China Law Blog

Rich Brubaker of All Roads Lead To China is out with an über-helpful post, entitled, A Few Rules for Succeeding in China, setting out the following eight rules to follow to succeed in China:

1. Show up with reasonable expectations. Rich notes how many come to China with "unrealistic expectations… or at least have yet to fully put into context the amount of investment it will take in time, money, and capacity to achieve those goals." A classic example of where I see this as a lawyer is when our client emails us a lease it needs to sign for it to be able to register as a WFOE and asks us to review it and get it back to them in a few days. We respond by telling them that, at minimum, we need to make sure of the following items separate and apart from the lease itself:
a) Is the landlord on the lease really authorized to lease the premises? I would estimate that about 20% of the time (even higher outside the major cities) it is not.
b) Is the property zoned for that which you are planning to use it? I would estimate that about 10% of the time it is not.
c) Does this property/lease qualify for a WFOE? Nearly always it does, but one needs to make sure.

2. Develop a high tolerance for pain. Yup.

3. Have lines (moral and economic) that cannot be moved. This is a great one and one that I too often have seen violated. In fact, I met with someone just the other day who told me that he had left China after building up a successful business there when he realized that what he was doing to keep it up had turned him into someone he did not want to be.

4. Understand the motivating factors of the parties sitting across the table. Stop negotiating and begin collaborating. "If you are walking into a meeting preparing for a heated pissing contest why bother? There are no deals of the century in China, no deal has to be done today, and there are options." Right on all counts.

5. Plan ahead, speak up, and move quickly when things do go wrong. Right again.

6. Pay the full real costs up front. Rich does such a great job here, I will merely quote:

Factoring in the costs of negative externalities is a must. Regulations and consumer expectations are only getting tighter, and firms who caught on the wrong side of a moving regulation are going to pay more to bring themselves into compliance. Want to use a supplier who abuses line workers. You will pay the cost. Don’t care if your supplier dumps chemicals into the river. Someone else will. Think that hongbao is the “key” to a relationship? What happens when they go to jail? Price in the cost of choosing suppliers, partners, and channels that follow global standards because local standards are only going that way, and anything local will require upgrading at some point at a cost that is far more uncertain than if you build your platform on it now.

Absolutely. China Hearsay has been writing lately on how Chinese consumers are coming to expect foreign companies to provide them with the same things these foreign companies are providing to consumers elsewhere in the world. Stan's did a post on this today, entitled, "Is HP the New Toyota?"

7. If something goes wrong, look internally first. "It is not always the supplier's fault or a nationalistic regulation. When things fail it is typically no more than the byproduct of a failed process or system. Identify that, work with it, and move on." Again, I completely agree. I cannot tell you how many times companies have come to me after having failed to abide by a Chinese law and seeking my confirmation that the Chinese law they violated was stupid. The reality is that the overwhelming majority of China's laws make sense, but whether they are sensible or not, it is sensible for you to know what they are and to follow them.

8. Shut up and get to work. Yes.

What else?

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I had a conversation the other day with a leading journalist on how both of us are always right about our predictions. I joked that the beauty of writing is that all we need to do show how right we are is to highlight the predictions on which we were right and to let cognitive dissonance wash away all the other ones.

Damn, but I was right to predict 2010 would be the year of increased taxation/regulation of foreign business in China. And I have third party proof in the form of this article over at Shanghaiist, where I made the following as two of my five predictions on "business law trends of 2010."

China will increase its efforts to root out and shut down illegal and unregistered foreign businesses. I have seen ample evidence of this already happening in the last 3-6 months and I have no doubt this will continue. Providing jobs to Chinese citizens does not let you off the hook.

China will increase its tax collection efforts. This has been going on at a rapidly accelerating pace over the last six months or so. If your China operations are not making a healthy profit, do not be surprised if the government imputes healthy profits to it. In particular, the government will look very closely at your transfer pricing and in many cases it will not like what it sees.

Both of these two things have been happening in obscene numbers over the last two months. My firm is receiving at least triple the usual number of inquiries from companies who are being told to register their businesses and pay past taxes and fines or get out. And how is it that these companies were caught? Knocks on the door by tax inspectors who, by all indications, are simply going door to door in office buildings and areas where foreign companies tend to locate/congregate. One of these companies is a client for whom we have actually completed about 98% of their registration. The others are all companies that wrongly believed they would be able to operate under the radar for a while.

The highly regarded China Magazine, Economic Observer, just came out with an article, entitled, "China Launches Second round of Taxation Inspections in Bid to Boost Revenue." The article notes how China's tax authorities have been told to collect "additional taxes" this year by targeting "key industries."

Now I know that my perspective is heavily slanted, since none of our Chinese clients would be calling us with an internal Chinese matter, but it sure "feels" to me that the key "industries" being targeted are those which consist of foreigners.

What are you seeing out there?

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A few days ago, I did a post borrowing from and remarking upon an excellent post by Geraldine Johns-Putra on five ways doing deals in China differs from doing deals in the West. I loved her first post and she has just come out with a second, entitled, "Ten things about doing deals in China that are different from the West – Part 2," which is also so good that I would be remiss if I were not to follow up on that one as well.

This time around Ms. Johns-Putra focuses on the approval process in China for getting a deal done and she rightly notes how different this is from the West and how confusing this can be:

Government approvals: Ms. Putra calls this one of the "key things about Chinese deals that are different from the West" and she is absolutely right. Much of what foreign companies do in China must be properly registered with the authorities or it just does not count. My firm has been called in to "clean up" many a deal that was flawed because the foreign party had failed to secure proper registration. If there is one tip to be gleaned from those matters it is that it you will find it far easier, far cheaper and far more likely to meet with success if you properly register your deal at the time of the deal then to try to backtrack and fix things after your relationship with your Chinese counter-party has gone bad.

You should also never rely on your Chinese counter-party to do this registration. Nine times out of ten it will be the foreign party that will end up paying for a failure to register and so it is incumbent upon you as the foreign party to make sure it is done and done right. At least half of the botched failure to register deals on which my firm has worked arose from situations where the Chinese company had assured the foreign company that it would "take care of all necessary China filings." It is your company and your deal on the line and it never makes sense to put all that into someone's hands who may have very different incentives than you do.

Feasibility study reports: Ms. Johns-Putra does a great job explaining this:

Very much a feature of the approval process, the feasibility study report has traditionally been viewed as a necessary evil, but not too problematic. The aim of the document, as the name suggests, is to present a business case to the government authority responsible for approving the transaction. It used to be the case that a feasibility study report was a document that was very much modelled on a precedent. This is changing to some extent, especially as the policies of the Chinese government have also changed in the last 2-3 years and are favouring certain sectors and technologies (e.g. renewable energy) as well as homegrown innovation and developing export markets. As a result of these changes to policy, a little more creativity is required in preparing FSRs to show how deals will satisfy these new policies.

The government has a seat at the table: Ms. Johns-Putra points out that even after the parties have agreed on the deal, the Chinese government oftentimes likes making its own requests. Ms. Johns-Putra notes, correctly, however, that the "person at the government end is just trying to do their job. In my experience, they will accept reasonable answers to their queries." I concur.

Buffers: Ms. Johns-Putra correctly points out how you will need someone Chinese to deal with the Chinese government on your behalf. She is absolutely right. My firm has plenty of lawyers fluent in Mandarin and yet we virtually never have any of them meet directly with the Chinese government simply because no matter how good their Chinese, they are not Chinese and they are not Chinese lawyers. Because even Chinese who work for foreign companies and Chinese who live in the United States can be viewed with suspicion, we use trusted Chinese lawyers from our affiliated Chinese law firms.

Foreign exchange regulations: Again, I will simply defer to Ms. Johns-Putra, who states it beautifully:

The foreign currency exchange angle can be neglected in the excitement of getting a deal signed and approved, but it is sometimes the last and trickiest obstacle to completing an investment. The basic approach is that currency exchanges on current account (i.e. trade payment flows) don’t require approval from the State Administration for Foreign Exchange (SAFE) but trades on capital account (i.e. investment payment flows) do. SAFE approval is, generally speaking, therefore required for foreign investments. It is best to try and sort out the requirements as early as possible. You also need to be prepared for particular requests to come from the bureau you are dealing with. SAFE requirements can differ from province to province and city to city in the actual paperwork required. Don’t forget this. If you get SAFE approval for the relevant currency transfer on your M&A deal, then, and only then, has the fat lady sung.

Doing deals in China is very different from doing deals in the West, but that just means it has its own rules, foibles and inconsistencies. This post and our previous post (thanks obviously in large measure to Ms. Johns-Putra) set out ten differences. Ms. Johns-Putra concluded her post by making clear she would like to hear of more. I would too.

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In one of my college history courses, my professor was big on emphasizing how much China's mistrust and dislike of foreigners had influenced it. This professor saw the Great Wall as THE symbol of China's attitudes towards foreigners and he ascribed virtually everything China did to its desire to keep its distance from foreigners. Though I have never been a fan of "one motive" analysis, I do think it would be naive to believe China's highly charged history with foreigners does not continue to influence it today.

I was starkly reminded of that today when I read this China Source post, entitled, "What Do They Really Think of Us Laowai?" (h/t China Hope Live). Here's the money portion of that post:

I was attending a banquet hosted by a delegation from a foreign [not for profit] organization that’s been in China for a long time, and has maintained a good relationship with the Chinese government. One of the guests at the banquet was a local academic who was helping us understand the government’s attitudes towards foreign organizations.

At one point, a delegation member asked the scholar “what does the government think of us (the organization specifically). It was assumed the answer would be positive. Instead, the scholar, without hesitation said “They hate you. “But you are useful to them.”

I completely buy it. What do you think?

UPDATE: Just read an excellent post on Mark's China Blog, entitled, "Sometimes the More Information You Have, the Less You Know," that seems at least tangentially related. The post contains a great pull-out from Peter Hessler's book, Oracle Bones, on how China is China and it just keeps on being China and foreign criticism is just not going to have much of an impact on China. Hard really to briefly summarize the post so I urge you to go read it.

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As many of you know, we recently formed a China Law Blog Group on LinkedIn as a forum for open discussion on China law and business issues. That group has been thriving with nearly 600 members already and a ton of fascinating and enlightening discussions under its belt, including the following:

-- Do Chinese professionals have better phone ethics? (with 33 comments)

-- Chinese companies can't build brands? Think again. (with 52 comments)

-- Google declaring war on China's GFW? I knew it was just a matter of time, but how will this event play out? (22 comments)

-- What are the best English language books you have read on China business over the last ten years? (45 comments)

-- Why should an American court recognize a Chinese judgment? (29 comments)

-- Western attitudes towards China - can we change them? Should we? (24 comments)

So things are thriving in our little patch of the LinkedIn World, at least for the most part.

We have a child who has been diagnosed as failing to thrive. And to be brutally honest, I never really wanted it in the first place. It's name is China Expert Networking and it is officially a subgroup of China Law Blog. Its genesis has a somewhat sketchy past. I did an announcement on how I really wanted to keep the discussion section free of anything that hints at self-promotion. I talked about how it is fine to post your own China related articles on the group site, but that such postings should go into the News section, not the Discussion section. This led some members to opine on how they would like to see the Group become a source for China people to find each other to help on projects and the like. In other words, a place for members to do a little of the pitchy thing (I cannot help but think of American Idol's Randy Jackson whenever I use this word) and for members to find those doing the pitching. So a few weeks ago, I reluctantly created the subgroup with that purpose in mind.

Well guess what? We have a grand total of four members (not counting me as the manager), which is not even close to critical mass. And so let it be said right here, right now. If that group does not hit 50 people within the next few weeks, I'm going to pull the plug on it.

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I had a great conversation the other day with a nurse who called me with what I think is a killer product. I spoke with her for a while and found myself really enjoying the conversation because she had done such a good job in terms of laying the groundwork both here and in China for all that she was seeking to do with her product. Among other things, she had hired the right people to help her every step of the way and had actually called me a tad too soon for China. But as I told her, "call me back when you think you will be doing manufacturing with China that might involve your IP and just remember, there is no penalty for calling me too early, but there very well could be one for calling me too late."

It got me to thinking about how so many people in similar positions to this nurse completely blow it in terms of getting their product to market. Twice very recently, we were contacted by someone who had started manufacturing product in China and now that they were ready to step up production to profitable levels, their Chinese factories were telling them that they owed them large sums of money for all of the prototyping work and that if they were not paid that money, they would lay claim to the product and all of its IP. In both cases, the American product inventors had messed things up so badly that the Chinese factories were not only in the strongest position in terms of business leverage, they also had strong legal claims as well. In both cases, the product inventor had to give up on his own product because it would have cost way too much money even to attempt to try to turn things around.

So I started "writing" a post in my head on the basic steps to take a product from idea to market. But lo and behold, my friend Ashton Udall has beaten me to it, with a post, entitled, "Stanford 'Bring Your Product to Life' 2010 Workshop Roundup," summarizing a recently completed Stanford University workshop with the following on the panel:

Allen Adolph, Adolph Consulting Jeffrey Schox, Schox Patent Group Dr. Dongkai Shangguan, Flextronics Dr. Dariush Rafinejad, Blue Dome Consulting Marc Theeuwes, Nokia Growth Partners Dr. Richard Toepfer, INTJ Associates Phillip Trinidad, Protopulsion Ashton Udall, Global Sourcing Specialists

I urge you to go read Ashton's post, but here is my outline of the basic steps a U.S.-based individual or small company should take to get their product from conception to market:

1. Develop and design the product. Typically this is done by the product inventor in the United States.

2. Go see a United States based intellectual property attorney for help on such things as trademarks, patents, copyrights, trade secrets, confidentiality agreements, non-disclosure agreements, and non circumvention agreements.

3. Get a prototype made either in the United States or overseas. I generally prefer the United States even though it may cost more. I prefer it because your chance of getting quality, reliability and confidentiality will be higher.

4. If you are not fluent or nearly fluent in Mandarin and if you do not have a whole lot of experience in dealing with Chinese factories, you must find someone good to help source your product in China. I cannot emphasize this enough. Good sourcing people know the good Chinese factories and they know the right factories for the right products and they know about what these factories should be charging for any product and they know how to squeeze out good quality from them. If you have not been doing this for the last few years, you don't. You will have a greater chance of landing on red on a roulette wheel than you will of finding the right manufacturer at the right price on Alibaba or by using the cousin of the Chinese person down the street. I am basing this strictly on my many years of dealing with clients who source to China and you should believe me on this since I have no dog in this hunt.

5. At the same time you are establishing contact with a sourcing person, contact a lawyer experienced with China. You can use your really good sourcing person to help you find the right lawyer or vice-versa. Your China lawyer will help you on the China side with the same intellectual property issues with which your American lawyer will have already protected you in the United States. Your China lawyer will also be the person you should use to draft the OEM contract you will eventually need with whichever manufacturer you choose. This lawyer is also likely to be the best person to use to help you negotiate your contract with your China product consultant/sourcing person.

6. Decide who is going to oversee your quality control. Sometimes you may want your sourcing person to do this, sometimes you will want to hire a third party quality control company, and sometimes you may even be able to do it yourself.

Though I have obviously left out many important steps for taking a product from conception to market, including such things a market surveys, market testing, shipping logistics, packaging issues, etc., the above are usually the most important and where I most often see mistakes.

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Every few weeks some publisher emails me and asks me if I want a book on China to review and every few weeks I say yes, in a vain attempt to trump Milton Friedman. I read maybe half the books I receive (virtually always on an airplane), like probably 75% of them, and tend to review only those I like and believe would be good reads for our own loyal readers. But I never know what to say about them beyond "great book, read it."

So I love it when someone else reviews the book I have read and does a great job on the review and I can just pretty much crib it (see e.g., my review of China Shakes the World taken from Peking Duck). A few months ago, I reviewed Lawrence Allen's book, Chocolate Fortunes and I had this to say:

Just finished the book, Chocolate Fortunes, by Lawrence L. Allen. It's a very good book.

The book is about the competition between Hershey's, Mars, Ferraro Rocher, Nestle and Cadbury for the Chinese consumer. But it is really more about is what it takes to succeed in the consumer products business in China. And lest anyone ever thought China consumer sales would be easy, Chocolate Fortunes thoroughly dispels that notion while explaining exactly what it does take to succeed or fail in China. Lawrence Allen was himself an executive with both Hershey and Nestle and he clearly knows whereof he speaks in describing who among the Chocolate titans did well and why.

For anyone who is thinking of going into consumer products or food or retail in China (and who out there is willing to ignore 1.3 billion customers?) this book is a must read.

Based on my firm's experience in handling the legal aspects for all sorts of businesses going into China, I see the legal side of China consumer products/retail as relatively straightforward. But the "making money side of retail in China is no mean feat. For the most part, our manufacturing clients go into China, start making a product and then start making a profit relatively quickly. Our service sector clients go into China, get an office, and then start making money relatively quickly. Now I know it has to be more difficult than that, but from my perspective as a lawyer, it does seem that the call I get from these clients 3-6 months after we have set them all up usually involves them telling me how well things are going and how well they expect things to keep going.

Not so on the consumer products and retail side. Issues like where to sell in China, distribution, and marketing (all of which Chocolate Fortunes extensively discusses) are intensely complicated and can be fraught with peril. And then there is the issue of costs. Getting good retail space (either through renting one's own store or through distribution through existing stores can be shockingly high in China. We have had a number of very well funded clients decide to test out their retail concept in a second tier city like Qingdao or Suzhou after finding out how much it would cost to do so in Shanghai or Beijing. Indeed, these days, places like Qingdao and Suzhou are not really bargains either. And my 3-6 month calls from our retail/consumer goods clients who are seeking to sell into china usually involve them muttering about how they had no idea "gaining traction" in China would be so difficult.

In other words, I hardly knew what to say about the book itself.

Adam Daniel Mezei does. Adam is what my father calls an Intellectual with a capital "I." This is a guy who reads books and watches movies the way I eat chocolate bars: at least two a day. And then he churns out excellent reviews of them on his truly superb eponymous blog. Adam just came out with a review of Chocolate Fortunes that I like so much, I have to steal a large chunk of it. His post is entitled, "Would You Declare War Over Chocolate? Hell Yeah, Some Would!" and it gives the following reasons for buying/reading it:

--Chocolate Fortunes is a well-written HBS-caliber cross-cultural case study that costs under $20. Why go to school when I can give myself an MBA-level education for heaps less?

--For those seeking a bit of authentic cross-cultural sensitivity training, Fortunes contains lessons in droves.

-- Allen writes convincingly and flawlessly. As business books go, his premise is strongly made, not to mention quickly. The author – highly qualified to tell this story given his own in-China experiences with Nestle, and later, Hershey – gets to the point and holds the line. Fantastic, as business books go, if you ask me. Allen doesn’t soar over your head with useless jargon, new-age phraseology, or insider lingo. He relegates the “$50 words” to their proper place: the ivory tower of (also-ran) academe. Fortunes definitely a pageturner.
if you’re a lover of chocolate, this book will get you thinking differently about your favorite sweet nosh. In fact, I learned a ton about the chocolate industry, about the various mergers and acquisitions in the industry during the late-‘90s, and all about how a new chocolate brand is introduced into a highly-competitive, distribution-compromised, and highly-volatile Chinese consumer market.

--choco-addicts will appreciate the gentle distraction the book provides over the course of several hours from their chronic all-consuming chocolate affliction. They’ll lay off their cocoa addiction for a little while, at least.

--those who toil aimlessly for similarly-large MNCs or other FMCG (Fast-Moving Consumer Goods) corporations or who are planning their own Chinese punch-up might apply a relevant lesson or two from the Thirty Years Chocolate War.

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During one of the breaks in the recent Berkeley Asia Business conference, I took part in a conversation with an American guy whose wife was expecting her first baby and an American woman with a toddler. Both of these people had spent many years in China and loved it and both were still very much engaged in China related businesses. Both talked of how important it was that they be in China for business reasons.

Then they talked of how they worried about China for their kids. They were focused on the pollution. I stayed silent but I thought about how I would also be concerned about the food. Though not a China story, I can never forget my first trip to Vladivostok, Russia and how the drive from the airport to the city included my seeing abandoned factory with sludge pond after abandoned factory with sludge pond. And interspersed between all this were a bunch of tomato farms. I thought about run-off each time I left the tomatoes (about the only fresh vegetable Vladivostok had back in those days) on my plate.

The New York Times recently did a artcle on yet another food scandal in China. I fear that the China food scandal story scandals have become so routine the media is losing interest. The NY Times article is on how cowpeas from Hainan Island were grown using illegal and highly toxic fertilizers, used because such fertilizer costs way less than the legal kind. I am not even going to bother summarizing the article beyond stating that it only reaffirms that China's food safety system is broken and I for one do not see a rapid repair in sight.

For more on China food safety, or the lack thereof, check out the following:

-- China's New Food Safety Law. An Early Report.

-- China's Food Chain. Nobody Trusts Nobody.

-- China Food Safety: Executions Aren't Working So Let's Try New Standards.

-- China Food Products: Can't Live With 'Em, Can't Live Without 'Em. This one is for those of us who believe that we are immune to Chinese foods by virtue of living in the West.

What do you think?

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News Flash: Chinese do not like being treated as "second class citizens." It appears Toyota has failed in this most basic of business propositions.

I have written of how I am of the view that foreign companies doing business in China would be wise to employ their highest and best environmental standards, and not "dumb them down" for China:

We are aware of a large Fortune 500 retail company that is opening units in China that meet or exceed the toughest United States environmental law. I estimate this company's environmental sensitivity will cost them at least an additional $25,000 per unit, yet I am firmly convinced this company is doing the right thing.This company's actions make sense because the odds are good that China's environmental laws and enforcement will get tougher over time, and building environmentally sound units now will almost certainly cost less than having to retrofit existing units a few years from now. On top of this, people often get very emotional about the environment and I can see Chinese citizens getting very angry at a foreign company whose units in China are less environmentally sound than their units in the United States or elsewhere. This is obviously even more likely to be the case if there were to be some sort of environmental disaster.

This same sort of thing can hold true for products, as China Hearsay points out in its post, "Toyota Losing the China Messaging War on Recall." The post discusses how Chinese internet car forum participants are voicing anger over how Toyota's Chinese customers are not being picked up and driven to their recall repairs, as is apparently the case in the United States.

China Hearsay concludes its post with some excellent advice, which involves calling in China PR Pros to assist:

But my larger point here is that these things can snowball on you, and if you’re a Japanese company in China, the margin for error is tiny. Many might disagree with me, but the public here has a sort of love/hate relationship with Japan. On the one hand, emulation of Japanese media and fashion is common, but public sentiment may turn quickly if it appears that China or the Chinese people are not being treated fairly (Toyota is no stranger to this and should know better). This reaction might, depending on the situation, be wholly irrational, but given modern history, it is easily understood.

Toyota is getting hammered. People here already think that they have been given crap products. They also think that Chinese consumers are being treated relatively poorly compared to mitigation campaigns carried out in other countries. The accuracy of these accusations is beside the point.

Toyota better hire some top gun PR consultants in a hurry (or fire the ones they have now) or they might be looking at a coordinated effort to embarrass them and drag their asses into court. Whether the Chinese government will encourage or put a stop to such consumer-led actions remains to be seen.

A few months ago, I wrote on similar issues in "China, Glocalization, And The Specter Of Product Liability And More:"

A few years ago, I represented a medical product manufacturer that made a relatively high end, very profitable and ubiquitous product for doctors and hospitals. For confidentiality reasons, I am going to have to stay really vague here, while keeping the thrust of this story intact. This product sold for about $200 in the United States and in Europe, but my client saw a massive need for this product in places like Africa, India, and rural China. But it knew $200 would be way out of reach for these places. On top of that, this item needed to be sterilized after each use, making it not only cost prohibitive for the world's poorest regions, but also not a good choice medically.

So my client developed a disposable version of the same product and had it made in China at a price point that would allow it to sell them for less than $10 a pop. But that is hardly the end of the story.

Though the disposable version would no doubt save lives by bringing a medically important product to regions that previously lacked it, this sort of massive product differentiation in a high risk area like medical treatment can have massive legal and public relations implications for a Western company. Just some of the questions we had to consider:

1. What are the legal ramifications if a Westerner gets poor treatment and a subsequent injury using one of the $10 devices? What happens if this happens in a place like Ghana? What happens if someone starts reselling these $10 devices into Western countries like the United States and someone gets injured there? What are the legal ramifications if someone sues my client in someplace like Pakistan, claiming that they were provided with an inferior product simply to save money? What happens if physicians re-use the device against all instructions? What happens if hospitals seek to sterilize the device, against all instructions? What if the $10 devices are improperly disposed of and that leads to the spread of disease?

2. What are the public relation implications if my client gets sued (or even if they do not get sued) if people start complaining how company X cares far more for the people in the United States than it does in rural China? I know this sounds silly on one level, but trust me this sort of thing does happen and it is why so many top companies maintain worldwide standards in various areas like environmental and human relations.

Worldwide companies must consider Peoria in dealing with Wuhan.

On a somewhat related note, am I the only person over 7 years old who actually likes the song, "It's a Small World"?

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I of course cannot prove it, but I am convinced (and I am not kidding here) that the failure rate for a business whose owner has gone to a Chinese wedding is at least ten times higher than for those who have not.

Let me backtrack a bit and explain.

The Quality Inspection blog recently did a post entitled, "Corruption of inspectors: the role of social pressure," discussing the "risk of corruption of inspectors in factories." The post posits that there are essentially two types of bribery. One is outright corruption where an envelope filled with cash changes hands. Inspectors know this is forbidden and engaging in it is risky. The other kind of corruption is where the factory treats the inspector so well that he or she feels obligated to "repay these favors."

According to the post, this subtle pressure is very common and can be very effective. It then delves into the psychology of why people all around the world feel compelled to reciprocate and that this is sort of social pressure is stronger in China than in most other places:

Now here's where the weddings come in and what I have seen as a lawyer who works on China matters. I do not know how many times my clients have told me that the potential evils I am predicting for their deal could never happen because they are really good friends with so and so....such good friends, in fact, that they attended his daughter's wedding. I am not kidding when I say I do not know how many times I have been told this as I really don't and I fear that I have exaggerated the number in my head because whenever I am told this or something similar, I just really bristle. And it happened earlier this week.

I responded by saying that the his having attended the wedding actually made me more worried about something going wrong than if there were not a friendship between them and that because they are such good friends, it is even more important that they reach clear agreement on their relationship now so as to avoid problems later. My client thought about it and, to my surprise, agreed with me.

This is not a peculiarly China phenomenon and I am not saying one should never "mix business with pleasure." But you should not allow friendships and weddings and social gifts to impede your business judgment and you should not for a moment believe that your having gone to a wedding means your business relationship will always be secure.

For more on how getting all social and all can negatively impact your business, check out "The China Company Within A Company. Been There. Done That."

Would love to hear your stories either reinforcing or refuting the above.

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As regular readers know, I am fascinated by statistics. As regular followers of China know, reliable statistics on China are frequently hard to come by, and that is particularly true when it comes to crime.

Now, the People's Daily, in an article, entitled, "China's violent crimes rise for the 1st time in a decade," has come out with an article flogging the rise in violent crimes in China, but without really giving any good solid clues/numbers as to what is really going on and where:

Crime rates increased amid the global economic crisis, as did the unemployment rate. According to the 2010 Rule of Law Blue Book released by Chinese Academy of Social Sciences (CASS) February 25, China's crime cases in 2009 breached the stable situation dating back to 2000 and increased substantially, among which, violent crimes and property crimes witnessed sharp jumps.

As the blue book shows, the number of China's criminal and civil cases increased by a large margin from January to October 2009, and reached 5.3 million and 9.9 million respectively by the end of 2009, with the former’s growth rate up over 10 percent and latter’s up around 20 percent.

The article goes on to say the following:

The deteriorating economy has made criminals much more violent. According to the blue book, violent crimes such as homicide, rape, and robbery saw sizable growth in 2009, the first increase of such cases since 2001. China's violent crimes had been declining evidently for about a decade prior to 2009.

In terms of intentional murder cases, vicious murders among family members and those committed in vengeance against society, or simply those by mental patients accounted for a large portion. Incitements to murders also surfaced from time to time. Furthermore, gangs were prevalent in some places, and some criminals killed the intellectually-challenged and faked their deaths in mine disasters so that they may blackmail for money.

The article notes that 2010 will likely be no better as "China still faces a severe social situation in 2010, having "not yet completely recovered from the international financial crisis."

Is this a back-handed way of letting people know that China is expecting major economic problems in 2010? I have a strange sense this article may be very important, though I find it very strange. What is going on here?

For more on crime in China, check out the following:

-- China Crime By The Numbers And By The Anecdotes

-- Mapping China Crime Is Democracy In Action

-- Crime In China: BS Upon BS

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I hate to gloat (that's a lie, I really love to) but I cannot resist mentioning that way back in September, 2009, we came out and, in our post entitled, "Our First China Hummer Post. Our Silence Said It All," we emphatically stated that the Hummer deal would never go through:

Which brings me to Hummer. I can see a Chery buying Volvo to increase company prestige and to improve their in-house technology. I just never believed a Chinese purchase of Hummer would go through because I never thought it made sense. I did not think it made sense because I could see no logical reason for a Chinese company to buy Hummer with the intention of keeping its production in the United States, especially when the Chinese company is not in the auto business. I therefore never bothered to write about it until now because I did not see it as indicative of anything of much import.

