China’s New Found Economic Nationalism

Wednesday, August 16, 2006 6:30
Recently there has been a focus on the fact that China is now beginning to turn away from foreign investment, that it is closing the door. new regulations have been released restricting investment in real estate, Carlyle’s proposed purchase of XCMG is in a holding pattern, and recent regulations have increased the scrutiny foreign companies go through before purchasing state owned assets.    

Is this the end? Are the days of USD 70+ Billion of foreign direct investment flowing into China from the four corners of the world over? Is Beijing kicking a gift horse in the mouth? Or is this there something else that is hidden from plain view..

Could it be that China is maturing in its policies and trying to rein in growth? Could it be that the policy makers are simply trying to catalyze more investment inland? Or is it that some sectors that are being protected?

The media in the last few weeks have really turned up the heat with a number of stories related to the increased difficulties of foreign companies and investors in closing deals. The angles of each article is different, but the conclusions are the same. however, before you opt out of your plans to try to find a way to fit china into your global strategy, consider the following.

In recent articles by Financial Times, Forbes, and others, authors try to imply that closing deals is getting harder in China as Chinese businesses and government officials get in the way of good business (quoting the FT article “It would be a stretch to say that Xugong is vital to China’s national security: its main business is making the trucks that carry rubble around construction sites”.). This oversimplification of what XCMG does is misdirected, and it is either done so intentionally to persuade the reader into their point or it is a result of the writers not truly understand the nature of the company,the deal, or the importance of brand to China’s national security.

True, XCMG hauls around rock. Actually they haul around a lot of rocks. Their wheel loaders are the best in China and they are able to export these into third markets like Easter Europe, Africa, India, S. American. In fact, their capabilities and global reach would suggest that they, like Lenovo and Haier, have a global brand, and it is the authors miss of this point that allows them to draw the conclusion that XCMG just moves rocks.

Where the authors misdirect or failed to detect is that the Chinese government, or President of Sany, is not protecting a company that just hauls rocks, but a company whose roots come out of one of China’s oldest industries that built a global brand and is successfully competing with American, European, and Japanese brands in third markets. for China, remaining a low end producer of components is not a position they wish to maintain and selling off on of the first companies to break away is in their eyes an issue of national security. Had Carlyle tried to buy into a second or third tier firm (Changlin; Linyi; or JingLong and used the investment to create a firm like XCMG, you can bet that the deal would have been approved as it would not have been seen as such a bold move to steal China’s crown jewel in the construction machinery equipment industry, but it would have been seen as providing funding to a Chinese manufacturer that would one day have a global brand of its own. Had that target operated in the hinterlands, Carlyle would have received double bonus points.

The fact is that there is some resistance to foreign money, but it is not systemic, and in fact it should not come as a surprise. The laws passed to prevent foreign investors from investing in China did not stop the money, it forced them to structure their investments differently so that the asset was held and taxed onshore. It forced investors from Taiwan, HK, and Singapore who were pumping and dumping properties beyond the price level of local buyers to begin paying a tax on those gains (the heaviest of taxes will be levied against properties over 90sqm, traditionally the line for luxury sized apartment). The impact to investors was a negative one for sure in the short term, but is it fair to believe that a complete collapse of the housing markets be in the interest of the government, the people, or the investors?

On a macro level, most of the new regulations make sense. Could they use some fine tuning? No doubt. But there has yet to be a regulation that smacks in the face of common sense or good market practices when managing a population of 1.3 billion people, unless you are in the middle of a deal. 

With the economy growing at 11.3% a year and FDI increasing year on year there is no reason to believe that the doors are closing. Investors that move inland will still find very receptive government officials that will offer incentives, tax breaks, and access to companies within their market. The national government has itself recently come out and begin promoting new incentives for investments in technology and machinery that has been made in China.

In the midst of all these reports of foreign investments being blocked, there have been many successful deals announced from: ST Microelectronics; SpansionDow; and Qualcomm

Investors coming into China should always take care and be aware that the market here is dynamic.  Every finance teacher in the world will tell you that the level of risk you are willing to take will determine your level of return (risk and return are perfectly correlated), and for those that didn’t know, in China the risks are much greater than those found in other developed countries.

At no time should one expect everything to go right or that the government will always act on their behalf. Taking the time to learn about what the perceptions of a closed deal before you begin the process can go a long way. that does not mean that you should give up on a deal before you start because you find that the local population, business, or government may not likely approve of the deal. however, by understanding what the deal looks like on the other side of the table you will have a better idea of how to properly present the deal so that both sides see the win-win.

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2 Responses to “China’s New Found Economic Nationalism”

  1. All Roads Lead To China » WalMart’s: Going For the Gold says:

    October 17th, 2006 at 1:25 am

    […] Should this deal go through, the points in my previous post (China’s New Found Economic Nationalism) will only carry more weight, it is not the size of the deal,, but how you execute the deal that matters. It is not about economic nationalism, but good business that ultimately benefits Chinese consumers that determines whether or not a deal gets stuck in a holding pattern, denied, or accepted. […]

  2. All Roads Lead To China » Carlyle’s Half Way Home!! says:

    November 15th, 2006 at 9:08 am

    […] While I wish I could have been a fly on the wall, I was not, but as I discussed in a previous post, Carlyle made some huge errors: 1) Miscalculating the importance of XMCG; 2) It played the “anti-foreigner” card in the media; and 3) It thought that political pressure would bring the Chinese government around […]