Financial loss focuses the mind

The financial loss associated with full or partial failure is considerable. It is estimated that between 37 and 70 per cent of international joint ventures are not successful (Pothukuchi et al. 2002; Haskins and International 1989). A survey by the international consultancy AT Kearney showed that more than two-thirds of companies surveyed were unprofitable (Ellingsen 1999).

Culture has only become important in international companies since it was recognised as a cost to business. Culture is important, as Pape (1999) points out. The trend may not be towards a common global business culture but towards business tribes each sharing an individual culture. This is probably due in part to the difficulty in defining, measuring and quantifying cultural costs. There have been many attempts to put cultural differences into a framework of this nature.

It has been argued that where the host country is a high context culture (Hall 1990) and has a less-structured legal system, investing organisations, particularly if large and inflexible, should try not to pursue non-equity-based modes of entry (Brouthers 2002). To date, approaches measuring cultural differences have not been totally satisfactory (Lu 2002). Therefore, the concept of adding cultural differences to potential costs has been a challenge because of the difficulty in producing uniform systems of variables for accurate measurement to determine the exact cost.

The proliferation of cross-cultural businesses in China has attracted the attention of many companies with aspirations for growth. The problem for small-market industrial nations with small local companies (that is, small by international standards), that seek growth in China’s comparatively vast market, is that losses can be crippling to their domestic operations. Investment failures are usually attributed to factors such as poor entry strategies, a lack of resources and inadequate demand for the product or service. But these are surface-level symptoms rather than the real causes of failure.

What can be argued is that if cultural differences had been taken into consideration at the strategic level, these symptoms may not have surfaced. For example, if the cultural differences between the home and host countries’ consumer behaviour are identified and measurement of procedures put in place, failures can be prevented. Costs can be saved from more efficient and effective communication and actions. Mistakes can be avoided. Projections can be closer to reality if cultural differences are identified, and therefore strategies can be set in place for the actual level of consumer demands. This avoids the costly shock of realising the poor correlation between predictions and actual figures. Further, companies often fail to take opportunity costs into consideration.

Market research must be best possible

In the case of Foster’s, strategies sketched out at its Melbourne head office did not reflect the reality of the Chinese market. Research was carried out by large consulting firms who sold reports with endorsed brand names. No one really questioned how the research was done and how data was collected. In the 21st century, the availability of data in China has improved dramatically from the 1980s and the 1990s. Even so, secondary data only has reference value.

In the early 1990s when Foster’s purchased an expensive research report from a Hong Kong firm, not only the data and the quality of its real value was questionable, but even worse, part or all of it was the same report sold to other international breweries. International competitors competed in the same city, Shanghai for example, with very similar strategies based on the same report. It is a very good lesson as to why companies should compile reports by engaging their own consultants rather than buying reports from large firms, especially those with big brand names.

China has a distinctly different economic structure to the majority of destination countries for foreign direct investment (Zhu and Dowling 1994) and it is part of its very different business culture. This structure is more complex than the general understanding of China as a centrally planned economy. It has a unique structure involving a hierarchical order of enterprises, the result of the centrally planned economy, based on its five-year plan which resulted in certain industries being listed as more important than others for each five-year plan. The first and the second five-year plans had focused on heavy industry and so did the fourth five-year plan, which caused serious imbalance (Ma 1990). The measure of value used in China is based on the gross industrial output, which forms the base of its planned economy.

The use of this measure has been necessary because of the size and scale of Chinese enterprises as well as the planned economy (Wong 1987). These are the major characteristics of a socialist planned economy in which the means of production is publicly owned (Ma 1990). Enterprises are state owned and funded by the state from budgets based on a five-year plan. These plans ensure and promote the development of the national economy, raising the standard of the people’s material well-being as a whole. It is important for foreign investors to understand this and to consider the effect on the structure of the distribution system. This system was established on the basis of a centrally planned economy.

A major part of any investment relies on the supporting system. The above two areas (the centrally planned economy and government allocated financial resources) of distinct differences in China are specifically related to its contemporary socialism culture which was based on traditional Chinese culture, Soviet socialism culture and socialism ideology. Not understanding this background will result in strategies that cannot be effectively implemented. In 2010, although many aspects of the Chinese market have changed, its centrally planned economic structure is still in place. For each five-year plan, there is usually a different focus on an area of development.

