What about English in China?

A director of studies (DoS) for a foreign education company in China contacted me today and we discussed the conundrum of college education, specifically English education, in China.  I devoted part of chapter 9 in GWON to this segment.

His view was that there are indeed opportunities and reasons for why English learning should be encouraged, that professions that interface with foreigners and foreign companies need to be proficient in English.  This is true, but the reality is that there are not that many positions that do this, perhaps just a few million such positions including notably the hospitality industry and IT off-shoring companies.  For comparison there are approximately 300 – 390 million English language learners in China and roughly 600,000 – 650,000 foreigners permanently residing in China.1

This is not to say that students in China should not have the option to learn or should not be encouraged to learn other languages, such as English.  Rather this is to say that learning English is no longer an end in itself.  It is not a “get rich quick scheme” yet much of the marketing done in the segment continues to promote this view.  Whereas 20 years ago being a fluent English speaker or an EFL company, may have been a very profitable profession and sub-industry, today it is quite competitive and very mature with salaries being arbitraged to international labor rates.  Instead, learning English is just another tool for high-skilled workers, to interface with their international peers and colleagues.  If you do not work in such a position or have such skills in the first place (e.g., semiconductor engineering) but instead interface solely with Chinese colleagues in China, you will likely have no additional monetary incentives for mastering a foreign language.

This ties in with the conversation with the DoS because he planned to give a presentation to several college groups about the utility of learning English.  I had previously given a presentation last December (video) (slides) and discussed some of the challenges that college students currently face, including a skill-set gap that exists.

For example, according to the Los Angeles Times:

By some accounts, the unemployment rate for Chinese college graduates age 21 to 25 is 16%, nearly four times that of blue-collar workers. An Education Ministry survey of 500 firms found that employers had trimmed the number of jobs available for new hires this year by about 15%. In Beijing, an estimated 98,000 jobs are available for the 229,000 new graduates, a city education committee study found.

“The manufacturing sector is still seeing labor shortages,” said Geoffrey Crothall of China Labour Bulletin, a Hong Kong-based research group. But many college graduates in major cities are ending up taking poorly paid jobs in areas such as telemarketing or real estate sales, he said, “and often these wages are lower than a factory worker in Shenzhen.”

I have written about this skill-set mismatch several times before.2 It is currently exacerbated by social promotion within institutions (e.g., degree inflation) and will likely continue into the near future.  One of the problems that the company the DoS represents is that the bulk of its operations is still geared towards traditional brick-and-mortar facilities.  While it was not mentioned in the conversation, two years ago the company had intended to grow and open several hundred training centers on the mainland.  This has not happened for several reasons:

  •  the EFL education tuition is unaffordable to most of the target audience (urban middle-class consumers)
  •  on top of inflation which erodes their purchasing power, a relatively “slow” economy has put pressure on wages of these working adults who have to cut back on services such as EFL education
  •  lack of a visible return-on-investment for most customers (i.e., after taking the courses it does not lead to instant seniority or new career opportunities)

However, there are other areas for businesses to expand, including the online sector, which is expected to grow by leaps and bounds.  In fact, TutorGroup (which the DoS does not work for) just closed its Series B round of financing last month, raising $100 million to build out its online language education platform that targets (among others) Chinese seeking to learn English.

According to its write-up of the funding announcement, TechCrunch noted that:

TutorGroup says that it expects the adult English language-learning market within China to grow 25% annually and reach more than $21 billion by 2015. In China alone, the company expects sales to experience a triple-digit annual growth rate in the next few years.

According to Ambient, a competitor:3

China is now the top buying country of digital English language learning products, not only in the Asia region, but in the world, according to a new Ambient Insight report called “The 2013-2018 China Digital English Language Learning Market.” The five-year compound annual growth rate (CAGR) for digital English language learning products in China is 23.6% and revenues will nearly triple over the forecast period. […] Revenues for these products will spike to a breathtaking $931.8 million in 2018, up from the $323.1 million reached in 2013.

Thus, these two data points suggest that there may still be opportunities in the education and training segment, but likely in the online-only space an area that the DoS’ company is trying to rapidly expand (by opening up a new Boston office for freelance instructors).

What does this have to do with English-learning?  I suspect that the online segment will likely benefit and recoup the costs of the investment due to the always-on nature of the urban consumer willing to try out one of these new platforms.  Yet whether or not the language and educational knowledge transfers over and translates into higher productivity or more proficiency is another matter entirely.

The last example that ties into this is based on a conversation I had last November with a center manager at the same company that the DoS works at.  The manager explained that the ayi (阿姨), an “auntie” custodian, at the headquarters office he worked in paid 20,000 RMB (~$3,400) to learn English through the company’s internal program.  Less than six months later she was burned out due in part to the unrealistic expectations (i.e., “overpromised and underdelivered”) that is unfortunately the modus operandi that this segment in China still suffers from.  This will likely change as the industry continues to mature, yet it would be in the students best interest to hear the challenges — in addition to the opportunities — that a second language can provide.

Tangential coda: in a slight twist, while English tutoring has been a relatively low-barrier to entry position in China, it looks as if Shanghai is now exporting math instructors to England.4 The UK is spending $18 million to fly 60 Chinese math teachers (proficient in English communication) to help improve the math abilities and scores of learners in England.5

  1. A census was conducted and the results were published 3 years ago, see Almost 600,000 foreigners counted in China from China Daily.  Another unsourced estimate is that 80% of the approximately 650,000 foreigners in China work as teachers, see China Average Pay & Salaries For Expats & Foreign Teachers… from Salon []
  2. Are MOOCs a solution for the skillset mismatch? and The market for massive open online courses in China []
  3. China Digital English Language Learning Market Booming from PRNewswire []
  4. See English tutors in China — well-paid, not always qualified from UPI and Shanghai teachers flown in for maths from BBC []
  5. Chinese teachers sent into English schools to boost results from The Telegraph []
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Futureproofing your English with Technology: Getting the most return-on-investment in an automated world

A week ago I gave a guest lecture at a local college discussing three high growth areas in China: artificial intelligence, robotics and elderly care.

