In the womb, the human embryo recapitulates the stages of evolution, developing and shedding gills and tails. In the same way, the journey along the new privately built toll superhighway between Hong Kong and Guanchou is a recapitulation of the evolution of modern economies. It begins in the post-industrial Hong Kong, travels through the High Tech Shenzhen Special Economic Zone and on to neo-rust belt Guangchou. The cranes and building sites sprouting along the route up the Pearl River give a palpable feeling of an economic giant springing to life. You can sense enterprise in the air. You can see affluence.
In Hong Kong itself, the epicentre of this economic earthquake, the new airport at Chek Lap Kok is one of the biggest civil engineering projects in the world. Despite early Chinese opposition to the whole endeavour, its progress symbolises a confidence in the future of Hong Kong, a place where the theme of confidence – or the lack of it – currently dominates discussion.
The fate of the soon to be abandoned Kai Tak airport is typical of the new, brashly confident Hong Kong, where trade, finance and services have displaced the old manufacturing sector, which has now moved across the border to the mainland.
Developers will swoop to build high-rise office blocks and luxury housing over the site, but Hong Kong has not totally given up manufacturing. It has just switched focus to what are known as ‘fashion products’ – time-sensitive high technology or big design input products with small production runs. The makers are described by Peter Woo, chairman of Wheelock and the man who financed the Hong Kong-Guanchou highway, as the ‘real heroes of Hong Kong,’ the 70,000 or so small and medium-sized export companies. Woo waxes rhapsodic about the future of, ‘A colony transformed into a merchant city, like Venice, Florence, or New York. A borrowed place on borrowed time.’
The shift of the more mundane manufacturing processes across the border has created over 3 per cent unemployment. Those out of work are mostly older, untrainable workers, but locals are highly disturbed by a rate that would seem utopian in most Western economies. And for all the unemployment, there is no shortage of opportunity for people with skills, drive, money or any combination of these. With just over a year to go until 1997, the Star Ferries are still laden with expatriate commuters.
There has been some capital flight from Hong Kong for fear of the political effects of 1997, but that seems to have been more than matched by an influx of investors salivating at the prospects of getting into China from a relatively more comfortable and secure base. The Americans, in particular, have been supplanting the official colonialists. Guaranteed a generally enthusiastic reception by the mainland, they seem to have few fears of 1997, helped by the fact that they have been winning brownie points with Beijing by lobbying against trade restrictions. They claim serious input with China on the basic law, assuring them of future business opportunities.
There are solid grounds for their confidence. As the biggest port in the world, and the commercial crossroads for the Pacific century, Hong Kong is hard to beat. It plays host to some 182 foreign bank offices; and its own banks, like Hang Seng, vie for the superlatives, encompassing the most profitable and biggest non-Japanese banks.
Across the border in the Shenzhen New Economic Zone a whole new city with 3 mn inhabitants has sprung up on the old paddy fields that spread under the British watch towers. By any developing world standards, Shenzhen’s rosy optimism appears justifiable – at least from the look of its clean and bustling streets. But there is a certain navety evident at the Shenzhen Stock Exchange, despite its ambitions to be a leading player in the Asia-Pacific region.
Sited in the Shenzhen municipal theatre, the all-electronic trading floor is strangely quiet, the nearest thing to excitement being the traditional bronze bell to mark the closing of trading for lunch. One looks in vain for the brokers’ Porsches. Instead, hidden down a ramp, are their bicycles: Chinese yuppies still have a long way to pedal, it seems.
The exchange’s category B shares – in which foreigners can invest – amount to less than ten per cent of the total, and only in the last year have any of them achieved a New York listing. Most of the investors are small retail punters whose motivation, one suspects, is more akin to the crowds thronging the race tracks than to strategic planners. They are proud that Reuters carries the Shenzhen index but ‘the investors are not so mature,’ admits the management.
Some of the euphoria about the Chinese market, especially among American investors, at the prospect of two billion armpits waiting for deodorants, has now evaporated. But there remain the success stories, such as that of Head & Shoulders, a product made in heaven for a billion heads of black hair on which dandruff stands out so well. And Coca Cola’s experience so far indicates that the home of tea is prepared to buy fizzy brown liquid instead, just as Unilever discovered that the Middle Kingdom will beat a path to the door of the company with a good detergent. Even McDonalds’ huge success in selling fast food to the Cantonese – of all people – shows what marketing can do when it is let loose.
