Despite the popular notion that American jobs are being lost to
China, the fact of the matter is that the Chinese economy is a reality,
and it is a powerhouse. In addition, the economies of the United States
and China continue to find themselves more and more entwined, which
Chinese imports expected to reach $ 150 billion in 2003.
Conversely, China is the fastest growing market for U.S. products,
with U.S. exports to China expected to reach about $24 billion in 2003,
up over 35 percent since 2001. Besides buying from and selling to China,
more and more U.S. companies find themselves setting up joint ventures
with Chinese companies, not only to take advantage of cheap labor, parts
and land, but to gain a direct foothold in the exploding East Asian
consumer and commercial marketplaces. All of these initiatives have
significant implications for U.S. risk managers.
"For some businesses, problems with doing business in China
may crop up once of twice a year, but in our business, we see the
problems of doing business in China every day," reports Sam
Porteous, China country manager for Kroll Worldwide, in 5hanghai, China.
Some of the challenges include understanding the various natural
catastrophe exposures that exist, the levels of infrastructure, and the
availability of fire and security protection. "The greatest risk of
doing business in China is ignoring the risks, of putting people in
positions who ignore the risks," says Porteous. These may either be
expatriates of Chinese nationals who say things like, "Oh well,
it's China. That's the way things happen here, and there is
nothing we can do about it."
Not true. Porteous adds that it is important to remember that, from
1949 to about 1980, there was no commercial law or private enterprise in
China. "As such, we are in the midst of a transitional communist
system and a legal system that is still unformed," he says. In
other words, the idea of what is and what is not appropriate business
behavior is not yet solidly formed, so, in large part, "anything
goes." Tha alone presents multi national organizations with special
opportunities ... and perils.
When actually doing business in China, there are several risks
foreign businesspeople need to understand. The first is the importance
of going in with open eyes. "Recently, a U.S. company decided to
make an investment in the People's Republic of China by setting up
a joint company through its Hong Kong manufacturing agent," recalls
Stephen Nelson, partner and co-head of the China practice group for the
Hong Kong-based law firm Baker & McKenzie. "The U.S. company
sent over $3 million worth of equipment, then came to us with
documentation written in Chinese and asked, 'Can you look at this
and tell us whether we really own 50 percent of this company?" The
moral of the story is that foreigners simply cannot enter a venture in
China with only a cursory understanding of its terms and conditions.
From an investment perspective, when acquiring businesses in China,
ii is important to realize that there are perceived cultural
differences, according to Nelson. "I have seen more companies make
mistakes in negotiating commercial transactions in China in an attempt
to bend over backwards to accommodate cultural differences, than I have
seen companies make mistakes by failing to take cultural differences
into account," he says. In other words, you are better off
approaching a business transaction primarily as a business transaction
rather than a commercial endeavor in a strange culture. "For
example, when negotiating an acquisition in China, don't be too
wary of offending the Chinese people and thus failing to engage in the
due diligences one might do in other jurisdictions," he says.
Until recently, a lot of foreign companies only maintained
"representational offices" in China. "They 'planted
a flag' in China simply to gain access to the market," says
Porteous. "It is only when they start production in China or start
to get a significant volume of business that they begin to get
serious." However, by then, it can be too late if an anchor staff
has already been established and subsequently ignored for four or five
When starting business in China, the first step is to decide if you
are operating as a wholly owned situation or a joint venture. "You
have different objectives with each," says Bernard Fung, chairman
and CEO of Hong Kong-based Aon Asia. Aon-COFCO is the first
international broker with the right to carry out insurance and
reinsurance broking and risk management consulting in the People's
Republic of China. "For example, the goal of a joint venture is to
learn the technology transfer and then explore market opportunities
together with the foreign party." As such, you want to create risk
management programs under the standards of the U.S. corporation.
However, this can be a challenge if your joint venture partner is less
interested in risk management initiatives, which may be the case for a
number of reasons. For example, the partner may assume that the totality
of risk management is in insurance, which is the way things are
typically done in China. "Companies tend to retain very little
risk, preferring to cover everything with insurance," he says.
There are also different perceptions on the risks associated with
liabilities. "The legal system in China is evolving, and there is
not a lot of precedent yet with regard to liability exposures,"
In China, distribution and supplier fraud is common. Corrupt
networks, which are often red and sustained by kickbacks, can quickly
destroy an entire supply chain and cost structure, according to
Porteous. "For example, one company was paying on average 30
percent more for its inputs than it should have," he states.
"In this inquiry, we found an accountant who had quit working for
the company because, during the budget exercise, he was threatened with
bodily harm if he actually put in the budget what these inputs should
In terms of environmental regulations and other laws in China, the
law may say one thing, but the application of the law will some times
differ based on local conditions. "At any point in time, however,
local conditions may change, and you may be held accountable to the
letter of the law," says Fung. As such, companies that do anything
less than what the law says should always beware, even if the situation
is currently one of leniency and looking the other way.
"Furthermore, Chinese laws are not written as airtight as U.S. law,
so even if you feel you are complying with the laws, they may be
interpreted more broadly in such a way that you are considered not to be
in compliance," he adds.
In facing the inherent risks of doing business in China, there area
number of steps you should take. "Companies need to work around the
inherent nationalism that exists with much of the workforce in
China," suggests Porteous. It is important to find a way to blend
this with your own corporate culture. In many instances, companies
coming into China don't put the effort into implanting their own
corporate culture. "If they don't, the Chinese culture will
come in and fill the vacuum, which is not always a good thing," he
A lot of companies come in and put a layer of expatriates on top of
the Chinese company, but then never bother to monitor what is really
happening in the company. "You need to implement business controls
and then monitor them to make sure they are not al risk for internal
fraud, counterfeiting or other problems," says Porteous. "The
companies that are really succeeding in China are those that are
constantly monitoring what is taking place. They bring in outside
auditors and third-party companies to conduct inquiries."
