Doing business with China: Looking east: risks and rewards for businesses

See: NBR Special Feature: Doing business with China

New lessons are learned every day on doing business with China, the world’s second-largest economy.

Just this week, the pioneer of Western fast food in China decided to upend its operation and turn it over to local operators. Yum Brands, which owns the KFC, Pizza Hut and Taco Bell restaurant franchises, first entered the Chinese market in 1987.

It quickly established itself and became a success story, with 4900 KFCs in 1000 Chinese cities as well as 1400 Pizza Hut stores and nearly 300 delivery outlets. Yum also owns a Chinese chain of hot-pot stores called Little Sheep.

But these nearly 7000 operations have turned sour for Yum over the past three years, turning from being the stars of its global portfolio to a liability.

Hence the decision to split off the China business and turn it into a separate, publicly traded franchisee.

Widespread issues
Unfortunately, the problems that beset Yum are not unknown to a raft of other multinational companies operating in China, from McDonald’s to Mercedes Benz. These include food-safety scares, which have hit New Zealand exporters, as well as accusations of price gouging, dodgy product quality, bribery and refusing to handle consumer complaints.

In the wider picture, companies have also been affected by economic volatility, heightened competition, poor choice of business partners and misreading the market.

China has also tightened the laws and obligations for foreign companies as part of a general purge against corruption among government officials.

Observers of the Chinese scene constantly warn of these dangers, while outsiders also chart the impact of China’s slowing economy on the global scene.

The September quarter featured several policy missteps that dented growth, rattled global markets and lowered confidence in Beijing’s economic management.

The government botched a rescue of the stock markets, which fell 29% during the quarter before partially recovering this month, and announced a surprise devaluation of the currency – a move that global investors saw as a sign that China’s economy was struggling.

March to market economics
Overall, China’s economy remains hobbled by hefty debt, overbuilding in housing and excess manufacturing capacity.

The manufacturing sector has seen slumping profits and 43 straight months of deflation.

But these are also part of the process toward China’s fuller embrace of market economics, reform of its financial system and more sustainable growth.

Its state-owned companies are being put on a more commercial basis and the renminbi, or yuan, is being moved to a more convertible currency to meet the conditions of being accepted into the special drawing rights basket run by the International Monetary Fund (see box story).

In reacting to this week’s announcement of third quarter growth for 2015, Premier Li Keqiang was quoted as saying, “even though it was 6.9%, it is still a growth rate of around 7%.”

He said employment had improved and innovation was helping the country restructure the economy from an export focus of consumer goods to a high-value one based on higher domestic consumption.

Companies doing business in China need to be mindful of the changing requirements of risk management.

Multinational insurer AIG says two areas where protection is either mandatory or highly recommended are in governance and the environment.

Ben Vale, manager of AIG’s Asia Pacific multinational risk practice, says cover is now mandatory for companies in a variety of industries that produce heavy metal pollutants.

“There was a long period when nothing was done and now they’re making some big reforms from an environment perspective in a very short period,” he says.

“Directors and officers need to keep an eye on where insurance is compulsory and make sure they comply with those laws.”

Insurance rules
Although few New Zealand companies will be involved in heavy industries, they may be dealing with other companies that are.

In governance, issues arise over payment of defence costs for local directors and officers not covered by global policies, the interests of joint-venture partners and laws covering employment obligations. 

In food safety areas, insurance is less developed.

“The ability to respond to such a claim in China requires a local policy,” Mr Vale says.  “Having a local policy with local language will help in reputational issues and in communicating with the public, areas that are critical to those in food and beverage.”

Mr Vale says the China market is unique because of the large degree of state or public ownership.

“Just because they are state-owned companies doesn’t necessarily mean they have a strong risk management background or focus. This should not be taken for granted whether state or privately owned.”

He advises insured parties to be careful about the structure of their arrangements and if necessary have a clause in agreements to reveal a minimum level of insurance.

“This is the easiest way to get some form of visibility of any cover in place.

As one of 10 designated global “too big to fail” insurance companies, AIG will remain a significance presence in China.

But the industry was shocked last week when IAG, the unrelated Australia-based insurer, scrapped plans for further investment in China.

Chief executive officer Mike Wilkins says the company will instead seek growth in other Asian markets. “After completing significant work on assessing the opportunities available, IAG has determined not to pursue further investment in China,” he said in a statement. “While we believe in the fundamentals of China, our future focus will be on pursuing growth opportunities in our other Asian markets and our core businesses in Australia and New Zealand.”

In 2001, IAG bought a 20% interest in Tianjin-based Bohai Property Insurance for about $A100 million.

Renminbi’s direction a balancing act