I also explained to the college students majoring in foreign languages such as English they should continue learning other skills, instead of merely mastering English proficiency. This was given on December 4, 2013 at Shanghai University of Sport. All citations are included in the notes (the PPT is up over here at Slideshare.net). Note: about 5 minutes are missing in the middle of the video due to technical issues. [Here is the same video on Youtube]

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Self-publishing original content, academia, freebies and SEO

Three related questions — and some long answers — that may be of use to aspiring writers globally.

Julia on FB writes,

I wondered, of course, out of selfish reasons — how did you do it? Seriously — if I wanted to publish a book, what would I need to do? Do you have any advice for a novice writer?  I am becoming your number 1 un-official fan… or a groupie, if that’s allowed.

Groupies are more than welcome!  Perhaps one day there will even be roadies…

As far as the self-publication route and things to consider, the short and simple answer is compare Amazon’s KDP program, Barnes & Noble’s PubIt! program and Apple’s iBook program.  For cover art and illustrations you can hire some freelancer at Fiverr.  Finding an editor can be tricky but a few google searches could help narrow the options down.  Then most importantly: create fresh, original content and find your own voice (more on that below).  The longer Ned Flanders answer involves tying this in to a conversation I had a month ago with a French friend of mine who just finished defending his dissertation in physics.

CV from Paris writes,

Hi Tim, I’m starting to explore ways to publish my PhD, and I am not sure how to proceed. Since you are also publishing books, I would like to ask you some advice on the possible plans I have in mind. The desired outcomes are:

(1) Publish my PhD as it will be after the defense, at Vrije Universiteit Press (VUB) Press.
(2) Publish my PhD as it will be after the defense, or slightly improved with Springer.
(3) Publish my PhD as a popular book, which requires some rewriting to make it more accessible and concise.
(4) Publish both my PhD as it will be with options (1) or (2); and then make a more popular version (3).

What do you think? What would you advice? Do you see other options?

TL: DR

The too long, didn’t read response to CV is: because business-related content describes dynamic actors (e.g., consumers), in order to stay relevant content creators will probably need to publish and update more frequently than their counterparts in the hard sciences.

I had 3 or 4 professors in college who jokingly noted that the content of many science textbooks in nearly every classroom globally were out of date.  That is to say, because of the lengthy publication process (e.g., drafting manuscript, proofing, submitting to press, copy editing, etc.) that as cutting-edge as the content may be, it will inevitably take a couple years to reach the end-user, the student.1 This is not necessarily a priori, a bad phenomenon, at least not in the sciences.  For example, last week the team managing the Planck spacecraft (which is currently hanging out in L2 orbit) announced that the Universe is about 80 million years older than previous estimates.  This more refined date, while invariably helpful to the astronomical community is probably not a game changing discovery that nullifies the value of current textbooks (that is what standard deviations and sigma’s [σ] are all about).  Similarly most math books are still useful even if they do not include the latest calculation of Pi (π) from Shigeru Kondo.  For more commentary about this, be sure to check out In Defense of Teaching “Outdated” Material by Brett Lunceford.

On the other hand, business-related topics are inherently not scientific (human preferences change, laws of physics do not).  For example, gravity does not change due to seasonal differences in San Diego yet business models must evolve with economic trends and subjective tastes as well as take into account the dynamic impact from season and climate (e.g., when and where to sell winter clothes or advertise the upcoming spring lineup).  Because prices of supply and demand are effected by subjectivity and intertemporal choices (that is, valuation changes based on different points in time), certain business models may not work in other regions of the world (like the Barbie versus Hello Kitty example in Chapter 7).

Thus, I would argue that while general principles of marketing and management found in a standard college textbook may be applicable to many business operations (like conducting a SWOT analysis or how to motivate employees), other academic literature used in business schools have an increased diminishing utility due to the ever changing business conditions of a globalized world.  For instance, some consumer behavior generalizations made prior to 2004 are no longer useful or applicable in an always-on smartphone-filled social networked world filled with groupbuying websites and check-in-based discounts that simply did not exist a decade ago.  And the consumer behavior landscape will become altered in the near-future once more with the proliferation of wearable products like Google Glass.

While it may be useful to know how consumer spending changes over the long-run, for all intents and purposes those pre-2004 academic passages have become intellectual deadweight and probably do not need to be studied in-depth by the average MBA student (otherwise entrepreneurs would spend all their time studying the entirety of the past instead of creating the future).  Of course there is a fine line between learning from past mistakes like Dreyer’s Grand Ice Cream turnaround versus using Fannie Mae as a successful model to emulate (seriously, it was used in Good to Great).  This also raises another tangential issue: the idea that pop business books sold at bookstores which are typically written by experts with actual business experience and are therefore more practical to entrepreneurs and businesspeople versus subscribing to academic business journals which may be more abstract — which is argued at length in a ten year old AMLE journal article (which ironically is still applicable today): The End of Business Schools? Less Success Than Meets the Eye by Pfeffer and Pfong.  But this is a topic for another day.

