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China's golden age for foreign companies is over

by Dan Harris

Let the hate mail begin. 

Whenever we write on how things are getting bad for foreign companies doing business in China and on how foreign companies should think long and hard before doing business in China, we get hate mail or hate comments (which we typically delete). Many of these come from China consultants who   sometimes blatantly accuse us of damaging their business. I have already received two angry emails for what I am about to write about in this post. Those two emails came in response to what I said in the article this post will be discussing.

The article is Nokia exit: Is China’s ‘golden age’ of foreign investment over? written by Peter Ford the Christian Science Monitor’s Beijing Bureau Chief and truly one of the deans of China journalism. As you can tell by the title, the article examines whether China’s golden age of foreign investment is over. 

There is no disputing that China’s golden age for foreign companies doing business in China is over. China today is just not nearly as favorable or easy for foreign companies as it was ten years ago. It just isn’t. But that does not in any way mean that there are not a wealth of opportunities for smart companies to make money in or from China or to save money by using Chinese manufacturers.

In my mind — based largely on what my own firm’s China lawyers have seen over the last ten or so years, I divide China into the following three “eras” for foreign companies from the perspective of my own law firm:

1. The initial era, which lasted until around 2008. During this era, many foreign SMEs were operating completely illegally and off the gird in China and when we told them what would be involved in our getting them legal, most chose to continue operating illegally. There was a gold rush mentality and whether operating legally or illegally (and back then the distinctions were not so clear cut), it seemed that all or at least nearly all of our clients were thriving in China. Few companies understood or cared much about protecting their IP in China; they believed it was hopeless.

2. The transition era. This era was from around 2008 to 2013 or so. Some remnants of the initial era remained, but were in decline. Of those who called our China attorneys about what it would take to start operating legally in China, around half chose to make the necessary changes to get legal with the other half choosing to keep operating as they were, “at least for now.” Many foreign companies began realizing the importance of registering their trademarks, copyrights and patents in China.

3. The current era, starting roughly in 2014. Despite China’s downturn, and despite our law firm getting fewer contacts from potential clients, our workload has greatly increased. Three things explain the increased workload. One, Virtually all foreign companies now realize that they must either get legal in China or leave — no more operating illegally “for now.” And two, getting legal has become a lot more complicated and work intensive, which means more attorney hours.  Three, virtually all companies not only understand the importance of protecting their IP in China, they actively wish to do so. Virtually all companies also now understand the importance of having an enforceable China contract when doing business with Chinese companies.

So despite China constantly getting tougher on foreign companies and despite it making sense for many more foreign companies to leave China or not go there at all, my law firm’s China practice continues to grow and — believe it or not — so does foreign investment into China. Why should this paradox be true?

Because what is happening with foreign investment into China is not so much a shrinking but a maturation. Call it the end of irrational exuberance if you like, but whatever you call it, what is happening is that those companies that never should have gone into China in the first place are now largely gone or are in the process of leaving, or at least seriously considering doing so. And now those companies looking to go into China or to have their products manufactured there or to sell their own products and services there are looking into China for all the right reasons.

China still has 1. 5 billion people and there are still countless companies that should and do salivate at selling their products and services to China. But there is also the realization that doing so will not be easy, fast or cheap. China is still the factory to the world, but it is not the only country in which it makes sense to manufacture and companies are increasingly realizing this.

Peter Ford’s article nicely reflects all this. It starts out focusing on Microsoft shutting down two of its China cell phone manufacturing facilities and moving that production to Vietnam. Ford describes this move as the “latest sign that for international companies, China is losing some of its luster after years of shining as the brightest star in global capital’s firmament.” But he quickly follows this up by noting that “China is still a huge, growing market that no global company can afford to ignore. Its economy, the world’s second largest after the US, is expanding at around seven percent a year.” There you go. China is no longer THE country for everything and everybody but it is still the country for many companies and for many things.

Ford then lists the following as some of the concerns foreign companies have about doing business in China:

  • air quality. Check.
  • restrictive rules. Check.
  • higher costs of business. Check.
  • obstacles on market access. Check.
  • China has become a tougher place to do business. Check
  • China’s economy isn’t growing as rapidly. Check.
  • Chinese laws are unclear and often arbitrarily applied. Check, sometimes.
  • foreign companies are being singled out. Check.
  • foreign firms are being kept out of some of the most lucrative investment opportunities in China’s service sector. Check.
  • foreign businesses are less welcome than they once were. Check.

Does anyone really dispute that all or at least almost all of the above list is accurate? But be that as it may, what really determines whether a foreign company goes into China or stays in China is money. If the money is there and the foreign company can legally stay in China, it usually will. If the money is not there, it will eventually leave. Much of the above list has been true to some extent for ten years and nearly all of it has been true for five years. What has really changed is that foreign companies are being hit with so much from so many angles that they are having to decide whether to stay or not. Some are leaving but way more are staying.

