Features : Local Knowledge, Global Sense
The path to running a successful business in China is riddled with ? pitfalls.?
But? with careful?forethought most problems can be avoided.


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Big multinationals have been in China for years. Microsoft, Procter & Gamble, Nokia and other blue-chip companies staked out this territory back when the exotic East more closely resembled the Wild West. But now small and mid-size companies are taking a crack at China. The challenges confronting them vary, but the prize is always the same: a presence in one of the world’s largest and potentially most lucrative markets.

“In China, there are only two rules,” says Jack Perkowski, head of ASIMCO, a China-based manufacturer of auto parts. “Rule No.1 is, Everything is Possible. Rule No.2 is, Nothing is Easy—whether it’s trying to order a cup of coffee with cream and sugar, getting a glass of cold rather than hot water, or trying to understand whether the assurance that ‘I'll try my best’ is actually a guarantee of performance or just another gigantic qualifier.”

Coping with these small but critical daily challenges is what causes many companies to stumble in China. “Some take the approach of running China operations by remote control, viewing them as just another part of a global empire that can be run the same way as in more-developed markets,” says Patrick Horgan of APCO, a consultancy. “These people typically run into trouble because they fail to account for China’s unique characteristics. Others are somehow taken in by the mysteries of the East and believe they have to make a radical departure from the way they conduct business elsewhere.” They put too much trust in a local partner, Horgan says—someone who promises to make problems vanish if only the foreign partner will do things his way. That usually spells trouble. “You shouldn’t be abandoning the same business logic that drives your operations elsewhere,” he warns.

Unfortunately, many companies do. “A lot of people who come to China suspend all common sense when they leave their own borders,” says Jim Brock, who advises companies in China’s energy industry. A self-described “crap detector” with 12 years of China experience, Brock marvels that so many companies fail to perform basic due diligence, even on projects where big money is at stake. “I’ve seen situations where people have built factories where they didn’t have land rights,” he says. “They could have just gone down to the land bureau and checked it, and they would have done so if they’d been back in the United States.”


Contracts? We Don’t Need No Stinking Contracts

Foreign businesses are sometimes led astray by local partners who insist that contracts and permits are unnecessary formalities. Brock finds this galling, especially coming from young and inexperienced partners such as the twenty-something interpreter who informed him that Chinese banks didn’t use letters of credit. “They hit you with this ‘You don’t understand how to do business in China’ thing,” he fumes. “I said, ‘I’ve been working here longer than you’ve been out of high school. Don’t tell me how business is done here.’”

Brock is equally scathing when it comes to foreigners who swallow local advice without performing any due diligence. One of his clients was evicted from a factory for failing to obtain the required land permits. “I said, There’s no mystery here, you just didn’t bother to apply common sense,” Brock told the man. “You’re 55 years old, you’ve done business in six countries, you know better than this.”

Even so, the “Anything is Possible” side of the China equation means there are often back-door methods for getting a deal to go through. Andy Pi, an independent promoter of martial arts competitions, spent three days wining and dining a contact he hoped would help him get the permits he needed to stage an event. Pi, who does not drink alcohol, forced himself to knock back beer after beer during the three-day bacchanalia. The subject of business never came up, but the agenda was perfectly clear. “Any time you go to someone for advice or help in China, it’s basically known that he will sort of get a kickback for it,” Pi says. “He will receive some sort of benefit. No one helps you for free.”

Pi says the whole exercise was a Chinese way of proving he was serious. “I showed him I’m willing to go to hell and back. I will drink, I will throw up, whatever you want. If you want me to get on the table and do a little dance, I will do it. I will humiliate myself to get your help.” Viewed in terms of Western logic, the ritual makes little sense. But Pi says he and his potential partner now have a relationship that makes a later transaction possible.

