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5 Ways China’s 19th Party Congress Could Impact Foreign Companies in China

Nov 6, 2017

Five years ago China was heavy on fixed assets. CorruGreat Hall of the People Beijing Manufacturing and Distribution Solutions ption was rampant. The global financial crisis was winding down but still smoldering, and top leadership was focused on preventing a Soviet-style collapse.  Five years ago China’s 18th Party Congress injected cash into the economy and advanced reforms… and now the 19th Party Congress just stepped on the gas.  As Randal Phillips, Mintz Group's Managing Partner for Asia, summarized for CCTV Business, “Expect what you’ve seen for the last five years on steroids going forward.  It’s clear where the power is. Now it’s all about results.” 

What results can we expect?  The 19th Party Congress laid out a clear vision with consolidated leadership to drive accountability and execution. Five areas in particular will impact foreign companies with China interests.  Here’s how.

Environmental Clean-up

The idea of a “Beautiful China” was introduced at the 19th Party Congress and consolidates current environmental clean-up efforts happening around the country into one cohesive narrative.  The impact on supply chains across China is already being felt, as we discussed in our recent article about increased enforcement of environmental laws.  China’s focus on greener and cleaner places for people to live and work is driving manufacturing out of populated areas and in some cases out of the country altogether (as seen in select heavy industries).  

Current laws for environmental controls are being enforced with increasing rigor now that the 19th Party Congress has mandated the Central Commission for Discipline Inspection (CCDI), China’s top anti-corruption body for enforcing Party discipline, get involved in enforcement.  This is new, and this is big.

Call to action:  Diversify your supply base.  Don’t wait for production lines and factories to get shut down.  Have plans B and C in your back pocket now.

Intellectual Property (IP)

There are two forces driving tighter enforcement of IP.  1) In order to attract more foreign investment, China realizes it must lower risks for foreign firms interested in bringing technologies to China.  2) China desires to have its own inventions serve domestic demand and accelerate export.  

For example, China-based DJI is a global leader in drone technologies (one large customer includes the US military).  In the past, China didn’t see a need for a level playing field for IP.  But as China develops more leading high-tech industries to export, China realizes that if it asks for protection abroad, it must reciprocate at home.

In 2015 China received over one million patent applications (compared to the USA with around half that number). Enforcement just got better thanks to the 19th Party Congress. In the past, judges were beholden to municipalities. Now they answer to the central government, which should yield better consistency in decision making.  Consistency yields clarity around which multi-national companies can solidify strategy and lower risk.

Call to action:  If you haven’t applied for patents in China, now is the time.  Conduct a legal audit to confirm your key technologies are protected.

Corruption

The volume on China’s two-year+ crackdown on corruption just got louder. In his 3-1/2 hour speech, President Xi reinforced that “the people resent corruption most, and corruption is the greatest threat our party faces.”  This is welcome news for multi--national firms demanding transparency and execution of consistent ethical business practices at all levels of the organization.  Long accustomed to nonconventional sources of income, this paradigm shift is cultural and will not disappear overnight. It’s important for line staff to see enforcement pushed down from the top to the middle of the organization to make it clear the new normal applies to them.  

Call to action: Assume everyone is vulnerable. Tailor an ethics program for your China staff, hold them accountable, and protect (and reward) whistle blowers.   Another option: outsource vulnerable business practices to 3rd party companies like CMD, as a check and balance for your interests.   

More Competition

We were promised a level playing field and more progress on opening-up the Chinese economy.   Will more party control lead to freer markets?  That’s the basic idea.  As with IP, China desires reciprocity abroad, and that means providing parity at home.   While foreign direct investment has always been welcome, regional consistency is still needed at the implementation level. Investors often run into red tape regarding patents, regulatory compliance, licensing, and taxation.

More competition does not include privatization of State Owned Enterprises (SOEs). Supply-side structural reforms include reforming SOEs in three steps: make them bigger (combine them), make them better (consolidate, keep desirable functions) and make them stronger (streamline efficiencies and reduce capacity).  

Call to action:  Know who your state-run competitors (and suppliers) are have a game plan for how consolidation will impact your market position (and supply chain).   Continued challenges, according to Yvonne Zhou, Global Partner for BCG, will be red tape for businesses in China. Teams at CMD can help navigate all three.

Balancing Trade

China is keen to close the trade gap to sustain friendly foreign relations.  The expansion of existing Free Trade Zones (FTZs), new FTZs, new Free Trade Ports (FTPs), and an opening of previously restricted industries for investment—were all announced.

With respect to the USA, China intends not to close the trade gap by reducing $480 billion USD in exports but instead increase imports from their current level of $120 billion USD.  China sees a double opportunity to close the poverty gap along with the trade gap. Fuelled by continued year on year growth of 6-7%, China’s vision includes raising more people out of poverty. Specifically, targets include increasing from $8,600 USD per capita GDP to $12,000 USD by 2020 and $20,000 USD by 2030.  Higher spending power will drive demand for everything, including foreign goods.

Call to Action:  Doors will be opening (e.g., the ban on USDA beef was recently lifted) with more to come.  Analyse where you have opportunity to sell more of what you make outside of China -- in China

Conclusion: Shift from Quantitative to Qualitative

The big takeaway?  Multi-national firms seeking a level playing field have cause for optimism.  What China sees as pro-party and anti-party are now aligned under Xi Thought for a Beautiful China.  If you pollute, you’re anti-party.  If you’re involved in corruption, you’re anti-party.  If you poach a patent, you’re anti party. The opposite of trickle down, reform is now expected from the ground up. 

Finally, with Beautiful China, President Xi advocates changing how success is measured from quantitative measures (like GDP growth %) to qualitative measures (like air quality).  Beautiful China also includes a better house for those on the bottom rung of the economic ladder. For the first time “Poverty Alleviation” was written into the constitution as a goal. 

The focus for years has been on economic gains.  Will China be willing to trade off slower economic growth for a beautiful life?  We’ll see.

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Topics: Thought Leadership