China Law Blog

For the last couple of weeks I have been working on an outsourcing contract for a US/China company seeking to take on a very large China outsourcing project for a rapidly (even now!) growing US retailer. Negotiations have been ongoing with countless revisions.

Last night, I received the following email from my client:

They signed! Now I'm back in china and quarantined for possible pig flu!! Thanks for your help.

Since the inception of this blog, I have refrained from using the old (and badly overused) cliché on China that, "Everything is possible, nothing is easy." I am using it now.

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I often get emails from readers asking me to write about a particular topic. There are two topics on which I frequently receive emails and on which I virtually never write. Proposed laws and China diplomatic meetings with foreign countries.

Just about every time there is a rumor of a major new Chinese law, I get an email from someone asking me to write about it. I virtually never do. This happened most recently regarding the news that China would soon be requiring all computers sold within China to come with built in web filtering software.

I do not like writing about proposed laws for the following reasons:

1. There are so many laws already on the books and being enforced that need coverage more. Laws on the books will impact you right now. Proposed laws may or may not ever come into being.

2. China has a very real habit of saying it will institute a new law and then never doing so. It floats new laws to gauge reaction. If the reaction is negative, the law oftentimes never comes into being.

3. China has a very real habit of instituting new laws and then never enforcing them. This often happens when the new law is negatively received.

I am absolutely thrilled our readership is so internationally diverse, but this also means that I often receive emails from people wanting me to cover their diplomatic relations with China. For two reasons, I never do this because China is always engaging in diplomatic meetings with some country somewhere. I do not see this as news. The press virtually always describes these meetings as positive and they almost always seem to end with a comment on how both countries expect increased trade and how some economic/business/aid package has been agreed to. This is not news. This does not warrant analysis. This is mutual public relations. Move along.

This is not a blanket rule (though I do not think I have yet to cover such a story) and I do reserve the right to cover some future major China diplomatic breakthrough. But for now, I will leave these stories to Xinhua.

Am I off base here?

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Fascinating article at Access Asia on how Western companies are, at the exact worst time, cutting back on their employees in China. The article, "Are Foreign Brands in China About to Give It All Away??" says that many Western companies, run out of places like London and New York, are cutting back on their China operations so as to preserve cash and save money at home:

By and large, in most sectors of the retail business, they had the locals on the run both as brands and retailers. Then last year’s financial crash. Since then two mantras have surfaced – the West is in freefall; China is surprisingly robust. Our sales are declining in the West; growth is still apparent in China. Good news then for those teams in China who did all the hard work over the last decade?

Eeeerrr, no. Head offices from London to Paris to New York and back again panicked – big time. Cuts were demanded; cost savings had to be found – redundancies implemented. And it seems a sort of warped, nonsensical political correctness has been in vogue on the chopping block this season. We’ve seen one experienced brand brand/retail manager after another in China fired and slung out on the street. Why? Every country office must implement a 10% head count cut (it varies from company to company but...), regardless of performance, in the dubious name of “fairness”. The result is that an office in Europe or America, where sales are falling through the floor sacks 10% of management – and then so does the office in China, despite having double-digit growth!! This is apparently fair and equitable in corporate speak at the moment.

The article goes on to rightly point out what a big mistake this is because these Western companies are losing massively experienced employees to their Chinese rivals.

I completely agree with the article's analysis, but this laying off of employees is not at all what I am seeing with my firm's clients. If I had to breakdown what our Western clients are doing in China (and I am admittedly pretty much guessing here because I have not been keeping track, but I do nearly always ask, "how's business?), I would say 60% have frozen hiring, 30% are still fairly actively hiring, and 10% have engaged in layoffs. Of all these numbers, I am most confident of the laying off one because I think we are nearly always called in to assist on the legal aspects of layoffs, but we certainly are not called in for freezes and only rarely are we called in for hiring (because our clients usually can use the employment contracts we previously drafted for them).

So why the big difference? I think it is because most of our clients are small to medium sized entities, none are from New York City or London, and very few are directly connected with either the financial or real estate industries.

What are you seeing out there? Are Western firms laying off employees in China, freezing their hiring, or hiring?

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Just finished a fascinating article in Atlantic by Richard Florida, entitled, "How The Crash Will Reshape America." It makes some very interesting points as to why Phoenix and Las Vegas (and large swaths of Florida) may never recover and why New York, Austin, and Seattle (yeah), will do just fine. But within it, and of great relevance to this blog, is a section on why New York will remain as the world's financial capital and why, despite the projected growth of Asia's economies, we should not expect Shanghai, Hong Kong, or anywhere else to usurp it. At least not for an exceedingly long time.

At first glance, few American cities would seem to be more obviously threatened by the crash than New York. The city shed almost 17,000 jobs in the financial industry alone from October 2007 to October 2008, and Wall Street as we’ve known it has ceased to exist. “Farewell Wall Street, hello Pudong?” begins a recent article by Marcus Gee in the Toronto Globe and Mail, outlining the possibility that New York’s central role in global finance may soon be usurped by Shanghai, Hong Kong, and other Asian and Middle Eastern financial capitals:

Amsterdam stood at the center of the world’s financial system in the 17th century; its place was taken by London in the early 19th century, then New York in the 20th. Across more than three centuries, no other city has topped the list of global financial centers. Financial capitals have “remarkable longevity,” Cassis writes, “in spite of the phases of boom and bust in the course of their existence.”

The transition from one financial center to another typically lags behind broader shifts in the economic balance of power, Cassis suggests. Although the U.S. displaced England as the world’s largest economy well before 1900, it was not until after World War II that New York eclipsed London as the world’s preeminent financial center (and even then, the eclipse was not complete; in recent years, London has, by some measures, edged out New York). As Asia has risen, Tokyo, Hong Kong, and Singapore have become major financial centers—yet in size and scope, they still trail New York and London by large margins.

In finance, “there is a huge network and agglomeration effect,” former assistant U.S. Treasury secretary Edwin Truman told The Christian Science Monitor in October—an advantage that comes from having a large critical mass of financial professionals, covering many different specialties, along with lawyers, accountants, and others to support them, all in close physical proximity. It is extremely difficult to build these dense networks anew, and very hard for up-and-coming cities to take a position at the height of global finance without them. “Hong Kong, Shanghai, Singapore, and Tokyo are more important than they were 20 years ago,” Truman said. “But will they reach London and New York’s dominance in another 20 years? I suspect not.” Hong Kong, for instance, has a highly developed IPO market, but lacks many of the other capabilities—such as bond, foreign-exchange, and commodities trading—that make New York and London global financial powerhouses.

“A crucial contributory factor in the financial centres’ development over the last two centuries, and even longer,” writes Cassis, “is the arrival of new talent to replenish their energy and their capacity to innovate.” All in all, most places in Asia and the Middle East are still not as inviting to foreign professionals as New York or London. Tokyo is a wonderful city, but Japan remains among the least open of the advanced economies, and admits fewer immigrants than any other member of the Organization for Economic Cooperation and Development, a group of 30 market-oriented democracies. Singapore remains for the time being a top-down, socially engineered society. Dubai placed 44th in a recent ranking of global financial centers, near Edinburgh, Bangkok, Lisbon, and Prague. New York’s openness to talent and its critical mass of it—in and outside of finance and banking—will ensure that it remains a global financial center.

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I know I should not admit this, but I find most factories pretty boring. It was not always this way. When I first started practicing law, I loved visiting factories, but the thrill is gone. Within about one minute of watching a basketball game, I have a good feel for the players and for the teams, but I could watch three hours of a soccer game and still not have a clue. Factories are like soccer for me. Beyond overall cleanliness and organization, I really do not have a clue. But, hey, it's not my job.

But for those for whom touring factories in China is part of the job, I highly recommend a three part series over at the China Sourcing Blog. The series is made up of "China Plant Tour Tips - Part 1: Before Coming Over," "China Plant Tour Tips - Part 2: During Your Visit," and "More China Plant Tour Tips – How To Check The Plant."

What do you think?

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Caine: May I ask, master? When I leave the temple, what will be expected of me?

Master Poe: To walk the roads of the land, and use what you have learned for the needs and benefit of the people.

Cain: Will I always know when to act and when to stand off?

Master Poe: That which you do not know, the doing will quickly teach you.

For years there has been talk of Chinese companies coming to America. And for years, my law firm has been involved in such deals that quickly failed over something as minor as the Chinese company refusing to pay more than $5 million for something that was clearly worth at least $50 million.

Not entirely sure why, but Chinese companies have recently started getting much more sophisticated and serious. And FAST.

My law firm just started working on two deals where we are representing Chinese companies seeking to buy minority shares in well established American companies and things are actually progressing rather nicely. But because these deals are still ongoing I cannot discuss them in any detail. But I can discuss a completed deal of which I just read that is quite similar to our two, though on a much bigger scale. The Wall Street Journal just came out with a story, entitled, "Haier to Take 20% Stake in New Zealand Company," detailing Haier's minority share purchase in NZ's Paykel & Fisher.

The deal gives Haier "exclusive rights to sell Fisher & Paykel appliances in China, while its New Zealand counterpart can exclusively sell Haier's products in Australia and New Zealand." Haier says this deal will allow it "to share the marketing, and research and development resources of Fisher & Paykel in the high-end whiteware market." Fisher & Paykel says it will give it "a unique opportunity to fully globalize Fisher & Paykel Appliances and really drive our global expansion into parts of the world that had previously been very difficult for us to penetrate."

I see this as a brilliant move by both companies, as it will almost certainly very quickly achieve the following:

-- Give F&P the money it needs to keep operating.
-- Give F&P easier access to low cost manufacturing.
-- Give F&P easier access to Asian markets.
-- Give Haier a bit of high end panache, thereby helping build its brand and solidifying its reputation as one of China's most respected companies.
-- Give Haier access to F&P's globalization, marketing, and engineering skills.

I see many of the same reasons for the parties in our deals as well and I see a ton more of these deals, both large and small, coming down the pike in the next few years. Get ready.

In fact, a very reputable Chinese PE fund has asked me to be on the lookout for US buying opportunities. This fund is looking to pay between $5 to $20 million for all or a portion of small US companies with a strong brand name that are failing to or unable to take advantage of cheaper manufacturing in China. Its thinking is that it will be able to do exactly what Fisher & Paykel is seeking to do with Haier: cut production costs while also expanding the product's global reach.

What are you seeing out there?

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My firm has always represented a number of fishing and other food companies. The reasons for this are that we are located in Seattle and food companies went international early. by about five years ago, almost all of our fishing clients were doing something in China. Most were either buying farmed fish from there or were shipping over their ocean caught fish and crab for processing there.

One very internationally sophisticated client of ours was doing neither. We were scheduled to meet for lunch regarding problems he was having with one of his Russian deals and my plan was to tell him why he should be sending his product to China for processing, like just about everyone else. I started out with a set-up question as to why he was not shipping his product off to China, where processing would be "so much cheaper," expecting him to follow that up with questions for me as to what he should be doing to get going on that.

Instead, he gave me a great explanation as to why he was not doing it, which explanation is vaguely summarized as follows:

I flew over there a few months ago at the suggestion of ____ and met with three top fish processing plants near Qingdao and Yantai (both in Shandong province, where so many Seattle and Alaska fishing companies ship their product). I saw what they did and the quality was good. But in the end, I decided the savings would not be worth it and here's why. I figured they would save me five cents a pound, but I would be giving up way too much for that. For that five cents, I would be taking away much of my ability to monitor the safety of my product. I would also be incurring the risk of having a large amount of product there right when import duties are raised. Not only that, but as we both know things can go wrong on these foreign deals that just would not go wrong over here. I also do not want to get into a situation where all my product is going over to one country for processing. I like having the processing done here. Yes, it is more, but the shipping logistics are much easier and I am less tied to shipping rates. And you know what, I actually would be willing to pay a little more to keep some jobs in Alaska and to keep using the same people I have been using for so long. I know those people and I trust them and that has to be worth something, right?

I have thought back to that conversation a few times since it occurred. I thought of it when one of our oldest and best clients was driven to the brink of bankruptcy when massive amounts of its fish product were held up for months at US customs during a China food scare that really had nothing to do with them. And I thought of that conversation today when I read a WSJ China Journal post, entitled, "China Flu Fears May Take ‘Natural’ Out of Sausage Casings." Seems US sausage companies have been sending their sausage casing raw materials to China for processing, but with China now banning the importation of US pork products, these sausage companies are facing real production problems:

China last year took in 18,355 metric tons of casings, valued at $65.3 million dollars, based on data from the U.S. Meat Export Federation, whose motto is “Putting U.S. Meat on the World’s Table.” On a volume basis, casings last year accounted for about 35% of variety meats and 11% of total pork and variety meat exports to China.

China has banned imports of pigs and pork from Mexico as well as all U.S. states and Canadian provinces that have reported swine flu cases. U.S. and global health officials have stressed that swine flu cannot be transmitted through pork.

Kevin Smith, USMEF’s director of export services, characterizes the casings dilemma brought on by the trade restrictions as a “priority issue” because of the lack of an alternative market for this kind of processing.

“Right now most of our packer members are faced with the decision on whether or not to continue to produce this product, which would be a huge blow to most of our members’ bottom lines,” said Smith. “Currently, the pre-casing intestines are being packed in salt and stored and that process may at some point be discontinued, forcing packers to potentially render excess volumes of intestines.”

Synthetic casings may be considered as an alternative, said Smith. He said, however, that the quality and system used in China makes natural casings cheaper.

I am absolutely not saying do not outsource to China, but I am saying that in measuring the rewards of doing so, one should also mindful of the risks and try to put some monetary amount on those risks, including those that cannot yet even be determined.

What do you think?

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Homer Simpson: When I held that gun in my hand, I felt a surge of power…like God must feel when he’s holding a gun.

Homer Simpson: "But I'm angry now!"(upon being told there is a three day waiting period on the gun he just purchased).

I love talking about guns with Asian lawyers because their views on them are so....so un-American. Let's face it people, most Americans love guns. (This week's passage of a law allowing guns in National Parks is further proof of this.) And we Americans have a history with guns and an attachment to guns that is probably unique. Asian lawyers tend to be fascinated with this. And their assumptions about who carries a gun in the United States tends to be way off. I get a kick out of telling them about a relative of mine who owns about a thousand guns and another relative of mine who once put a gun to the head of his sister's boyfriend who was tapping on her window. Right when I see the shock in their eyes, I tell them that the relative with the massive gun collection is one of the nicest people I know and that he has never shot anyone. Oh, and the relative who stuck the gun to his sister's boyfriend's head. He did that thinking he was a burglar, but, to his credit, he gave the boyfriend a chance to identify himself, which he did. Oh, and he ended up marrying the sister too.

And then I tell them about all the lawyers I know who carry guns. There was my former partner who was always a bit paranoid. He was convinced that the Russian mob had a hit out for him and so he got a concealed weapons permit and he was always "packing." Then there was another lawyer I knew from Montana who thought it "uncivilized" to not be carrying a gun at all times so as to be able to protect anyone who needed it. There are many more. I then explain that many people in the United States who do not have a gun do not do so out of opposition to the right to bear arms, but because their own cost benefit analysis says they would be safer without a gun than with one. Like it or not, ours is a gun culture.

I had this discussion the last time I was in China and one of the lawyers (in front of many other Chinese lawyers from his firm) said it is a good thing China is so tough on guns because if it were not, there would be 1.0 billion people in China, not 1.3 billion and everyone knows who the .3 billion would be and that is why the government is so tough on guns. I raised my eyebrows, smiled, laughed, and then said nothing.

Apparently Chinese government toughness on guns is declining as reports of guns in China seem to be increasing. James Areddy, a crackerjack China reporter for the Wall Street Journal, recently blogged on this in a post entitled, "Bang! Bang! Shots In Shanghai." The post is mostly about a recent gunfight in Shanghai but it also discusses other violence in China involving firearms. For more on guns in China, check out this 2008 WSJ article.

So what's up with guns in China?

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So I just got an email from a friend criticizing me for being "relentlessly" upbeat during the "world downturn." He wrote this email after my post yesterday touting how China's stimulus has been a giant positive. He tells me that I am losing credibility by acting as though things are "great all over." Though "we" have at times described him as the kind of person who walks around with a cloud over his head (and complains about it), this is my response.

1. I wrote just one post on how China's stimulus is working. Short term.
2. I said nothing about how great things are going in Pakistan, how truly enlightened Saudi Arabia is becoming, or how I'd rather be in North Korea (man, I have to get one of those shirts).
3. I am dedicating this post to my clients who have vanished.

Yes, there is a horrible economic downturn going on right now and China related and international businesses are absolutely not immune. My last post focused on clients booming right now due to China's stimulus. This post is going to highlight companies that are either gone or on the verge of being gone due to the downturn. I am again going to be incredibly vague (and in some cases intentionally inaccurate) so as to make certain no company will be recognizable. You will simply have to believe that the core facts are accurate enough to paint a realistic picture of what is going on out there.

Here's the list of hurting companies I have dealt with over the last six months or so:

1. A yacht manufacturer. This was our first client to go. It was a great company but it had been teetering for more than a year. Too many of its potential customers disappeared and too many of its real customers lost their financing mid-build. Quality control problems from China did not exactly help.

2. A video game company. This company had been doing great for years, but it came out with a new game that did not meet expectations and the banks that had during the bubble been begging to loan this company millions were now unwilling to give them a penny. The banks got way too conservative on this one.

3. A very large US food importing company that got hit with a perfect storm of problems, including losses caused by its Chinese product being held at customs much longer than usual due to concerns about China quality and getting hit with retroactively applied anti-dumping duties.

4. A company that had lined up 5 investors who were each going to contribute $1 million to allow it to become the first company to import a Chinese product that would have cost about half the US version and probably would have sold very well. Problem was that two of the five investors backed out after the downturn.

5. VC funded software company whose funding was cut off with the explanation that "you are a great company, but you are at least three years away from being cash-flow positive."

6. Formerly big company whose work force has shrunken so much that it is doubtful the company can survive. I called there the other day to see where it was in its plans to outsource more to China and was told they did not even have enough money to explore that option anymore, even though doing so may be necessary for long term survival.

Many of these companies are/were long time clients and long time friends. Most had done many things right for many years. I wish I could somehow blame the companies for their plights as that would make it all more justified, but with very few exceptions, I do not think they did anything wrong, except maybe pride themselves too much on their independence. Some of them may/will come back in different iterations, but some almost certainly never will.

It's sad.

What are you seeing out there?

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“Who’s going to turn down a Junior Mint? It’s chocolate, it’s peppermint, it’s delicious. It’s very refreshing.”
Cosmo Kramer, Seinfeld, episode #60

When I was in law school, I was rankled by students who complained about how busy they were. I mean, we were all taking pretty much the same courses. I swore I would never engage in that whine and I never did.

Bloggers who apologize for being too busy to post also rankle me. I swore we would never make that excuse on this blog and for more than three years, we haven't. But today, talking about how I have been too busy to post much is the perfect segue to this post and so I cannot resist.

The reality is that my firm has been crazy busy of late and it has been due mostly to China's stimulus. Now I am not a big fan of government intervention and I see government stimuli (that is the plural of stimulus, I looked it up) as the equivalent of a sugar rush (see Junior Mints above), but man, while it is happening, it is even better than chocolate.

My firm is getting stimulus work both coming and going (and if you see any sexual innuendo in this sentence I can't help you). I am going to have to be vague here (and even mix the facts up a bit) because none of these matters are out there in the public realm yet (though one is likely to hit the media any day now), but the following is what has been keeping me down/up lately:

1. We have been working on a large deal for a Chinese company that received a China bank loan along with pretty strong "instructions to do a deal in the United States."

2. We have been working on a large deal for a Chinese company here in the United States that was able to severely undercut the pricing of its competitors because it recently started receiving Chinese government subsidies to do these sorts of deals outside China.

3. We have been working with a Chinese company looking to establish a factory on the West Coast, again, pretty clearly at the direction of the Chinese government, which has loaned them a boatload of money to do exactly this.

4. We have been working on a China joint venture for a US big equipment company (this is meant to be vague and is not the same thing as heavy equipment) that was asked to go into China by a Chinese company to take advantage of the massive uptick in need for this sort of equipment due to increased Chinese government infrastructure spending.

5. We have been working with a US company whose sales of big equipment (vague again) into China have doubled in the last six months due to increased Chinese government infrastructure spending.

And, needless to say, it's not just us. The Wall Street Journal did a story on this about a week ago, entitled, "China's Stimulus Spurs U.S. Business," but hey, I was too busy to write on it then....

China Stakes notes that China's overseas investment in 2009 will, for the first time, very likely exceed incoming investment into China.

Junior Mint, anyone?

What are you seeing out there?

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David Dayton over at the Silk Road International Blog has a great post on sourcing from China, entitled, "Smart Steps for Effective Sourcing in Tough Economic Times." It is an outline of a presentation he gives at Global Sources China Sourcing Shows.

My biggest complaint is that David leaves his most important comment for last: "Get your lawyers involved early (just to be safe)."

The highlights:

-- Chinese factories have been stiffed for payments. "Don’t go into China with the attitude that 'hey, they should trust me, I’m from the developed country, I’m the one that doesn’t trust you.' The roles have been reversed. Dramatically."
-- The economy has led to consolidation. "Lots of smaller, borderline quality factories have gone out of business." I would add that lots of smaller, borderline factories are still in business and you have to be very careful not to do hook up with one of these.
-- "Money from the banks is mostly pushed through local governments and their connections. The money is targeted to specific industries/areas (e.g. Western China and green and higher tech products)." This is so true. Greentech and hightech in China is going great guns right now and there are all kinds of subsidies offered in these industries, both for domestic and foreign companies.

David sees the following opportunities (as do I):

-- Factories that are still in business have employees and need to pay for them so they will be aggressively looking for new orders."
-- Well-connected factories have access to cash.
-- Factories and equipment are for sale/rent at rock bottom prices.
-- There are lots of opportunities for joint ventures.
-- Factories are willing to do projects with creative terms—so long as they have some financial guarantees.
-- Factories are willing to do smaller production runs than in the past.

I have seen all of the above and I have also seen something else that David does not mention and that is declining prices both for new contracts and even on existing contracts. We just worked on a renegotiated contract that had another eight months to run on it. Our client signed up for another year and by doing so received a double digit price reduction.

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For months and months and months and months, my law firm had not been involved in a single China commercial real estate deal. Not one. Sure, we assisted a foreigner or two in buying (or selling) a condo in which to live, but nothing at all on the investment front. Now, just in the last month, we are in the midst of a number of such deals (for a number of clients old and new) and

I read the news and the news says commercial property (retail, office, industrial, etc.) is not selling in China. And I know all real estate is local, but our new deals are in cities where the news clearly applies.

All of our new deals involve foreigners taking out very very long term leases (rather than "buying") office buildings in need of renovation in great locations. All of these deals involve fairly small buildings (certainly small by China standards) owned by Chinese developers who want out. Our clients are small to mid-sized foreign developers who have their "own people" standing by to do the work necessary to renovate and upgrade these buildings (for between $3 and $8 million) and all of them have already lined up some foreign businesses who want to move in. The plan is to rent out space to at reasonable rates to foreign companies that want nice space (but not top of the line) in a great location, with a reliable landlord.

Is this an uptick in the market, a trend, or an anomaly? Is this a sign of an uptick, or just companies carving out a previously underexploited niche?

I am not sure why this is happening now. When I ask the people in my firm working on these deals (I myself have not dealt directly with the clients on all but one of these), the response I get is something along the lines of good opportunities to make a "decent return." But why now? Is real estate reaching a bottom? Are Chinese property owners needing to sell (I should say lease out for the long term)? Are Chinese property owners realizing they need to price their properties at today's prices and by their doing so sales (long term leases) are being stimulated?

Since real estate seems to be reviving, I will trot out the four part series we did on China's real estate laws, back when they were revamped:

Part I, Introduction, is here. Part II, General Principles, is here. Part III, Rules Of Real Property Ownership, is here. Part IV, Real Property Use Rights, is here.

What is going on out there? Oh, and please remember, I took some heat only a few months ago for being pretty pessimistic on Chinese real estate.

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Three days ago, I did a post entitled, "China Visas. I'm Getting Deja Vu Olympic Feelings," in which I talked about having heard from clients of difficulties in getting their China visas:

One of the great things a about being a lawyer is that we hear all kinds of things from our clients and potential clients. And then when we start hearing those same things on the blogs, we know something is up. I am hearing a lot of things about the difficulty of getting anything but a three month visa.

I actually got a call from a potential (very broadly defined) client the other day wanting our help in getting him a one year visa. He "owns" a business in China and it is "absolutely critical to the point of it being do or die" that he be in China at the end of May. He had applied for a business visa (an F Visa) and been turned down cold and essentially told not to bother coming back until 2010 to try again. We talked a bit about what he was doing in China and it turned out he had set up an internet business with a Chinese "partner" where, on the books, his Chinese partner owns the business entirely, but this American has an oral agreement with the "100% trusted"Chinese partner that the business is really owned 50-50.

Yesterday, the mainstream media and the Chinese government essentially confirmed the crackdown. A Vancouver Sun article, entitled, "China to begin security crackdown," writes on how the goal of providing a "harmonious environment" leading up to China's 60th anniversary celebration is causing the brakes to go on the issuance of visas. Like me, the writer of this article sees this visa tightening as similar to what happened with the Olympics:

It is a move reminiscent of the ramped-up security ahead of last summer's Beijing Olympic Games in which hundreds of "dissidents" were detained and such tight visa restrictions enforced that hotels in Beijing, which expected to reap windfall profits from increased tourism, found they had rooms going begging.

It bears repeating my "bottom line" from my previous post on this:

Bottom Line. There are three very important things that should be taken away from all this. One, if you need certainty in terms of being able to get into China, you cannot rely on either an F visa (business) or an L visa (tourist) for that. Two, if you need certainty in terms of being able to get into China, the solution is usually to legitimately set up your own company so you can get a Z visa (employee). Three, and probably most important, is that the Chinese government will nearly always place politics and stability over economics.

Update: The Financial Times just came out with an article pretty much confirming all of the above.

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China Law Blog's Steve Dickinson recently did a China Economic Review column on China's efforts to move away from being an "export-led" economy. The column is entitled, "No Turning Back," [subscription required] and its thesis is that despite the economic downturn, China's overall macroeconomic plan is still moving forward.

Steve starts out by noting how the recent session of the National People's Congress has made clear that China is not backing down from its plan to move away from export-led growth:

For all the pledges of support for struggling manufacturers, the surprise package of the recent session of the National People’s Congress (NPC) was actually a definitive rejection of the export-led growth model. While China will obviously remain open to foreign commerce, Beijing’s response to the global economic slowdown is to emphasize even more strongly the role of domestic consumption and domestic investment in maintaining growth.

Many foreign observers expected that the pressure to maintain rapid economic expansion would
see the government resurrect policies promoting exports and foreign investment, unwinding recent attempts to move in the opposite direction. In clearly rejecting this approach, Beijing has laid plain its intentions for development.

Presenting the government work report to the NPC delegates, Premier Wen Jiabao reaffirmed the fundamental macroeconomic targets – economic growth, employment and inflation forecasts are virtually identical to those listed by Wen for 2008. The goal is therefore to manage the Chinese economy so that there will be no negative impact from the global economic crisis. Deficit spending, domestic investment and domestic consumption are primary means of achieving this.

This move towards the domestic market is true even for manufacturing:

Even the measures intended to support manufacturing emphasize production for the domestic market. Export production will shift from outsourcing for foreign companies to manufacture of domestically designed products.