While the academic writing and publication cycle is a different process then the world of popular media, my response to CV was as follows:

  • Do you want to work in academia?  If you plan to work in a college I recommend trying to get published in the best journal you can so that way you can improve your chances of getting tenure.
  • Do you want to eventually work at an NGO or some non-academic institute or even the private industry?  Then you would probably have to rewrite portions of each chapter to attract and satisfy that target audience.

Furthermore, since he is looking for a career in academia and because the material he is publishing is not necessarily time-sensitive, I would try to get published in the best, most prestigious journal that he can (perhaps breaking his dissertation into a few parts and submitting them to other journals).

Bringing it altogether

How does this apply to self-publication?  As Barney Stinson might say… wait for it.  And now the third person, Brian on TLS writes,

How can you afford to write a book with so much great information and then make it available for free?

Good question.  There are a couple answers to it, but to start with lets discuss opportunity costs.

Consider, for example, free apps or demos available on smartphones.  Why would a developer such as Rovio utilize scarce resources (time, capital, skilled labor) only to give Angry Birds away for free?  (Note: 25% of all global Angry Birds downloads come from China, see Chapter 13.)  Perhaps developers do this so they can get their name and brand out into the public, to build buzz so that they can later sell a future app.  In the case of King Gillette, while he did not invent the freebie business model he purportedly popularized it: he gave away the shaving handles with the intention that consumers would need to buy his blades to be of any use.  However, contra Chris Anderson, even that is arguably not the best utilization of resources either (see The Razors-and-Blades Myth(s) by Randal Picker). 2

I suspect that many aspiring writers never fully recoup the costs of their own self-published works.  In fact, based on my research over the past several weeks, very few self-published authors make a profitable return-on-investment solely from book sales when all costs are accounted for (many more may reach positive territory if consulting and speaking engagements are included).  Not only would you need to generate enough sales to cover the editing, illustrations, typesetting and promotion (like paid ads), but you would also need to generate more revenue than you would have earned in an alternate timeline, one in which you worked a 2nd part-time job instead of writing a manuscript (e.g., if you spent 20 hours a week working on your book unpaid, what other paid activities did you forgo?).3 These are the unseen opportunity costs and while it varies case-by-case, indie writers should do their own due diligence and cost/benefit analysis.  For instance, last summer Suw Charman-Anderson looked at some of the potential earnings and ultimately came to the conclusion that aspiring writers should focus on building content instead of endlessly promoting your first or second or third book.

What about SEO?

My own opinion of SEO is negative.  In theory it is no different than marketing or advertising.  However, if you spend much time in the industry it is pretty clear a number of SEO gurus treat it as a get-rich-quick scheme.  That if you could manipulate passages and content around special keywords, epic floods of traffic will head your way and with it, advertising dollars.  But this is a fallacy called post hoc ergo propter hoc conflating cause and effect.4 Readers want useful relevant content, not spam.  Keywords do not create lasting readership, content does.  If you are following the advice of some SEO evangelist, then others are probably too and thus all of your content is diluted and becomes indifferent mush from the background noise that is all the other like-minded echo-chamber bloggers doing the same thing.

Specifically, consider the opportunity costs of trying to game and trick the continuously changing algorithm systems.  Every minute spent trying to tweak SEO keyword placement is another minute you could have spent creating original content for an audience.5 Which raises another question: if other people like the gurus are telling you what do and say, you are not finding your own unique voice and style — which is a necessary process each writer must undergo independently, one in which there are ultimately no shortcuts.  Thus for some, SEO becomes a self-defeating, downward spiraling process.

At South-by-Southwest (SXSW) held a couple weeks ago in Austin, Guy Kawasaki asked Amit Singhal (a VP at Google) how companies can improve their search rankings.  Singhal’s response was:

“We at Google have time and time again said—and seen it happen—that if you build high-quality content that adds value, and your readers and your users seek you out, then you don’t need to worry about anything else,” Singhal said. “If people want that content, your site will automatically work… you could make a bunch of SEO mistakes and it wouldn’t hurt.”

In other words, original content is king.

Thus to answer Brian’s question, while I won’t go into specifics today, I do have a long-term plan that does not involve the traditional book publishing model in order to recoup all the seen and unseen costs of producing the content.  A hint: while it does involve creating regular fresh content, it does not involve SEO or books sales.  After all, the web copy is free.

  1. For the exact steps see: Waiting for It from The New York Times and The Book Production Process from About.com []
  2. While Chris Anderson does raise some interesting points in Free: How Today’s Smartest Businesses Profit by Giving Something for Nothing I think that his overall thesis is fundamentally flawed as dissected by Fernando Herrera-Gonzalez in Is Our Future Really $0? []
  3. For good measure you should also calculate how many hours were spent searching and adding your book to e-book promotion lists.  Also, an argument could be made to differentiate leisure activities that produce goods and services versus intentional work, but that is the exception to the rule. []
  4. This is similar to the disconnection inherent to Cargo Cultism, see Chapter 20 []
  5. As Senator Dirksen might have said, a minute here, a minute there, pretty soon, you’re talking real time. []
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The market for massive open online courses in China

A quick update and illustration regarding online education in Chapter 9.  South China Morning Post published an article this morning about massive open online courses (MOOCs) which are increasingly popular in China.

If you are from North America you have probably heard about a couple MOOCs including edX and Udacity.  The SCMP piece noted that Chinese University of Hong Kong is “committing” (does that mean developing?) some classes to the Coursera platform, which was founded by two Stanford professors last year.  For reference, Khan Academy is probably the best known as it has served more than 200 million classes and Wendy Bao cited it specifically in her interview as a future model for education in Chapter 9.

While millions of students are enrolled in these classes globally, it is difficult to track and measure the Chinese matriculation in terms of marketshare because, unfortunately the GFW (Great Firewall) blocks most of these sites.