What sorts of companies should stay or enter China and what sorts of companies should leave or not enter at all?

According to Ford, “Microsoft’s decision to decamp to Hanoi was doubtless influenced by lower production costs there. The Japanese trade agency JETRO found in 2012 that Vietnamese wages were around one third of Chinese wages.” Vietnam crushes China when it comes to wages. But if wages were the only factor in Western companies choosing where to locate, Microsoft would have moved its facilities to Yemen. Microsoft no doubt chose Vietnam for the same reasons Intel and so many large Japanese companies chose it years ago. Vietnam has a good workforce. Vietnam is a safe country. Vietnam has a growing economy. Vietnam has good (not great) political stability. Vietnam is a US ally (it really is). Vietnam has decent (though certainly not good) logistics. Vietnam has a growing consumer economy and it is a good base for selling into Cambodia and Laos and Myanmar. Doing business in Vietnam igets easier pretty much every year. Both Hanoi and Saigon are considerably cheaper cities for expats than Shanghai or Beijing.

Consumer facing American companies face similar (but different) problems in China:

But at the same time China is getting more competitive and harder to sell into, says Sage Brennan, head of China Luxury Advisors, which helps luxury goods companies break into China. “It is no longer the untapped marketer’s paradise that it once was,” he says.

One US company making that unwelcome discovery is GoPro, makers of miniature action cameras. The firm had barely begun to expand into China when Chinese mobile phone maker Xiaomi last week unveiled its own Yi Action Camera, selling for half the price of GoPro’s basic model.

The article quotes me regarding American companies moving from China to Vietnam:

Lawyer Dan Harris, who helps small and medium sized American companies operate in China [and with the help of an experienced Vietnam lawyer, to Vietnam as well], says that most of the businesses here he has helped to wind up have closed because of disappointing local sales, not because they are moving elsewhere.

Smaller firms cannot afford to move abroad because they have made big investments to establish themselves in China, Mr. Harris says. Nor are they big enough to take sufficient advantage of lower per-unit production costs to make a move from China to Vietnam worthwhile, as it has been for Microsoft, Intel and Samsung, among other global firms.

“But if the big companies go, the feeder firms will want to go too,” says Harris. “Eventually my clients will have to follow them.”

In my interview with Ford I talked about how Vietnam is great for huge companies like Panasonic and Canon and Toyota, which all have massive facilities outside Hanoi. It is also great for a massive company like Intel which by all accounts is doing well in Vietnam these days. Those companies have all the resources to figure out Vietnam and to work with the government to make things work for them there. These companies can essentially bring in or create in place much of the infrastructure they need.

SMEs on the other hand, typically need a fair amount of outside help to navigate Vietnam initially and so at first Vietnam can be more difficult than China. China has made it easy for foreign companies. Vietnam is still working at that. If a client asks me for a good China supply chain person, I can give them one in a heartbeat. If a client asks me for a good China sourcing person, I have lists ready to go, depending on the product. If a client asks me for a Beijing based accountant who knows both US and China accounting. I have a list for that too.

Vietnam can be more difficult. I have had American companies come to me to draft their manufacturing contracts to have kitchen products or shoes or t-shirts or toys made in China that they could be having made for lower cost in Vietnam. When I ask why they chose China rather than Vietnam their response is often something like “we would love to go into Vietnam but we really don’t know how to do it and we have this guy we trust who has already done xyz in China and so it will be easier and cheaper in the short run for us to just go to China.” But we are also seeing some of our medium size manufacturing clients whose manufacturing costs are rising in China looking to Vietnam to replace or supplant their China facilities. We are also seeing some of our clients that are doing well in selling their products or services in China looking to Vietnam to expand.

I could go on and on about China versus Vietnam and what sorts of companies should be choosing which country but this post has already gotten too long. So I will instead conclude with the conclusion to Ford’s article:

“A company puts its resources where it thinks its future market will be,” says Mr. Brennan. “China is not going away, but it is becoming just one market among others” while countries such as Indonesia offer the prospect of faster revenue growth.

“So far, companies have been focusing on China,” Brennan adds. “Now they are looking at southeast Asia and India too. We are seeing a groundswell shift in what companies are spending their time on.”

So true. What are you seeing out there?

For more on where to locate your business in Asia and on Vietnam as a choice, check out the following recent articles:

Dan Harris is founder of the Harris & Moure law firm, a boutique international law firm focusing on small and medium sized businesses that operate internationally. China is the fastest growing area for the firm. Dan writes as a source of China legal and business information.

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