Topic: Management

For 5,000 years the mythical dragon has been a potent symbol of China. As the myth goes, China’s first emperor rode a dragon down from heaven. Considering that the dragon’s power represents both prosperity and danger, US companies would do well to heed the double symbolism as they consider expanding into what many experts see as the twenty-first century’s most lucrative market.

China is a vast landmass - the fourth largest nation in the world in geographic terms. It is the world’s largest nation in terms of population, with 1.3 billion people. Since 1980, China’s GDP (gross domestic product) has grown at close to 8 percent annually - a historical first among nations in longevity and rate of growth. In 2003, its GDP grew more than 9 percent to $1.38 trillion.

US exports to China are rising at almost 12 percent annually since 1990. The pace continues to accelerate rapidly since the Asian giant joined the World Trade Organization on December 11, 2001. In 2003 and 2004, our exports to China rose 29 percent and 22 percent, respectively. In dollar figures, US exports exceeded $28 billion in 2003.

Based on these figures, it’s no surprise that US companies are intensely interested in selling to China. There are many notable success stories. Motorola, whose name is synonymous with cell phones in that country, derived fully 10 percent of its 2003 revenues of $27 billion from China. General Electric’s sales in China reached $2.6 billion in 2003. GE’s CEO Jeffrey Immelt expects the company to hit $5 billion in sales in China this year. Dell Computer’s sales in China grew 60 percent in 2003, making it the company’s fourth largest national market. Wal-Mart, which earned $700 million in China in 2003, is expanding as rapidly as the Chinese government will allow in hopes of capturing a substantial share of a retail market that is expected to grow to $2.4 trillion over the next 20 years.

China may represent a treasure trove of business potential, but it remains a risk-laden market in the throes of change. Broken contracts and intellectual property rights violations are common occurrences, not to mention the country’s legendary local political graft and favoritism. The US software industry estimates that 95 percent of all software programs in use in China are pirated. The Japanese electronics company, Toshiba, was dismayed to learn that it had captured 11.5 percent of the Chinese market in computer batteries in 2002 - unfortunately, the company did not sell its batteries in that country. Counterfeiters had hijacked its name.

Sales in China, as in any other country, do not always equate to profits. In 2002, Pepsi celebrated its twentieth anniversary in China. After investing $500 million in the establishment of 30 businesses, the soft-drink giant was approaching $1 billion in annual sales in China. The only problem is that after investments and marketing costs, and two decades, Pepsi has yet to turn a profit on its Chinese operations. It hopes to record its first profit this year.

How can US companies earn a share of the dragon’s treasure without getting burned? Start by understanding the country, say the experts.

The Realities of China Trade

We Americans often mistakenly see China as a marketplace that is similar to our own. We expect to find a huge, homogenous and relatively prosperous population united under a central government supported by established institutions and infrastructure. This is far from an accurate picture.

“You have to keep in mind that China is not just one big country,” says Dr. George Haley, professor of industrial marketing and international business at the University of New Haven and coauthor of The Chinese Tao of Business (Wiley, 2004). “You have got 31 different provinces. And you have different practices and different perspectives in each one. You have different laws in each one.”

China’s government, which is controlled by the Chinese Communist Party (CCP), operates in administrative regions. “Contrary to what most Americans expect, China’s government is very decentralized, and its power is fragmented,” explains Haley. “This, actually, is very much like they used to govern in ancient times. The central party in Beijing basically contracts out control of the local and municipal government to the local party units.” China’s decentralized political character means that governmental policy, law and regulatory environments vary by region.

The prosperity and development of China’s semiautonomous regions also varies widely. Most of the large cities and industries are concentrated in eastern and coastal China. The interior is largely undeveloped. Although China’s population is in the process of migrating to the urban centers, roughly 800 million Chinese live in rural areas and have a per capita annual net income of $299. (The remaining 500 million people, who live in the cities, have more than three times the rural annual income, but that figure is still less than $1,000 annually.)

China’s regional nature, which makes it more like Europe than the United States, impacts business. “Not only is there no central clearing house for finances yet, there is no well-developed distribution system. You can’t rely on just going in and putting your goods in the hopper and watching them go all over the country,” says Sidney Rittenberg, an American-born communist. Rittenberg joined the Communist Revolution in China after World War II while it was still being fought. He lived in China for four decades and served as a midlevel party official. During Mao’s long, mercurial reign, Rittenberg was twice falsely accused of spying and spent a total of 16 years in Chinese prisons. Today, at 83, Rittenberg lives in the United States and travels to China approximately six times per year as a valued advisor to top US executives at such companies as Intel, Microsoft, Dell and Prudential Insurance.

Rittenberg suggests that companies should devote triple the amount of normal time when it comes to preparing to do business in China. “If companies don’t understand that before they begin, it’s awfully expensive,” he says. “The tuition fee is very high once you have got a big operation going there.”