I just do not see it. Do you?

I then talked about the sorts of Chinese outbound investments we have been seeing and those that actually make sense:

Chinese companies looking to buy American companies are usually looking for a valuable technology or commodity or, to a much lesser extent, a strong brand name. If the company you are pitching has neither, the chances of a Chinese company buying it are really slim. People have told me that Chinese companies "have to be" interested in companies with really good marketing people. They tell me Chinese companies are terrible at marketing and so they obviously will be buying American companies that are good at it. That's true in theory, false in reality.

There are a few oddball purchases and formations out there and those generally consist of the following.
-- The wealthy Chinese businessperson who owns a Chinese company and wants to buy an American company so his son or daughter can go to UCLA. These purchases tend to be more random.
-- Haier. Even though I am convinced Haier's setting up production in the United States is a money losing proposition, I still think it was brilliant. I believe Haier came to the United States despite its doing so hurting the bottom line. I believe Haier came to the United States so as to minimize export/import risk in the long term, so as to improve its reputation in the United States, so as to learn from the United States, so as to improve its marketing in the United States and the West and so as to be better perceived in the United States. In other words, it did what Toyota and Honda did when they built US car plants back in the 1970s. This sort of prescience from a Chinese company has so far been vary rare, but I do see it slowly increasing.

Goodbye Hummer and good riddance.

UPDATE: ChinaBizGov Blog did an excellent post, entitled, "Hummer rejection: It's all right there in the policy," explaining how the Chinese government's rejecting Sichuan Tengzhong's proposed purchase of Hummer should have been no surprise. The post also does a good job explaining a bit the system of securing government approvals, and how the big thing is not the application itself, but what leads up to it.

FURTHER UPDATE: Paul Maidment over at Forbes Magazine has an excellent article on the failed sale, entitled, "Hummer's Doomed Sale." Maidment cites this post and agrees that this deal never made much economic sense and that helped doom it.

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As China moves from being the "factory to the world" to a growth engine for the world, the number of foreign businesses wanting to sell into and in China is rapidly increasing. Product companies are just as likely to ask me about selling their product in China as to ask how to make it there.

The laws relating to China retail are not all that complicated in that the issues they entail are not that different from the issues faced by most foreign businesses in China: proper business registrations, proper contracts, and proper intellectual property protections. Retail businesses that want to abide by China's laws rarely get tripped up by those laws. Where retail businesses get tripped up in China is in the retail business itself, which is very different from that in the West.

To assist those looking "to do China retail," I asked Renee Hartman, the founder of eno, to write a guest post on what it takes to succeed in China retailing. Fortunately, she agreed to my request before her company was named by Fast Company Magazine as one of the ten most innovative companies in China for 2010, in a list populated by the likes of Baidu, Huawei Technologies, BYD, Alibaba, Tencent, Sohu, Suntech Power, and Ctrip! Fast Company had this to say about eno:

Since its start in 2006, eno has become a go-to shopping destination for Chinese teens and a design outlet for Chinese artists (it's one of the few online stores that sell local designs). The company has been so successful in reaching the youth market that it recently launched a consulting firm [enoVate] to help companies such as Coca-Cola, New Balance, Kraft, Unilever, and Ticketmaster do the same.

So without further ado, I give you Renee's post.
 
Despite all the attention given to intellectual property copycats and price points, the single biggest challenge for any brand selling into the China market is distribution.
 
Though distribution is a challenge for any brand in any market, selling products in China not only requires a brand to meet the expectations of customers, in many cases, it actually requires you to create your own customers. In many industries, a retail channel literally does not exist -- you will need to create your own retail concept and either run it yourself, or find others to do it for you -- adding risk and uncertainty to the picture.

In eno's business -- the branded apparel sector -- the vast majority of shops in China selling apparel, footwear and accessories are single-branded stores. This means that stores only sell one brand, such as Nike, Adidas, Columbia, Vans or North Face. Though consumers may assume that the brand owners run these stores, in China, 99% of retail locations are run by third-party operators. 

Single-branded Nike, Adidas and Li-Ning stores number over 6,000 each in China.  The retail operator model is similar to the typical Western franchise model, except that in China most operators do not pay franchise fees due to the lack of established franchise laws and conventions.
 
This structure is similar to the retail landscape in Korea, but quite different from Western markets, where multi-brand retailers (i.e., Foot Locker, Urban Outfitters, REI, Target, Walmart) and department stores (i.e., Nordstrom, Macy's) make up the bulk of most brands’ sales. 

The proliferation of single-branded stores in China has several implications for brands: 
--         your brand must be strong enough to drive people into stores
--         you must have a broad enough product line to fill out a store
--         you need to create your own unique retail concept
 
As a result, there are three maxims that I believe every brand selling to the China market should take to heart:
 
1.) Act like a retailer – whether you want to or not  
 
Operating a brand in China means being good at retailing -- whether it is your core competency or not. In practice, this means designing store layouts for your retailers, creating customized fixture units, designing Point of Sale signage, creating merchandising standards, providing retail training materials and building a line that fills out and optimizes an entire store. For brands that are primarily wholesalers in other markets, this can be a painful undertaking, requiring excruciating attention to detail and policing that is not required in other markets. For brands that retail in their home market, this can be an easier transition (although operating your own retail in China is not without its pain points).
 
As we roll out the eno store concept with retail operators in Tier 2 and 3 cities, our single biggest issue is providing retail marketing support to our retailers. Not only does our store concept need to work for them, in terms of ease of build-out, cost, material availability, and look and feel that differentiates our brand in the marketplace, but we also need to help them maintain the store look once it is open. This ongoing support requires creating product merchandising guidelines, seasonal imagery and signage support, promotional gifts and ongoing training for the retailer and their staff. We also need to work with the retailer to optimize the product mix for their customer base and sales patterns, and support them on the promotions the department stores practically force them to run during holiday and discount periods. This support is all on top of the typical support wholesalers provide to their retailers, such as marketing their brand to the end consumer through advertising, social media, grassroots, sports marketing, PR and other marketing support.
 
2.) Retailers are not long term investors – make money for them now 
 
I wouldn’t say it is true that retailers in China don’t care about your brand. They do. They know that your brand is key to them making money. They are even willing to invest in your brand -- up to a point. But, one thing is certain -- they are not long-term investors. China retailers are extremely astute at two things: 1.) how to sell and 2.) how to keep costs low. In short, China retailers know how to make money -- today. They know what will sell, and at what price. They (usually) know where to locate your brand, and whether a store will make money. They will not hesitate to discount your goods if it is the difference between them making money or not -- no matter the impact on your brand. They will push you to do what they need in order to make money -- today.
 
You may have a tendency to not want to believe them and to attribute their comments (or demands) to them not understanding your brand. You may disagree with them that your unique and innovative product won’t sell. The tough part is that 9 times out of 10 they are usually right. Their knowledge may not help you build your brand in the long-term or differentiate your product or concept, but listening to the retailers will help you determine what will sell and how you will make money for your retailers.
 
At eno, we are increasingly seeking out feedback and input from our retailers. If a retailer believes in your brand, they will be more than happy to provide input on your product, retail concept, marketing and brand image. Though this feedback is often blunt and to the point, it is immensely useful in both finding ways to make money for your retailer (and hence you) as well as in gaining buy in and support from your key customers. In fact, our retailers are beginning to ask for our help in creating their own brands and products, as they recognize that it is in branding and design where Chinese brands need the most help. By recognizing synergies between our brand, design and marketing skills and our retailers’ sales and distribution skills, we are engaging our retailers early in our brand’s development to ensure long term success for both parties.
 
Don’t stop creating innovative and brand building product, and don’t stop building your brand for the long term. Just know that this is your burden, not your retailers. This is your long-term investment in your brand. Retailers invest in your brand, but for the short term. As long as you can find ways to provide short and long term payoffs, both you and your retailers will be happy.
 
3.) Look pretty in Tier 1 cities, make money in Tier 2 and 3
 
Retail rents in Shanghai and Beijing are expensive on a global scale, and climbing every day. Even staff and other costs, while lower than in most other global cities, are still on the rise. However, efficiency of stores in China is mostly lower on a per square meter basis than stores in other countries, thus making the economics very difficult in Tier 1 cities in China. Given the immaturity of the market and so many new malls coming on line (80 new malls were built in Beijing in 2008), competition for the best retail spots in Tier 1 cities is steep. Since most retail operators come to shop in Tier 1 cities for brands to open in their home-towns, many brands use Tier 1 cities to create flagship or “image” stores in high-street areas, which are a great brand showcase, but typically lose money. These brands treat these image stores as a type of “marketing” expense, and don’t mind losing money on them, as it helps them to open retail stores elsewhere in China where they do make money. Additionally, consumers in Tier 1 cities are spoiled for choice, and therefore not as hungry for new brands as customers in Tier 2 and 3 cities.

At eno, our business development team is spending most of its time in cities like Chengdu, Chongqing, Tianjin, Wuxi, Wenzhou, Hangzhou, Ningbo and other second tier cities, as we work with retail operators to open our concept in their city. 
 
Despite the hassles and costs that come with operating in Tier 1 markets, doing so is necessary for your brand to expand. All retailers train their eyes on Beijing and Shanghai, so looking good in these markets is essential to your ability to sign up retail operators in Tier 2 and 3 cities. If you can break-even or make a small profit running your own retail in Tier 1 cities, you are doing well. For most brands in China, expansion in Tier 2 and Tier 3 cities is where brands really profit.
 
These maxims hold true for single brand led retail in China. For those whose products have established retailers in the market, such as food, electronics, health and beauty products and others, these rules will not apply 100%. For these companies, issues such as making their products stand out in cluttered aisles, securing shelf space and executing successful promotions are probably bigger issues.
 
However, regardless of whether you are selling to existing customers or creating your own customers, you can be sure that distributing your product in China will be a challenge that will require you to rethink your brand and your product completely. 

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I was not going to write about it, but based on my three email rule, I am. My rule says if three people email me on a topic, I write about it, especially if the emails begins with something along the lines of "I'm surprised you've remained silent on...." So I am writing about the recent spate of media reports on China spying and hacking and just for good measure, I might as well throw in the taking out of a terrorist in Dubai.

Here is my position on all of that.

1. None of it is really new.

2. Are you really surprised? Seriously. How many people out there do not believe that the governments and or companies from China, the United States, Russia, France, Japan, Germany, Israel, England, etc. are not constantly trying to figure out what other governments are doing and are not constantly snooping into company information?

3. Governments have taken out (killed, captured, etc.) their enemies since the beginning of governments. That does not necessarily make it right, but it still should be discussed in that perspective.

4. One can certainly take the position that spying is or is not immoral, but there is something hypocritical in acting as though it is an horrible immoral thing when a country you do not like does it, while acting as though your own country is above the fray. Because not only do governments engage in spying, they also engage in propaganda when they are able to catch and publicize spying by others, and it does behoove us not to get all caught up in it as though it is a completely one-sided thing.
We are just reading about .00001% of what goes on out there.

5. Take China and the US. It would probably boggle the mind how much money is spent and how many people each country devotes to spying on the other. So though it is interesting when one side or the other gets caught, it is not nearly as meaningful as it is usually made out to be.

So I guess my position is that, yes, of course, it happens, and wouldn't it be great if we could all just get along? I am truly not trying to be facetious here, but at the same time, I just have a lot of trouble getting all into screaming mode.

What do you think?

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I was not going to write about it, but based on my three email rule, I am. My rule says if three people email me on a topic, I write about it, especially if the emails begins with something along the lines of "I'm surprised you've remained silent on...." So I am writing about the recent spate of media reports on China spying and hacking and just for good measure, I might as well throw in the taking out of a terrorist in Dubai.

Here is my position on all of that.

1. None of it is really new.

2. Are you really surprised? Seriously. How many people out there do not believe that the governments and or companies from China, the United States, Russia, France, Japan, Germany, Israel, England, etc. are not constantly trying to figure out what other governments are doing and are not constantly snooping into company information?

3. Governments have taken out (killed, captured, etc.) their enemies since the beginning of governments. That does not necessarily make it right, but it still should be discussed in that perspective.

4. One can certainly take the position that spying is or is not immoral, but there is something hypocritical in acting as though it is an horrible immoral thing when a country you do not like does it, while acting as though your own country is above the fray. Because not only do governments engage in spying, they also engage in propaganda when they are able to catch and publicize spying by others, and it does behoove us not to get all caught up in it as though it is a completely one-sided thing.
We are just reading about .00001% of what goes on out there.

5. Take China and the US. It would probably boggle the mind how much money is spent and how many people each country devotes to spying on the other. So though it is interesting when one side or the other gets caught, it is not nearly as meaningful as it is usually made out to be.

So I guess my position is that, yes, of course, it happens, and wouldn't it be great if we could all just get along? I am truly not trying to be facetious here, but at the same time, I just have a lot of trouble getting all into screaming mode.

What do you think?

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For many reasons, we have so far pretty much stayed away from the Google-China kerfuffle. The most important reason for our not writing about it is that we simply do not see ourselves as having anything new or noteworthy to add to the debate. That has not really changed in that about all I am doing today is cribbing from a really thought provoking Absurdity, Allegory and China (AAC) post, entitled, "Google Buzz and China."

So why now and why that post?

Well, that post posits that Google has debuted Buzz now as a bargaining chip in dealing with the Chinese government. Buzz is, right now, pretty much the only major Western social networking platform with a nice channel into China. Now I have no idea what Google's intent was in putting Buzz live when it did, and I do not even really much care.

But what I do care about and is another point AAC raises, which is that if Google refuses to uncouple Buzz from Gmail and if China refuses to back down on its restrictive policy on Western social networking sites, Gmail end up, shall we say, losing its way in China, and that would be a huge deal.

It would be a huge deal because almost without exception, every ex-pat in China uses gmail in one capacity or another.

Google in China just got a little more interesting.

What do you think?

Comment Warning. If you use words in your comments that could trigger bad things, I will change them.

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I could tell you story after story that would cause your toes to curl. And I will. Some of these are composites, but all are true:

1. Sixty year old Illinois farmer contacts us to tell us that his 22 year old (absolutely unbelievably gorgeous "girlfriend" -- I saw the pictures) is being told by the Moscow airport authorities that she cannot leave the country without putting $10,000 into a bank in Russia to prove she has an intent to return. I tell Illinois farmer (all of this for free) that I have never heard of such a thing in Russia and that it sounds really fishy to me. Farmer gets mad at me and when I email him a few months later for an update, he never responds.

We also every once in a while get contacted by someone who, for example, has absolutely no experience in the oil and gas business or with anything international, but for some completely unknown reason, is the only person in the world appropriate to help close this $230+ million deal (it's always some strange number) oil and gas deal. This person wants us to handle the legal work for a percentage of the deal and when I tell them no and that the whole thing sounds fishy to me, they fight me on it.

Our new policy is to ignore these sorts of contacts and simply say we do not do this kind of work. We have learned that telling these people of our suspicions only makes them mad. They are living in a dream world and they just do not want us to pop their bubbles. This was/is also true of many of the people I discuss below.

2. Pretty much every single month someone contacts us to help them get their money back from a "lawyer" in China or Russia that has taken their money (usually between $3000 and $8000) to do something in China or Russia and then has fallen completely off the radar. At least half the time, these people mention that they have already written some arm of the Chinese or Russian or American government and/or some Chamber of Commerce somewhere and now they want to hire us to get their money back and to report this "lawyer." We tell them that our minimum fee on such matters is so high that it will not make economic sense for them to hire us, they oftentimes respond by saying they are surprised we are not willing to help out on these things in order to protect "the profession." At which point I tell them that we have never had an experience like what they are describing with any Chinese or Russian lawyer and that the odds are overwhelming that the "lawyer" to whom they sent their money was not a lawyer at all, but just someone posing as a lawyer to get their money. I then mention that if we were to take on for free every incident where an American had sent away money to Russia or China without having conducted even the most basic research beforehand, my firm would be doing nothing but that and we would be out of business. Their response (and I am not kidding here), is usually, well I just thought you would WANT to do something about this. They then sometimes ask us how they can go about reporting the offending "lawyer" to their country's bar association and would we help them with that. I very patiently tell them that I do not know how to do that and that we cannot help them without spending hours reviewing their matter because we are not just going to go off and report a lawyer to a bar association without having solid evidence on which to do so. I then tell them that I seriously doubt that the person who did this to them is really even a lawyer in the first place because, though it is possible, it is pretty much unheard of for a lawyer in China or Russia to devote so much of their lives to education and then to securing a license and then risk all that for such a relatively small amount and the odds are overwhelming that the person who did that to them is not a lawyer. About 25% of the time they then accuse me of protecting their own.

3. Pretty much twice a month, we get contacted by someone who has paid money to a Chinese manufacturer (usually between $10,000 and $40,000) and received either nothing in return or counterfeit product, not anything like what was promised. Again, they are coming to us after having written some arm of the Chinese and/or American government and/or some Chamber of Commerce somewhere and now they want to hire us to get their money back on a contingency fee basis. I tell them that there is no way my firm can make money taking these sorts of cases on a contingency fee basis as we would need to spend hours reviewing the documents to see if their is a case and then hours hunting down the right lawyer in China to pursue the case and then we would need to negotiate a fee split with the lawyer in China and, anyway, and then there are the filing costs, etc. About half the time they then mention how they had heard there are no laws in China anyway. I then tell them that our position on their case would be the same in the United States because it is difficult to sue people/companies anywhere in the world when those people/companies use fake names and are constantly shutting down and opening up anew. If I am in a particularly bad mood and if I have found their nemesis online, I will note something like how the money they sent went to one city in China (or in Malaysia or in some other country) while their website claims they are located somewhere else.

4. Every couple of months we get contacted by someone who has gone to China (sometimes Korea too, though far less often) on a job that was to pay x dollars a month with nice housing, only to find that they are either not getting paid, are getting paid less, are being required to work 40 hours a week, not the 20 promised, or that the nice apartment they were promised is a not so nice apartment they are required to share with two others. And what can they do about it. I very nicely tell them that probably the best thing they can do is try to find another job or just come home.

5. And then there is the fake lawyer for the ten Americans being held in Haiti for seeking to take a number of Haitian children out of Haiti. Not only did they hire as their attorney someone who is not a Haitian lawyer and, it now appears, not a lawyer anywhere, they hired someone who is wanted in a number of countries on human trafficking charges. Somewhere I read some relative of one of the ten saying they had retained this person because he had offered to represent the ten for free and they thought he was a good Samaritan. I don't know about you, but if my ass were sitting in a squalid Haitian jail, I would be a hell of a lot less concerned with the intentions of my "attorney" than with his competence. Did it not even occur to these people to try to get the best attorney possible? Seriously.

Damjan DeNoble over at Asia Health Care Blog just did a post on someone he knows who appears to have been caught up in a China job scam. The post, entitled, "Wanna be doing health in China? Beware of red flags (of the minesweeper variety), expect lots of improvisation," talks about what drew this person in and then comments on the plethora of red flags. This person initially contacted Damjan and he told her not to do it:

A few weeks ago, a recently graduated college student wrote me an email saying that she was coming to China, and was looking for a job doing something healthcare related. She had some contacts in Chengdu and some vague promise of a work lead though that contact had gone cold in the weeks leading up to her flight. The lead had made some promises about giving her a large role in their organization.

My immediate advice was to scrap the Chengdu idea and go to either Shanghai or Beijing because her work lead would very likely materialize in nothing. It is my experience that any company willing to give someone straight out of college, who had never been in China, an 'important role' is not worth working for. Either the company is staffed with crooks, or with people who don't have any idea what they are doing. In Beijing or Shanghai she would at least have the luxury of a large English speaking population to fall back on.

In this case (unfortunately, since I was/am pulling for this person) my warnings came to pass.

The person who was to go to Chengdu wrote the following:

A week before I was scheduled to leave for Chengdu, the night before New Year's Eve, I received an email from my contact there. The startup company I was to work for, XXXX, had encountered a series of issues. Their goal is to open 100 health clinics in rural areas of the Sichuan province - at international standards of care - in the next 5-10 years. ..

The first was that the doctor responsible for overseeing and training the medical staff was forced to take a one to two year leave of absence due to a family emergency.

The second was a delay in the opening of the first clinic. The executive team had sought to open this pilot clinic in September 2009. But, due to some bureaucratic issues and because they wanted to find the best possible location for this clinic, they had not yet been able to open it.

...There were a few other minor issues that combined with these two larger ones caused the Board to call an emergency meeting, culminating in a decision to cease operations, effective January 1st. This decision was quite unexpected and threw many lives, including mine, into disorder. After extensive conversations with members of the executive team, we decided that the role we had initially discussed for me was no longer plausible, and that it would be best for me to pursue an opportunity with another organization.

Damjan then writes of how there are countless red flags in this paragraph that are obvious to anyone has been to "China before, or worked with real world start ups in under regulated regions before:

Flag 1: Company XXXX has a very sloppy website with little information.

Flag 2: 100 health clinics in 5-10 years? Really? International Standards of Care? So that means that they are going to be staffed with doctors and nurses? In rural China? Really? We can't even do that in the West....

Flag 3: The team was looking to open 100 clinics but did not anticipate bureaucratic issues? Sounds like they did not get a very good Chinese partner to me.

Flag 4: 100 clinics and its a start up? really?

Flag 5: There was a single doctor assigned to training medical staff? One doctor? Really?

Flag 6: And this is the big one. Giving a role to someone straight out of college with no medical/hospital experience. You can't overlook that one. *It took me a lot of time to figure out that under the circumstances, my college education was not worth very much to anyone who would be worth very much to me. In general, I found that the people reluctant to give me a lot of responsibility were the ones who had the best grasp of what they were doing. So, for anyone fresh out of college, coming to grips with their own sense of worth in the world, remember the importance of working with people that are capable enough to give you less than what you think you can chew.

The best thing anyone can do to prevent these sorts of things from happening to them is to find out more about the people with whom you are dealing, analzye what you are doing and not ignore the red flags. And if you do not know enough to know what might be a red flag with respect to what you are doing then you should either bring in someone who does or seriously consider not doing it at all.

This need for due diligence is definitely not confined to China, but it does increase when doing business internationally. It will always be easy to get away with things when there is a border and a foreign language to protect you.

In contrast to the above, and just by way of example of the sort of thing that one can do to prevent the above sort of things from happening, is what I did the other day for a client who asked me to help his company go into Haiti soon. Because neither I nor my firm have any Haiti legal experience, I determined we would need a really good Haitian lawyer. I found a lawyer at a top national law firm who discussed having worked on a legal matter in Haiti. I contacted him and he gave me the name of a Haitian lawyer with whom he had worked and been very much impressed. I then contacted a number of lawyers I know in other countries in the Caribbean and got the names of more lawyers and then emailed back and forth until I now have the names of two lawyers in Haiti that are clearly highly regarded by those I know to be smart and trustworthy. All this took about an hour.

Do you have any due diligence stories, good or bad?

UPDATE: A reader sent me a link to a China Solved post that nicely sets out the following as some of the things you can/should do in performing due diligence on your China partner:

-- Reference checks are not only possible - they are a MUST. Check every company on your future partner’s CV and any foreign client he claims to have worked with. Call each one of them and don’t be shy about asking for any type of information. If you are afraid of hurting your future partner’s feelings – DON’T BE! Professionals with nothing to hide will not be offended. If he has something to hide and you don’t do a thorough background check, your feelings and pocket will be hurt badly! It is your business on the line, so don’t feel uncomfortable.

-- Check the business license of your future partner to find out if he is on any black lists of the tax bureau, banks, customs, trade office etc. If you feel that you cannot do it yourself, use professional help to do it for you. It is a worthwhile expense that might save you a lot of money and trouble in the future.

-- Make sure your partner has relevant experience in your industry or a related industry. Don’t be shy about asking technical questions to see if he really knows what he is talking about.

-- Don’t rush into a relationship with any partner of any kind. China was here 5,000 years before you came and will still be around for another 5,000 years. Don’t make irresponsible decisions that you will later regret. Don’t sign - or promise to sign - any agreement or any document under pressure or in unsuitable environment such as: in a car on the way to the airport, in the KTV, in the Sauna, after 20 glasses of wine or other alcohol etc.

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One of the things I (and many others) are always saying is that China is ultra-paranoid about its economic growth. The Chinese government knows/believes it must have growth of at least eight percent a year to keep its job engine running and it knows/believes it must keep its job engine running to keep its populace happy. And China very much wants to keep its populace happy.

So virtually everything China does in the economic sphere is done with the above in mind.

But right now, China' growth is zooming along. Maybe too much. Goldman Sachs sees China growing at an 11 percent clip in 2010 "even as officials cool lending to restrain inflation and avert asset bubbles." Rumors are flying of China revaluing its currency.

The Wall Street Journal's China Real Time Report, in a post, entitled, "Take Two For a One-Off Revaluation?" sees China increasing the value of the Yuan by 5% increase:

Goldman Sachs chief economist Jim O’Neill thinks he sees it coming. He told Bloomberg News Friday that he thinks Beijing may be ready to allow the yuan to rise by as much as 5% in a one-time revaluation.

“I have a strong opinion that they’re close to moving the exchange rate,” he told Bloomberg. “Something’s brewing. It could happen anytime.”

He made the comments Friday after the People’s Bank of China ordered commercial banks to increase their reserve holdings, an economic cooling measure that came much earlier than most market watchers had anticipated.

* * * *

O’Neill is not the first to raise the prospect of a one-off revaluation.

“There’s a very urgent need” for pushing forward changes to the exchange rate, and “now is the best time,” said Zhang Bin, a research fellow at the Institute of World Economic and Politics under the Chinese Academy of Social Science early in January. Zhang said a 10% one-off appreciation of the yuan against the dollar “would have limited impact on China’s macroeconomy” and could deter inflows of speculative capital betting on future currency gains.

Though I would ordinarily bet against a revaluation because I believe China always errs on the side of overheating rather than on the side of a slowdown, I actually think a revaluation makes such good economic and political sense right now that I believe it to be at least possible.

What do you think?

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Yesterday, we did a recommended reading post on a China Sourcing Blog post comparing India and China for sourcing, using statistics to do so. We very quickly received a comment from Joel Waldbaum making very clear that sourcing product from China is far superior and far cheaper than sourcing product (or really anything) from India:

Having lived in, and sourced from India for 30 years, and now China, for the past 5 years, I strongly disagree that India is in any way, comparable to China. The "numbers" do not really tell the true story, at all.

Logistics is a joke in India. It takes 3 days to unload/load a container ship in Mumbai. I have "lost" containers put on a train in New Delhi which somehow are missing when the train arrives in Mumbai. Yes, containers disappear from trains.

The Mumbai High Court has ruled that proven theft (proven in court) is not sufficient grounds for firing a worker. To close a company/factory with more than 90 workers requires government permission, which has till date, never been given.

India manufactures what China, for a variety of reasons, chooses NOT to manufacture: too labor intensive, too short production runs, primarily for the domestic Indian market where there are tariffs protecting the Indian manufacturer.

The real cost of Indian labor is 2-3 times the cost of China labor when you take into account productivity, Indian workers need for excessive/extensive supervision, and the costs of benefits. This is why Chinese construction companies choose to import Chinese labor to India, for projects they are working on in India, and why, till very recently, there were 40,000+ Chinese workers in India doing construction.

I am fully aware of the problems of sourcing in China. Nevertheless, India's costs and logistics make it the second choice for any product currently available in China.

With the poor response to call centers in India by American consumers/customers, I also expect China to shortly (as English in China becomes more widespread) become the destination of choice for out-sourcing.

Similarly with software development.

I have been waiting for 20 years for India to actualize its potential. It has not, and I believe it will not. China has, and will continue to grow market share from both developed, and other so-called undeveloped countries.

If you look at what India is currently manufacturing, and who are the customers (most domestic), and compare this to what China is manufacturing, a truer picture of where you should source emerges.

Walmart is not stupid. They only started sourcing in India, so that they could get permission to open stores in India, which has still not occurred. Nor have their own targets been achieved. There is not much worth buying, in comparison to China.

Because my firm does no India work, I have no direct information on sourcing from India and very little indirect information. So is Waldbaum right in claiming China is far superior toIndia for sourcing? Is India really that bad? I will say that virtually none of my clients have even mentioned India as a potential sourcing country.

UPDATE: Quality Inspection Blog has done an excellent follow-up post on this, entitled, "Pros and cons of sourcing products in India vs. China," comparing sourcing from these two countries.

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Regular readers know that we seldom write about Chinese etiquette/cultural mores, figuring the real key is treating people with respect and just doing business. For examples of this view, check out our posts, entitled, China Cultural Awareness: Going Beyond Not Being An Asshole and Chinese Cultural Awareness Simplified: Don't Be An Asshole. And we also have not made this a forum where we highlight great cultural gaffes or Chinese tattoos gone wrong, figuring we will leave those things to others.

But I got a great email from co-blogger Steve Dickinson today on a cultural gaffe so common as to warrant a post.