Foreign investors interested in China need to account for this shift towards the domestic market and recognize what is still very much open to FDI and what limits it:

It is critical that foreign investors understand this policy shift. To many, it seems inevitable that the economic crisis will push China back to the foreign-directed policies of the previous development model. But the events of the NPC session in March show that Beijing is resolute in its desire for a future driven by the domestic market.

This does not mean the doors will be closed to foreign investment. China will continue to comply with the strict requirements of its WTO commitments. It will remain open to greenfield investments in manufacturing, retail and service businesses. It will continue to improve its intellectual property regime and the efficiency and fairness of its court system.

Certain limitations on foreign investment will remain. M&A as a vehicle for FDI is highly restricted. New tax policies severely limit tax incentives aimed at promoting foreign investment, while a stronger focus on transfer pricing and related issues is designed to increase tax revenue from foreign operations. Direct foreign investment in real estate is difficult; in
high pollution or high energy consumption primary manufacturing it is prohibited; and in low-technology, low-skill, outsourcing oriented manufacturing it is discouraged. Employment law directed at minimum wage, working hours and worker safety continues to be
strictly enforced, raising employment costs.

Foreign companies looking at investment in China must consider the current policy carefully.
Investors who are able to participate in the domestic-led growth policy will have enormous opportunities in 2009 and beyond. Unlike many countries in Asia, China is remarkably open to
foreign investment and participation in these internally oriented projects.

China's National People's Congress has a long and consistent record of setting out China's economic goals and moving the country to fulfill those goals. There is absolutely no reason to think things will be any different this time.

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I am being serious here.

I just recently got back from a China trip with my eleven year old daughter. Like most 11 year old girls, she loves to shop for clothes and she really is quite knowledgeable about them. Though we went to other places as well, she did her clothes shopping in Shanghai, Beijing, and Seoul, Korea. She did virtually all of her buying in Seoul.

Here are my findings and questions based on what I saw of and heard from my daughter.

1. The clothes that she liked that are also available in the United States, were pretty much the same price in China as in the United States. I do not understand this. I am pretty certain retail rents are considerably higher in the Seattle (where she does most of her shopping) than in most places in Beijing and Shainghai and I am absolutely certain the wages of the salespeople are considerably higher in Seattle (where everybody makes at least $8.50 an hour) than in Beijing or Shanghai. I also think the taxes are about the same. Now since the clothes are mostly made in China, should not the prices at these stores in China be less than in the United States?

2. There was absolutely nobody in any of the high end clothing stores. Nobody. It was weird, particularly considering there seemed to be a Burberry or Gucci or whatever store almost every block.

3. The Chinese stores that had clothes my daughter liked were very expensive. There were incredibly few stores with what I would call "original Chinese clothes," defined as clothes one could not find easily in a place like Seattle. Most of the stores that had nice clothes had stuff that one could fairly easily find in the states. Were we just missing the stores with reasonably priced, well made and cool Chinese clothes?

4. She wanted to buy up all of Seoul. There she was able to buy really great clothes at reasonable prices. I know Korea has become a real leader/trendsetter in fashion and art in Asia, so why were these clothes not in Beijing and Shanghai? Or are they in Beijing and Shanghai, but just for a lot more money or did we just not know where to look?

I am writing about this because I see this as somewhat endemic of China retail. The cheap stuff is just not worth buying and the good stuff costs at least as much as in the United States. I do not understand the economics at work here. Do you? Please explain....

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Interesting post by Andrew Hupert over at China Solved, entitled, "Selling China to the Accidental Expats." The post is intended to instruct China consultants on how they should handle calls from American companies that have now decided they must take advantage of China's growing market. But it also makes some very good points for those American companies as well.

Andrew starts out by defining "Accidental Expats":

I call them Accidental Expats. They are the American business owners and senior managers who had never really considered setting up shop in China – not while the US market was big & active enough to support their growth strategies.

They’ve got nothing against China per se. They just used to consider it an unnecessary risk and huge inconvenience. But now, of course, times are changing. I’m already starting to hear from lots of Americans I haven’t spoken with in a while. When I first moved to Shanghai they had no idea why I was doing it. Now they want to know how they can do it.

He then describes what comforts these Accidental Expats:

Remember – these are the guys who never really wanted to be here before – even during China’s previous booms. These are the head-down, show-me-the-numbers business owners and managers who aren’t easily impressed by big numbers and pie-in-the-sky stories of 1.3 billion customers.

* * * *

They want to hear about process, safety, QC and regulations. These Accidental Expats want the facts about set-up and operation. It’s important to take a balanced approach – don’t scare them away, but don’t talk about how easy it is. Your value is in being able to provide solutions to problems that they don’t know they have yet.

He then gets down to the brass tacks. Money. More particularly, the tendency of companies looking to go into China to grossly underestimate the costs of doing so:

Goal-setting is their No.1 challenge – and your main value to them. US business owners are probably going to try to get very granular and specific way too early in the conversation. If you want to avoid difficulties later in the process, you are strongly advised to start the China conversation by making them come up with realistic goals – and a budget – for their China entry. Westerners will talk your ear off about profit splits and market plans – but if they don’t know how much money they have to invest in China or what they expect to get out their investment, then someone has a problem. Make sure it’s not yours.

This is so true. I would estimate that about half of the companies that call my firm with China plans have completely failed to account for at least one large financial piece in their plans. Sometimes it is the minimum capital required to form a WFOE (which in some cities starts at around USD $250,000. Sometimes they completely ignore the 30 to 40% in employer taxes that must be paid on employee salaries. Other times, they wrongly believe it will be "no problem" for them to staff their China company with independent contractors on whom they will not have to pay these taxes nor have to fulfill the requirement of written contracts and a written employer/employee manual. Other times, they wrongly believe they can start out without having to rent any space specifically for the business. Then there are the companies who simply never realized that just as is true in the United States, they cannot just go into any business without a specific license or import or use any product without approval.

Andrew concludes his post by advocating the following for these companies with China pies in their eyes:

If your home-town connection is still in the ‘big-picture’ stages of his China plans, then the best thing you can do is persuade him to invest in 10 day trip over here. Don’t try to plan a China business for someone who has never set foot in Mainland China.

I completely agree, but would add that after returning stateside, these companies should next retain a top tier China consultant to work out the real numbers.

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I am in the middle of a post on why the Chinese drywall cases are no big deal but I can't seem to get out of my head a very short post over at Letter From China. The post is entitled "Hutong Economics," and it very briefly (I know I earlier already described it as "very short") discusses the opening and closing of a tiny Beijing food stand, all within an eight week span.

I can't get it out of my head because I am convinced there is some conclusion to be drawn from this post, yet I keep coming up empty. Does this reveal the impatience of Chinese businesspeople? Does it show that what is true of the United States is also true of China, that small businesses frequently fail because they are undercapitalized? Does it show that it takes more than eight weeks for a business to garner a reputation and to thrive? Why do you suppose "Letter From China" (conspiracy anyone?) failed to reveal the quality of the food produced at this stand and how much of a factor was this in its failure to thrive?

As always, comments welcome....

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The other day I did a post, entitled, "China Business. Which Comes First The Wealth Or The Low End?" on a discussion I had with Jack Perkowski regarding China's low end products market, how huge it is, and how foreign companies should not simply concede it to local companies. At the end of my post, I asked whether China's playing field (I mostly focused on the tax/legal field) precludes foreign companies from succeeding on the low end and whether that market even makes sense for foreign companies.

In a post entitled, "Competing in China's Local Market," Jack weighs in with some excellent responses. His main point, with which I completely agree, is that whether you are going to compete in China's low end market or not, you had better know about that market and how it might impact your product. Jack's thesis (I am basing this as much on our meeting as on his blog post) is that eventually, most of the Chinese companies that are now strictly low end will be bumping up against or even entering your high end market and you had better be ready for that:

Whether a company chooses to try and compete with Chinese companies in the country’s low-end market or not, it should clearly understand that this market exists, and it should have a clear view as to how its future development may threaten the profitability and future potential of its existing business in the high end. Make no mistake about it: it will have a major impact.

Jack also makes the point that even in the low end market, the winners are not necessarily the absolute cheapest producers. Affordability is at least as important as price:

Although cost is an important factor in China’s local market, there is ample room for foreign companies to compete successfully and differentiate their products from the local competition in terms of quality, technology and service–as long as the prices of their products are affordable. Even in the highly cost-conscious local market in China, many customers prefer to buy better quality products that are affordable, and will shun shoddy products, although they may be cheaper.

On the flip side, my friend Shaun Rein (who likes me so much he came to Seattle the very same week I was in Shanghai, where he is based), is quoted in a Forbes Magazine article on how foreign companies need to increase their focus on selling to China's increasingly wealthy and free spending 30 and under crowd.

I agree with both Shaun and Jack and I do not see their views as conflicting. What do you think?

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The Financial Times just did a story, entitled, Fears rise on China groups’ payments on how private Chinese companies are being negatively impacted by the credit crunch (h/t to China Economics Blog). China's credit crunch is already having a large impact on American and European companies that do business with China and I see that impact only growing.

The FT story makes the following key points:

-- A rapid deterioration in the ability of Chinese companies to pay their suppliers "is significantly increasing the risk of doing business in China."

-- Chinese companies are facing "a liquidity crunch" due to China’s plummeting exports. "Many of them were also unable to access bank loans to tide them over the tough times, especially if they were small to medium-sized private businesses."

-- Though Chinese banks have "ample liquidity," they usually do not lend to small private companies.

-- Many Chinese companies have turned to their suppliers for credit, "thus forcing the pain up the supply chain."

-- Chinese suppliers are extending credit now more than a year ago. This is "bad credit management." “Now is not the time to extend credit, it is time to restrict it.” "Most Chinese suppliers, however, have never experienced such a downturn." “A lot of these companies never had to deal with the problem of not getting paid, because sales had always been increasing,” he said, “There’s not enough financial resource, not enough management.”

1. A increase in the number of Chinese companies lacking funds to produce goods as promised.
2. An increase in the number of Chinese companies cutting quality corners and then explaining they had no choice due to "hard times."
3. An increase in the number of Chinese companies shutting down after receiving payment for an order.
4. An increase in the number of Chinese companies/attorneys contacting my firm trying to figure out how to collect from American companies.. Virtually without exception, however, these companies and lawyers are completely clueless as to what it takes to collect. In most cases, the Chinese company is poorly positioned to collect.
5. An increase in the number of American companies/attorneys contacting my firm trying to figure out how to collect from Chinese companies. With very few exceptions, these companies are poorly positioned to collect.

So how does all of this impact you, the foreign company doing business with China? And what must you do about this? The following:

1. Seriously investigate any Chinese company with which you are going to do business.
2. Be even more wary of paying any Chinese company in advance. Shockingly, Chinese companies are more willing to extend credit today than they were six months ago.
3. Use a contract with your Chinese suppliers that protects you. A great contract is not a panacea, but a bad contract or no contract at all pretty much guarantees your money is history.
4. If you owe a whole slew of companies and some of those are Chinese, odds are good that your best bet for non-payment are the Chinese ones.

It's not dark yet, but it's getting there....

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Had breakfast yesterday with Jack Perkowski, author of the book, Managing the Dragon, and the blog of the same name. Jack recently left as CEO of Asimco Technologies to start JFP Holdings, "a merchant bank for China." Jack has been doing business in China for a long time and he clearly knows whereof he speaks and I found his stories on China business fascinating and enlightening. Much of our discussion was about the still nearly unlimited business opportunities in China, particularly in health care and green tech, and of how it is now pretty much a given that Western companies must go to China for growth.

We also talked about how there are essentially two markets for so many products and services in China. There is the high end market, which is pretty much the equivalent of that in the places like the United States, Western Europe, and Japan (which, for simplification purposes only, I am going to call "the West"). And there is the low end market, which essentially has no equivalent in the West. China's high end market is typically way way smaller than the low end market. The high end market seeks out Western made goods at typically Western country prices. Prices in the low end market might be as little as 25% of those in the high end market. A classic example is cars. BMW, Buick, Honda, and Volvo and various other Western manufacturers would be the high end. QQ, Chery, and various other Chinese auto manufacturers would be the low end. Jack told me of an American client that makes a product in the United States that can test for 8 or 9 items. This company sells its product in China and when Jack asked who its China competitors were, the client named General Electric and a few other well known Western brands. Jack then asked if there were any Chinese manufacturers and the client listed about fifteen, but then added that the products from the Chinese manufacturers could test for only two or three items. But the China market for the two to three item testers is bigger than that for the 8 to 9 testers.

Jack and I then agreed that, inevitably, within a few years, the Chinese companies would soon be making 8 and 9 item testers at a price lower than that of the foreign companies. Jack then talked about how the American company would need to start making its testers in China and start making two and three item testers to compete with the Chinese companies at the low end. We then talked about how low end products can get companies in the door and build brand loyalty (look at how the Japanese car manufacturers got their start in the United States). I asked Jack if Western companies can really compete in China at the low end and he said "yes." I then asked him if it is worth it to Western companies to compete in China on the low end and Jack answered "yes" to that as well. He then explained how if this is to happen, the foreign companies would have to operate more like Chinese companies and bring in Chinese management (especially in the purchasing department) willing to fight hard over every RMB.

I wish I had questioned him further on these points.

With very few exceptions, all of my firm's successful China clients that are making money by selling in China are doing so by providing high end goods or services at high end prices. Most of these companies very wisely retain their foreign names in China and they highlight them. They generally make very little effort to compete on price with Chinese companies, figuring that if they do, they will get slaughtered. I recall Bill Russo, former Regional Vice President for Chrysler in China, telling me that everyone in China aspires to own a foreign car, but most end up buying a Chinese car because of the huge price differential. I think Bill is right on this and as China's wealth increases, this has to mean foreign car sales will increase as well.

Just a few weeks ago, I had essentially the following conversation with a very successful small, somewhat labor intensive American business in China. This company had just been told by the local authorities that it had to "get legal" because "its Chinese competitors were complaining about the American company that was not operating legally." In very cleaned up and simplified form, here is our conversation:

Company: Local government is telling us that unless we get legal.... and fast ....they are going to shut us down.

Me: Okay. What's "get legal" mean.

Company: Register our business in China. Get on the grid for taxes, etc.

Me: Okay. No problem.

We then talked a bit and it very quickly became clear that the first thing this company needed to do was to register as a Wholly Foreign Owned Entity (WFOE).

Me: We can register you as a WFOE, no problem, but this is going to mean you are going to have to pay in minimum required capital, probably of around $240,000.

Company: That's a lot of money for us, but we can do it if we have to.

Me: We will see if we can get it for less and it may be possible as China is certainly more interested in getting foreign businesses now than it was a year ago. How many employees do you have?

Company: Sixty.

Me: You realize you are going to have to start paying all sorts of taxes for those employees.

Company: Yes. All of them?

Me: It certainly sounds to me like you are going to have to pay all of them. It sounds to me like you have the local government breathing down your neck right now and it is doing so because your competitors have asked it to. Right?

Company: Yes. That is exactly what is going on.

Me: Now you realize that typically, these employer taxes mean that for every 100 RMB you are paying your employees, you are going to end up paying an additional 35 RMB or so in various employer type taxes. On top of that, you are going to have to start paying corporate taxes.

Company: I've heard that, but if I really have to do that, I am going to get killed. There is no way I can compete with the Chinese companies if I am going to have to pay all those taxes. There is just no way. If I am going to start paying those, I am going to have to raise my prices so high nobody is going to come in here any more. This isn't even fair. I am certain non of my Chinese competitors are paying these taxes, I just know it.

Me: Yeah, you could very well be right.

Company: So what am I supposed to do?

Me: Isn't it pretty much the case that if you don't register as a WFOE and start paying your taxes you will be closed down?

Company: Yes.

Me: Do you really have a choice?

Company: This is ridiculous though. The whole system is set up so that foreign companies cannot compete.

Me: (thinking this, but realizing there is no point in saying it). Well actually, the system is now set up so that you and the Chinese companies actually are supposed to pay pretty much the exact same taxes. The problem isn't so much "the system" as the way "the system" actually functions in real life.

Company: I am going to have to figure out how I can justify higher prices to my customers....

So a few questions:

-- Can foreign companies compete on the low end in China? Obviously this is going to vary by industry and I would love to hear from people in as many different industries as possible.
--Should foreign companies even bother trying to compete on the low end in China and, if so, in what industries?
-- Is there enough high end business in China now and is that high end growing fast enough such that Western companies can ignore the low end?
-- Or, will a failure to garner the low end now preclude garnering any end later?

Update: Just read an interesting China Solved Post that touches on these issues. The post is entitled, "Marketing to the RCMC. The Real Chinese Middle Class."

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Make no mistake about it, even in these allegedly enlightened times, a whole lot of stereotyping and ethnic profiling goes on in international business. The other day, I was telling an American client how it was time for us to look start seizing assets of a Norwegian company that owed my client a lot of money and appeared to be making no effort to pay it. My client's explanation for not wanting to pursue litigation was that he has been dealing with Norwegians for twenty years and when they can pay, they always do: "I am not going seize assets from a Norwegian company."

In the last six months or so, I have started hearing a lot of wrong-headed ethnic profiling from Asian companies (mostly Korean and Chinese) who are telling me they always believed American companies always pay. Sadly, some of these companies literally built their businesses on this belief, not even imagining that things could be otherwise. Let me explain.

I met with a Chinese company owed mega-millions by a US company and its story, though sad, is surprisingly typical. This company makes one fairly expensive product. It started out mostly exporting this product to Korea, Vietnam and Thailand. Soon it realized it could sell this product for a tiny bit more to the United States. Soon it realized it could huge quantities of this product to one good-sized American company, that, in turn, would essentially distribute it through US retailers. Soon, this Chinese company pretty much ceased selling its product to anyone other than this one large US company. It still sold to Korean, Vietnamese and Thai companies that would place orders, but it completely ceased trying to expand its business in those countries.

Now the problem. The US company has owed the Chinese company mega-millions for months and yet still wants to buy more product on credit. The US company has a good reason for being unable to pay and there is the possibility it will at some point be able to do so. But, right now, this Chinese company is hurting so badly financially that it is questionable whether it will be able to stay in business. It is trying now to revive its sales channels to other companies in the United States and in Asia, but now is not exactly the best financial climate for capturing new customers.

When I asked them why they were coming to me so lot for ideas on how they could assure payment from this American company, their response was that "they never even imagined it would not pay: "We thought American companies always pay."

This company has export credit insurance from the Chinese export insurance company and there was a time where that government owned company paid fairly quickly on such claims. Now though, it is not paying, instead it is claiming it needs to try to collect the money from the American company first. I have dealt with these Chinese export insurance companies and seen them in action enough to be able to give the following advice to this Chinese company:

1. You might get paid by the American company in time to save your business if the money the American company is expecting comes in.
2. You might get paid by the American company in time to save your business if our suing it persuades it to pay you before its other creditors.
3. You almost certainly will not get paid in time to save your business if you wait for the China export insurance company to get paid by the American company and then pay you.

Things are tough out there. What are you seeing?

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The South China Post did a story today on China's having used its antitrust law to block Coke's purchase of Huiyuan. The article is entitled, "China raises chills as Coke bid bottled up," and it talks about whether the blocking of this deal will signal the death of foreign private equity investments in China.

My view is that it absolutely positively will not. In fact, a private equity company contacted me today regarding its desire to purchase a relatively small Chinese niche food company. They asked whether I thought the Coke deal would have any impact on their purchase and I predicted it would not. I told them I thought the company it was seeking to buy was way too regionalized, way too small, and way too insignificant in China's grand scheme of things for their to be any linkage at all with Coke's failed deal.

The South China Post hints otherwise, but I attribute that to same-day overreaction:

The article makes the requisite mention of how "US private equity firm Carlyle Group" was unable to buy a controlling stake in tractor parts maker Xugong "after three years of bureaucratic hold-ups" after "Chinese media raised eyebrows abroad by claiming repeatedly that Xugong was a 'strategic' national business." It then quotes Tang Hao of H&J Vanguard Consulting Group saying foreign investors had thought juice was "not a sector that involved economic or national security issues."

CLB's own Steve Dickinson is then extensively quoted:

Steve Dickinson, a partner at US law firm Harris Moure who has advised foreign investors in China since 1979, said the deal provided false hopes Beijing was opening up to foreign buyers.

"After the decision, I think leveraged buyout funds that have set up in Hong Kong will go home," he said.

International buyout funds with local offices include US giant Blackstone Group and Europe's largest buyout house, Permira, as well as Carlyle. Blackstone posted a US$1.33 billion loss last year.

"It's anyone's guess whether those large funds will stay [in China] or, given the problems back home, just focus on the US and Europe," said Simon Littlewood, the chief executive of venture capital firm London Asia Capital.

* * * *

Some foreign investors may treat the Coca-Cola setback as a one-off decision. "It may be that lawyers realise after analysing the decision that, in substance, there is a very meaningful market share Coke could gain," the China head of a western buyout house said.

Andrew Pawley, a corporate finance director at accountancy Baker Tilly, added: "No one talks about abandoning the US if a takeover fails there."

And foreign private equity firms have been increasing investment on the mainland, with deal values rising from US$2.7 billion in 2007 to US$5.04 billion last year, according to Dealogic.

However, Mr Dickinson cautioned these were mostly small investments in obscure companies.

"China, fundamentally, 100 per cent discourages foreigners from entering the market and there are only three conditions China will permit," he said. "Either the company is too small for the government to care about, or it is troubled and the foreign purchaser has agreed to improve the business, or the foreign company takes a minority stake and there is a transfer of technology or expertise or access to foreign markets.

"If you don't fit into one of these three categories you can't do mergers or acquisitions in China and that's the end of it."

Enough with the death knell pronouncements. Foreign private equity investments in China is not going to die, but it will need to modify. Wise foreign private equity firms are going to need to focus on the types of deals that have a real potential to work in China. China will accept the following sorts of foreign deals:

-- Foreigners are permitted to purchase small Chinese companies that the central government is not interested in managing.

-- Foreigners are permitted to purchase large, state-owned enterprises that suffer from financial difficulty, provided the foreign investor agrees to restructure the purchased company.

-- Foreigners are permitted to purchase non-majority interests in strong, successful Chinese companies, but only if there is some added benefit, such as transfer of technology, advanced management or access to foreign markets.

Additionally, foreign private equity firms remain free to invest in foreign companies that are in China already as a Wholly Foreign Owned Entity (WFOE) or a Joint Venture (JV) or to invest in those foreign companies planning to go into China in some way other than by purchasing a large financially viable Chinese company.

For more on China's denial of Coke's purchase of Huiyuan, check out the post we did earlier today on this same topic, "China Rejects Coke Deal. We Told You All This Long Ago."

UPDATE: in a post entitled, "Coke, Huiyuan and the audiences that matter," ImageThief does a great job explaining the public relations aspect of this and any other large foreign deal in China. Its summation: "So here it is in plain language: If you're a large foreign firm taking over a Chinese firm, prepare to be flogged in public. And prepare for it before you announce your acquisition." True.

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Many years ago, my youngest daughter, now 11, would email the same-aged daughter of a Chinese lawyer with whom I had worked on a couple of cases and with whom I had become friends. What always amazed me about the correspondence (emails sent to my daughter were translated into English by the Chinese lawyer) between the two girls was how amazingly similar their lives were. Both listed spaghetti as their favorite food, though the Chinese girl was far more impressed by McDonalds than was my daughter. Both loved the social life at school but did not particularly like anything else about it. Both were taking music lessons. Both were doing gymnastics. And both thought Barbie was the coolest thing since....well....since Barbie.

I thought of these emails today after reading the China Herald's recent post, entitled, "One-child policy supports Barbie - Shaun Rein." The post links over to a CBS New interview with China market guru Shaun Rein, where Shaun talks about how China's one child policy could be so favorable for Barbie's China sales. One big difference between the Barbies my daughter had and those of her email pal is that my daughter's were nearly all handed down from her mother, her sister, and from friends, whereas, the Chinese girl had to go out and buy each of hers.

Becuase Barbie is so relatively new to China, in terms of demand, hand me downs, and even image, it will probably take a while for it to develop a nationwide cachet among 6-9 year old females, as it has in the United States. (My daughter would probably kill me if I do not note that she ceased playing with Barbies years ago -- right about the same time she ceased "playing" with friends and began "hanging out" with them). But this newness also means Barbie might have marketing opportunities in China that it does not have in the US. The CBS news clip talks of how Mattel is seeking to market Barbie in China not just to young kids, but to twenty-something women as well. The new Barbie Store in Shanghai even serves a Barbietini, and though I confess to not knowing (or caring) what goes into it, I am betting it is pink.

I find it fascinating how Western products can be marketed anew in China. Examples of this abound. My firm has a client that makes equipment that in turn makes a very high tech computer product. Bear with me here as I essentially make up the numbers (as I have long forgotten the real ones) to make a point. The client's machine is outdated and nobody buys it in the United States any more. The cost to our client to make the machine is about $100,000 and the client sells it for $200,000. Its "competitors" make a $1,000,000 machine and that is what Americans buy. In China, however, there are still a whole slew of companies that need this machine but cannot afford the $1,000,000 version. Those Chinese companies are our client's customers. Our client has virtually no competition at their price level and it almost certainly never will because it would cost another company too much upfront money to warrant making this outdated equipment. Our client has a lock on this ultra-niche market until such time as all Chinese companies can afford the $1,000,000 machine or until used $1,000,000 machines become readily available at a substantially lower price.

For more on old time US products being resurrected in China, check out "China's Resurrection Of The Tang -- Long Shelf Life Is Key."

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I got an email today from a client touting his success at sourcing wind energy components from China. My client's description of this project nicely sets forth why trade with China should not be oversimplified.

Speaking of oversimplification, today is also the day before the final episode of this season's Dr. Drew's Sober House. And here's the connection: Rodney King is one of the residents of Sober House and he is also the person who so famously asked the very simple question as to "why can't we all just get along." If one really delves into the many layers involved in that question, it is not so simple after all.

I see the US trade relationship with China the same way; the questions arising from it are not susceptible to easy answers.

What I like so much about my client's wind energy email is that its very simplicity (especially because all I have to work from is the one email) makes it so easy to take his micro story to a macro level and to make concrete the benefits of free trade. My client has been conducting extensive business with China for nearly 10 years and here is his email:

I have been consumed by my recent wind energy project and just completed the first unit in record time from the first quotation to shipping a unit in 4 weeks, two of which was manufacturing. I knew it would a small miracle if it was accomplished but we did it. I am leading up to my idea for the article.

A lot of people want to blame China for the US's own sloppy business practices. China has been around for 20+ years, through good times and bad. Imports into China are increasing and exports from China are decreasing at an amazing pace. You can buy most things cheaper in the United States today than you could 10 years ago and this has been good for the everyday consumer. China didn’t cause this problem.

My wind power project is a great case study that shows how US companies doing business with China can truly be a win-win situation. The work I did was for a fairly small Midwestern employee owned company that was in trouble earlier this decade but instead of "crying foul," they embraced the idea of turning themselves into a firm that sources from and sells to foreign countries.

On this last project, we accomplished something just short of remarkable. We were able to quickly put together a rather complicated piece of equipment at a competitive price. Some of the components come from China and some come from the US. We put this project together and this US company is now taking orders from all over the world. Without China, this would not have been possible and many US jobs no doubt would have been lost.

So we can sit here and bemoan how this company had to secure some components from outside the United States, but I prefer to celebrate how procuring those parts enabled them to put together in an demand product quickly and at a price that can sell. The good old days of everything being made in America are long gone and we can either sit around and complain about that or we can do what we can to move forward in producing and marketing in such a way as to both include places like China and to retain and create American jobs.

