China Business

China is a Good Place for Foreign Companies

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Our clients are always talking about where to invest in Asia, even more so in light of recent concerns about China no longer being a preferred destination for foreign investment. I have argued consistently that China is one of the best places for foreign investment in Asia. The World Economic Forum’s most recent Global Competitiveness report supports my position.

Though pretty much ignored in the U.S., this Report was greeted with headlines in China. The Chinese are justifiably proud of having moved up in the rankings to number 27. At the same time, the U.S. has fallen in the rankings from number 1 to number 4. China is solidly now in the top 30 most competitive economies in the world, far better than its BRIC competitors: Russia (63), India (51) and Brazil (58).

There is a more interesting issue hidden in the Report that helps explain my view on China. The report divides world economies into three stages: 1 is the least competitive, 3 is the most competitive. It is quite informative to look at where countries fall in terms of these three groups. This three tier ranking explains where China actually stands as an investment target.

The break out of the East Asian countries in terms of the three stages is as follows:

Stage 3: Singapore (3), Japan (6), Hong Kong (11), Taiwan (13), Korea (22).

Stage 2: Malaysia (26), China (27), Thailand (38).

Stage 1: Bangladesh (107), Cambodia (109), India (51), Indonesia (44), Pakistan (123), Philippines (59), Vietnam (85).

China is firmly entrenched in the upper tier of the Stage 2 countries. China is joined by Malaysia and Thailand. The rest of the “developing” countries of Asia, however, are all classed in Stage 1. For investment purposes, a Stage 1 country is fundamentally different from a Stage 2 country. Thus, when a client says it will leave China to invest in one of the Stage 1 countries, it is planning a fundamental change in its investment strategy. Usually this means it is manufacturing low margin, low technology product and is seeking the lowest wage. If that is its motivation, it is rational to move from a Stage 2 to a Stage 1 country. However, the notion that a move from China to Bangladesh is a move to a similar country belied by the competitiveness data; a move from a country rated number 27 to a country rated number 107 involves a fundamental change. It may make economic sense, but only if the investor understands the fundamental differences between the two stages of development.

I say all this because I find many potential investors do not understand this fundamental point. Investment in Japan, China and Vietnam is investment in three fundamentally different economic environments. In a fundamental way, there is simply no comparison between the three countries, not because of their history or culture but because of their relative level of development. Thus, when investors say they are considering investing in these three countries, my view is that they are somewhat confused. The only fair means of comparison is between countries within the same stage of development. Thus, for China it would be a comparison between China, Malaysia and Thailand.

Singapore, Japan, Hong Kong, Taiwan and Korea are all great countries in which to invest and our international lawyers have a ton of experience with all these places. But, as lawyers, we know that they are fundamentally different from the Stage 2 countries on a legal level also. Truth is the legal risks in places like China, Malaysia and Thailand — all great countries also — require considerably more local (i.e., non-written) expertise. Double that for countries like India, Indonesia, Philippines and Vietnam, and triple that for Bangladesh, Cambodia, and Pakistan.

This is what I mean then that within Asia there are few alternatives to China. The Report bears this out: within Asia, at Stage 2 of development, there is China, Malaysia and Thailand. In that sense, the choice of place to invest is neutral. But where an investment relies on scale, China is really the only choice. However, if an investor is looking for a Stage 1 economy or a Stage 3 economy, then the analysis is different.

We will all do better in our analysis to understand this.

What do you think?

23 responses to “China is a Good Place for Foreign Companies”

  1. I think you fail to appreciate that no-one really cares about such data and that many businesses who first cut their teeth on China are now looking at other markets. I think that investors have their eyes on India’s 1.3 billion of increasingly wealthy consumers and ASEAN’s additional 700 million, and are eying up both for selling to those markets as well as possibly setting up manufacturing in them. It’s the “China Plus” strategy that is kicking in, not the “China Alone” strategy.