Steve sent me a couple of New Year "Gung Hey Fat Choy" emails he had received from American companies doing business in Mainland China-- not even in Guangdong. And with those emails, Steve pointed out the following:

Here is one of those odd cultural things. Western folks want to be culturally sensitive. So they send out a Lunar New Year message. But they really mess it up. "Gung Hey Fat Choy" is Hong Kong Chinese, not Putonghua [Mandarin]. So, for the vast majority of Chinese who understand the message, this message could be seen as a brutal and nasty insult, not a positive message. It is a reminder of a former imperialist world where China was ruled from Hong Kong. In fact, to tell you the truth, most modern Chinese would not even know what "Gong Hey Fat Choy" means. They would just treat it as a series of meaningless symbols, insulting in its own way. "Gung Hey Fat Choy" is Cantonese for "gong xi fa cai." NO ONE in modern China says "Gung Hey Fat Choy." The phrase is purely from the old era, which was destroyed by the new regime. So as I say, for the small group of people who even know what this term means, it is an insult, not a positive message.

Brought to you as a public service from the good folks at China Law Blog, who wish you all a Happy New Year.

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The other day I did a post, entitled "On Not "Antagonizing" China. Or How Many Enemies Does The US Need?" expressing my frustration with a United States foreign policy that seems more interested in calling China out for trade and Google issues than in dealing with the far more troubling and potentially existential issue of Islamic extremism/Iranian nukes.

Now Stan Abrams of China Hearsay, in a post entitled, "US Has Hard Time Getting China On Board With Iran Sanctions," in language far stronger than I would use (I have a 12 year old kid and Stan has cats that are apparently inured to his swearing) questions why in the world (that's my soft language, not his) China should go along with U.S. desires on Iran.

You know, it’s really easy to complain about Beijing’s treatment of Google, the value of China’s currency, the grumbling of foreign investors, trade disputes, and so on. And the U.S. might be on the right side of some of those issues.

But in the international relations arena, none of that shit matters as much as who has leverage and who wants what. If Iran sanctions are a matter of top priority for the U.S., and the Obama administration truly believes that it has a shot persuading Beijing to get on board, then you don’t fucking sell weapons to Taiwan mere days before a renewed diplomatic initiative on the Iran issue.

This doesn’t seem like rocket science to me, but what the hell do I know? It’s not like I have a graduate degree on the subject or anything.

Perhaps there is an alternate explanation to poor IR execution:

1. Iran sanctions are not really a top priority for the U.S. Perhaps the Obama administration just wants to appear as though they care about sanctions.

2. Iran sanctions were never going to happen anyway. This is all theater because sanctions are untenable.

3. China was never on board. Might as well piss ‘em off, they’re never going to agree anyway.

Nah, I still believe that U.S. policy is uncoordinated.

I completely agree.

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A few months ago, Damjan DeNoble of the China HB, wrote me, asking me to review his "personal statement" for his law school application to University of Michigan. I reviewed it and liked it so much I asked him if I could run it on the blog. He said yes, but wanted to hear back on his application to Michigan first. Damjan was (to no surprise by me) accepted to University of Michigan Law, which he will be attending in the fall. This means I can now run his personal statement.

I am running Damjan's personal statement because it very nicely (and personally) sets forth what it can be like to try for a small foreign business to operate in China and deal with its laws.

Here goes.

Commitment Negotiations, by Damjan DeNoble.

After receiving my college degree, I went to China and enrolled in a four month business and Chinese language program at Beijing University. I stayed in Beijing for the next two years, working as a pizzeria restauranteur, dabbling as an importer of Croatian canned food into China, and founding an Asia-based healthcare consulting business. Accompanying this last venture, I started Asia Health Care Blog which has become popular in its own right. By far the most important thing I did, however, was propose to my girlfriend with a carved wooden ring bought from a Tibetan street vendor.

Steadily throughout this two-year sojourn, notions I held of legality were challenged by a system of law enforcement which demanded I not only know what is legal, but also what is ‘negotiable’. My social acumen, on the other hand, was constantly challenged by shifting cultural terrain. Daily, during my first year in-country – what veteran travelers call the ‘adjustment period’ - I wanted to pull my hair out due to all the negotiating I had to do with straightforward issues like getting salary on time, retrieving deposits on untarnished apartments, or convincing contracted business partners to respect the terms of signed agreements. But, as my understandings of guarantees in China matured, I learned how, in most cases, one’s negotiating position was largely a matter of perception, and that negotiating away from a guarantee often works better than negotiating towards one.

In the Beijing restaurant industry knowing a few key police inspectors is the difference between long term profit and loss. Because Chinese regulations are selectively enforced and because they change faster than one can retrieve them at the ministries, business owners must, instead, entrust their future to the regulators themselves. It is the regulators who enforce the law and it is up to them to define laws’ negotiable areas. By the time I was a staked member of The Kro’s Nest restaurant, and after we had opened a flagship seven hundred square meter pizza bistro inside Worker Stadium Park, dinners with the police had already become a predictable, Friday night ritual. Dressed in after-work plain clothes, officers of the SanLiTun Police Department would sit down on our terrace rocking chairs. Compliments would be made all around, and inevitably Kro and I, the only two foreigners, would be complimented on our Chinese language skills.

We took this time to get the low down on any new regulations, negotiate away from our need to strictly adhere to some of the less sensible ones, and, of course, negotiate down on any upcoming fines we were bound to face. For their part, the policemen developed a good sense of the people they were dealing with in their area of jurisdiction and received a nice meal or two on the house. Considering that 1) our business was unlicensed through June of 2008 and 2) neither Kro nor I ever had work visas, this whole situation is rather remarkable. The way Yuenjie, the principal Chinese owner of Kro’s Nest partnership, explained it, “This isn’t corruption. It’s cooperation.” We were demonstrating an adherence to the men carrying out and defining the law, and, in so doing, we committed to being ‘harmonious’ citizens of the Sanlitun police district. Whether or not any laws were being broken was entirely dependent on our continued good behavior – defined as any behavior that did not have the potential to embarrass the police office.

In stark contrast to the long process of scrutiny I was used to with Beijing businesses, I learned that the criteria for entry into the Croatian market was much less strict; to operate one simply had to show up and be Croatian. On my first night out to dinner with the Croatian embassy staff, I learned that due the rareness of my particular profession – out of fifty Croatians in China, I was the only businessman – the ambassador’s office had, “on my reputation alone,” designated me as the China ‘go-to guy’ for an Adriatic sardine manufacturer. I was reminded that my ethnic identity, even with an American passport, was non-negotiable and that the greatness of Croatia had peaked with the initial waves of euphoria after an all too misguided war in 1991. What else could explain the sudden advent of a “go-to guy” reputation for a twenty-three year old with a business resume that goes as far as “he runs pizza restaurants in Beijing”? It turns out that the embassy sensed it was being pushed around by Chinese business interests and wanted help. I somewhat jokingly suggested they expand their entertainment budget and lobby for increased funds to struggling Croatian universities.

My now-fiancée came to visit after I had already been negotiating my way around China for fourteen months. By this point I was wrapping up my involvement with the food industry and starting to look into various healthcare research gaps in Asia. While still in the cab from the airport, she commented on how remarkably patient I had become with life and with people. At the time, I thought the comment quite queer. Now, looking back, I realize that my perspective on time and my beliefs about what degree of mental toughness constitutes patience had become almost antipodal to hers. I had adjusted to new circumstances where moments and promises like ‘get back to you soon’, and ‘sure, no problem’ operated on a unique plane of space-time parallel to, but different from, the one she was familiar with in America. The fact that I moved back to America this past September, and left much of China behind in order to support her through medical school might, therefore, appear to be a rash decision. But, if China taught me anything it is that commitment to relationships is non-negotiable.

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PR guru David Wolf of Silicon Hutong just did a great post, enititled, "It Is Not Just Toyota," in which he lambastes Asian (including Chinese) companies for not properly preparing for or handling crisis.

Wolf starts out by commenting on a Wall Street Journal article that sees Toyota's mishandling of its quality recall as "just one more example" of another "otherwise outstanding Japanese" company turning into a "headlight-bedazzled deer in the face of crisis." The Wall Street Journal article sees something in "the Japanese corporate culture that causes companies in crisis to go into communications paralysis. The real story behind the Toyota recall is that even this most admired of Japanese companies is utterly incompetent when it comes to the fundamentals of strategic corporate communications"

Wolf sees this "non compus corparatus" problem as "endemic throughout Asia." "For all of their commercial, production, and engineering prowess, most of Asia's great companies share this giant blind-spot." Wolf sees the problem as stemming from big Asian companies no longer being able to keep their problems out of the spotlight

Twenty years ago, even ten, the severity of this problem might have been ignored. Protected by pliant local media all too ready to play down issues in deference to advertising dollars and coddled by governments at home and in countries where Asian firms set up large manufacturing bases, the specter of backlash was modest.

But in a world ruled by the radical transparency of the Internet, even the slightest stain on one's corporate laundry becomes a red flag for the world to see. And it is not just bloggers and tweeters driving this change, it is also a media desperate to sustain their relevance in the new information environment, and a nascent but growing anti-corporate, anti-globalization movement seeking to prove that corporations are, by design, malignant social actors.

Wolf then tells of his experience with Asian companies trying to deal with a public relations crisis and he is not impressed:

In over a dozen years in the communications business in Asia, I have encountered all manner of companies, startup to MNC, new and old, American, European, Japanese, Korean, Chinese, Singaporean, Australian. In all that time I have never had cause to discard my initial impression of Asian firms as almost utterly incapable of anything but the most planned, scripted, stilted and disconnected communications, suited for an age long past, and incapable of protecting themselves when the wolves come howling.

This must change, and it will, because the crises will not go away. Even after we stop reading about Melamine Milk, Lead-Laced Toys, Rotten Drywall, Tainted Dogfood and similar examples of Asian corporate moral failure, China's companies will discover that even enterprises with the best of reputations and purest of intentions can become overnight targets of a global foaming-spittle lynch mob.

He then assesses blame where it must go, which is right to the top:

It is time to stop seeing corporate communications as PR, to stop seeing PR as the "press wrangling" function of marketing, and to stop choosing earnest and attractive but otherwise incompetent individuals to take charge of a company's reputation.

But let's make this clear: the fault here does not lie in the under-staffed, under-funded, under-appreciated PR departments stashed in back offices around the region. The problem goes all the way to the top. Poor corporate communications bespeaks inattentive or incompetent corporate leadership.

Until Asia's CEOs and managing directors start paying some careful attention to this problem, we are going to watch an embarrassing procession of our best firms self-immolate. After all of the effort to create world-class Asian companies, what a pathetic waste that would be.

Okay, I agree with all that, but are Western companies really any better? My sense (and it is just a sense as I do not have nearly Wolf's wealth of experience) is that some do and some don't and those that do are fairly limited to the larger companies that are used to dealing with a really professional in house public relations staff or using top flight outside public relations consultants. I say this because I have seen my fair share of really successful small and mid-sized American companies (including clients) get pretty much annihilated due to what I perceived as their unwillingness to get on top of a bad situation early and recognize that it was no time to go it alone.

I am going to have to be pretty circumspect here, but my sense is that many business owners who started their own companies become of the view that something like public relations in a crisis is something they are going to handle on their own and they do, to disastrous effect. I think the business owner believes either that no outsider can know the business well enough to help or simply that bringing in a public relations/crisis management person will simply be too expensive.

I just don't see this blindness to crisis as a peculiarly Asian issue, but again, maybe I just have not seen enough of this up close to really know.

What do you know?

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Every so often a US start-up company will contact me with a plan to manufacture in China that involves the Chinese manufacturer producing at a reduced rate until the product can really get off the ground. My response to those plans is always the same:

I am not going to tell you that what you are proposing is impossible, because for all I know, it may be possible. But I am going to tell you that I have never heard of a Chinese manufacturer agreeing to such an arrangement with a start-up company and based on what I know of how Chinese manufacturers are structured and how they typically conduct their business, I think what you are proposing will be exceedingly difficult to achieve. Maybe Wal-Mart could pull something like that off, but I just don't see a small company being able to do so.

The start-up company usually responds either by backing down or by launching into US company speak something like the following:

We have gotten where we are right now through a series of win-win cooperative relationships with a number of companies and people and I don't see why we can't do something similar in China. Maybe this sort of thing is not yet typical in China, but once they see our product and realize how they can participate in it in a win-win sort of relationship, I think they will be interested.

To which, I usually tell them they should try and then when their relationship with their Chinese manufacturer is ready to be formalized with a contract, they should get back to me. They agree, but guess what? I've yet to get the return call.

China product quality guru Rene Anjoran, in his most recent post, "Partnering with a Chinese factory: a sweet dream?" explains how Chinese factories just do not think in terms of either "partnerships" or "win-win" and a lot of that has to do with their past treatment by Western buyers. Anjoran concludes his post (and I urge you to go there and read the whole thing), with the following list of ways to treat your Chinese manufacturer:

-- Accompany the factory at the beginning of the relationship, to explain clearly what is acceptable. -- Keep monitoring production quality, make sure to get written and signed records, and do not lower your standards for any reason (if possible). -- Dump regularly the worst factories: those that can’t (or won’t) be reliable enough, and those that are growing too fast. -- Give regular business to the best factories and walk your talk, as mentioned above. Make sure you are not seen as a bad customer. --Tolerate that the best factories get a reasonable premium on their prices: you will make it back easily on lower costs (better quality, less delays, faster responses, etc. all reduce your costs and help you please your customers). -- Don’t switch suppliers for a few pennies, but keep them in competition with at least another factory to avoid unreasonable quotations.

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Every once in a while, I get an email accusing me of costing Americans their jobs and going on and on about how China is terrible and anyone who has anything to do with China is terrible, presumably including me.

I usually respond by talking about how China is a reality and how countries should be judged not only on where they are now, but also on where they came from and where they are going, and on how under those criteria, there are plenty of countries far far worse with whom the United States deals every day. I will then usually link over to the most recent story of US ally Saudi Arabia executing a juvenile or someone who has been raped or converted from Islam or to an article of how US ally Egypt turns a blind eye to the slaughtering of Coptic Christians and then ask the person what they purpose "we" should do about those sorts of things. And what about US allies that do not allow women to vote or drive cars and in which homosexuality is a capital offense? Or the Sudan, which is engaged in genocide, or something very close to that. Why are we not more focused on those countries? Is it racism? Is it that we don't care? Is it strategic interest? Is it too controversial? Is it that we believe change is not possible? What?

I then talk about how as an unabashedly patriotic American I believe it to be in my country's best interest to seek to make common cause with those countries whose values do not include wanting to kill all Americans.

George Gilder says something roughly similar in the Wall Street Journal, in an opinion piece entitled, "Why Antagonize China?:"

While attempting to appease a long list of utterly unappeasable foes—Iran, North Korea, Hamas, Hezbollah, and even Hugo Chávez—today the U.S. treats China, perhaps our most crucial economic partner, as an adversary because it defies us on global warming, dollar devaluation, and Internet policy.

* * * *

Meanwhile, Secretary of State Hillary Clinton and the president's friends at Google are hectoring China on Internet policy. Although commanding twice as many Internet users as we do, China originates fewer viruses and scams than does the U.S. and with Taiwan produces comparable amounts of Internet gear. As an authoritarian regime, it obviously will not be amenable to an open and anonymous net regime. Protecting information on the Internet is a responsibility of U.S. corporations and their security tools, not the State Department.

Gilder goes on to explain why the United States should seek to ally itself with a capitalistic Islamist-fighting China:

A foreign policy of serious people at a time of crisis will recognize that the current Chinese regime is the best we can expect from that country. The Chinese revitalization of Asian capitalism remains the most important positive event in the world in the last 30 years. Not only did it release a billion people from penury and oppression but it transformed China from a communist enemy of the U.S. into a now indispensable capitalist partner. It is ironic that liberals who once welcomed appeasement of the monstrous regime of Mao Zedong now become openly bellicose at various murky incidents of Internet hacking.

Nonetheless, with millions of Islamists on its borders and within them, China is nearly as threatened by radical Islam as we are. China has a huge stake in the global capitalist economy that Islamic terrorists aim to overthrow. And China, like the U.S., is so heavily dependent on Taiwanese manufacturing skills and so intertwined with Taiwan's industry that China's military threat to the island is mostly theater.

Gilder concludes by asking "How many enemies do we need?"

Great question.

What do you think?

UPDATE: Here is a great example (Afghanistan) on how the US, China, and Russia can and should work together against Islamic extremist groups like the Taliban.

FURTHER UPDATE: In this post, entitled, "Obama’s China Team Sitting on the Bench?"
China Hearsay posits that maybe the reason the United States' policy on China has been so out of whack is because President Obama has been listening to experts on Chicago politics, not China politics.

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I never wrote about Tengzhong's purchase of Hummer because I was absolutely certain that deal would never go through. It just never made any sense to me and I thought Tengzhong was playing it up for publicity purposes and that the Chinese government would never give its approval. It is now looking like the Hummer deal may actually go through, in which case my mistake was in not writing about it until now.

So in an effort not to make the mistake of overestimating the international acumen of a Chinese company yet again, I am going to get way out in front of a Chinese company purchase that makes even less sense to me than that of Hummer. A Beijing-based company just purchased a "dormant" shopping mall in Milwaukee. Wisconsin, that is.

I know about this only because I have a "Google alert" set for co-blogger Steve Dickinson and it just popped up. Seems CNN sees Steve as an expert on US shopping malls and that actually is not all that off base. Steve always likes to say that he was the lawyer on the two largest Asian (Japanese) real estate purchases in the history of the Pacific Northwest and also the lawyer on the two largest Asian (Japanese) workouts in the history of the Pacific Northwest.

The article is written by Lara Farrar, a really top flight China based journalist, and it is entitled, "Coming to Milwaukee: A Chinese mega-mall?" Here are the basic facts:

A Beijing-based company will soon open a Chinese-style mega shopping mall in the most unlikely of places: Milwaukee, Wisconsin.

"The cost of doing business there is very low," said Wu Li, president of Toward Group. "The people are friendly, the environment is peaceful and the pace of living is slow. It is a good place for Chinese enterprises to go abroad."

Loaded with cash, credit and encouraged by the government to expand overseas, Chinese companies have been investing in property abroad at an increasingly rapid clip. While most are purchasing properties in traditional commercials centers like New York, few have ventured into the Rust Belt -- until now.

Steve is underwhelmed:

The Japanese also famously purchased U.S. commercial properties -- such as New York's Rockefeller Center and Pebble Beach Golf Course in California -- while its economy was on the rise.

"Did any of them turn out well?" said Steven Dickinson, a China-based lawyer with Harris & Moure, an international business firm. "No, they turned out badly. Because the Japanese were idiots? No. It just didn't work out. What does that suggest for the Chinese? Well, I won't say, but that has been the history."

Dickinson advised Japanese firms that bought a spate of American "trophy malls" in the late 1980's, a period when a strong yen and growing global influence encouraged the country to invest overseas, particularly in an overvalued U.S. commercial property market.

"You go into a place like Milwaukee, and you have a country that has no clue what people in Milwaukee want in a mall and when they buy it the first thing they do is change it to run like a Japanese mall or a Korean mall or a Chinese mall," Dickinson said. "Well nobody wants to go and then they bail." A Chinese mall is exactly what Wu [Toward's President] envisions for Milwaukee.

The Mall will be called the AmAsia Plaza and Toward is "recruiting retailers from Beijing and Ningbo, a seaport in northeastern China that is also Milwaukee's sister city," to fill it. The plan is to us the mall to boost the image of Chinese brands in the United States:

Two potential candidates include Beijing Wu Yu Tai Tea Company Ltd. and Tong Sheng He, a shoe shop. The goal, he [Wu] says, is to help Chinese brands boost their image in America while enabling American businesses to connect directly with Chinese wholesalers without having to go through a middleman.

"It is only a matter of time for the U.S. to recognize Chinese products are high quality," he said. "[The mall] will represent the highest levels of Chinese manufacturing."

AmAsia will also feature exhibitions to "show off the rich culture of China."
"One month there will be Chinese painting, another month Peking Opera or traditional dance from Yunnan province," Wu said. "Our hope is that it will become a tourist destination for local and regional communities."

That all sounds great, except I have one problem. Who from Milwaukee is going to go there? It seems Milwaukeeans are wondering about the same thing:

But will Milwaukeeans want to go there?

"Most things made in China, if it is edible or made out of material, people won't buy around here anymore," said Joe Fall, owner of Culver's, a burger joint a few miles away from the shopping center.

"All of the scandals that have erupted through lax manufacturing ... when I hear made in China, I think twice," he said

Wu from the Toward Group, believes "It is only a matter of time for the U.S. to recognize Chinese products are high quality."

What do you think? Is China retail really ready for Milwaukee? Is Milwaukee really ready for China retail?

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Did a post recently, entitled,"How To Speak Through A Chinese Interpreter," setting out ten things that will improve your speaking through a Chinese interpreter. That post led to a number of comments, including one that really kinda ticked me off. And I almost never get ticked off.

The comment that really bugged me was from "Glen," who had this to say:

Hire professionally-trained interpreters and translators.

Using people from "around the office" for formal translation and interpretation tasks is unprofessional for a law firm or any business. Would you ask Jeff from accounting to fix an electrical problem? No. Hire a professional every time.

I would wager that the interpretation mistakes that your colleagues are hearing in depositions are due to the fact that the interpreter has not been trained professionally. If you use professionals, items 1 through 10 on this list are completely unnecessary.

Glen has it all wrong, but instead of simply getting all up in Glen's face (as was my first inclination), I am going to use his misstatements to expound on how to go about choosing the right interpreter. I do not purport to be an expert in interpretation, having never interpreted much more than a lunch order, but I have done so much through interpreters that I do consider myself expert in selecting them and using them.

And, contrary to what Glen seems to be saying, my method definitely involves a lot more than just pulling someone "around the office."

Glen's argument for always using a professional interpreter is both widely impractical and, at least in some instances, flat our wrong.

I choose the interpreter to suit the situation.

Sometimes the situations involves a potential client coming to my office. There it makes sense to use someone in-house who knows my firm and, most importantly, who I know will make a good impression.

Sometimes the situation requires someone who knows and understands the matter to be discussed. This will almost always again mean someone in-house because that someone will probably have been working on the matter all along. And even if that person has not been working on the matter all along, that person has probably worked on similar matters and, if not, I at least know that person has an excellent understanding of legal issues. Even most good interpreters are not good at all in dealing with complicated legal matters.

Glenn seems to fault me for using bad interpreters at depositions and he conflates that with my having used someone from around my office. I only wish. Without exception, the bad interpreters at depositions have been chosen by the other side in circumstances where I had no say. And the reason I know the interpretations were bad is because for all but the most unimportant deposition, we try to bring along someone from our office (or the client) to monitor the interpreter. We are not allowed to use our own people to interpret at depositions. The same holds true in court.

When it comes to an important, planned gathering of a large number of people, we typically bring in a professional interpreter from outside our firm, but we again bring along our own people to monitor. The reality is that great interpretation is always desirable, but having your own person there who you trust completely and you know will be looking out for your own interests can be essential.

The personality of the interpreter can also be crucial. Many will view you as they view the interpreter and if your interpreter is arrogant and off-putting, do not be surprised if you are seen the same way. Many years ago, I was involved in a big case on Sakhalin Island and I was using interpreters when I landed. All were fine, but at some point, I used one who caused an influx of compliments about my firm and me. It was apparent that everyone (both the Americans and the Russians) really liked this person and were hugely impressed by her professionalism and her language skills. I immediately doubled her wages in return for her promising to drop everything and take on my matter whenever I was in town.

And in China, if you are going to be using an interpreter for contract negotiation, you had better find someone who you not only trust, but also find someone who will not back down when confronted by the Chinese company with which you are negotiating.

Which, for some reason, reminds me of one of my favorite tricks. Try going into a negotiation with someone who the other side would never think speaks their language and never tell the other side that you have that language capability. You might be surprised at what you learn when the other side starts speaking in their language, assuming you do not understand a word of it.

Your interpreter is you, so choose wisely.

How do you choose your interpreter?

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Every so often I get an absolutely terrific newsletter from the The Mintz Group, which bills itself as follows:

The Mintz Group is an investigative services firm that gathers hidden business facts all over the world for corporations, law firms, financial institutions and non-profits. We connect the dots by finding the critical facts our clients need before relationships. Before relationships, including business deals and executive hires, we conduct due diligence investigations into the backgrounds and reputations of companies and their executives. During disputes we find admissible evidence that law firms and in-house counsel need to prevail, whether in court or at the negotiating table. After frauds, we connect the dots by finding out what happened, how it happened and who did it.

I am not sure how I got on their mailing list, but unlike virtually every newsletter I get, I have not canceled this one because it is just too good. This issue is no exception, as it contains an excellent article, entitled, “Beyond Madoff: Eight Lessons from Recent Due-Diligence Background-Checking Gone Wrong,” setting forth the following eight (how luck!?) due diligence "lessons," each of which I explain in relation to China.

1. Before giving someone your money, you need to dig into his background even if he:
(a) is a member of your country club;
(b) has a friend on the police force; or
(c) was profiled in a glossy magazine. For China, I would change (a) to "the Communist Part" and I would change (b) to friend of the mayor and then I would state that these things not only do not militate against the need to conduct your due diligence, they increase that need.

2. The further away from home you travel, the deeper you should investigate the prospective relationships you find there. China is very far away and that should definitely be taken into consideration.

3. Relying on only checking references can give you false comfort about the person.
True everywhere, including China.

4. If you fail to check for fraud convictions and fake names in a partner’s past, you might be in for wrong-doing in the future – leopards generally don’t change their spots.
Leopards don't change their spots in China either.

5. Some raves offered by prior employers continue old entanglements. Past employers often do not know of their ex-employees history before joining the company or they pass on a good review just to decrease the likelihood of their ex-employee messing with them.

6. Don’t be bashful about doing a due diligence check of a prospective hire or business partner; be suspicious if he or she seems offended that you’re doing one.
Completely true. We find that the honest and legitimate businesses expect caution on our part and respond to our reasonable requests for more information. The disreputable claim the documents do not exist or that we do not know what we are talking about or that this just is not how "it" is done in China.

7. Fake due diligence can be worse than no due diligence at all. This is doubly true for China, where fake documents are so often employed.

8. Don’t be naïve – many people with things to cover up in their pasts lie when asked about themselves. Completely true.

For more on the need to conduct due diligence on your China partners, check out the following:

-- Let Me Tell You About China Due Diligence
-- Korea, Fake Degrees, Confucius, Due Diligence, And China Too

-- Beware The Potemkin Chinese Company
-- Floating Houses, Conflicting Laws, And Really Nice Governmental Officials. China Law Practice Writ Large.

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My business requires I spend huge amounts of time speaking with others through an interpreter. I have actually gotten pretty good at using really good interpreters to hide my own flaws. Within my office, we have people capable of translating/interpreting English, French, Korean, Chinese, Russian, Japanese, Sanskrit (never used), German, Spanish, and even a bit of Turkish.

I have been working with my firm's Russian specialist for about a decade and though I speak enough Russian to tell a (as in one) joke and to order a couple of beers and make a compliment or two, for everything other than that, I rely on Oksana. Oksana knows the law, is articulate in both English and Russian, and fully understands both American and Russian culture. When speaking with Russians through Oksana, I hardly worry about what I say as Oksana will "clean" it up with her transmittal. But what I still always find funny is how much Oksana always reduces what I say. If I give a long explanation as to why I think our argument will prevail, Oksana just might translate me as having said, "I think we will win." She insists Russian clients want answers not explanations.

When talking with Russians I love using sayings, particularly those relating to hunting. Whether there is a corresponding one in Russian (amazingly enough, there usually is) or not, the Russians always seem to understand and appreciate them. "We are going to have to kill a few coyotes before we can even start thinking about slaying the bears."

Our German clients are very different, or so I am always being told by our German (and Spain) licensed lawyer, Nadja Vietz. When meeting with our German or Austrian clients, I will say a short sentence and then five minutes later Nadja will be done. I might say something like, "we need to really pound on this guys" and Nadja will then give a long explanation in German as to why, based on our past experiences and the existing law, the appropriate strategy is that we pursue our claim with vigor. Our German and Austrian clients tend to want huge amounts of detail as to what we have done and will do.

No matter what the language, there are certain best practices to use when speaking through an interpreter and there are also certain particular practices that make sense when speaking into particular languages or to those of a particular culture. I thought of all this today when I came across an article, entitled, "Translating from English to Chinese" (h/t ChinaHopeLive). This article provides the following ten tips for those speaking in English to a Chinese audience, through an interpreter:

1. DON’T say have fun. The phrase “having fun” or any other derivative of it, “have fun” “had fun”, does not translate into Chinese. Culturally, it’s simply not a concept that resonates with Chinese people. It’s not that Chinese people don’t enjoy a good time, it’s that they don’t value fun as much as an English speaker might.

2. DO speak in complete sentences. Grammar structures vary between the two languages therefore sometimes you have to flip flop a sentence around in order for it to make sense. Consider the sentence: Smoking in the elevator is prohibited. In Chinese, I’d have to translate “prohibit smoking in the elevator” for it to make sense. Go ahead and say the complete sentence so the translator can have the freedom to rearrange the structure before delivering the message.

3. DON’T use names, places, or any other words that require capitalization unless you can be certain they are something/place that is well known across both cultures. I know the Chinese name for Abraham Lincoln, but not Boise, Idaho.

4. DO stay within normal parameters of the English grammar and avoid slang. Play on words is fun when you’re speaking to other native speakers, but they do not translate well. For example: “The biggest mistake of my life was hooking up with that girl.” I can translate the meaning, that you had a relationship with this girl, but I won’t be able to convey whatever sentiment behind the usage of the phrase “hooking up” very well.