In all this time of doom and gloom there needs to be a good story told. In this case, this US company would never have been able to compete globally in this high margin business without its ability to outsourcing a portion of its project to China. I think it important to get stories like this out there, as so many of the people who I meet up with in my day to day life have no idea about how China trade can actually help. You have a much better flair and vehicle to tell this story so I hope this is a good one to write."

It does frustrate me to read or hear of people who think trade with China is always "either-or." Though there are times when China outsourcing means direct job losses in the United States, there are also times where outsourcing to China means companies in the United States stay open another day.

I know my client's story is all rather vague, but it is a good story and I figure bringing in a reality TV show constitutes the expected "flair." So to quote Rodney King (again), why can't we all just get along?

What do you think? Is trade with China a cause of the US's economic problems, a potential solution, or both?

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Great discussion going on in the blogosphere regarding consolidation/globalization of China's auto industry. I am of the strong view that the issues surrounding China's auto industry extend well beyond that particular industry as they pull in all sorts of issues, including China's companies going international, Chinese government involvement in industry, consumer sentiment, and how to handle manufacturing overcapacity.

The ChinaBizGov blog has a new post on the auto industry that does an excellent job setting forth the various issues. The post is entitled, "Auto Industry Consolidation: Who Calls the Shots?" and it has some great links to other blogs (Silicon Hutong, and Aimee Barnes) that have analyzed China auto.

I strongly recommend this post.

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China Sourcing Blog recently did an uber-helpful post, entitled, "China Plant Tours: Why You Have to See for Yourself." The post calls for visiting the plant from which you will buy product, "before you place an order," for the following reasons:

-- It makes sense to meet the people who you will be working with before you place an order. You will get to know their personality and will start building a relationship with them. As we know, good relationships (or guanxi in Chinese) play a crucial role in business in China - hence the value of a face-to-face meeting can never be underestimated.

--You can inspect manufacturing areas to get an idea of raw material quality, workers’ skills, production capabilities and the internal QC process of the manufacturer. There is nothing better than to see it with your own eyes.

-- You can find out to what extent your manufacturers subcontract their production to other plants by checking their work areas and warehouses, or by asking them during meetings.
You can experience the working environment and meet the workers to be sure that your suppliers are not using child labour and are providing protection masks etc.

--By making the trip to China, you can give your suppliers a sure signal that you are really serious about quality issues, and more so if you emphasize quality during your meeting. When they produce and deliver products, they will put you in a ‘Picky clients’ list and will therefore be more careful with your products.

-- You may find out that you can actually source many other products in China besides those in your current plan. I had a client before who saw good packaging material during his plant tour in a steel tube plant and finally ordered some packaging materials as well.

-- You may see your competitors’ products in a production line during your plant tour. This happens a lot in the top equipment manufacturing plants of China as they get orders from all major international players.

I am going to add an eighth reason that either sort of goes beyond all of the above or completely overlaps it: You know your own business better than anyone else. Therefore, your visiting the plant is more likely to trigger suggestions for minimizing problems/maximizing quality than anything else. Ninth reason is that your gong to your China plant should go a long way towards convincing your supplier that you are serious about your relationship with them and serious about watching over what happens to your product.

Anyone up for a tenth reason?

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Easy for me to say because I am in a market sector (boutique law firms) which is actually seeing increasing market penetration and growth during and because of the economic downturn, but I think now is the time for foreign businesses to increase or commence their China market presence. And I know I am not alone in this.

I know this because my firm has seen increased business over the last six months from new clients choosing to go into China now. These businesses are telling us essentially one or both of two things. One, China is their best chance for growth now. Two, they had been planning to go into China for years, but did not have sufficient personnel capacity to make their move. The downturn has freed up employee time domestically, and they are repositioning that time for their China move.

I also know this because of an article I read on Volkswagen's increasing its China presence for similar reasons. China Stakes just came out with an article, entitled, "Volkswagen Ignores the Economic Winter, Plans to Thrive in China," setting out Vokswagen's big long term plans for China.

Dubbed the "2018 Strategy," Volkswagen’s plan is to double its China sales by 2018. Between now and then, Volkswagen and its sub-brands, including Audi, and Skoda, will launch at least four new models each year and to greatly increase their China capital investment:.

“Despite the market depression, our plan to invest €2.4 billion in China between 2008 and 2010 remains unchanged,” says Volkswagen (China) President and CEO Winfried Vahland. He adds that the company’s investment in China will focus on development of new technology, introduction of new products, brand enhancement, sales networks, and service upgrading.　　

Volkswagen sees China as central to its success globally:

Mr. Vahland regards VW’s success on the Chinese market as an important element in the company’s worldwide success. “Our strategy is to introduce our most advanced power assembly technology and most advanced car types into China, for example the TSI engine and DSG double-clutch gearbox.”

For VW, China will soon become its largest single market. “Despite temporary difficulties, Volkswagen will continue high investment in product development.

Volkswagen’s plans are based on its confidence in the long-term trends of the Chinese economy. It sees China restoring "high GDP growth by 2011and it is positioning itself for then. Volkswagen is certainly not the only company taking advantage of the worldwide economic downtown to increase its penetration of the China market.

I would love to hear about other companies doing the same thing.

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Though I studiously (okay, somewhat studiously) try to avoid the big think questions on this blog, I am getting so tired of the media litany that an economic downturn in China essentially guarantees political instability. I am getting tired of it because I vehemently disagree with it.

I actually never thought of this until a few weeks ago when I was on a panel at the Kellogg School of Management's "Greater China Business Conference." It was nearing the end of the day and some student posed this question to me and the two China business experts, Jeff Day and Shi Han: Do you see China's economic downturn leading to political instability? My first thought was why ask this of me? My second thought was why ask this of us? I eventually answered essentially/somewhat as follows:

No. I think that so long as the Chinese people believe Beijing is doing what it can to ameliorate the impact of the downturn, there will be no political insurrection against Beijing. I think that perception of how Beijing is acting is a far more important element in determining discontent against Beijing than is generally credited. If the people perceive Beijing as getting rich off the econimic problems of the Chinese citizenry, there will no doubt be anger with Beijing. But if the people see Beijing as doing whatever it can to solve the problems, I do not think the downturn itself will necessarily lead to a big increase in discontent towards Beijing.

What do you think?

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Kevin Lehrer and Jonathan Allen, over at 5 Horizons Group, recently wrote an excellent newsletter article entitled, "Keep Operations Strong Amidst Global Challenges." They graciously agreed to allow us to re-publish it here, with a few China Law Blog changes to make it more China-centric. Here goes:

Without question, the consumer goods industry has been whacked by an economic chill on both sides of the ocean. In the United States, declining sales, inventory cut-backs, and limited credit are affecting demand at an exponential rate. Meanwhile, in China, the decline in exports has caused significant instability, widespread factory closures, and a growing unrest among a labor force that has lost millions of jobs over the past year.

Meanwhile, there is the U.S. entrepreneur/small-business/not-so-small business fighting to keep its sales moving forward, while keeping operating costs to a minimum. The challenge, however, is that in pursuit of minimizing costs, companies of all sizes expose themselves to a potential breakdown in their production and/or supply-chain (aka Operations). The consequences of such breakdowns include (1) miscommunication and strained relations with suppliers; (2) production delays; (3) inconsistent or reduced quality; and (4) over-paying for freight.

Reducing costs and maintaining a viable operation are not mutually exclusive interests. In fact, companies should view the economic turbulence as an opportunity to re-visit their operations, both in China and in the U.S. In doing so, we suggest considering one or more of these five approaches to keeping operations in-tact while being mindful of the economic realities:

1. Revisit Product Costs: Reach out to your suppliers and review product costs. While not all suppliers will provide them, we find that Bill of Materials (BOMs) are one of the best ways to discover opportunities to improve costing. That said, the single biggest mistake we see U.S. companies make in negotiating costs is doing so in an adversarial manner. The supplier is your partner and these discussions require a partnership mentality. The goal should be to improve transparency so that discussions can take place within a context of real data.

2. Modify Payment Terms: If product pricing is non-negotiable, pursue better terms. Typically, most U.S./China relationships begin using a Letter of Credit (L/C) as the mechanism for payment and protection. L/Cs are costly and cumbersome, so as time goes on and trust develops, many companies are successful in negotiating terms that include a deposit upon issuing the Purchase Order, and then a balance payment upon completion of production. This process is cheaper and helps to free up your borrowing base – which is particularly useful given current economic conditions. Additionally, consider asking your factory to extend the time that your balance payment is due). Recently, we have had clients successfully negotiate terms of up to Net 90 days. In these times, if you have reasonably stable orders, it’s a buyer’s market.

3. Inspect, Inspect, Inspect: The single biggest “operations cost killer” is the scenario where the shipment of Red and Blue Widgets arrive at the U.S. warehouse, and the warehouse manager opens up the first box to find that that Red Widgets are in the box marked “Blue Widgets”. What happens now is a series of events that include long-nights checking and repackaging every box, over-time expenses, and a general morale drain.

And yet, for a fraction of the cost of this “all-night repackage-palooza” you could have hired a service to inspect the product and packaging at the factory before it shipped. If you do choose to hire a 3rd Party inspection company, make sure that you hire them well before the product is going to ship so that there is time to review product standards, potential production variances, thresholds, etc. Do not hire a company to inspect your product “site unseen” – there is not enough context for them to do the type of job you deserve.

4. Stay in Contact with your Suppliers: Remember, the issues facing the consumer product industry are global problems. It is probable that your supplier is facing an array of issues that you are not even aware of. The last thing that you want to happen is to find out that your factory shut down overnight or has to postpone your production. This is not to say that there is any full-proof plan for preventing this from happening. However, the more communication you maintain on a regular basis – either directly or through the use of a trusted agent – the more likely you are to avoid costly surprises.

5. Improve your Freight Costs – immediately: If there is a silver lining in this economic storm, it’s that many companies, while taking a hit on top-line sales, are keeping their bottom-line afloat by improving transport costs. A combination of reduced exports and the decline of oil prices have significantly reduced ocean container costs. If your freight costs are rolled into the price you are paying your factory, and those costs are the same as you were paying in early-to-mid 2008, request an immediate understanding of the freight component from your factory. If your freight pricing is separate and you use a freight forwarder, be sure to request an updated quotation.

For the full article, go here. Anyone have a sixth?

UPDATE: Asia Logistics Wrap came up with a sixth (very good) suggestion in a post, entitled, "Low-Hanging Fruit in Improving Your Global (China) Supply Chain." Its uggestion was "that firms reinforce their commitment to their employees and a high-quality work environment that fosters innovative practices across the supply chain. If employee morale and motivation is low in an uncertain economic environment, new shifts in strategy and/or tactics may falter in execution." I concur and note that Shawn over at Asia Logistics Wrap knows more about logistics than I ever will, but when it comes to Detroit Tigers announcers, his confusing Paul Harvey with Ernie Harwell is.....

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Silk Road International has an excellent post on importing consumer products into China. The post is entitled, "Q & A about Importing into China," and it starts out discussing why importing Western product into China is so rife with opportunity. To grossly summarize, more and more Chinese will pay for the better quality and higher prestige Western goods offer.

The post then provides a very helpful discussion on the difficulties of importing product into China and then doles out the following tips:

• Read Xiao Lu’s book [Elite China] —no matter what you’re importing. [Bottom Line: Know the market]
• Find a trust-worthy partner. Take the time (months) to do DD on this one. This one person, more than anything else you do, could sink/steal/make your business.
• Pick one region or one domestic distributor to start out with. China’s big, don’t get greedy.
• Build some serious guanxi with the port and regional officials that you’re going to be using.
• Plan on staying in the market for at leat two CNY holidays to see if you can really make it—remember, 40% of all annual luxury sales happen over this vacation.

If what I am seeing among my law firm's clients is a trend, the trend is definitely to move product into China, particularly food products. And Silk Road International is definitely right about how it is not easy. I am working right now with a number of American food companies who are in the process of starting to export US food products into China and they are all going about it in the following, pretty much similar way:

1. They spent nearly a year figuring out where to "invade" China and who to use for that invasion.
2. They are starting out in one China region, and they hooked up with distributors in the respective regions who knows and understands their particular product and knows and understands the particular region. Most seem to start in either Guangdong Province or in the Shanghai area.
3. If their products are successful in China, they plan to produce their products in China, at least eventually.
4. They were very careful to register their trademarks in China, essentially before they went there. For more on why this is important, check out, "China Trademarks -- Do You Feel Lucky? Do You?"
5. They worked out and signed comprehensive distribution contracts (in Chinese) with their Chinese distributors. With help from their Chinese distributors, they have boned up on China's food and distribution laws.

I mention food companies because I see that as even tougher than non-food consumer products.

What do you think? Of what else should those bringing products into China be aware? I would particularly love to hear from those of you who with direct experience with bringing consumer products into China.

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The internet is abuzz with recent news that Chris Devonshire-Ellis of China Briefing may have influenced movement in the Yuan-Dollar conversion rate by what is being described by Chinese governmental authorities on the China Banking Regulatory Commission website as a "pure fabrication:" To summarize, China Briefing Magazine did a post claiming to have interviewed a Chinese governmental official who talked of the Yuan weakening to around CNY6.9-CNY7.0 against the dollar. The Chinese government subsequently went on record denying this and even appearing to deny any such interview took place

Or as stated by The Wall Street Journal in its initial story:

In a China Briefing story Wednesday, China Banking Regulatory Commission Chairman Liu Mingkang was quoted as saying the yuan may weaken to around CNY6.9-CNY7.0 against the U.S. dollar.

The CBRC denied its chairman had been interviewed by China Briefing.

Later Wednesday, China Briefing issued a clarification on its Web site, backing away from attributing specific dollar-yuan levels to any government officials.

The author of the reports, Chris Devonshire-Ellis, told Dow Jones Newswires that specific levels came up during discussions with government officials, but he declined to say who made the comments.

The China Banking and Regulatory Commission has issued its own statement, appearing to deny such an interview ever took place and calling news of it a "pure fabrication:"

The CBRC Statement The website CHINA-BRIEFING published an article on Feb 18, 2009 with CBRC Chairman’s photo and opinions. The CBRC hereby makes the statement that no CBRC officials have been interviewed by this media or by the author of this article. This news is a pure fabrication.

A Reuters news service article seems to say China Briefing itself is no longer certain who exactly it interviewed:

China Briefing magazine first attributed the comments to National Development and Reform Commission deputy head Zhang Xiaoqiang but later issued a correction, saying they were by Liu Mingkang, head of the China Banking Regulatory Commission.

My in-box has been filled with all sorts of good questions, the answers to which I do not know:

1. Assuming the alleged interview regarding the Yuan rate never occurred at all, might those who lost money on the fluctuations have a cause of action against China Briefing for having claimed to have conducted it?

2. Assuming the alleged statement regarding the Yuan-dollar conversion was never given to China Briefing, but that China Briefing merely made an "error in transcript and translation," might those who lost money on the fluctuations have a cause of action against China Briefing?

3. Might there be criminal liability, particularly if it is later determined that this news was spread intentionally so as to influence the market?

For more on this, check out the following:

1. Fear of a Red Planet:"I believe this is called "self-pwnage" : Chris Devonshire-Ellis interview with CBRC Chairman "'pure fabrication.'"

2. This Dow Jones newswire story quotes someone as calling the whole China Briefing thing a "farce." Perhaps it was just a farce, but if so, why?

3. Absurdity, Allegory and China blog nicely covers this story in its post, entitled, "Currency Events."

4. Marc van der Chijs' Shanghaied has come out with a post on this, entitled, "A fabricated interview is not a good idea."

5. Gongshangfa has a post, entitled, "Chris Ellis - Fake Lawyer, Fake Interviewer?" in which he calls for Mr. Devonshire-Ellis to "clear up the confusion." This post also hosts one iteration of one of the alleged interviews (unfortunately, this is a somewhat later, somewhat more "harmonized" version) with Banking Commission Chairman Mr.Liu Mingkang.

6. China Stakes does a fine job covering the story in a post, entitled, "RMB Rumor Briefly Roils Markets before Denials," by setting out what appears to have actually happened here and concluding that "it is still not clear when and where Ellis interviewed the two officials."

7. A Modern Lei Feng has a nice summary post, entitled, "On a Carousel."

8. Cn Reviews explains how unlikely it is that such an interview ever took place, in its post, entitled, "Chris Devonshire-Ellis apology and RMB/USD exchange rate."

1. Tell the truth. 2. If you are going to report on a conversation with a Chinese government official, make sure you have permission to do so; if you do not have permission, do not make any attributions to a particular person and keep the statements at least somewhat vague. 3. If you are going to issue a story with such clear potential to move markets, make sure you have your facts straight before doing so. 4. If you are going to issue a story with so much potential to move markets and then your facts get questioned, hire a top level PR agency.

Readers, what do you think? As many of you know, Chris Devonshire-Ellis is a very controversial figure with a real tendency to try to shut down those posts he does not like (see here, here, here, and here). I do not wish to be subject to another Chris Devonshire-Ellis onslaught so I ask that those who comment stick to the main issues and not make personal attacks or accusation, requiring us to edit or delete.

UPDATE: A Google search reveals that China Briefing has now pulled both of its alleged interviews from its site.
FURTHER UPDATE: In an exceedingly blandly entitled post, "NDRC and CBRC Notice," Chris Devonshire-Ellis has now issued an apology of sorts, here, for what he calls a "breach of etiquette:"

The National Development and Reform Commission and the China Banking Regulatory Commission have issued statements on their respective websites concerning interviews held with agency officials that appeared on this website. As they state, that these were not “official” meetings. Accordingly, I felt it was now prudent to follow their lead and have removed the articles from our website, together with the accompanying photographs.

We acknowledge that only officially recognized statements issued by the agencies should have appeared. The articles did not fall into this category.

I wish to apologize to the agencies concerned for this breach of etiquette.

Chris Devonshire-Ellis

FURTHER UPDATE: Someone established a #cde hashtag on Twitter so if you want to keep up with the latest on all this, go here.

FURTHER UPDATE: Christine Liu of the Chinese Business Show, has offered Chris Devonshire-Ellis an interview to explain his position on all of this. I for one truly hope he takes her up on this offer. Mr. Devonshire-Ellis?

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Ft.com has a very helpful article on how to handle the economic downturn in China and in India, written by Jayashankar M. Swaminathan, professor of operations, technology and innovation management at the University of North Carolina’s Kenan-Flagler Business School (h/t to CalPolyMBA blog) The article is entitled, "Managing in a downturn:Looking long term on the passage to ‘Chindia.’" and it sets out "five suggestions that can help companies design a [long term strategy.

Focus on the sector, not the economy.
The impact of the downturn in China will vary sharply depending on the sector. Infrastructure is still hot. I know I keep saying this and even I myself have troubling believing it, but so far, China's downturn has had very little impact on my firm's clients largely because we have very few clients in Guangdong Province. Our tech work (internet and gaming clients) is growing.

Reassess offshoring.
"Companies must use this opportunity to carefully consider the short-, medium- and long-term implications of offshoring. They must also evaluate whether any of their offshoring initiatives have diluted their core competencies or hampered their ability to build and leverage intellectual capital. This is a good time to adjust the boundary between the activities that the company outsources and those that it does itself" The article goes on to urge companies to seek to renegotiate their offshoring contracts to secure better rates.

Prepare for supply chain risks.
The article urges companies to be even more on their guard against Chinese companies seeking to cut corners. "As business slows down for some of these providers, there are greater chances that they may violate global compliance rules, which could lead to complications such as contamination (in manufacturing) and security risks (in services). It is important that multinationals pay more attention to protect themselves from such global supply chain risks during this downturn." My firm has seen a marked increase in Chinese companies providing bad product to Western companies or just not providing any product at all. I am getting the sense that some Chinese companies are pulling out bad product that had been sitting in their warehouses for years. They are doing so now to make fast money, believing they will no longer exist a few months from now. During the "Asian crisis of 1997" a Seattle fish buying company received containers of bricks (not fish) from a Chinese company right before it shut its doors.

Improve the workforce.
During the past decade, many multinationals ... realised that productive employees were difficult to attract and retain. This is a good time to take advantage of the weaker labour market to recruit and retain top-notch managerial talent."

Innovate from China.
"This shrinkage of the market ... offers companies the opportunity to accelerate development of affordable and robust products, designed for emerging markets. More importantly, such products could be attractive for customer segments in developed economies as well."

What do you think?

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Got a somewhat weird email today, but it makes sense, on some level, so here goes:

Dear Mr. Harris: A question you may want to answer on your blog: If you were 25 again -- crisp J.D. in hand but, alas, no job -- which city in China would you move to? You've noted that there's more to China than Beijing and Shanghai but I was wondering where you thought the future was located. Mordachai Absalom (that would be a pseudonym)

Tough question, actually, particularly since I do not know all that many of China's cities terribly well. Also, (and how's this for being a lawyer) much will depend on the individual and unique facts of your case. For instance, if you are a Chinese-American with an Uncle who heads up the Communist party in Chongqing, then I suggest you go to Chongqing. Or maybe you are not a Chinese-American, but your father-in-law heads up the party in Xiamen. Well then, I would recommend Xiamen.

Now suppose you graduated first in your class from Harvard Law School, with an undergraduate physics degree, Summa Cum Laude, from CIT. You speak Farsi, Urdu, and Finnish fluently, but the only word you know in Chinese is xie xie. Well then, I would suggest you stick with a big foreign law firm in Shanghai or Beijing.

But if you are fluent in Chinese and, most importantly, can read and write it, then I would suggest you go to an up and coming second tier city that is also a nice place in which to live. For that, I might recommend Dalian or Qingdao, but I confess I pick those two cities because I have spent so much time in them and I have come to really like them.

People, help me out here.

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Well you get the point.

The Little Red Book (a pretty cool new blog on advertising in China) recently did a series of posts nicely setting out various mostly marketing type facts/statistics on some key China cities. So far, they have done "snapshots" of Xi'an, Wuhan, Tianjin, Shenyang, Shanghai, Nanjing, Jinan, Hangzhou, and Guangzhou.

I am hoping they add Beijing, Qingdao, Dalian, Chengdu, Chongqing and Harbin.

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Got this news from a very close friend of mine who is very high up in the media, very connected, and very reliable. All I can say is that we go way, way back and I trust him implicitly (though he would also not be above feeding me something like this to make a fool out of me so he can laugh about it for years afterward -- perhaps in revenge for the time I .....). My friend got it from someone who my friend swears is very reliable but my friend does not know whether the story is true or not. I have considerably changed the language so as to erase potential identifiers:

On the heels of Treasury Secretary Geithner's apparent designation of China as a currency manipulator at his confirmation hearing last week, President Obama called President Hu over the weekend to try and calm the waters.

We at this time have no more information beyond confirmation of the call, but our sources tell us that President Obama did make the call in an effort to let President Hu know that the United States very much hopes to maintain strong positive relations with China and to cooperating with China on the many crises now confronting the world.

Incredible as it may seem we have confirmed that Geithner's language was taken from the Obama Campaign website without anyone, including Geithner himself, having asked the White or State Department whether the electioneering slogans were now governmental policy.

Our sources say President Hu was quite relieved by both the call and the message, and we see "Obama's prompt corrective action to remedy Geithner's misstep as showing "the sophistication of the Obama NSC and economic policy professionals."

During this time of financial crisis, Geithners' currency remarks went right to the heart of Chinese perceptions of how Obama intended to manage the relationship.

Geithner's testimony (he was given 240 written questions in advance) was literally lifted straight from the Obama Campaign website by a Treasury staffer and just fed into Geithner's statement, without any effort made to update or clear the language with the White House or the US State Department.

Word on the DC street is that many are muttering that Geithner should have shown more sense than this since he has been more consistently involved with China on the currency issue for a long time.

Though I make no commitment as to the accuracy of the above, you did hear it here first.

For some history on the Geithner statements regarding China and their impact, check out our previous post, entitled, "Obama And Geithner On China. Election Hangover Or The Way Things Will Be?"

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First, let me get my biases/perspectives out on the table. I am a lawyer. What this means is that no matter how much the media may tout me as riding some sort of second wave (check outthis super-cool article!), my training compels me to look at everything with a jaundiced and conservative eye, particularly investments.

I never lost a dime on the dot.com bust because by the time I was thinking I might at some point get comfortable enough to invest in a business I could not foresee ever developing a way to make a profit, the crash had already occurred. Many years ago, when my law firm (that's my money too) rented a condo in Qingdao and then in Shanghai, I looked at buying property in China, but always blanched. Though I saw China's long term potential for real estate, what with some 200-300 million more people expected to fill China's urban areas and all, I could never get past the rows of empty buildings and the fact that the rental rates were way too low in proportion to the selling prices.

I mention all this so everyone will know that I am a coward when it comes to investing and so can blame that on my completely not buying the idea that 2009 is going to be a good year for real estate in China, no matter what Sam Crispin is telling us. Sam Crispin owns and runs a real estate consultancy practice in China, which no doubt means he knows more about China real estate in his little finger than I do in my entire body. Nonetheless, I am not buying what he is selling.

In a China Herald post, entitled, "Rebound in China real estate expected in year of the ox," Crispin tells us to expect real estate in China "to rebound over the coming twelve months as the central government is reversing its policies." He goes on to say that he expects "most of the government measures brought in to control the property market since 2004 to be reversed in stages." He sees "government intervention to support the market ... as "cause for optimism."

Wrong, wrong, wrong. First off, the government measures that were enacted to control the market were not that big a deal in terms of pricing. Yes, there were measures that limited real estate buying by foreigners, but those measures were enacted more for PR reasons than because they would have much downward influence on pricing. And those measures are still in place in any event. Yes, the government did enact a tax measure or two in an effort to slow down speculation, but if China property were red hot right now, buyers would be blasting through those like a fleeing bank robber going through a 25 mile construction zone when fleeing the scene.

Secondly, I just cannot see China's government literally intervening to support real estate. Yes, they may loosen the restrictions on foreign buying a bit and yes, they may reduce taxes on sales a little bit as well, but that is not really "intervention" and I do not think these things will do much more than move a few extra people to buy. I do not see government loosening as leading to much in the way of China real estate price increases.

So what we really need to look at to determine China real estate prices in the next year is supply and demand. And it is on the demand side that I see problems. The world economy is down, obviously. China is not going to be completely decoupled from that. We have already seen China's economy decline. In particular, China manufacturing is on the ropes as product orders from overseas continue to fall. This economic and manufacturing decline is negatively impacting the Chinese consumer. We can debate by how much, but it has to be having a negative impact, it just has to. Foreign buyers who a year or so ago would have rushed into China real estate at any sign of a loosening of foreign buyer restrictions are cash and credit poor now and far more wary. Leading buying countries like Singapore, Taiwan, and Hong Kong (I know it is technically a part of China) are hurting. k98My firm's clients who a year ago would nearly always ask me about what it would take for them to buy "something" in China, virtually never bring that up any more.

From where is the demand going to come that is going to support/raise China real estate prices in 2009? I just do not see it.

Do you?

UPDATE: Mr. Crispin was kind enough to send me his company's full report on China real estate and that report can now be found here. It is an excellent report, and far more nuanced than can be described in a short post. Though it is more optimistic than I am about China real estate, its predictions are certainly within the realm of reason. The report also makes clear (and I wholeheartedly agree) that just because China real estate is and will be down, does not mean real estate in every China city must share in that fate.

