The Great Transition

With China now in the World Trade Organization, opportunities for multinational corporations are multiplying and evolving fast—and so are the accompanying underlying perils.

by

Kenneth Lieberthal

and

Geoffrey Lieberthal

by

Kenneth Lieberthal

and

Geoffrey Lieberthal

From the Magazine (October 2003)

Summary.

Reprint: R0310D

As China’s economy grows and opens further, the opportunity it presents to multinationals is changing. Foreign companies are moving to country development and new strategic choices. Now, foreign firms can actually go after the Chinese domestic market, and it’s worth going after. Improvements in China’s infrastructure, workforce, and regulatory environment are making it possible for companies to lower their costs to reap new competitive advantages.

Multifaceted and often-shifting risks accompany this shifting opportunity. The reforms required for admission into the WTO will be politically difficult for China to implement, and its progress will be slowed by the scarcity of resources for the country’s shaky banking system, the inadequacy of the social safety net, environmental problems, and local governments’ cash shortage. China’s breathtaking 9% average annual GDP growth rests on an unsteady foundation of overcapitalized state-owned enterprises, which have oversupplied many markets, and fiercely protectionist regional government officials pursuing growth-at-almost-all-costs policies. Frequent changes in regulations, bureaucracies, and reporting relationships will continue to make planning difficult, and, as the SARS epidemic demonstrated, there is always the potential for serious disruptions.

But for at least the next ten years, multinationals should be the biggest winners in China. To reap the benefits, a multinational must properly nest its effort into its overall organization, show “one face to China” at the national level but also tailor local strategies, be wary of joint ventures, and mitigate risk, in particular the theft of intellectual property. China is a major opportunity for companies that forthrightly face its complexities. It will remain largely inscrutable—and unprofitable—for the rest.

The Idea in Brief

Foreign firms’ opportunities in China are astounding—but so are the perils.

With China now in the World Trade Organization, foreign businesses can—for the first time—pursue the Chinese domestic market. And it’s worth pursuing. China’s dazzling economic growth shows no sign of stopping. And thanks to improvements in China’s infrastructure, workforce, and regulatory environment, multinationals (in particular) have unprecedented opportunities to lower their costs and reap new regional and global competitive advantages.

But doing business in China is more dynamic and complex than ever. A sampling of the perils:

enforce. The Chinese leaders who negotiated the WTO agreement consulted very little with those most affected by it—industrial ministries, provinces, and cities where foreign competition could threaten local business. Result? Few localities are prepared to implement WTO obligations, preferring instead to stimulate local economic growth and foreign competition. China’s intellectual property protections, for example, are often impossible to

planning. Constantly changing regulations, bureaucracies, and reporting relationships—and continued government involvement in commerce—hamper business

governments. China’s newest leaders must handle competing demands among China’s shaky banking system, health and other public services, environmental needs, and cash-strapped local

Managing these risks is particularly critical if your firm has already entered the China market and is beginning to more fully establish its brands, cultivate markets, and expand geographically. Use the following guidelines to leverage the opportunities—and manage the risks.

The Idea in Practice

Nest Your China Effort Within Your Whole Organization

Business-unit autonomy doesn’t work well in China because the government treats corporations as single entities. Show “one face” by establishing a first-rate country office that participates in all new-venture negotiations, national-level government relations, and strategic planning for the China effort. Establish a corporate identity that highlights compatibility between your company’s goals and the country’s goals. This identity can help you obtain critical licenses and regulatory decisions.

Tailor Strategies for the National Level and Each Locality

Chinese localities differ in the quality of their government and workforces, experience with international business practices, regulatory environment, consumer tastes, and domination by state-owned or private enterprises. Identify differences in each locality and develop the expertise to lobby government at every level—for example, persuading local governments to bring criminal charges against trademark violations.

Be Wary of Joint Ventures

Joint ventures—formerly the only way to operate in China—are can present problems for foreign venturers. Government officials often promote ailing Chinese companies as venture candidates, and most Chinese firms want to dominate their local markets and then take profits out rather than reinvest them. Consider establishing an independent legal entity—a wholly foreign-owned enterprise (WFOE)—which can provide management control and better protection of intellectual property rights.

Limit the Risks of Operating in China

Hire or develop experts who can penetrate the Chinese system enough to recognize when social tensions are growing, understand internally contested issues, and devise strategies for moving critical regulatory decisions forward. Remember that no place is safe from natural or political disaster—so don’t put all your company’s resources for critical operations into China. Keep one sensitive part of your production processes outside China, to prevent pirating. Periodically assess the risks of your China operations so you can quickly move some operations elsewhere if necessary.

Avoid Irrational Exuberance About China

Like items in a shop window, China’s attractions are changing over time. Each opportunity carries different investment and management implications. Rather than rushing to plant the flag, sort through the operational consequences of your different efforts. Pinpoint why you want to do business in China, where to locate there, and what might best be done elsewhere.

China is attracting enormous attention for very good reason. The reason is not just that China is big or that its economy is the only one that’s been able to sustain rapid growth over the last three years. It’s that China is now profoundly affecting the competitive capabilities of all multinational corporations. Companies throughout the world are affected by the impact of low-cost Chinese manufacturing on worldwide pricing, for instance, whether or not they have operations there or engage in direct trade.

A version of this article appeared in the October 2003 issue of Harvard Business Review.

KL

Kenneth Lieberthal (kliebert@bus.umich.edu) is the William Davidson Professor of Corporate Strategy and International Business, the China director of the Davidson Institute, and the Arthur Thurnau Professor of Political Science at the University of Michigan in Ann Arbor. He is also a senior director of Stonebridge International, a Washington, D.C.–based consulting firm, and the coauthor, with Geoffrey Lieberthal, of “The Great Transition” (HBR October 2003).
GL

Geoffrey Lieberthal is a consultant with Bain & Company in San Francisco.

The Great Transition

The Idea in Brief

Nest Your China Effort Within Your Whole Organization

Tailor Strategies for the National Level and Each Locality

Be Wary of Joint Ventures

Limit the Risks of Operating in China

Avoid Irrational Exuberance About China

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