Affairs. 140
Joe Zhang (2013) Inside China’s Shadow banking: The next subprime crisis. Enrich Professional Publishing. Honolulu.
58
The particular consequence of unequal access to credit has been overcapacity in
various industry sectors led by SOEs (steel, glass, shipbuilding, etc.). Overcapacity
will persist in China and it is possible that restructuring efforts will lead to bigger
companies have identical overcapacity problems. This is again related to the
government's fear of causing unemployment.
Further SOE restructuring should be carried out in several industries in China. Paper-
making, the steel industry and shipbuilding can be mentioned in this context, since
they clearly suffer from a very significant oversupply of capacity. However, the
authors of this report are very pessimistic about the outcome of restructuring, and we
believe that overcapacity will persist in China for at least the next 5-7 years
since maintaining good levels of employment will take precedence over slashing jobs
causing overcapacity and reducing pollution. In fact, most probably restructuring will
result in putting two or more companies into a bigger single group, but still have the
same headcount and productive capacity.
Despite China's overcapacity problem, Finnish technology suppliers may find an
interesting market for industrial automation and other solutions if they are adapted to
the Chinese market and low-mid and mid segments. In addition, shipbuilding and the
offshore oil and gas industry will offer particularly attractive opportunities thanks to
their huge volume and importance worldwide. Shipbuilding is concentrated in China's
coastal cities and Wuhan inland. It seems that the Yangtze River or Pearl River do
not offer any particular opportunities in the form of new ship types or similar markets.
In the paper and pulp sector Finland is a very credible partner and the restructuring of
the Chinese paper and pulp sector represents a good opportunity for Finnish
technology suppliers, provided they adapt their solutions to the Chinese marketplace
and establish a local presence.
IPR
IPR remains a very hot topic when it comes to mainland China. There are different
levels of IPR infringement occurring every day, and this will continue to be the case in
the future. Competition is extremely fierce in Asia and especially in mainland China.
Leading companies like Samsung are proof that you have to innovate in certain
sectors every six months and constantly bring something new to the market if you
want to be the leader in your sector. Companies that are not prepared to do so may
be better off staying out of China or focusing on another industry sector143
.
In fact, the problem of international patent infringement is likely to be particularly
acute in West China and other locations far away from Shanghai, Beijing and other
similarly developed cities, since authorities will be less experienced in dealing with
IPR-related matters using a more Western-style approach.
141Degryse H, Lu L, Ongena S (2013) Informal or formal financing? Or both? First evidence on
the co-funding of Chinese firms. Bank of Finland, BOFIT. Institute for Economies in Transition. Helsinki. 142
RatingsDirect (2013) Why shadow banking is yet to destabilize China’s financial system. Mar 27
th 2013.
143Chattopadhay A, Batra R, Ozsomer A (2012) The New Emerging Market Multinationals –
Four Strategies for Disrupting Markets and Building Brands. The McGraw-Hill Companies.
59
Statistics in this report have shown that China innovates a lot. However, it must be
stated that some patents seem to be aimed at acquiring tax benefits granted to
products with a “high-technology status” or something similar, and do not really
represent anything new to the marketplace itself.
Hong Kong is trying to position itself as a safe haven of IPR protection, and is also
promoting itself as a technology platform. That is why the Hong Kong government
supports investment in R&D, allowing local and international companies to establish
themselves in the Hong Kong (Science and Technology Park, elsewhere in Hong
Kong) and receive R&D funding. Hong Kong allows 50% of the funding to be used in
other countries or regions, which is definitely interesting. However, during interviews
in both Guangdong and in Sichuan province, it seemed that Hong Kong's attempts to
re-brand itself as a center for R&D and IPR protection has not been embraced by
companies.
As such, these challenges described above about China and its future does not
relate to a single province or West China, but rather apply to the whole territory.
China's overall economic performance appears set to remain strong, and the
government has confirmed that GDP growth data for 2013 was 7.7%. It also has
been confirmed in various parts of this report as well as during the interviews with
Finnish and international companies that Sichuan and other parts of West China
continue to grow and are a vibrant market for several Finnish infrastructure related-
technologies.
As of October 2012, the China Securities Regulatory Commission was keeping over
800 companies waiting for permission to launch their Initial Purchase Offer (IPO) on
either the Shanghai or Shenzhen stock exchange144, 145
. Keeping these companies
waiting for this opportunity seems to be part of government policy not to absorb too
much liquidity from investor markets and thus force companies that are already listed
on the stock market to compete for resources. In the beginning of 2014 the first 50
companies have got the permission to start preparing their IPO.