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A couple years ago, we wrote about small business and consumer lending in China, in posts entitled, "Hey Buddy, Can you Spare a Yuan? The Sorry State of SME and Consumer Lending in China." and "Hey Buddy, Can you Spare a Yuan, Part II -- The Sorry State of SME and Consumer Lending in China."

Since I wrote those two posts, lending in China has gotten marginally better and, among other things, China has loosened up a bit in terms of allowing foreign entities to engage in microfinancing. Microfinancing involves just what it implies: very small loans, usually to assist a very small, usually home based business. The big banks in China (and it is pretty much exclusively big banks in China) have no interest in small loans, which usually means small businesspeople must secure their funding from either family and/or friends, or from loan sharks.

I was recently invited to a Seattle networking event by Wokai (but unfortunately could not go) and have since learned more about that organization and what they are trying to achieve in China and how they are going about it. Wokai was formed by Casey Wilson and Courtney McColgan who met while studying at Tsinghua University. What makes Wokai interesting is that it has set up an internet interface between the lenders (people like you and me) and the borrowers (small businesses in mostly rural China). In the parlance of Web 2.0, it brings together social networking with web enabled philanthropy.

By way of example, there is a farmer in Chifeng, Inner Mongolia, who is seeking $600 for cattle feed and a butcher shop owner, also in Chifeng, seeking $600 to expand store inventory. Both of these potential borrowers have received some funding towards their goal, but still need more. Some (see here and here) have already begun repaying their loans.

Wokai is right now primarily in Inner Mongolia, but it will soon be rolling out operations in Sichuan and Ningxia as well. For more on Wokai, check out "Empowering the impoverished with Wokai" at Lost Loawai.

I have always liked the idea of microfinancing, but I since I have never been directly involved with it, I do not have a good sense for how well it works. Does it work? Does it make sense for China? Does it make more or less sense in these difficult economic times?

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James Fallows writes an interesting piece, entitled, "Broader point about Geithner, Obama, China, and 'manipulation'" setting out his concerns on how the Obama administration is treating/going to treat China.

To summarize what Fallows says (and hey, if I am not summarizing it properly, go ahead and attribute it to me) is that Obama is clearly capable of nuance. The key financial and diplomatic people Obama has brought into his administration are clearly capable of nuance (i.e. Geithner, Hillary Clinton, et. al.). Obama and his people have done a good job so far in recognizing the complexity of the issues facing the administration, and in seeking to formulate practical solutions to resolve those issues.

But here is where the disconnect starts. During the election campaign, Obama's expressed views on China were both simplistic and jingoistic. For examples of this, check out the following:

-- Barack Obama On China. Say It Ain't So . . . .Oh But It Is.

-- Obama And Clinton And China As Though It Actually Matters.

But the accepted view on Obama's less than enlightened comments regarding China was either that he did not really believe what he was saying or that once elected, he would study up on the issues, apply his intellect to them, and start sounding more like George F. Kennan than Sarah Palin.

But with the recent needlessly antagonistic comments about China by the Obama administration, Fallows and I (or maybe it is just me) are starting to wonder when the eduction of Obama on China will kick in. Now mind you, I am NOT criticizing the Obama administration regarding its China policy, but I am criticizing it for crossing China without any good reason for doing so.

What do you think?

UPDATE: ChinaBizGov blog did posts entitled, "Don't Worry About Geithner's Words on China's Currency" and "Redux: Why Geithner's Words Don't Matter (Yet)," essentially saying, "don't sweat it."

FURTHER UPDATE: The Financial Times just did a really good story on this, aptly entitled, "Counterproductive currency quarrel."

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One of the things I have always found fascinating is how macro economic issues can have such widely varying micro economic impacts. By this I mean that when an economy starts tanking, let's say 10%, the impact on individual businesses can be all over the map.

I remember becoming starkly aware of this during the 1997 Asian Crisis, as I spent a considerable amount of time in Korea that year. The news was doing a story on the drop in imported goods coming into Korea. Now I do not remember the numbers very well at all, but I think imports had declined about 20%. But the really interesting part was how unevenly this fall in imports was among various products. The one that stands out for me is that some fruit (I am 99% sure it was either kumquats or quinces) had gone from $20 million in imports the year before to absolutely zero. Zero. The reason given for this was that it was a luxury and that such luxuries were no longer in demand. Some staple food products had seen virtually no decline.

I have a lawyer friend who represents a huge number of medical practices. He told me of a surgeon client of his whose practice had been decimated when insurance companies reduced their payments and stiffened their reviews. Giving my best guess to the numbers again, he said that surgery rates had declined about 5% across the board in the country, but this guy's practice had been hit so hard, his income had gone from something like $450,000 a year to around $50,000. There were various reasons this had happened, but obviously this particular surgeon contributed a lot more than most of the others to the overall 5% decline in surgeon payments.

I mention all this because I have seen very little written about how China's decline has impacted businesses differently. My firm has seen increased business of late from companies related to energy and fuel savings, food companies, gaming companies, health care companies, education related companies, and, (no surprise here) collection companies. All of these companies seem to have relatively stable (or even rising) income flows and they are seeking to expand in China or take advantage of China cost savings. Those businesses which seem to have been hit hardest are in luxury goods companies, clothing companies, and financial services companies. Currency fluctuation can also have a huge impact. We are seeing increasing numbers of Japanese, Russian and Korean companies looking to purchase US business and real estate assets. The strength of the Japanese Yen has made US assets relatively cheap, while Korean and Russian companies are looking here out of fear for further declines in their currencies.

What are you seeing out there?

UPDATE: China Business Blog says something similar in its post, "Don’t let China’s lower GDP numbers be a distraction, say strategists at Technomic Asia."

FURTHER UPDATE: Just came across this article, entitled, "Ni Hao, Would You Like Fries With That?" on how fast food restaurants are still thriving in China (h/t The Life of a "Foreign Expert" in Zhangye, China)

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I was interviewed a couple weeks ago by a reporter who wanted to know what impact the declining economy in China was having on my law firm's clients. I told her none. I said that so far, anyway, not a single client had even mentioned China's declining economy as a factor in its decision-making. But I then said that I had also not really been asking and that about half our clients are not in manufacturing, and that virtually none of our manufacturing clients make low end products like $2 toys, socks, or costume jewelry. I also mentioned that less than ten percent of our manufacturing clients are in Guangdong Province, which seems to have been hardest hit.

Since that interview, I have conducted an extremely unscientific client survey regarding our clients' China plans. This survey was of about fifteen clients (to tell you how unscientific it was, I took no notes), eleven of which are American, one Korean, one Spanish, one Mexican, and one German. About half are in manufacturing and none make what anyone would describe as a low end good like a cheap toy or jewelry. I asked them how their China business was going, "in light of the economic downturn." I also asked them if the downturn was going to cause them to reduce or eliminate their China presence. Lastly, I asked them what the would be doing differently in China in 2009 due to the economic downturn. Their answers were all pretty much the same.

They said that China's downturn had made them look more carefully at their China expansion and hiring plans. They said they were going to be very "cautious" and "careful" in 2009 with respect to expansion and hiring. Many of them (5 or 6?) said they had an "official" hiring freeze in place for the first six months of 2009 or the entire year. Two said they were going to expand faster than anticipated in China because they saw now as the best time to get a jump on their less well-funded rivals. All of them said they had no concrete plans to get out of China, but one worried that the company's overall problems might force an ill-advised China exit. Many of them responded to my question about their leaving China by asking me "and go where?" I got the following comments (these are from the last few months, not just from these 15 or so companies):

1. This downturn is good. It is going to bring us stability. We had been losing 2-3 good employees every month and that has stopped completely.

2. I hated China's new labor law and I hated how employees were able to hold this over our heads. The power has shifted.

3. I have enjoyed my last six months in China more than any six month period in my 20 years here. We are a small fish in a big pond (they are in Shanghai) and I feel like the government actually appreciates that we are sticking it out and have not laid off anyone.

4. China is the only country in which our company is still doing well.

5. We had made some terrible deals because we had no choice. We have been able to renogoiate nearly all of them. Our costs are down, and our sales are down, but our profits have remained the same.

6. We looked at Vietnam and really liked what we saw, and we definitely plan to add that to our China operations eventually, but nobody wants to spend the money to get set up there right now. Maybe in a year or two.

7. I'm just glad we are no longer in Thailand.

8. Our R&D in China has been fantastic. We want to expand and we should be expanding, but the company has a complete freeze on anything new right now. I see this as a huge mistake and one that is going to cost us millions down the road.

9. Our sales are down 20% worldwide. Nobody wants to leave China because we all know we will make good money here soon, but the question is whether the home office will be able to subsidize us until we do.

Would love your comments. How is China's downturn affecting your business?

UPDATE: Make that sixteen. Had a long conversation with a client that focuses on auto parts sourcing in China, Vietnam and Mexico. Told me 2008 was best year ever and 2009 is going to be much better. Seems many of the automobile and auto parts companies have laid off so many people they are going even more outside their own doors for outsourcing. They are hiring outsourcing companies more and doing the outsourcing themselves even less.

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When I was in high school, I went to a bakery in Budapest, Hungary, during the Communist era. The bakery was tiny, the kind that in the United States would have at most two people working there. I was the only customer. I ordered from one woman, was instructed to go to the cash register by another woman, had my pastry wrapped by another woman, handed to me by a fourth woman, and paid a fifth woman. Now that's what I call full employment.

China is not near to that yet, but foreign businesses would be wise not to underestimate how important it is to Chinese government functionaries that "their constituents have jobs. I thought about this last week when two of my firm's clients told me of their discussions with Chinese government people where the Chinese government people had stopped by to pretty much just make sure these two companies had no layoff plans. Both clients told me no threats of any kind were made, but both felt their standing with the government would be much better if nobody got laid off.

Today, the always excellent Managing the Dragon blog did a post aptly entitled, "Jobs: Now “Job One” in China," in which it talks about the heightened importance of jobs in China right now. The post goes on to set out the following "suggestions for foreign investors in China:"

-- If you are in a joint venture, now is not the time to be pressing for those labor-saving measures to increase its efficiency. In the best of times, Chinese partners and the local governments they answer to are sensitive to any job cuts that may threaten stability. In the current economic climate, expect the resistance to be even greater.

-- If you have a wholly-owned company in China, be careful in how you implement any layoffs. In the face of uncertain economic prospects, Western companies will instinctively seek to adjust employment levels, which is understandable. Even though your operation in China may be wholly-owned, however, this will not stop laid-off workers from taking their complaints to the local government–and the government will be listening. Talk to your friends in the local government ahead of time so there are no surprises.

-- Make the most of any expansion plans your business may have in China by publicly or privately announcing them. China has a long memory and remembers companies and individuals who come forth in difficult times.

I wholeheartedly concur.

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One of the great things about being a lawyer is that you get to work with and observe a diversity of businesses. My firm has helped all kinds of businesses get into China and do deals with Chinese companies and if I had to single out one industry that has the highest percentage of failures, I would pick those that are environmentally related. Years ago, I was totally gung-ho on these industries, figuring China obviously needs environmental assistance and Beijing knows it.

Not so fast.

Two things too often seem to get in the way. The first is that so much of this industry is tied to governments and this means so much of this industry is not as based on merit as it should be. The other thing is that this industry seems so "hot" that it brings in a disproportionate number of "flakes" and scammers. China is hot (or at least was hot) and greentech is hot (or at least is still sort of hot). Combine the two, and you have a recipe for bringing out those who do little more than move from hot industry to hot industry with little more than a briefcase and a claim that they "do deals." Find me a Westerner in China to avoid and there is a decent chance that person claims his or her business is "China GreenTech." There are plenty of completely honest and knowledgeable people in this industry, but it does attract its fair share of those seeking a quick and easy buck.

In an aptly named post, "Private investors, beware! China’s green sector still faces challenges," ResponsibleChina cites an article by Ray Cheung in the book, “Sustainable Investing: The Art of Long-term Performance,” setting out three obstacles GreenTech entrepreneurs face in China:

-- increased manufacturing costs, particularly of raw materials:
-- lack of human capital, since “the brightest minds are entering more lucrative industries, such as finance and information technology,” which can turn profits quickly, compared to environmental companies that require longer term development; and,
-- a fragmented market because of undeveloped regulatory infrastructure, i.e. lack of enforcement of environmental laws and weak environmental agencies:

All true.

GreenTech in China is and will continue to take off, but a sure thing it most certainly is not.

What do you think?

Hate to keep asking this, but if you like this blog (or even just mildly dislike it), please go here and vote for it. Thanks.

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"I won't pay. I know too much about extortion."
Tony Soprano, Season 3, Episode 7, "Second Opinion"

One of the "interesting" things about representing companies in emerging markets is the huge variance organized crime can play. The Associated Press, in a story entitled, "China readies for crackdown on organized crime," recently wrote on how the Chinese government is cracking down on organized crime

There is one country in which my firm does a substantial amount of business (if you go to the multi-language landing page of our website you can probably guess which one) where we ourselves were told that we would need to make monthly payments for our "own protection." Thanks to the intersession of a local friend, the party seeking to "protect us" realized we were not a proper party for the proposed "business" relationship. Our clients tell us the need to pay for "protection" is pretty common here.

None of our clients have ever told us of having to pay such money in China and I have never asked. I am asking now, though. Have any of you had to pay "protection" money in mainland China and, if so, in what city or cities? Do you have on good authority that others have had to make such payments? Were they domestic or foreign companies. My sense with China has always been that the government really does not want to see this with foreign companies and has made this fact sufficiently clear so as to generally prevent it. But we would love to hear from our readers on this.

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Most of you probably already know more about melamine than you ever expected. Melamine refers to both a chemical and to a resin produced from it. Human ingestion of melamine "may lead to reproductive damage, or bladder or kidney stones, which can lead to bladder cancer." Unfortunately, its high nitrogen content allows it to mimic protein and that characteristic has led to Chinese companies putting it into feedstock as an extremely cheap way of falsely boosting its protein content readings.

Here we go again, and this time it is hitting very close to home.

The Los Angeles Times just came out with a story, entitled, "Toxic melamine is suspected in seafood from China," on how melamine is being used in China to boost the protein content readings in feedstock being given to seafood. I say close to home on this for two reasons. One, probably around ten percent of my firm's clients are in the seafood industry or a related industry. One of my first big cases in China was seizing/arresting seafood in Dalian/Qingdao. Co-blogger Steve Dickinson lives in Qingdao these days and, in large part, that has to do with all of the Seattle seafood connections to that area.

Two, Seafood is a shockingly international business. A few years ago, my law firm was retained by the National Fisheries Institute (NFI) to represent (amicus curiae) foreign fish importers before the 9th Circuit Court of Appeals and the Supreme Court (certiorari was denied). I remember from that brief that more than 80% of the seafood in the United States is imported and I would bet that percent is even higher now. "By volume, China is the largest exporter of seafood to the U.S., and the second largest in terms of monetary value. In particular, China exports significant amounts of shrimp and catfish products, which represent two of the ten most consumed seafood products in the U.S." (April 25, 2008, Statement of the FDA's Don Kraemer, before the U.S.-China Economic and Security Review Commission Hearing on Chinese Seafood: Safety and Trade Issues).

The Los Angeles Times article starts out with the massive (and ever growing) numbers involved:

China is the world's largest producer of farm-raised seafood, exporting billions of dollars worth of shrimp, catfish, tilapia, salmon and other fish. The U.S. imported about $2 billion of seafood products from China in 2007, almost double the volume of four years earlier, according to the U.S. Department of Agriculture.

It then hits us with a critical string of bad news. Melamine is widely believed to go into feedstock for seafood in China, Melamine "can lead to urinary problems such as kidney stones and even renal failure," and, "unlike in cows and pigs, the edible flesh in fish that have been fed melamine contains residues of the nitrogen-rich substance."

The article then quotes a Burbank, California fish purchasing manager:

Brian Dedmon, purchasing manager for "China's a big place, and it does a lot of processing, and cheaply too," said Brian Dedmon, purchasing manager for the Fish King distribution plant in Burbank.

Fish King, which supplies hundreds of Southern California restaurants and has a store in Glendale, says it buys processed snow crab meat, squid and other seafood from China to meet market demand and because the price is competitive. Dedmon says the company relies on government inspections, its importers and its own experience to ensure the fish it buys is safe.

"We're definitely concerned about melamine, but by the time the fish gets to us, health issues should've been taken care of by the government agencies and brokers that we go through," he said.

I find this quote very interesting for many reasons. First off, about a year ago, when I was interviewed by various publications regarding Chinese food safety, I was asked if any of my food (many of them fish) importing clients would speak with the interviewer. Not a single one would. I particularly wanted one client to speak with the media to talk about how it was so conscious of food quality it had cameras recording every single food item that went into its boxes in China. Even this company would not talk, believing that no matter how much it touted its safety record and safety procedures, the only thing people would take away from the article was that it imported food from China.

I suspect Dedmon talked here because (at least as far as I know) snow crab meat and squid are not farm raised in China, rather, they are merely processed there. As such, those seafood items would almost certainly not pick up any melamine in China.

China Law Blog's own Steve Dickinson brings a bit of his own gloom and doom to the article:

In the U.S., commercial fish farms have to use feed from a handful of approved suppliers, but in China, there may be hundreds of thousands of sources for feed, said Steve Dickinson, an American attorney in China's coastal city of Qingdao who ran a salmon-farming business in Washington state.

Melamine has "infected the whole system in China," he said.

Even some Chinese feed suppliers are no longer denying the commonality of melamine spiking:

More than 15 feed suppliers in various parts of China were contacted for this story. Most of them declined to comment or said they didn't add melamine. But some of them said the practice of spiking feed with it had been going on for at least the last six years, with inspectors checking some types of feed products more tightly than others.

The US FDA is not yet testing for melamine in seafood and it seems most private testing outfits do not do so either.

For more on how to handle China quality issues (and in the spirit of "here we go again), check out the following posts we have done on this issue:

-- "China Products: Ya Want Quality? I Got Quality."

-- "China Quality Control: Darkness Before The Dawn."

-- "Quality Control Direct From The China Factory."

-- "China Products: Forget Trust, Just Verify."

-- "China Product Outsourcing Done Right: A Sort Of Guide."

-- "China Product Problems: What's Morality Got To Do With It?"

-- "China Products: Quality Costs Extra"

The biggest problem with melamine, however, is that it is so damn difficult to spot.

What should we do? I would particularly love to hear from people involved in the Chinese food business.

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The weakened economy has served to highlight the renewed need to engage in best practices when securing product from China and Ashton Udall over at the Global Sourcing Blog has a nice post out on what companies need to be doing on this front in these tough times. The post is entitled, "Global Sourcing Outlook: Staying on Top in the Short Term." In it Udall makes "four suggestions for actions you can take now, to make sure your business does not get burned on the supply side, particularly if you have manufacturing sources offshore" in a "recessionary world economy."

Do a cost audit of your current supplier(s) and consider new suppliers. Prices negotiated 6 months ago may be uncompetitive now. Manufacturers are hungrier. Some, if not many, of their costs of production have dropped. Many of these cost reductions are driven by falling world demand (which we hope, and I believe, is a short-term phenomenon). Cost saving opportunities and their causes will vary from supplier to supplier, so reviewing price at your existing factories as well as looking at new sources, may yield an opportunity for short-term cost savings that could help your bottom line now. When demand picks up, it will be on your supplier(s) to raise the issue of rising costs with you. But, there is always a lag time between increasing costs and rising prices, so don't fail to capitalize on current conditions.

Monitor the financial health of your sources. Factories, both domestic and offshore, are facing very tough times and many are closing shop. Generally, when this is happening, their isn't much incentive for factory owners/managers to let their customers know, "hey, we may not be around in a few months". While "credit checks" in low-cost country sources (LCCS) are generally not typical of what we might consider a credit check in the U.S. (i.e. running a credit check through Dunn & Bradstreet), informational audits that can be performed through 3rd party information gathering can aid your assessment of your supplier(s) financial health and risk. There are companies that perform these services in popular LCCS' like China, India, Mexico, etc., and you can generally get an idea of a factory's current credit situation and perhaps some current financial information. This could give you the heads up you need to start securing second and third sources of supply, in case your primary source suddenly stops responding to your emails and phone calls, and their website disappears. Performing these kinds of audits are not too expensive, $US500 to a few thousand dollars, and may save you your business in the long run.

Continue monitoring your quality control, and if you haven't been doing so very well thus far, START NOW! Don't become a quality disaster/recall headline or a product liability defendant. When times get tough, suppliers look for ways to lower costs and maintain margins. Many may feel inclined to let the quality of materials or workmanship slip to save a few cents on your next order. If there is ever a time to continue your quality control program or implement a quality control program, it is when companies supporting you are potentially hurting.

Don't treat your suppliers as the enemy. An honest conversation may open up new opportunities for mutual gain. When times get tough, people often begin looking for easy scapegoats and targets. It may be tempting to push unreasonable demands and threaten even your best suppliers. None of the recommendations above are intended as a suggestion to get absurdly tough on the vendors supporting you. Be diligent, negotiate well, and expect results. Approach the need for businesses to survive during these challenging times from the perspective of "how can we work together to mutually survive and eventually flourish?" Gaining transparency in the supply chain ("transparency"-- basically sharing information) is a best practice in good and bad economic conditions. Being forthright and reasonable with your suppliers will not only earn you their respect and appreciation, but may open opportunities for new ways to reduce costs, improve efficiency and/or quality, and present new business opportunities. This is such an easy, but often overlooked method of dealing with supply chain challenges, and it might begin with a simple and honest conversation.

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Jack Perkowski, who knows as much about China business as anyone, recently wrote a piece for the Far Eastern Economic Review, entitled, "The Return of China Heavy." By China Heavy, Perkowski is referring to what some call the "real China," the China beyond the Westernized portions of places like Shanghai and Beijing. The economic downturn is hastening this return:

After experiencing “China Light,” it’s difficult to imagine that “China Heavy,” the darker, less economically and legally developed side of the country, still exists. However, a slowing economy and a dramatic decline in asset prices are demonstrating that China Heavy is alive and well, and investors should beware. Like rocks in a river that only become visible when the water-level drops, signs of China Heavy are now coming to the surface as the country’s economic waters recede. Recent articles on troubled investments in China, by foreign and domestic investors alike, are once again highlighting corporate governance and other legal issues that were the subjects of the China stories of the 1990s.

I completely agree as over the last three months or so, my law firm has been going crazy with what Perkowski would call "China Heavy" work. Six months ago, 99% of our work involved helping Western companies get into China and do deals in China; now, about half our work involves helping Western companies extricate themselves from joint ventures and other deals gone bad and to help them collect on unpaid debts. Since the inception of this blog, we have been warning of days like these and now that they are here, all we can do is reiterate the things Western companies must do (these things have become even more critical) to reduce their risk of problems.

Perkowski does a fine job setting out the basic things of which Western companies must be vigilant:

What should investors pay particular attention to in today’s tougher economic environment? Following are a few due diligence items that warrant enhanced scrutiny:

Accounts Receivable have always been problematic. Despite the substantial progress made by Chinese banks, the country still does not have an efficient system for distributing capital. When times are good and property and stock prices are rising, bank loans secured by real estate or shares are plentiful. When the markets turn, the banks are quick to demand repayment. As a result, customers that looked financially secure a year ago may now be problem accounts.

Understanding the true profitability of a company in China is often more art than science. Rapid asset inflation has made it even more difficult. For example, historical profits of many Chinese companies have been bolstered by stock-market gains. Like individuals, companies in China flocked to a rising stock market and made money on the way up. Those profits cannot be counted on in the future, and there may even be hidden, unrecognized losses on the balance sheet.

Recent sharp declines in raw material prices mean that inventories may well be vastly overstated. In a post 2005 world when raw-material prices seemed to rise ever higher on a monthly basis, the temptation to overbuy at current prices has been strong. Also, some companies have sought to lock in prices of raw materials by entering into futures contracts with suppliers. Prior to the economic crisis, that seemed like a safe bet. Today, it can represent a large off-balance-sheet liability and an overhang on future earnings.

Off-balance-sheet liabilities are especially difficult to find and quantify in China. A recent example: the shareholders of a company made certain promises to its workers which they chose not to disclose to the new owner, a prominent Chinese businessman, when they sold him the company several years ago. As the factory’s fortunes turned down this year, the workers demanded payment and took the new owner hostage when he refused to pay.

Getting proper title to land use rights is challenging in China. Furthermore, in a fast growing market where getting into production as quickly as possible is the prime concern, it is often put off until later. Rapidly escalating property prices have presented an ideal opportunity to sell off or pledge real-estate assets as a way to get cash. In the current environment, investors would be wise to clarify title early in the process to determine both true ownership and the nature of any outstanding claims.

All true, and all this can be summed up with the old adage of due diligence, due diligence, due diligence.

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Not exactly sexy, but absolutely crucial for anyone sourcing product from China are the nuts and bolts of how to do so. I have been around long enough to see the countless mistakes sourcing neophytes can make when buying product overseas, including the following:

1. Not realizing that the payment was for product at the factory, and did not include any transportation costs.

2. Not realizing that the Christmas product ordered in August would not arrive until the following year.

3. And my personal favorite, and one I have seen on more than one occasion, not realizing until the product hit the United States that it is illegal to import or has a prohibitive duty.

Anyway, the über practical China Sourcing Blog just did part 4 of its series entitled, "How to Make a Good Enquiry" and those at all new to buying goods from China (or from anywhere else, for that matter) would be well advised to check them out, here, here, here, and here (in order from 1 to 4).

The concluding sentence of the last post in the series is as follows:

In this series we have talked about a lot of elements which together make a good enquiry. These elements can reduce risk, increase sellers' and therefore buyers' efficiency, and of course help in getting the quotation you want.

I wholeheartedly agree.

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In a post entitled, "Why China Matters, Part 2," Steve Ganster explains why Western businesses should and do continue to look to China for growth and for manufacturing. Yes, China's growth is slowing considerably, but at least we are still using the word, "growth."

Ganster does a great job laying out what China still offers:

-- A strong and deepening supply chain and infrastructure
-- A major and continually growing domestic market in addition to export potential
-- Large volume scale and its benefits to cost competitiveness
-- An ample workforce that can be trained and empowered
-- Significant latent productivity to be gained by further process improvements
-- A very supportive pro-business government

Then, in what for me is clearly the money quote of the post, Ganster says, "Talk to Westerners who have dealt with government, employees and unions in Vietnam, India or other developing southeast Asian nations. This may open your eyes to the positive things China offers."

So true. So true.

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I am a big fan of Thomas Barnett who is, perhaps, most famous for dividing countries between core and gap, as explained here by Wikipedia:

Barnett has termed the globalized countries the "Functioning Core," or simply "the Core." The other countries are part of the "Non-Integrating Gap," or simply "the Gap." The Gap has been shrinking as globalization has expanded. Since most terrorists seem to come from the Gap, he believes that the American military should focus on building partnerships with "seam states," countries bordering the Gap, to stabilize those regions. Stable states would bring more investment and more connectedness with the outside world, therefore progressively shrinking the Gap. The end result of all of this, if it proves to be successful, would be nothing less than the end of interstate warfare on the planet, and probably a significant reduction in intrastate warfare and other problems like terrorism.

I was reminded of these distinctions when I read this post on China Bystander, entitled, "China Considering Sending Warships To Fight Somali Pirates." Many years ago (while under a mosquito net in Papua New Guinea, but I digress), I read Bernard Lewis's book on Islam, entitled, "What Went Wrong," and he too seemed to divide the world between those countries that have embraced modernity and those countries (almost exclusively Islamic) that have explicitly rejected it. I divide the world between those countries that are already integrated into the worldwide economy or moving towards such integration and those countries (Iran, Zimbabwe, North Korea, quickly come to mind) that seem too distracted by internal and/or external repression even to try moving forward economically or to engage or work with the rest of the world.