6. DON’T use sarcasm. Sarcastic humor is largely a western phenomenon. Chinese people for the most part can’t appreciate sarcasm and will take what you say literally which may easily result in offense.

7. Do tell light hearted anecdotes of human experiences which transcends both cultures. Tell stories that you know Chinese people can relate to. For example, everyone can relate to silly antics of toddlers. This will lessen the pain of listening to a translation and immediately build a connection.

8. DON’T use idioms. There are a handful of idioms that are in both English and Chinese, but unless you are extremely well read in both languages, you’re not going to know which ones they are. Instead, try conveying the meaning of the idiom you’d like to use. It may be less interesting, but what’s the point of being interesting if the audience won’t even understand the meaning?

9. DO pay attention to basic respect and civility in your words. It is very hard for me to translate for somebody who is saying something degrading about Chinese culture. The things in Chinese culture that irritates most likely will not irritate the Chinese, so a message about the discomfort of crowds will not translate well, and is simply disrespectful.

10. DON’T use affectionate words too much. Chinese people express love much differently than Westerners. I can only translate “I love you, God loves you, I love my Mom” so many times into Chinese before it starts making me squirm before my Chinese audience.

Oh, and speak slowly.

What do you think?

UPDATE: Stan Abrams over at China Hearsay did his own post on this topic, entitled, "Speaking Through an Interpreter: Try to Avoid Lawyers," positing that lawyers make lousy interpreters. Stan may be right about this, but one thing I have found is that just about everyone makes a lousy interpreter. With rare exceptions, whenever my firm deposes someone in a foreign language we bring someone from the office who is fluent in that language so as to monitor the translation of the interpreter. This has given me countless stories of interpreter mistakes.

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Just because you’re paranoid doesn’t mean they’re not out to get you!

I am convinced about 99.9% of all emails go through. But the way I interpret that is that at least one email I send per day will not reach its destination. If I do not hear back from someone rather quickly, I just assume they did not get my email and so I send it again. In other words, I assume the worst.

I have a similar attitude regarding my privacy when in China and many other countries. I assume my hotel room is bugged and my internet is monitored. I assume the worst and I take every measure I can to be careful. I know people will (and have) laugh at my "paranoia" but I have plenty of stories to tell involving people who were not careful about their data.

1. Many years ago, I was staying on the business floor of the Hotel Lotte in Pusan, Korea. This floor has a couple of computers for its guests. I got on one of those computers (to read the news) and the first thing that popped up was a letter written by a Seattle company revealing information I know they would not have wanted me to see.Someone from this company had written this letter on the computer (in Word format) and simply left it there. Not smart.

2. Many times I have gotten on the internet at an airport computer and been let right into someone's web-mail account. Not smart.

3. A couple of years ago, I found a memory stick in the desk drawer of my hotel in Shanghai that contained an incredible amount of information on a European plastics company. Not smart.

3. A stockbroker I know was sent an email by a rival stockbroker, urging the my stockbroker friend to oppose some proposed law that would strike hard at those with massive net worth. The stockbroker who sent out this email cc'ed it to a half dozen or so of his clients and my friend figured these were people with the requisite massive net worth and he cold called them for their business. He ended up getting a great client with this tactic. Not smart.

4. Many years ago, a client of ours discovered one of its employees was running a rival business within my client's business. My client then arranged for this employee to bring his two company laptops to the office and then when locked out the employee when he went to lunch. You would not even believe the stuff we found on those laptops. I am talking both business and personal. Very, very personal. Not smart.

5. A number of my firm's Russian clients will not discuss anything of any import over the phone or via email. They will only discuss things in my office and, for the even more paranoid, only over at lunch at a restaurant if the matter is of extreme secrecy. They still see themselves operating under the Soviet system, no matter where they are.

I thought of data protection today after reading a fascinating New York Times article, entitled, "Britain Warned Businesses of Threat of Chinese Spying." True or not (and I have no way to know), this article ought to chill you at least a bit. It talks about a 2008 report from Britain's M15 intelligence agency, setting out the following:

Officers from the People’s Liberation Army and the Ministry of Public Security had approached British businesspeople at trade fairs and exhibitions with offers of “gifts” that included cameras and computer memory sticks that were found to contain bugs that provided the Chinese with remote access to the recipients’ computers. "There have been cases where these ‘gifts’ have contained Trojan devices and other types of malware.”

The MI5 report described how China’s computer hacking campaign had attacked British defense, energy, communications and manufacturing companies, as well as public relations companies and international law firms. The document explicitly warned British executives dealing with China against so-called honey trap methods in which it said the Chinese tried to cultivate personal relationships, “often using lavish hospitality and flattery,” either within China or abroad.

“Chinese intelligence services have also been known to exploit vulnerabilities such as sexual relationships and illegal activities to pressurize individuals to cooperate with them,” it warned. “Hotel rooms in major Chinese cities such as Beijing and Shanghai which have been frequented by foreigners are likely to be bugged. Hotel rooms have been searched while the occupants are out of the room.”

I have absolutely no proof that anything like the above has ever happened to me or to anyone else in China, but is anyone out there certain these sorts of things are not happening? How do you handle these issues?

UPDATE: Two more stories. Driving in to work today, I listened to a story on the BBC of how the German will likely pay for illegally mined data from a big Swiss Bank. Germany is thinking it worth it to pay 2.5 million Euros for data that will allow them to catch more than 100 million Euros in tax cheating.

The other story was one of which I was reminded by an old client of mine. Many years ago, I was going to a particular city in a former Communist country and my client and I agreed that, above all else, I should completely avoid meeting with or even talking to "Oleg" [made up name here]. I had to go to this city, but I was going to be there for only two days. I fly in, walk into my hotel lobby and, before I can even check in, two people come up to me and say that Oleg will be coming by to take me to dinner at 7:00 pm. I felt I had to go at that point and when I asked how he knew of my arrival, he said that he gets emailed the list of all foreigners as soon as they arrive. Oleg runs a very successful private business.

FURTHER UPDATE: Someone I know to know China and someone I have every reason to trust, sent me the following email, which I have modified slightly to erase any possibility of anyone being able to trace it back to its source:

Some Chinese companies own their own hotels or have very close relationships with a particular local hotel and contractually require that the foreign parties stay in one of these hotels at a special rate.

Any attempt to arrange different accommodations is met with strict and swift countermeasures. Penalty clauses in the contract are brought up. If you do find other accommodations they will absolutely not pay for them.

Why? All telephone calls are capable of being, and are frequently, recorded. I have actually been in the room used by one of these companies as it's actually not all that difficult to get into.

All of the "photocopies" made at the hotel were scanned digitally and saved. Colleagues would leave their notebooks in the meeting room at lunch, "locked." These notebooks' hard-drives were removed and cloned.

Once, a foreigner locked horns with someone at a big Chinese company and ended up in jail on a prostitution sting. Dan, don't get me wrong, I am against prostitution but this guy was not doing anything any differently from what he (and others) had been doing all along. In this instance the "prostitutes" were in fact not prostitutes. The girl's room was camera'ed out. It is very, very, very rare for someone to be arrested in China for soliciting. This person subsequently got out on greatly reduced charges and I have to believe that was in return for his agreeing to start going along more with the Chinese company.

I will note that I have a very savvy client who absolutely refuses to stay in any hotel recommended by those with whom he does business and who always books his hotels on his own, without revealing where he will be staying. Probably a pretty good policy.

FURTHER FURTHER UPDATE: The Asia Health Care Blog has done a follow-up post, entitled, "China. The walls have ears there, and probably everywhere else," saying I am not paranoid enough and should be paranoid everywhere I am and at all times. My response to that is that I am, but because this is a China blog.....

FURTHER FURTHER FURTHER UPDATE: Reader sent me this link to a pretty recent article, entitled, "Boris Johnson's deputy [Mayo of London]: 'I had sex with a Chinese spy'"

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One of my savviest clients called me a couple weeks ago. This guy is an opportunist. He makes things all around the world. He makes cheap things for which there is an immediate need. He has been doing this unbelievably successfully for around twenty years, all over the world, but lately almost exclusively in China and in Vietnam. He does both OEM manufacturing and manufacturing in his own factories, all depending on the best way to proceed at a particular time, in a particular place, and for a particular product. He studies the world from a manufacturer's perspective and he is constantly crunching the various numbers that determine where to make little cheap things.

Over the years, I have spent hours talking to him about the information he analyzes in determining where to manufacture and the following pretty much covers it:

1. Political stability and risk
2. Labor costs/efficiency
3. Work ethic
4. Infrastructure
5. Material costs
6. Utility costs
7. Logistics
8. Shipping Costs
9. Where Nike manufactures

He was calling me to tell me he was considering Haiti and that I should look into lining up a good attorney there.

Here is his analysis, very very roughly in his own words.

I cannot help but be impressed with the resilience and entrepreneurship of the Haitian people. And look at how well Haitians do when they come to the United States. That tells me that was has held them back has nothing to do with culture. I know Haiti has had massive crime and corruption and even before the earthquake it terrible infrastructure, but look at how close it is to the US and think about its future. I see the US and other countries helping it recover both in terms of its government and its infrastructure. The US is going to put in place all kinds of incentives to encourage American companies to manufacture there. We are going to do this both for Haiti's sake and our own. Let's face it, our relations with China are bad right now. They are bad on both the political and the economic level and we should be doing whatever we can to reduce our dependence on them. And it is not as though things are getting any cheaper in China either. Wages and utility rates just keep rising. I am not saying Haiti is not without its massive problems and risks and I am not saying its recovery will be anything but slow, but I am saying that I am seriously looking at it and you should start lining up a lawyer to help me when the time comes. I believe the US government, if it is smart is going to be looking at helping more US-friendly countries compete with China. I'm willing to be somewhat of the trailblazer in going there as I think it's the right thing to do

And so I did. I contacted a lawyer at my old firm who I knew had done some work in Haiti and he recommended a Haitian lawyer to me but said he had no idea how that lawyer was doing. Then last week, the Martindale-Hubbell Blog did a post on how some of its lawyer customers were doing in Haiti and the recommended lawyer was in the post.

I secured my client's approval to write this post and to the extent I can, I will keep you up to date if and when this project progresses.

So what do you think. Why not Haiti?

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A domestic products liability lawyer friend of mine sent me an article essentially saying how Chinese factories do not care about quality, Chinese factories will try to get away with whatever they can because they are run by evil people, these things are getting worse, and Americans who buy from Chinese factories are stupid. I am over-simplifying the article, but not by all that much.

I am not going to link over to that article in deference to the person who wrote it (who I know personally), but as you have probably have guessed by now, I am going to skewer it. I think it bears mentioning that, as far as I know, the person who wrote it has not done any China business for years.

I am going to leave the big issues raised by such claims (racism, ethnocentrism, etc.) to others, and just attack it for being wrong.

Though one story does not a rebuttal make, this one story is so apropos, I am going to lead with it.

I met with a client all afternoon on Friday. He is from China, but moved to the US maybe 20 years ago for graduate school. He eventually formed a now thriving construction parts business. We talked about his history of getting parts from China and he talked about how it took him two years of his training factories in China before he had product he could sell in the US. He said it took him another couple years before he had factories that understood how US quality definitions are so different from China. We talked about how in China if you make a $30 part badly, you just reduce the price to $10 and sell it, whereas in the US, that bad quality part is completely 100% unsalable at any price because nobody will accept it. Nobody. My client talked of how his Chinese factories simply could not grasp this at first, but that he now has around ten factories who have consistently been churning out excellent parts for him for years.

Did these ten factories start out evil and then become moral? I don’t think so. What happened is that the US company taught them how to make quality parts, taught them the long term value of making quality parts, and then, literally showed them the long term value by increasing their purchases and forming a partnership.

This story is actually fairly typical. I must hear at least a story a month from clients who tell me of crippling quality problems their first few years in China, but of how for the last few years, things have been going really smoothly. Sometimes this is because they stuck with their initial factory and worked out all the kinks and sometimes it is because they moved on to a better factory.

Manufacturers, what are you seeing out there? Is quality improving, declining, or staying the same? And, more controversially, in your experience (and be honest here), whose fault is it when the quality is bad, the Chinese factory or the American company for failing to be clear on how things need to be?

UPDATE: The always excellent Quality Inspection Blog did a post, entitled, "Getting quality products from China: it takes time and effort," agreeing with my proposition that product quality in China is improving and setting out a few tips on choosing a factory that will produce quality goods.

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Silk Road International Blog is one of my favorite blogs. It is written by David Dayton, an "international procurement and project management" specialist with more than twenty years of Asia experience. What I like so much about his blog is that it so often brings us up close and personal and it just tells it like it is. Though the posts are usually about dealing with Chinese factories, they very often "hit me where I live." This is especially true of David's most recent post, "Another day, another interesting conversation (headache) with a factory."

The post is about getting clothes produced from a Chinese factory. David worked with the factory for more than a year to line everything up and then, as soon as David's factory paid the money, the factory's promises went by the wayside:

We’ve got the PO signed, the deposit paid and what happens? Factory tells us: “We don’t think that we can do this order. We’re really busy now.” This, of course, was the response to the payment of the deposit. No indications prior to the placing of the order that there would be anything problems. We’ve talked EVERY day in the two weeks preceding the actual transfer of funds and every conversation was great. “Of course we can meet these dates.” “Of course we’ll work with you QC.” “Of course we’ll meet all the QC standards (you’ll never be as strict as our Japanese clients.)”

David then explains what his company had to do to get the Chinese factory to "keep the commitments that they agreed too (signed and chopped) in the contract:"

Fighting about the contract is not nearly as effective as begging. It’s all about face. They know they are wrong but allowing them power can often be as effective as offering them money. The end result of our negotiations is them being in power anyway—they have the deposit, the control the speed for the production line, they monitor the QC, purchase the materials—there is so much that could be sabotaged and be made to look it was just bad luck. So, giving them the face now and admitting that we’re at their mercy is both pleasing to them and the truth. We don’t pay any more (yet) and can still go after them legally if we had too. But at this point they are pretty pleased with themselves and we’re just glad to be back to square one.

Thanking them profusely (gifts) is the correct response. A dinner will cost $100 for the manager that told us “we moved other projects back for you.” A shirt or wallet (brand name but from Ross or another US discount store) gives tons of face and costs $20. It fulfills the social obligation we had to the manager for “helping” and it saves us a bundle of money we would have wasted in transferring the order or suing them or fighting and raising the price. I’ve often said that sometimes the best option is paying more to get what you had already agreed to. When it’s a small gift or dinner it’s almost not even painful. Ego is a bit hard to swallow, but that’s about it.

I feel for David, having been there myself countless times in dealing with attorneys overseas. Just as David needs to engage in creative wheedling to get a widget produced, I often need to engage in creative wheedling to get a legal document filed.

We have an expression in my office on how "a day on the ground is worth a month in the office" and what we mean by that is that to get foreign lawyers to get things done and to get our clients' cases/matters moving, a meeting with local counsel is oftentimes required. The power of the meeting is that work gets done before we arrive so no face will be lost when we are there and then at the meeting, we can work together so that the plan going forward is theirs, not mine. For more on what it is like to work with lawyers in China and in Korea, check out this article I wrote about a year ago, entitled, "Working With Korean And Chinese Attorneys."

I am guessing I have had at least as many tug of wars with foreign lawyers as David has had with foreign factories. I am not exaggerating when I say that along with our ability to work with foreign counsel ranks right up there in importance with our need to provide great client service and to know the law (both in the books and in the real world).

My favorite part of David's post echoes something I constantly find myself saying both at the office and to my own kids: "keep your eyes on the prize."

Sometimes you are totally in the right. Sometimes people lie to you. Sometimes there is nothing you can do about it. But the end goal, which is often very very hard to remember, is to get the project done (correctly, on time and on budget). You may not get what you wanted at the originally contracted-for price, but on balance you’re still getting what you want (and it’s still at a savings too!).

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This post is very much based on Steve Dickinson's article in this month's China Economic Review, entitled, "New Image, New Error."

With China being hailed as the world economy's savior, its government has concludedthis is its century. The West is irrelevant and China will lead a vanguard of new players -- and the game will be played by Beijing’s rules. Particularly in the area of trade and investment, China hopes to jettison the constraints of world trade law for a return to the policy of national interest and raw power. In this new world order, Beijing sees little need for foreign economic or technical assistance.

From the standpoint of foreign investors in China, this new self-image is already having a significant impact:

• Applications for wholly foreign owned enterprises (WFOEs) and joint ventures are more often being delayed or denied by demands for documents or capitalization not required by law. Officials openly state they are no longer interested in encouraging foreign investment.

• Registration of technology licenses is either prohibited or restricted in direct violation of law. The idea is that Chinese business should no longer be required to pay for access to foreign technology.

• Visas for foreign workers are increasingly being delayed, denied or restricted. The position is that Chinese workers are available to do any job.

• Investments in China used to be falsely profitable as foreigners qualified for tax breaks unavailable to domestic businesses while employment and wage rules were not enforced. This position has completely reversed. Chinese and foreign companies are expected to operate under exactly the same rules, making many foreign ventures unprofitable.

Assuming China truly has no need for foreign investment and technology, these changes are rational and there is no reason for China to back off from them so long as its economy remains strong.

It is less clear how this new image of China as world leader will play out in the country’s commercial dealings with the rest of the world. Though an old civilization, China is actually a
very recent entrant into the world system and it tends to view the legal and trade rules governing this system with extreme suspicion. As a result, many Chinese officials believe China should disregard these constraints and simply take what it wants.

There were a number of examples of this approach in 2009:

• China uses the world trade legal process to make claims against foreign practices, but when
the WTO rules against China, as in the recent copyright case brought by the US and others, Beijing feels free to simply ignore the decision.

• As the major purchaser of many raw materials, China believes it should
be able to dictate purchase terms, without negotiations. Iron ore is a good example of this. China formed a buyer cartel (in violation of its own and foreign anti-monopoly law), which demanded a single price from its suppliers, with no room for negotiation. This “hardball” approach is being considered for other industries where China is a major purchaser of raw materials.

• China has made a number of high profile investments in the third world, both for resource extraction and infrastructure development. It often employs a “take our terms or forget the deal” approach, insisting on total Chinese staffing, financing and control.

In the international arena, this strong-arm approach is certain to fail. Regardless of its recent
economic success, China simply does not have the power to force its will onto other countries. No country has that power – as errors made by the US in the 1970s and Japan in the 1980s attest.

Should we be surprised with how China is poised to repeat the same strategic missteps in this new century? Are you seeing this change in attitude? What impact is this having or going to have on your business?

UPDATE: Just noticed that my good friend Andrew Hupert, over at Chinese Negotiation, just did a somewhat similar post, entitled, "The New Chinese Negotiator: From Harmony to Our Money (Part 1)."

Andrew sees the following five things shaping the US China relationship (both on the macro and the micro level):

1. Copenhagen proves China is done playing coy about its status in the world.

2. "China’s default negotiation position is zero-sum game/ competitive – and there doesn’t seem to be a crisis big enough to get the US and China pulling in the same direction.

3. The Chinese government is running more of the private sector show now than a few years ago. "Scratch a private Chinese business and you’ll find a policy-driven organ of the bureaucracy."

4. "The new projection of Chinese power will be infrastructure projects and commercial deals. China’s foreign policy is driven by a need for raw materials, and it isn’t squeamish about who it has to get in bed with to obtain them."

5) "Non-economic considerations drive Chinese organizations, as long-term policy concerns ace short-term profit/loss decision. For years Western dealmakers were driven to distraction by Chinese counter-parties that seemed blind to their own self-interest. It’s not that the Chinese side was dim or daft – rather they were driven by non-economic factors like policy, bureaucracy, relationship, technology and access to intellectual property."

I urge you to read Andrew's post.

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Those who follow me on Twitter (@danharris) know that I "talk" about more than just China on there, and that is one of the reasons why I have not and will not add my tweets directly to this blog. I would guess about 70% of my tweets do involve China, with another 20% or so dealing with international law, business and political issues. The remaining 10% likely will deal with non-China law, movies, food, and baseball.

Since Christmas, I have been tweeting a fair amount on my dissatisfaction regarding America's airport terror screening. I have called for us to institute a system that looks to discern not only weapons, but terrorists:

We must "Israelify" our own airports by screening for terrorists, not just for weapons. http://is.gd/5JeSk

How Israel screens for terrorists.And how WE must start doing the same if our air travel is ever to be safe http://is.gd/5ISrs

Will this guy be on your next flight? Quite possible he will http://is.gd/5IRPF Let's start screening for terrorists,not just weapons

US airlines need to switch to El Al type security and that includes profiling. http://is.gd/5CtkG

And then today it happened and I tweeted the following: YES!!! US starts screening by country. We have chosen common sense over getting killed!!!! http://is.gd/5Lj3y

I am not an expert on security nor an expert on terrorism. But every single day I deal with international businesspeople from Asia and I know they are not at all happy with the way things have been going with respect to US security screenings and I know that unhappiness is costing us billions of dollars we cannot afford and that makes me very unhappy, on many levels.

Starting Monday, the United States will be instituting the following changes in its airport/airplane security:

Citizens of Cuba, Iran, Sudan and Syria, countries that are considered “state sponsors of terrorism,” as well as those of “countries of interest” — including Afghanistan, Algeria, Lebanon, Libya, Iraq, Nigeria, Pakistan, Saudi Arabia, Somalia and Yemen — will face the special scrutiny, officials said.

Passengers holding passports from those nations, or taking flights that originated or passed through any of them, will be required to undergo full-body pat downs and will face extra scrutiny of their carry-on bags before they can board planes to the United States.

So why am I writing about this here? Because this directly and unequivocally impacts US business with China, and other Asian countries. Let me explain.

A couple years ago, a friend of mine, a very very prominent attorney from Korea, who is now actually a senator there and occasionally mentioned as a presidential candidate, came to Seattle to visit me. This person is (or at least was) very pro-US, as is his Korean political party, the Grand National Party. We had scheduled a 6:30 pm dinner, along with a Korean lawyer from his firm who was studying at the University of Washington law school, and the head of SK's Seattle office. This Korean lawyer (now senator) was due in at 5:15 pm and we figured he might be a few minutes late. A few minutes? He did not end up joining us until around 9:00 pm because he, his wife, and his two kids were all RANDOMLY pulled aside and questioned and searched for two hours. Two hours.

He was so mad, he could barely stand it and that night the four of us talked about how the United States had become fearful, crazy and had lost its way, and how actions such as these would eventually weaken our position in the global economy. This Korean lawyer insisted he had never been so humiliated in his life and that his vacation and that of his family had been ruined. He talked seriously about returning to Korea the very next day, and canceling the Disneyland portion of his trip. He swore he would never return to the United States and would tell others in Korea to do the same. He did take his family to Disneyland but he has yet to return to the United States.

About a year ago, a very similar (though not quite as bad) thing happened to a Chinese lawyer with whom my firm works. He too was furious and thought it ridiculous that the United States would single out a Chinese lawyer who has been coming and going to the United States for years. He told me that many of his Chinese clients were choosing Mexico and Canada for their American operations, largely because they could neither trust nor stomach the viccissitudes of US visas and immigration.

Talk to just about anyone from Asia who comes to the US frequently and I am sure you will hear similar stories.

As someone who very much wants the United States integrated into the World economy, both for selfish and selfless reasons, I have for years found the way we treat foreigners as counter-productive and nutty.

We have to play the odds and the odds are overwhelming that Korean lawyers are not terrorists. And guess what, the odds of a Madrassa student from Yemen being a terrorist are way way higher. Now before anyone jumps down my throat, let me make one thing perfectly clear: I am NOT saying that every Madrassa student from Yemen is a terrorist or even that a majority or even ten percent are. They are NOT. But, I am saying that the chances of that person being a terrorist are much higher than a Korean lawyer and it only makes sense that our security screening reflect that. And I do realize that as soon as we start screening for those who have been to Yemen, the terrorists will be sure to avoid Yemen and seek to co-opt Korean lawyers to carry their bombs for them. Those are risks with which I can live.

And I do understand the unfairness of extra screening for the person who travels to or comes from Yemen who likes the United States every bit as much as my Korean lawyer friend did and I feel for that person and wish it did not have to be this way. But, to put it bluntly, I favor our incurring that problem over our continuing to piss off a far larger (both in terms of numbers of people and economic impact) part of the world with the way we used to do things.

I have already sent emails to friends and clients in Asia explaining the new rules to them and how they can likely expect better treatment the next time they come to the United States. I have received a couple emails back, all positive. I have yet to hear from my Korean senator friend, but I expect a positive response from him also.

The bottom line is that the United States is sending out the message that those who want to do business with us will be welcome, while those we suspect are coming here to kill us will be thoroughly screened. I recognize that this change in our security screenings is far from perfect and I truly wish things could be otherwise because there is definitely unfairness involved. But I also see it as unfair to make everyone suffer needlessly and I think it is time we do something new. We have to.

And before anyone chastises me by comparing this new screening policy with how we treated the Japanese during WWII, let me say that I do see some similarities, but I also see enough differences to warrant it. My 12 year old daughter (good for her!) sees the new policy as racist, but I do not and if I did, I would be opposing it. The screening has nothing to do with race and everything to do with those countries from which terrorists inexorably tend to come.

Have at it people.

UPDATE: A leading travel blog, Joe Sharkey at Large, likes the new screenings and had this to say about it:

A couple of years ago, there would have been some howls of protest within the U.S. against any idea of “profiling” an entire nation, even one known to be friendly to terrorist organizations.

My guess is, not this time. In my opinion, this is a smart move by the TSA. It obviously took some fast, smart footwork in coordination with other nations.

I haven’t yet seen the complete list, but the following countries are on it: Pakistan, Saudi Arabia, Yemen, Iran, Sudan, Syria, Cuba, Afghanistan, Somalia, Libya, Lebanon, Algeria.

Expect indignant yowls from those countries.

I say, tough. Suck it up.

The Hot Air Blog seems to like the new rules also, though wonders why Venezuela did not make the list.

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Excellent podcast/article up on on Technomic Asia's Business Blog and Podcast, entitled, "Ding-dong … China calling: Direct Sales in China," on how direct sales just seem to correspond naturally to the concept of guanxi in China:

Historically, sales in China have been based on this guanxi … I get the sale, not necessarily because I have the best price or the best quality product, but because I have good guanxi with you. However, this is rapidly changing in China: while good guanxi is a necessary condition to successful sales, it is by no means a sufficient one — I now have to bring good products to the market at good prices. And for most industrial and consumer products companies, this is a good thing because it means that they can develop more “professional” distribution channels and get a broader sales footprint in China.

So let’s go back to the direct-sales model … this is a model that leverages (and even celebrates) guanxi-based sales. Sales most often are made to friends and family (or the friends and family of other friends) and, while these product suppliers are certainly concerned to bring good quality products to market, I would argue that they are relying even more on the strength of their sales teams’ guanxi in their local area. The strength of the direct-selling model is that it goes with the flow of traditional Chinese culture, not against it, by making each sale personal. And all you have to do is multiply the large number of people in China by their growing disposable income and you understand why executives at companies such as Mary Kay, Amway and Avon are having a hard time controlling their excessive drooling.

One of the toughest things about selling a consumer product in China is getting it into distribution. The post nicely sets out how the choice is often between the traditional and more modern models:

This is a topic too large for one blog post but suffice it to say that China is in the midst of a sea-change in its retail channels, moving from a “traditional” model — dominated by mom-and-pop stores and small specialty stores — to a “modern” model dominated by the larger hypermarkets, “Big Box” and grocery chains. If you look at China as a whole, a slight majority of consumer products are sold through traditional channels; however, the growth is in the modern channels and particularly in the so-called “hypermarkets”, chains such as Wal-Mart, Carrefour, Rt-Mart, etc.

Both methods have their "issues." Distribution through mom and pops can be, as one would imagine, difficult to institute, and sometimes even chaotic. But distribution through the hypermarkets is also definitely not without its own set of problems:

However, what everyone is realizing is that these modern chains, while good looking on the outside, are often very difficult to work with simply because they are so big and wield so much power. The cost of doing business with them — what consumer products companies call “trading terms” — are often quite high in China compared to the rest of the world so while consumer products companies are often happy with the volume that moves through modern channels, they are not as happy with the margins (and multinational consumer products companies are ALL about the margins!). These companies are often finding that the hypermarkets are not all that good at merchandising and marketing themselves so consumer products companies often feel that they end up paying a lot in terms of marketing fees and not getting all that much for it.

The thought is that direct sales may be the best way to get certain products into consumer hands and that direct sales may make better sense in China than elsewhere. Because my law firm just started working on a very sensitive direct sales matter, I am going to bite my tongue on the legal issues surrounding direct sales in China and merely state that many in China's government are not terribly comfortable yet with this method.

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Rich Kuslan over at Aziabizblog has an excellent post up on emails (usually allegedly from China) that seek to scam attorneys. The post is entitled, "How Not to Get Scammed by a Scam Email," and much of the post serves as an equally good lesson on how not to get scammed by a Chinese seller of product whom you are dealing with only over the internet.

Let me back track a bit and talk the attorney scam. These are getting incredibly common and they do sometimes work. The scammer seeks to hire a lawyer to collect money owed to the scammer or the scammer's company. Typically, the attorney quickly succeeds in recovering some or all of the money owed. The fake creditor pays its debt to the attorney by check, the attorney deposits the check into the law firm trust account, and then the trust account cuts a smaller check to the scammer, with the attorney keeping its contingency fee. The only problem is that a few weeks later, the bank comes back to the law firm to announce that the check sent to the law firm by the alleged debtor is a fake and the law firm now has to compensate the bank for the loss. I have read of this happening to at least two law firms and I myself have been contacted at least ten times by lawyers asking me if a particular email is a scam. Every single time it has been.

