The much trumpeted ?Go West? campaign seems to have fizzled out rather, possibly in favor of the North-East as many of China?s top Commercial Leaders, including Bo Xi Lai (Minister of Commerce), are from the region and are putting it?s redevelopment first. That is something of a blow for China?s hinterland and the far west, but there are still good reasons for optimism. Firstly, local governments are able to offer some very attractive investment incentives, way over and beyond those available elsewhere ? even up to 8 or 10 years in profits tax free incentives. Secondly ? there is that gigantic population, if you can find the right products or services to exploit this. The downside is that infrastructure is lagging behind, and it?s a long way from the coast. That means obtaining China sales and RMB revenues are the key driver to success in these areas. The services industry may have significant opportunities ? advertising, promotions and similar disciplines to assist with the promotion of brands to this massive population. We?re still a little wary over the prospects for Chongqing ? the city posts a huge loss every year and we see corruption, infrastructure problems and the lack of free market enterprise being significant hurdles to overcome here. Further South and West however, the cities of Chengdu and Kunming are becoming increasingly bound together and with the new rail link to South East Asia being able to run goods all the way down to Singapore, the South West presents interesting possibilities, still low overall costs and excellent climate and living. Xinjiang will remain enigmatic ? agricultural based businesses predominating. However, that can be from crop production to the sales of hardware ? with China the worlds number one agricultural nation, opportunities are certainly there for equipment providers willing and able to do business with State Owned Enterprises and Regional Governments. You?ll be expected to provide excellent credit terms, but you are likely to get paid ? in time. Patience here is key, as is a good understanding of the region.

This huge area encompasses 2/3 of China?s total land mass. However, it is characterized by poor infrastructure, relatively low GDP and government interference. Nonetheless, for the investor used to dealing with developing markets there are without doubt many plum opportunities available, especially in the main Provincial capitals and second tier cities. Dezan Shira & Associates does not at this stage have a specific Western regional office ? very few consulting firms do. However, the firm has a long history of servicing clients throughout the region, and does so from a pertinent Dezan Shira office elsewhere. In fact the firm has advised on investments into the West totaling several hundred million dollars including Ningxia?s largest ever investment as well as many investments into Xinjiang and Yunnan (mainly agricultural) and Shanxi and Shaanxi Provinces (mining). The main contact for Western Regional Investments is our Senior Partner, Chris Devonshire-Ellis who has traveled extensively within the region and knows many of the Provincial Governors and City Mayors.
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Guangdong?s GDP in the first 9 months of the year 2005 expanded by 12.3% (the national GDP growth rate in the same period was 9.4%) still ranking first amongst China?s provinces for the past 16 years. The recent Guangdong government?s prevision for the 11th five year plan also showed a robust 10% growth plan to be expected in the years ahead. By looking at GDP per person we can also appreciate the fact that local citizens have the highest spending power potential in the Mainland (Shenzhen 9,000 U$D, Guangzhou 6,000 U$D against a national average of 1,200 U$D). Export as a percentage of GDP is amongst the highest in the country (71%, compared to Shanghai?s 40% and China?s national average 23%) and clearly indicates the nature of the business environment in this 80 million people powerhouse: trading, export processing, light assembly and manufacturing. Guangdong province is home to one of the world’s biggest manufacturing hubs and clusters of different industries from electronics to textiles, from automotive to furniture. In Shenzhen, for example, are manufactured 90% of the computer keyboards, 90% of the computer mouse and 70% of the computer screens sold world wide every year. Guangdong has also developed into a world renowned purchasing centre and export processing platform where multinational corporations such as Wal-Mart and Carrefour have based their procurements centers.

Besides statistics which may not really tell us the real story, hard facts do clearly spell out the economic strength of the area :

• 600 buses are leaving for the Pearl River Delta every single day from Hong Kong;
• The concentration of airports in the PRD (Hong Kong, Macau, Zhuhai, Guangzhou and Shenzhen are international airports 2 hours away from each other) is as high as in the US or Europe;
• Shenzhen has now become the fourth largest containers port in the world;
• Unfortunately, the energy black-outs during the summer months due to massive energy consumption are also getting more frequent!

From macro economic point of view Guangdong?s economic performance this year was not affected by a slower general investment in fixed assets following the recent central decision to cool off some speculative sectors like property and constructions. Guangdong?s economy is far more vulnerable to trade frictions with the US and EU blocks due to its heavy involvement in general trade and processing.

As far as future FDIs in the province are concerned, we think that Guangdong is steaming ahead with investments in some selected heavy with investments in some selected heavy industries like chemical and petrochemical processing, steelmaking, car manufacturing (Guangzhou is to become one of the top 3 centre for car manufacturing and a chief transportation hub in China) and related logistic infrastructures as well as pushing labor- intensive factories to other areas beyond its main cities as labor shortages have forced pay increases (Guangdong reliance on migrant labor is the highest in the mainland and its attractiveness to blue collars workers has been declining) supported by the local government increase of minimal wages.

By doing so, local authorities are trying to move up the value-added production ladder to complement the local industrial base with more innovative and high-tech clusters. The need to move up the value chain is at the top of the political agenda for the years ahead and some local players (ZTE, Huawei, TCL, Legend, etc.) are already paving the way.

Some particular locations within the province are already becoming known for having taken bold decisions in order to shape up their local industrial base. Dongguan, for example, has recently taken some steps to upgrade its current investment environment pushing up the minimal registered capital required to set up factories to 1,000,000 U$D basically turning down lowend, highly polluting and under-capitalized investors.

