Foreign Direct Investment in China

Dr. HE Rong Associate Professor School of International Business, BFSU rhe@vcu.edu Mar19, 2009
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Outline

Definition of FDI FDI (Foreign direct investment) in China Several important strategies for business success in China

Recommended websites

www.english.mofcom.gov.cn/ www.fdi.gov.cn www.stats.gov.cn

Since China's adoption of an "open door" policy and economic reforms beginning in 1978, international trade and inward foreign direct investment (FDI) have played a key role in its rapid economic development.

1. Definition

Foreign Direct Investment (FDI) -----an investment involving a long-term relationship and reflecting a lasting interest and control of a resident entity in one economy (foreign direct investor or parent enterprise) in an enterprise resident in an economy other than that of the foreign direct investor (FDI enterprise or affiliate enterprise or foreign affiliate).

Strategic motives for FDI

Resource seeking FDI Market seeking FDI Efficiency seeking FDI Strategic asset seeking FDI Other motives for FDI

Resource seeking FDI

To seek physical resources including labour and intangible resources. Search for lower production costs Example: labour, natural resources

Nike, Sony and Toshiba

Market seeking FDI

To seek to sustain and protect existing markets, and exploit and promote new markets. To follow suppliers and customers or obtain host government concessions and circumvent trade barriers. Example. Coca-Cola, Nokia, Motorola

Efficiency seeking FDI

To rationalise the structure of established resource-based or market-seeking investments in such a way that the investing company can gain from the common governance of geographically dispersed activities. Two types of division of labor: developing and developed countries; or developed countries with same income level; to enjoy economies of scale. Example: Automobile industry
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Strategic asset seeking FDI

To pursue an integrated global or regional strategy. Two types: --Protective type strategic seekers (e.g., accounting firms) --expansionary MNE (e.g. toy manufacturing)
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Other motives for FDI

Escape investments, to circumvent restrictions on the share of domestic production that MNEs might obtain. Support investments, an affiliate or branch office activity is a first step towards setting up a market-or resource-seeking FDI. And etc.
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2. FDI in China

The genesis of FDI policy

Overview of foreign investment

FDIs role in Chinas economy

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(1) The genesis of FDI policy

FDI as part of the process of opening up and economic reform-- Deng Xiaoping's open-door policy.

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Initial success: FDI in 1980s

----Investment from Hong Kong, Macao, Taipei --geographical distribution: Guangdong, SEZs; --sector distribution: hotel; labor-intensive export manufacturing

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Entrenchment of FDI in the 1990s

geographical distribution sector distribution: manufacturing Source of investment has changed, more and more investment came from OECD countries.

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WTO entry: New phase in opening up On Dec 11th 2001, China acceded to the WTO.

Widen the scope of operation of FIEs ; Opening up of services sectors Distribution and trading rights of FIEs Revision of catalogues(encouraged; permitted; restricted; and prohibited; 2005) National treatment
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TRIMs (Trade-related investment measures); trade performance, trade balancing, local content requirement were abolished new foreign bank licensing regulations

..more fields will be open to the foreign Investors after 2006

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(2) Overview of foreign investment

China was the largest developing country recipient of FDI, and the fourth largest recipient of FDI in the world, after the United States, the United Kingdom and France.

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Total accumulated FDI (realized value) rose from US$1.8 billion in 1982 to US$750 billion in 2007. By contrast, FDI outflows have, until recently, been relatively low, reaching only US$5.5 billion in 2004, for an accumulated total of US$100 billion.
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year 1979-1982 1983 1984

No. of projects 920 638 2166

Contractual value 49.58 19.17 28.75

Realized value US$100million 17.69 9.16 14.19

1985
1986 1987 1988 1989 1990 1991 1992 1993 1994

3073
1498 2233 5945 5779 7273 12978 48764 83437 47549

63.33
33.30 37.09 52.97 56.00 65.96 119.77 581.24 1114.36 826.80

19.56
22.44 23.14 31.94 33.93 34.87 43.66 110.08 275.15 337.67
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year
1995 1996