I have also been contacted at least twenty times by US companies asking me if my firm would be willing to go after what I have quickly determined to be a "Chinese" scam company to whom the US company has communicated with over the internet, sent money to, and then never received product. I put Chinese in quotes because many times there is no evidence even that the scammers are based in China. We even had a client who came close to sending around $8000 to an alleged investment bank in London, but ended up not doing so after we discovered it was a Blimpie's restaurant. We also represented a European client that sent nearly a million dollars to a "law firm" in Seattle that was actually just a warehouse. When we told the client this, based on our having determined there was no such law firm in Seattle, no such lawyer in Washington, and that our Googling of the address had revealed it was a warehouse and the photos of the building online confirmed this, our client still insisted we send someone to this address to make sure. We did and, of course, it was a warehouse.

So how can you tell? First off, let me say it is usually not that difficult, so long as you are willing to spend five minutes doing so.

Kuslan calls for applying the following three part test to the attorney email, but I would add that it is equally applicable to anyone you are dealing with strictly over the internet:

1) Review the content of the e-mail for suspect indicia; 2) Check the e-mail properties for clues as to origin; and, 3) Honestly look at your own motivation for wishing to believe in the purported validity of the e-mail received.

Kuslan's content review consists of the following:

The writer is purported to be an executive of a foreign company owed a substantial debt or, in a twist, and ex-spouse with outstanding custody payments. Generally, some kind of deal is offered that is profitable to the lawyer. Is this already sounding strange to you?

Does the e-mail spend paragraphs describing the company, its business and the legal issue involved? If so, your delete finger should begin to itch. In fact, this is the setup, designed to create a sense of trust in the reader. Warning bells should ring when a stranger tells another confidential information over an unsecure method of communication.

Is the legal issue proposed the collection of a debt? Virtually all scam e-mails I have read propose collection matters. In one common scam, the purported debtor -- in existence only for the scam and quite likely the “client” himself -- pays up with a forged bank check. After attorney wires client the proceeds, the bank check comes back, unpaid, to haunt the attorney, who is now on the hook for the sum he wired plus bank fees for bounced check. Client and Debtor vanish into the night. Instead of agreeing to take a percentage, try proposing to this client an hourly basis with a hefty upfront retainer wired in cash. Better yet, don’t. You won't hear back.

Does the writer compliment you? Here is an actual example: “After a careful research, we have been able to establish that delinquents or past due accounts are settled when reputable and aggressive firm or professional(s) represents an organization in collection of debts or possible litigation that may arise thereof.” …which is why we’ve chosen you! Your vanity meter should read off the scale. A compliment from a stranger may be genuine, but may also lay the groundwork for very subtle scheming. Redouble your suspicions!

Is there extensive use of four and five syllable words, such as actualization, implementation, delinquency, and sentences that run on for 50 words or more? This is an attempt to appeal to those who inhabit the jungle of legal jargon. Business executives hardly write at all and when they do, they do so in bullet points of no more than 10 words of two syllables each. Your delete finger should now be hovering over the delete button.

If the writer offers a substantial retainer, one can virtually disregard the rest of the e-mail immediately. Generally, clients do not wish to pay all. The delete finger should feel heavy now…
Are you addressed by name? If you are addressed only by "Counsel," or not at all, the e-mail is intended for a mass audience. Hit the delete button.

Does the e-mail purport to come from China? China is hot and ripe for scam-ploitation. Chinese rarely, if ever, reach out to people personally unknown, untouched and unseen for representation. Delete.

Is the claim made that the writer came across the attorney's name in a directory in which the attorney isn't listed or doesn’t exist? Delete.

Does the writer claim to have contacted the attorney once before, when there hasn't been prior contact? Delete.

In a lengthy e-mail, are there significant errors of grammar and/or spelling? Delete

To which I would add the following questions I ask myself. Does the writer's English sound like someone from China, or does it sound like someone trying to sound like they are from China? Does the email address match the domain name? Oftentimes, the scammer will claim to work for a completely legitimate Chinese company and direct you to the website of that company. Well and good, but then why is the scammer's email address a yahoo account? Legitimate Chinese company or not, now is the time to run a Google search on the email address and the company name. I estimate that at least half the time when I have run such a search after we are contacted by someone who has been scammed, there are people on the internet who have already written about the scam.

Kuslan next calls for reviewing the email properties. Why if the company is in Shanghai, does the email come from Singapore?

Kuslan then calls for putting the address you are given into Google maps to see what comes up. He talks about once having discovered the London address of a fake company to have been a falafel restaurant. See my Blimpies and warehouse example above. I also once had a case involving many investors who invested millions in "Chinese" real estate by sending money to a company whose address was a vacant lot in a Chicago suburb (the funds were wired or sent to a PO Box). Kuslan then calls for you to look at the website's whois information. Absolutely. I did this once for a client and saw that the website of the company with whom he was thinking of investing was run by someone who was still operating under a Federal Consent Decree that required him to pay back $20 million he had stolen in an investment scam

Kuslan then discusses "your own motivations." This is actually the most difficult area. My law firm has a Russian lawyer and a Russian paralegal and we do a lot of Russian work. You would be surprised how often we are called by wealthy sixty year old farmers from the Midwest who are asking us to check out the legitimacy of their incredibly beautiful 22 year old girlfriends who will soon be coming to remote Illinois to marry them. We then point out the following regarding their betrothed:

1. As far as we know, the airport authorities in Moscow have never required someone to deposit $8543 with them as a guarantee that they will return to Russia. Heck, the airport authorities do not even care if someone returns to Russia.

2. The address of their girlfriend is the same address as that used in 6 other girlfriend scams (as determined by an internet search, usually in English).

3. The life described by the girlfriend just does not make any sense at all.

4. What we do not ask is why they would think an incredibly beautiful 22 year old woman in Moscow would want to move to remote Illinois to marry a 60 year old man she has never met.

But here's the strange part. Way too often, the client gets mad at us for what we have found and disputes our findings and says that Olga is different or, if she used to be that way, she clearly is not any more. At which point, we suggest that the client have us retain someone in Russia to confirm our findings, which offer the client nearly always declines. We have done maybe ten of these and I would say that in four of them the client has told us that he will be moving forward anyway. I have emailed some of those people later to see how things went and never heard back from a one of them. So I do not know if they were telling us they were going to go forward just to save face with us, or whether they really did go forward, but it is amazing how cognitive dissonance will cause people to believe what they want to believe and that is exactly what these scammers are counting on.

I am glad Kuslan did his post now because December definitely seems like a prime month for scams and the last time I wrote on this, in a post, entitled, "China: Ipods For $50. PS3 For $75. Wii For $100. PS3s and Xboxes For $150. Who You Kidding?" it was December also.

What indicia do you use to ferret out internet scams?

Please go here and vote for China Law Blog.

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A couple weeks ago, I got what for my law firm is a fairly typical phone call. This was from someone in a second tier city who had been operating a business there for seven years, all done on a business visa without having registered the business and without having secured a long term Z (employee) visa. Seems the local authorities had sent him packing and he essentially had to turn over his fairly profitable business to his five employees. He was calling us to see if there was anything we could do. My response was something along the lines of the following:

Let me get this straight. You have been operating this business in China for seven years, yet you never registered it and you never paid any taxes on it. You built it up to five employees, none of whom are legal. Do you think one of these employees might have been the one to turn you in? In any event, what is it you think we can help you with?

He very wisely chose not to hire us. We get calls like this just about every month and I have written about many of them. This post is a little different, based on something this guy told me at the end of the call. He said something along the lines of the following, though I have to admit by that point I was thinking more about getting off to my lunch appointment so I didn't question him any further:

The local official told me that they are going after everyone who has been in China for more than five years without a Z visa (employment visas) and making sure they are here completely legally and, if they are not, they are making them leave the country immediately.

I thought absolutely nothing of this until today when I read a James Fallows post that talked of something very similar happening to veteran English teachers in China. Fallows' post contained the following quote from a "young Westerner who has taught in China but is now in Europe as a graduate student:"

I am just hearing from two of my expat friends who have been teaching in Chengdu for 3 and 4 years each, that a new visa regulation is being enforced, which will force all but a very select group of people to leave the country for at least one year after having been there for 5 years more or less continuously. Whats that all about? Great teachers who like their jobs and would be happy to stay are forced to leave the country for a year? I don't want to know how many of them will find a job some place else in that year off and never come back.

Only a few days ago, we did a post on how China's attitude towards foreign investment was becoming more rigid and less welcoming as the government becomes more convinced that China's economy will be fine. So certainly this possible new call to crackdown on China expat veterans without proper visas would fit in perfectly with that.

I know people who have been living in China for more than ten years on business or tourist visas. Are their days numbered? What are you hearing/seeing out there?

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Rich Brubaker over at All Roads Lead to China did a post recently, entitled, "5 Characteristics of Successful Companies in China." The post sets out the following five things successful companies do in China:

1. Define their China market. The successful company spends time figuring out what its market will be in China, both geographically and socioeconomically.

2. Develop a "plan of attack" in-house. According to Rich, the first layer of the plan will "focus on company structure (onshore vs. offshore), operations (domestic vs. export), networks (inside sales vs. agents), and commitment (investment vs. outsource), and will create a path for executives to take as the firms begins to grow."

3. Bring in the right people.

4. Leverage successful pilot programs. Successful companies do not roll out a six city platform from day one.

5. Not be afraid to start over. "There are no deals of the century and I have never heard of a case where a souring JV [Joint Venture] agreement was made better by giving the partner more money. China is a place where fortunes are lost far more often than they are won, and for firms who hang on rather than execute a new strategy, lost fortunes are far more likely."

One of the things that I love about being a lawyer is that it gives me a birds eye view of a large number of companies and their operations. From my perspective, everything Rich says above is absolutely true, but in some respects, it is even less complicated than he makes it. Admitting hindsight is 20-20, I "feel" as though I am virtually always correct in predicting which of our clients will succeed in China and which will not and those who succeed typically can be described as knowing their business and wanting to do things right in China at the right price from the very beginning, while recognizing that China is not Kansas. Our clients who fail to succeed in China go into China planning to cut corners from day one and, almost invariably, they hire and overpay an unqualified local (see Rich's #4 above) to run their China business with too little monitoring.

What do you think?

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My law firm represents a fairly substantial number of companies that sell product worldwide over the internet. This stems from many years ago when we represented about forty such companies in an international lawsuit against one of the largest third party credit card processing companies. This work has given us considerable insight into the legal issues these companies often face and since I just did up a client memorandum analyzing the key legal issues this particular company will be facing as it ramps up its international business over the internet, I figured I might as well pull the highlights and set them out right here. The following is a list of the basic law related questions we typically grapple with when assisting companies that are starting to sell internationally over the internet.

1. What type of legal entity(ies) are you going to want? Where will you want them? These two questions must be answered in tandem.

2. From what countries will you accept purchases? Are you going to accept purchases from every country or are you going to limit yourself? Selling into multiple jurisdictions means you are going to be subject to multiple tax regimes. Who is going to figure out your taxes in each country? Are you going to use a third-party merchant of record to do this for you?

3. Selling into multiple jurisdictions means you are going to be subject to the privacy and consumer protection laws of multiple jurisdictions. We need to know the jurisdictions in which you will be selling to know what laws will apply to your company. Many countries have very strict shipping date and return requirements.

4. Is your product legal in all of the countries to which you intend to sell it? Is it legal for foreign companies to sell that particular product into all of the countries in which you intend to sell it? Is it legal in your home country to export your products into all of the various countries in which you intend to sell?

5. It would be nice if we could set you up with one law applying everywhere in the world, but most countries do not allow this when it comes to the sale of consumer goods. So we are going to have to discuss where you will be focusing your efforts.

6. Are you going to sell your products in local currencies or in just the major ones or in just dollars? Are you aware that some countries forbid its citizens from using foreign currencies?

7. Are the electronic contracts you propose using enforceable in all of the countries in which you will be selling?

8. Let's talk about dispute resolution. Arbitration? Where? Will all of the countries in which you are selling enforce this? Many will not enforce an online provision requiring their consumers to arbitrate in a foreign country.

Not that easy, is it?

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Not so long ago, I spoke at a China round-table where someone asked me what sort of US businesses Chinese companies are interested in buying. I mentioned how Chinese companies typically buy US companies for one of two reasons: expertise or brand name. Later that night I thought about how Chinese companies should be buying US companies for their brand names, but they really are not doing so in any large numbers.

Newsweek Magazine recently did an interesting article (h/t All Roads) seeking to explain China's lack of brand names. The article is entitled, "Generic Giants:Why China Can't Create Brands" and it is subtitled, "China is the world's factory, but its top firms remain oddly anonymous." It posits cutthroat domestic competition and lack of IP protection as the cause:

The simplest explanation for China's failure to build global brands is cutthroat domestic competition. In most product categories, hundreds or thousands of firms compete for domestic market share, leaving profit margins razor thin. China has 150 firms licensed to make cars and other motorized vehicles, and more than 500 bicycle manufacturers. And because foreign brands have taken much of the market's high end, most companies are forced to compete on cost, leaving little room for investment in R&D or marketing. China's weak protection for intellectual-property rights—the patents and ideas that are the solid core of any brand—makes it risky for companies to invest heavily in innovations that could make them famous worldwide but could easily be stolen by rivals at home. Finally, the recent string of product recalls—including poisonous pet food and faulty tires—has left consumers wary of made-in-China goods.

I disagree.

First off, China's intellectual property protection for most companies is just not that bad. Yes it is horrible for companies requiring copyright protection, like software companies that sell their product on CDs and movie companies that sell their product on DVDs and publishing companies whose products are books. It is also horrible for pharmaceutical companies whose products can be easily duplicated, at least in appearance. And yes, China's patent protections are not nearly as rigorous as those in the United States, for instance. But, China's trademark protections are actually pretty good and there are a whole slew of foreign consumer and industrial companies making money head over fist in China, while doing a great job of building and protecting their brand name. KFC, Nike, Audi, Shangri-La, and Emerson Electric immediately spring to mind and there are hundreds of others, both big and small. China's IP protection may explain the lack of international brands in some product categories, but it does not even begin to explain the lack of Chinese brand power across the board.

The same is true of the alleged cutthroat competition. Yes, China has cutthroat competition (what country doesn't?) and yes price is central to the Chinese consumer. But many foreign and domestic brands are thriving. (Haier and Huiyuan, for example). No, that cannot be the explanation.

My explanation is more elemental. Most Chinese companies just do not value brands as highly as Western companies. At least not yet. For the most part, they do not understand the value in spending massive amounts of money to create positive brand name recognition in places like the United States.

I love telling a story of a matter in which I was called in to represent a US home goods company that was going to be entering into a joint venture with a Chinese company. The US company was based in the Midwest of the United States, where it had a really strong name. It had originally made its own product, but was now buying well over half of its products from a Chinese company, with whom it had a very good relationship. The plan was for the US company to help the Chinese company branch out into manufacturing more product and for the two companies to work together in expanding the products' footprint in the United States. The Chinese company would be expanding its product line while moving into the US wholesale and retail market and the US company would be getting access to Chinese product that would allow it to expand much more cheaply than if it were to make the product itself or even purchase it from some other Chinese company in a straight outsourcing deal.

The plan was to form a new US company, jointly owned by the Chinese and the American company and to market these home goods. The deal quickly fell apart, however, when the Chinese company insisted it wanted the new products to bear its company brand name. My client's insistence that using an unpronounceable Chinese name would be disastrous only seemed to cause the Chinese company to trust my client even less. These two companies still do business together, but their plans for worldwide domination have been put on hold. I initially thought their model would be duplicated again and again between US and Chinese companies, but that too has not been the case and I attribute much of that to Chinese companies simply not valuing brand names highly enough.

Not all that long ago, another Chinese company retained us to try to purchase a US trademark out of bankruptcy. The Chinese company made the product for the bankrupt US company and this product had an incredibly strong name within its relatively small niche. The trademark should have been worth more to the Chinese company that to anyone else. Eventually, the trademark went up for auction in bankruptcy and nobody could bid more than the amount it had deposited into escrow or had in cashier's checks. Our Chinese client kept asking us what we thought the trademark was worth and our answer was that we did not know that particular market and they should either retain an expert appraiser or just give us the absolute maximum amount of money they would be willing to pay for the trademark. They chose the later strategy and we went to the auction to bid. Well, within about a minute, we were out of funds sufficient to keep bidding and three bidders zoomed past us, all bidding at least three times what my client had bid. Even though this trademark should have been worth way more to our client than to anyone else, it valued it at well under the price of three other bidders.

What do you think?

For more on the topic of China branding, check out Aimee Barnes' very interesting post entitled, "Chinese Brands in America: A Conversation with Scott Markman, President of The Monogram Group." Also check out "Industrial Designers Tasked With Creating More ‘China Brands,'" which shows that the Chinese government recognizes China needs to improve on its branding and that it is trying to do something about it.

UPDATE: China Esquire did a post on this, entitled, "Lack of brand innovation in China?"

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Global Post is running a five part series on China's high-tech sweat shops (h/t Danwei). Part I is entitled Silicon Sweatshops and from there you will find the link to the other four parts. For those who deal with China every day (or even if you have read the excellent book, The China Price) the main themes of the series will come as no surprise. The themes are that the conditions for and the treatment of workers at many (most/all?) of the factories that manufacture for the leading high tech companies (Apple, Nokia, Microsoft, Dell, etc.) are not up to the standards these companies seem to seek.

The other, somewhat more universal theme is how difficult it is to monitor and control the Chinese companies with whom you work. And whatever the series says about this in terms of labor conditions holds with at least equal force with respect to product quality control.

This is an excellent series for understanding what goes on in China and how difficult it is to really know what is really going on inside the factories you are using. I recommend it.

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Yesterday I did a post on Apple's alleged iPhone failure in China, entitled, "The iPhone In China: Ain't No Mountain High Enough." I say "alleged," because though iPhone sales have not soared in China, I remain confident Apple will do just fine there.

After I ran that post, I received a couple emails with "inside knowledge" of how Apple is messing up in China, largely because it is trying to do things "its way" in China, rather than the "Chinese way." I also received a fairly large number of comments saying pretty much the same thing, all of which I accidentally deleted (sorry!).

And though those who emailed and commented are probably right to say that Apple has so far not done as well as expected in China, I, even as a shareholder, say (in the largest font I can muster), SO WHAT.

Of course this is true.

I began my legal career with a massive law firm representing massive companies and my present firm has a few Fortune 500 companies as clients. I have done enough work with large companies to know that they are generally slow to change. They rightfully view their large size as a sign of their success and they are rightfully (usually) slow in turning away from what has worked for them in the past.

This means when they go overseas, they usually start out doing pretty much what has enabled them to succeed elsewhere. And then they adjust. I have both worked with and seen big companies go into China because they believe it important they go into China, figuring they will figure out China as they go.

I do not know if that is what Apple is doing right now in China, but it certainly would not surprise me a bit.

Small and medium sized companies (SMEs) tend to go overseas very differently. They tend to go overseas either out of necessity or because they want to make more money and they want to do it fast. Lacking massive reserves, they are not well equipped to handle sustained losses and they tend to do everything they can to avoid it. I have had companies tell me that if they are not showing a profit in China within a year, they will probably pull out. I have had other companies tell me that they can only lose x dollars in China and if they are not profitable by that point, they are out. Their margin for error is smaller and because of this, they tend to be more open to doing things a new way.

Do you agree? What are you seeing out there? Those whose comments I accidentally deleted, please comment again.

UPDATE: A reader sent me a link to this post, entitled, "An article wherein it is explained why everything written so far about Apple’s iPhone launch in China is beside the point," positing that Apple knows exactly what it is doing in China and its iPhone sales through China Unicom are a minuscule portion of that.

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At least once a week, I will sarcastically say, "I'm from the government and I'm are here to help you." I love blaming the government for just about everything. But even I have my limits.

In its post, "The iPhone debate: what can Apple do?" China Herald has a nascent debate going on regarding Apple's China foray. On one side, Shaun Rein, who believes Apple's less than stellar start in China is its own fault and believes it needs to do the following to succeed in China:

1. Listen to local consumers
2. Pick China Mobile as a partner rather than China Unicom
3. Treat China as a part of the global market, not as a separate one

On the other side sits PTaylor, who blames the Chinese government for Apple's alleged woes.

To which Rein has this to say:

I always like it when people say it is all the government's fault and there is nothing companies can do to get around it. That is sometimes true but smart companies will evolve business plans for local conditions to factor in local regulations and market conditions. Apple did not do that well enough.

When people say that, they just don't know enough about how to get things done in China or, as is often the case, local execs do know what to do but they can't get buy-i from the home office.

For instance, eBay failed in China more because of meddling from the home office than from folks in China -- they were actually quite good but just ignored.

So, Ptaylor, my advice -- learn how to deal with obstacles rather than just
complain about them.

Who's right?

Well, of course, they both are to an extent, but I overwhelmingly side with Shaun on this one, despite being an Apple shareholder and massive fan of the company.

But let me start out by stating as clearly as possible that I do NOT think Apple is failing in China. I do not know exactly how well or how poorly it is actually doing there, but the reason I am certain it is not failing there is because it has not been there nearly long enough for anyone to say it has failed, or even that it is failing. Apple is a big company and I am quite certain that it plans on being in China for the long haul and until the long haul is over, one cannot ascribe failure to it. Apple is still in the "getting its feet" wet stage in China and it is not fair to pass anything close to final judgment on it until it has gotten well past this stage. I again urge everyone to read the book, Chocolate Fortunes, to better understand how it can take a long time and a lot of money for a big company to establish a consumer foothold in China. Let's just say Apple's conduct in China has not caused me to even think about selling even one share of my stock.

But I side with Shaun nonetheless because it is not right to blame the government for Apple's alleged shortcomings in China because the responsibility rests with Apple to know of government issues before entering into the China marketing and to have a plan for dealing with them. If Apple did not know of the governmental issues it would face and did not have a plan in place for dealing with them, and if those issues are going to prevent Apple from succeeding in China, long term, then Apple should not have gone into China. My guess is that Apple did know of most of the major hurdles the government would be throwing up against it, does have a plan for dealing with them, and does (and almost certainly will) know how to succeed in China despite them.

Again, my response here is based largely on my own experience with assisting other foreign companies in going into China. In the typical situation, the smart company knows and plans for most (though certainly not all) government obstacles to its doing business in China. The smart company also knows whether those government obstacles are likely to fall disproportionately on them or whether they are going to be spread around fairly evenly among both them and their competitors.

It is the very rare situation where I would be willing to blame the government for my clients' failing in China. In fact, it is the very rare situation where any of my clients have even sought to blame the government for their own failures in China and even rarer still where I would agree with them.

We had one client who set up a factory in China only to discover that it would need environmental approval to import one of the key component for its product. This client made a mistake in not checking this out first, but it did not blame the government for this; it merely went through the somewhat arduous process of getting that component approved.

We had one client who was fairly hard hit by a change in China's tax laws that caused it to make sense to restructure its business entities a bit. This client did the restructuring and talked often of how its having done this so quickly would actually give it an edge over some of its slower moving competitors.

We have had a million clients who have had issues with the government regarding countless things (zoning, labor issues, tax issues, etc.), but virtually all of them worked these things out and virtually all of them acted as though these sorts of things are just par for the course in doing business anywhere.

We have had clients who have invested money into China and/or started businesses there that were later declared illegal for foreigners. These businesses had to close down and in these cases, it would not be fair to blame my clients entirely for their situation. But is this really any different from the risk any business faces of its business being declared illegal or becoming obsolete. When Seattle banned all smoking within a business, a couple of cigar bars had to shut their doors. As people move to the internet, newspapers are shutting down. Though I certainly do not entirely blame the impacted businesses for their plight, I do think that any business runs an existential risk and that is life.

The truly nimble business will nearly always survive, no matter what the external conditions.

Blame the business or blame the government? What do you think?

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Whenever I get together with tech people who have been doing business with China for a few months, they seem to throw out expressions about China like "next Silicon Valley" or "going to be even bigger than Silicon Valley." But whenever I get together with tech people who have been in China for years, they never say such things; they talk about how much China needs to change if it is ever going to have its own Silicon Valley.

So which is it? Why or why not?

Please weigh in.

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China Vortex did an intriguing post a couple of months ago on why China's Tier 2 cities will always be second tier (and I just found this completed but unpublished post today). The post is entitled, "China’s Biggest Challenge for Developing the West," and it essentially argues that the Tier 1 cities, essentially Shanghai and Beijing, draw the best human talent, will continue to draw the best human talent, and thus will remain as the only true Tier 1 cities. I seventy-five percent agree and twenty-five percent disagree.

CV's post starts out talking about how Beijing has done a lot to encourage development in China’s west, particularly Sichuan province. It goes on to say that from "a business and consumers’ point of view, the region holds tremendous promise," but this is not enough and it remains far behind China's east coast.

CV sees human talent holding Sichuan back:

In two words, it’s human talent. “Interesting places attract interesting people” is one of my favorite mantras. When I go to a place, I like to find interesting people, regardless of their profession, and listen to what they have to say. I look for different angles and insights from individuals which I cannot easily find elsewhere. Most of the time, I think of these people as very smart generalists.

My experience is that Shanghai and Beijing is full of interesting intelligent and very talented people, which is why I’m attracted to these two cities in China. They are evolving rapidly, which means that these cities have not yet congealed around certain professions in the way American or European cities, or even Hong Kong, have. They are full of surprises, and most of the time, these are pleasant surprises.

My theory is that these two cities draw the best Chinese talent away from the rest of China, leaving the other cities to struggle with the people they can convince to stay there, who usually are not as smart and talented. So, when Chinese or expats talk about Tier 1 cities (Beijing and Shanghai), they could just as easily be talking about quality human talent.

CV goes on to say that even though Sichuan has consumers and can "have good manufacturing up to the middle of the value-added chain," it "cannot catch up with Beijing and Shanghai at the top of the value chain." CV is of the view that unless places like Sichuan can "figure out a way to keep the best human talent in Chongqing, the wealth and knowledge gap between the western part of China and the Tier 1 cities will continue to widen. Instead of climbing to the top, they will peak out around the middle and won’t make it into the ranks of world-class cities." It takes more than buildings to make a city world class and only Beijing and Shanghai have world-class potential:

What the Chinese government, and most other governments, fail to understand is that it is not buildings, boulevards and museums which make cities world-class, it is very literally human talent. In spite of China’s huge population, I have only seen two cities, Beijing and Shanghai, which have the potential to make them world-class.

Lest the 1.2+ billion people in China living outside Shanghai and Beijing take offence at CV's Obamaesque take on their cities, CV makes clear that most cities in the United States are not worth a world class glance either: While some Chinese may take this as a slight, it’s worth remembering that the US, which has only 1/4 the population of China, but has a longer history as an economic superpower, has only three cities which can be classified as “Tier One”: New York, Los Angeles and Chicago.

CV makes some good points, makes some bad points, and is so vague at times as to be unclear. His good point is that right now Shanghai and Beijing are the only two cities in China that have the "certain je ne sais quoi" necessary to be considered either world-class now or with the potential to become world class later. Of course, what is meant by world-class? How is that defined? And once defined, is it necessary for a city to be world-class to achieve great success and wealth? I do not think so.

I do not know what constitutes world-class (one guy's world class is another guy's ....) so I will not even try on that one. But, I will note that the cities in the United States that have really thrived over the last ten to twenty years and will almost certainly continue to thrive over the next ten to twenty years are not the three "world class cities" CV lists above. Yes, Shanghai and Beijing are China's two world class cities right now, but right now is not necessarily permanent.

As Richard Florida would say, Who's your China city?

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Transparency International just came out with its 2009 Corruption Perceptions Index. I love these things and I think this one, in particular, tends to be quite accurate. Now I am not saying any of these surveys are completely accurate, because there really is no one great measuring stick for corruption and, even if there were, there is no way to assure accuracy within that measure. What transparency international does is to meld together various existing surveys on corruption and compile those into one meta-list. This year, TI used 13 independent surveys (note that many of the surveys do not cover all of countries) to compile its list of the perceived level of public-sector corruption in each country.

As it typically does in these rankings, China placed in the high-middle.

So without further ado, here are some of the countries that made the list (somewhat randomly selected), from the least corrupt to the most corrupt, with my own comments added to some of them.

1.New Zealand
2.Denmark
3.Singapore
3.Sweden
5.Switzerland
6.Finland
7.Netherlands
8.Australia
8.Canada
8.Iceland
11.Norway
12.Hong Kong
12.Luxembourg
14.Germany
14.Ireland
16.Austria
17.Japan
17.United Kingdom
19.United States
20.Barbados

I have had many dealings with many of the countries in the top ten and none of those countries seemed the least bit corrupt to me. I suspect (though I do not know) one of the reasons the United States has performed relatively poorly in this ranking is because so many of its state court judges are elected and that is just not a good thing when it comes to perceptions of corruption. I know many lawyers in many states who will do whatever they can (within the law) to get their cases into Federal, not state, court.

25. Chile
25. Uruguay
I list these two for two reasons. One, though I knew Chile was doing quite well with respect to corruption, I had no idea it was doing this well. I have had very little dealings with Uruguay (I have represented a couple of Uruguayan companies but that was it) and I had no idea it would rank so high.

