Entry strategies in the Chinese market

Table of content

Table of figures

List of tables

List of abbreviations

Reference

1. Introduction

2. China as business location
2.1 General facts on China
2.2 Economic development of China
2.3 Foreign Trade
2.4 Foreign Investment in China

3. Cultural habits
3.2 Social and cultural general conditions
3.2.1 Comparison of German and Chinese cultural elements
3.2.1.1 Hofstede’s 5-D-Model
3.2.1.2. Cultural habits and behaviour
3.2.1.3 Negotiation strategy

4. Choice of entry mode
4.1 Exporting
4.1.1 Legal requirements for exporting to China
4.2 Piggybacking
4.3 Licensing
4.4 Franchising
4.5 Representative office
4.6 Joint venturing
4.6.1 Legal background
4.6.2 Approval procedure
4.6.3 Kinds of joint ventures
4.7 Direct investment
4.7.1 Wholly foreign owned enterprise
4.7.2 Foreign-Invested Joint Stock Corporation

5. Choice of location

6. Risk analysis
6.1 Security Risk
6.2 Political Stability Risk
6.3 Government Effectiveness Risk
6.4 Legal & Regulatory Risk
6.5 Macroeconomic Risk
6.6 Foreign Trade & Payment Risk
6.7 Tax Policy Risk
6.8 Labour Market Risk
6.9 Financial Risk
6.10 Infrastructure Risk

7. MNCs in China
7.1. Siemens
7.1.1 The company
7.1.1.1 Corporate History
7.1.1.2 Major Businesses
7.1.2 Siemens in China
7.1.2.1 External Environment
7.1.2.2 Entry strategy
7.1.2.3 Conclusion
7.2. Toyota
7.2.1 The company
7.2.1.1 Corporate History
7.2.1.2 Major Businesses
7.2.1.3 International markets
7.2.2 Toyota in China
7.2.2.1 External Environment
7.2.2.2 Entry strategy
7.2.2.3 Conclusion

8. Conclusion

9. Appendix
9.1 Figures
9.2 Tables

Affidavit

List of figures

Figure 1 : http://www.universes-in-universe.de/asia/chn/d-map.htm

Figure 2: http://www.ccpit.org/vhosts/english/II.htm

Figure 3 - Compare: http://www.china-experts.de/Ratgeber/HANDEL_1/Aussenhandel_der_VR_China/aussenhandel_der_vr_china.html

List of tables

Table 1: Luo, Y.; Multinational corporations in China - Benefiting from structural transformation; Copenhagen Business School Press;; Copenhagen; 2000;

Table 2: Wang, Z.Q.; Foreign Investment and Economic Development in Hungary and China; Avebury; Aldershot, Brookfield; 1995;

Table 3: Hofsteede, G.; Culture’s consequences – International Differences in Work – Related Values; Abridged edition; Sage publications; Newbury Park, London, New Delhi; 1984;

Table 4 Hofsteede, G.; Culture’s consequences – International Differences in Work – Related Values; Abridged edition; Sage publications; Newbury Park, London, New Delhi; 1984;

Table 5: Hofsteede, G.; Culture’s consequences – International Differences in Work – Related Values; Abridged edition; Sage publications; Newbury Park, London, New Delhi; 1984;

Table 6: Hofsteede, G.; Culture’s consequences – International Differences in Work – Related Values; Abridged edition; Sage publications; Newbury Park, London, New Delhi; 1984; f.

Table 7: http://www.china-experts.de/Ratgeber/Investitionen/Investitionsstatistik/investitionsstatistik.html

Table 8: http://www.quickmba.com/strategy/global/marketentry/

Table 9: http://home.aigonline.com/country_view/0,4605,1315,00.html

List of abbreviations

illustration not visible in this excerpt

Reference

Bennett, P.; International Marketing, 2nd Edition; Kogan Page Ltd.; London; 1998

Bosse, M.; Neue Töne aus China – bessere Rahmenbedingungen – Risiken bleiben, aus: Finance – das Finanzmagazin für Unternehmer, Ausgabe Mai 2004