Identify Your Market

China’s diversity and varying stages of development make market research a particularly important task when it comes to selling. “A lot of people are coming to us and saying, ‘I have to be in this market,’” says Chris Runckel, president of Runckel & Associates and a former senior US diplomat in Beijing with three decades of experience in Asia. “They are listening to the population statistics and the growth statistics, but they are not really looking at the facts.”

Runckel says that companies must start with an entry strategy for selling to China. “One thing,” he asks, “Is there a market for your product? There is really no China-wide market. It’s more of a series of markets. And two, if there is a market for your product, who are your competitors in China, both international and domestic? How will factors in China, such as the weak intellectual property regime and the fractionalization of the markets, impact you in terms of sales of your product? Then, if it really looks like the opportunity is there for you, how do you take advantage of that opportunity, where do you start, how do you start and what is your ultimate build-up plan in terms of trying to gain entry into that market?”

These are basic questions, but US companies seeking to enter China have often ignored them. IBM, for instance, recently made headlines when it sold its money-losing PC unit to Chinese computer maker Lenovo for $1.75 billion, but its entrance into China in the 1980s was much less successful.

“IBM got off to a very slow start in the early 1980s. It took over a decade because they couldn’t adjust themselves to the Chinese market,” remembers Sidney Rittenberg. “When they set up the PC company, they went into Beijing, and they leased two floors of the Great Wall Sheraton Hotel, the biggest hotel in town in those days. And they literally sat in their hotel suites waiting for the Chinese to call them on the phone and order computers. The then-president of IBM China actually told us: ‘We think PCs should be sold by gentlemen in white shirts and dark suits, and we are not going to go slogging around through the mud in China to sell them.’”

Few Chinese came to call. After several years, the IBM PC unit realized it needed to reach out and create a sales and service network but then shot itself in the foot once more. “We got a notice that they were holding the first training session in Beijing and it was going to be on October 1,” says Rittenberg. “My wife called them and asked if they noticed that October 1 was National Day. It was a holiday, and no one was going to show up.

“IBM made a great effort; they spent a lot of money. And a couple of years later they dismantled the PC operation and went home. I think the number-one mistake probably is that kind of mistake - that is, failing to do due diligence on the market [and] failing to study the special features of the Chinese market and just going in planning to market the way they do everywhere else in the world.”

It’s All About Relationships

The second most common mistake US companies hoping to sell to China make is attempting to import their sales process along with their products and services. The Chinese simply do not respond well to the typical qualify, present and close sales process. The reason is “relationships,” says Dr. Charles Lee, who grew up in China and emigrated to the United States where he worked for AT&T, Exxon and Xerox before forming a venture capital firm that specializes in China. “It’s all relationship. The relationship in Asia, in China particularly, was developed and refined over 5,000 years. When you are selling things based on relationships, it is the feeling which is more important than the content…whom you buy it from rather than what you buy.”

In other words, the sales cycle in China is front-loaded in terms of time and effort. The development of a network of relationships, what the Chinese call guanxi, takes precedence over transactions.

AT&T learned this lesson the hard way in the 1970s, when Lee, who was then working in marketing for the company, used his guanxi to solicit an invitation for AT&T executives to visit China as guests of the Ministry of Post and Telecommunications. The trip was a success, but afterwards, AT&T - who according to Lee believed “China had nothing to offer” - dropped the budding relationship, which was an insult to the Chinese officials.

“Later,” remembers Lee, “AT&T was trying to get back. This time, one of China’s vice premiers was visiting the United States, and AT&T snubbed him by not welcoming him. This vice premier was in charge of science and technology, and the state council just barred AT&T from doing any business in China.”

Individual salespeople can stand head and shoulders above other international competitors by using some simple tactics to develop their guanxi. For instance, be prepared to spend a significant amount of time in China. If you will relocate there, plan to stay for two or more years. If you travel between the United States and China, plan trips on a quarterly basis, and stay at least a week. Learn to speak simple sentences in Mandarin. The effort to communicate with the Chinese in their language is appreciated. Finally, make personal, lasting connections with individuals. Entertain liberally. Share information about your family and your interests.

“It’s much more personal,” explains Runckel. “It’s not going to come that quickly in China; it takes time to build the relationship and to build that sense of trust. Although oftentimes it can lead to very quick and very major sales after that point.”

No matter how skilled American salespeople are at relationship building, it isn’t likely they can beat the Chinese at the guanxi game. The Chinese have an insular nature. They are connected by cultural and racial ties that stretch back thousands of years. All things being equal, they would prefer to do business with each other. Further, guanxi is facilitated by gift giving. The Chinese accept this as a matter of course, but it is, of course, illegal for American companies to give gifts in return for business, and so they cannot participate in this practice. Happily, however, American companies do have significant competitive advantages they can bring to bear in China.

Competitive Triad

American technology, quality and service are all highly regarded in China. Chinese buyers are willing to pay a premium for the sophistication of many American products. Chinese companies, by and large, cannot yet match these qualities, although the situation is changing as the country races to become more competitive in global markets.