Shenzhen and neighboring areas will play an important role for those FIEs involved in logistics, services and high value/high tech assembly and manufacturing for which availability of qualified personnel would be more important than cheaper labor and low rental factories.

Other areas like Zhongshan, Foshan and Zhuhai do represent for foreign investors a good compromise between cheap general set up costs, good infrastructural base and availability of local subcontractors and personnel. The whole PRD western corridor will receive a major boost when the completion of the Hong Kong ? Macau ? Zhuhai bridge will be completed in a few years time shortening commuting time for people and flow of goods between these cities.

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There are two big stories to watch in the YRD this year and beyond ? the growth and consolidation of Shanghai as an urban centre and logistics and service hub, and the increasing competitiveness of the regional cities.

Shanghai itself is forecast to grow at a rate of 600,000 people, and 100,000 cars a year up to 2010. The structure of the city will change, with some 1m people being moved out to one of the nine new towns being created in the suburbs. New infrastructure is being constructed to handle the increased volume and new patterns of commuter travel. The downside of all this is of course increased costs, and land and labour costs go up.

In terms of moving goods not people, 2006 is a key year ? the first phase of the Yangshan Deep Water Port opens, linked to the city by a new 33km bridge across the sea. Many shipping lines have already moved there. When the port is complete, by around 2010, the city expects it to become the busiest in the world, ahead of Singapore and Hong Kong. New rail links for goods traffic around the city and out
to Jiangsu and Zhejiang will improve freight flow, as well.

The hardware is the easy bit however ? what about the ?software?, – human resources ? Roads and buildings can be built quickly in China, but developing truly international skill sets takes a lot longer. Many local university or education programs are still not well really focused on training candidates to international standards, the competition for the limited pool or truly experienced candidates is very high, and retaining good people is expensive. Local staff still have weaknesses with planning, innovation, and organisational complexity.

Equally, educating your customers in the local market about the values and benefits of service remains a challenge. Most of the potential market for services within Shanghai is still primarily among the MNCs, and while consumers are growing increasingly mature within China, local companies are still focused almost exclusively on price as opposed to the quality or value of services.

In addition, structural weaknesses remain in the economy. Apart from the hardy perennials of IP theft and government limitations and restrictions, contract law remains weak, and there are a lack of enforced standards in many industries. If you are competing for government business, you may find procurement processes can be very unclear with in many cases an ?uneven playing field?. You will find all these issues beyond Shanghai. On the other hand, we are finding that foreign investors in the manufacturing sector are increasingly moving out to places like Nanjing, Ningbo, Hefei and Hangzhou, as well as the second tier cities, to find more competitive costs. Why pay US$200/sq m in Waigaoqiao when you can pay US$30/sq m in Nanjing or US$22/sq m in Ningbo ? Land and labour are becoming increasingly expensive, and Shanghai?s development zones are approaching capacity. Government support for small projects is more difficult to obtain, and the authorities are also focusing more on high-tech and research industries, and attracting RHQs.

To support your supply chain, there are concentrations of good local companies in a wide range of sectors ? although there are still some gaps in provision. Labour costs are lower of course and skills are improving ? for example around RMB700/month for a manual worker in Hangzhou compared to RMB800-1200 in Shanghai, or RMB1500-2000 for a manager in Hefei compared to RMB5000 in Shanghai. These cities are also perfectly acceptable places to live, with small but growing expat communities and increasingly sophisticated services like schools and hospitals. There are however, very few experienced international quality professional services firms, with most services still being provided from Shanghai.

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Beijing will, as it has already started to do, become more of the focal point for China during 2006. Preparations (and indeed most tenders) for the Olympics are now mostly all underway, and with many schemes linked in any event to city planning and infrastructure developments, the steady rumble of construction will continue apace. New metro lines, airport runways and inner city road developments will all start to come to fruition.

We can expect another minor shift in the RMB/ USD position, probably sometime late spring, and the usual on-going political argy-bargy concerning trade deficits, but otherwise it?ll be pretty much holding the ship steady politically and business-wise for the year, a case of ??steady as she goes?. We do not believe the much hyped bird flu will pose any significant threat.

More interestingly, the re-discovery of North-East China will be the main highlight of the year, as foreign companies, looking for large semi-skilled and skilled workforces look further at sizing up the region for investments, especially those involved with heavy industry. Steel, shipbuilding, automotive, timber and the construction industries and sub-industries are of particular note here. Cities such as Tianjin, and Dalian, already well known to foreign investors, may face increasing competition from Changchun, Jilin and Shenyang as labour costs and rising costs of living force canny accountants to weigh up the expenses of relocating or moving further north. Expatriate life in China has already meant being prepared to move to the second tier cities and this trend will certainly continue further North and West in China?s hinterland.

Of course, it is not all plain sailing. Foreign investors we spoke to during 2005 report continuing difficulties with bureaucracy and approvals ? the local governments and development zones are simply not as internationally experienced in the North-East as they are in Beijing, Tianjin, Dalian or Shanghai. They seem to sit and wait for you to go to them, rather than reaching out and selling their facilities. This will change, but it will take time. That said, there are plenty of US and European investors in the north east who making a go of it, with GM, BMW and Michelin being some of the high-profile examples. Additionally, the central government?s policy on revitalizing the northeast means there are some additional incentives not available elsewhere ? VAT exemption in some
industries, mortgage extensions, additional infrastructure support, and so on ? as well as the chance to take majority stakes in some SOEs and infrastructure sectors previously closed to FDI. It?s worth investigating the detail here, and key to note that the current Minister of Commerce, Bo Xi Lai, is from the region (Dalian, Liaoning Province).

To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com