Back-door strategies can also take a more ominous turn. Mimi Kuo served as editor of Weddings, the mainland’s first nationally circulated full-color wedding magazine. Because all Chinese media are state controlled, foreigners must partner with a local publishing house. In Kuo’s case, a rival publication used its connections at the Ministry of Publishing and Media to harass Kuo’s local partner and threaten to revoke her publishing license. The pressure mounted, and eventually Weddings was forced to shut down. Kuo observes that rather than improving their own magazine to create a more competitive product, her rivals simply killed Weddings using back-door connections—a typical strategy in any Chinese industry where a dominant player feels threatened by an upstart.

In his classic treatise on strategy, The Art of War, military philosopher Sun Tze said all warfare is based on deception. The quotation is equally relevant to Chinese business culture, where the ability to deceive, far from being perceived as dishonest, is prized as a valuable skill.

Nrupesh?Soni worked for two years doing Web design in the southern boomtown of Shenzhen. Like many other foreign businesses, he learned to get payment in advance when dealing with local clients. “They would never honor the contract, they would always break it,” he says. Soni would get half the money up front, design the product, then send clients screen shots to show his work. Only after receiving payment did he activate the site.

“Doing business in the US is like boxing,” says Jeremy Goldkorn of Standards Group, a graphic design outfit based in Beijing. “It might be brutal once in a while, but there is a clearly defined set of rules which most players obey—and if they don’t obey the rules, there are clear penalties. Doing business in China is like pro wrestling, in its most debased, Jerry Springer style. Nobody has heard of the Queensbury rules,” he observes.

The lack of penalties for wrongdoing frustrates foreign businesses that try to redress their grievances in court. Cyrill Eltschinger waged a five-year legal battle to recover money owed him by a client who reneged on a contract. “The legal system is unfit to handle lawsuits at this point,” says Eltschinger, who heads I.T. United, an IT services firm. “If you sue, none of the legal costs or court fees are recoverable, and the injunctions are so low that they don’t function as a deterrent. You’re left financing action after action at your own cost, without ever being able to recoup anything out of it. You’re just in a bottomless pit,” he explains.

Eltschinger won the first case, but it was thrown out on appeal. After five years, his legal expenses were triple the sum he sought from his delinquent client, and his lawyer told him it might take another five to collect. At that point, Eltschinger threw in the towel. Asked if he would do it over again, he says, “I would not even attempt it. It’s a waste of time and effort.”


Paying the Piper…and Everyone Else

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A whole new concept:? Companies such as America’s General Motors are pushing their newest technology into the Chinese market

Then there is the C-word. Corruption is a crime in most developed markets, but in China it’s a fact of life—and frequently a necessity if business is to be done.

“We’re in a corrupt area, and we have to pay the piper,” says Robert Vernick of Pulse Asia, a creator of online games. The piper, in this case, is China’s News and Publishing Bureau, one of three government agencies with which publishers must deal. (Companies that create computer games are regarded as publishers of digital content.) According to Vernick, Pulse Asia and other game creators must bribe the head of the News and Publishing Bureau to get their licenses. They’re not cheap: Bribes range from $40,000 to $100,000—per game. “One guy in the department controls everything,” says Vernick. “There are 80 games waiting in line to get this license, so essentially there’s $8 million waiting for this guy.” Despite the money to be made, Vernick’s quarry remains elusive. “We’re still trying to get in touch with him,” he says.

So what are the success factors for doing business in China? First of all, size does matter. If problems arise, authorities take companies more seriously if they’ve invested millions of dollars and employ lots of Chinese. But even more important is what kind of business you’re trying to run. “Most successful are companies taking advantage of China’s comparative advantage in manufacturing,” says Horgan of APCO. “They have come in with a wholly owned foreign enterprise structure [i.e., no Chinese partner] and already have a well-defined overseas market. That’s a relatively low-risk and good strategy for market entry.” Horgan notes many multinationals that entered China early were compelled to form joint ventures with local partners—shotgun marriages that often turned sour. Moreover, they targeted the market before Chinese consumers had the disposable income to buy foreign products.