Corporations must give the awareness of cultural differences a high priority at the strategic level. Where differences are considered after an entry strategy has been decided, adjustments are necessary during the process of implementation. This means existing strategies are often ineffective. But had cultural differences been considered early at strategic level, their influence would have had an impact on investment decisions.

Among many companies that have not performed ideally in China, the decision to enter the market was often based heavily on potential market size and labour costs. In reality, the pervasive cultural differences mean the Chinese market structure is often very foreign to multinational companies. Consumers are very different in their tastes and buying habits. For instance, in China they purchase small quantities of goods more frequently, rather than large quantities at longer intervals. As well as eating different food to Western consumers, Chinese prefer beer with a less hopsy taste, which is why most international breweries in China today sell mainly light beers.

Preparation is a long-term process

The investment process is likely to be long term. The size of the market requires large investments and this reality often catches organisations off-guard in terms of capital requirements. Generally, preparation to penetrate the Chinese market takes an average of two years. This is mainly because of a relationship-based business structure in which Western companies are required to ‘get to know’ their Chinese friends first before doing business together. This involves back-and-forth trips to China, usually four times a year. Often Western business people, who do not see a tangible result, consider travelling as a waste of resources.

Small companies, particularly from Australia, that cannot make the capital commitment to these preliminaries, often are forced to abandon projects. At other times, projects are rushed into to save costs and therefore preparation is poor and plans are not well thought out, which impinges on future projects. It could be argued that Foster’s selling the joint ventures in Guangdong and Tianjin fell into this category.

By adding consideration of cultural differences at the investment strategy level, decisions will need to be made differently. If the issue is a lack of capital commitment, the entry strategy may be abandoned entirely to avoid financial losses. It is advisable that human resources policies generally reflect the culture-focused strategy so consistency is provided to operations in order to achieve targets (Chan 2003).

It is common for companies to rush into China (Pan, Vanhonacker, and Pitts 1995) without thorough planning so as not to miss opportunities. But correct and accurate information collection (Ehrman and Hamburg 1986) plays an essential role in planning processes. In China, because of its many cultural differences, there is a danger that incorrect information is collected, and the planning process generally takes longer than in countries where cultural differences are fewer.

Not only is China much more complex than other markets, it is also very different. This makes it even more essential that companies do their homework. They must engage in active research themselves by using their own employees or engaging their own consultants. Purchasing reports from external brand-name consultants can be perceived as being more reliable and valuable; easier to obtain and less work than the company doing the homework itself; and if things go wrong (common in the case of China) no one internally has to take the responsibility. In reality, this is seldom true.

The truth is, reports endorsed with a brand name are often disappointing, have no real content, only rely on secondary data, are written by consultants who have no knowledge or experience of the Chinese market, and the interpretation of data is often incorrect and therefore the conclusion is not usable.

Companies, especially large ones, usually have the financial capacity to pay for top-rate research. But with China, a top brand-name report does not guarantee top-rate research. In the early days of economic reform, secondary data was rarely available. Official Government data was mainly for propaganda purposes and had very little real economic value. Secondary data has only become available in recent years. It is more reliable, because of the method of collection, source and coverage, but it should only be considered for its reference value. This is especially the case when data is only mined via the Internet. It is often collected by people with little or no knowledge of China or Chinese businesses.

It is difficult to acknowledge that the initial planning by Foster’s was thorough. The board’s decision on entry was made in late 1992 and acted on in 1993. Market research was often carried out by either Austrade (the government agency that assists Australian exporters) or casual student researchers. Furthermore, without research infrastructure, it was difficult to determine the quality of any research done. It is reasonable to conclude that the very limited research achieved should not have been used for major decisions without confirmation of the results. It is also fair to say the entry decision was rushed and therefore difficult to execute properly, which probably led to major operational difficulties at a later stage.

Culturally suited strategy a winner for Australian company

China Corp is a small Australian firm that wanted to pursue the Chinese market. This ambition was only pursued when the company decided to engage a bicultural consultant, a decision made after the managing director had made two trips to China without the support of a consultant.

His first trip was with the City of Latrobe in Victoria, Australia, when councillors arranged to visit its sister city, Taizhou, as an annual friendship activity. His original comment on this trip was a ‘waste of ratepayers’ money’. As a result, he went again by himself initially to source a supply of parts for his home production in Victoria. On the second trip he engaged an interpreter on a casual base, which he found extremely limiting.