27. Estonia
27. Slovenia
I list these two because they are the best performers from Eastern Europe.

37.Botswana This is the best performer from Africa. By far.

37. Taiwan
39. Korea (South)
43. Macau
56. Malaysia
I list these countries because they are in Asia and they are all pretty relevant to China. I am not surprised by the rankings of Taiwan and South Korea. They seem right to me. I have been doing business in both Taiwan and South Korea for a long long time and during that time, I have seen both countries become better and better in terms of their transparency. Just by way of example, I used to go out to dinner with the Judges and attorneys in Korea when I would go there, but that ceased a few years ago as I understand that practice has become frowned upon.

61. Turkey I list Turkey because I lived there and because we had to pay around $50 to get our phones installed within two weeks, rather than within ten years and because.....

63. Italy I have had very few dealings with Italy, but I have a lawyer-friend from there and he is always telling me horror stories about its court system.

75. Brazil I list Brazil because it is the "B" in BRIC.

79. China This ranking seems about right to me. Pretty much in the high-middle of the pack. China is amazingly not corrupt when it comes to the various aspects of getting a foreign company established there. If I were to rank China as it applies to just foreign companies, I would rank it considerably higher.

84. India I list India because it is the "I" in BRIC.

84. Thailand This ranking seems about right.

89. Mexico
106. Argentina I list Argentina because it is a pretty important Latin American country and it ranks pretty low.

111. Indonesia
120. Vietnam
139. Philippines
These Asian countries perform quite poorly. Vietnam is much like China, however, in that it has worked very hard to make things better for foreign companies.

146. Russia Russia is the "R" in BRIC. My firm's personnel have been doing considerable business in Russia since before the fall of communism there and I have not detected any real improvement in corruption there during that time.

158. Cambodia
158. Laos

162. Venezuela I am sure having Hugo Chavez as President does not help.

179. Afghanistan
180. Somalia

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If your company has done anything in China (even just sending someone there to meet with a supplier), you have probably received a somewhat official email offering, at a steep price, to "help" you stop someone from taking your domain name.

DO NOT RESPOND.

Near as I can tell, every single one of these that I have seen (and I have seen at least fifty of them because clients are always sending them to me) are a scam.

You also may get emails from someone claiming to have already registered some iteration of your company name (or one of your product names) and seeking to sell it to you. For example, if your company is called "xyz" and you already own the xyz.com domain name, your email may come from someone who has purchased and now wants to sell you the xyz.cn domain.

STRATFOR just did a "China Security Memo" on how it expects these emails to increase onceICANN starts accepting applications for domain names with non-Latin characters (i.e., Chinese):

This practice could get a further boost in China following the announcement in late October by the Internet Corporation for Assigned Names and Numbers (ICANN) that domain names do not have to have Latin characters. No doubt Chinese domain peddlers are already preparing to register the established brand names of Chinese and foreign companies in Chinese characters (according to media reports, ICANN will start accepting applications for non-Latin domain names Nov. 16).

In other words, you should expect to receive emails from people offering to protect you from "others" who are seeking to register a Chinese translation or variant of your name or product or someone seeking to sell you an already registered translation or variant. Or as STRATFOR puts it:

What to do?

First off, as soon as possible, register whatever domains necessary to protect yourself. Determine now what domain names you care about so you do not need to make this determination with a gun to your head. Right now is the time to think about Chinese character domain names.

Secondly, if someone has taken a domain name that is important to you and they are now offering to sell it to you, you essentially have three choices. One, let the domain name go. Two, buy it from the company that "took" it from you. And, three, pursue legal action against the company that took it from you.

Preemption by registration is your best and least expensive protection.

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I do not have any first hand knowledge to support the title. I am basing it on a post I just read (and on related past experience) entitled, "Private Equity in China: Blackstone & Others May Grab the Money But Miss the Best Opportunities" from the China Private Equity blog. This blog is written by Peter Fuhrman, "Chairman of China First Capital, Ltd., a boutique investment bank based in China and the USA. China First Capital works exclusively with China’s most innovative and high-growth private Small & Medium Enterprises (”SME”) companies, providing strategic financial advice and pre-IPO capital-raising."

Peter's post talks about how some of the large US private equity (PE) firms are creating reniminbi funds for China investment:

Blackstone, the giant American PE firm, is now trying to raise its first renminbi fund. Its stated goal is to provide growth capital for China’s fast-growing companies. Blackstone isn’t the only international private equity firm seeking to raise renminbi to invest in China. In fact, many of the world’s largest private equity firms, including those already investing in China using dollars, are looking to tap domestic Chinese sources for investment capital.

Dollar-based investors are increasingly at a serious disadvantage in China’s private equity industry: investing is more difficult, often impossible, and deals take longer to close than competing investors with access to renminbi.

Blackstone enjoys a big leg up in China over other international private equity firms looking to raise renminbi. Its largest institutional shareholder is China’s sovereign wealth fund, CIC. Knowing how to get Chinese investors to open their wallets is a skill both highly rare and highly advantageous in today’s global private equity industry.

Peter sees US private equity going to renminbi funds because some of China's best investment opportunities are purely domestic and because China is where the money is right now.

Despite their "very long track records of successful deal making," Peter is skeptical of big foreign PE being able to do China well:

The international PE firms have more experience picking companies and exiting from them with fat gains. They also do a good job, in general, of keeping their investors informed about what they’re doing, and acting as prudent fiduciaries.

So far so good. But, there’s one enormous problem here, one that Blackstone and others presumably don’t like talking about to prospective Chinese investors. Their main way of making money in the past is now both broken, and wholly unsuited to China. They’re trying to sell a beautiful left-hand drive Rolls-Royce to people who drive on the right.

The basic US PE model is just not well suited for right now in China:

Blackstone, Carlyle, KKR, Cerberus and most of the other largest global private equity companies grew large, rich and powerful by buying controlling stakes in companies, using mainly money borrowed from banks. They then would improve the operating performance over several years, and make their real money by either selling the company in an M&A deal or listing it on the stock market.

* * * *

It can be a great way to make money, as long as banks are happy to lend. They no longer are. As a result, these kinds of private equity deals – which really ought to be called by their original name of “leveraged buyouts”, have all but vanished from the financial landscape. It was always a rickety structure, reliant as much on access to cheap bank debt as on a talent for spotting great, undervalued businesses. If proof were needed, just look at Cerberus’s disastrous takeover of Chrysler last year, which will result in likely losses for Cerberus of over $5 billion.

* * * *

On their backs at home, it’s no wonder Blackstone, Carlyle, KKR are looking to expand in China, All have a presence in China, having invested in some larger deals involving mainly State-Owned Enterprises. But, to really flourish in China, these PE firms will need to hone a different set of skills: choosing solid companies, investing their own capital for a minority position, and then waiting patiently for an exit.

There’s no legal way to use the formula that worked so well for so long in the US. In China, highly-leveraged transactions are prohibited. PE firms also, in most cases, can’t buy a controlling stake in a business. That runs afoul of strict takeover rules in China.

These PE funds will raise the money, but end up either being able to do the big deals they want, or will have to settle for much smaller ones:

I have little doubt Blackstone, KKR, Carlyle can all succeed doing these smaller, unleveraged deals in China. After all, they employ some of the smartest people on the planet. But, these firms all still have a serious preference for doing larger deals, investing at least $50mn. This is also true in China.

There are few good deals on this scale around. Very few private companies have the level of annual profits (at least $15mn) to absorb that amount of capital for a minority stake. Private companies that large have likely already had an IPO or are well along in the planning process. As for large SOEs, the good ones are mostly already public, and those that remain are often sick beyond the point of cure. In these cases, private equity investors find it tough to push through an effective restructuring plan because they don’t control a majority on the board seats.

My guess is that Peter will likely be right in the short term, but in the long term, I see the big PE firms thriving in China. I have always been fascinated with the difference in how massively well funded firms go into a foreign country as compared to how small and medium sized businesses go into a country. Simplifying considerably, I think the following generally holds true:

The massive firms go into a foreign country to go into a foreign country and to learn about the foreign country and to eventually start making massive profits in that foreign country. In other words, the goal is not usually to profit right away, but to get set up so as to build a strong work force and so as to learn and to adjust so that long run big profits can be realized. Mistakes abound, but ample funding makes up for them. Getting in fast and building up a strong presence trumps focusing on expenses.

Small and medium sized companies typically cannot afford mistakes, particularly big ones. They are expanding into a foreign country not to build up a presence and from there figure out how to make money, but to make money as fast as possible. Sometimes the goal is to make money from day one. Other times the plan is to be profitable within a year. Rarely is it longer than that.

I compared big and small companies because from what I have seen of the big private equity firms going into China is that they are doing so somewhat along the standard big firm model. Though their goal is no doubt to make big profits as quickly as possible, I would bet that they are admitting to themselves that they would be satisfied with less than that so long as they position themselves well for the future. A few months ago, someone I know at a leading PE fund confessed to me that he was "worried" about how slow his company was moving in terms of China and he feared that if it did not step it up, it would be getting in too late to compete. He said that they were focusing too much on building up their expertise, rather than on "just going in" and building up expertise "on the fly." Of course, one conversation with one person at one PE firm is not a measure of the industry as a whole, but I do think that in combination with everything else, it is not a bad measure.

The top PE firms are going into China in a big way and many of them will eventually get strong bearings there.

What do you think?

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A reader just sent me an email link to a fairly old (March, 2009) Business Week article pointing out how difficult Chinese cities are in which to work and live. The article is fascinating, but it definitely left me wondering about its methodology.

Its' slide show ranks the cities as follows, from the most difficult to the 22nd most difficult:

1. Lagos, Nigeria
2. Jakarta, Indonesia
3. Riyadh, Saudi Arabia
4. Almaty, Kazakhstan
5. Mumbai, India
6. New Delhi, India
7. Nairobi, Kenya
8. Bogota, Colombia
9. Ho Chi Minh City (Saigon), Vietnam
10. Chennai, India
11. Hanoi, Vietnam
12. Guangzhou, China
13. Tianjin, China
14. Suzhou, China
15. Qingdao, China
16. Shenzhen, China
17. Bangalore, India
18. Cairo, Egypt
19. Kiev, Ukraine
20. Santo Domingo, Dominican Republic

According to the report, Guangzhou, Tianjin, Suzhou, Qingdao, and Shenzhen qualified for this list for the following reasons:

Guangzhou Overall Grade: High Risk Location Severe Problem: Pollution Other Problems: Disease & Sanitation, Medical Facilities, Physical Remoteness, Communications, Culture & Recreation The capital of southern China's Guangdong Province, Guangzhou is the largest city in one of the world's most important industrial areas. Not surprisingly, Guangzhou's biggest drawback is the severe pollution that often blankets the city in smog. Guangzhou is just a short train ride away from one of the world's most dynamic cities, though, and ORC writes Guangzhou's "proximity to Hong Kong is a major plus."

Tianjin
Overall Grade: High Risk Location
Severe Problem: Pollution
Other Problems: Disease & Sanitation, Medical Facilities, Physical Remoteness, Culture & Recreation
Like so many other Chinese cities, Tianjin has a severe pollution problem. The city is also less cosmopolitan than other Chinese cities where foreign managers might live. "With limited availability of international flights, Tianjin can feel remote," according to ORC's analysis, "and there is little for Westerners in the way of cultural and recreational opportunities."

Suzhou
Overall Grade: High Risk Location
Major Problems: Pollution, Culture & Recreation Facilities
Other Problems: Disease & Sanitation, Medical Facilities, Education Facilities, Availability of Goods and Services
While Suzhou is famous among Chinese as a beautiful garden city, ORC analysts are less impressed. The eastern Chinese city near Shanghai "can be a difficult place for expatriates" because of the pollution and the limited opportunities for culture and recreation.

Qingdao
Overall Grade: High Risk Location
Major Problem: Pollution
Other Problems: Housing, Disease & Sanitation, Medical Facilities, Education Facilities, Physical Remoteness, Communications, Culture & Recreation Facilities
For many people in the West, this city in northeastern China is famous as the home of its namesake beer, Tsingtao. (The company uses the old-fashioned way of Romanizing the city's Chinese name.) Problems include pollution and limited facilities for medical care. Foreigners who don't speak Chinese have difficulty living in the city, too.

Shenzhen
Overall Grade: High Risk Location
Severe Problem: Pollution
Other Problems: Disease & Sanitation, Education Facilities, Communications
Shenzhen is just across the border from Hong Kong and is home to some of China's most successful export-oriented companies—and the country's largest golf course. It's also part of southern China's industrial heartland, though, and the pollution problem is severe. Still, "the city's proximity to Hong Kong is a major plus and greatly improves overall conditions in such areas as medical facilities, international travel, culture and recreation, and the availability of goods and services."

What do you think? What's going on here?

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It has been awhile since we have written on China product quality issues. As regular readers of this blog know, we are of the view that companies outsourcing to China must focus on 1) choosing the right partner, 2) using a good OEM contract, and 3) constantly engaging in quality control monitoring. Renaud Anjoran's always excellent Quality Inspection Blog (if you are directly or indirectly engaged in manufacturing in China you absolutely should make this blog a regular read) did a post, entitled, "Four Simple Steps for Starting to do Quality Control", focusing on our third requirement.

1. "Establish clear expectations." Renaud talks of how choosing a sample, negotiating a price, and then waiting for delivery is rarely good enough to ensure a quality product. In addition to the sample, you should have an agreed-to specification list. I completely agree, not only because such a list is important for quality control reasons, but because it can be critical for legal reasons as well. Without clearly enumerated specifications, it is difficult to impossible to prevail in a product quality lawsuit against a Chinese company. Chinese law typically will not find an implied reasonable quality standard anything near to what a Western company would typical expect and the reason for that is simple. What constitutes reasonable product quality in China is very different from what constitutes reasonable quality in the United States.

2. "Don’t focus on final inspections." Renaud notes how final random inspections are a good tool for approving all aspects of production (total quantity, product specs, aesthetics, packaging…), but if problems are found, they are too late to fix. Inspections during production are better:

The risks for a factory that gets caught are pretty high: re-work of the goods, re-production, penalties, air freight, order cancellation… Instead of sending inspectors at the end (i.e. using them as policemen), try to send them when the goods are in process. Issues can get caught and corrected early: this is not only an extra safety for the buyer, but also a helping hand for the factory. This is how you should frame the discussion when you tell your suppliers about your QC intentions.

Early inspections (during production) have several positive side effects. They are a way to ensure that production is taking place in the right factory. Samples can be picked up randomly for lab testing. And it can prevent long shipment delays if the factory corrects course immediately after quality issues are noticed.

3. "Inspections are not an option. Renaud calls for the following:

You should write “Quality inspection required prior to shipment” on your P/Os. If you pay by letter of credit, you can require a passed inspection report from your nominated QC provider. When you develop new products, ask extra samples for the inspector’s use. Keep track of the final inspection date and the shipment date, not just the shipment date. All this is quite standard, and thousands of importers follow these tips.

You still have the freedom not to book an inspection for a given shipment, or to do skip-lot inspections for the most reliable suppliers. But you are the one to take this decision, not your suppliers. They should see inspectors as an extension of your organization. On the other hand, you should make sure you work with professionals who will be respected by factories.

4. "Find the right balance between helping and arm-twisting." Anaud discusses how large buyers have the leverage to play it "tough," but smaller buyers have to be more creative. True.

For more on enforcing quality control in China manufacturing, check out the following:

-- "Why you MUST Have a China OEM Agreement"
-- "China OEM Agreements. Why Ours Are In Chinese. Flat Out"
-- "Let Me Tell You About China Due Diligence"
-- "China Products: Forget Trust, Just Verify"

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The World Bank recently came out with its yearly report ranking countries on the ease of doing business within them, based mostly on their business regulations The news on China is that there was really no news at all. China did move down from 86 out of the 183 countries ranked, but this was due more to strong reform efforts in other countries than to China's having instituted any new restrictive measures against business.

Singapore placed first, Hong Kong third, the United States fourth, Thailand a rather surprising (to me anyway) 12th, Japan 15th, Korea 19th, Taiwan 46th (big jump), and Vietnam 93rd. Go here for the overview. In the individual categories, China ranked as follows:

Starting a Business 151
Construction Permits 180
Employing Workers 140
Registering Property 32
Getting Credit 61
Protecting Investors 93
Paying Taxes 130
Trading Across Borders 44
Enforcing Contracts 18
Closing a Business 65

What do you think?

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A portion of a Silk Road International post got me to thinking of one of my favorite China topics: where should you locate your business.

David Dayton's Silk Road post is of no help at all if you are looking for a one size fits all answer, but if it is common sense you seek, he has got it:

First, if you’re into general manufacturing or sourcing or in need of multiple products than your location will be different than if you’re doing finance or logistics or investment. If you’re setting up an office, you need to know where you want to be in relation to your suppliers or distributors. If you’re planning on marketing within China you must know where your market and DC’s are before you’ll know where you want to be.

Second, if you are doing research into living conditions of Chinese cities I’m convinced that maybe the single worst thing you can do is read about those cities online. Foreigner posts and government sponsored info will typically give you only the highlights and lowlights–not what you’ll have to deal with on a daily basis. You really need to see these places for yourself. I suggest that you stay for a week and “try it on, if you can. Oh yea, and your spouse better be included in that discussion or you’ll be looking at a divorce lawyer faster than you can say “Chongqing, what a dump!” (This was the lead line for the Lonely Planet’s chapter on Chongqing when I first moved there in 1995.)

I got two or three emails a month from people asking me where they should locate and my response is always the same: “Where are your main suppliers/partners/DC’s? That’s where you should locate.” One guy from London was doing significant business with a supplier in Chongqing and wanting to know what I thought about him relocating to Beijing, Shanghai or Chengdu as he didn’t think that Chonqing was a good place for his family.

Not having lived in Chongqing before I agree that Chongqing may indeed not be good for you or for your family. But it’s not like Beijing or Shanghai or Chengdu are any cleaner or safer. And being in a city that is not convenient for your business interests means that you’re going to be on the road a lot—which isn’t good for the family either. My personal experience is that being gone on business all the time is worse for the family than a couple years of pollution and inconvenience.

David's final prescription is to "look before you buy":

My basic recommendation, no matter if you’re coming here for a month or a year or a decade, is to do some research before you get here but actually visit the potential cities to determine where the best place for you should be.

Of course he is right.

Rarely do our clients ask us where they should locate their businesses and that is generally a good thing. It is a good thing because where they locate their business is primarily a business decision. The only time I express my opinion is when a client is talking about locating in some remote region, and then I mention how they should not expect the same kind of legal regime there as in Shanghai or Beijing or even most second tier cities. I then explain how this might impact their contracts, their joint venture, their intellectual property, etc.

Though I hardly ever proffer advise on where to locate, I virtually always ask clients why they chose a particular city. I ask strictly to feed my own curiosity and because the answers also oftentimes tell me more about my client's China business. I would say the most common answers are as follows:

1. Our long-term partner is there.
2. Our suppliers are there.
3. That is where our biggest client is located.
4. That is where most of our customers are located.
5. I studied there and I know a lot of people there.
6. I like it there.
7. That is where we can get the kind of skilled workers we need.
8. Labor costs are low.
9. Utility costs are low.
10. We are getting government incentives.

If I had to estimate where my firm's clients go, I would say the following:

1. Shanghai/Suzhou area 25%
2. Beijing/Tianjin area 15%
3. Qingdao/Jinan/Yantai 15%
4. Guangdong 15%
4. Dalian/Shenyang 10%
5. Chengdu/Chongqing 10%
6. Elsewhere (Xi'an, Xiamen, Hebei Province) 10%

Our client base is probably more skewered towards service companies, food companies (particularly fish products), and tech companies than most law firms, which I think goes a long way towards explaining the above ratios. Most of our tech clients seem to go to Shanghai, Beijing, and Chengdu. Most of our food clients seem to go to Qingdao, Jinan, Yantai and Dalian. Most of our manufacturing clients seem to go to Guangdong, Qingdao, Shanghai (broadly defined), Beijing (broadly defined) and Chongqing. Though many of our existing manufacturing clients are in Guangdong Province, a surprisingly small percentage of our new manufacturing clients choose to locate there. But, if I had to name one area with which we are most often drafting up OEM contracts for the sourcing of products for companies without an on the ground China presence, it would have to be Guangdong.

Why are you where you are and why? Where are you thinking of locating and why?

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In a recent article, entitled China's GDP growth likely to reach double digits again, Xinhua repeats another of the endless reports we here in China are constantly seeing projecting double digit growth for the Chinese economy for the mid and long term.

But the important thing about this article is not its prediction. The important thing is its underlying assumption that the U.S. and European economies are now irrelevant and the economies of China and India are now set now set to dominate the world:

"The U.S. economy will recover pretty slowly, and its contribution to the world's economic growth is not nearly as important now as it used to be decades ago," Quah said.

"The world economic center is gradually shifting from the U.S. and Europe to emerging countries like China and India, where the recovery pace is faster than developed countries," he said.

A recent article in the Financial Times, entitled, "Gold extends record high on India purchase," echoes this view. In reporting on recent purchases of gold by the Indian central bank, the Finance Minister of India is quote as saying:

Pranab Mukherjee, India’s finance minister, said the acquisition reflected the power of an economy that laid claim to the fifth-largest global foreign reserves: “We have money to buy gold. We have enough foreign exchange reserves.” He contrasted India’s strength with weakness elsewhere: “Europe collapsed and North America collapsed.”

This is now the new paradigm for the governments of China and India. The U.S. and Europe are finished and the world belongs to them. It is irrelevant whether this is true. The key is that this paradigm is believed by the governments of both countries. I experienced the same thing in Japan in the late 1980s, when Japan was convinced it would soon own the world and that the U.S. and Europe were destined to fade away. We know what happened there. As for China and India, who knows?

This new confidence greatly impacts foreign companies entering the China market. The current attitude in China is that "you can come, but we really do not NEED you here. Our WTO obligations mean we will allow you to enter our market, but we are really not excited about that." This blasé attitude is often a shock to our clients. It is something to prepare for, however, since the attitude seems to be pervasive and growing within the Chinese government and it is impacting how Chinese companies must conduct their business in China.

Where we are seeing the greatest impact from this new attitude is in the shutting down of illegal foreign businesses. Whereas in the past, foreign businesses caught operating in China illegally would usually be fined fairly lightly and given the opportunity to come clean by paying all back taxes, we have seen a distinct tightening in both enforcement and penalties just over the last six months. My co-blogger, Dan Harris, is always saying that if our firm gets one report of something in China it is an isolated incident, two reports is a trend, and three reports is a fait accompli (he majored in French). We have gotten so many reports of foreign businesses being shut down in China this year that I do not even know what to call it.

I do know, however, that I should point out the mistakes these companies made and talk a bit about what led to their problems. Two of these companies were registered in Hong Kong and they told us that they thought registration in Hong Kong constituted registration on the Mainland. Their not so crazy argument was that Hong Kong is part of China, so why not? Ignoring the policy reasons (and ignoring the fact that being registered to do business in New Jersey does not make you registered to do business in Kentucky), the only answer is that registration in Hong Kong DOES NOT equal registration in China and if your business is not registered in China, you are operating here illegally.

One of the other companies was registered to do business in China, but as a representative office. It operated as a representative office for a year or so, but then realized that it would do better having its product made in China and sold in China, rather than simply marketing the home office's product for import into China. Within only a few months of its shift to its more profitable model, the government was at its door seeking back taxes and imposing large fines. This company was convinced its leading Chinese competitor had reported them to the authorities and I have every reason to believe this was true. Again, though, the key point here is that the Chinese government does not really care if you are here or not and if some Chinese company wants you gone and there is a legal basis for your exit...well, good luck.

I should say, however, that Chinese businesses do not generally share the government's view towards foreign business, at least with respect to those with which they are not in direct competition. They have a much more complex, realistic, and business-like view of the world. It is the government regulators and "gatekeepers" of which we need to be on guard.

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I usually find these things way corny and stereotypical, but I actually kinda like this one. Shanghai Networking News has an article out, based on its having asked questions on Linkedin, on "What The Chinese Want You to Know About Networking." Here are their findings, which I will follow up with my own analysis:

They're not that different. People often get so caught up in the differences that they fail to see the similarities between Chinese and western cultures. Just be yourself and don't worry about skipping across the cultural minefield. Just as most of us would go easy on any local who made a social faux pas without knowing, local Chinese aren't going to bite your head off if you accidentally put your foot in it.

They are that different -- from one another. Following on from the above, don't fall into the trap of thinking that all Chinese are much the same. They have their own thoughts, hopes and dreams. Some are more introvert, some more extrovert and some are just plain weird, just like foreigners. They're not all Little Red Book waving fanatics, or traditional Confucian sages or "insert stereotype here."

Losing Face = Bad. Making fun of Chinese, even if you're just playing around, can be considered disrespectful and a big loss of face, especially in front of other people. Wait until you've got to know someone a little better, or wait for them to make a joke first. Don't be staid and serious, or afraid of offending them, but do bear in mind that others may take the joke more seriously than you do.

Giving Face = Good. Acting impressed by someone's job title can give a lot of face to the individual in question, and can quickly turn into what westerners might think of as a "mutual appreciation fest," with each party saying something nice about the other's position and modestly denying their own prestige.

They're not that different. They are not. I am amazed more by the similarities between China and the United States than the differences. I have been to Korea so many times that at least 25 stays ago, I had my picture taken at the Westin Chosun in Seoul because it was my 100th stay. And yet, when I talk about my knowledge of Korea, I always say that I used to think I had a 25% understanding of Korea but when I started reading Michael Breen's book, The Koreans, Who They Are, What They Want, and Where Their Future Lies I still tell anyone new to Korea that nothing there is as it first appears. China is far easier. China is like the United States in that both countries see themselves as unique and, dare I say it, special. China is like the United States in that it is geographically large and culturally and ethnically diverse. China is also like the US in its work ethic and in its overall informality. Now I know some are going to say China is formal, but I see China as considerably less formal than Korea, Japan, or even Germany.

They are that different -- from one another Duh! There are 1.3 billion of them. Anyone who thinks they are all alike is just off. There is even huge diversity among lawyers. At one of the Chinese law firms with whom we have worked on many matters, there are fervent (almost religious) communists and there are others there who make little effort to hide their contempt for it.

Losing Face = Bad. As an inveterate jokester, I find myself having to be mindful of this prescription and I am because it is true. An attorney friend of mine once told me that it took him a while to get used to what he calls my "towel snapping humor" because he never played sports. Unless you have been friends with someone in China for a long time and they are making "towel snapping" jokes about you, you should avoid making "towel snapping" jokes about them.

Giving Face = Good. Good idea both on being complimentary and being humble. Frankly, I think this is good advice in the West too as very few people I know like arrogance.

Is this a good list? What do you think? Anything missing?

If the above is just too much for you to remember or too difficult for you to follow, then I urge read my previous post, "Chinese Cultural Awareness Simplified: Don't Be An Asshole."

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I apologize for the recent onslaught of posts on China's consumer market, but I cannot help it. There has just been a plethora (I know that's a pompous word, but I've always loved it anyway) of great stuff out there of late.

The latest is from Jack Perkowski over at Managing the Dragon (h/t to Adam Daniel Mezei) in which he does a great job discussing how Geely's purchase of Volvo and its relationship to China's "two markets":

Geely’s purchase of Volvo underscores the powerful forces that are being unleashed by China’s two markets. MTD readers are well aware of the fact that for any product, there are two markets in China—a high priced, high technology market where the 400 million people who have benefited most from China’s economic development shop, and the low priced, low technology, purely local, market where the other 900 million people buy the goods needed in their daily lives. I devote an entire chapter to this subject in my book, Managing the Dragon, and have referred to it on numerous occasions in this blog.

In autos, the headline number is that China will produce 12 million vehicles in 2009, itself an impressive accomplishment. However, that is just the tip of the iceberg. Every year, China produces at least 50 million vehicles for transportation. Twelve million are the BMWs, Buicks, and Audis that China’s wealthier citizens can afford, while the remaining 38 million are used in vehicles that the country’s less advantaged citizens must buy to meet their transportation needs–motorcycles, agricultural vehicles and the so-called “inkfish” that combine a chassis with a one cylinder diesel engine and receive their name because they spew so much black smoke.

The existence of this vast local market, where price is paramount, gives companies like Geely a chance to develop. The continued growth of the local market gives the Geelys of the world a chance to grow and prosper. If a company’s leaders are sufficiently visionary, and they succeed in raising the quality and technology levels of their products, they soon begin to compete in the higher price, higher technology market in China. Once success is achieved in this market, it is but a short step to the global markets.

For more on Perkowski's "two market" paradigm, check out "China Business. Which Comes First The Wealth Or The Low End?" in which I talk about a meeting I had with Jack where we discussed this very thing.

What I also liked about Jack's post was his discussion of how the West tends to doubt and minimize the ability of China's companies to go global. Though on the one hand, I would be the first to tell you that the overwhelming majority of China's companies have a long long way to go before they will be anything close to a global fighting machine like Sony, or Coca Cola, or Procter & Gamble, I will also be the first to assure you that it will happen and it will happen faster than people expect.