  2. According to your argument countries are categorised according to their competitiveness. I fail to understand why then South Korea belongs to category 1, while it is very near to Malaysia and China. Then it means that there are other important factors as well, such as per capita GDP, where South Korea is nearer to Japan than either of Malaysia, China and Thailand. If that is so then your’s is unfortunately not the complete story.

  3. Maybe I should not ask this beginner question: Why does Russia ranks so far behind China? Isn’t a developed country as a succesor state to USSR?

  4. sure, China is moving from Stage 1 to Stage 2….which means:
    a) increased cost to do business,
    —> manufacturing in that country is decreasing
    b) increased consumption by the growing middle class
    —-> but if they are losing their export market as a result of increased costs to export, where is this replaced income coming from?
    c) improved infrastructure, educational system
    —-> less need to import foreign tutors, also appetite for name brands, and “upper class” things
    Sure, so those businesses in China that are there to save costs of labor and COL (cost of living) need to re-assess that reason, and quick.
    Need to be in China to:
    —-> SELL to Chinese
    —-> Do high tech products and development and R&D
    So yes, there is definitely a shuffle now of foreign investment in China as it moves from Stage 1 to Stage 2

  5. I agree with you Steve. I have said several times over the last couple of years that, in my opinion, there is no real alternative to China, unless you make very low value and average quality products. Your analysis based on the WEF report is a smart and substantiated way to validate this feeling I had. Not only no other country today has the combination of size, stability, infrastruture and industrial network that China has developed over the last 30 years, but WEF shows that the other aspects of China’s investment environment make the gap grow wider.
    I take the chance to thank you for the many great posts, which I read often even if I do not comment as often.

  6. Here is what Mr. Terry Gou, Chairman of Hon Hai Precision Industry Co., the world’s largest contract manufacturer, has to say about China’s competitiveness as an investment destination:
    “Mr. Gou, whose company has factories in a dozen other countries, dismisses the idea that any of them could supplant China with its advanced infrastructure, business-friendly policies and still-large pool of surplus labor. In a nearly three-hour interview, he outlined his plans to keep plowing billions into the country. “I think in the next 20 years China won’t have a competitor” as the world’s main manufacturing center, Mr. Gou said.”
    see the report in WSJ:

  7. I think this is a good way to look at the various countries as I too am always surprised when people ask me whether they should go into China or Japan or Vietnam. My response always is that it depends on their business and what they are seeking to achieve.

  8. I guess business people actually need to do a lot more research than they think if they’re going to do business overseas.

  9. China is a pretty good place right now for foreign investment, but it is getting really arrogant and if it doesn’t watch out, India and/or Brazil and/or Vietnam will start eating its lunch.

  10. I think Mr. Gou is dreaming. “China won’t have a competitor in 20 years” – he doesn’t understand the dynamics of a market economy. For me, India and the rest of S/E Asia. Also some US companies will give up on China and relocate to Brasil and Mexico. Its already happening. And Steve, China isn’t THAT great a place to do business. Expensive and gettting difficult, and as you always point out, legally awkward. No, the new dragons are India, Vietnam and Indonesia in Asia, and even Bangladesh is taking business away at the lower end. China is suffering the death of a thousand nibbles.

  11. Huber: Also some US companies will give up on China and relocate to Brasil and Mexico.
    Why? One thing that people don’t realize is that both Brazil and Mexico are wealthier than China so they aren’t prime destinations if you are looking for low cost labor. (The fact that Mexico is wealthier than China is something that surprises a lot of people.)
    India is extremely hostile toward foreign investment. Foreign companies do a lot of business with India, but it’s generally in situations where they contract operations with natively owned Indian companies.
    Indonesia and Vietnam are good possibilities, but you don’t have the infrastructure.
    Huber: China is suffering the death of a thousand nibbles.
    China is reached the point where it’s impossible for it to grow more with foreign investment or exports.

  12. sohbet: I think this is a good way to look at the various countries as I too am always surprised when people ask me whether they should go into China or Japan or Vietnam. My response always is that it depends on their business and what they are seeking to achieve.
    For large multinationals, that’s the wrong question. The right question is what do we put in China? What do we put in Japan? What do we put in Vietnam?