What are the opportunities then?  What can be done about this?  Are there any domestic startups? From the SCMP piece:

NetEase, a leading China-based internet technology company, said that the number of open course subjects had doubled from last year to the present 12,000. It reported 4.6 million subscribers via PCs and smart phones and about one million student visits a day.

However, John Zhang, co-founder of mainland-based online career and recruitment consultancy Guolairen.com said open courses delivered by internet portals simply served as a “media platform”.

In contrast, he said Mooc platforms provided students with a classroom-setting learning experience and opportunities to receive credit and recognition for their work. Already five subjects provided via Coursera had been recommended by the American Council on Education.

“This is a moment of historic significance in higher education because Mooc is not just a complement to existing higher learning, it opens up a new era of online teaching,” Zhang said.

Guolairen.com which unveiled its own Mooc platform in a low-key launch in October, the first on the mainland, has recorded 35,000 enrolments for 200 courses from 100,000 sign-ups.

Zhang said the company would invest US$30 million in its Mooc platform over the next three years, in co-operation with leading international universities such as Harvard, Columbia University and MIT, to provide a specialised platform for career-minded Chinese youth.

Potentially large numbers

Upon looking at the Guolairen ( 过来人) site right now, it is not very obvious that MOOC is a central part of this portal.  In fact, it is currently geared towards job-seekers, primarily for new graduates (including info about cover letters and interviews).  Thus, if 过来人 is the go-to model, it may be too early to declare any domestic market leader yet.

Again, as I remind readers repeatedly (for good reason), it is incredibly easy to get caught up when big numbers are thrown around or when it comes to potential customers in the middle kingdom.

What are some actual estimates for clientele in this segment?  At the tail end of Chapter 9 I note the following data:

Yet for those willing to face these technical challenges, the financial rewards could be lucrative.  According to one recent estimate, up to 380 million people in China will “need high-quality education and training resources across the country” from 2012 to 2017.1 And a large percentage (~30%) of these people are expected to utilize online services and tools, creating a potential market worth an estimated $11 billion in revenue.  However, to temper any get-rich-quick enthusiasm, the amount of investment into Chinese education companies fell to $46 million in 2012, less than a quarter of the previous year.2 Why?  David Chen of AngleVest – a venture capital group focusing on angel rounds – noted that “the timeframe for growing an education business can be drawn-out, and a challenge for fund managers who have to achieve returns by a specific date.”3 Thus once again, while there is potential revenue there is also required patience for returns on investment.

In addition to infrastructure issues another challenge that MOOCs may face are cultural stigmas attached to learning from non-traditional, non-accredited sources (also discussed in Chapter 9).  This may change though, as the country develops and the middle class begins to seek ways of self-help and autodidactism (e.g., their upcoming Wikipedia generation).  For what it is worth, my current employment is involved on the periphery of this industry, though not at the scale of an MOOC though.  If you are looking to work in this area I would keep your eyes open and try to attend events like 500 Startups or Barcamp Shanghai to find young techy entrepreneurs wanting to create a domestic MOOC.

Odds and ends

I mentioned it several times in Chapter 9, but there are roughly 300 million English learners in China primarily because of institutional inertia at this point (e.g., taught from primary school on up).4  And while there has always been some amount of resistance to teach this subject due to factors like nationalism, over the past few weeks I have noticed a number of op-eds published in a few national newspapers which for me, is a first.

For instance, about 10 days ago, Zhang Shuhua, a CPPCC deputy and head of the Intelligence Research Committee said that Chinese education was facing an unprecedented “destructive” crisis because of the English language requirements.  Another more recent one is from today’s China Daily which discusses reform and removing English requirements from core curriculum and examinations for college majors that do not use it (such as Chinese literature researchers).  While this probably will not be changed over night, it is something to also keep you eye on.  Or maybe you can capitalize off this nascent sentiment and create training centers for those niches.

Via Sinocism

  1. Tencent Eyes Growing Online Education Market in China from Caijing []
  2. China Investors: We Don’t Need No Edukation from The Wall Street Journal []
  3. Ibid []
  4. Chinese Learn English the Disney Way from The Wall Street Journal []
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A long strange trip

What began initially as leftover tidbits of research written-up for another persons book about China, momentarily morphed into a newsletter for some potential overseas investors and ultimately culminated into a six month long, part-time endeavor that resulted in my first book.

Since “project-it-is-almost-really-finished” began in mid-October I moved apartments twice in Shanghai, broke a computer, flew across the country, took trains across the country, flew back and forth across the Pacific, nearly cracked my chest and came down with about a half dozen ailments.

There were also other personal trials and tribulations but thanks to the encouragement of my friends, family, coworkers and most importantly naysayers (no better motivation than people telling you, “you cannot do it”), I can finally look my old homeroom teacher in the eye (just the one) with confidence.

Where credit is due

While I mention them in my acknowledgements, I would like to thank the following people in further detail:

Mark Deweaver — it was fact-checking I did for his own groundbreaking book that initially spurred my interest in writing a potential manuscript.  His several hundred (who’s counting) email exchanges provided the basis and direction for the project.  He was also kind enough to write the foreword to the book.

Matt Garner — one of the smartest and well-read persons I have ever met (if you think I cite a lot of references in my book, wait until you meet this walking encyclopedia).  I met him this past summer while working at the American Chamber of Commerce and after reading an early draft of his upcoming book about marketing in China, that little light bulb dinged and the rest is history.  He also has a cooking show coming out, more on that at a later date.

Yanli Xiao — she acted as my personal editor, smoothing out grammatical and syntactical issues as well as providing much-needed Chinese perspective and go-to devil’s advocatery (sic).  Most people do not like being spammed draft-after-draft with revisions, she is the outlier (as is Raffael Danielli).