I say this because I have been practicing international law for a long time and I can remember very clearly when everyone (including me) had little to no respect for Korean or Russian companies and everyone (including me) thought they would never be able to compete on a high level internationally. Yet they have. And I am not just talking about the very well known companies like Samsung. I am talking strictly from my own experiences as a lawyer to Korean and Russian companies. Fifteen years ago, I did not particularly want Korean or Russian companies as clients. They would come to us because we represented American companies in Korea and in Russia, but they were difficult. Almost without exception, they did not understand business or law outside their respective countries and they would bullheadedly insist that the way they had done things in their country would be the way they would do things everywhere.

Then things started to change. The "do it my way or the highway" company leader would turn over the reins of the company (or even just its international components) over to a son or daughter (or someone else) with a college degree and real international experience and things would start to shift. Or even occasionally, the company would get badly burned overseas, yet survive and learn from their mistakes and properly retool.

Right now, most Chinese companies are in the "getting badly burned stage" but some are already past that and more soon will be. There is a lot holding Chinese companies back right now, but all those things were true of Korean and Russian companies fifteen years ago and I am not aware of a single thing that would lead me to believe Chinese companies are not comparably equipped to make the same sorts of strides towards internationalization I have seen with my own eyes with mid-sized Korean and Russian companies. For more on this wave of Chinese companies doing things right overseas, I urge you to check out, "China Business. I FEEL "The Second Wave.

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I am fascinated with China as a consumer market. It has 1.3 billion people and if one reaches just one percent of the market.....

Joel Backaler over at China Observer blog just came out with a post assessing McKinsey's newest report on China's consumer market. The post is entitled, "One Country, Many Markets – McKinsey’s Alternative Method of Analyzing Chinese Consumers," and it describes McKinsey's newest innovation of dividing China's consumer market by clusters, as opposed to region or cities. I buy into the cluster approach, as does Joel, though with some reservations:

So, if you can’t consider China’s market at the country level, then what is the most appropriate way to divide up China? At the provincial level? At the city-tier level?

McKinsey’s answer to this question is: Neither. McKinsey suggests an alternative approach, which they call a “Cluster Map.” They divided China into twenty-two city clusters, defined as “groups of cities that are developing around one or two large hub cities.” The twenty-two clusters are broken down by size with Kunming and Taiyuan classified as “Small clusters,” Xiamen-Fuzhou and Chengdu classified as “Large clusters” and Shenzhen and Hangzhou classified as “Mega clusters.”

What does all of this “clustering” accomplish from a China business strategy perspective? First, in terms of industry composition, clusters develop around certain industries. The report cites Shanghai’s automotive industry as an example. Due to SAIC and GM’s successful joint venture, a developed network of automotive parts suppliers has emerged in the suburbs and cities nearby. Additionally, McKinsey found that clusters offer a more accurate depiction of consumer preferences as income differences across city tiers decrease.

I think the city cluster analysis is an innovative way of approaching China market strategy. That said, I am still not convinced it is the best approach or that a best approach exists at all. The key takeaway from my perspective is that the days of looking at “The China Market” are over. Companies are scrambling to find a more tailored approach to be successful in China’s many markets, adopting multiple strategies to gain access to their portion of the coveted 1.3 billion consumers.

Not only does McKinsey divide China into clusters, but it also lists out each cluster's percentage contribution to China's GDP. A couple of things struck me by this list (which can be found on page 9 of McKinsey's report). First, is that 92% of China's urban GDP comes from these 22 clusters. Second, that the "Shandong byland" cluster comes in a pretty close third, right after Shanghai and Beijing in terms of its contribution to China's GDP. Shanghai and Beijing (called Jingjini) each contribute 10.8% while Shandong contributes 9.0%.

This strong showing reinforces something that many of our clients have been doing of late and that is launching their businesses in Qingdao or Dalian, rather than in far more expensive Shanghai or Beijing. They are telling us that they prefer this so-called second tier cities because they are good places to check on their concepts in China, at a slightly lower rate than if they were to do so in Beijing or Shanghai. Now of course Qingdao is not going to serve as a perfect stand-in for Shanghai, but it ought to at least be a good indicator.

What do you think?

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Got an email the other day on Chongqing that went as follows:

Long-time reader _________from Chongqing here. Hope all has been well with you.

First, I'm not sure how this could work into a post, or whether it is simply of interest, but there has been fascinating political and cultural developments here in Chongqing over the last year, mostly due to the entrance of new(ish) general secretary Bo Xilai. He has made headway into cleaning up the city's notorious controlling mafia (possibly an un-spoken reason MNCs had historically chosen Chengdu over Chongqing for their base in western China???), pushed to clean up mafia-related and property-related corruption within the city government (the deputy director of the city's PSB was just arrested), and has made a cultural impact through his push for "5 Chongqings" (Forested Chongqing, Healthy Chongqing, Smooth Transportation Chongqing, Safe Chongqing, and Liveable Chongqing) - an attempt at establishing an underlying philosophy for future policies and decisions, and the encouragement of sending Maoist slogan text messages and singing Communist revolutionary songs. While some have compared this last policy as a new "cultural revolution", it has seemingly been well received by the public at large. A friend summarized Bo Xilai's current M.O. as "cleaning the local government of the filth, while still trying to maintain the average people's faith in that same government".

With that said, these sorts of changes should affect the business environment of Chongqing, possibly to a great degree. And what have I seen on the ground? There are more foreigners in town than before, more MNCs, more companies establishing businesses, and more entrepreneurial small-medium sized businesses getting started. Granted, most of these businesses are in established industries (mostly auto supply and manufacturing, industrial manufacturing, and logistics), but there is growth you can feel. Whether foreign companies were affected by the Chongqing mafia in the past or present is not something of which I have any knowledge. I understood the minimum capital requirements for a WFOE were recently lowered as well. Whatever the cause, it feels like there is growth here.

In hindsight, my firm has been seeing the same thing in that over the last six months or so we have definitely had a pickup in business involving Chongqing, though I have to admit we were starting at a pretty small base. Much of our work has been related to the transportation/logistics sector.

What are you seeing out there? Is Chongqing really going to be the next big thing.

UPDATE: China Translated just did a post on Chongqing, entitled, "Make No Little Plans." It is a guest post by someone named "Don Johnson." I have a China client with that name. Same person?

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The DragonBeat blog has a great post, entitled, "Why foreigners are beating China’s tea-makers on their home turf." The post is on why China has none of the leading tea brands worldwide, but what it says pretty much applies across the board to Chinese branding in general. The comments are interesting as well, with many of them complaining about how bad Lipton tea is and how the Lipton market is completely different from the market for Chinese tea.

Wrong. If anything, Lipton is a classic example of great branding and of how a Western company has managed to take a ho-hum product (in this case, Lipton tea) and market it in such a way as to trump the market.

When will there be a Chinese Lipton and who will that be?

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Mr. McGuire: I want to say one word to you. Just one word.

Benjamin: Yes, sir.

Mr. McGuire: Are you listening?

Benjamin: Yes, I am.

Mr. McGuire: Plastics.

"Where have you gone, Joe DiMaggio?
Our nation turns its lonely eyes to you.
What's that you say, Mrs. Robinson?
Joltin' Joe has left and gone away."

Earlier this year, in a post entitled, China Has Health Care Too I talked about health care as one of the great opportunities for foreign businesses in China:

A few months ago I was on a China panel at Northwestern's Kellogg Business School where, among other things, we were asked to list China's best opportunities. I stressed that because I am not a China business expert, I would have to answer the question based entirely on what I was seeing of my firm's clients and, based on that, I listed health care, technology, and food.

If I had to pick just one of the three, I would pick health care and technology (I know I said one, but hey, it's MY blog). I would pick these two now because even within just the last few months, China's government has made clear, both in its policy statements and in its spending, that it is going to be increasingly emphasizing these two during the next few years.

Health care as an opportunity in China is huge. Plastics huge. Bigger even than plastics huge. The other day, I was talking with a client with a not so small medical company (I am being intentionally vague here) that he is actually thinking of shutting down here in the U.S. "because the opportunities and profits in China are just so much greater."

So with China healthcare being such a big thing, I was absolutely thrilled when Micah Schwalb agreed to do a guest post on it. Micah is just recently back in the U.S. after completing his LL.M in Chinese law from Peking University to go with his US based JD degree. Micah has his own blog called boulder2beijing.

So without further ado, I give you Micah's post on China healthcare:

Healthcare produced a lot of news items, lobbying dollars, and shouting this year. As of this writing, Google News is tracking 17,027 articles just about Obama's speech on reform efforts. But while the debate rages on in the U.S., China announced a healthcare plan back in April that, in theory, will provide "universal access to basic public health services." Signaling its importance, the plan has the imprimatur of both the Central Committee of the Communist Party of China and of the State Council, China's highest executive body.

The current state of affairs informs the plan. In China, the majority of in-patient facilities are state-owned and state-run, while many outpatient facilities like village clinics are privately owned. But many "doctors" and healthcare workers in rural clinics did not attend college, let alone medical school. (See page 5 of this PDF for further details) The rural poor receive about one fourth the healthcare subsidies urban residents enjoy. In terms of individual healthcare expenditures, 52% are out of pocket, 8% are private, and 40% are public. Much like American trauma centers, healthcare institutions in China receive grades, but public insurance plans will not pay for services in certain grades of hospitals, and the trust placed in "grade three" hospitals leads to severe overutilization of those top-notch facilities. (Check out this paper by IBM for more details)

China's effort (sub. req'd) seeks to alter domestic by covering familiar ground: standaridized digital records and universal coverage; improved primary and preventative care through expanded community clinics and increased numbers of primary care physicians; reduced drug costs achieved through price controls and centralized purchasing; and reformed payment mechanisms for hospitals and doctors. Central planners will determine "appropriate" levels of funding, staffing, and equipment for state-owned facilities. "Doctors" and "nurses" working in community clinics will receive additional training. The Chinese government will make large investments in state-run, lower-graded institutions while privatizing more state-owned hospitals. To finance it all, the PRC will use a "multi-channel fundraising mechanism with clear responsibilities and reasonable sharing among the state, entities, families and individuals to achieve social mutual assistance." After years of economic reform, government will assume a stronger role in the Chinese healthcare system.

"Payer" details also bear mentioning here. The government will subsidize the cost of basic drugs on an "approved list" that will integrate with a national formulary. Small modifications to the existing public insurance system will yield four types of public insurance: one plan for employed urban residents, another plan for unemployed urban residents and migrant rural workers in urban areas, a pooling option for rural residents called "new-type cooperative medical care" that's been around since 2003, and a fourth plan described as the "urban-rural medical assistance system."

As in the current system, China's "new" plan still distinguishes between "basic" and "special" medical services, stating that: The cost of basic medical services shall be reasonably shared by the government, society and individuals. The cost of medical services for special needs shall be paid by individuals directly or paid by commercial health insurance.

So the government will subsidize Tamiflu for someone with the sniffles, but advanced Parkinsonian tremor will result in a bill for the deep-brain stimulator.

But China's plan is no cure-all. The tobacco monopoly is not mentioned. Subsidies for rural people will only amount to about $20 per capita per year. The following statement taken from the annual report of a NASDAQ-traded manager of private Chinese hospitals explains the regulatory risks:

[F]uture legislative reforms may be highly diverse, including stringent infection control policies, improved rural healthcare facilities, introduction of health insurance policies, regulation of reimbursement rates for healthcare services, increased regulation of the distribution of pharmaceuticals and numerous other policy matters.

So there is a light at the end of the tunnel, but it may be a bear with a flashlight.

On the other hand, changes to Chinese healthcare present opportunities for foreign businesses. China's growing middle class will continue to pay a premium (pun intended) for private insurance and private care, as well as foreign medical brands. Foreign investors will pick up some bargains when local governments sell off more public hospitals.Hospital IT will be huge and centralized purchasing of drugs and devices will be a volume-driven boon for suppliers on the approved lists. Less obvious, perhaps, are the opportunities in micro-pharmacies and micro-clinics, cooperative hospitals, emergency medical services, distance education, telemedicine, home monitoring equipment, and hospital management.

More broadly, improved healthcare should increase total productivity and economic growth, while allowing Chinese consumers to save less and spend more on consumer goods. Better primary care should also reduce the risks associated with the transmission of infectious diseases like SARS and H1N1. And, finally, kids with better healthcare tend to spend more time in school, which leads to a better-educated population. So, if the Central Committee and the Standing Committee get it right, China's plan should be a very good thing for everyone.

UPDATE: Just saw a really good post over at China Business blog, entitled, "China Healthcare: The Land of Opportunity."

UPDATE: Another really good post on China health care and its opportunities over at the China Business Blog and Podcast, entitled, "Health Insurance in China, Really?"

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Virtually every week, somebody emails or calls me with the perfect (usually distressed) United States company for me to pitch to "all the people" I know in China. I have even gotten calls from government agencies asking me what they should be doing to lure Chinese businesses.

Here is what I am seeing.

Chinese companies looking to buy American companies are usually looking for a valuable technology or commodity or, to a much lesser extent, a strong brand name. If the company you are pitching has neither, the chances of a Chinese company buying it are really slim. People have told me that Chinese companies "have to be" interested in companies with really good marketing people. They tell me Chinese companies are terrible at marketing and so they obviously will be buying American companies that are good at it. That's true in theory, false in reality.

There are a few oddball purchases and formations out there and those generally consist of the following.
-- The wealthy Chinese businessperson who owns a Chinese company and wants to buy an American company so his son or daughter can go to UCLA. These purchases tend to be more random.
-- Haier. Even though I am convinced Haier's setting up production in the United States is a money losing proposition, I still think it was brilliant. I believe Haier came to the United States despite its doing so hurting the bottom line. I believe Haier came to the United States so as to minimize export/import risk in the long term, so as to improve its reputation in the United States, so as to learn from the United States, so as to improve its marketing in the United States and the West and so as to be better perceived in the United States. In other words, it did what Toyota and Honda did when they built US car plants back in the 1970s. This sort of prescience from a Chinese company has so far been vary rare, but I do see it slowly increasing.

Which brings me to Hummer. I can see a Chery buying Volvo to increase company prestige and to improve their in-house technology. I just never believed a Chinese purchase of Hummer would go through because I never thought it made sense. I did not think it made sense because I could see no logical reason for a Chinese company to buy Hummer with the intention of keeping its production in the United States, especially when the Chinese company is not in the auto business. I therefore never bothered to write about it until now because I did not see it as indicative of anything of much import.

It has now become pretty certain the China deal for Hummer is a non-starter.

I just do not see it. Do you?

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Yesterday, I wrote a post on how important contracts are in China. The post was about a China Daily article on what has been described as China's first foreign nail house. The China Daily article included an interview with CLB's own Steve Dickinson, who said the case really hinged on the lease agreement (i.e., the contract) between the landlord and the tenant. According to Steve, the lease itself would control whatever compensation the landlord would be required to pay the tenant for the tenant's eviction due to the building being demolished.

The thrust of my post, entitled, "China's First Foreign Nail House. Dude, Where's Your Contract?" was that contracts are usually determinative in China. In response to this post, "Sean" asked this great question in the form of a comment:

"So when is the contract everything, and when do you have to be worried about a judge ruling against you in the interest of "fairness" to the Chinese counterpart? ("Fairness" in terms of your previous post here

Sean was referring to a post we did, entitled, "China Sex, Mistresses, And Improper Payments, And What They Mean For Your China Business Litigation " where we talked about how Chinese courts tend to look much more at the equities of a situation than at the literal meaning of the contract or of the written laws.

Despite it being a great question, I am pretty much not going to answer it directly. I am not going to answer it directly both because I do not have enough empirical evidence (who really knows why a court or an arbitrator rules the way they do) and because it does not really need a firm answer. The answer is that Chinese courts and arbitrators generally do look at equities much more than courts in the West. It is also true that you are a foreigner involved in a lawsuit in China against a Chinese company, you are already behind on the equities count. A contract is not always going to be the only decisive factor in your case, but you are always going to be better off having a strong contract that favors you than having a strong contract that does not favor you, a weak contract that does not favor you, a weak contract that does favor you, or no contract at all.

So we can discuss how much having a strong and favorable contract, but I think that time would be better spent drafting the next strong and favorable contract because even though I cannot measure with specificity the value of such a contract, I know it is far more valuable than not having one.

What do you think?

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Just received this email from co-blogger Steve Dickinson:

I do my martial arts workout three mornings a week at the beach here in Qingdao. We have a great view of the entrance to the Qingdao port complex. Vessels intending to use the port must "park" for a while as they wait for a berth. For most of the summer, we would regularly see no more than five or six vessels parked and waiting. This Monday, I counted 23 vessels waiting for a berth. This means that the port is entirely backed up and there is simply no room for the vessels. This suggests that activity at the Qingdao port has suddenly increased, leading to a delay in shipments. The Qingdao port is the second largest container port in China. Its capacity is enormous and it is unusual for the port to back up in this way. This suggests that shipments out of China have suddenly increased in the past several weeks.

What are you seeing out there?

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703 million. (h/t Shanghaiist) Think about that for just a minute. That's about 2.5 times the population of the United States.

More than three years ago (gosh, have we really been here that long??!!) I did a post on how China had hit 410 million cell phone users. In that post, I stated the following:

I love this sort of hard number because to me it is a very accurate way to measure China's growth and increasing wealth, perhaps even more so than a more standard measure like per capita income, which can be easily manipulated and whose impact is heavily dependent on living costs.

The way I see, it, if someone can afford a mobile phone, they are a legitimate potential buyer of Western products and a legitimate potential customer for Western retailers.

The comments to that post (and some of our other posts) questioned the validity of the number. I recall someone saying that the number reflected the fact that many users had two phones. One for business and a "black phone" for the mistress. Another comment was along the lines of how many people in China, particularly rural areas, had a phone because it was absolutely necessary for their micro business and so having a phone does not one for one translate into someone being in the middle class.

I agree with all the criticisms of linking China's cell phone numbers to numbers of Chinese middle class, but I persist in believing there is a correlation. And if there is a correlation, then the numbers of China' middle class have risen considerably since 2006.

What do you think?

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BBC radio news did an interview last night with the owner of a company out of Houston, Texas, who had moved his manufacturing from China back to the United States. Unfortunately, I tuned in way too late to hear the whole story, but I heard the following (I think):

1. His company pays its US employees $8 an hour. It was paying its China employees 50 cents an hour.

2. He had quality issues in China. He has pretty much zero defects in the United States.

3. His shipping costs from the new US base are considerably less, though he expects costs to run about $2.50 more per piece.

4. His company makes "Chi" brand hair irons.

I was planning to tie this BBC story in to a post today on various "hidden" costs of manufacturing in China and why the decision to go there for manufacturing is not as simple as some seem to believe. Then this morning I came across an excellent post on this same story on an excellent blog I just discovered. The blog is China Manufacturing Blog. It is written by Dan Feldman, a manufacturing expert who works for a Japanese company's Qingdao operations.

The post is entitled, "Are Manufacturers Heading Home," and its focus is on a recent Wall Street Journal article on the very same Mr. Farouk Shami and his decision to move production back to the US. Feldman quotes Andrew Hupert's blog, ChinaSolved, on the setting sun for China manufacturing:

Due primarily to the fallout of the global economic crisis, but increasingly due to antagonistic policies between China and the U.S. and China and other foreign nations, Andrew Hupert of ChinaSolved writes, "[t]he sun is setting on China as a manufacturing center." And if they are fortunate, "China’s millions of unemployed grads are more likely to end up at a workstation in an office building than on a production line in a factory." Let us not forget that technology, namely the increasing cost effectiveness of industrial automation, also plays a constant role in reducing the size of the manufacturing workforce worldwide.

But Feldman then describes a conversation he recently had with Umesh Tiwari of Utopia Fashion, who set out the following as what his company looks for in determining where to manufacture:

1. raw materials,
2. space for factories,
3. a sizable labor supply,
4. strict governance,
5. political stability,
6. excellent infrastructure and logistics, including a highway system, a railway system, airports, ocean ports, and
7. electricity generation and distribution networks.

"Given these criteria, China still outperforms the Southeast Asian nations, even after the global economic crisis. In response to the crisis, he has pushed the low-end production lines out of China to Vietnam, Malaysia, Bangladesh, and kept the higher-end products for critical customers in China, local to his operation, to control oversight." Amazingly, just a few weeks ago I had pretty much the same conversation with a client of mine who manufactures massive quantities of mid-to-high end jeans in China and my client said pretty much the exact same things.

Feldman concludes his post with the following questions:

What do you think? Does this story foretell the pulling out of manufacturers from low-cost countries? Or will each individual industry and company find a unique solution? What are your thoughts on the related policies being put forward by both the U.S. and China, or other foreign countries and China?

I too would love to hear your answers. Due to my law firm's location in the Pacific Northwest and its historical client base, the overwhelming majority of our clients are in technology, medical or other services, or food. I have always assumed our client mix is very different than a firm based in Cleveland or Detroit.

So what is going on out there in manufacturing? Is China really on the way out? I personally think not. Yes, China is getting more expensive and yes China is high-grading, but does anyone really believe China will not be the factory to the world in 10 or 20 years?

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I expected the routine this morning from a Wall Street Journal article entitled "LG Display Plans Plant in China." I expected it would say that LG was going to be manufacturing in China either to save costs or, more likely, to diversify its manufacturing. But the following line from the article gave me an ah-ha moment:

"China's LCD market is growing rapidly, so we felt it's necessary to manufacture LCDs from the region in the long run," said LG Display spokesman Park Sang-bae.

Ah-ha!

Now I know many of you have already realized this (and on one level, so had I), especially those of you in the business of buying and selling product, but China manufacturing is in its second wave. China's first wave was strictly for cost savings; its second wave is for internal consumption. In a backward analysis brought on by this article, I realized that many (maybe as many as three quarters of them) of my firm's clients who we have been helping go into China are going there more to sell than to save. Now I realized this was true of the clients going there to start a restaurant, going there to sell beverages, or going there to provide business consulting services, but it only just occurred to me that many of our manufacturing clients are going there to sell as well.

After reading the article, I immediately recalled a recent conversation I had with a client who manufactures truck parts. I asked why they were going into China now (implying, as opposed to five years ago when things were even cheaper). The answer I got was that shipping costs had gotten too high and that they were worried about losing out to those already there. I also recall a similar conversation with a company that makes very high end, large and heavy testing equipment. Why was it going into China now, I asked (while thinking the answer would be that before now the capabilities had just not been there). The answer I got was that now that they had a strong sales and repair force in China, they were ready to start manufacturing there as well.

What are you seeing out there?

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I am not generally a fan of extrapolating the way a country conducts its politics to the way its enterprises conduct its businesses even in China where so many businesses are government owned. I am not saying it cannot be done, but I generally find it too complicated for too little value. David Dayton, a guy who truly knows the way China conducts its manufacturing, just came out with an analogy laden post, entitled, "Rio Tinto and Urumqi as Corporate Culture Lessons,"linking China's recent handling of its Western region with how its factories treat foreigners. Though I am dubious of the value (beyond entertainment) of making this linkage, I am convinced Dayton is spot on regarding Chinese factories and I am going to focus on that.

Dayton sees China using the following four step process to deal with its problems out West:

1. Round them up.
2. Insist everything is okay.
3. Identify a common enemy.
4. Show them the money.

1. Round them up. Anyone against the factory will be removed. In other words, that factory floor manager with whom you have had a great relationship for the last two years? He will go silent as soon as you have a problem. Dayton advocates handling this by tying payment to the Chinese factory not to its own assessment of quality, but to that of a third party quality assessment company:

This isn’t arrogant or obstinate it’s just a fact—3PQ reports are directly tied to payments and there isn’t really any room for discussion if the product doesn’t pass. Just stick to this and never give in and you’ll be fine. Give in once and every question from there on out will be a major battle. You’ve been warned.

I agree with Dayton on this. When possible, using an unbiased third party service to determine quality/payment benchmarks is a great way to go. The problem is getting both the foreign outsourcer and the Chinese factory to agree on the third party.

2. Insist everything is Okay. Deny any and all problems:

I’ve had people hold product and Pantone color chips and literally tell me that a red color isn’t really red but that my color chips must be old or incorrect or even that the colors match perfectly (even if they are totally the wrong color). My friend Mike tells of story of “red” fire trucks that were actually florescent orange and the factory had no problem with the difference. Remember, if no one admits to the problem then it doesn’t yet exist (at least in the minds of the factory managers). And that’s the goal—to eliminate the idea of a problem rather than solve problems.

I am betting that every single reader out there who has dealt with a Chinese factory knows exactly what Dayton is talking about here and probably every single reader out there who has not dealt with a Chinese factory thinks he is grossly exaggerating. Trust me, he isn't.

When faced with this, Dayton prescribes the following:

What can you do about this attitude? Probably nothing. Just agree with the fact that they do indeed do this for other people. But remember, it doesn’t matter what other clients accept or what the factory “typically” does. If it’s not what you agreed to (in your written contract) then you don’t have to pay for it, regardless of how typical it is.

3. Identify a common enemy. Once you get the factory to admit there really is a problem, you then need to figure out from where it stems and how to fix it. Dayton very accurately describes the different thinking on this:

My experience is that while I’m interested in getting problems fixed (solutions to meet deadlines) the factory is more often concerned with finding someone to blame—usually a sub-supplier. It’s always the sub-suppliers fault.

No matter how many times it happens it’s always amazing to me how factories are willing to throw their sub-suppliers under the bus and assume that they have no responsibility for their quality. Of course, they chose the sub-suppliers (often without telling us they were even involved) themselves and they paid them for work—and there in lies the problem. Factories just assume (or hope in vain) that blaming someone else will end the problem. It’s like they expect me to say: “Oh, it’s the sub-supplier’s fault? Well then, we’ll just let it go. Sorry for bringing it up.” Once something has been paid for it doesn’t matter who the buyer is, a foreigner or a local factory, no supplier is going to fix stuff that is “finished” and already paid for and shipped out. Bad quality components most often have to be replaced at the factory’s expense since they can’t get their sub-suppliers to pay for them once they’ve taken delivery.

Dayton's solution to this is to not fight the blame game, but to focus on fixing the problem. I would add one thing to this. Make very clear in your contract with your Chinese manufacturer that the manufacturer will be responsible for all quality problems and make very clear the extent to which subcontracting will be permitted, if at all. For more on how to handle the subcontracting issue, check out "The Six (Not Five) Keys To China Quality."

4. Show them the money. Dayton outlines what happens virtually every time there is a manufacturing problem and it goes like this:

This is what happens next. You find a problem, they deny it, then finally admit it, blame the sub-supplier and offer you a discount for the next order. Notice, fixing the problem, resolving the concern, changing processes, or giving you a discount for the current (incorrect) product are almost never options. The key is to get you to take as much of the current crap for the fixed price as possible and then spend money (future discounts) on other projects to pacify you. If they can get current product moved at the agreed upon price, the next goal is the reorder—if that means promising discounts now, so be it. There is always time to increase the costs late

Dayton does not tell us how we should handle this and that is the problem. My experience is that the foreign company pretty much has only three choices (really two) at this point. It can keep trying to negotiate better compensation from the Chinese factory, but it probably will not get it. It can walk away and never do business with this Chinese manufacturer again. Or, it can threaten to or actually sue the Chinese manufacturer. But if it does not have a very well drafted contract (preferably in Chinese) that outlines very clearly exactly what was expected of the Chinese factory, its chances in court are likely very poor. For what needs to go into your China OEM contract, check out, "China OEM Agreements. Why Ours Are In Chinese. Flat Out."

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Since my using references to Bob Marley songs seems to play so well (see here and here).....

Anyway, just read an excellent and blunt blog post on Chinese brands over at the perpetually insightful Silicon Hutong Blog, entitled, "Brand Reality Check." The post uses a Tom Doctoroff article in AdAge (subscription required) as the starting point for arguing China will "not be producing a bevy of global brands at any time in the near future." I completely agree.

Silicon Hutong convincingly makes the following argument against those those who might list the few fairly well known Chinese companies as proof that China can develop great brands:

Those who disagree with Tom (and manage to eschew ad hominem attacks) point out that Haier has managed to build a global brand entirely without marketing. While that point would be debatable (if you could buy a Siemens fridge for the same price as a Haier fridge, which would YOU buy, and why?), let's not go there.

Instead, let us grant for a the sake of argument that Haier is indeed a global Chinese brand. Let's even grant that Lenovo, Tsingtao Beer, and Li-Ning are global brands.

When you look across China's landscape of millions of companies, could it not be said that these companies are at best the exceptions to prove the rule? That China has so few international brands in so few industries that what we are witnessing is not a trend but a statistically irrelevant series of accidents?

Silicon Hutong rightly notes that great brands "are built; they do not happen by executive fiat or by government edict. And the sooner China's companies learn the rules of that game, the better off China will be."

So why are China's companies behind in their branding and what will change this and when?

Why are Chinese companies behind in their worldwide branding? In the last year or so, my law firm has begun to represent a number of very large, very successful, and very well run Chinese companies. Without exception, these companies are doing an amazing job in building their businesses outside China and, for the most part, they are doing an amazing job in figuring out the landscape in places like the United States. But, also without exception, they spend (and I am admittedly making a wild, shot in the dark guess here) about one one hundredth of what their comparable American counterparts on advertising and public relations. And it shows.

I have asked friends of mine in the same or related industries as my Chinese clients if they have heard of my clients and, almost without exception, they have said they have not. Then when I tell them more about my clients and the scope of their operations in the United States and/or their market capitalizations, they look at me like I am totally joshing. They say things like I must be wrong. I must be using a different name in the United States. My client must be lying. In other words, they cannot explain how a company can be doing in the United States what I say my clients are doing without their knowing about it.