No. of projects
37011 24556

Contractual value
913 733

Realized value
375 417

1997
1998 1999 2000 2001 2002 2003

20001
19799 16918 22374 26139 34171 41018

510
521 412 624 691.1 827.7 1150.7

453
455 404 407 468.5 527.4 535.0

2004
2005 2006 2007

43664
-

1534.8
-

606.3
724.06 694.68 750.00

2008

923.95

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By the end of 2006, the cumulative realized FDI value reached US$ 703,974 million.
By the end of 2006, 594,445 foreign invested enterprises (FIEs) have registered in China. Over 480 out of top 500 multinational companies have entered China.
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A. Changing form of FIEs

Two major modes :

-- contractual joint venture and equity joint venture; -- wholly-foreign-owned enterprises

-- joint exploitation of natural resources --foreign-invested shareholding enterprises --others, e.g. build-operate-transfer (BOT)
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In the early stages of economic reform, equity joint ventures were preferred.

Since 2000, the number of wholly owned subsidiaries established has exceeded that of joint ventures.

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Cross-border mergers and acquisitions started to emerge in 1990s. Cross-border mergers and acquisitions sale to the foreign companies (Millions of dollars) 1990-2000 2004 2005 2006 Annual average 339 6378 8253 6724
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Example: IBM China

Began with agency arrangement, then joint venture for over ten years; IBM China was established as a Wholly Foreign Owned Enterprises in 1992. Now use a mix of WFOE an JV formats depending on what their purpose is for a specific project, and also where they are operating within the country.
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The IBM China Research Laboratory (CRL)

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The IBM China Research Laboratory (CRL)

The IBM China Research Laboratory (CRL) was established in 1995 and is one of the eight worldwide IBM Research laboratories. It is the first research laboratory established in a developing country. Located in Zhongguancun Software Park in Beijing, CRL has been growing steadily and currently employs over 150 technical staff members.
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B. Sources of FDI inflows into China

By the end of 2006, investment from the top Five accounted for 70% of the total actually utilized value.
Hong Kong, Japan, U.S, Taiwan, South Korea.

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Top ten sources of FDI in 2006 and 2008(100 Million US$)

No 1 2 Nation or region Hong Kong British Virgin Islands Value in 2008 410.36 159.54 Nation or region Hong Kong British Virgin Islands Value in 2006 202.32 112.48

3
4 5 6

Singapore
Japan Cayman Islands South Korea

44.35
36.52 31.45 31.35

Japan
South Korea U.S Singapore

45.98
38.95 28.65 22.60

7
8 9 10

U.S
Samoa Taiwan Republic of Mauritius

29.44
25.5 18.99 14.94

Taiwan
Cayman Islands Germany Samoa

21.36
20.95 19.79 15.38
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C. Regional distribution of FDI

Eastern China has received over 80 Percent of FDI. --eastern; central; western --top five provinces or municipalicities (including Beijing, Tianjin, Shanghai, Chongqing) enjoying the most actualized foreign investment: Guangdong, Jiangsu, Fujian, Shanghai, Shandong, ..
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Region

Accumulative actualized foreign investment (by the end of 2006) 86.05%

Eastern China

Central China

8.86%

Western China

5.09%

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Special economic zone: Shenzhen, Zhuhai, Shantou, Xiamen and Hainan Open coastal cities: Dalian, Qinhuangdao, Tianjin, Yantai, Qingdao, Lianyungang, Nantong, Pudong Area of Shanghai, Ningbo, Fuzhou, Guangzhou, Zhanjiang, Beihai and so on. Economic and technological development zones (54): Dalian, Tianjin, Ningbo, Beijing and Harbin Export processing zones (57) State-level High-tech industrial development zones( 53) 35

D. Industry distribution of FDI

Manufacturing remained a major attraction to foreign investors. Services became another attraction. By the end of 2006, the cumulative FDI value in industries:
Primary industry 3% Manufacturing 71% Services 26%
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Technology-intensive and capitalintensive industry have absorbed more and more FDI. e.g.,Intel ; IBM;Motorola .