KY Leong — he provided several additional Chinese anecdotes and backstories that should enable Western readers to better grasp the nuances of Chinese culture (especially regarding guanxi).  Coupled with his economic training and diligent proof-reading, this book is much better off because of this.

Bill Bishop — does the man exist or is he simply a transcended bot powered by IBM Watson?  A few weeks ago when I interviewed Shaun Rein, he asked me “you mentioned Bishop in your acknowledgements, how do you know him?”  I chuckled because like most expats that spend any amount of time in China, you will probably come across Bishop’s fantastic Sinocism newsletter.  He even provided me with a thoughtful quote (in Chapter 12).  I am not sure how he does it, but Bishop manages to read and comb more China-related news that probably anyone on the planet.  Each day he publishes a curated list of 25-some-odd stories, many of which come from undervalued niches (like China Accounting Blog and Li-Ning Tower) that are now must-reads.  I probably would not have been able to complete this project solo if it had not been for this resource (be sure to donate to keep his free newsletter going).

My mom and sister for coming to Shanghai 18 months ago to help an ill son and brother.  And the rest of my nuclear family for fattening their kin up afterwards and teaching him the finer points of being Texan once again.

The Veksler’s, all three of them now (congrats!), for putting up with you-know-who.

Geoffrey Plauché, for giving me back my geek license and answering all of my tech support and Amazon-related questions.

And of course, for all the lunches, dinners, water-cooler-discussions, coffee breaks, phone calls, emails, text messages, Skyping, QQing, random run-ins; many more thanks to all the important people I mention in the acknowledgements who made this book possible.

Notes in the margin

The web-based version of the book is up top in a permanent static page (or you can grab a digital copy off Amazon).  The versions are nearly identical and up-to-date as of 12 hours ago (in addition to clearing out all my China-related RSS feeds, I intentionally waited for the Sinocism newsletter today before submitting the final draft).  One small formatting error is visible in the Kindle version.  There are a couple sentences in a few chapters that should have dashes or list bubbles but unfortunately they came out as ] brackets instead.  If there is a second edition in the future, this will be fixed.  The web version shows them correctly.

Speaking of Kindle, there is a new plug-in that Amazon just released for WordPress users.  I have tested it and it works but I may not use it for a couple of months due to  exclusivity issues with the KDP program.

Also, yesterday friend asked me how many Chinese names were changed to protect their identities.  At least 7, all of the doctors I spoke with in Chapter 19 as well as the Nanjing distributor.  Elsewhere, the TravelSky engineer and travel agent.  Family names are (mostly) correct.

Please let me know if you have any comments, suggestions or feedback regarding the book.  And be sure to bookmark the site, grab the RSS feed or add me on social media.  I plan to continue using this site as a venue for interviews, news and views related to East Asia and perhaps beyond.  Be sure to check back on a regular basis.

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Foreword

[Note: below is the foreword from Great Wall of Numbers]

“Grey,” Goethe tells us, “is all theory, and green the golden tree of life.”  To really understand something, we need more than generalizations and a priori arguments.  We need “color.”

Unfortunately, most of what is written about China these days falls into the “grey theory” category.  Countless pages have been devoted to the China “model,” China’s “rise,” or even its “coming collapse.”  But little of this gives us any real feeling of what it’s like to live and work there.  Often we can’t see the trees for the forest.

This book is different.  It looks not at the “big picture” but at the myriad fascinating details that make it up.  We learn not that China will be “number one” but rather that Shanghai is home to the world’s largest skateboard park.  Not that China has “a billion consumers” but rather that Chinese college kids love NBA apparel.  Not that China is a “locomotive for the world economy” but rather that convenience stores in Bengbu, Anhui Province carry US-made razor blades.

There are less prosaic observations as well.  The Chinese are big Angry Birds fans, for example. China now accounts for 25% of worldwide downloads.  Recently Rovio, the maker of this popular app, even went so far as to turn Shanghai’s skyscrapers green to help launch a native version of its product.

These are exactly the kinds of details that matter if you are trying to formulate a business plan for the China market.  And their relevance goes well beyond the particular industries cited.  For the US exporter, for example, the important point isn’t that there’s a market for NBA apparel and razor blades.  The takeaway is that in China—a country awash in knockoffs—a “made in USA” label signifies a high quality product.

Indeed this book is full of interesting business ideas.  It looks at opportunities in everything from college textbooks to assisted living facilities, from fast food to Android apps.  China, it turns out, is not so much the land of a billion consumers as it is the land of unexplored niche markets.  The growth of the Chinese economy in general—and that of its middle class in particular—has created many surprising new worlds for entrepreneurs to conquer.

Naturally, there are risks to consider as well.  Local partners or employees may expropriate your intellectual property and set up competing businesses.  The regulatory environment can be full of nasty surprises, particularly for those lacking the right local connections.  Profits may be difficult to repatriate.  Again, readers will find a wide range of examples that help to turn China’s “unknown unknowns” into “known unknowns” if not “known knowns.”

As you begin to appreciate all this local color, some fascinating big picture issues come into focus as well.  Consider the potential of 3D printing, for example.  This new technology makes it possible to produce plastic products directly from a computer file, using special printer heads that deposit multiple layers of plastic to produce a finished product.  These machines are now available for as little as $2,199.

This process will enable many manufacturers to by-pass the supply chain altogether, going directly from idea to inventory in a single step.  It’s easy to see the advantages for foreign firms seeking to market specialized products in China.  The manufacturing could be done anywhere and the production runs kept arbitrarily small.