This is why Dr. Paul Clifford, Managing Partner of Mercer Management Consulting (MMC) in Beijing, recommends a selling strategy that mixes East and West. “Clearly,” says Clifford, “the people who are successful in the China market bring a good blend of local ways of doing things and their best in terms of technology and the after-sales service to bear in the China market. You need to find a nice, healthy balance between those two traditions if you like. Therefore, the way you compete is on quality, technology and service, plus strong relationships.”

A strategy like this is something of a tightrope walk. The challenge for American companies is threefold: they must build relationships without crossing the line into unacceptable practices; sell technologically-advanced, high-quality products without losing control of their intellectual property rights; and provide superlative service in a marketplace that is often lacking in both qualified employees and logistical infrastructure.

To meet the first challenge, many US companies reach out to native Chinese salespeople and executives who are experienced and well connected. “Motorola has done outstandingly well in this sense,” says Rittenberg. “They got lots and lots of bright young people to do the sales - bright, young Hong Kong Chinese. They found a really super [former] chairman for Motorola China, a gentleman named PY Lai who was originally with Intel. He is Malaysian Chinese. He made Motorola China look like a Chinese company in that he established very good relations with the government leaders and with Chinese businesspeople.”

Clifford from MMC adds, “Companies constantly have to pay attention to monitoring their sales organizations to avoid the emergence of those unethical practices that would be unacceptable. Quite frankly, that is a major issue in selling in China.”

To accomplish the second challenge, American sellers must recognize and adjust for the vagaries of the Chinese legal system. The courts are not independent in China; they are controlled by local party officials. Thus, intellectual property rights (IPR) may or may not be protected, depending on the party’s attitude in the region in which you are operating.

The legal system and the widespread Chinese practice of treating knowledge as fair game are the main reasons why piracy is rife in China. Proctor & Gamble, for instance, is successful selling in China, but Haley reports in his book that by a conservative estimate, 15 percent to 20 percent of all P&G products on Chinese store shelves are counterfeit. In 2000, the company cancelled contracts with two major Chinese packaging suppliers after discovering that the suppliers were the source of the packaging used on counterfeits.

Companies entering China must have a defensive strategy. “It depends product by product, of course,” explains Clifford. “In some areas, the product cycle is so short that if Chinese are imitating you or ripping you off, you will be able to keep ahead. Your strategic control is the pace of technology. Another route would be to make sure that if you produce in China that you produce in a more protected situation…a wholly owned enterprise rather than a joint venture. There are other methods, such as only bringing part of your technology and leaving part of it offshore, but ultimately, for many players, the risk of not coming to China is probably greater. There is a view that you should use your technology now or lose it.”

Compounding the IPR challenge is the fact that the Chinese do not have the same view of contracts as Americans. They see contracts as a ceremonial marking of a formal relationship, but don’t necessarily consider them legally binding. “One of the problems,” says Clifford, “is that since Chinese business is very largely done on a relationship basis, you will find that Chinese companies will feel free to rewrite the terms and conditions. They will change things on you and will give you many reasons why they can’t pay.”

The solution to the contract conundrum lies in the savvy selection of customers. In other words, during the extensive relationship-building process that invariably precedes a sale, you should be evaluating your prospective customer as intently as he is evaluating you. “You have to do a really good, strong investigation into the background of any company you are dealing with, of any person that you really put your money into,” says Haley. “You are looking for past experiences that people have had. You are looking for the reputation that they have for loyalty, for honesty, for keeping their word, for ethical behavior.” The business-relationship process may be hindered by racial and cultural stereotypes, so we checked with China expert Lee for advice. (See sidebar “Cowboys and Dragons.”)

To accomplish the third challenge, American sellers must ensure that they can provide the same levels of postsale service in China that they offer in the domestic market. The barriers here are a lack of trained service employees and incomplete logistics and distribution infrastructure.

Says Haley, “One of the areas where the Chinese companies are weakest is in service. So, if you maintain not only a quality product image but also a quality service image, you are much better off. There are two things you really need to look at. Number one is you have to constantly be involved with ensuring that to the extent you use local distributors and local service providers…you…make sure they are doing things correctly and up to the standards that you require and your products require.

“The other thing,” continues Haley, “is to the extent your product needs specialized shipping capabilities, you really have to be careful with the infrastructure. You have to visit those markets to make sure that the facilities are there to transport the goods, to store the goods, to sell the goods. If you contract to ship goods that need, for instance, shipping under pressure or refrigerated shipping, you really have to monitor the shipping to make sure that it is maintained in proper refrigerated conditions and that there is the capacity actually to ship it that way.”

This all adds up to a substantial challenge and opportunity. Clearly, selling in China can often be problematic. Likewise, the opportunities are undeniable in this nation. China is simultaneously emerging developmentally and transforming from a centrally planned economy to a private, market-driven one - an economy that is predicted to become the largest in the world in the next 50 years.

“You will see wave upon wave of development in China,” concludes MMC’s Clifford, “and any sales organization needs to think about and address that.”