The opportunity for Finnish companies to use Guangdong's supply chains to ramp up
successful production operations in Vietnam or Southeast Asia was also evaluated. It
seems, however, that no systematic use has been made of Guangdong's supply
chains, with the exception of international electronics companies relocating their
production from China to Vietnam, where the cost of labor is cheaper. However, this
kind of supply is not driven by co-operation between Vietnamese and Chinese
companies, but rather between multinational companies and their Chinese supply
chains. In fact, there seems to be lot of mistrust between Vietnamese and Chinese
companies, based on the history between the two countries.
6.2 Challenges to Finnish industry in mainland China
As is widely known, Finland's challenges lie in the export industry in general and
problems in balancing its public sector finance. There are positive aspects in the
144Joe Zhang (2013) Inside China’s Shadow banking: The next subprime crisis. Hong Kong.
145Bloomberg News (2013) China’s Move to End IPO Halt Sparks Rally in Finance. Dec 2, 2013.
60
start-up scene in certain ICT-related and other industries, but what we seem to lack,
however, is a sense of urgency when it comes to integrating our more
traditional industries (certain types of machinery, B2B products) into new and
growing (emerging) markets.
According to the classic Change Management approach146
, a sense of urgency is
clearly what is needed to make important modifications to our economic activities.
The current focus seems to be exclusively on cutting costs and not developing
anything significantly new.
For Finland, it is better to focus on emerging markets, and West China and its
business opportunities clearly present a valuable opportunity for us. Based on
our research, however, it looks like West China may be a bigger opportunity for
Finnish companies already established in China than for newcomers.
This conclusion is based on expectation of finding more opportunities exist in West
China for Base of Pyramid solutions in technology and low-mid segment, whereas
Finland normally offers high-end or mid-end products. The more developed cities in
West China (Chengdu, etc.), however, require the very same technology level
required in East China. It is far more likely that a company has the required market
skills and products adapted if it is already established on the East Coast and has
Chinese and international professionals working for it, rather than being a
newcomer to China.
Market segmentation, product adaptation
Of the project steering group, several of the companies interviewed as well as Finpro
consultants stressed the importance of better understanding the end-customer,
rather than endlessly working to offer higher and higher technology solutions
that possibly also entail higher and higher prices.
Furthermore, whatever is offered must improve the business of the end-customer:
it must increase their turnover, cut their operating costs, reduce risk or allow
the client's business to use less working capital.
The market segments have been widely described in the previous chapter and they
lead to different kinds of end customer relationship, which also should be reflected in
all our marketing and sales efforts (transaction, sourcing and partnership-types of
relationship).
The following chart categorizes market segmentation and the consequent customer
relationship, size of product market and size of service business and its potential:
146Kotter J.P (1994) Leading Change
61
Finnish companies are more accustomed to offering high-end products, and
hence most Finnish newcomers to China could work with some success on the
Western-owned companies in East and South China, as well as the capital city of
Beijing and surrounding areas. Some of the more developed West China cities
(typically Chengdu and Chongqing) could require the same technology level as East
China, but most Finnish companies should begin adapting their solutions and offer
mid-market solutions, should this work not be already in progress. According to some
Finnish experts, adaptation could easily take 10 years or more if started immediately
after market entry.
Either way, no Finnish company should avoid considering how to adapt its offering to
the China marketplace. In this regard, there are two separate cases.
Fast-moving consumer goods (B2C) seem to be suffering from saturation, especially
in the luxury market. There appears to be a market for high-end goods (from one or a
limited number of very exclusive brands) and a mass market for very cheap products.
For investment goods (B2B), however, the picture seems to be more complicated.
Since 2012 many companies have become increasingly interested in the export
market following the government's launch of the “Go out (global)” policy for
incentivizing Chinese companies to export (yes, they have in fact been
focusing on the domestic market up until now). In order to do so they need to
increase and stabilize their quality and hence go towards using low-mid and mid-
segment investment goods. The chart below was created to categorize the field of
segmentation and its challenges.
This means that those Finnish companies which produce investment goods
(B2B) and are interested in producing mid-segment or higher end of low-
segment goods may find a growing market for their product in China in the coming
years. However, one thing must be taken into consideration: price erosion.
Companies interested in mid-segment solutions may end up paying increasingly
lower prices for them each year as productivity improves and oversupply in the
market persists thanks to the characteristics of the Chinese marketplace described
above.
62
In this respect we would like to remind everybody that the Finnish statement of “we
work only with Western end customers” is not a valid one should we wish to
remain an important player in our field in the years to come. The fight over this
“Western” business will intensify each year as Chinese and other emerging-market
multinationals (EMNC) begin competing for these segments. At the same time,
the market for high-segment products is not likely to grow, and even Western
companies are increasingly looking at the mid-market and even low-mid market
supply of components, end products and services to improve their business
and profitability. In addition, in several sectors Chinese end customers are winning
market share, and if we refuse to learn how to do business with them then we are
limiting the markets available to us.