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By 2006, 214 operations have been set up by 74 foreign banks and 115 of them have been approved for RMB business. Total assets of these foreign-funded banks in China have reached 120 billion USD. Foreign-funded banks have opened 209 representative offices in China. 47 Foreign-funded insurance companies have also established operations in China.
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(3) FDIs role in Chinas economy

FDI has played an increasingly important role in the economy . FDI has contributed 2.7 percent of average growth (9.7%) of GDP. Foreign invested enterprises has created 23,500,000 jobs directly. 20.7 percent of the whole countrys taxation revenue came from foreign invested enterprises in 2005.
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FIEs have stimulated trade growth import : over 50% export : over 50% trade deficit or surplus?

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The role of FDI in Chinese industry --FIEs are far more export-oriented than domestic producers. over 50% exports -- Productivity of Capital and labour productivity are clearly higher in FIEs than in domestic industry. --FDI has modified China's industrial structure.
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Spillover to the domestic economy --FIEs have established over 750 R&D center in China. --Raise the overall productivity --New technologies diffused into the local economy --Human capital --Competition

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The controversial issues on the role of FDI

Monopoly? Threatening national economic safety ? Unemployment rate? limited benefits from FDI--Processing base Over-dependence on FIEs technology? Environment losses?
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An example

Value chain (R&D-processing-marketing-after-sale service) The cost of the toy: $12 The Chinese toy plant sell at $15 Chinese Trading company sell at $22 Hong Kong Trading company sell to the American firm: $50 American firm sell to the store at the price of $82 US store: the toys price $100

Profit the plant: 3 Chinese Trading company: 7 Hong Kong Trading company: 28 American firm: 32 US store: 18

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Discussion
1 Are there a lot of FIEs in your country? what attitude do the government and people take toward them?

2 Do you think FIEs in your country benefit peoples life? How? Give an example.

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3. Suppose you plan to invest in China, can you list factors which will influence your investment decisions, and which factor do you think is most important?

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Case 1: Volkswagen's Experience in China

What strategies did Volkswagen take? Of all the strategies, which one do you think is most important in explaining its success in China?

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Some background: Volkswagen in China

Volkswagen was one of the first international automakers to venture into China. The earliest contact dates from the year 1978.

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The investment of Volkswagen in China has totalled to more than six billion Euros from 1984 to 2005.

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The Chinese passenger car market grew in Mainland China 2006 by a further 26.1%, expanding to 4.15 million units. The VOLKSWAGEN Group again leads the Chinese passenger car market in 2006 with a share of about 17.1%.

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The goal of the VOLKSWAGEN Group is despite difficult competitive conditions - to continue its market leadership as the most successful car manufacturer by responding to the challenges with a strong local manufacturing network.

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Today, the group has 14 representative companies in the country, undertaking parts delivery and service provision for both customers and industry in addition to vehicle production. Shanghai Volkswagen Automotive Company FAW-Volkswagen Automotive Company Further companies
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Shanghai Volkswagen Automotive Company Founding year 1984 (production start: 1985) Headquarters Shanghai Equity holders Volkswagen AG (40%), VW (China) Invest (10%), SAIC (50%) Employees 2006: 11,111 Products: Passat, Touran, Polo hatchback, Polo saloon, Gol, Santana, Santana Variant, Santana 3000
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FAW-Volkswagen Automotive Company Founding year 1990 (production start: 1991) Headquarters: Changchun/Jilin province Equity holders: Volkswagen AG (20%), VW (China) Invest (10%), Audi AG (10%), FAW (60%) Employees 2006 : 8,847 Products Volkswagen: Sagitar, Golf, Bora (hatchback and notchback), Jetta, Caddy; Audi: A6, A4
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Further companies