  13. Companies still invest in western European countries, in the USA and Japan — these are obviously mature and “expensive” markets, yet they still manage to attract investments. As do China, it has its market and this market will not vanish as long as the current social and political status would remain.
    Companies can invest in China AND in India AND in Mexico, it doesn’t have to be exclusive.
    For sure China has a lot to gain from farther FDI, due to the basics of global economics and it’s internal economics. Which is why they allow and welcome it at the end of the day, and will continue to do so.

  14. Speaking genereally: investment in China has and will continue to have a positive long term trendline – sure there will be fluctuations within that trend and chatter over this issue will blow up here and there but can be disproportionate to the reality. Of course it’s important to pay attention to the subtle signals, but. . . China is not shutting its doors nor will all foreign investment flow out of China immediately into other markets with less infrastructure and govt stability.
    I’m not as familiar with India, but it seems like they are also a different market for different goals – the focus there has been more on service than manu due to its high population of English speakers as well as on tech given its strong presence of tech institutes/grads.
    To AOA – I’m totally unfamiliar with Russia, but it appears to be much less developed than the Asian markets we’ve been discussing and you get the sense that they (the govt) wants your money, but will then take your property and either kick you out or throw you in a gulag. I know that seems like an unfair generalization but anyone remember Lukoil? Kourdokovsky (sp) is still rotting away somewhere (yes, I know, his political aspirations were to blame as well).

  15. I agree with Steve. At least at this point, China is pretty much it for many things and for many companies. But, give it ten years and there will be real competition.

  16. The ‘China plus’ strategy or ‘China + 1’, as mentioned by Herbie Flowers in the first post has been around since ~2005, but has failed to gain significant traction, because although it theoretically makes sense to diversify, in reality it’s hard when a) the major industrial supply chains for most manufacturers are located in China; b) China’s infrastructure is generally better than those of India and ASEAN countries; c) in terms of manufacturing, Chinese productivity tends to be superior (because they been at it for longer).
    This is not to say India and ASEAN countries can’t and don’t host manufacturing; Sharp for eg has an assembly plant in Malaysia, but these investments are insignificant compared to those in China, and continue to be for good reason. Leaving the Chinese industrial supply chain exerts added cost for companies, especially concerning technology products that contain many components and subsystems.
    However, some industries like low-cost textiles manufacturing are being moved from China to ASEAN, Chinese authorities have made it explicitly clear since the 11th Five-Year Plan that they want to climb the value chain and force low-value manufacturing out of the country. Amendments to the process trade regulations for example have forced many low-value manufacturers to Cambodia and Vietnam.

  17. A lot of good comments above.
    China as the world’s manufacturing center has a combination of several strengths: size of the inexpensive and skilled labor pool, scale, infrastructure, supply chain network and large domestic market. It’s hard for other countries to match all of the strengths at the same time: Vietnam is too small; India lacks good infrastructure.
    One important thing to note, China had benefited from being located in East Asia and had received a lot of investments in manufacture from Hong Kong /Taiwan/Singapore/South Korea/Japan when the labor cost went up in those economies. Even if China today has developed its own large supply chain networks in many industries, it still is only part of the larger East Asian production network. This is one advantage China has over, say, India, even if India upgrades its infrastructure over the coming decade.

  18. Steve is right that for most companies, they have no choice other than China. Even if China is not the best or cheapest country to do business, it is already set up for doing manufacturing and until some other country comes along and has an equivalent supply chain, China is going to rule. It’s a chicken and egg thing too. No country can come close to matching China until more companies leave China and more countries will not leave China until there is some other country the equivalent of China and that is not going to happen until China gets so expensive that a sufficient number of companies cannot take it any more.

  19. I agree with Burton (above). China is THE place right now and that is going to be true for at least another ten years. That could and probably will all change at some point (10-15-20 years?) just as it always has for THE place (remember Mexico?)

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