Despite these successes, the talk among the disgruntled in Hong Kong is that 90 per cent of the joint ventures in China have yet to return profits to their foreign owners. A surprising number of business people agree with that assessment, but most qualify it substantially. Over at the American Chamber of Commerce, they nudge and wink ‘transfer pricing’, while offering a wide selection of pragmatic advice, tending towards a common point that money does not grow of its own accord. Like paddy fields, it needs intensive effort, but that does produce returns.
One American assesses it as follows: ‘The secret is that a very large, or a very small company where the president will be directly involved, can solve the China problem. Middle-sized companies don’t do so well because they don’t have the time and drive to deal with the complexities. In a joint venture, it is very much a matter of knowing exactly what you are doing, and knowing how long it will take to get established. And due diligence. Everyone in China tells you that they have the power to do everything. But they don’t.’
Others make favourable comparisons with the rest of the region, on the question of intellectual property rights, for example, which are better respected in China than in Taiwan, Thailand or Korea. Note the fact that, according to one observer, ‘The guy who pirated Deng’s daughter’s book got 23 years for it.’
And an American banker points out that China, unlike some of the region’s governments, does not rule out the establishment of wholly-owned subsidiaries by foreign companies, especially for export plants or those that bring in new technology, such as 3M. ‘It’s only three or four years since the Philippines allowed wholly-owned subsidiaries, so in some respects the Chinese are light years ahead,’ he says.
Although they are allowed, however, some caution that the wiser course is to acquire experience through a joint venture, only moving into a wholly-owned subsidiary after five or ten years. But this is not a universal view and one cynical investor warns that there are problems with anything less than a 100 per cent: ‘Even if the Chinese partner only has 30 per cent, there are many ways to stop something happening that they don’t like.’ Others emphasise the problem of liquidity: Chinese partners want to put their cash into property investments, so it is sometimes difficult to get yours out of them.
Wheelock chairman Peter Woo’s line on joint ventures is severe. ‘Do they have the capital?’ he asks. ‘And if not, let’s wait until they do. You need to have a good product, technology and marketing. The opportunity is there, but it’s tough. You have to be prepared not to see cash for a long time. China is like a sponge. Any capital, any liquidity is absorbed immediately, but even after it is sucked in, the sponge is still dry. Cash flow in a developing country is very slow, so lots of investors are getting no money back. The people who have made money in the 1990s are those who invested in the 1970s.’
Woo has positive things to say as well, noting that although China is a developing country, its work ethic and huge savings ratio differentiate it from a country like Mexico. Certainly some ventures are turning out well, including one in Guangdong by Amway, the American home products maker and retailer which invested $29.5 mn – a sensible sum given that any foreign investment estimated at over $30 mn has to be referred to Beijing.
Amway’s refreshingly direct American manager, John Trimulik, known as TK, is enthusiastic about his overwhelmingly local 400 staff. Part of the cost of doing business is that the company has to provide similar amenities to a Chinese state-owned company, such as a canteen, transport, medical care and housing for its staff. In return, it seems difficult for TK to praise the motivation and skills of the new employees fulsomely enough. His only real problem is that while there are plenty of people who know how to use PCs, far fewer have any mainframe experience.
Interestingly, and despite the massive migrant flows, Amway has found that it is not entirely a buyer’s market for skilled labour in China. When the company was recruiting, it discovered that some prospective employees had heard bad reports about certain foreign employers, especially those from Korea and Taiwan. As a result, they were anxious for reassurance that Amway would be a good company to work for. ‘But then they do work,’ says Trimulik.
Such details apart, the real questions for investors in China are the same as for those considering putting money into Hong Kong: how sure is continued political stability and how irreversible is the present open economic policy? Most investors are pretty confident about both, but more so about the second than the first.
Ashok Kothari, managing director of the Asia Pacific Industries Group, says baldly that the changes are irreversible. ‘Because when life gets better, it’s difficult to go back. I was in China in 1980, and the people are now better clothed, better fed and better housed.’ That doesn’t mean people should be rushing off to China with their hard-earned savings, he adds archly. ‘No one I know who invested in Chinese shares has done so to live off the income. But even so, some Chinese companies are very good value, among the very best.’
Indeed, Kothari says he would even invest in some of the Shenzhen B shares, and in some of the other companies going public. But he offers a note of caution, saying, ‘There is perhaps more optimism about some companies than is justified by the fundamentals but they are getting better at investor relations – after all, if they want to continue raising money from the market, they have to. In the same way they are getting better at corporate governance and fulfilling their responsibility to shareholders.’
Kothari knows that the greater rates of return offered to foreign investors in China are accompanied by higher risks. ‘But China is relatively easy to work in compared with some other Asian countries. One reason that they have expanded rapidly is that they are very pragmatic. For example, customs are illogical but simple. I’m less concerned about corruption. The payers are as guilty as the recipients. We don’t have extortion, we have foreign business people who take shortcuts.’
