Foreign Companies Beware of China’s Changing Growth Drivers
With gross domestic product of US$4.9 trillion and a growth rate of 8% in 2009, China’s economy outperformed its global neighbors with aplomb. Investments in infrastructure and fixed assets, especially by the Central Government, helped lift the economy, generate jobs and create business opportunities. Will this be sustainable? What macroeconomic factors will impact foreign companies operating in China over the next three years?
We ask Qinglu Pu, head of Global Intelligence Alliance’s Greater China Practice who is based in Shanghai.
What were the significant economic milestones for China in 2009, and their implications on foreign companies?
“Despite the global financial meltdown, we witnessed a continued rise in investments, particularly in fixed assets. In addition, there were no sharp jumps in bankruptcies, unemployment rates or salary cuts. You could say that China was a safe haven for growth-oriented businesses.
We also witnessed a high level of large mergers and acquisitions (M&As) in 2009, with estimates putting the number at nearly 300. While just 10% to 15% of these were overseas acquisitions by Chinese companies; they represented nearly half of the total deal value. Many were deals by Chinese state-owned enterprises in foreign companies involved in natural resources.
To list some examples, China Minmetals acquired OZ Minerals in April 2009, Sinopec International Petroleum Exploration and Production Corporation acquired Addax Petroleum Corporation in June 2009, China Petroleum and Chemical Corporation acquired 60% share of Teck Resources in July 2009, and Yanzhou Coal Mining Company acquired Felix Resources in August 2009.
The most outstanding case was Geely’s acquisition of Volvo Car Corporation at US$1.8 billion in March 2010, one year later after it acquired DSI, an Australian transmission maker. Geely is a privately owned company.
Natural resources will remain an investment favorite, while local manufacturing and financial competitors will become more active in the coming years. Manufacturers will seek access to technology and overseas markets while financial services companies will seek access to cheap financial assets, foreign clients and global financial tools.
This move, amongst others, signals that Chinese companies are ready to compete on a global scale and become formidable competitors to international industry players.
Growth in China is also moving west. Many provinces in the western regions of China have achieved higher growth than those in the East or South China. Inner Mongolia and Chongqing achieved 17% and 14.9% growth in 2009 respectively. China’s “Household appliances go to the countryside” policy and “automobile go to the countryside” policies have achieved very promising results and consumption in countryside has increased slightly. Services now contribute 42.6% of GDP, compared to industrial output, which has fallen by 0.7% to 46.8%. Foreign companies considering entry into China will need to evaluate their plans in light of such changes in the Chinese economy.
In December 2009, the Central Government announced special support for seven high-tech industries: new materials, new energy, energy saving and environmental protection, electric vehicles, advanced medicine and pharmacology, bio-breeding and information - in addition to the “Ten Industries Promotion Plan” announced in early 2009. The latter covers automotive, light industry, textile, electronics and information sector, equipment manufacturing, non-ferrous metals, petrochemical, logistics, ship building and steel industries.
These moves show the Government’s strong intention to develop more high-tech, value added and environmentally friendly industries. Both domestic and foreign companies in these industries will enjoy more favorable incentives and easier access to bank loans.”
Do reports on industrial overcapacity and a real estate bubble in China present business opportunities for foreign companies?
"China faces very serious issues in over-capacity in certain industries, particularly for the steel, mining, cement, ship-building, electrolytic aluminum, oil refinery, flat glass industries - and even in some new emerging industries, such as wind energy.
Market consolidation is the only solution. Chinese entrepreneurs have the tendency to “follow” government development plans and it will take time for them to fully understand the risk of “planned economies” and the importance of market dynamics.
Local players are facing challenges in upgrading their technological and management skills as the government pushes for technology advancements and environmental protection.
Foreign companies will be welcomed as they help to upgrade local technological capabilities and create spill-over effects for the domestic economy.
The real estate bubble is likely to continue for the next five to ten years. Land grant fees are key contributors to local government fiscal revenue. As such, there is little incentive to curb rising real estate prices. Urbanization and a growing middle class drive speculation that property prices will hold up. With a large private economy and underdeveloped domestic investment channels, real estate becomes a more accessible and preferred investment for many middle class and wealthy Chinese. Foreign institutions also enter this market for short-term profits generated by two expected appreciations: real estate prices and the Yuan.
To prevent any shocks to its export-led economy, we expect the Central Government will probably allow an appreciation of the Yuan to reflect purchasing power parity, but only gradually. Real estate companies will stand to benefit from these factors.
In addition, we expect more anti-dumping or anti-subsidies measures in 2010, so companies in affected industries may need to explore alternatives."
What will the investment climate in China be like over the next three years?
"It will be favourable. With a more favorable global environment as western countries come out of recessions and a strong domestic economic base, we expect growth to continue in the 9% to 10% range between 2010 and 2012.
The drivers for China’s economy are slowly but surely evolving. This is an exciting phrase of growth as China moves up the value chain.”
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