Brenner, H., Granier, B.; Business-Guide China; Fachverlag Deutscher Wirtschaftsdienst; Köln; 2002

Cheung-Lieh, Y,; Chinas neue Wirtschaftspolitik; Campus Verlag; Frankfurt, New York; 1980

El Kahal, S.; Business in Asia Pacific – Text and Cases; Oxford University Press; New York 2001

Fukasaku, K., Wall, D., Wu, M.; China’s long march to an open economy; Development Centre of the organisation for economic co-operation and development; Paris 1994

Harris P.R., Moran R.T.; Managing cultural differences;; 3rd edition, Houston Golf Publishing; 1991

Hofsteede, G.; Culture’s consequences – International Differences in Work – Related Values; Abridged edition; Sage publications; Newbury Park, London, New Delhi; 1984

Internet:

http://asnic.utexas.edu/asnic/countries/china/chinalegal.html

http://home.aigonline.com/country_view/0,4605,1315,00.html

http://wehner.tamu.edu/mgmt.www/Monteils/3-FDI.htm

http://www1.chinadaily.com.cn/en/doc/2004-01/20/content_300575.htm

http://www.ahk-china.org/china-economy/government-expenditure.htm

http://www.bayernlb.de/p/_de/downloads/offen/1310_volkswirtschaft/laender/China1003.pdf

http://www.bwl-bote.de/20030917.htm

http://www.china-experts.de/Ratgeber/Investitionen/Investitionsstatistik/investitionsstatistik.html

http://www.china-window.com/china_business/china_business_tips/market-entry-options-for-.shtml

http://www.cia.gov/cia/publications/factbook/print/ch.html

http://www.cia.gov/cia/publications/factbook/print/mc.html

http://www.cia.gov/cia/publications/factbook/print/hk.html

http://www.deacons.com.au/news/article.asp?nID=371

http://www.econ.pncbank.com/china.htm

http://www.efic.gov.au/static/efi/cra/china.htm

http://www.hsbc.com.hk/hk/corp/aoc/businf.htm

http.//www.informit.com/articles/article.asp?p=101588&seqNum=2

http://www.international.ucla.edu/asia/article.asp?parentid=2878

http://www.marketresearch.com/map/prod/965135.html

http://www.oanda.com/converter/classic

http://www.pacificbridgemedical.com

http://www.quickmba.com/strategy/global/marketentry/

http://www.qis.net/chinalaw/setrep1.htm

http://www.republic.wednet.edu/student_projects/Economics/china.htm

http://www.tdctrade.com/sme/ir/sme_irchina.htm

http://www.svcwireless.org/programs/seminar120903/Sara%20Rauchwerger%20Presentation%2012-09-03.pdf

http://www.siemens.com/

http://www.thetimes100.co.uk/theory/theory.php?tID=238

http://www.toyota.co.jp/en/about_toyota/history/index.html

http://www.trade.gov/doctm/Fran2002.htm

http://www.wordiq.com/definition/Economy_of_China

http://www.worldlawdirect.com/article/1649/China's_legal_system_and_Chinese_law.html

Janocha, P.; Asiens Märkte erfolgreich erschließen; Springer Verlag; Berlin, Heidelberg; 1998

Kautz, G.; Developing International Markets – Shaping your global presence; PSI successful business library,; 1998

Kotler,P., Armstrong G., Saunders J., Wong, V.; Principles of Marketing – The European Edition; Prentice Hall Europe; 1996

Luo, Y.; Multinational corporations in China - Benefiting from structural transformation; Copenhagen Business School Press;; Copenhagen; 2000

Perlitz, M.; Internationales Management, 4. Auflage; Lucius & Lucius; Stuttgart; 2000

Rothlauf,J.; Interkulturelles Management; R. Oldenbourg Verlag; Wien, München 1999

Tylor E.B.; Primitive Culture, Band 1, , New York 1871

Wang, Z.Q.; Foreign Investment and Economic Development in Hungary and China; Avebury; Aldershot, Brookfield; 1995

Welge, M., Holtbrügge, D.; Internationales Management, 3. Auflage; Schäffer-Poeschel Verlag; Stutgart; 2003

1. Introduction

The recent 20 years have been the era of globalization with enormous growth in international trade, financial flows and foreign direct investment (FDI).