Kroll, for example, has three types of business services in China.
One provides due diligence to companies looking for investments in
China, for investment partners, or for employees to hire. This is an
analysis of the in. vestment, company, or individual before they make a
commitment. A second is internal fraud investigations, which are usually
upped off by an anonymous letter of e-mail. "We have found
situations where everyone in an office has been involved in an illicit
or fraudulent operation, because one person hired everyone, and this
person is involved in this activity," says Porteous. This is called
a "hiring tribe." As such, Kroll encourages employers to mix
up their employees to make sure they are from different regions.
Third is intellectual property investigations (counterfeit issues).
This used to be a problem just internally, where the counterfeits were
being sold solely in China. "Now, these counterfeits are being
exported out of China and are showing up in markets around the
world," says Porteous. "This is a growing problem, because
China has become the 'workshop of the world." These can be
counterfeit electronics, auto parts, pharmaceuticals, food products,
handbags or almost any other retail of wholesale good imaginable.
There are three other specific risk is sues related to China:
maintaining local partnerships, fraud and corruption, and natural
Local partnerships. One area of concern is assessing the integrity
and capability of in-country individual with whom you may consider doing
business. "In trying to find partners in China, it is easy to be
misled by consultants claiming to have all sorts of connections in
China, such as a relative who is a high level party official," says
Nelson. Even if they do have these connections, which aren't always
the case, it does not mean that they can utilize them. In fact, paying a
consultant to help you with your endeavor will not necessarily put you
in a better position than if you did the work on your own. "You can
end up paying a fair bit of money and not getting much in return,"
he says. "You may be better off hiring a full-time employee with
the requisite experience in your field."
Internal Fraud and Corruption. Also known as "parallel
operations" internal fraud and corruption remains a massive problem
in China, says Porteous. There have been some times, he recalls, when he
has conducted up to three simultaneous inquiries into the general
managers of foreign subsidiaries all suspected of running parallel
operations. These are other companies that compete directly with the
company that is paying their check. In many instances, these individuals
have diverted resources from the foreign company to support their
parallel company. "In other words, a senior employee in your
company may also have another company on the side, and this fact is not
disclosed to you," he says.
This company often competes directly with your company or has an
other relationship with your company, such as being a supplier to, or
distributor for, your company. "We see instances where these
parallel operations use the logistics channels of our client
companies," he continues. In some cases, they also use the
company's technical specifications to counterfeit the
Natural Hazard Risks. A third specific risk relates to natural
hazards, such as earthquake, windstorms, floods and hail, which occur
throughout the country. Detailed investigation of these hazards is a
critical component of any decision to establish operations in China.
"In the absence of readily available material to map these
exposures, some foreign insurance companies licensed in China have
undertaken their own research efforts to understand these exposures and
be better prepared to advise customers," according to Brendon
Allen, senior vice president and Asia/Pacific underwriting officer for
the Chubb Group, based in Warren, New Jersey.
The economy has grown in the last decade at compound rates, and the
ability for the infrastructure to keep pace with the economic growth has
created significant challenges for local authorities. "Levels of
available water supply, public fire fighting equipment and the
experience of fire fighting personnel vary dramatically from location to
location," says Allen. The authorities have established numerous
standards. However, due to resource constraints, many areas struggle to
meet these standards. Chinese design codes have been established, and
these codes adopt the latest fire protection technologies, for example.
"These standards, however, which are updated every five years, are
all written in Chinese with no English version avail able," Allen
There area small number of private engineering consultants and
construction supervision firms that are licensed to advise companies on
private protection requirements. In addition, there are some state owned
firms that have been accredited to internationally held safety
"Testing laboratories have been established to certify the
protection equipment and apparatus manufactured in China as well as
equipment imported from other countries," says Allen.
Security in major cities, in particular in state-level industrial
parks and development zones, is generally very good. Central Station
security alarm monitoring, however, is not readily available, and
companies generally rely on security contractors that provide 24-hour
watchman services manned by retired military and police.
"Overall, risk managers should work closely with insurance
carriers that have trained and experienced loss control services
available on the ground to advise them on exposures in China and to help
them develop contingency plans to minimize their exposure to loss,"
Selling to China
Even for organizations that do not purchase products from China of
have operations in the country, there is still some risk to be faced,
such as that stemming from selling products to China.
"The biggest risk for foreign companies selling into China is
pretty clear: payment risk," says Nelson. "In Fact, this is a
greater risk in China than it might be in many other countries, because
it is more difficult to enforce a judgment debt in the People's
Republic of China than it is in more developed jurisdictions, such as
Western European countries."
In addition, you may find out, too late, that the person with whom
you are dealing does not have the authority to bind the company from a
legal standpoint, of the company may not have the authority to enter
into the transaction.
It is a good idea to do company searches in China, according to
Nelson. "These are possible to do in order to identify the
company's general credit rating. They are not as reliable as a Dun
& Bradstreet, but they can still be useful."
The current Chinese leadership is very focused on developing the
economy and is becoming less politicized, according to Fung. "As
such, the economy should continue to grow steadily, at least over the
next 12 to 18 months." This only proves the continuing nature of
China's dynamic economy, one where more Western businesses are
bound to set up shop, and manage the risks--and rewards--that come with
William Atkinson is a freelance writer with more than 20 years of
experience with risk management-related topics. He is a recurring
contributor to Risk Management Magazine.