Yes, China's talking of sending troops to Somalia is out of self interest, but it does show engagement and it does place China squarely within the core.

UPDATE: Barnett says the same thing, a day later, here.

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Apologies to Jack Nicholson.

Having grown up in a small Midwestern city, I have an inherent (and what I see as a healthy) distrust of government. Every government. Anywhere.

I was yet again reminded why when I read this excellent Wall Street Journal article on British Petroleum's recent problems in Russia, entitled, "Misreading the Kremlin Costs BP Control in Russia Venture." BP thought its getting close with key Kremlin players would protect them in Russia. Most unfortunately, for BP, however, when its key Kremlin players fell out of favor, it too fell out of favor. Russia can be particularly problematic, but other countries certainly are not immune. I have seen up close and personal how allying with government can be like playing with fire:

1. Many years ago, I was working with an American company who was on the verge of getting a huge supply contract with the Korean navy. The son of the President was setting up the deal. I knew the deal was in the trash when I saw the son on the US evening news getting into a Korean police car in handcuffs.

2. Many years ago, my law firm had a very close relationship with a Russian vice-governor. His beloved daughter was one of our paralegals and, lo and behold, company after company from this Russian province would contact my firm for international law assistance. This work dried up rather quickly when the father was axed to death.

3. Many years ago, we had a client who ran a business on Chinese military bases. The whole practice was of questionable legality, but his closeness to a high ranking military official seemed to isolate the enterprise. Then the high ranking official retired and within less than a year, our client was off all the bases and a new company was there in its place.

4. We had a Russian company as a very good client, the owner of which decided he wanted to be Governor of his province. He ran and lost, in a fairly close election. Within a year, his various companies had become greatly diminished because of constant government investigations, that appeared to have been done to keep our guy in his place and to teach him not to run for office again.

Government people come and go and when your people are gone, much or all that you have worked for goes with them. This is NOT a reason not to ally your company with government, but it sure is a reason to remain wary.

Would love to hear your China stories on this, as I am sure there are many out there.

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There is a fairly prevalent theory that the best time to start a new business is during a recession/depression. I buy that. During tough times, established companies often disappear, get overly cautious, and lay off scads of good people, who can be hired relatively cheaply. During tough times, big shifts can occur. A few months ago, I pretty much scoffed at the idea of Shanghai becoming a financial capital, in a post, entitled, "Shanghai To Replace New York As World's Financial Center. I Don't Think So." Though I certainly am not convinced, I certainly am not scoffing either. To use a bad pun (particularly during this bear market), China is grabbing the bull by the horns and seems to be boldly making moves to increase its worldwide standing as a financial center.

My best friend from college, attorney-editor-author, Jacob Margolies (b/k/a "THE Cob") was kind enough to send me the notes from his interview of some of the people who came from Shanghai to help lead a group of Chinese financial companies who had traveled to London, Chicago, and New York in search of bi-lingual Chinese-English financial talent (strongly focusing on Chinese nationals).

Jacob's notes are as follows:

By the way, no US press attended this event only Chinese and Japanese
(maybe 6 reporters in all)

Shanghai Job Fair Press conference-December 13 at Sheraton LaGuardia
East hotel in Flushing Queens
------------------------------------------------
Dali Mao, deputy director General -- Shanghai Bureau of Human resources
and Social Security:

(He introduces the delegation members and welcomes everyone and thanks them for coming to learn more about Shanghai)

We started our trip on December 5. Our first destination was London.
On December 6 we held a similar event to this in London and on
December 9 we held another one in Chicago and this today is the last
event of our trip. We have two main objectives for this trip. The
first is to welcome potential candidates to come to Shanghai since the
city is trying to build itself into an international center of
economy, finance, trade and shipping center in the world. The second
purpose is to take this opportunity to meet with Chinese students and
those Chinese who have been working abroad and learn about their
current situation. This is part of our regular work. That is a brief
introduction.

Q-and-A

Q: According to one report, 27 companies from Shanghai are
participating in this event. Can I ask how many people are you going
to employ and how is the reaction of the applicants?

A: Actually 19 financial institutions from Shanghai came with us on
this trip and another 10 financial institutions of Shanghai put up
their vacancies for them. They did not actually come on the trip. We
have 170 mid-level to high level job vacancies that we brought over in
the financial area. And we also brought over job information on about
1,000 non-financial job vacancies.

Among those 170 positions, it covers jobs in banking, insurance, asset
management and pension insurance.

This event has received very positive feedback from the Chinese
overseas applicants and also from the media.

Nearly 1000 turned out to the event in London. 200 turned out in
Chicago. And according to our very initial calculation already 400
have registered for today's event. (note it seems over 1000 attended
in NY judging from the large crowds)

This is the biggest event ever organized by the Shanghai municipality
in terms of financial human resources (HR) exchange to set up a
platform for companies to participate in international HR exchange.

Q: (from Taiwan media) Was the trip planned before or after the
financial crisis? And what has been the response of laid-off
financial people abroad to this event?

A: This event is part of our regular work. Shanghai has set a
development goal to be an international center for economics, finance,
trade and shipping in the world. This has been, our so called
4-center strategy, since 1992. In order to build an international
city, you need talent from all over the world. We need financial
talent from all over the world. So this event just happened
coincidentally with the financial crisis. We did similar things
before. We had a similar event in 2002 and earlier.

So far we have received very positive response from the applicants
whether or not they had been laid-off. Generally they want to learn
about the situation in Shanghai. Rather than just a job fair, it is a
kind of information exchange event for those who want to have career
development in China and Shanghai.
---------------------------------------
Sheng Yu Rao-Deputy Director (Division of Human Resources)

Before our departure from Shanghai, we did a lot of preparation to
ensure a proper result We did not just put out job information but
also worked to enhance overseas Chinese knowledge about Shanghai
and also upgrade the local institutions and help them to have better
knowledge of the needs of overseas Chinese professionals. We have
strengthened contacts and channels with overseas Chinese
professionals.

Our initial results have been very positive not just from the people
who showed up but also from the overseas financial institutions who
told us they appreciate us for organizing this event. This has
deepened knowledge about Shanghai. There was a lot of detailed
preparation work to make it easy for the applicants to find a match.
We brought over 12,800 documents, not only about the job openings but
also about the financial institutions of Shanghai and also about
recent developments of Shanghai's financial industry. And we have
provided contact details for these institutions so overseas Chinese
can have further contact with these institutions. This is a good
opportunity to open and broaden mutual exchange channels with overseas
Chinese.

By way of comparison, we did this in 2002 and then brought 7 companies
and had 50 job openings for the financial service bureau. So you can
see that the scale is quite different this time. It is a big
difference today. Just in terms of quantity it is much higher than
2002.

---------------------
Weimao Huang-Director General Secretary (Station chief) Shanghai
Municipal Bureau of Human Resources and Social Security:

The issue of returnees, Chinese students studying abroad, is an issue
that the Shanghai municipality attaches great importance to.
Currently we have over 70,000 returnees in Shanghai. We have been
doing our best to attract Chinese students overseas back. Since 2003
we started the so-called 10,000 convergence program-aiming to attract
10,000 students back in 3 years time. And so far annually there have
been about 5000 Chinese students from overseas returning to China and
they have done a great job in adding to the local economic and social
development.

Almost every year we organize some kind of event to enhance contact
with overseas Chinese professionals. In short, we expect more overseas
Chinese to come back to Shanghai to support the economic and social
development and we will provide them opportunities to realize their
career ambitions.

[Mr. Huang invites you all to Shanghai to learn about this overseas
Chinese and career development.]

Q: Has the financial crisis in NY or London affected this trip? Have
businesses in Shanghai decided not to hire that previously had been
planning on participating in this event?

Mao: The China market is pretty normal still and development remains
the key theme and that includes developing a financial center in
Shanghai. So in terms of this event, we do not see any negative impact
at all in terms of the recruiting side.

Q: How are pay and benefits compared to US and Europe in financial
services industry?

Mao It varies depending on the institution.

Q: Can you hire laid-off Wall Street workers at a lower cost now?

Huang: We will not reduce our pace or speed because of the financial
crisis in building a financial center in Shanghai. We still have
dozens of companies coming here to recruit which reflects that the
financial industry in Shanghai is still in quite good shape.

We are very serious about this event and you can see we put out very
detailed job descriptions in terms of job titles the institutions have
listed jobs in development strategy, asset management, working with
financial derivatives, and also for IT jobs.

In terms of salary, we have jobs hiring for up to 1.5 million rmb
which I think is roughly $220,000 dollars.

What do you think?

PS Sorry to keep hawking for votes, but I am pleased to say we have taken the lead in the American Bar Association's (ABA) Best Law Blogs competition and I would certainly appreciate your going here and voting China Law Blog.

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I rarely have revelations, but after being knocked over the head countless times over the years, I finally got one regarding how Chinese businesspeople view their businesses differently from how American businesspeople view theirs.

The other day, a deal my law firm had been working on for a US company fell through, much to the consternation of nearly everyone involved. By everyone, I mean the lawyers, the accountants, and the US company. The only party that did not want the deal to go forward was the Chinese company. I am going to have to be incredibly vague here, for attorney-client and confidentiality reasons, but the main reason the deal fell through was because the Chinese company (the Chinese company is really an American-Chinese company run by a Chinese family) did not like how the American company had so little cash on hand. The Chinese company kept insisting that it did not want to give up its cash position, even though everyone else kept insisting that cash had nothing to do with the deal and that cash on hand could be equalized.

At around that same time, both Steve and I were communicating with two different Chinese companies that were owed considerable sums by US companies and both were unwilling to spend any money at all in an effort to collect those sums. Steve and I could not understand why they were unwilling to risk relatively small amounts to fund litigation to recover relatively big amounts, particularly since in both instances we believed that if these two companies did not get more aggressive in their debt collections, they would end up going under. For more on this phenomenon, check out this post, entitled, "Ranking Creditors. China Comes In Dead Last."

Then it struck me. The typical Chinese businessperson is far more protective of his or her cash and far less protective of his or her business than an American businessperson. American businesspeople frequently put in their cash into their businesses to keep it going, whereas Chinese businesspeople seem not to. I suspect the following reasons for this, but would LOVE to hear other potential reasons from you, our dear readers:

1. Americans are always talking about building a business. Businesses are run for more than just money. They are run as something to pass on to one's children. They are run for the employees. Not saying money is not also a huge factor, but the sense I get is that it is less of a factor for an American business than for a Chinese one.

2. Americans put their lives into their businesses. Many Chinese do also, but many also are there due in large measure to their government connections and to government largess. I suspect this too plays a part.

3. Americans do not generally fear the government will shut down their business. This is less true in China.

4. Americans generally know that if they put their own money into their business and their business collapses, they themselves can declare personal bankruptcy and start their personal financial life over again. This encourages them to borrow, borrow, borrow to save their own businesses (or at least it did when borrowing was so easy). Chinese individuals have not had such ready access to credit nor is failing to pay one's personal debts in China treated remotely like it is in an American bankruptcy.

These are the reasons why I believe Chinese businesspeople tend to emphasize cash much more than American businesspeople and why American businesspeople tend to emphasize saving and growing their business more than Chinese businesspeople.

Again, what do you think? Am I off base here? If I am right, then how does this affect how one should deal with a Chinese company?

PS I am slowly but surely gaining on the first place position in the ABA Journal law blog election and I would very much appreciate your voting for China Law Blog here. With you, it's "Yes We Can."

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CnReviews nicely sets out China's holiday schedule for 2009. Knowing me, I will probably remember to consult it only when nobody is responding to my emails/phone calls.

The key dates are as follows:

January 1-2 New Year's
January 25-30 Chinese New Year
April 4-6 Qingming Holiday
May 1 Labor Day
May 28-29 Duanwu Holiday
October 1-8 National Day

Just remember, January, April, May and big-time in October.

Oh, one more date. January 2 is the last day you can vote for this blog here.

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Met with a food client today that imports about 85% of its product from Asia and nearly half that from China. Its sales are still growing.

"But I thought people were moving away from China product because of all the safety scares," I said to him. "They are," he told me, "but not nearly as fast as they are running to them because of their low price and because they do not even know they are from China."

"Well I am always really careful about that stuff," I boasted. "So what, you are still buying Chinese food products all the time," he said. "It makes up the ingredients in all sorts of foods. Most garlic in the US comes from China. Did you know that?"

"No, I didn't."

Oh.

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The always interesting BizCult is in the midst of a decidedly unscientific expat salary survey. In its post, "The Real Slim, Shady Expat Wages Stand Up," BizCult reveals that of "15 respondents so far, the majority are 26-30 year old professionals from North America making US$10,000-$19,000 a year."

I find this numbers both fascinating and highly believable. There are countless young and talented people working either legally or illegally in China at what in the United States would be absurdly low wages. BizCult correctly notes that Starbucks in China costs about the same as in the US, but fails to mention that one can rent a decent apartment in Shanghai or Beijing for around $300 a month (or less, depending on the definition of the word decent) and that many ex-pat (or perhaps more properly, half-pats) are taking jobs with Chinese companies these days. China's second tier cities cost less and salaries there are presumably also less.

I knew of an American lawyer who worked for a Chinese law firm for $2000 a month and of another, very experienced lawyer who was paid $30,000 a year.

BizCult's post proves that though there is money to be made in China, there is also a whole lot of job competition there as well, even for foreigners, particularly those without a great deal of applicable experience.

I would love to hear from readers regarding salaries in China. Please mention the city and how your salary (or those of others) impacts your standard of living. Anonymous is fine.

UPDATE: Modern Lei Feng did an excellent post on this, entitled, "The Dwindling Expat Package," positing that true fluency in Chinese creates salary distance from those who are not. I can say that for my law firm, the difference between someone who can read Chinese and someone who cannot is simply huge. Huge.

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All Roads Lead to China recently did a post entitled, "Real Estate Assets Lure Chinese Investors," on how a group of Chinese investors is going to the United States to purchase distressed homes. Yes, but mostly no.

The article on which All Roads bases his post comes from the Shanghai Daily and it goes a long way towards confirming what I already thought. Those Chinese coming over here to look for houses know not what they are doing. The article, entitled, "Domestic investors to shop for cheap US houses," sets forth the ill conceived plans:

The 10-day trip from January 15 will cover San Francisco, Los Angeles and Las Vegas, Shanghai Morning Post reported today.

Led by Soufun.com, one of China's biggest online second-hand home sellers, the group will mainly focus on disposed houses after mortgage defaults. The average home price was between US$40,000 and US$100,000, the report said.

US real estate agencies will show them nearly 20 houses in three days, according to the newspaper.

The itinerary showed agencies in the three cities will serve them on January 16, 18 and 22.

Each member of the group needed to pay 14,900 yuan (US$2,166), excluding airfare, for the trip.

The group now has 32 applicants, half of whom were industry insiders. The others were parents of students studying in the US, the report said.

I say ill conceived because my firm has gotten numerous phone calls and emails from Chinese lawyers and investors in the last couple months and, with only one exception, none of them were truly prepared to purchase real estate in the United States. Almost all of them are under the fairly common misconception that purchasing real estate in the United States gets you a long term visa. It does NOT. Many of them were under the misconception that they could buy four bedroom houses for less than $100,000, while others quoted $150,000. Those numbers are completely out of line. There are no buildable lots in Seattle for less than $150,000, much less lots for that price with four bedroom homes on them. And Seattle is cheap compared to Los Angeles and San Francisco. Home prices have plunged in Las Vegas, but a client of mine who went there planning to buy a slew of houses recently reported back to me that it still costs at least $250,000 for a fairly nice house even there. I cannot even imagine what a $40,000 house in San Francisco is like, assuming there is such a house.

What are these Chinese buyers thinking? Are they being misled?

What fascinates me about the practice of international law is that no culture is immune from engaging in countless invalid assumptions when doing business outside their own sphere. This blog is mostly about Americans and Europeans seeking to do business in China and, as such, a fair amount of it is devoted to highlighting real and potential mistakes. These Chinese buyers show that mistakes go both ways. But we all knew that, already, right?

Chinese investors will no doubt eventually learn what it will take to purchase real estate and American real estate companies know that. One of the growth areas for foreign investment in China (and even more so in Russia, it seems) is American real estate companies setting up offices in China to market US properties.

UPDATE: The Los Angeles Times just did a story, entitled, "Chinese tour groups go house-hunting in U.S.: The cash-rich visitors are looking for bargains in the plunging market. The trips are part of a broader trend of individuals and businesses in China seeking greater investment opportunities abroad." This article quotes someone at Soufan saying their group is focusing on homes selling for between $200,000 and $300,000. This is far more realistic than the numbers set forth above and it leads me to believe the Shanghai Daily story got it wrong.

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I had a long and arduous meeting recently with a long term client. The client had called me to discuss its difficulties in getting paid and its difficulties in making its payments. I suggested a big meeting, to which he bring all of the documents relating to those to whom his company owed money and all of those who owed his company. I have modified the facts a bit to disguise the specific company, but the substance is all there.

Six companies owed my client amounts ranging from around $15,000 to $350,000. Half were in the US, half were in Asia. My client owed around 40 companies amounts ranging from around $1000 to $100,000. About 90% of these debts were to Asian and Russian companies, with the other 10% (all small) to US companies.

We went through the receivables first and decided I would call or write all six companies right away. Within two weeks, all of the American companies had either paid, or, in one case, signed a pretty much airtight promissory note to pay within three months, with non-payment leading to a quick, local, judgment, along with a default interest and attorneys' fees. We also took a security interest so that even if this company files for bankruptcy, my client will have some priority. We are in still in the process of negotiating with the three Asian companies and plotting strategies if negotiations fail.

What we did with the payables is more interesting.

I asked the client why 90% of his payables were Asian and Russian when I had always thought only about half its business was with Asia/Russia, with the other half being with North America. He responded by saying I was right about his business, but the Asian/Russian companies just "didn't bug us as much to get paid." We then started examining the payables and ranking them in terms of contract quality. In other words, of these approximately 40 creditors, how did they rank in terms of the strength of their contracts. By this ranking, all of the bottom seven were Chinese companies.

We then talked about how many of these companies had made any real effort to collect. A bunch of the Korean and Russian companies had retained lawyers who had written demand letters. The letters for the Korean companies (all in English) came from Korean lawyers in Korea and Korean lawyers in Los Angeles, none of which we believed would be able to sue my client quickly. The letters for the Russian companies (all in English) came from lawyers in Moscow. We decided I would contact the Korean and Russian lawyers to work out payment deals, which I subsequently did. The few Japanese to which my client owed money were deemed by the client too important not to pay and so we agreed he would contact them himself, explain the situation, and start paying.

Not a single Chinese company had yet retained a lawyer and I explained to my client my firm's history in trying to represent Chinese companies owed money in the United States. I told him of how Chinese companies expected my firm to take on these sorts of cases on a 5% contingency fee basis, with my firm paying all costs, and, believe it or not, sometimes even requesting we guarantee full payment. I told him of how we had successfully handled a number of business collection cases for Korean, Russian, and Japanese clients, but had not once even taken one on for a Chinese company.

I recently received an email from a very savvy Chinese national who is attending law school in the United States. This law student wrote this email to a lawyer in China who had contacted him regarding their working together to collect debts on behalf of Chinese companies. The translation of that email is as follows:

What does the contingency fee option look like? The biggest issue is of course the percentage that the attorney can deduct (both attorneys fees and costs, i.e. court costs, travel, etc.). The typical arrangement is 30--35% of any recovery after deducting fees and costs for the attorney, and the rest for the plaintiff(s) if there is no appeal. In appeal situations, the attorney gets 40%, in addition to costs. These figures might sound alarmingly high, but they are the norm in the United States, and frankly, lawyers just put these figures in a contract as a matter of course, and there is hardly any bargaining.

With the above said, Chinese companies must adapt to the rules of the game in the U.S. in order to get competent counsel to collect their debt. My understanding is that most Chinese companies don't want to advance court costs, and they want attorneys to retain 5%-10% of any recovery. Based on my knowledge and experience, U.S. lawyers/firms will absolutely not take on very risky representations with such a low percentage. 5% -10% is not worthy of their time and efforts, and they might end up losing money after paying their overhead.

I am sending you this note not to educate or offend you, not at all. Rather, I think that in order for the vast number of Chinese companies to have a chance of getting their money back and to fight back when wronged, they must know the rules of the game and play by them over here. And they must not insist that the rules here be the same as in China; otherwise, they lose money rightfully belonging to them, and a chance to get it back through competent representation in the courts. Since you are, apparently, leading the efforts in debt collection, I think it is important that you start informing the Chinese companies what is reasonably expected over here by U.S. attorneys in terms of percentages, so that they don't overlook collection of their money entirely simply because U.S. lawyers demand more in their contingent fee agreements.

He decided he would not pay any of the Chinese companies unless and until his company got flush again.

I have another such meeting next week.

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When I first read this post over at the Josh in China blog (why are there so many Joshs in China, anyway?), I smiled. But then I frowned. Okay, I didn't really frown, but I'm going for literary effect here.

The post is entitled, "Interesting Cultural Differences" and it astutely (albeit reflexively) notes how the women at Chinese toll booths are uniformly "extremely good looking girls." When Josh discussed this observation of his with a cab driver, the cabbie responded by saying, "Of course! These are the people welcoming you into the city. They have to be beautiful!" Josh then tells us that the pay for these jobs is "three or four times that of a typical retail job." Probably better job security and benefits too.

Now at first this seems harmless, but it really isn't. Now before anyone calls me a prude or anything, trust me I am not. But I also have two daughters and I would never want them either to be hired or not hired for any job based on their looks. Now I also know full well that nearly all of us have our own prejudices when it comes to looks and there is no way those can be fully excised when hiring, but blatant sexism is a bad thing and that is exactly what we have here. With any sexism on the up side (truly no pun intended) in terms of hiring means there has to be a concomitant sexism on the downside. For every attractive woman hired for this job, there is one less attractive woman who missed out on it.

If I had to rate China on a sexism scale among the countries I know best, it actually does fairly well. It is not as good as the United States, but it is considerably better than Korea and better than Japan as well. I would say it is about the same as Russia. My sense is that pretty women in China are favored more in employment than in the United States, but that women who do their jobs well (no matter what their looks) are taken seriously. I am basing nearly all this analysis on observations in law firms and on conversations with female lawyers so it is about as far from scientific as one can get.

Would love to hear from others in other industries. What do you think?

UPDATE: China Beat, recently did a somewhat related post, entitled, "From Iron Girls to Oriental Beauties," on the historical perceptions of female beauty in the PRC.

UPDATE: Off the Record has a great post, entitled, "For Whom the Belle Tolls," saying, of course there is sexism in China and that is why so many Chinese women want to work for a foreign company.

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One of the things that has always fascinated me about microeconomics is how imperfectly it can track the macro picture. For example, on the macro level, we might hear of a country experiencing negative growth, but on the micro level, this means some companies might still be growing at 20 percent a year.

During the Asian crisis of 1997, my firm represented a company that sold what I would call "luxury fruit" into Korea. Korea imports a large percentage of its fruit and the old axiom is that food does okay during recessions because people still need to eat. I'm guessing (but do not know) that fruit consumption probably declined a bit in Korea in 1997, but probably not all that much. I recall (but please don't anyone hold me to this statistic), that fruit imports that year declined around 20%. But Korean sales for my client fell from $2 million a year and rising to $20,000. In other words, his products were pretty much wiped off the Korean map.

And yet there will also be companies that can thrive in difficult times. Our fishing company clients are actually doing quite well right now. Fish sales have generally not declined, but the cost of catching fish has. It has become easier and cheaper to find crew and, most importantly, the cost of fuel has been cut in half.

I mention all of this today because I just read an article in Plastics News (I know it sounds boring, but trust, me it isn't), entitled, "Worldwide Recycled Plastics Trade Plummets." And it is not just plastics. My law firm represents a number of companies in the recycled paper, plastics, and metals industry (a/k/a the scrap business), all of whom sell mostly into China. Until around three months ago, we typically would have at least one recycling deal pending at any given time, many times two. In the last three months, we have received a couple calls from our clients telling us they might have a deal, but not a single one has gone through. The only calls we get from our recycling clients these days are those where they want to discuss how they might seek to collect from their buyers who have stopped paying.

About a month ago, the largest recycler in one of Asia's largest cities told me it "was losing big money on every paper and plastics sale" and the price of metals had fallen so much it would soon be losing money on every metals deal as well. The Chinese companies to whom it sells its product are renegotiating deals after the product has shipped or they are just flat out not paying at all. Like many in the recycling business, this company has a comparatively long term contract with its city and it must continue to pick up recyclable materials. It has had to secure additional warehouse space to store it. This situation is repeating itself across the world. Recycling companies are getting squeezed.

What China related industries are thriving right now and which are really hurting?

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Interesting though admittedly somewhat unscientific poll up on the Capital Record blog (a consistently thoughtful blog which I just added to our blogroll), in its post, "Poll portends positive for China PR." The post is on a poll conducted on the blog finding that 75% of 56 respondents see a positive year ahead for PR in China:

Sure, it’s not a statistically valid sample size, but we assume all those who took part in the survey are China PRO’s – that is China-based public relations officers. In this sense our poll has quality over quantity. We are confident that those who responded were “in the know” on next year’s PR budgets. We cannot guarantee this but the consistency of the responses throughout the poll suggests the respondents were credible.

Since we started the poll we have had near consistent ratings of 70 to 75% of respondents anticipating no impact on local PR budgets in 2009 from the crisis. At the time of closing the poll 75% said they expected no impact while 18% expected some reduced funding for projects. Importantly, only 7% of voters anticipated projects being placed on hold and/or the possibility of staff cuts in 2009.

That bears out much of what we have been picking up anecdotally from others in the industry. While there is some concern about what might happen into 2009, the overall sense is that projects are continuing and China PR budgets are not being impacted. Indeed, from the perspective of AC Capital, we are currently experiencing our busiest fourth quarter since opening shop five years ago. That certainly portends well as we end a tumultuous year.

I mention this poll because it reinforces what my law firm has been seeing when it comes to China: no slowdown in the service sector. What are you seeing?

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The most recent issue of Foreign Policy Magazine has a story entitled, the "Global Cities Index," in setting out the 60 cities "that shape our lives the most." Beijing (#12), Shanghai (#20), Guangzhou (#52), Shenzhen (#54) and Chongqing (#59) made the list and a sidebar article entitled, "Chinapolis," provides the following information on these cities:

Beijing (#12)

Population: 11.1 million

Population in 2025: 14.5 million

Claim to Fame: China’s cultural, educational, and political capital. Host of the 2008 Summer Olympics and now home to the world’s largest airport.

Major Industries: Government, tourism, chemicals, electronics, textiles

GDP per capita: $9,237

No. of Days to Start a Business: 37

Roadblocks to Growth: Pollution, dust storms, avoiding a post-Olympic slowdown, overcrowding.

Shanghai (#20)

Population: 15 million

Population in 2025: 19.4 million

Claim to Fame: The country’s economic capital

Major Industries: Banking, finance, fashion, electronics, shipbuilding

GDP per capita: $9,584

No. of Days to Start a Business: 35

Roadblocks to Development: Danger of a bursting economic bubble, replenishing energy supplies, a slowdown in the global economy, traffic.

Guangzhou (#52)

Population: 8.4 million

Population in 2025: 11.8 million

Claim to Fame: The largest and wealthiest city in the south. An important seaport and connection to the rest of the world.