In former times, most Western companies did not engage in international business activities. On the hand their domestic market seemed to be attractive enough and there were sufficient opportunities for growth. On the other hand, companies did not have to take into consideration the specific features of foreign markets. Managers did not have to deal with foreign languages, currencies and “strange” cultural behaviour. Furthermore, companies did not need to adapt their products to different customer preferences or care about legal and political uncertainties.^[1]

Nowadays, however, the changing business environment and the dependency on other nations’ goods and services has forced most companies to seek opportunities in foreign markets as well. In general, companies decide to invest abroad for a variety of reasons:

- Limited domestic growth is one of the major reasons why firms enter foreign markets. This development has started in the 70’s when Japanese manufacturers began to enter Western markets in many sectors. Nowadays those companies have to face competition from other Asian countries, such as South Korea and Taiwan, which have gained advantages through their low-cost labour force.
- Geographic market diversification to reduce country-specific risk is another popular reason behind many companies' expansion plans. Country specific risk is defined as the risk of operating in only one country and thus being dependent on its political and economical system.
- Lower cost of production in developing countries is a popular reason, as well. However, such a "cost-led approach" is unlikely to lead to be successful in the the long-term. If customers' needs are not identified and satisfied, the company will not be able to become a successful "global player".^[2]

During these two decades, China was strongly influenced by globalization, as well and has undergone a structural transformation - from a centrally planned economy to a market - based one and from a rural, agricultural society to an urban, industrial one. In this period, more than 320,000 enterprises were founded, and China became one of the largest FDI recipient countries, surpassed only by the U.S. There are various reasons for investing in China: On the one hand lower wages reduce costs and the huge market potential enables the companies to raise their revenues. On the other hand economic and legal reforms have created favourable conditions for business activities - some people still cannot believe that it is possible to make large profits in a socialist country. Nowadays China is world's largest developing market economy and the fastest growing market.^[3]

Once a company decides to enter the Chinese market, it should develop a long-term entry strategy and prepare the entry thoroughly. It is the goal of this thesis to give detailed information about the Chinese market itself, to describe its specific features and to explain different entry strategies.

The process to succeed in entering the Chinese market, consists of the following milestones:

- Gather general information about China, the specific features of the Chinese market and the company's competitors
- Learn about cultural habits and the people's mentality
- Choose the entry mode
- Develop a risk analysis for the Chinese market

Those milestones will be outlined in the following chapters.

Concerning the structure of this thesis, it will start off by giving a general description of the Chinese market and its economic development, as well as trade and investment opportunities and motives.

After that, an overview of the Chinese culture will be given, including a description of Chinese behavioural patterns and the difference to German behaviour. Furthermore negotiation style and techniques will be pointed out.

Based on all the information given, potential entry strategies will then be pointed out, including each strategy’s advantages and disadvantages. Besides, industrial and foreign direct investment opportunities policies regulated by the Chinese government will be illustrated and major investment opportunities will be outlined.

This chapter is followed by a description of the choice of location, which also includes an overview about certain investment incentives which are offered in specific regions.

The following chapter deals with a complete risk analysis for the Chinese market.

The second but last chapter deals with companies, which have managed to enter the Chinese market. This chapter also includes a description of the reasons why these companies have been so successful in accessing the Chinese market. Finally, the most important information will be summarized and a final conclusion will be drawn.

Figures and tables are part of the appendix.

2. China as business location

2.1 General facts on China

Note: The following data is taken from the CIA Worldfactbook. If another source has been used, this is indicated.