Those business people are concerned more with confidence than corruption, in fact, and tend to over-react to any indicators about the future. So, for example, they seized eagerly at the words of Lu Ping, the PRC negotiator who recently compared Hong Kong with an antique tea pot, in which, in the Chinese tradition, the sediment must be left undisturbed to preserve the flavour. On the other hand, an adverse article in Fortune had the business community clearly worried, belying their protestations of utter confidence.
In fact, the business community is not a homogeneous group and opinions differ between Chinese business people and their expatriate counterparts. For their part, the Chinese are mostly irredeemably cheerful about the future, whereas the expats are mostly officially cheerful, but give some indication of having their fingers crossed behind their backs.
The main concerns of the expatriates relate to the question of the amount of respect they can expect to see paid to the rule of law. That’s hardly surprising, in the light of some recent events. For example, no one would want to be in the predicament of the Australian businessman James Peng. In September of this year he was sentenced to 18 years in prison for refusing to accept that his $264 mn investment in a Shenzhen factory could be filched by Deng Xiaoping’s niece. ‘Mostly, investments are secure, it’s just that there’s small print, saying except if you tangle with the Deng family. But that can’t go on for much longer,’ notes one bullish Hong Kong investor. He’s not too bothered by this state of affairs because he believes it’s coming to an end, referring to Deng Xiaoping’s prospects. ‘At 91, he’s seemingly in the late Brezhnev phase of his political career, barely surviving.’
Regardless of the prognosis for Deng, the behaviour of the Hong Kong business community on the political front seems strange to an outsider. In most elections, companies tend to back the likely winners, usually by making donations to the likely winner. But publicly, at least, there were no corporate donors for Martin Lee’s Democratic Party, the victors in September’s elections, despite the fact that Lee claims to be in favour of low tax and minimal government intervention. ‘And we oppose the proposals for unemployment benefit,’ he explains proudly. ‘It’s the attitude here. When a bus driver sees someone in a Rolls Royce, he doesn’t resent him. He says, Even if I don’t sit in one, my son will.’
Of course, when Lee’s party won, Beijing reiterated its previous promise to scrap the legislature, even though its candidates had fought – and lost. And as a barrister, Lee is cautious about the Chinese. Despite the gung ho public face of the business community, he points out that of the top 530 companies, 249 are now registered in Bermuda and 51 in the Cayman islands – because of the ending of the Privy Council as final court. ‘I’m told that contracts are now written switching the jurisdiction of hearings,’ he says. And Lee doesn’t expect much help for democracy from the US. ‘Ron Brown came and made it plain that the US didn’t want a level playing field. It wanted one tilted in favour of the US, regardless of democracy or human rights.’
Asia Pacific’s Kothari, perhaps typically, shares few of Lee’s premonitions. He is even more confident of Hong Kong than of Guangdong. ‘The best is yet to come. The Chinese want Hong Kong to be very successful. The problem is that through lack of competence, they may mess things up with good intentions. It may be that for fear of rocking the boat they won’t make much needed changes, and so avoid reforms. For example it may be necessary to delink the US dollar and the Hong Kong dollar at some point, but they may decide not to.’
Ironically, the best hope for Hong Kong may be Taiwan, for which it is such a major conduit of money and trade with the mainland. In many ways, 1997 is a dry run for Taiwan. US military sources estimate that Beijing has a 20-30 year programme before it can develop the capability necessary to launch a military unification. If there is any hope of peaceful reunification, then the ‘one nation, two systems’ scenario has to work in Hong Kong in a way that will convince the Taiwanese. It might be that if the Taiwanese, probably the biggest investors in the mainland, had the confidence to put their money across the straits, others would want to get in on the ground floor as well.
Bill Overholt of Bankers Trust is the original bull in the China shop, and his prognosis is that after some flutters at the time of the handover, and some increased problems with crime and corruption, ‘the diminution of uncertainty should cause a great bull market.’
That may be over-enthusiastic, but the fundamental economic opportunities are undoubtedly there. The Beijing leadership may display crassness from time to time, but it’s worth remembering that China could have walked in and taken the place at any time since 1949. Instead, despite 100 flowers blossoming, Great Leaps Forward and Cultural Revolutions, it left Hong Kong alone, even protected it. In an uncertain world, the degree of risk involved in Hong Kong may be no greater than in other more traditionally stable investments – with due diligence, of course.
But you might still be wise to seek advice from James Peng before making too many financial commitments.