Major Industries: Automobiles, petrochemicals, electronics, telecom, shipbuilding

GDP per capita: $9,970

No. of Days to Start a Business: 28

Roadblocks to Development: Crime, traffic, wide gaps between the rich and the poor, clashes between migrants and locals.

Shenzhen (#54)

Population: 7.2 million

Population in 2025: 10.2 million

Claim to Fame: Shenzhen has seen the most rapid growth among all China’s cities. At some points in the past 30 years, it grew at 40 percent a year.

Major Industries: IT, software, construction, food processing, medical supplies

GDP per capita: $11,445

No. of Days to Start a Business: Around 30

Roadblocks to Development: Traffic, high rates of HIV/AIDS, labor unrest.

Chongqing (#59)

Population: 6.4 million

Population in 2025: 7.3 million (2015)

Claim to Fame: Often called the “Chinese Chicago,” the city is an industrial center and gateway to China’s western regions.

Major Industries: Mining, automobiles, textiles, chemicals, manufacturing

GDP per capita: $5,500

No. of Days to Start a Business: 39

Roadblocks to Development: Air pollution, potential of landslides, drought.

I am always both intrigued and skeptical of statistics on how quickly one can start a business in various places and particularly so when dealing with Chinese cities. My firm has overseen the registration of countless Wholly Foreign Owned Entities (WFOEs), Joint Ventures (JVs), and Representative Offices in countless Chinese cities, including all of those set forth above and, until now, it never really occurred to me to distinguish the time it took us based on the city. Rather, our experience has been that the companies doing "routine" business go quickly and the unusual ones that take further explanation go slowly.

What do you think of the "Roadblocks to Devolpment" the article sets out for these cities? What do you think of the ranking?

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There are four kinds of people:

1. Those who truly love the Financial Times and the Economist Magazine.

2. Those who claim to love the Financial Times and the Economist Magazine, but only because they want to be viewed a certain way.

3. Those who read the Financial Times and the Economist because they know they should, and

4. Those who read neither.

I fit into category 3, firmly believing category 1 people are an extremely rare breed.

I'm guessing David Dollar goes into category 1 and I say this not only because he was an Economics professor before he became the World Bank's China Country Director, but because his blog on China's economy actually conveys real enthusiasm for the subject matter. On top of that, it handles very complex subjects with amazing clarity.

I am never going to enjoy reading about China's economy (or any economy for that matter), but Dollar's blog does such a good job of it that I have become a regular reader and I am adding it to our blogroll. As a bit of an aside, does having the last name Dollar increase one's chances of becoming an economist, or did Dollar change his name after he took on the job, a la Madonna? Does naming your kid Ramond increase the chances he will be a bad speller?

Dollar's most recent post is particularly good. It is entitled, "Sustaining growth: China’s need for a new growth model," and in it, Dollar sets out the "four basic principles" that have driven China's growth since 1978, asserts they are still valid, but need "tweaking:"

First, human capital. Pre-reform China did a good job of providing basic education and health to the rural population, so that the country began reform with extraordinarily good human capital for a low-wage country. China has lived off this asset for a long time. But better public support is crucial to ensure basic education for the whole population, including the rural poor. Schooling through at least nine years and preferably 12 is essential if China is to have the labor force it needs in the near future.

A big increase in public spending on education would definitely be a great investment for the new growth model. It may be effective stimulus as well, as it puts money in the pockets of teachers, hires many of the recent college graduates, and convinces middle-class households that they do not need to save quite so much for education spending.

Go here for Dollar's analysis of the remaining three principles of "incentives for private investment," "openness," and "infrastructure.

I just added it to the blogroll.

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I am always saying that my law firm's clients (virtually all of whom are SMEs doing business internationally) are not leaving China because of its new Labor Contract Law, not leaving China because of its increased costs, and not leaving China because Vietnam is better. In fact, I virtually never hear about those things in terms of their China expansions and contractions. There is one thing though that does seem to influence our clients' decisions to leave China or to scale down there: quality.

An Business Week article this week, entitled, "China Losing Luster with US Manufacturers," (h/t to China Challenges) discusses a recent survey indicating manufacturers are most concerned with China's lack of quality, followed by its lack of protection for intellectual property. The article rightly notes these views do not bode well for China:

The souring attitude should be disturbing to China's leadership. If the issue were just eroding price advantages, that would be less cause for alarm. Costs could swing back in China's favor, for example, with fluctuations in currency rates, commodity prices, or changes in China's job market. What's more, Chinese manufacturers have a long history of sacrificing profit margins with lowball pricing to win market share.

The AMR study suggests, however, that U.S. companies are starting to better appreciate the less-visible costs of producing in China. Quality problems, rampant piracy (BusinessWeek, 10/2/08), allegations of sweatshop abuses, worker protests, and other factors not only drive up costs but also harm the value of brands and corporate reputations. "Companies are realizing that the fully loaded costs of importing from China are a lot higher than they imagined," says O'Marah.

Trouble is, China will not be able to improve its quality problem overnight. It will require a long-term transformation of China's regulatory bureaucracy, legal system, and management practices. And Beijing has been promising to control intellectual-property theft for decades, with unimpressive results. If China doesn't start making progress fast, the current slump in export manufacturing (BusinessWeek, 3/27/08) could be the beginning of a longer-term pullback.

In its defense, Western views on intellectual property protection in China lag the improving realities on the ground there, but my sense is that its views on quality pretty much jibe.

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A good friend of mine who is an executive at a large American Bank that owns a good-sized chunk of a large China bank, sent me this report on China's economy from the World Bank. He said that "his" bankers think very highly of this report, as do I.

Its highlights, as set forth on the World Bank's own website:

The impact of the international financial and economic turmoil on China’s economy has been manageable so far, but is expected to intensify. Domestic factors have already made China’s economy slow down in 2008, coming off its high pace in 2007. Against this background, the authorities have adopted a more expansionary macro economic stance, and higher government-influenced spending is going to play a key role in 2009. The stimulus policies provide China with a good opportunity to rebalance its economy in line with the objectives of the 11th five-year plan.

Click here for the full report in pdf format. Good stuff.

What do you think?

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Interesting article by James Hudson over at China Success Stories. Article is entitled, "Want Committed Employees? Learn to Trust Them." Its thesis is that if you want your Chinese employee to work hard for the company, like the company, and do what he or she can for the company, you, as the company, must show real faith in your employee. And this faith includes trusting your employee to handle responsibilities and to give them the freedom they need to succeed.

In the US law firm context, I 100% agree. This totally encapsulates my management philosophy, which is essentially that the key is hiring good people and then letting them go. The employee I have to monitor is an employee I do not want. Just get the job done.

But, is this the right employer philosophy for China? For all businesses in China? For some businesses in China? I do not know the answers to these questions because the closest I have come to managing Chinese employees is managing Chinese lawyers whom I hire to work with me on China legal matters.

What do you think?

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I knew it.

I knew China's new land reform laws making leasing of farmland easier and potentially more profitable would lead to opportunities relating to agriculture.

But it took David Wolf over at the always interesting (you HAVE to check out the string of comments on this post!!!??!) Silicon Hutong and his post, "Why Land Reform is a Tech Opportunity," to explain exactly what those opportunities will be.

Wolf sees land reform as opening things up for agricultural technology in China, particularly in the following areas:

* Drip irrigation: China's shortage of fresh water is already bad, and it is going to get worse. Chinese farms will only be sustainable if they use exactly as much water (and fertilizer, and nutrients) as they need, and no more. Drip irrigation is the best, most practical solution today. As aeroponic techniques develop beyond space travel and dorm-room cultivation of cannabis sattiva, they may eventually supplement drip irrigation, but likely only for specialized applications.

* Greenhouses and Nurseries: beyond the vagaries of pests and weather, the challenges of China's environment is likely to drive the production of cash crops - not just flowers - into greenhouses. We see a lot of this around major cities and in centers like Kunming, but expect this to expand. This involves more than just covered farmlands: it also means temperature monitors and controls, irrigation systems, air-quality management systems, and harvesting.

* mAgriculture: few Chinese farmers can afford laptops, but many more can afford mobile phones to monitor their crops, the weather, and market prices, as well as to take orders, capture opportunities to sell at higher prices, and make payments on supplies and micro-loans. Farmers will need inexpensive yet rugged and waterproof handsets with large buttons, long battery life, and possibly even solar charging capability. They will also need easy-to-use service bundles to include information access and mobile banking.

* Training: there is just no way to get millions of farmers into schools. Raising skill levels in new crops, new tools, and agricultural economics is going to involve a combination of traditional low-tech methods and some experimental efforts in using remote training via satellite TV and possibly the Internet.

* Finance: once you have the land, you need the cash to develop it and to finance your first crop. Traditional methods of agricultural banking in China, including banks and farm co-operatives, won't be enough. Micro-finance, in all of its forms, can be most economically administered using technology. That doesn't mean a computer on every farm, but it does mean loan officers in rural areas equipped with at least hand-helds to help manage payments and collections.

In addition to technological changes to farming, I also see farming bringing change to China. I predict China's most fertile regions, like Shandong Province, are the most likely to benefit both from land reform and new farming technologies. Shandong is already a very wealthy province (in the most recent PRC statistics, it is listed as the number two province in Gross Domestic Product and number one in fixed investments) and I see its wealth only increasing over the next ten years. If I had to pick one China province to outperform, it would be Shandong.

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In its post "More Sympathy for Microsoft," China Hearsay, very starkly does an excellent job highlighting why businesses should not/cannot ignore public relations and the Chinese government when making their key decisions. The post is on how Microsoft is getting so much heat from its decision to momentarily black out computer screens of those using counterfeit Microsoft software and how that tactic would almost certainly have gone better had Microsoft secured prior government approval before engaging it. The article also implicitly argues that Microsoft should have gone to greater lengths in explaining itself to China's public.

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A few days ago, in a post entitled, "China: Find Me That Factory," I wrote of how not a single client of my firm has been impacted by factory closures in China and I wondered what sort of factories it is that are closing:

But, and I know this is going to sound strange, I have been asking my firm's China clients just about every weekday for the last month how they have been impacted by the Global and China downturn and not a one of them has mentioned factory closings. Indeed, I have asked many of them if they have experienced any problems from factory closings of their own or of their suppliers and the only response I have gotten is "no."

So yes, like All Roads, I absolutely believe factories are closing in China and with that, massive worker and community dislocation. But also like All Roads, I have very real questions as to what sort of factories those were.

China Bystander (a perennially excellent blog on China's economy) recently did a post, entitled, "Pearl River Delta's Silver Lining," that goes a long way towards explaining why American and European companies doing business in or with China have been so little affected:

If the Pearl River Delta were an emerging sovereign economy, there would be reason to believe that it was moving up the development ladder despite the global slowdown being caused by the global financial crisis.

The delta is the heartland of southern China’s manufacturing industry and many small and medium sized labor intensive light manufacturers are suffering horribly. In the first half of the year, 15% of all firms with Hong Kong investment closed down, including half of shoe manufacturers and toy makers. Official figures show that 50,000 enterprises closed down in the first three quarters of this year, although provincial officials have said an offsetting number of new businesses have registered (those may be mostly mom-and-pop operations of the newly unemployed).

However, larger machinery and electronics companies are still showing robust growth with export orders holding up. Provincial GDP grew 10.7% in the first half of the year. Slow by recent standards but still above the national average.

The pattern emerging: low-end consolidation and a move to higher value production as the region’s price advantages are eroded. Classic emerging markets development.

This seems to confirm what I have suspected all along. Most of the factories closing are low end toy and shoe and costume jewelry operations, most of which had Hong Kong, Taiwan, or South Korean connections, not North American or European connections.

UPDATE: In a post entitled, "Is the crisis really hitting China," Chinayouren also attests to not having yet seen major economic dislocation in China and it posits the following:

So from my point of view the Crisis has still not hit China in any significant way. The international economic slowdown is definitely starting to show, but for the moment we are still riding it better than most of the Western economies.The Wall is holding strong.

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Business Week has an interesting article touting innovation in China and the other BRICs (Brazil, Russia, and India). (h/t to China Challenges) The article is entitled, "China and India: New Innovation and Talent Forces" and it is subtitled, "China and India are catching up quickly with Western nations in providing homegrown talent as well as heavy investment in R&D." It is written by Arindam K. Bhattacharya, an India-based partner of the Boston Consulting Group, and its thesis, which can hardly be disputed, is that innovation is increasing in the BRIC countries and Western companies are not moving fast enough to take advantage of the scientific and technological talent in those countries. I can only say that of my law firm's clients doing research and development in China, all have been pleased with the results.

The article sets out the following four "rules" for those planning to do R&D in China and other developing countries:

1. Globalize your research and innovation, not just your low-value engineering activities. If possible, establish research collaborations with local universities and laboratories.

2. Devise a "talent strategy" up front. Successful companies do not focus only on the cost of talent in China and India; they have a comprehensive talent strategy. Some have approached this "problem" by investing first in a well-established innovation hub, adding additional satellite centers within the country later to leverage the cheaper workforce.

3. Protect intellectual property. (Yes, it can be done.) Although IP protection can be challenging, companies have developed proven tactics to prevent know-how leakage. One pharmaceutical company, for example, includes rigorous employee training programs to instill respect for IP; restricts access to sensitive data; maintains research files on site, which can only be accessed on site; and does what is sometimes both the easiest and most difficult thing of all: works hard to retain the company's experts so they don't take their expertise—and knowledge—someplace else.

4. Shift R&D responsibilities away from your home country to global centers. Successful companies in the future will globalize their R&D activities, creating international centers where this work gets done. This is already starting to happen. A U.S. telecommunications-equipment company, for instance, plans to have 30% of its R&D executives outside the U.S. by 2010. This is the model of the future.

Excellent advice.

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US News & World Report just came out with its rankings of the best universities in the World (h/t to Above the Law, which had my firm being acquired by Baker & McKenzie?) US News' rankings of US colleges and universities are hugely influential in terms of where people apply to college. Many in the US love to criticize the rankings, but I consider them to be substantially accurate.

Mainland China universities took down six of the top thirty slots of best universities in Asia and the Middle East (more accurately, Asia and Israel, as no other Middle Eastern country had any top universities). Hong Kong had four schools in the top thirty, including three in the top ten. Taiwan had one school in the list of thirty. Peking University was deemed China' best school, with Tsinghua second and Fudan third. The top thirty in Asia and Israel is as follows:

1 University of Tokyo, Japan
2 Kyoto University, Japan
3 University of Hong Kong, HK
4 National University of Singapore (NUS)
5 Hong Kong University of Science & Technology
6 The Chinese University of Hong Kong
7 Osaka University, Japan
8 Peking University, China
8 Seoul National University, South Korea
10 Tsinghua University, China
11 Tokyo Institute of Technology, Japan
12 Nanyang Technological University, Singapore
13 Hebrew University of Jerusalem, Israel
14 Kaist - Korea Advanced Institute of Science & Technology
15 Technion - Israel Institute of Technology
16 Tohoku University, Japan
17 Fudan University, China
18 Tel Aviv University, Israel
19 Nagoya University, Japan
20 National Taiwan University, Taiwan
21 University of Science and Technology of China
22 Nanjing University, China
23 Shanghai Jiao Tong University, China
24 City University of Hong Kong, HK
25 Indian Institute of Technology Delhi (IITD), India
26 Kyushu University, Japan
27 Chulalongkorn University, Thailand
28 Hokkaido University, Japan
28 Indian Institute of Technology Bombay (IITB), India
30 Waseda University, Japan

All of the top 15 schools in the world are in the United States or the United Kingdom. Tokyo University is the only Asian school in the top twenty. Peking University is ranked 50th.

For all of the lists, along with the methodology, go here.

UPDATE: A Modern Lei Feng has posted on this as well, in a post entitled, "Interesting But Relevant?" What About Clients covers it as well, and deserves the award for best accompanying picture.

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There ought to be a law against quoting Peter Frampton twice in one week.

The other day, I did a post on how to know, in a blink, whether the factory with whom you are contemplating a business relationship is a good one. We received some comments with such excellent additional gut-check type indicators, I felt a second post was warranted. So here goes.

Ted Cruise recommends the following:

-- Check the lunch of the employees. Most businesses provide lunch and small increases in cost give large improvements in food quality. Some businesses feed their employees lunch to the tune of 1 RMB a day. you wouldn't feed that stuff to your dog. At 5-8 RMB a day you get very tasty and nutritious food. For many factory workers this may be the best meal of the day. Ask their food cost.

-- Does the manager know the employee's names?

-- What is the supervisor/worker ratio? A ratio anywhere near 5-1 indicates that the workers are disposable and need to be closely supervised. Likely this means no training. Any ratio over 15-1 indicates better training and a need to retain employees longer. Ask about the training program.

-- Safety and hygiene: are basic safety features in place? Do you see signs of work related injuries? Do you feel sick after spending time on the production floor? Do the employees seem healthy?

I wholeheartedly concur. All of these essentially get at one point: how does the company treat its workers. I remember once visiting a factory in Yantai owned by one of my firm's Chinese clients. I was shocked at how nice the facilities were for the workers. They lived in what appeared to be a very new, very well constructed high end building. The first floors of the building were offices, with living quarters above. During our meeting, the executives bragged about the perks they gave the employees (high quality lunches, a large game room, vans to take them into town when they wanted to go). I asked what they gained by providing all this to their employees and their immediate response was "good employees." I buy it. This is one of the better run companies with whom I have worked, anywhere.

Jared checked in with another one I love:

One other qualifying factor I often use is comparing the owner's car to the investment in technology/quality. If the car is much nicer than his factory investments, I tend to find the factory is not worth my business in the long run.

Again, I completely agree. Even though I am from Michigan (you know Michigan, that's the state where the US used to produce cars) and love cars, there is such a thing as excess and I have been to Chinese factories where the owner's new $150,000 car is parked out front and the factory is filthy and run down. The conclusion to be drawn there is that the owner is not trying to build up a business for the long haul; he is in it for the quick bucks.

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I am always touting Malcolm Gladwell's book Blink. Reduced to two sentences, its thesis is that we humans overly worship logic to the detriment of our gut instincts, which are actually based on our lifetime of experience. In other words, your initial feeling about something is far more accurate than you think.

Quality Wars has a Gladwellian post up on Chinese factories, and I like it. The post is entitled, "How to FEEL a Good Factory - 5 Non-Traditional Indicators" and its thesis is, essentially, that you know one when you feel one.

More specifically the post calls on considering the following five non-traditional indicators:

1. Does the factory staff/management take home the leftover food if there is any after a restaurant meal? If you have traveled to China on business then you most likely have had a nice meal with a factory owner or other staff. Those that take home the leftovers get big kudos in my book. This is a behavior which represents frugality and good sense over losing face.

2. How do the factory workers’ bathrooms look? China factory floor bathrooms are notorious (as are other country’s). Is there a decent effort by management to keep them sanitary and minimize the stink? This represents placing value on hygiene which will most likely translate into production practices.

3. How easy is it to get to a desired person by phone when you call the factory? For any size business, being able to connect with the right person, quickly by phone, represents good organization and management. Test this by calling the factory reception.

4. At meetings and meals do more junior staff speak up and seem knowledgeable? Promising young talent at the factory is a sign of a healthy working environment. So is management that respects junior staff and encourages them to be heard.

5. How do you feel when you walk in the factory? When you visit the factory, how do you feel in that first 5 minutes when you arrive? Do you feel comfortable and like you’re working with people you can trust? There’s no substitute for gut feeling.

I am going to quibble a tiny bit with numbers 1, however, because in this period of super-tough times, my fear is the factory owner who scoops up leftovers is doing so out of economic desperation, which may lead him not to deliver you your next order.

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There is an old joke about a United Nations family planning conference. A leader up front, trying to scare people about overpopulation, exclaims how there is a woman giving birth somewhere in the world every 3 seconds. A jokester at the back of the room stands up and says, "find me that woman!" I thought of that joke today.

All Roads Lead To China just did a post entitled, "A Question of Chinese Toy Factory Closures," in which he asks all sorts of questions as to why so many Chinese toy factories have closed down when China's overall economic statistics are still not all that bad. The post asks the following of those factories that have closed:

1) How many of these factories existed 6 months ago vs. which ones were brought online to cope with the Christmas rush? 2) How many of these factories closed due to the fact that many brands have been reducing the number of suppliers they use? 3) How many of these factories were really viable entities that competed in the market vs. those that simply were producing low end commodities that were uncompetitive? 4) How many of these factories were simply “shacks out back” vs. well capitalized?

All Roads goes to great lengths to emphasize that he is not minimizing the economic troubles of China's factories, and I emphatically make that same statement. But, and I know this is going to sound strange, I have been asking my firm's China clients just about every weekday for the last month how they have been impacted by the Global and China downturn and not a one of them has mentioned factory closings. Indeed, I have asked many of them if they have experienced any problems from factory closings of their own or of their suppliers and the only response I have gotten is "no."

So yes, like All Roads, I absolutely believe factories are closing in China and with that, massive worker and community dislocation. But also like All Roads, I have very real questions as to what sort of factories those were.

What are you hearing/seeing out there?

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Just about every week, my firm gets contacted by a US company that ordered product from China and never got anything or got something multiple levels of magnitude less than what they ordered. Much of the time, this is a first order from China.

The US company is usually asking us what they can do to recover and most of the time (because the amount at stake is too little to hire an American law firm), I tell them to keep trying to recover and to retain a Chinese law firm to assist. I also tell them not to order from China again without knowing exactly from whom they are ordering and without having someone on their side monitoring product quality. I also suggest they have a contract on their next go round that will increase the likelihood of their getting good quality and decrease the degree of difficulty in their recovering if they do not.

David Dayton over at the Silk Road International Blog, who knows as much about the nitty gritty of Chinese factories as anyone, just did a post setting out possible reasons why US companies so often get bad product on their first go round with Chinese companies. This post is an absolute must read for any first timers thinking about buying product from China. It also will likely confirm a few things for veteran China buyers as well. Entitled, "Ancient Chinese Secret: Don’t Lie (to foreigners), it’s just not worth it," I urge you to check it out.

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"Santa Clara" is among my Google alerts because my eldest daughter studies engineering at the University there. Friday, it was filled with stories of an engineer (apparently Chinese-American) who, after being laid off from his high tech start-up, killed three people at the company where he once worked. The story bothered me, but it did not worry me about my kid (who was in Palo Alto in any event) because these sorts of things are random and can happen anywhere. I drew no conclusions from these murders about Chinese-Americans, Santa Clarans, high tech workers, Californians, or we 300 or so million Americans.

But when one out of 1.3 billion Chinese loses it and commits murder, there are apparently all sorts of things we can and should extrapolate. In "Murder at the Drum Tower," Newsweek uses the knifing of the Minnesota couple inside Beijing's drum tower during the Olympics as evidence of China being on the verge of a total meltdown. The article tells us that the perpetrator, a Mr. Tang, was a wonderful, normal guy until China's many stresses rendered him unable to cope. Interestingly, his life is sounding much like that of the Santa Clara killer. 99 times out of 100, when someone goes berzerk, the first stories from the press include interviews from those who sorta knew the guy (and it's nearly always a guy) saying they never expected him to do this. Well of course. Who does expect someone to go out and start killing people for little to no reason?

Newsweek has this to say:

Back in August, Tang's ordinariness was cause for relief: authorities quickly figured out that he wasn't a terrorist, and the Games went on. But the truth is perhaps more disturbing. The country is the world's most stressful: three decades of reforms have shredded China's safety net and transformed society beyond recognition. That's why, as Chinese leaders prepare to mark the 30th anniversary of Deng Xiaoping's capitalist reforms next month, they're also frantically pumping more than half a trillion dollars into their economy in hopes of staving off a downturn.

They have reason to worry. Economists say China's GDP has to grow between 7.5 and 8 percent a year just to keep up with the need for new jobs. Labor unrest has already broken out across the country: half of China's toymakers have gone bankrupt this year, throwing millions of factory workers into the streets, while cabbies angered by gas prices rioted and burned police vehicles in Chongqing a few weeks ago. Tang shared their sense of frustration. Many who knew him are reluctant to talk about him publicly, fearing trouble with the authorities, and most requested anonymity before agreeing to be interviewed. But his story reveals tensions that seethe just below the surface in China.

Let's break this Newsweek story down and analyze it.

-- "Back in August, Tang's ordinariness was cause for relief: authorities quickly figured out that he wasn't a terrorist, and the Games went on. But the truth is perhaps more disturbing." So in August, China was glad he was not a terrorist, but now it would prefer that he had been? That is ridiculous.

-- "The troubles that destroyed Tang—the loss of his job, the collapse of his marriage, heartbreak over his wastrel only child—are all too common across China." Hey 24 year old Newsweek reporter, these troubles, to one degree or another, are the worry of about 90 percent of all adults all over the world. Big deal.

-- "The country is the world's most stressful: three decades of reforms have shredded China's safety net and transformed society beyond recognition." Is this made up out of whole cloth or is there any evidence to support this? I thought recent surveys were showing the Chinese to be among the most content with their lot of any people in the world. Guess those must have been in August.

-- "That's why, as Chinese leaders prepare to mark the 30th anniversary of Deng Xiaoping's capitalist reforms next month, they're also frantically pumping more than half a trillion dollars into their economy in hopes of staving off a downturn." So the Chinese government is pumping money into the Chinese economy to relieve stress? If that were true, why is it not allocating any money for psychological counseling? It is true that the government is concerned that a poor economy will work to erode its perceived legitimacy, but the idea that is seeking to relieve psychological stress is bizarre.

-- "They have reason to worry. Economists say China's GDP has to grow between 7.5 and 8 percent a year just to keep up with the need for new jobs." This is what I have read elsewhere and I do believe the government is concerned about this for reasons of governmental stability.

-- "Labor unrest has already broken out across the country: half of China's toymakers have gone bankrupt this year, throwing millions of factory workers into the streets, while cabbies angered by gas prices rioted and burned police vehicles in Chongqing a few weeks ago." First off, labor unrest was prevalent in China well before August and that was one of the main reasons China enacted its new Labor Contract Law earlier this year. Second, it is sheer hyperbole to say that the bankruptcies of China's toymakers have thrown "millions of factory workers into the streets." Most of China's toymakers did not file bankruptcy, they just shut down. A legal point, I know, but it further evidences the unbelievable lack of care that went into this article. Third, it is a gross exaggeration to say these workers were thrown into the streets. This implies homelessness, and it is my understanding that most of these workers found new jobs or returned to their villages. I am not trying to minimize the impact of losing one's job here, but let's keep it in perspective.

-- "Tang shared their sense of frustration. Many who knew him are reluctant to talk about him publicly, fearing trouble with the authorities, and most requested anonymity before agreeing to be interviewed. But his story reveals tensions that seethe just below the surface in China." Again, these sorts of "tensions" seethe just below the surface in just about every country on earth. So what?

The implication of the article seems to be that China was better off during the iron rice bowl years, and maybe it should return to socialism.

What do you think? What is Newsweek's agenda here?

UPDATE: The always sensible (and I mean that in the same way my grandmother meant it in referring to the white shoes she would buy) ImageThief just ran what I see as a somewhat parallel post on the so-called furor regarding Gong Li's having become a Singaporean citizen. In his post, "Pardon me, but who gives a damn about Gong Li anyway?" ImageThief refers to a TimesOnline story talking up the fact that China "branded" Ms. Li a traitor. ImageThief rightly points out that one can find any viewpoint on China's internet and that most Chinese probably do not care one way or the other about Gong Li's current passport:

All of which is scholarly good fun, but ignores the biggest point: Who besides undersexed dorm-crawlers gives a damn what Gong Li does? Imagethief is willing to bet that if you stopped Chinese people at random on the street in Beijing and asked them how they felt about Gong Li taking Singaporean citizenship, the most often expressed sentiments would be, "Huh?", "How can I do that?" and "Who are you and why are you talking to me?" Not necessarily in that order.