Country:

China covers an area 9,561,000 square kilometres, slightly larger than that of that USA. Thus, it’s the world’s second largest country after Canada. It shares its borders with North Korea, Mongolia, Russia, Kazakhstan, Kirgizistan, Afghanistan, Pakistan, India, Nepal, Bhutan, Myanmar, Laos and Vietnam.^[4]

Figure 1 (Appendix) shows a detailed map of China.

illustration not visible in this excerpt

In 1971, the communist party introduced a family planning program which allowed just one child per family. However, it is estimated, that, by 2010, the total population of China will be five times of that of the USA.^[6]

Ethnic groups: Han Chinese 91.9%, Zhuang, Uygur, Hui, Yi, Tibetan, Miao, Manchu, Mongol, Buyi, Korean, and other nationalities 8.1%

Religions: Daoist (Taoist), Buddhist, Muslim 1%-2%, Christian 3%-4%

Languages: Standard Chinese or Mandarin (Putonghua, based on the Beijing dialect), Yue (Cantonese), Wu (Shanghaiese), Minbei (Fuzhou), Minnan (Hokkien-Taiwanese), Xiang, Gan, Hakka dialects, minority languages

Government:^[7]

Government type: Communist state

Capital: Beijing

Administrative division: 23 provinces (note: China considers Taiwan its 23rd province)

Macau was colonized by Portugual in the 16th century and was the first European settlement in the Far East. Due to an agreement signed by China and Portugal on 13 April 1987, Macau became the Macau Special Administrative Region (SAR) of China in 1999. China has promised that its socialist economic system will not be practised in Macau and that Macau will enjoy a high degree of autonomy for the next 50 years.^[8]

Hong Kong was occupied by the UK in 1841 and formally handed over by China the following year. Due to an agreement signed by China and the UK, Hong Kong became the Hong Kong Special Administrative Region (SAR) of China in 1997. In this agreement, China has promised that its socialist economic system will not be imposed on Hong Kong and that Hong Kong will enjoy a high degree of autonomy for the next 50 years.^[9]

Independence: 221 BC, replaced by the Republic on 12 February 1912. The People's Republic of China (PRC) was established in 1949.

National holiday: Anniversary of the Founding of the People's Republic of China, 1 October (1949)

Economy:^[10]

illustration not visible in this excerpt

Labour force – by occupation: agriculture 50%, industry 22%, services 28% (2001 est.)

Unemployment rate: urban unemployment roughly 10%; substantial unemployment and underemployment in rural areas (2002 est.)

Budget:^[14]

Budgetary Revenue by Item 100 Mio. Yuan

Total Revenue 16386.04

illustration not visible in this excerpt

Industries: iron and steel, coal, machine building, armaments, textiles and apparel, petroleum, cement, chemical fertilizers, footwear, toys, food processing, automobiles, consumer electronics, telecommunications

Industrial production growth rate: 12.6% (2002 est.)

Exports: $325.6 billion f.o.b. (2002 est.)

Export commodities: machinery and equipment; textiles and clothing, footwear, toys and sporting goods; mineral fuels

Export partners: US 21.5%, Hong Kong 18%, Japan 14.9%, South Korea 4.8% (2002)

Imports: $295.3 billion f.o.b. (2002 est.)

Import commodities: machinery and equipment, mineral fuels, plastics, iron and steel, chemicals

Import partners: Japan 18.1%, Taiwan 10.5%, South Korea 9.7%, US 9.2%, Germany 5.6% (2002)

Debt – external: $149.4 billion (2002 est.)

Currency: yuan (CNY), also referred to as the Renminbi (RMB)

Exchange rate: yuan per US dollar – 8.28 (2003), 8.28 (2002), 8.28 (2001), 8.28 (2000), 8.28 (1999), 8.28 (1998)

1 Euro = 10.14295 Yuan^[15]

Communication:^[16]

Telephones – main lines in use: 135 million (2000)

Telephones – mobile cellular: 65 million (January 2001)

Radios: 417 million (1997)

Televisions: 400 million (1997)

Internet users: 45.8 million (2002)

2.2 Economic development of China

When the People's Republic of China (PRC) was founded in 1949 it has managed to establish a relatively large and complete industrial system. The number of industrial companies grew up to 350,000 in 1979, while the number of employees in this sector increased to more than 50 Million.^[17]