Or go ask 100 people at random in Peoria to name two Chinese companies. I'm betting less than a handful (if any) could name two and less than half could even name one. Until Chinese companies start realizing (and by realizing I mean more than just paying lip service) the critical importance of name recognition and reputation, Chinese brands are going to remain mired in relative anonymity. Does anyone think even five people will be able to do it?

What will change this lack of Chinese brand recognition and when will that happen? I do not know but I am certain it will happen eventually (ten years?) and when it does, it will probably come pretty much out of nowhere. I base this prediction on how Japanese (Sony, Honda, Toyota, Nikon) and Korean (Samsung, LG, Hyundai) pretty much all of a sudden went from nowhere (or even disrepute) to reputed.

What do you think?

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One of the things I love about being a lawyer is what I learn from clients. I recently started working with a company that makes a high end consumer good. In the US, this company sells its products to high end retail outlets, including department stores. It has no retail outlets.

This company has been doing more and more of its manufacturing in China and, like so many, it has recently decided the time has come for it to sell its product line in China as well. They have told me that "in order to maintain exclusivity and to prevent piracy," it will be setting up retail stores in China and selling its product only from those stores. That way it will be obvious both to them and to consumers that any of its product that is not in these stores is not the real deal.

Now I am sure this is nothing new to many of you (so go ahead and call me out if you wish), but this is actually the first time I have heard of a company going into China retail to protect product integrity.

What do you think?

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The other day, I did a post entitled, "The Six (Not Five) Keys To China Quality." In response to that post, Rich Brubaker, over at the All Roads Lead to China blog left a long and very thoughtful comment adding six additional things that should be done to better ensure quality Chinese manufacturing. I found those six items so spot-on that I am turning them into a post to give them greater play:

1. Take the time to establish the right partners and processes. Don't come to China with a list of three suppliers found on Alibaba and don't work on a time line. Get it right from the start, and if need be, take a short term hit and continue producing in the US/ EU until the China platform is ready. Should things fail, it will cost a lot more than a few months of the existing process.

Dan: This is so true. Everything in China manufacturing takes longer than you think and way longer than your Chinese manufacturer will tell you. Your manufacturer is key; choose it wisely and not under pressure.

2. Conduct continuous product quality and risk assessments. Know what can go wrong, work out the margins for error, be a step ahead.

Dan: Absolutely. What was well made last month may be junk this month, particularly if your manufacturer has subcontracted out your work. If you do not constantly monitor, quality in China tends to decline over time, not improve.

3) Develop a platform that has a diversified supplier base, and one that is transparent to you. There is no easier way to get in trouble than to let a single supplier source everything in the blind. Either source the raw materials in-house and send to an assembler, or work with the assembler to identify subcontractors.

Dan: We have gotten plenty of calls from companies who do not know what to do. On the one hand, they want to terminate their relationship with their manufacturer, but, on the other hand, they cannot do so because they absolutely cannot do with an interruption in their product sourcing. Do not let yourself get into this situation. Either maintain sufficient inventory to give you time to find and start up with a new source(s) or be ready with a plan for jumping at any time.

4) Always have final inspection done AT THE FACTORY. The worst position a buyer can be in is when the goods arrive at the US dock, 21 days after the final payment was made, and it is not to order. Inspecting ON SITE makes returns/adjustments easier, and as many payment terms are for the largest balance of the money at delivery, the buyers are still in a good position to negotiate.

Dan: So true. If your products arrive bad at YOUR dock, it is too late.

5) Always carry a safety stock (if possible). If you have a supplier on a JIT [Just In Time] delivery system, and they know you have no safety stock, then pricing negotiations will have a wholly different tone than if the supplier knows you have a a one to two month safety stock and are out shopping around.

Dan: Yes. See #1 and #3 above.

6) Never think that increasing your orders is a way to handle a supplier-manufacturer who is cutting corners. Many think that by giving more business things will improve, and I have yet to see that come true. It only increases the likelihood that your supplier will become your competitor, and that if there are problems in quality, it is only going to be more difficult to find another supplier who can take the business.

Dan: Absolutely true. If you have tried to improve quality and you find that you cannot, it is better to fold than to double down.

Anyone want to raise us six more?

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New York Times article, entitled, "American Graduates Finding Jobs in China," makes it seem that all a young American needs to do to get a job in China is to show up. Wow!

When I read that article, it did not seem to jibe with what I was seeing out there, but from my perch at a tiny law firm, I figured I just was not seeing enough. Guess my perch is not so bad after all. Danwei has a great short post on this that very concisely calls bullshit on the whole idea:

Danwei received email from two old China hand journalists yesterday regarding the New York Times story linked here:

Wise Hack A:

Here's one of those great stories that the ever lazy hack pack recycle every so often - floods of Yanks coming to China for jobs.

No evidence whatsoever for this but it gets churned out again every couple of years I note.

Wise Hack B:

Please please mention the NYT "no Mandarin required" article and what
an absolute crock of shit it is. Thanks.

Stan Abrams at China Hearsay concurs:

Sorry, that is some real skewed bullshit writing there.

I have spoken with a few China people on this who should know and they all saying the same thing: there are jobs in China for foreigners, but things are tight and it certainly ain't easy....

I am NOT saying don't go, but I am saying be reasonable on your timeline and keep your expectations in check.

UPDATE: Shaun Rein just wrote a far more balanced piece (than the NYTimes) in Forbes, entitled, "Should You Look For Work In China?"

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If you are a lawyer, you have probably gotten one: an email from a company (usually in China,
Hong Kong or Taiwan) saying they want to retain you to help them collect on debts owed to them by American companies.

WATCH OUT. It is almost certainly a scam.

And it works as follows:

The company retains you to collect on its debts from some company and then that company very quickly agrees to settle and to send you a check. You get the check, deposit in your trust account and then send your client's share to it and retain your contingency fee. The problem arises a few weeks later when your bank reports the check to have been a counterfeit and you are on the hook.

These emails are getting sent out every day and law firms are getting snared. For more on these scams, check out asiabizblog, which has been writing on these for a while.

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A recent survey of more than 3,000 Chinese found that less than 7.9% of them trust their government officials. The media have been reporting on how 7.9% trust prostitutes, which are more trusted than the government. As one would expect, this survey has received considerable blog play:

-- Chinese Trust Prostitutes More Than Party Cadres
--Chinese Trust Prostitutes More Than Government Officials
--Chinese Trust Prostitutes More Than Politicians (The Huffington Post)
--Chinese Trust Prostitutes Over Politicians
--Prostitutes Better Than Officials In China
--Chinese Trust Prostitutes more than Politicians

Most of the posts focus on how this Interesting Poll">poll should come as no surprise and how the same results are likely in the United States. I agree, but this post is going to be about business, not politics.

I thought of this survey today in the context of a China matter we previously handled. I am going to have to be fairly vague here to avoid revealing anything that could tag anyone, but here goes:

US company "buys" building in Chinese second (or third?) tier city with plans to convert it to an office building. Building/land was set up for a very limited use and that use precludes foreign "ownership" and it precludes its use as an office building. But US company bought it anyway based on assurances of the top local officials that it would be okay. In fact, US company went strictly on these assurances and never even conducted its own due diligence on the property. Right before US company is about to start on the conversion, local officials tell it that the "mood" in Beijing has changed and that the US company must sell the property back. US company hires us to assist. We tell them that their office building plans are in clear violation of the law and that their best option is to try to get a full refund on their "purchase." Negotiations ensue and company (very luckily!) gets purchase price back, limiting their loss to their time and travel expenses, etc.

This is just one of countless examples of instances where foreign companies have relied on the assurances of Chinese government officials to their detriment. I could detail many that have ended far worse but I like this one for how it illustrates why it is better to rely on a more stable law than on a less stable (and trustworthy) official.

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One of the misconceptions foreign businesses often have about China is that their providing China with a few hundred jobs means they wield real influence. They start to believe that because some local government official has been solicitous, that they are somehow protected from all the bad things they read about that happens to other foreign companies in China.

For so many reasons, this is just not true.

One of those reasons is economic prosperity is not the be all end all of the Chinese government. Yes, China sees the gloriousness in being rich, but that is absolutely not the government's highest priority. Its highest priority is to stay in power and maintain the status quo.

China Digital Times just translated an article quoting China's Vice Minister of Foreign Affairs, Dai Bingguo:

To ensure the US-China relationship develops forward in a stable, healthy and long-term way, it is very important to mutually understand, respect and support the other side, and defend our own core interests.” Dai Bingguo continues on to say that China’s number one core interest is to maintain its fundamental system and state security; next is state sovereignty and territorial integrity; and third is the continued stable development of the economy and society.

This is the way it is and so the next time you are wondering why China is not letting you do something that you know would help bring wealth to China, ask yourself how what you are trying to do ranks within China's core interests.

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Cn Reviews does a nice job covering an interesting discussion on doing technology business in China. Though the discussion seemed to focus on the tech industry, what was said pretty much applies to all businesses.

I will note what was said (in bold) and then comment.

1. Cheap Labor is not to be found in Beijing and Shanghai. I always get irritated with statements like this, mostly because I only hear statements like this from company executives trying to convince the public that they are in China for reasons other than cheap labor. I completely buy into the idea that companies go to China for way more than cheap labor. In fact, I would estimate that well over half of the companies my firm has helped take into China in the last year had reasons for going there that had absolutely nothing to do with Cheap labor; most were going there to better sell into Asia. But, the reality is that even though labor in China is way more expensive than it was five years ago, and even though when you add in the required employee taxes, benefits and pensions, salaries in China are no longer woefully cheap, and even though top tier executives are now earning six figures (in dollars), the reality is that labor costs are still considerably less in China than in the United States or Western Europe. And this is true for just about every job. I have seen what our clients pay their employees in China (ranging from factory workers, to engineers, to top tier computer programmers to executives and those rates are less than what comparable employees make in the United States.

2. Foreigners and outsiders often fail to see the diverse and fragmented character of China today. This has been so often stated that I wonder how it can even still be true. I am sure there are companies that go into China not knowing that Chengdu is very different from Shanghai, which is very different from Qingdao, which is different from Dalian, but I also think those companies either learn quickly or fail. The fact that so few "foreigners and outsiders" locate their businesses in the more remote regions of China indicates at least minimal understanding that there are differences between the regions.

3. "The mistake most outsiders make re China is that while most outsiders look at China as a single economic entity .... As economic growth around the world slows, it is fair to say that different regions within China will break out into winners and losers. Those regions with better universities will do better in research and innovation, while those areas with a large number of poor will do less well. Also, those regions which do not depend on exports orders and are more self-sufficient will fare better." I disagree again with setting up the straw man of the incredibly ignorant foreigner who does not realize China is not one economically unified country. I have to say that no client of mine who has actually gone into China really believed that moving goods throughout China would be a piece of cake and that business in Kunming would be no different from business in Shanghai. Yet I do completely agree that some regions in China are going to thrive in the next ten years way more than others and that the traditionally high flying regions like Guangdong are not necessarily going to be the high growth regions in the next decade. I am often touting Dalian and Qingdao as cities/regions on the move due to their quality of life, their quality of local governance, and their quality of educational institutions.

4. This fragmented nature also means that provincial and local governments are in competition with each other for jobs, investment, knowledge transfer and economic development. This is very true and this is indeed under-appreciated by foreign companies coming into China. I see this every time we compare the minimum required capital for starting a Wholly Foreign Owned Entity (WFOE). We just did that and the numbers were ~$140,000 for Beijing and ~$13,500 for Qingdao. Same business, different location. And this is absolutely typical.

5. You should consider how your business can be seen as supportive of the government’s own objectives. Very true. If the government (intentionally undefined) sees your business as good for China, your path will be smooth and likely cheap as well. But if you are planning to come into China with a low margin, low skill, high polluting business, things will be completely different. It is important from day one (i.e, company registration) that you let the government know that you are there to help (yes, that is an intentional spin on the old adage about government....).

6. A VC shared how his mistake was hiring "top executives from Hong Kong and Taiwan" who were "never accepted 'into the inner circle' by Chinese. This then became a handicap for his portfolio companies." Very true. I attended a seminar in Shanghai a few months ago where a really good HR person talked about the pros and cons of hiring Westerners, Taiwanese, Hong Kongers, and Sea Turtles (returning Chinese) as your executives. My sense is that the only executives who make it into the "inner circle" in China are the mainland Chinese who have been in China the whole time.

7. If nobody but mainlaind Chinese are allowed into the “inner circle,” doesn’t that mean that China is an unattractive place for foreigners to be? No, it just means that you will not be in the inner circle and if that is critical to your business, you had better hire people who are.

8. What does it take to be successful in China in 2010?

-- “Bring your A-Game....Success in China requires your most talented people, and your most respected players. It also requires your best products and technology. If your fear of intellectual property theft causes you to bring dated technology, then you will not likely be successful in a competitive market. If you think China is a developing country and doesn’t require your best products, then you will not not be successful. On this latter point, my own opinion is that this may be true in some markets and less true in others. Jack Perkowski of Managing the Dragon talks about the different cost perspective of different segments of the market: the foreign, the foreign-local, and the wholly domestic part of the market. No matter what, you need the best people. But the best people need access to the right technology and products to serve that market." I agree with both positions; it depends on the industry.

9. Have a long-term commitment. Sure. How can one disagree with this?

10. "China doesn’t need foreign direct investment anymore. It needs expertise. Be conscious of what you are bringing to the table and why it is good for your partners and the country. As a corollary to the point about having to work with the government, several panelists emphasized the need to have a value proposition for China’s government and people. This goes far beyond just producing the right products for your target market. The tone of the discussion seemed to imply that a high-profile foreign company must make a case to the government and other business elites that they *deserve* to make money in China because of the value that they are bringing to the country." I agree it is important to show you are bringing value to China, but bringing in 200 jobs IS value to China, expertise or not.

11. Expect constant change. So true....

12. Lip-Bu Tan shared one of the best kept secrets from the Western media and public – that there are extremely well-educated, far-sighted people in the Chinese government that understand the global environment, operate in full awareness of the learnings from the rest of the world, and carefully navigating all the constraints they are faced with in solving for continued and stable development of China. Come on. How many people out there really think that there are no such people among China's 1.3 billion? Are we really to believe that it is only those people at this one conference and a few other elites who knew this?

So what do you think?

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FT.com wrote an interesting story the other day of a German advertising company whose employees had set up their own company within a company. The thrust of the article is that this sort of thing is peculiar to China and foreigners had better beware. I have received no fewer than three emails from people sending me the article suggesting I should write on it. Okay, I will, but only to say this sort of thing goes on all the time and it is certainly not peculiar to China. Not at all.

The article necessarily focuses on China and it quotes someone who wrongly paints this deception as a China-foreigner thing:

There is an attitude among many in the Chinese business community that foreigners are rich and stupid and therefore fair game; that deceiving them is somehow acceptable in a way it wouldn’t be if they were Chinese,” says one intellectual property lawyer who has worked in China for nearly two decades, and who asked not to be named to avoid repercussions for his business.

The article then blames the German company for putting a local Chinese in charge of the business:

Mr Hilligardt believed in putting local Chinese in charge of his business, not only because they spoke the language and understood the market but because they had connections and got things done.

“My management philosophy was one of mutual trust and harmony, a merging of European quality standards and discipline with Chinese drive and knowledge of the market,” he says, sitting in his plush Beijing office surrounded by contemporary Chinese art. “I realise now that the key to everything in China is not harmony but control.”

In daily business operations, Mr Hilligardt relied heavily on Li Yangyang, a young executive he recruited from the China Hairdressing and Beauty Association in 2003, at the tender age of 24, and groomed as his intended successor.

“I made him into who he is today; he was my partner from the start and he had my full trust,” Mr Hilligardt explains.

The problem was NOT putting a local Chinese in charge. The article then hints at the real problems, which problems I will explain more fully below:

In his private life, Mr Hilligardt, who does not speak Chinese, was completely reliant on his secretary since 2001, Teresa Tu, whom he hired after she served as his assistant on an earlier trip hunting for business opportunities in China.

According to Mr Hilligardt, Ms Tu managed many of his business dealings, his personal finances, his shopping, accommodation and transport and also handled a number of his personal investments.

A romance sprung up between Ms Tu and Mr Li after he joined Mr Hilligardt’s company, and in April 2006, they married.

Mr Hilligardt says now that he felt somewhat uneasy about the control over his life that the newlyweds enjoyed but he did nothing at the time because he trusted both implicitly.

* * * *

But some of BMC’s other employees were uncomfortable with Mr Hilligardt’s hands-off management style and the influence exerted in particular by Mr Li, who had recruited many of his former university classmates to work for the German company.

“Under Mr Hilligardt you could do anything in this company except challenge the positions of Teresa Tu and Li Yangyang,” says one BMC employee who asked not to be named. “Li controlled everything and when he attended meetings the only thing missing was a pinky ring and a cat in his arms.”

Present and former employees of BMC describe numerous situations in which Mr Li and his former university classmates would flatter Mr Hilligardt, praising his Chinese language ability in spite of the fact he could barely say anything and telling him that no other foreigner understood the country like he did.

According to two employees, Ms Tu and Mr Li also introduced Mr Hilligardt to Lillian, a former model in her early 40s who they say became his mistress. Mr Hilligardt declined to comment.

“He was a vain old man who trusted the wrong people,” says one BMC employee. “They built up a world around him in which he felt safe and he didn’t see the problems in the business because he didn’t want to see them.”

To make a long story short, the business went from doing well to doing poorly, all because Ms. Tu and Mr. Li were selling advertising on their own behalf, not that of the company.

In analyzing this, let me say that my firm has been involved in at least a half a dozen such matters on behalf of our clients, and only one of those was in China. My favorite one involved a very large food brokerage firm that discovered on the computer of one of its employees in the United States that on his company paid trips to buy product in Asia, he was buying at least as much product for his new company and selling that product from his own company to my client's customers.

This client caught this company within a company scheme pretty early because they monitored their business. And fortunately, this married crook left shockingly lewd pictures of himself on the computer with his Vietnamese girlfriend which made him want to resolve things as quickly as possible....

We are right now overseeing another United States case for a foreign company, involving a rogue employee who allegedly set up a new company bank account -- without company authorization -- in the very same bank where the overseas company maintained its accounts. This rogue employee would tell many of the buyers of the company's product to send the money to the rogue account. We are currently suing both the bank and the employee.

It can be unbelievably profitable to sell product, be it food, advertising or anything else, when you are not the one paying any of the underlying costs. Because of this, there will always be employees who seek to do this, and this is true everywhere in the world.

So what did the German company in the FT.com article do wrong? It was not wrong for it to go into China and it was not wrong for it to put a local Chinese in charge. Its mistake appears to have been putting way too much trust in a small core of employees, shutting out the lines of communication to the other employees, and failing to engage in even basic monitoring of the business. Setting up and running a business in China (or anywhere overseas for that matter) completely remotely is a classic path to problems.

It was also wrong for the German owner to allow his libido to get involved in his business. We have a client in a very much male dominated industry who sends only his female employees to China because, as he puts it, he "doesn't trust his male employees not to go on three day benders with females and do really stupid things."

Anyway, the moral of the FT.com story is really rather basic. If you mismanage your business in China (or anywhere else) you will probably end up with some pretty newsworthy problems.

UPDATE: In its post, "China Foreign Investment Advice: When In Doubt, Use Common Sense," China Hearsay also sees no big or deep lessons to be gleaned from this story and expresses this in far more colorful language than I:

Well, yeah. If you set up a company and don’t really manage it, there is a risk that people will screw you over. If your manager prefers to spend his time fucking around, as opposed to doing his job, something might go wrong.

Don’t need the FT to educate us on that, nor do we need expensive consultants to guide us around these pitfalls.

Lesson to foreign investors (anywhere): either manage your company competantly or consider another business model (e.g. a license with strong audit rights).

All true....

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The other day, in a post entitled, "China Hostage Situation. Now IS A Good Time To Pay Your Debts," I wrote about some U.S. executives who were being held hostage in China over nonpayment of a business debt. Their US based company had gone bankrupt and when they went over to China to explain all this to their Chinese suppliers, they were taken hostage. I have since learned that they were eventually released, though I do not know whether a payment precipitated that release or not.

My friend Shaun Rein, of The China Market Research Group just came out with an article for Forbes, entitled, "How To Avoid Getting Kidnapped In China." Shaun's thesis is that if you are going to do business with another company in China, you should find an "uncle" first who will be able to mediate any disputes that might arise between the two of you:

Before entering a partnership with a Chinese company, you should find an "uncle"--a person both parties trust who will be able to mediate differences. This assures each side that issues will be resolved fairly. I have seen too many American businessmen drag out an inch-thick contract with some clause that they think lets them out of a deal. To their Chinese counterparts, it is clear the Americans are cheating. Use relationships rather than legalese whenever possible to solve problems.

Shaun even posits that this US company whose executives were held hostage could have avoided their fate had they had such an uncle: "The case written up by China Law Blog should have been handled that way. Had the foreign company turned to an uncle to smooth relations before declaring it would not pay, the dispute would never have gotten to hostage-taking."

Well maybe. But I still think the safer tact would have been to get all of your people out of China and then negotiate a payment plan from afar.

Shaun then talks about the need to "build guanxi:"

Many Americans have heard of guanxi, but it's often translated wrongly to mean relationships with powerful people. Guanxi means something very different from the American concept of connections. It means being in a social circle where you can let your guard down a little, because there is deep trust, perhaps from generations of coexistence, living in the same neighborhoods or even with interwoven family relations. In the case I was involved in, the CEO didn't want to hurt his relationship with the uncle, and once he knew I, too, was in the uncle's circle, he wanted to create a friendship with me.

Many consultants like to tout that they have good guanxi and can arrange meetings with powerful officials to grease the wheels of commerce. They may be able to get the meetings, but those powerful people don't usually really trust them--especially if the consultants are former officials of foreign governments, as they often are. Building long-term trust is very difficult, especially for those who once sat across negotiating tables representing other countries. Acceptance into a guanxi circle can take years.

Long-term perspective is very important in China. A defaulting borrower should avoid saying he won't pay and instead pay a little right away and explain that he is hurting but will make good in the future. You cannot rely on bankruptcy to absolve debts.

I definitely agree with Shaun on the need to build long term relationships in China and having an "uncle" is certainly not a bad idea. The real key is to build up your relationships before you need them.

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Just got an email from a regular and very much trusted reader.

The email (with all identifiers removed) is as follows:

Consumer product company had a rep office – staffed with people with US passports. Company had financial problems and needed to file for bankruptcy. The company sent one of their executives to China to advise their suppliers that they were declaring bankruptcy and would be unable at this point to pay their outstanding balances.

As you can imagine, the Chinese suppliers did not take this well, and they stormed the rep office and are now holding the US citizens hostage - literally. Its been days now –and neither the police nor the embassy will help to extract the people.

The whole thing was obviously not handled properly from the start – but this has turned ugly pretty quickly. Each factory is mainland owned.

I’ll let you know how this turns out – I’m not involved – just hearing most of this second-hand.
I hope to write a happy ending to this story when/if it resolves itself in a safe way that protects both the US people as well as the suppliers - but I am not so sure it will be.

Have you encountered similar experiences?

Oh yes we have. Many times. But if we had been retained, our advise would have been so different that I would like to think things would have never reached this point. We would have told this company to get ALL of its personnel out of the country before letting suppliers know (from far far away) that you had just filed for bankruptcy and that payment would be slow, at best.

We did have a client quite recently in a similar situation, which we wrote about in our post, "China, We Have A Problem. A Mostly True Story. The key takeaway from that post is that the very first thing we emphasized was the need to get everyone out of town.

Many years ago, I had a similar situation where our client was alleged to owe money to a Vietnamese company. The Vietnamese company had shipped product to our client which we contended was defective and for which my client refused to pay. My client absolutely had to go to Vietnam to meet with other clients and he and I were both very concerned about what might happen to him there. My advice was that he not go, but he insisted that he had too. That being the case, we decided the best approach would be for my client to sue the Vietnamese company in a US court, alleging the Vietnamese company owed my client money for defective product. Our thinking was this might help insulate the client from problems in Vietnam. If the Vietnamese company tried to have my client imprisoned for his company's alleged debt, we would at least be able to point out that there was an ongoing dispute between the two companies and that the Vietnamese company was seeking to act against my client in Vietnam not to collect on an unpaid debt, but in retaliation for my client having sued. My client went to Vietnam without incident and a few months later we were able to settle all claims. We heard through the grapevine that the Vietnamese company had actually been intimidated into inaction by our lawsuit.

About a week ago, I wrote a post, with the somewhat tongue in cheek title, "Owe Money To A Chinese Company? No Need To Pay. It was on how foreign companies need not worry much about Chinese companies pursuing them overseas for unpaid debt. The gist of the post was that if you need to prioritize who to pay, you should put your Chinese creditors last. Even so, I stressed that this equation applies only if you do not have a "real presence" in China:

This is not to say, however, that foreign companies that do not pay may not face repercussions other than a law suit. For example, if you are a foreign company with a real presence in China, not paying a Chinese company might end up causing you real problems in China and you must consider this before choosing not to pay. Just by way of example, we represent a large Chinese manufacturer in an industry where there are only around five companies capable of manufacturing this particular product. Our Chinese client is owed millions by a US company and that US company figured it would not need to pay. What this US company did not figure was that our client would alert the other manufacturers of the non-payment and now none of those manufacturers will make product for this US company either. Once the US company started running out of product, it started paying our client again. On the other hand, if you have but a small presence in China and you can switch your manufacturing over to some other country....

So what should this company do now? I guess my advice would be to negotiate to get these people out of there as quickly and as cheaply as possible.

What do you think?

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If you owe money to a Chinese company for product and you cannot pay all of your creditors, skip out on the Chinese company. Near as I can tell, there is nearly a 100% chance they will never sue you to recover.

I am NOT advocating not paying your debt, but I am saying that if you have to choose among your creditors on who to pay, the Chinese company should be your choice. I am saying this based on the following:

1. About a year ago, a client had come to me for a consultation regarding a dispute it was having with its Chinese OEM supplier. The Chinese company was threatening to sue my client for about $350,000, per its invoices. My client was refusing to pay the Chinese company due to a spate of bad product. My client was seeking a $150,000 credit for the bad product and the Chinese company was refusing and threatening to sue. I advised my client not to pay anything, based on two legal maxims. One, possession is nine-tenths of the law, and two, never fund someone who is threatening to sue you.

So I met with this US client last week on something completely unrelated and I asked him "whatever happened with that Chinese supplier that had been threatening to sue you?" His response was that absolutely nothing has changed. Every few weeks, the Chinese company emails seeking its $350,000 and threatening to sue. My client responds by offering $200,000 in full settlement and the Chinese company refuses. We laughed and moved on.

2. Many years ago, my firm was retained by a Chinese company to collect on approximately $500,000 owed the Chinese company by a US company. My firm mapped out our litigation strategy, which involved suing an Alabama based company in Washington Federal Court. We spent an inordinately long time discussing with the client the costs involved in such litigation and the strategies we would employ. The Chinese company hired us and sent us a decent sized retainer.

We emailed the Chinese company to say the retainer had arrived and they emailed me back with a laundry list of things we should do on the case. Nothing on that list corresponded to what we had told them we needed to do and one of the things on the list was flat out ridiculous. We had a few weeks earlier told the Alabama company that if they did not pay by such and such a date, we would sue them. Amazingly enough, item #1 on the list from the Chinese client was that I fly down to Alabama to try to talk settlement. We wrote the Chinese company and explained that they had hired us because we were US attorneys and, as such, we know what we are doing in terms of dealing with US companies on what had now essentially become a US case. We told the Chinese company that the absolute worst thing we could do would be to fly to Alabama to talk settlement and that doing so would be tantamount to our saying that we were not really serious about suing. The Chinese company then confessed that they were not really serious about suing and that they just wanted us to settle the case. I then gave them the maxim about how you have to be prepared to try a case to settle a case and they told me they had decided not to go forward with the matter and asked us to return the retainer, which we did.

I emailed them the other day just out of curiosity to ask how their case was going and they asked us to take their case on again. We vehemently declined and noted how they needed to retain an attorney immediately because they were now facing serious potential statute of limitation problems.

3. We were once contacted by a Chinese company owed around $300,000 by an American company. We asked him all sorts of questions about the debt and he gave good answers so we asked him to send us the documents. Turns out his debt was about ten years old and way past the time we could sue. We asked him why they had waited so long and the explanation was that they had been trying to work it out. I am not kidding.

My firm has been handling cases like these for Korean and Japanese and Russian and German and companies from other countries for years. China is different. Sorry.

This is not to say, however, that foreign companies that do not pay may not face repercussions other than a law suit. For example, if you are a foreign company with a real presence in China, not paying a Chinese company might end up causing you real problems in China and you must consider this before choosing not to pay. Just by way of example, we represent a large Chinese manufacturer in an industry where there are only around five companies capable of manufacturing this particular product. Our Chinese client is owed millions by a US company and that US company figured it would not need to pay. What this US company did not figure was that our client would alert the other manufacturers of the non-payment and now none of those manufacturers will make product for this US company either. Once the US company started running out of product, it started paying our client again. On the other hand, if you have but a small presence in China and you can switch your manufacturing over to some other country....

What are you seeing out there?

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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 country's diplomatic relations with China. 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