Extrapolating from niche internet musings is not all that different from extrapolating from one murderous nut jobber.

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Years ago, I wrote about how I ended up on the same Asiana Airlines Qingdao-Seoul-Seattle flight as a long-time client and friend of mine whose company, among other things, had been hugely successful in China in an industry where just about every other foreign company had failed. The long flights gave us an opportunity to talk without my meter running (that's a joke, people) and we talked a lot about business in China.

He told me about one of his offices in a third tier China city and how he was running it. He loved the manager there and had given this person full hiring and firing authority and a cut of the rapidly increasing profits. I asked about the manager's salary package and when I learned it, my eyes bulged. I commented that they could be paying this guy half as much and still getting the same effort out of him. My client vehemently argued against me, using a whole arsenal of weapons. He said I was wrong, that he did not care, and that I was applying an employer mentality completely different than the one I used for my own law firm. He actually went a long way towards convincing me, and a couple of years later (after two of my firm's other clients had told me that this one company was the only Chinese company from whom they would buy this particular product, even though it cost more) I was completely sold.

I thought of that plane ride today after reading an excellent post at the heretofore undiscovered (by me anyway) but exceedingly informative blog, China Manufacturing Leadership. (h/t to China Economic Review Editor's Blog) The blog is subtitled, "facing new challenges with practical strategies" and though it is geared towards China manufacturing, many of its posts are writ large. In his profile page, the blog's author, David Levy, describes his blog further as being "all about the changes that China-based manufacturing executives and front-line managers must make in their leadership to optimize operations in the face of the upcoming challenges."

Levy's most recent post is entitled, "Coming to China, but NOT for cheap labor: Obsessing about cheap labor without considering overall value can be pretty stupid," and he is right, of course. If cheap labor were everything, Afghanistan, Somalia, Yemen and North Korea would all be manufacturing centers and Germany and Japan would have no manufacturing at all. And certainly all China manufacturing would have long ago moved to Vietnam or Sri Lanka, as a few bloggers have been predicting.

Levy makes this point the best way possible, with a real world example of which he was an integral part:

About 10 years ago, I was hired as the sourcing director for ***** Electronics, a privately held company headquartered for over 40 years in southern California. We were a smallish power supply company, supporting OEM projects for some major players in the medical, commercial and sometimes retail electronics markets. We had no China facility, and relied on our Taiwanese suppliers to realize the designs, make the products and ship them to us. My job was to setup and run a small liaison office in Taiwan, managing the development and sourcing of power supplies with our Taiwanese OEM and ODM vendors, and ensuring the quality of products made by those vendors in their Taiwan and Chinese factories.

Previous attempts at outsourcing in Mexico had failed miserably, and now it was time to try Taiwan as a manufacturing center. Prior to my arrival, Taiwan wasn’t working either. It was clear that Taiwan wasn’t “working for us” because its factories in Taiwan didn’t have the quality understanding to satisfy our market’s demands, and their factories in China (where an increasing number of our products were being made) didn’t have the flexibility to “buy into” our high-mix low-volume high-value model. The results: projects sold to major customers got to market late, or never made it to market at all. Most damaging were product recalls for power supplies sold to Bloomberg and Kodak.

Various manufacturing and operational problems in Taiwan were proving insurmountable so the decision was made to go to the Mainland:

So it was decided sometime in 1999 that we would solve these problems by setting up in China. When I mentioned to our current vendors that we would be setting up in China, they tended to snicker as they mumbled “chasing cheap labor”. My dirty little secret was out, as if I’d winked while mentioning I was “going for a massage”,

This was when labor WAS still cheap in China, but cheap labor was not even CLOSE to being the driver for the move. This facility was set up (and remains) in Shenzhen city (in Nanyou), which is a much higher cost setting than where any of our competitors had set up (usually in Shenzhen’s outskirts, or in Dongguan). We paid our people more, and spent more on housing and other benefits than our competitors did (many called me stupid to do this, and warned me against “spoiling” the workforce).

What we chased, or what we caught, was a stable and flexible workforce. In retrospect, cheaper labor would have been much more costly. That facility, with it’s high labor costs, started on a shoestring budget, grew to take in all previously outsourced production, and grew an R&D function which was intended as a “back office” to the US R&D facility. In the end that too became the driver of our company’s R&D capability.

So we came to China and paid our workers too much, spent too much on their benefits and too much on ensuring their comfort and safety. And all we got for all this “cost” was LEAN, flexible, and otherwise value-added production. The value, added by this flexible and stable workforce, was not lost on the market, and as we added Fortune 500 companies to our customer list, our value and stature grew. Finally the operation was finally purchased by a competitor.

Levy has since left that company, but that company remains in South China and it never mentions "moving out of southern China to chase cheap labor."

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For years, China gave partial to full VAT (Value Added Tax) rebates on many of its products shipped out for export. Recently, however, China had begun to reduce and/or phase out many of those rebates. On November 1, 2008, China's State Council reversed itself and raised tax rebates on 3,486 items. Today, it announced that come December 1, 2008, it will be increasing tax rebates "on 3,770 export items, or 27.9 percent of all products shipped by China." (h/t to 3PL Wire)

The price of product from China just went down. Again.

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So maybe spending three days with the in-laws in rural Central (a/k/a downstate) Illinois has diminished my faculties a bit (certainly having to use dial-up AOL did affect my mood), but what I saw there, along with my conversations with fellow blogger, Steve Dickinson, who just returned from Wuhan, China, have convinced me that Wuhan is the next Central Illinois.

First a bit about Central Illinois.

I was mostly in Peru, IL, population <10,000. Peru was a typical Midwestern US industrial town. Its largest employer had been Westclox, whose closure in the 1970s devastated the local economy. Nothing had really replaced it. As I near Peru, I always tell everyone to set their watches back twenty years.

But this time, things were very different. Peru is in the midst of remaking itself.

Peru is located on I-80, which links the West Coast to the East Coast. If one were to weight each mile of I-80 based strictly on population, I am guessing Peru would fall pretty close to the middle. It is also very close to countless other major highways, close to O'Hare airport (the second busiest US airport), near various train stations, on the Illinois River, and right in the heart of US industry. In other words, it is perfectly located in terms of logistics.

Peru is now taking advantage of its central location, along with its relatively low labor costs, and it (and the entire area surrounding it) are becoming distribution centers for countless mega-retailers and manufacturers.

Wuhan, sometimes referred to as "the Chicago of China," is doing the same thing. As Rich Brubaker of All Roads Lead to China points out in his recent post, "Building Out Wuhan to Its Fullest Geographic Potential," Wuhan, has a lot of "advantages" relating to logistics:

-- It is logistically in a great place with air, rail, national highway, and river transport options all intersecting - in a single location. -- It has a strong history of industry -- It has access to a lot of locally sourced raw materials

My firm represents a number of freight forwarders and they are always telling me of how easy it is to move product into and out of China through its major cities, as compared to moving product within China. This makes sense as China has for the last thirty years emphasized its export sector. However, even before the global slowdown and China's recently announced stimulus package, China had begun to increase its emphasis on boosting its domestic economy. Now, with an obviously more pressing need to drive its own economy, and with the announcement of an economic stimulus package that calls for greatly increased spending on infrastructure, we should expect to see cities like Wuhan increasingly come to the fore. Wuhan is perfectly positioned to take advantage of both China's increased infrastructure spending and its slow conversion to a less export reliant economy.

And it already has high speed internet....

UPDATE: I see that Asia Logistics Wrap just did a post on China's increased infrastructure spending, entitled, "China's Bailout: Accelerating Logistics Infrastructure Investment." The post has an interesting graph comparing the cost of moving goods as share of GDP as between China and the United States.

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The following is Steve Dickinson's second day report from the 2008 Maritime Conference he is attending in Wuhan, China.

Today I acted as the moderator (in Chinese) for a series of presentations on ship financing. As with yesterday's discussion on shipbuilding, the presenters were mostly experienced lawyers from Hong Kong and Singapore. Much of the presentation dealt with technical issues related to the common law and international law of ship financing. However, the underlying key to the presentations was:

-- Ship financing is the foundation of the ship building, ship conversion and ship sale business.

-- Traditionally, banks have provided this financing. Alternative forms of financing exist, but have never worked well in the maritime business.

-- The current financial crisis has virtually closed the door on traditional bank financing. This door will remain closed for the near future, possibly as long as one year.

In my role as moderator, I then posed the following questions/comments to the speakers and to the audience:

Steve: The shut down in bank financing will have a severe impact on the Chinese shipbuidling/shiprepair industry, right? Answer: Correct.

Steve: Historically, in the U.S. and Europe, when worldwide bank financing dried up, local banks usually stepped in to provide financing. Are Chinese banks stepping in to fill the financing gap? Answer: No, they are not. Chinese banks have no appetite for risky loans right now. Further, they do not understand international ship financing and they have no real desire to learn.

Steve: It appears China's shipbuilding industry is taking a passive approach to both the contract default and financing issues. Answer: Yes.

Steve: It therefore appears China's ship building/ship repair industry will be heavily impacted over the next 18 months, with few companies surviving. Answer: The audience did not answer. The presenters agreed that this seems to be a reasonable conclusion. These Singapore and Hong Kong lawyers are therefore turning their efforts towards cementing their relations with Korean and other national shipbuilders they think will survive the current situation. Even during private discussions after the formal presentation, the Chinese company representatives remained silent about their plans for dealing with the key issues facing their industry.

It is not clear to me whether the Chinese industry will wake up to the situation in time to resolve the critical issues facing the industry. In the interim, however, it appears there will be some very good deals on new vessels from Chinese yards as customers begin to abandon existing contracts. I also think there will be very good deals on Chinese shipyards, many of which are state of the art. It is also possible, of course, that China will institute a stimulus package that will save at least some of its shipyards.

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So I just had an interesting conversation with a client today. This client manufactures really big things in China (sorry, I have to be so vague here) under his company's name and then sells these big things in the US. He was bragging about how good business has been for him lately. How can that be, I asked. Aren't your sales down? A little he replied. Around ten percent. Well then, why are you talking about things being so good? Dan, it's like this [recapped, not word for word]:

-- The cost of the materials for my product has plunged.
-- The production costs for my product have plunged.
-- My VAT rebate has increased.
-- I have been getting killer shipping rates. "Killer," he repeated, with obvious glee in his voice.

"So yeah, sales are down a bit, but my profits are up....you still serious about gathering up a buying expedition to Iceland?'

For more on the massive decline in shipping rates from China, check out, "The Impact of the Massive drop in China Shipping Rates," at the For Sale In China blog."

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David Dayton over at Silk Road International sets out what every buyer of China product must do before buying product from or having product manufactured in China.

A summary of Silk Road's list:

1. Pay $150 or so and get a report on your company before you send any money over to China. David mentions using Verify or Glo Bis for this. These reports will usually tell you if the company to whom you are about to send so much money actually exists and is operating legally. I would also suggest that you do an internet search (in both English and in Mandarin) on the company from which you will be buying to see what others are saying about it.

2. Second, pay another $800 or so to get your factory audited. Dayton's company, Silk Road International, does this. The audit will confirm that the factory from whom you will be buying actually has the capability to provide you what it says it will provide you.

3. Get your potential supplier to give you the names of others, preferably from your own country, that ordered product from your potential supplier recently and then call and find out how it went.

Dayton then does a great job laying out the math on why this makes complete sense:

Now, maybe you’re saying: “Hey! I can’t pay and extra $1000 to just confirm what they already told me!” My response is: “What % of your order can be rejected and still allow you to still stay in business?” Yes, it’s that serious. Pay $1000 up front. Pay another $1000 for a few days of QC and you’ll not only be safe, you’ll be set up for your next order and you and your supplier will have standards set for the future. If you are ordering $20K or more, this should be an acceptable margin. And the next order you’ll only be paying $1000 for the QC. The opposite scenario is that you just trust your factory and send tens of thousands of dollars to someone you don’t know, have never visited and works in a very instable and opaque business environment. If the factory takes $20K and runs (and I’ve never had this happen to me, but I’ve heard stories) the $1000 will seem like small potatoes. If 20% of your order is junk, or if 100% just “off just a little,” but enough to make it a 2nd in your market, how insignificant is the $1000 pre-check now?!

4. Get "a lawyer and cover your legal bases in China before you send any info/spec’s/designs/art to China." Again, Dayton is right. We typically recommend that you secure a signed non-disclosure agreement (NDA) from your potential suppliers before you show them anything of any real import. This NDA should be in Chinese. We also typically recommend you register your intellectual property (IP) in China before you discuss it with anyone in China.

Even doing these four things will not guarantee you will succeed, but not doing them all but guarantees you will fail.

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Regular readers know that I am not a big fan of going overboard on the need to know Chinese culture to do the typical business deal. Better to be a good businessperson than to know what color flowers to bring to a funeral.

But, in other contexts, like managing an enterprise, or selling consumer products, culture can be everything. An article in today's Wall Street Journal, entitled, "Lenovo Goes Global, but Not Without Strife," does an excellent job in highlighting this. The article is about Lenovo, but it is really about how cultural differences between the West and China can impact the workings of a business. No doubt, anyone who has done much East-West business will be able to relate to at least some of the following:

-- "You don't want everyone saying 'Yes, Yes, Yes' all the time," says Mr. Amelio, a brawny former college wrestler. "You want them to be able to smack you upside the head and say 'Hey, I've got a better idea.'"

-- Conference calls were difficult as Americans hogged the airtime. "The Americans would just talk and talk," says Qiao Jian, a vice president of human resources. "Then they'd say 'How come you don't want to add value to this meeting?'"

-- Bridging the East-West divide also has included smaller efforts. Silkworms have been taken off the menu in the Beijing cafeteria. Sports metaphors, which were a source of confusion, have been banned from conference calls.

-- Confusion over the meaning of silence was another problem. "When we disagreed in meetings, we would keep silent," says Chen Shaopeng, president of Lenovo's China operations. "But the Americans assumed we were agreeing."

I would love to get comments setting out additional examples of instances where cultural differences intruded on "getting things done."

UPDATE: Blake Keller, over at the China Business and Travel Blog, just did a post, entitled, "Mei Wenti," on how in China, "yes," "okay" and "uh huh" do not really mean "yes," they mean, "I hear you." Blake, I hear you on that.

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In its post, "China Carbon Forum 2008 Review," The Green Leap Forward blog provides an in-depth review of the China Carbon Forum, along with an excellent overview and prognosis of China's primary and secondary carbon markets. I recommend this post to anyone interested in learning more about China's carbon markets.

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Mastercard recently came out with its list of the 65 key cities driving growth in emerging markets worldwide. Fifteen Chinese cities made the list. (h/t China Business Blog)

The top ten cities worldwide were as follows:

1 Shanghai China
2 Beijing China
3 Budapest Hungary
4 Kuala Lumpur Malaysia
5 Santiago Chile
6 Guangzhou China
7.Mexico City Mexico
8 Warsaw Poland
9 Bangkok Thailand
10 Shenzhen China

I like that list.

The fifteen Chinese cities that made the list are as follows:

1 Shanghai
2 Beijing
6 Guangzhou
10 Shenzhen
16 Xiamen
17 Chengdu
18 Dalian
20 Tianjin
20 Nanjing
22 Hangzhou
23 Wuhan
24 Chongqing
25 Qingdao
26 Xian
27 Harbin

Mastercard's listing report is actually quite good, as it goes well beyond the typical world city list by actually doing a good job explaining its criteria and by setting out all kinds of sub-lists. And though I might quibble a bit about the ranking of China's cities, I cannot think of even one that was unfairly left out. Can you?

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Figuring out future real estate prices in China is "above my pay grade," but for those interested in an in-depth review of the current thinking on this issue, I recommend you go to the China Economics Blog post, "Housing Crisis in China: An overview." The post sets out an all-star lineup of articles on China real estate, pulling from Forbes, The Economist, The International Herald Tribune, The Wall Street Journal, and Danwei.

The consensus is that things are not good.

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Two things the United States should not be exporting to China right now are our economic mess and our fat-laden diet. Yet, Barack Obama and Krispy Kreme are planning/seeking to do exactly that.

In a Wall Street Journal story, entitled, "China-Trade Issue Thrust Into Races as Vote Nears," (h/t to China Journal) Obama makes clear that he believes the United States should be dictating to China what China should be doing with its own economy:

In a letter released Wednesday by the National Council on Textile Organizations, a trade group, the Illinois senator vowed to address industry complaints that China is manipulating its currency to gain a competitive advantage in the global marketplace.

Sen. Obama said China's massive trade surplus with the U.S. is a direct result of "manipulation of its currency's value," and stressed "China must change its policies, including its foreign-exchange policies." Sen. Obama said China's economy must rely less on exports and more on domestic demand for growth. He said he "will use all diplomatic means at my disposal to induce China to make these changes."

In a lighter vein (quasi pun intended), Krispy Kreme recently announced plans to open 35 stores in China over the next five years, in Shanghai, Beijing, and Tianjin. Krispy Kreme will do this through its franchisee, the Korean retail conglomerate, The Lotte Group.

I am certain China will reject Obama's "diplomatic" attempts to mess up its economy but I make no prediction on how Krispy Kreme will do there.

What do you think?

UPDATE: China Hearsay seems similarly troubled by Obama's recent China pronouncements. China Hearsay takes the position of wishing/hoping/maybe even predicting this will all go away during an Obama presidency. Obama has a long history of making and then retracting foreign policy pronouncements (an undivided Jerusalem, a ban on ALL toys from China, and the US re-writing NAFTA immediately spring to mind) so we are left with hoping he really did not mean what he said, which is certainly not an unreasonable hope when dealing with an American politician.

FURTHER UPDATE: The Off The Record Blog (based in China) also expresses concerns regarding Obama's China position. In its post, "Obama’s China stance cause for concern," the blog rightly notes that "with Senator Obama looking likely to win a landslide victory next Tuesday, his statement does not bode well for Sino-US relations or the world economy as the global financial crisis continues to worsen."

ONE MORE UPDATE: The PN China Blog says we should not simply dismiss Obama's China stance as mere campaign rhetoric, especially since America has a long history of going protectionist in down times.

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Interesting post at MSNBC World Blog, on an American-style dairy farm in China. The post is entitled, "Dairy Farming American-Style in China," and it does a nice job setting out how to operate a business in China that produces quality product. Not as in depth as I would have liked, but certainly well worth the read.

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In its post, "The Great Firewall of China: Coming to a Browser Near You," Sinosplice alerts us to a new Mozilla Firefox that allows one to "have the frustration of the Great Firewall of China in the comfort of" one's own home:

The Firefox add-on China Channel offers internet users outside of China the ability to surf the web as if they were inside mainland China. Take an unforgetable virtual trip to China and experience the technical expertise of the Chinese Ministry of Information Industry (supported by western companies). It’s open source, free and easy.

Click here if you wish to slow down your computer, be unable to read BBC news, have thousands of blogs blocked, and have your computer freeze fairly regularly for no apparent reason.

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Very interesting post on Shenzhen Undercover, entitled, "Shenzhen's Greater Plan: No Manufacturing, No Problem." Grossly summarized, put into my own words, and infused a bit with what I think is happening, the post essentially says that the reports of the death of China's economy, as evidenced by the closure of thousands of toy factories in and around Shenzhen, is greatly exaggerated. This is merely part of Shenzhen's (and China's) long term plan to move up from low end manufacturing.

On the other hand, my friend David Dayton, over at Silk Road International, in his post, entitled, "So, How Does the Carnage Look from Ground Level?" says things are much worse than the media is letting on. David does an excellent job laying out the ground level things he is seeing that tell him things are bad and getting worse. Oh, and where is the ground level from which David is writing? Why, Shenzhen of course.

What do you think?

UPDATE: Just read this very thoughtful on the ground analysis of China's economy at a brand new blog called Chinayouren. The blog is written by a native Spanish speaker (but his English is just fine) and the post is entitled, "Crisis and the Great Wall of China." I urge readers to check out this post as well, along with the blog. (h/t to Blogging for China)

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Very interesting post on the Wall Street Journal's Real Time Economics Blog, entitled, "Reading Tea Leaves: China’s Zhou Prepares For Crisis Impact." The post is by Andrew Batson, Wall Street Journal China reporter extraordinaire, and it sets out "a few key excerpts" from a special report Zhou Xiaochuan, governor of the People’s Bank of China, delivered to China’s legislature on Sunday on ensuring the stability of China's financial system:

At present the external dependence of our economy is high, so the slowdown in the global economy and the reduction that brings in external demand will inevitably have a negative impact on our economic development. … However, if the global economy slows down and international commodity prices decline significantly, that reduces the external pressure on the CPI and PPI. Recently, crude oil prices in New York fell to around 80 U.S. dollars. And international coal prices fell nearly 25% last month. This means that there is a lot of uncertainty in China’s inflation trend. Since April 2008, China’s CPI inflation has gradually come down. In September, there was a rare month-on-month decline in food prices, which shows that to a certain extent there is downward momentum in prices.
…

The current the global economic and financial adjustment is the inevitable result of the long-term accumulation of imbalances, and its influence on China’s economy should not be underestimated. At the same time, we should also see that China’s overall economic situation is good; that the strength of China’s financial institutions has increased, with higher profitability and improved ability to resist risks; that market liquidity is still relatively abundant; that the financial system is sound and safe and can effectively resist external shocks. What is particularly important is that our country is still going through the processes of industrialization, urbanization and structural upgrading, and has the advantages of a vast domestic market, abundant capital and a labor force that is continuously improving in quality. The basic trend of the development of the national economy has not changed. But faced with so many unstable and uncertain factors, we must raise our awareness and actively respond to challenges, and prepare well for a difficult situation.

Not that I am an economist, but I concur with this assessment of China's economy.

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Jeremy Gordon at China Business Blog is out with his latest in his emminently quotable "Don't Quote Me" series. This one is entitle, "Don’t Quote Me (On When US$100=RMB100)" and it quotes Jack Perkowski, of “Managing the Dragon” (the book and blog) on how Chinese view money.

I always carry two bills with me – an RMB100 bill and a $100 bill…The point I make is that these two bills are treated in exactly the same way in their respective countries. Just as the $100 bill is the highest unit of currency that you can get in the United States, an RMB100 bill is the highest unit of currency you can get in China.

When Americans look at a RMB100 bill, I say, divide by 8 and see $12.50. But when Mainland Chinese look at the same bill – and I don’t care how wealthy they are – they see what Americans see when we look at our own $100 bill.

Jermey goes on to say that "anyone who has conducted price negotiations in China will know what he is talking about."

So true.

In the Managing the Dragon book (which I highly recommend, here), Jack talks about how much he spent on a haircut compared with how much his well paid Chinese executives spent, and on how silly they all thought he was for spending something like $10. The book also uses hotel prices to show the purchasing power parity between a 100 RMB note and a USD$100 bill. The relevance of all of this is that if you do not understand how money is valued/viewed in China, you cannot be well positioned to negotiate anything there.

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Tom Orlik, a very thoughtful freelance journalist based in Shanghai, with a real bent for finance and economics, was kind enough to send me his translation of a recent Caijing (probably China's best business magazines) article on China's economy.

I liked the anlysis so much, I am running Tom's translation in full, below:

China's GDP growth for 3Q08 came in at 9% yoy, down significantly from 10.1% in the second quarter and the slowest since 2004. Here are a few insights culled from my translation of Caijing's analysis (for those who don't know Caijing is like the Chinese equivalent of the Economist magazine):

Weak external demand and rising input prices dented growth in industrial production and profits. An 11.4% yoy growth in industrial production in September, down from 12.8% in August, was the slowest since 2002. Growth in industrial profits in the first 8 months of the year fell from 30% yoy in 2007 to 19.4% yoy in 2008. If you strip out power producers and oil refiners – who are both squeezed between high input prices set by the international market and low output prices set by the government – the picture is probably considerably better, though still not as good as 2007.

Export growth for the first 3 quarters decelerated to 22.3% yoy, a drop of 4.8% from the first three quarters of 2007 on weakening external demand. Import growth accelerated to 29% yoy, an increase of 9.9% over the same period last year, on ongoing robust internal demand and high raw material prices.

In the first 3 quarters, Fixed Asset Investment (FAI) growth increased to 27% yoy, up 1.3%. With FAI apparently robust, the government will have pause for thought about the much-predicted fiscal boost to infrastructure spending. With private sector investment holding up, the government will not wish to bid up the prices of raw materials with its own energy and raw material intensive investment programme.

Domestic consumption appears to be holding up, with retail spending for the first three quarters up 22% yoy, 6.1% more than in the same period in 2007, and retail spending for September up 23.2%, holding steady with the figure for August. Caijing points out that taking account of lower inflation in September, retail spending has actually increased month on month, though spending in August is normally slow because of holidays. In any case, it appears that the Olympics did not have a negative impact on spending.

CPI for September dropped further to 4.6% yoy from 4.9% in August on last year's higher base effect and an ongoing stabilization in food prices. Factory gate inflation fell from 10.1% in August to 9.1% in September. The still high reading for producer price inflation indicates the ongoing build up of upstream inflationary pressure. The ongoing fall in the CPI, however, will mean the government has increased leeway to introduce pro-growth policies in the remainder of 2008 and the first quarter of 2009.

The government's main priority will now be to introduce policies to prevent a hard landing and this will be the focus of the meeting of Communist Party leaders in November. Caijing notes that because of the US financial crisis a prolonged slowdown in export growth is to be expected. They suggest policies to strengthen domestic demand are the best and most likely option for the government. In particular they propose: 1. expanding medical insurance and constructing a rural health care network; 2. increasing the provision of affordable housing; 3. an end to control of food prices combined with food subsidies for poor people; and 4. a tax cut for middle income families to help boost domestic consumption. With these policies, GDP growth could be increased by 1.5-2% - enabling China to achieve GDP growth in 2009 of 8.5%-9.5%.

Finally, Caijing notes, the main difference between the current financial crisis and that in 1997, is that back then many companies were state owned and therefore more able to ride out troubled times. Now, more companies are publicly listed or privately owned, so they are more likely to respond to low demand by cutting production or going out of business.

I'm buying it. Are you?

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In its post, "Paying your Chinese Supplier – Know your payment terms and options in advance," SourceJuice does a yeoman like job setting out the various options for paying a Chinese supplier. The post explains the following options, and describes the risks of each:

-- Advance, Cash in Advance or Cash Advance – these are known as payment in advance terms

-- Telegraphic Transfer, Telex Transfer, Bank Wire Transfers – these are known as T/T or TT payment terms

-- Wire and Funds Transfer Services like Western Union and Money Gram
Internet payment companies like PayPal.com, Moneybookers.com, and Escrow.com

-- Letter of Credit and the various options that banks offer on these instruments – these are known as LCs, L/C, or LC payment terms

-- Documentary Collections like Documents Against Acceptance or Documents Against Payment – these are known as DA or DP payment terms and sometimes referred to as

-- “Bills of Collection” or “Bills of Exchange”

-- Open Account or Pay Post Receipt or Goods in Advance – When the Seller provides you Credit

I strongly urge anyone who buys from China to read SourceJuice's post in full. The one thing I would add to it is the advice to have a written contract (preferably in Chinese) with your Chinese supplier. In many cases, such a contract is necessary for you to be able to pursue a refund for bad product.