However, in spite of this development, China was almost totally sealed off from international trade and foreign investment until 1978. Since then, it took an almost unbelievable development. To explain, why and how economic circumstances changed and how the government has managed to create an attractive market for foreign investors, a description of the economic reform process will be given now:

In late 1978 the Chinese leadership began to change the economic system from a centrally planned economy to a more market-oriented system. Whereas the political system is still subject to strict Communist control, the economic influence of private companies and individual citizens has been steadily increasing. The authorities established a system of household and village responsibility in agriculture instead of the old collectivization, increased the authority of local officials and managers in industry, permitted a variety of small-scale enterprises in services and light manufacturing, and opened the economy to foreign trade and investment. As a result, the Chinese GDP has been quadrupling since 1978.^[18]

The modernization reforms include in detail four different processes:^[19]

- First, control over production in agriculture was shifted from the centre to local levels. Incentives in the form of retained profits were given. In general, there was a shift to a more decentralized system, which combined both planning at national and regional level and private initiatives.
- Secondly, the Communist party began to decrease central planning in the urban industry sectors. This idea was translated into practice by allowing to private employment of workers to some extent and by establishing special economic zones (SEZs), which allowed foreign investors to establish factories, employ local people, export the finished goods and remit the profits. The SEZs are located in the Guangdong Province, bordering Hong Kong and in Fujian which is close to Taiwan. The SEZs have been highly successful and have made an important contribution to the successful development and orientation of the Chinese economy.

Chapter 7 deals with a detailed description of SEZs and other regions in which foreign investment is promoted.

- Thirdly, the education and science system was modernized. As in many Western countries, it is nowadays considered by the population as possible route to success and personal development.
- Finally, in defence and foreign affairs, the armed forces were upgraded by introducing new technology.

The Chinese leadership also recognized, that the only way to fulfil these aims was to attract foreign direct investment (FDI), which would provide the necessary capital, management skills and technology. Furthermore, it also believed that partnerships with foreign companies would enable the Chinese companies to enter foreign markets, which would promote the country’s exports and provide foreign exchange, necessary to finance China’s imports. The Law on Joint Ventures using Chinese and Foreign Investment of 1979 was the first step to achieve this aim. The Regulations for the Implementation of the Law of the People’s Republic of China on Joint Ventures using Chinese and Foreign Investment followed in 1983. Three years later, in 1986, the State council initiated twenty-two regulations concerning the encouragement of foreign investment. A further step of improvement for investment was a amendment to the Law of the People’s Republic of China on Joint Ventures using Chinese and Foreign Investment in 1990. This so-called “open-door policy” has proved to be very successful. From 1979 to 1994 more than 220,000 foreign-funded ventures were founded with contracted investment of USD 300 billion. During the 90’s the Communist party created a concept to develop a “socialist market economy with Chinese characteristics.” This concept is based on the idea, that a socialist market economy needs certain control mechanisms, which is achieved by the following measures:^[20]

- Restructuring of the banking system

The People’s Bank of China independently carries out the country’s monetary policy under the leadership of the State council. An important initiative in the foreign exchange system reform in 1997 allowed large domestic enterprises to open foreign exchange accounts in state commercial banks.

- Intra-regional integration

Integration is at a more advanced stage between Hong Kong and China than between Taiwan and China. China’s open-door policy has also changed Hong Kong’s industrial structure, as factories were relocated from Hong Kong to China. Over three million employees in Guangdong province bordering China are working directly or indirectly for Hong Kong, compared with a total labour force of 3 million in Hong Kong itself. Hong Kong carries out about 50% of China’s external trade and is now China’s largest outside investor.

- Economic reforms

China’s economic reform process is considered to be the exact opposite of what is called “shock therapy” in the Eastern European countries. The Chinese leaders once named their reform process “crossing the river by feeling the stones underfoot.” The efforts to restructure the economy mainly concentrate on reforms of banking, public finance, the social welfare system , the legal environment and the tax system. In 1994 the value-added tax (VAT) was standardized to a uniform rate of 17%. The tax on corporate profits amounts to 33%.