Rules and Regulations: How China Stacks Up

 

Entrepreneurs may wonder how China’s regulatory climate compares with the environment elsewhere in the world. Answers can be found in Doing Business in 2004: Understanding Regulation. Released this spring by the International Finance Corporation, the report provides a clear basis for comparison across countries and regions.

Doing Business examines five main indicators of business friendliness:


Starting a business


Cumbersome registration procedures increase the cost of doing business and discourage entrepreneurs from starting companies that create jobs and generate wealth. Doing Business ranks China’s business entry procedures as being reasonably laissez-faire. The cost of starting a business—14% of per capita income—ranks well below the East Asia/Pacific average of 56.8% and close to the OECD country average of 10.2%.

Hiring and firing workers

Doing Business showed China’s regulations on hiring workers were admirably flexible. When it came to letting them go, however, China got the lowest score in East Asia/Pacific, indicating the difficulties that remain in streamlining operations and laying off redundant workers.

Enforcing contracts
Enforcing a contract takes about 180 days in China, compared with just seven days in Tunisia at the low end of the scale and a full year in India at the high end. China’s enforcement procedures were judged to be moderately complex, landing almost squarely on the mid-point of the scale (52 out of 100, with 100 being maximum complexity).

Getting credit and credit information
One area where China came up short was creditor rights and credit information. There are no private credit bureaus, and the existing public credit registry covers only about three potential borrowers per 1,000.

Closing a business/filing for bankruptcy

In countries where bankruptcy is inefficient, failing businesses often remain on life support for years without liquidating. On average, it takes 2.6 years to complete bankruptcy proceedings in China, slightly better than the East Asia/Pacific average of 2.8 years. In Hong Kong, bankruptcy takes just one year to complete; in South Korea, 18 months; and in India, more than 11 years.

 

 

The Chinese obsession with price remains one of the maddening features of doing business on the mainland. Price, almost to the exclusion of every other variable, is what makes or breaks a deal. “When people who have grown up in the United States look at a 100 renminbi bill, they immediately divide by 8.3 to get the US equivalent, and see $12.50,” says ASIMCO’s Perkowski. “But when someone who has grown up in China sees a 100 renminbi bill—no matter how wealthy they may be today—they see something that looks more like $100. This different cost perspective is why international brands tend to be confined to niche markets.”


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It also explains why many professional?service providers remain unable to charge what they would in other markets. “There’s a reluctance to pay for professional services,” says Hunter Xia, a Chinese consultant with an MBA from Dartmouth. “Chinese clients often don’t recognize the value of international experience.” Xia, who helps local companies raise capital, says local clients would rather pay him in company shares than in cash. Weary of fighting this battle, he recently decided to join a Canadian consulting outfit that pays him a regular salary.

Of course, low costs can work to one’s advantage. When starting her magazine, Kuo renovated a 17-room courtyard home and converted it into offices and a bridal shop for about $4,000. “I could never try to pursue something on that scale for such a small investment anywhere else in the world,” she says.

Other advantages include a lack of social barriers. “This is one of the most socially mobile countries in the world,” says Jeremy Goldkorn of Standards Group. “There are no entrenched old-boy networks, there is no Skull and Bones Club. I would not run into Microsoft executives while socializing if I lived in New York, San Francisco or Chicago. But in Beijing I often run into corporate types, entrepreneurs, diplomats and other people it is useful to know as a businessman.”

Old-timers also say the government’s attitude is improving. “There’s been reform here for quite some time,” says Jim Gradoville, a long-time Beijing resident who chairs the American Chamber of Commerce and serves as vice president for government affairs at Motorola. “Just dealing with ministries on regulations, it’s gotten better. The government has begun using Web sites to provide information, so you know whom to go to [to get answers] much better than before. It’s not a perfect situation, but if you’re asking if it’s improved, the answer is yes.”


Winter Wright
 

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