The implications for the US-China trade balance are even more important.  Once this technology is in widespread use, it seems likely that important parts of the Chinese manufacturing machine—e.g. manufacturing toys for export—may either be shut down entirely or have to be converted to serve local markets.

Learning about opportunities in particular sectors leads naturally to an understanding of much larger issues that “big picture” analysts easily miss.  Unlike the common practice of looking at China from “a thousand feet up,” a ground-level perspective provides insights into both the idiosyncratic features of specific industries and the overall macroeconomic situation.

Thus, this book will be useful not only to those looking for Chinese markets for particular products and services but also to anyone with a general interest in learning more about the country.  Whether you are looking for new worlds to conquer or just curious about the China story, this book will help you move beyond the “grey” plane of theory and abstractions into the verdant realm of economic reality.

Mark DeWeaver is the founder of Quantrarian Capital Management and author of Animal Spirits with Chinese Characteristics

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Introduction

[Note: below is the introduction from Great Wall of Numbers]

It has become increasingly difficult to separate hyperbole and exaggeration from the story of China’s development over the past three decades.  This book was written in part to highlight both the opportunities and challenges facing entrepreneurs, companies and businesspeople wanting to do work in China.  I try to be as evenhanded and balanced as I can – this book vilifies neither bulls nor bears.  Rather it serves as a guide to those willing to take risks.

In short, this book is a testament to human ingenuity and entrepreneurship.  For those looking for a particular bias one way or the other, I point to Voltaire’s germane quote, “Le mieux est l’ennemi du bien” or in English, the best is the enemy of the good.

There is no shortage of excuses to invest or not invest in any domicile – irrespective of the political climate, level of debt, who won the World Series or astrological sign – yet it is counterproductive to be a fair weather entrepreneur.  Or rather, it is incredibly easy to complain and do nothing.  Consuming doom, reckoning and gloom, preparing for prophetical collapses that are always around the corner – fear sells and will always be a popular past-times for those wanting a complete reboot, revolution or some Pyrrhic nirvana.

Yet as I try to illustrate in the following pages, you do not have to be born into a family of entrepreneurs to have the desire to start a company and manage it profitably.  You just have to be open to new ways of doing business, even if the conditions are not ideal, perfect or “the best.”

And despite the eye-catching apocaholic analysis from those who have been predicting doomsday and eventual collapse – the Chinese, as I explain throughout, are by and large a hard working lot that have endured nearly every conceivable adjective.  They are constantly looking to improve their living standards, aspiring to the quality of life in the West by learning to uncover the secrets to American and Western innovative prowess.  In short, they are looking to provide a better future for their progeny.  Thus opportunities abound for the entrepreneurial spirited.

The book includes dozens of stories, anecdotes and interviews about experiences, opportunities and challenges on the mainland.  I should point out that because of the dynamic nature of all the industries I delve into, the data and statistics cited will become quickly outdated.  This is not a bad trend itself but rather goes to show you the relative vibrancy and opportunities of the creative destruction process which take place in any open marketplace – even a relatively encumbered one on the mainland.

Throughout the book I mention friends, colleagues, experts, professors, businesspersons, former students and acquaintances.  This is not an explicit endorsement of their opinions or services but rather serves as an on-the-ground reference point.  Nor by providing me with quotes do they endorse this book or my opinions.  Furthermore, in the interest of financial disclosure, I do not currently have any equity positions in the firms or companies discussed throughout.

In addition, as Sagan, Russell and Oppenheimer are all believed to have said, “keep an open mind – but not so open that your brain falls out.”  Or as Dean Stamatis recently reminded me: “figures do not lie, but liars do figure.”  In fact, one alternative working title I had considered was “seek truth from facts” (实事求是) a historical expression that dates back to the original Book of Han some two millennia ago.  Thus even though I cite hundreds of references, be skeptical of any claims, especially when risk and uncertainty is involved.  In short, be sure to do your own due diligence.

And as a close friend once told me when I first moved to the East, for those unfamiliar with Asia and specifically China, it is better to know something than know nothing.  That is what this reference guide is for, look a little before you leap into the unknown.  To those trying to find business opportunities in the likeliest and unlikeliest of places: jiayou, jiayou!

Tim Swanson

Shanghai, March 2013

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Acknowledgements

[Note: below are the acknowledgements from Great Wall of Numbers]

I would like to thank my colleagues at the American Chamber of Commerce in Shanghai: Julia Bakutis, Kimberly Chang, Raffael Danielli, Matt Garner, Chia Lian, Eric Meng, Veli-Antti Ruismäki, Miles Vaughn and of course Wally Yu.  Also thanks to my colleagues at EF: Courtney Conching, Ian Flores, Fabian Garcia, Bonnie Gu, David Hopcraft, James Miller, Keegan Mulaney and Neo Wang.  Special thanks to Kevin Ciu, Mark DeWeaver, Jing Gao, K.Y. Leong, Vincent Lu, Geoffrey Plauché, May Wang, Yanli Xiao, Jason Xu and Haifen Yang for their comments and encouragement.

I would also like to thank entrepreneurs, professors, experts and businesspeople like, Eric Azumi, Wendy Bao, Nira Binderer, Bill Bishop, Yolanda Bo, Andrea Chang, Larry Chang, Adam Clemans, Colin Colenso, Harry Ding, Lawrence D’souza, Scott Freeman, Kirt Greenburg, Dan Harris, Gary Isse, Richard Johnsson, Alan Kahn, Stephan Kinsella, Maggie Li, J.J. Liu, Shawn Mesaros, Pieter Nooren, Richard Qi, Jianchu Qian, Shaun Rein, Adam Remington, William Song, Dean Stamatis, Cathy Su, Xuerong Su, Pat Sullivan, David Tang, Mark Thornton, David Veksler, Glenn Wilkinson, Becky Wu, Fred Xu, Jenny Xu, Kyron Yang, Charles Zeng, Lin Zhang, Peter Zhang as well as all of the other unnamed sources and individuals who offered their time to provide quotes and interview talking points.  The names of several sources were changed to protect the privacy of the individual.