- Legal reforms

In 1997, the Fifteenth Party Congress agreed on a strategy of state-owned enterprises (SOE) reforms, intended to separate ownership from management and to build up a company system with a diversified ownership structure. For large and medium-sized companies with strategic importance the state remains the only or majority shareholder. More than 250,000 small SOE’s were restructured through joint share holding, leasing, contract operations and employee and management buy-outs. Finally, mergers, bankruptcies and sell-offs were encouraged for the worst performing SOEs. In 1997, the government liquidated 675 SOEs, merged 1,022 SOEs and reduced the number of workers in 789 SOEs.^[21]

However, about 50% of all state-owned enterprises are not profitable yet, and thus lay claim to a large part of public finances, which then lack the private businesses.^[22]

In 2003, China stood as the second-largest economy in the world after the US (measured on a purchasing power parity basis). Especially in coastal areas near Hong Kong and Taiwan foreign investment has helped to increase output of both domestic and export goods. The leadership, however, often has experienced the worst results of socialism (level of bureaucracy) and of capitalism (growing income disparities). Thus the government is trying to:

- collect revenues from provinces, businesses, and individuals;
- reduce corruption and other economic crimes; and

Popular resistance and changes in central policy have weakened China's population control program, which is essential to maintain long-term growth in living standards. Another long-term threat to growth is the environment pollution, especially air pollution, soil erosion, and the steady fall of the water table.^[23]

A study, carried out by the OECD comes to the result, that China's GDP will surpass that of the United States (measured on a Purchasing Power Parity Basis) in 2015, which would make China the largest world economy. However, the average income will be much lower and large regional income differences between the coastal region and the interior will probably still exist at that time.^[24]

2.3 Foreign Trade

Many companies start their business activities in China by trading with Chinese companies or with Chinese subsidiaries of MNCs. Thus, the trade opportunities which the Chinese market offers will be outlined now.

According to IMF statistics, China's global trade totalled $353 billion in 1999; the trade surplus stood at $36 billion. China's primary trading partners include the U.S., Hong Kong, Hong Kong, Japan, the EU, the ASEAN countries, Korea and Taiwan.^[25]

[...]

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^[1] Compare: Kotler, Armstrong, Saunders, Wong; Page 166

^[2] Compare: Kotler, Armstrong, Saunders, Wong; Page 167

^[3] Compare: Luo, Page 12

^[4] Compare: El Kahal; Page 62

^[5] http://www.cia.gov/cia/publications/factbook/print/ch.html

^[6] Compare: El Kahl; Page 63

^[7] http://www.cia.gov/cia/publications/factbook/print/ch.html

^[8] http://www.cia.gov/cia/publications/factbook/print/mc.html

^[9] http://www.cia.gov/cia/publications/factbook/print/hk.html

^[10] http://www.cia.gov/cia/publications/factbook/print/ch.html

^[11] http://www1.chinadaily.com.cn/en/doc/2004-01/20/content_300575.htm

^[12] http://www1.chinadaily.com.cn/en/doc/2004-01/20/content_300575.htm

^[13] http://www.bayernlb.de/p/_de/downloads/offen/1310_volkswirtschaft/laender/China1003.pdf

^[14] Table1: http://www.ahk-china.org/china-economy/government-expenditure.htm

^[15] http://www.oanda.com/converter/classic

^[16] Compare: http://www.cia.gov/cia/publications/factbook/print/ch.html

^[17] Compare: Cheung-Lieh, Page 43

^[18] Compare: http://www.republic.wednet.edu/student_projects/Economics/china.htm

^[19] Compare: El Kahal; Page 63 f.

^[20] Compare: El Kahal; Page 64 f.

^[21] Compare: El Kahal; Page 65

^[22] Compare: Janocha, Page 101

^[23] Compare: http://www.republic.wednet.edu/student_projects/Economics/china.htm

^[24] Compare: Welge, Holtbrügge; Page 17

^[25] Compare: http://www.wordiq.com/definition/Economy_of_China