Volkswagen (China) Investment Company in Beijing Volkswagen Transmission (Shanghai) Company (gear boxes), Shanghai Volkswagen Powertrain Company (engines) Volkswagen FAW Engine (Dalian) Company (engines) SAIC-Volkswagen Sales Company Volkswagen Import Company Volkswagen Finance (China) (financial services) Volkswagen Beijing Center Company (sales, service) And etc. 55

3. Several important strategies for

business success in China

Different views on Chinese market

Optimistic Enormous business opportunities Third-largest national economy Fast economic growth A large population

Pessimistic macro- and microeconomic risk factors Inadequate legal structure, corruption, unemployment, bureaucracy.
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Those preparing for an engagement in China should take these views into account, and analyze both views realistically and verify them with facts. Listen to the experiences of other companies
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Strategies suggested

Selection of a good local partner Cultivating relationship Active adaptation and continuous learning Matching product portfolio with market needs

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Find a right location Hire good local management talent Choose right entry mode Research and investigation, and good feasibility study before entering Chinese market

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Example 1. LG electronics

In 1993 LG electronics established a joint venture in Guangdong. At present, it has 19 plants, 9 branch companies, 34 marketing departments and 10 service centers in China. ( over 34,400 employees). In 2002, it established a R&D center in Beijing. In 2003 its sales in China reached US$ 5 billion.(2004, US$7 billion)
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Main products of LG
Main products of LG electronics Market share in Chinese market 17.6% Market position in Chinese market No 1

PDP and LCD TV

Microwave oven
CDMA terminal Washing machine Air conditioner

34%
13.4% 11% 7%

No 2
No 3 No 3 No 3
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Example 2. Motorola

Motorola Inc., a global leader in offering integrated communication solutions and embedded electronic solutions, was founded in 1928. The company runs one of the world's major manufacturing facilities for communications equipment.

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Motorola opened a representative office in Beijing in 1987, and set up Motorola (China) Electronics Ltd. in Tianjin in 1992 . Total investment in China: US$ 3.6billion (including 0.8 billion on R&D) Motorola has 3 wholly-owned company, 1 holding company, 5 joint venture firms and 25 branch companies, 18 R&D centers.

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Motorola's Performance in China in 2006

Total sales: US$4.67 billion Total exports: US$10.09 billion (including export) Total employees: 12,000(with 3,000 for R&D)

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Rewards & Recognition in 2002

1. Largest foreign investor in China's electronic industry (Source: MOFTEC) 2. Largest foreign company in China, in term of sales (Source: MOFTEC) 3. The best in long-term commitment; most innovative; best adapted to the Chinese market; best employer in China (Source: Fortune magazine, Chinese edition)
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A good corporate citizen of China

1. Project Hope: donation of RMB 24 million in last 8 years; setting up 50 Hope schools in 25 municipalities, autonomous regions and provinces; and funding 10,000 poverty-stricken children to return to school. 2. Higher Education: providing of RMB 11 million to 12 universities as scholarship. 3. Disaster Relief: donation of RMB 30 million; setting up 11 schools for homeless children. 4. West China Development: donation of RMB 2 million for the "Well-Digging" project in western China. 5. Sports Sponsorship: Asian and National Games, CNBA, Games for the Handicapped. 6. Environmental Protection: "Green China" Program in six major cities. 7. Active support for China's bid for the 2008 Beijing Olympic Games. Motorola's communication equipment was used in the previous seven Olympic Games. 8. Active support for China's entry into the WTO. 66

The company's strategies are best summarized as below:

Motorola is steadfastly committed to investing in China and transferring technology and building local manufacturing and R & D capabilities in order to provide the country with advanced communications solutions. The company will continue its long-term plan to localize management in China and to develop and train excellent local management talents.
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The company will continue to work with local companies to create a comprehensive local supply chain.
Promote joint ventures and cooperative projects with local partners to take advantage of China's new market opportunities that result from China's increasing integration into the world market.
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Thanks! Questions?

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