Finally, we would like to remind the reader that there is only one reason for the
Chinese to work with us: can we make more money together? The following
chart provides a very good framework for considering this147
:
If we can answer the enclosed and understand why end customer should work with
us, then we also can better motivate our distribution channel partners to work with us
so that everybody involved believes and eventually can make money.
Management and HR-related
Some Finnish companies have clearly begun sending more members of senior
management to work at their current or future APAC headquarters. It seems like
Shanghai, Beijing, Guangzhou and Shenzhen are considered as optimal locations for
the headquarters of international companies in China148
. West China does not figure
in almost all of these considerations. The authors of this report recommend that
Finnish companies do not automatically establish their headquarters in mainland
147Kaj Storbacka, Vectia Consulting
148European Chamber (2011) European Business in China: Asia-Pacific Headquarters Study. In
partnership with Roland Berger Strategy Consultants.
63
China but also consider other locations (for example Hong Kong or Singapore).
Recently, some multinational companies appear to have once more located
their APAC headquarters outside mainland China for reasons including lack of
international talent, air pollution and internet and IPR–related problems. Talent
in particular seems to drive the location of future HQs. It is possible to find
Chinese employees with international business experience on the labor
market, but they are low in number and extremely expensive, even more so than
most expats.
Finnish presence in China and emerging markets in general
This report discusses about business opportunities in West China and in China in
general. However, we would like to remind the readers about opportunities in Asia
and emerging markets in general, since focusing exclusively on the China market
place would increase its country risk to levels not acceptable to shareholders and
stakeholders in general.
We need to grow in emerging markets all over the world; wherever the market offers
us opportunities. A short-sighted “let’s work on China” –focus could be crippling.
64
7. List of
sources and
interviewees
China Academy of Science in Shanghai, Wuhan, Guangdong, Sichuan
The Economist Intelligence Network on Urbanization in China, some selected slides
(EIU, 2013)
Annual business sentiment studies of EU Chamber, FBCBJ, FBCS, Am-Cham
Gao Yinan, Chen Lidan (2013) Economist: China needs in-situ urbanization. People’s Daily Online. Oct 21
st 2013,
Arvis J-F, Mustra M. A, Ojala L, Shepherd B, Saslavsky D (2012) Connecting to Compete – Trade Logistics in the Global Economy – The Logistics Performance Index and Its Indicators. The International Bank for Reconstruction and Development / The World Bank. Washington DC. The Economist Corporate Network Asia (2013) Regional Strategic forecast – Asia Country Briefing August 2013. Beijing, Hong Kong, Kuala Lumpur, Shanghai, Singapore, Tokyo. The Economist Corporate Network Asia. Abruzzese L, Innes-Ker D, Boyd M, The Economist Corporate Network Asia (2013) Regional Strategic forecast. Beijing, Hong Kong, Kuala Lumpur, Shanghai, Singapore, Tokyo. Presentations, Sept 6
th 2013.
The Economist Corporate Network (2013) Flawed data, flawed decisions. Fang T (2006) Negotiation: the Chinese style. Journal of Business and Industrial Marketing 21/1. Chattopadhay A, Batra R, Ozsomer A (2012) The New Emerging Market Multinationals – Four Strategies for Disrupting Markets and Building Brands. The McGraw-Hill Companies. Pajarinen M, Rouvinen P, Yläanttila P (2010) Missä Arvo syntyy? Suomi globaalissa kilpailussa. Helsinki: Taloustieto Oy (ETLA B 247). Hong Kong Science & Technology Parks – Making things happen –CD. Zheng Yangpeng (2013) New warning on overcapacity. China Daily. Nov 5th 2013. Finnish University Network for Asian studies (2013) Academic Research Projects on Asia and in Finland. University of Turku, Finland. Jacques M (2009) When China rules the world. Penguin books. Hodges M (2013) Shanghai a heaven for investment. China Daily. Nov 7
th 2013.
Li Yang (2013) Plenum offers new platform for urbanization. China Daily. Nov 7
th
2013. He Dan (2013) China’s east still the top draw for foreigners. China Daily. Nov 7
th
2013. Yu Ran (2013) World to see boom in big firms. China Daily. Nov 7
th 2013.
Jullens J, Suonio S, Tang T (2013) Sino-Finnish Paths to International Competitive Advantage. Booz & company Inc., Tekes. http://www.tekes.fi/Global/Ohjelmat%20ja%20palvelut/Kasvajakansainvalisty/Future%20Watch/Sino-Finnish%20Paths%20to%20International%20Competitive%20Advantage.pdf
65
Finnish Business Council Shanghai (2013) FBCS China Business Climate Survey. The Economist (2013) Faster than a speeding bullet. Nov 9
th 2013.