In addition, I would like to thank my family for their support and assistance during this past year as it could not have been done with them.

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Chapter 2 – Selling books and content

[Note: below is Chapter 2 from Great Wall of Numbers]

In the Spring of 2009, a young freshman named Cena asked me a question (as in WWE John Cena – many men in China enjoy the drama of World Wresting Entertainment).

Cena said, “Mr. Swanson, what do American college students do with their textbooks after the semester is over?”

I replied, “If the class is offered again, we can usually sell them back to bookstores near campus or to online buyers, though sometimes students simply throw them in the recycling bin too.”

Cena thought for a moment and then said, “Why don’t you sell them to China?  Our books are sometimes of lower quality and outdated.”

He raises a good point, what are the logistical and legal challenges of gathering and exporting used American textbooks to mainland China?  Is there any profitable business model that we can use to compare the potential market opportunity?

Founded in 1972, Half-Price book store is a Dallas-based company that buys and sells used books.  Yet despite this seemingly simple business model – buying used books and selling them – the company has grown to operate more than 100 stores in 15 states.

Could you sell used books like Cena suggested?  While establishing a brick-and-mortar store front in an increasingly digital age probably may not be financially justified, there are also regulatory hurdles worth considering (e.g., obtaining permission from the former General Administration of Press and Publication now called State Administration of News, Broadcasting, Film and Television).

In fact, there has been an ongoing trade dispute between the US and China regarding China’s barriers that limit the importation of books and other media.  In addition to regulating the distribution of foreign material, Chinese policies require that foreign media and books must be channeled through state-owned enterprises (like Xinhua and China Film Group).  In 2009 the WTO ruled that China had “violated international rules” by these limitations.1 After appealing, five months later the WTO appeals board once again ruled that China was “unjustified” in such limitations.23 While this dispute continues to simmer, despite these challenges the domestic book market has grown.  For example, “just 7-8 years ago,” Jo Lusby of Penguin China says that “there wouldn’t have been the market to sustain what we’re doing. Today it’s a challenging business, but it’s commercially as well as literarily worthwhile for us.”45

And while there could be a case either way – depending on future import regulations and oil prices for transportation – perhaps you could find a Chinese partner to create the equivalent of Half-Price on mainland China.  Perhaps one relatively sanguine route would be to source the used books in areas that are non-political like the STEM subjects: science, technology, engineering and math text books in the US to sell through your joint-venture (JV) partnership.  Or while this trade dispute remains ongoing, perhaps foreign content creators could attempt to ‘go digital’ in the interim.  I discuss some other relevant challenges in Chapter’s 10 and 14.

A large demand for content

With 370,000 titles, in 2011 the Chinese domestic book market was valued at $10 billion, displacing Germany and making it the second largest book publishing market in the world (after the US).67 All told, according to the Chinese Academy of Press and Publication “the revenue from publishing, printing and distribution reached 1.46 trillion yuan (US$228.62 billion), up nearly 18 percent from the year before.”8

Furthermore, Chinese readers are becoming as voracious as their Western counterparts.  For instance, the academy also found “the average books read by Chinese in the year of 2011 to be 4.35.”910

How are they reading these books?  According to a 2011 Publishers Weekly report, the “preferred platform” for Chinese readers is now the digital ebook, such as those found on smartphones.11 And despite relatively tight government regulations on all forms of communication and publication, the book publishing industry and in particular the ebook industry continues to grow.

For example, Baidu, China Mobile, Hanvon and Cloudary operate the top ebook platforms and distributors; platforms whose usage rates have grown at double digits each of the past several years.  And because Amazon’s Kindle is currently not being sold in China, many other domestic e-readers have gathered large marketshare.  Hanvon has roughly 50% of the e-reader marketshare and Shanda’s Bambook has captured 28%.12 In fact, Shanda-owned ebook platform Cloudary alone has published 5.2 million titles by mid-2011 whereupon it was spun off into a successful $200 million February 2012 IPO.13 Shanda is now China’s 5th largest tech company by revenue.14

Do you or your company have books or content currently published in the US?  Do you create and provide content for science, technology, engineering or math books or periodicals?  If so, then mainland companies like CLS Communication (the largest in China), Sinophone, Yuyi and Berlo may be able to provide translations of your material so that you can upload and sell the content on platforms like Cloudary.15

Translating your content

If you would prefer to use US-based translation services, there are a number of providers. According to a 2012 report from Common Sense Advisory, in terms of revenue, the largest language service providers in the US are: Mission Essential Personnel, Lionbridge Technologies, TransPerfect and ManpowerGroup.16 Together they generated more than $1.5 billion in revenue last year.

Dean Stamatis, author of over fifty books on statistics, quantitative finance and Six Sigma, has been in the process of locating an English-to-Chinese translation service in China for translating his latest 900 page technical book. 17 In November 2012 he explained to me that on the one hand “you have excellent, yet expensive translation service providers in the US and on the other you have relatively cheaper (though still expensive) translators in China who may be a little more difficult to communicate with across the time zone differences.”  Furthermore locating the Chinese providers can be a laborious task at times as well and as a consequence he personally has traveled to China to discuss the services face-to-face.  This is something that all businesses should take into consideration.

