After the launch of our 2010-2011 China Business Report with AmCham on Wednesday, there was a flurry of foreign media reporting on our survey. Although the coverage was gratifying, I believe the larger story was missed. That story is about the importance of China for most any international company’s growth strategy, regardless of changes in the business landscape in China.
A typical headline was the BBC’s Foreign Firms Complain of China Favoritism. This is a highly selective reading, since more than half of U.S. companies in China see regulations as neutral or favorable to foreign companies. Another characteristic headline was Reuters’ U.S. Firms in China See Regulation as Top Hurdle. Of course, regulations are a top hurdle, but according to our survey data, U.S. companies were just as concerned with regulation last year, and there was essentially no change from 2009. In fact, the greatest business challenge reported by U.S. companies was HR constraints, which have nothing to do with the regulatory environment. The main takeaway from this year’s survey was that profits and revenues were up sharply over 2009, and that U.S. companies turned in record performance in 2010, regardless of the regulatory environment.
The Hu-Obama summit has brought a great deal of attention to the AmCham survey, perhaps it was this political climate in Washington, D.C. that masked the facts we uncovered on the ground in China with US business leaders. An article that we believe was most reflective of the research we conducted was the Shanghai Daily’s U.S. Firms Find China Profitable.
Our press release in this blog has already gone over the record 2010 profits and revenue growth among U.S. companies in China. These were both up sharply over 2009, but were also markedly higher than 2008, which was already a strong year. Not mentioned in our press release is that operating margins were also up, and have risen steadily since 2008. In 2010, fully 66% improved their operating margins, rising from 45% in 2009 and 33% in 2008, suggesting that U.S. companies have internalized efficiencies wrung from the relatively “bad” year of 2009.
An unreported area of “positive news” revolved around U.S.-China trade. Fully 58% of AmCham Shanghai member companies import finished goods or parts from the U.S. which has positive contributions to US jobs. Even if U.S. companies are producing goods in China for export, only some portion of that is Chinese value-added (e.g. the IPhone), and some portion of that is usually imported U.S. components that support U.S. jobs. Our data show that the U.S. value-added of imports from the U.S. to U.S. companies in China accounts for about 20% of their sales in the China market.
As for the “bad news,” it was often reported that “63% of U.S. companies think that the regulatory environment in their industry is not changing or getting worse.” What the foreign press ignored, however, is that 37% think that it’s improving, and that this was more than the 15% who think it’s getting worse. While it is true that “80% think that the regulatory environment is not transparent,” fully 25% think that this still doesn’t hinder business. This underscores our point that U.S. companies now have a more seasoned or mature confidence about business in China. They know that they are great challenges, but they have learned to profit despite them.
The hottest topic among the “bad” news was China’s Indigenous Innovation Policy, which got a lot of coverage partly because Hu agreed to delink government procurement from domestic industrial policy. Some articles cited the 47% of U.S. companies that are “concerned” about the Indigenous Innovation Policy. Yet, more significant is that only 10% report a tangible negative impact so far, and that those suffering the most are in predictable industries: healthcare (25%), Chemicals (21%), and Energy (18%). (These numbers are all significantly higher, in statistical terms, than the 10% average.) What’s most revealing is that we don’t see this kind of entirely predictable variation across industries among the 47% who are just “concerned” about indigenous innovation. Why is that? The most likely explanation is that they are reporting a fuzzier feeling of unease about the future, which may or may not impact their businesses.
Not mentioned at all in the China Business Report (because it didn’t make the final draft) was our statistical modeling of our three indices: business success and confidence, and the degree to which China’s regulatory environment is welcoming to foreign businesses. These indices each aggregate several questions in the survey, so as to measure broad business concepts and avoid idiosyncrasies in the wording of any one question, thus making them more objective. From our modeling, we discovered that there was a strong causal relationship between pairings of each of these indices, except for confidence and welcoming. Put differently, a friendly or fair regulatory environment doesn’t make U.S. companies significantly more confident about the future, since China’s regulatory environment is only one part of the evaluation of long-term opportunities and market potential in China. Statistically speaking, our analysis confirms what we have learned from our work at Technomic — that opportunities for our clients in China justify a high degree of confidence, and that U.S. companies have found ways to succeed despite the challenges.
From our perspective at Technomic Asia, there are at least three takeaways from the survey data relevant to U.S. companies thinking about entering China, especially SMEs.
First, they should keep in mind two kinds of risk. There are certainly risks that China-entry could result in IP infringements, shifting interpretations of regulations, and policy changes favoring local competitors. Our data confirm that these are concerns for U.S. businesses here in China (as they always have been). Potential China-entrants should also keep in mind, however, the risk not coming to China. Especially since the 2008-2009 recession, our SME clients have found that they have little choice but to have a China play, if they want long-term growth.
Second, do not be daunted by the China market. Most of the business news coming out of the summit headlined how the China market is getting more onerous in terms of regulation, indigenous innovation policy, and favoritism toward local companies. This completely ignores the good news in the report. The fact is that U.S. companies in China are thriving in China, and confidence in the China market – and the investment based on that confidence – is not directly related to how welcome U.S. businesses feel in their specific industries and product categories. At Technomic Asia, we can help China-entrants, especially SMEs, navigate the complexities of their specific industries, and arrive at the performance U.S. companies reported in 2010.
Third, an objective picture of the China market is necessary. Although reports of solar panel makers, wind turbine makers, and other U.S. businesses hurt by domestic protectionism are certainly a cause for concern, they are not necessarily representative of all U.S. businesses in China. Our rigorous, representative survey data show that this is not the whole picture. Again, while about half of U.S. companies were “concerned” about indigenous innovation, only 10% report negative impact, and there was no variation among those who just feel “concerned.” There are large swathes of the China market where government policy is not nearly as relevant and growth potential remains enormous, and Technomic Asia can help identify these opportunities.
China’s Innovative Way of Skinning the United States!
Mark Twain is credited with an early use of the cliché “more than one way to skin a cat” in A Connecticut Yankee in King Arthur’s Court, as follows: “she was wise, subtle, and knew more than one way to skin a cat, that is, more than one way to get what she wanted”. Thefreedictionary.com defines beggar-thy-neighbor as: an international trade policy of competitive devaluations and increased protective barriers that one country institutes to gain at the expense of its trading partners. Under the guise of fostering ‘indigenous innovation’, the Chinese government has creatively used a non-conventional, subtle version of beggar-thy-neighbor. Its version doesn’t entail the competitive devaluation of its own currency, which would enhance China’s exports and inhibits its trading partners’ exports. China’s version perpetrates an over-valuation of the currencies of one or more of its trading partners. This negatively affects all the trade of the pegged trading partner(s), not just trade with China. During the recent period China pegged its currency to the U.S. Dollar, its version of beggar-thy-neighbor was 8 times as damaging to the U.S. economy as what the media refers to as “China keeping it currency undervalued”.
In November 2003, Warren Buffett in his Fortune, Squanderville versus Thriftville article recommended that America adopt a balanced trade model. The fact that advice advocating balance and sustainability, from a sage the caliber of Warren Buffett, could be virtually ignored for over seven years is unfathomable. Until action is taken on Buffett’s or a similar balanced trade model, America will continue to squander time, treasure and talent in pursuit of an illusionary recovery.