The Economist (2010) Chinese takeovers – Being eaten by the dragon. Nov 11
th
2010. South China Morning Post (2013) Guangdong yet to submit free-trade zone proposal. Nov 22
nd 2013.
South China Morning Post (2013) China set to be Asia’s top dealmaker. Nov 23
rd
2013. China Development Forum (2013) Choosing China: Insights from multinationals on the investment environment. Antwerp Management School (2013) Euro-China Investment Report 2013-2014. Kotter J.P (1994) Leading Change Käpylä J, Mikkola H (2013) The Global Arctic 133 - The Growing arctic interests of Russia, China, The United States and the European Union. FIIA Briefing Paper 133. The Finnish Institute of International affairs. South China Morning Post (2013) Shanghai free-trade zone reforms to be launched within three months, PBOC says. Dec 4
th 2013.
Joe Zhang (2013) Inside China’s Shadow banking: The next subprime crisis. Enrich Professional Publishing. Honolulu. People’s Daily Online (2013) China leads university rankings for emerging countries. Dec 5
th 2013.
Reuters (2013) China’s free trade zone plans herald quicker FX reforms. Dec 5
th
2013. BOFIT Kiina-ryhmä (2013) BOFIT Kiina-ennuste 2013–2015. Suomen Pankki. BOFIT
– Siirtymätalouksien tutkimuslaitos. Helsinki.
Cheung Y-W, Herrala R (2013) China’s capital controls – Through the prism of
covered interest differentials. Bank of Finland, BOFIT. Institute for Economies in
Transition. Helsinki.
Garcia-Herrero A, Xia L (2013) China’s RMB bilateral swap agreements: What
explains the choice of countries? Bank of Finland, BOFIT. Institute for Economies in
Transition. Helsinki.
Degryse H, Lu L, Ongena S (2013) Informal or formal financing? Or both? First
evidence on the co-funding of Chinese firms. Bank of Finland, BOFIT. Institute for
Economies in Transition. Helsinki.
PricewaterhouseCoopers Consultants (Shenzhen) Ltd. (2011) News Flash – China Tax and Business Advisory. August 2011. Issue 18. Jullens J (2013) Will China's New Leaders Step Up to the Plate? Booz&co.
66
China Daily (2013) Middle class sitting in the driver’s seat for consumption. Nov 14th
2013. Korhonen I (2013) Kiina vapauttaa rahoitusmarkkinoitaan – Mitkä ovat riskit? Kansantaloudellinen aikakauskirja. Suomen Pankki. Siirtymätalouksien tutkimuslaitos. Bloomberg News (2013) China’s Move to End IPO Halt Sparks Rally in Finance. Dec 2, 2013. Il Houng Lee, Murtaza Syed, Xhin Wang (2013) Two Sides of the Same Coin? Rebalancing and Inclusive Growth in China. International Monetary Fund. International Monetary Fund (2013) People’s Republic of China. 2013 Article IV Consultation. Washington, D.C. Keith Jarrett, Chairman of AmCham at FBCS meeting, Shanghai, Dec 6
th 2013.
Mattlin M (2013) FIIA Comment 17/2013. The Finnish Institute of International Affairs. Kallio J (2013) FIIA Comment 18/2013. The Finnish Institute of International Affairs. Jullens J (2013) Harvard Business Review: How Emerging Giants Can Take on the World. Embassy of Sweden, Swedish Chamber of Commerce, Business Sweden (2013) Swedish Business in China – Trends and Challenges. China Daily (2013) Dalian developer brings its success to Wuhan. Nov 14
th 2013.
People Daily (2013) China leads in university rankings for emerging countries. Dec 5
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8. Appendices
71
72
73
74
75
Patents per province
149
149 SIPO State Intellectual Property Office of the P.R.C (2012)
76
Ten biggest banks in the world according to Tier 1 -capital (2012)
150
150 Korhonen I (2013) Kiina vapauttaa rahoitusmarkkinoitaan – Mitkä ovat riskit?
Kansantaloudellinen aikakauskirja. Suomen Pankki. Siirtymätalouksien tutkimuslaitos.
77
Map of China151
151 www.ezilon.com
78
Segmentation
152
Consumer segments and international expansion
153
152Finpro, Professor Kristian Möller of Helsinki Business School, other
153Chattopadhay A, Batra R, Ozsomer A (2012) The New Emerging Market Multinationals –
Four Strategies for Disrupting Markets and Building Brands. The McGraw-Hill Companies.
79
Major airports in China
Average wages across China, 2012
154
154China Briefing – Magazine and Daily News Service (2013) Average Wages in China –
Determining Minimum and Maximum Social Insurance Contributions. Nov 19th
2013.
80
China growing pains
155
155Financial Times, Jan 23rd, 2014