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I like this list from the hitherto unknown (to me anyway) Lessons from the Road blog. The post is entitled, "The top 10 ways to keep from selling in China (or anywhere else)" and it is rife with common sense that applies to doing any sort of business internationally. My favorites:

-- "Don’t spend any money. Use a “straight commission, no cure
no pay” business model. After all, no one else is interested in the
Chinese market, so remember that people are actually waiting around
for your product."

-- "Don’t bother with costly translations and interpreters. If
these people don’t speak, read and write English, then it is your
duty to modernize them."

-- "Ignore local laws. Law is law, but business is business.
Nothing hinders a deal more than difficult, ancient laws. To
overcome Chinese resistance, force your laws down their throats."

-- "Critique that government. Everyone admires the American
sense of free speech. If you disagree with government policies or
officials, don’t’ be shy about broadcasting your opinions."

-- "Change that culture. If you are unhappy with “the Chinese way
of doing business” then do things your way. Live by the motto:
'It’s my way or the highway.'”

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Richard Brubaker over at All Roads Lead to China just loves logistics. I don't love it, but I respect its importance. Anyway, Rich has taken to listing out and linking to the important China related logistics stories every week, and I see that as such an important task that I am going to take to linking over to Rich's blog every time he does that. So if you want to know more about China logistics by going to some great links, then go here, to "Logistics News in Review."

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Long-time client, a manufacturer of small steel products, has for months been "threatening" to move his factory to Vietnam, either to replace an existing factory in China or as an adjunct. Company was unhappy with China's increasing taxes and labor rates. Just spoke with client this morning (yeah, I know it's Sunday but he was about to board a plane for China) and I asked him about Vietnam. His reply was essentially as follows.

"Forget Vietnam. Too risky. We found we just can't handle the inflation and the politics. Yes, China is getting expensive, but I just feel it is more of a known entity for us. Not worth chasing a few dollars in savings."

Again, I am NOT saying Vietnam is the wrong place for business, because it most certainly is not and a number of my firm's manufacturing, food, and high tech clients have done quite well there. But what I am saying is that the next time anyone acts as though Vietnam is necessarily better than China for your business, make sure you look at all relevant factors, not just easily apparent costs.

For more on Vietnam's political risks, check out this Asia Sentinel article, "Hanoi Pain."

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As a lawyer, I usually deal in facts, not feelings, but I've been pontificating about a feeling for the last few weeks, based mostly on an accumulation of facts and past experiences. The feeling I am getting is that Chinese companies are getting more sophisticated/businesslike/global. They are starting to play for the long haul.

I recently had lunch with a good friend and long-time client who heads up the Seattle office of a Singapore based oil and gas company/supplier. Client was born and educated in Russia, but has lived in Seattle for around 15 years now and is very Americanized. We spent most of the lunch talking about schools for our kids, the upcoming election, and the economy. Towards the end of the lunch, my law firm partner, Charles Moure, brought over a local banker with whom he was having lunch in the same restaurant (in case there is anyone in Seattle who does not know this, but if you ever want to find either Charles or me at lunchtime, your safest bet is always Redfin restaurant. This banker has a Master's Degree in Russian literature and he and my client immediately lapsed into Russian, leaving me trying to pick out the maybe 1500 Russian words I know. After a couple minutes, it dawned on me that during my entire lunch with my client, his "Russianness" had never even occurred to me.

Just this afternoon, I had a two and a half hour (or, in lawyer speak, 2.6 -- that's a joke!) meeting with another long-time Russian client and, once again, his "Russianness" was a complete non-factor.

Many of our Russian clients have become such experienced international players that our dealings with them are no different from our dealings with our American clients. Though my firm has a Russian born employee with a US law degree and Russian born employee with a Russian law degree, at least half our Russian clients never deal with either, simply because there is no reason nor need.

This has never been true of our Chinese clients. Every time we have represented or sought to represent a Chinese company, whether that company has a permanent presence in the United States or not, we have had to involve one of our Chinese speaking lawyers in virtually every telephone conversation and meeting. Many times it was necessary not so much for language reasons, but to have someone there to make very clear that yes, in the United States, it is always better (and in the long run much cheaper) to follow every law.

But just recently, we took on a new Chinese client that, in the slightly ungrammatical words of the old Apple ad, "thinks different." This is a very large and very successful Chinese manufacturing company that set up a sales/distributing arm in the US and for the first few years, did things the "Chinese way" here. The head people in the US were friends of friends of the company owner and the extent of their US business/legal knowledge appears to have been confined to the fact that they live here. The US arm functioned very poorly and the Chinese company eventually replaced the first wave of leadership with a second wave. This second wave attended college here in the United States and very much wants to do things correctly here, and avoid the mistakes of its predecessors. Our telephone conversations and meetings do not require attendance by our Chinese speaking lawyers and they do not differ from meetings with American clients. Just last week we added another one, with nearly the very same background.

Steve Dickinson, who heads up my firm's China practice and who is based in China, is always telling me that our best American clients in China are those who came into China 4-7 years ago, made all kinds of mistakes, yet survived. They are now so profitable they are willing to pay lawyers to avoid future mistakes because they now have so much to protect. I think more and more Chinese companies are hitting that stage in the US now.

I see similar changes/business maturation happening with Chinese businesses in China as well.

Shanghaiist recently did a post entitled, "Shanghai matchmakers promise to tell the truth":

Shanghai Daily tells us that around 30 members of the Shanghai Matchmaking Trade Association (yes, there is such an organization), have signed an agreement promising to be honest to their customers. If information provided by these agencies turn out to be false, or if their service isn't satisfying, customers will get a refund. The trade association also said they will inspect these companies once a year to make sure they live up to their standards.

This move seems much needed, in a city with over 100 matchmaking agencies. According to the article:

Complaints about companies faking identities and credentials have poured in during recent years. Many people also complained of high fees for poor services.

This evidences Chinese companies grasping the importance of reputation.

Then just this morning, I read an email summary of stories from the China Economic Review, that the following two summaries:

BYD to debut electric car in November
BYD, a Shenzhen-based company best known for producing batteries, is set to begin selling China's first mass-produced electric car in late November, the Wall Street Journal reported. The car, called the F3DM, will be priced at about US$22,000 and will be able to travel up to 110km on electricity when fully charged. The F3DM – reportedly a major reason for a US$230 million investment in the company by Warren Buffett – will come out two years ahead of the expected release dates of GM's Chevy Volt, which is similar in design, and Toyota's new hybrid-electric model. GM and Toyota have said they are taking more time to ensure the safety of the lithium-ion batteries in their cars.

IBM plans Shanghai R&D center
IBM is planning to open a research facility in Shanghai, its first new research center in a decade, the Wall Street Journal reported. The lab will focus on building new applications for the internet and small businesses. John E. Kelly III, IBM's director of research, said China's population, economic growth and large number of private enterprises present a "huge laboratory" for the company, and that its customers have recently gravitated toward China. IBM has eight R&D centers worldwide, but has not opened a new one since building two facilities in India. The Shanghai lab will be an extension of the company's lab in Beijing, which it opened in 1995. Other technology companies, including Google and Microsoft, have expanded their R&D presence in China.

The sad part of all this though is that in the last few weeks, for the first time ever, we have been receiving more inquiries from Chinese companies owed money on deals gone bad with American companies than the other way around. Far more.

Yup, "the times they are a changin...." and "I'm hooked on a feeling."

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In a post at Ogilvy China Digital Watch, entitled, "David Wolf’s take on how the downturn will impact China’s Internet sector," Kaiser Kuo discusses a recent talk he had this with David Wolf of Silicon Hutong on this very subject. Not saying this makes their assessment flawless, but Kuo and Wolf are two of the most knowledgeable people out there on China's internet so when they talk, I listen.

They are saying that foreign VC funding will decline and this will likely allow Chinese VC firms to gain inroads. Wolf also says that the smart money will cut back on advertising on other media before cutting back on internet advertising.

During the dot.com boom, my firm represented a high flying Korean internet company. After a few weeks of effort (really way too little time), the Korean company had secured a $5 to $10 million commitment from a leading VC company. The next week the crash began and the Korean company ended up with zero. I can certainly see similar things happening again.

Anyway, go here for the complete post as it and the comments are well worth the read.

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One of the advantages to living in a city without a decent newspaper is that until only a few weeks ago, virtually every article on local real estate would quote a local realtor talking about how the market is fine and how now is the time to buy a house. As a homeowner, reading those articles always made me feel a little bit better.

Lately though, even our two local papers are starting to catch on.

Newsweek is apparently a bit slower as it just came out with an article with all of the requisite quotes from realtors telling us how China is different and why real estate will always be a great investment in China. The article is entitled, "Great Expectations," and subtitled, "Real estate around the world may be on the skids, but China's homeowners are feeling little pain."

One of the best things that ever happened to me occurred during my first year of legal practice. I worked on a massive case representing the FDIC in trying to figure out who was liable for the collapse of Oak Lawn Savings bank, the fourth largest savings and loan in the country. As part of the investigation, I must have deposed at least twenty of Illinois' top real estate developers, and of those twenty, probably eighteen of them had gone under. And of those eighteen, probably fifteen were truly experts in real estates. They had gone under simply because nobody could have predicted interest rates would spike to 20%. I learned one very important lesson from that case: there are no sure things. The corollary of that is that real estate is not a sure thing and that what goes up can come down.

I am not going to make any long term predictions regarding China real estate as that would take a far better grasp of economics, sociology, and demographics than I can muster, but I would urge anyone thinking of buying real estate in China to base their decision on more than just the assessments of self-interested realtors and developers.

For a more realistic assessment on China's housing market, check out this Economic Observer article, entitled, "Wind Knocked out of China's Housing Prices."

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Since this is number 19 of this series, it should be pretty obvious by now that I am strongly of the view that China is ripe for foreign service businesses. Yesterday's New York Times has an interesting story, entitled, "N.B.A. and Partner to Help Build 12 Arenas in China," on how National Basketball Association (NBA) and AEG Worldwide are teaming up to design and build "at least a dozen arenas in China.

The NBA's explanation for doing this makes complete sense and it holds true for virtually any service business:

Stern said the league was looking to capitalize on a growing urban Chinese middle class with increasing disposal income.

“China is an enormous market with enormous potential, not only for basketball but for entertainment venues,” he said in an interview.

If only 1% of China's 1.3 billion attend an NBA game....

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China Environmental Law Blog just did a post, entitled, "China's Blacklisted Cities," on a recently released environmental report from China's Ministry of Environmental Protection. The report calls out the following cities for their pollution problems:

Bad Air:

* Bayannur and Ulanqab, Inner Mongolia
* Baiyin, Gansu
* Urumqi, Xinjiang
* Huanggang, Hubei

Bad Water:

* Hengshui and Cangzhou, Hebei
* Linfen, Shanxi
* Fuyang, Anhui
* Tongchuan, Shaanxi
* Wuwei, Gansu

The report lists the following cities as having the highest "satisfaction rate" (greater than 90%) in terms of pollution:

* Linyi, Dongying, Rizhao and Yantai, Shandong Province
* Daqing, and Heihe, Heilongjiang Province

My firm has a good client in Yantai and so I have been there a few times and I have to say it is one of my favorite Chinese cities. It has great buildings, great waterfront views, great weather, great beer and apples, and, what has always struck me as clean air. On top of that, our experience has been that its local government is very receptive and supportive of foreign business. I have often wondered why then it seems to usually be so far off the radar of Western businesses looking to China. I have asked many people this question, and I have received the following answers:

-- "bad history"
-- "not Han enough"
-- "too small"
-- too remote
-- "bad Feng Shui. The city is sited wrong in terms of the water. it gives me the heebie-jeebies."

So why have foreign companies not flocked to Yantai?

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Paul Denlinger over at China Vortex has a good post up on where to invest in China going forward. The post is entitled, "The New Investment Rules For China," and it sets out the following seven rules for China investing:

1. "Avoid Shanghai and Beijing." They both have plenty of smart people, but staff turnover and costs are just too high.

2. Look at the "20 major city markets in China" like "Dalian, Hangzhou, Ningbo, Xiamen, Guangzhou, Wuhan, Nanchang, Chongqing, Chengdu, Fuzhou, Kunming, Nanning, Nanjing, etc." And Qingdao.

3. Because Guangdong and Zhejiang are the two largest manufacturing provinces in China, these they "are going to be hit hard because of their dependency on the US market."

4. If you are a private equity or hedge fund investor, you need to think about investment horizons. If you can offer investments which create jobs and upgrade the skill force, you are in a good position.

5. "China’s hardware development and infrastructure are very impressive and are the most modern in the world, as the Beijing Olympics showed. The hardest part to modernize is peoples’ mentality as the tainted milk scandal has shown. China’s aging demographics do not give it enough time to cross the chasm, so Chinese will get old before they get modern. When that happens, China will look like a bigger version of Japan, and will have all the problems Japan has today. Just hope that China has a national healthcare system in place by then"

6. The wealth gap will become wider over the next 10 years between the cities and the countryside, then stabilize for five years, then shrink as the city worker bees retire in 15 years.

7. The dumb money has already been made in China. It’s time to rebalance your portfolio to make smart money.

I agree with all except numbers 5 and 6, which are, like all long term predictions based on the assumption there will be no big changes.

The key business point to take from Paul's post is that it is too late for companies to make easy money by just going blindly into Shenzhen or Beijing. They should consider second tier cities and they should consider demographics. Paul is right to tout China's hardware (infrastructure) and bemoan its software (service sector), but I see this as THE opportunity for Western companies. China's service sector is growing and it is in precisely that sector where the Chinese are looking for help and where Western companies are so well equipped to give it. And it is indeed the second tier cities that are, as of now, relatively undeserved.

In its post, "Franchising and Education Market -- Lucrative Business in Asia," Trendsniff contends that "education, healthcare and retail" seem relatively immune from the economic slowdown in Asia. Though I have to believe almost nothing is completely immune from a major economic slowdown, I do see the service sector in China continuing to thrive, particularly for foreign companies. The number of Chinese with sufficient disposable incomes to contract out for services is rising and these are the exact people who both understand the benefits of paying for name brand services and can afford to do so.

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The always excellent (but far too infrequent) Chinese Negotiation Blog recently posted on ten warning signs of an impending bad China deal in a post entitled, "Negotiating in China Can Get Complicated Fast."

The post starts out stating two important and fairly obvious (though too often ignored) truths:

-- Many westerners who enter into a negotiation with a Chinese counter-party are so sensitive to cultural and interpersonal issues that they lose sight of business issues.

-- The key to success in China is to walk away from bad deals and find good ones. The fact is that many newcomers to China business have trouble spotting the red flags and danger zones that indicate a deal is about to fall apart. The result is that they hang in there and keep negotiating with inappropriate counter-parties until they end up with a bad compromise and a disastrous deal.

The post then sets out ten warning signs of what will almost certainly turn out to be a bad China deal:

1. Terms that will change at some unspecified future time.

2. "New technology or connections to be introduced later – but priced now." Your concern should be that the first iteration will not work (but will fulfill the terms of your contract) and the second one will never happen.

3. You pay now – the Chinese company delivers at some unspecified time in the future.

4. "Open ended liabilities or unsettled valuations. Every deal you do should have very specific valuations and timetables. You wouldn’t sign a contract with blanks – don’t do a deal until you’ve clarified all the terms."

5. "Best effort sales/marketing. If you are investing or supplying technology and relying on your local counter-party to market your product, make sure that they have a solid network, good references and specific experience in your industry. Make sure you have a way out and a Plan B."

6. "Anything involving connections, relationships or trust. If they say 'I have guanxi' you say 'I have to go.' Seriously."

7. "Mysterious new players enter – particularly decision makers – and change the terms. This can happen to anyone in any country, but in China it means you are starting over from scratch. This is a common tactic here, and it doesn’t bode well for your partnership."

8. "Deals escalate into long-term, multi-transaction JVs too quickly." If you want to buy or sell something, start with a few test orders and develop the relationship over time. Do not believe your counterparty's insistence that a joint venture is the only way to go in China, because it probably is not. Check with your lawyer on this one.

9. "They want you to do anything without a contract. Usually this takes the form that 'the owner/accountant/treasurer is away on vacation and we can’t stamp the contract until he’s back but if we don’t get the deposit now we won’t be able to make the deadline…' No. Just plain NO.

10. "They tell you that something is too complicated to explain. They’re right. Walk away now."

All very good advice. I am constantly seeing all of these tactics and I would love to hear stories from readers who also have experienced them (or not).

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I am not a fan of economic predictions, mostly because they are virtually always slanted towards what is happening right now and also because they are wrong at least as often as they are right. However, I do occasionally find them interesting, and there is an interesting analysis of China's economy over at the 3q2u Blog, entitled, "What's happening in China's economy?"

The post does a nice job analyzing what is driving China's economy right now and I agree with its emphasizing real estate over the stock markets. Many more of China's citizens own real estate than invest in stocks and if there is a plunge in China real estate values, it will have a major impact.

In its post, "If The US Economy Goes Down, So Does China’s," China Vortex rightly described it as "a well-presented systematic presentation" and talks about how US problems will harm China. I agree with all that as I am of the view that there is no way China can escape the US/Europe slowdown unharmed, but I vehemently disagree with its conclusion that "we are in for a tough 20-30 years ahead." It is not clear to me who the "we" is, but I just do not see how anyone can predict out so far, particularly when economic cycles (please don't anyone ask me to define that term here) tend to last "only" 5-10 years.

I tested out China Vortex's prediction on my iPhone, using the iChoose application. I asked it whether this downturn is going to last more than ten years and three times in a row, it answered me with a "no."

What do you think? Do you go with my iPhone which says we will all be fine in less than ten years, China Vortex, which predicts we will all be miserable for the next thirty years, or me, who believes no predicting is possible?

UPDATE: Michael Pettis (a real economist) cogently analyzes of what he sees happening to China's economy in his post, entitled, "US slowdown = Chinese slowdown."

ADDITIONAL UPDATE: In "Why China is Still the World’s Best Long-Term Profit Play," (h/t to China Venture)
Money Morning does a good job setting out why China's economy will do just fine.

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Third Party Logistics News recently posted on how those considering Vietnamese manufacturing should look long and hard at Vietnam's logistics problems. The post is entitled, "Vietnam : Lack of logistics infrastructure = higher logistics costs," and it contains good advice for those considering Vietnam.

It concludes what I always conclude. Vietnam is great for some things and not so great for other things and nobody should just be rushing in:

Anybody who has been reading our blog since its inception knows that we’ve always cautioned against “rushing” into China and evaluating the pros and cons for going in carefully before making that decision. We’ve never advocated avoiding China, simply that people should think twice and consider carefully before making that jump - for some companies, it just might not make sense.

As China moves to higher-end manufacturing and costs in general have continued to rise, some companies have been tripping over themselves in their rush to move production to even-lower-cost Vietnam. I wish I could say I was puzzled at the frenzy of activity in Vietnam or that I was surprised by the subsequent port congestion issues that slammed Ho Chi Minh City earlier this year, but I can’t. It’s interesting to note that the same advice we have advocated in the past in regards to China - and still do - are similarly being ignored by countless firms now rushing headlong into the next “hot sourcing country”, Vietnam.

It’s been pointed out before, but I’ll point it out again: Vietnam is not China. And one of the largest differences between the two countries is the level of port and logistics infrastructure. Vietnam simply can’t compare to China’s port infrastructure:

Put simply, Vietnam's logistics, especially its ports, are not on China's level and that oftentimes directly translates into increased costs.

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Sex sells.
anonymous

Sex and violence sells everywhere.
Dan Harris

Back when we first started this blog about three and a half years ago, I felt somewhat like a voice calling in the wilderness whenever we would tout how companies needed to look at China for more than just factories. Now, this idea has pretty much become common currency and so, though this is Number 18 in our series, this is only the second one we have done this year. And though I cannot speak for China's market as a whole (can anyone really do that?), I can say that my own law firm's business mix has become decidedly more tilted towards service businesses over the last few years.

But it was a Shenzhen Undercover post, entitled, "WWE Wresting is in CHINA! WHAT?!?!" that prompted me to trot out Part 18 of this long running series. Seems the World Wrestling Entertainment (WWE) is now playing on Chinese television and though Shenzhen Undercover's reaction to this was one of shock, my first thought was, why not? Allow me to explain.

When I was a lad of maybe ten growing up in small town middle America, one of my best friends, Pete Collins (a/ka/ The Big Man), somehow managed to snare some tickets for a professional wrestling event in my town. So we went to some disgusting patched together arena for the event and what an event it was. The Sheik was there (I think). Tony Marino was there (I think). Bobo Brazil was there (of that I am almost certain). The women wearing skimpy bikinis who would come out between rounds and between matches were there (of that I am 100% certain).

The crowd was at least half of the show. People would get so worked up for or against a particular wrestler, huge numbers of security would constantly have to rush in. These people clearly thought it was all real. In doing a bit of background research for this post, I came across a bunch of disparaging blog comments about those "idiots who actually thought this crap was real." I have to admit that at ten, I was a professional wrestling agnostic; I just was not really sure.

Shenzhen Undercover seems surprised by the WWE coming to China TV. My only surprise is that it took so long. Since when have sex and violence not sold?

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The Middle Kingdom Life Blog (an absolute must read for anyone thinking of doing anything education related in China) has a two part series on what it takes for foreigners to open a school in China. (h/t to China Journal) This quote from a foreign school owner, cited at the beginning of the first part of the series, sums it up: "If I had known what I was in for, I would have instead shot myself in the head; twice.”

The posts are "Opening Your Own School." Part One is here. Part Two is here. Both are written by Ken Hayes, who describes himself as "a former U.S. Army officer and professional educator who had a long and successful career working in corporate training, public education and private sector management prior to moving to China several years ago. Ken is a frequent content contributor and consultant to the guide and, together with his Chinese wife, owns and manages a very successful private English language school." Surprisingly, they are amazing insightful. I say surprisingly because my firm has been contacted probably a half a dozen times by educators seeking to open schools in China and, without exception, none of those contacting us had any clue at all as to what would be involved and as to what the costs would be.

Hayes' advice is so good and so China-centric that it actually applies beautifully to all sorts of foreign business in China.

Hayes actually starts out explaining why the genesis of this cluelessness:

Many people, Chinese and foreign alike, look at owning an English training center (hereinafter, “school”) as a relatively easy way to make money. It seems simple enough; rent some space, toss in some desks and blackboards, hire some teachers, then spend all day counting the stacks of money rolling in.

By all outward appearances, the school business in China seems to beckon, “C’mon in, the water’s fine!” Yet, the overwhelming majority of those who jump into the water wash up scarred and broken on the reefs. I’m told 95% of new schools fail within two years, and I believe it.

If anything, that 95% sounds too low to me and I doubt it accounts for those that are planned, but never get started at all. There was a period where my firm did a steady stream of Mexican natural resource joint ventures (fish, timber, etc.). Every time a new one would come in we would ask the client if he (because it was always a "he") was aware of any such joint venture that had actually succeeded. The response was ALWAYS pretty much the same. "No, but ours is different because our partner is the [cousin, brother, son, brother-in-law, best friend....] of the [President, Mayor, leading industrialist, Minister of Energy, Minister of Fishing....] To this day, I do not know of a single one that actually worked. Starting a foreign language school is the new Mexican joint venture.

Hayes says the first decision someone thinking of starting a school in China must make is whether to open a "fully legal business" or an "unlicensed shoestring school.” Hayes wisely counsels against the "shoestring" variant:

My observation is that if you start as a shoestring school, you’ll end up remaining a shoestring school. An underfunded, illegal school attracts the wrong kind of attention and isn’t very competitive in the market.

If you are satisfied running such an operation, ducking and weaving to avoid paying the fees and fines associated with this sort of operation, having to move when neighbors or competitors complain, then proceed at your own risk.

However, you should be prepared to accept the notion that this is all your school will probably ever be—essentially a fly-by-night outfit skirting the edges of the law with little potential for expansion. Expansion costs money and shoestring schools can typically only yield a fair living wage at best. Thus, the funds needed to make significant expansions won’t come from operating a shoestring school.

This may seem like bucket of cold water being tossed upon the dreams of many. After all, the very bedrock of entrepreneurship is the notion of small enterprises growing into big ones: right?

The fundamental issue is one of legality. Microsoft, Dell and Hewlett-Packard didn’t spend their formative years operating entirely illegally. As a foreigner, you’ll naturally draw more than your fair share of attention. But when you attempt to compete, illegally, with the locals, expect that attention to be focused, white hot, upon your actions.

Training centers and foreign affiliated schools are coming under increasing scrutiny and regulatory supervision. The trend is towards more, not less, supervision and enforcement.

Hayes has this absolutely right and what he says above applies with equal force to all foreign businesses in China.

So according to Hayes, after you have determined to go the legal route, your next step is finding the right Chinese partner. This is necessary because these schools "must be licensed in the name of a local citizen who is a career educator."

Hayes then sets forth what to consider in choosing your Chinese partner, and again, his advice applies beautifully to virtually any China business venture:

You should select a partner who has a record of doing successful business in China. Simply being Chinese, although a necessary condition, is by no means a sufficient one.

Your girlfriend, wife or neighbor may be well-intentioned, sincere and hard working but without business experience, they can bring little to the table. Being a school teacher is not sufficient experience with which to be a Chinese partner in the business of running a school.

You should choose someone who has done business with the public as well as the government. Real business people in China can instantly recognize when they are dealing with one of their own, as if it were a sixth sense. An amateur can easily get eaten alive.

You need to have a long, frank talk with your proposed partner over a spreadsheet. You need to project the next five years’ growth of your school.

In my experience, Chinese business people have very high expectations of achieving their ROI (return on investment) in a rather short time. That notion is founded in cost opportunity.

The current situation is what I call the “Crazy Money From the Sky” syndrome. China has been flooded with investors looking to do business. Imagine, if you will, that the U.S. Army’s 82nd Airborne dropped a division of paratroopers over Beijing every month. But instead of paratroopers, they were businessmen with rucksacks full of money—with a burning eagerness to spend it all.

Chinese businessmen went from obscurity to prosperity overnight. And every month, another division of moneymen land in Beijing. Soon, the norm, the expectation, was that wealth can and will be attained nearly overnight.

Contrast that expectation with the reality of running a school. The first years are a money pit and the school requires constant nursing and attention. Many Chinese businessmen don’t have the patience for a school as an investment. And why would they? Money spent on a school could be put into a “Crazy Money from the Sky” venture with near-immediate potential returns. So, in an irrational market, their rational decision is to focus on investments with rapid returns.

You need to be very sure your partner fully understands that opening a school is the slow boat, not the express train, to profitability.

I love the line about being Chinese not being sufficient. Though this ought to be obvious, I have seen too many instances where clients have assumed Chinese law expertise of someone simply because they are Chinese to think they would not do the same on the business side as well.

Hayes then goes on to discuss some of the hiring issues you will face and the factors you should consider in choosing your location. The next episode will be on choosing the property and if you are at all serious about starting a school in China, I urge you to tune in.

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Bizcult just did a very good post setting forth the basics of how to find a China supplier. The post, entitled, "Ultimate China Sourcing Guide, Part I," very nicely analyzes the pros and cons of finding suppliers through trade fairs, online, search engines, and trade associations. All good.

Where it falls down however, is on what it does not say. Nowhere does it say that it is critical to visit any supplier before signing on the dotted line. I suspect that advice will be in part II of the series, but not mentioning it at all in Part I is rather dangerous.

A real world example is in order here.

I had lunch with a long-time client/friend yesterday, who had just returned from China looking for a supplier of ultra high end boxes for a luxury product. My client gave the following explan