After the second trip he decided not to bother with China until he engaged the consultant (the author of this book). His decision was based on the analysis that effective communication without the assistant of a capable person was not possible. The consultant took some time to learn the real needs of the company and understand the business and its industry. This was recognised as important by the director.

In the following year, China Corp proceeded to expand its business in China by establishing a joint venture with an existing supplier. China Corp identified a niche market in the nail-production market – EPAL (European Pallets Association) a not-for-profit industry body governing European pallets. They are a special size certified by the association for quality assurance purpose. EPAL nails are also certified for pallet production.

The process of obtaining certificates is lengthy and costly. The quality requirements are high and the testing procedure is strict. The pallets are repairable and recyclable. There is an open system of a pool of pallets that allows manufacturers, freight forwarders and other users to purchase their own pallets and exchange them in the process of transferring goods. The current pool has about 350 million pallets and, on average, anything between 60 and 80 million pallets are produced every year. The EPAL nail market is estimated to be worth $2 billion.

Based on this information, China Corp prepared to enter a joint venture with a nail supplier to obtain the EPAL licence. China Corp could bring its contacts in Europe, the potential of obtaining European customers, its knowledge and knowhow in obtaining the licence. The Chinese partner could bring the joint venture knowledge, skills and experience in nail manufacturing.

The consultant carried out all the primary negotiation between the director in Australia and parties in China, mostly on the phone and Internet. The process started in early 2008 and soon the consultant discovered many complications on the Chinese partner’s side. The joint venture could not proceed because the partner did not have proper land and building certificates. In short, the factory the partner built was illegal. The proposed joint venture concept could not proceed.

China Corp decided to set up a wholly owned foreign subsidiary, still collaborating with the Chinese partner. A new factory was required, which was found in a neighbouring city in the outer suburbs of Shanghai. All paperwork was contracted out to a local Chinese consulting firm because it specialised in this type of service and was located in the same city. The firm knew the local government officials on a personal level, which proved to be effective. Being in the same city, the firm was able to transport documents promptly.

By mid-2008, China Corp’s director and the consultant went to Shanghai to proceed with setting up the factory. According to Chinese law, the legal identity must be present for many of the procedures, such as opening bank accounts. On that trip the director got the feeling that the local government did not consider the investment was very important because of the amount of money involved, although the government officials he met were all very polite and helpful.

Fast-tracked at the local level

Doing business in China can be full of surprises, especially at the local level. Returning to Melbourne, the consultant continued communicating with the Shanghai partners and other business went on as usual. By early 2009, the global economic crisis hit the world economy. China, a manufacturing powerhouse of the world, immediately felt the pinch. When the Australian director and the consultant returned to Shanghai and visited the office of the local government officials, the officials said all foreign investments would be fast-tracked because of the slowdown of inward investment.

The deal was effected there and then. An official rang another department to establish whether all required documents were in place. Finding one particular document was missing, the director rang the office in Australia. The time difference meant the document could not be faxed immediately. But the director promised the following day. The official rang the chief of the other department and suggested the business licence should be issued to China Corp.

The official said he would visit the department personally and suggested the director and the consultant should also go. They all set of in separate cars, by separate routes. By the time the director and the consultant arrived, the government official was already there. The business operation certificate was issued the following week.

The time taken to establish this project was extraordinarily short. On average, to build a relationship with a Chinese organisation and then to establish a joint venture usually takes a minimum of two or three years. For China Corp, the foreign subsidiary was established just over a year after the first trip the director and consultant made to China.

This chapter has shown how a company’s strategy must be suitable for the culture of the Chinese market, and how the assistance of a bicultural consultant is crucial and effective. The company saved about two-thirds of the time generally taken by organisations to get established, and saved probably $80,000. It also saved the opportunity costs, which are often overlooked. For an organisation to wait three years for a project to come to fruition may result in losing the opportunity to competitors. These costs may amount to hundreds of millions of dollars. As mentioned in another chapter, Carlsberg entered the Chinese brewing market in the late 1980s and early 1990s with investments of tens of millions dollars. Having no success, the brewery withdrew. By the late 1990s, it realised the importance of China and it re-entered with investments in the hundreds of millions dollars. The opportunity had passed to competitors. Yet often lost opportunities are not recognised and therefore not measurable by a tangible amount.

References