A content plan of action

In Chapter 12 I discuss the social media industry in China and how foreign firms can build and maintain a brand through the numerous social media sites.  Again, while it is important in the long-run to understand the culture and language of your potential customers in China, with a few minutes of Google searches you can start rolling out both your brand and your content to the Chinese public right now, without even knowing any Mandarin.

Just as there was a virtual land rush with the opening of Facebook Pages and other unique domain names in the 1990s, so too is there a land rush for social media positioning in China.  And irrespective of whether or not your local competition in the US acquires brand names before you do in these new Chinese platforms, you have another competitor you do not even know about: hundreds of start-up companies in China that are discussed later in Chapter 12.

Thus without needing to hire a strategic consulting firm, you and your company can and should already establish a beachhead in China by registering and creating a QQ and Sina Weibo account (look at Chapter 12 for more details) and by assessing e-tailers like Cloudary for your digital content.

One last word of warning, if you are looking to get involved with an ebook platform, be sure to study the guidelines and regulations permitted by the former General Administration of Press and Publication (中华人民共和国新闻出版总署).18 Amazon China is currently under investigation for possible violations related to obtaining the proper approvals and licenses for its new Kindle Store on the mainland.19 In fact, as an aside, despite its 8-year endeavors Amazon China has only captured 1% of the $196 billion e-commerce market.20 While the case is ongoing be sure to consult with an attorney (see Chapter 10) before making any substantial investments first.

Takeaway: Looking around at your existing content, you and your company may find China as a new market for revenue generation.  This includes both older and new content ranging from science and technology books to reports your company published in periodicals.  China is the 2nd largest book market and has a number of well-funded, well-developed ebook platforms that your company may be able to sell into.  There are also a number of well-established industry leaders on both sides of the Pacific capable of translating your English content into Chinese and vice-versa.  This move towards online selling also presents an opportunity to establish a brand through Chinese social media sites such as QQ and Sina Weibo that are discussed at length in Chapter 12.  Failure to quickly move into the Chinese market not only presents an opportunity for your domestic US competition but also for your competitors in China with whom you probably are unfamiliar.

 


Endnotes:

  1. W.T.O. Rules Against China’s Limits on Imports from The New York Times []
  2. China Appeals WTO Ruling on Book, Film, Music Imports from Bloomberg []
  3. China loses WTO media imports appeal from BBC []
  4. Chinese Fiction Is Hot from BusinessWeek []
  5. Other genres that are currently maturing on the mainland include fantasy and science fiction which was recently a focus of special issue the Science Fiction Studies at DePauw University.  See “Great Wall Planet”: Introducing Chinese Science Fiction by Yan Wu []
  6. IPA’s Global Ranking of Publishing Markets—US, China on Top from Publishing Perspectives []
  7. Slightly older data (2006) lists the largest book markets as: the US, Germany, China, Japan and the UK.  See The Global 2011 eBook Market: Current Conditions & Future Projections by Rüdiger Wischenbart and Sabine Kaldonek []
  8. What Chinese want to read from People’s Daily []
  9. Ibid []
  10. Mo Yan won the 2012 Nobel Prize in Literature and in doing so brought modern Chinese literature into the spotlight.  Sales of his English-translated works rose to best-seller status on Amazon.com.  Similarly, sales of Yan Lianke works also increased following the announcement of being a finalist for the Man Booker Prize in 2013.  See Man Booker International Prize 2013 Finalists Announced from The Man Booker Prizes, The world has yet to see the best of Chinese literature from The Spectator and Stealing Books for the Poor from The New York Times []
  11. The Global 2011 eBook Market: Current Conditions & Future Projections by Rüdiger Wischenbart and Sabine Kaldonek []
  12. Bezos’ Kindle-Less Amazon Mashed in China by Ma’s Alibaba from Bloomberg []
  13. Shanda Cloudary US IPO is Finally Taking Off from Tech In Asia []
  14. China’s Top 10 Tech Companies by Revenue from Tech In Asia []
  15. Some of the top China-based translation firms are CLS Communication, Sinophone, Yuyi and Berlo []
  16. The Top 100 Language Service Providers from Common Sense Advisory []
  17. Dean Stamatis is the President of Contemporary Consultants in Michigan. []
  18. Stealing Books for the Poor from The New York Times []
  19. GAPP: Amazon China’s Kindle Store Violates Regulations from Marbridge Consulting []
  20. Bezos’ Kindle-Less Amazon Mashed in China by Ma’s Alibaba from Bloomberg []
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Chapter 3 – Food and beverage

[Note: below is Chapter 3 from Great Wall of Numbers]

There is a famous proverb in Chinese called min yi shi wei tian (民以食为天) – eating is as important as the sky.1 Despite regional differences in dialects, in regulations and in climate, one universal rule on the mainland is that eating is one of the most important activities of the day.  While this may sound like a fortune cookie truism (which by the way, do not exist in China – I have yet to see one), with recent memories of plagues and famines in their mind, many Chinese residents pay close attention to what their next meal will be.  And how it will be cooked and increasingly, where it was grown.

And while they may have a reputation for spending some of the highest amounts of their annual income on food (28% in China versus 10% in the US, this is called Engel’s Law)2 and are simultaneously highly elastic (e.g., if food prices increase they will switch over to cheaper substitutes), their perpetual gastronomical vigilance is not unwarranted.3

During the summer of 2008, China was faced with a series of nationwide milk powder scandals in which 300,000 babies and infants were poisoned and six died from a chemical called melamine which local producers had added “to save money.”456 As a consequence, there was a subsequent surge in the importation of milk powder from abroad including New Zealand and Australia.7 All told 80% of imported dairy products were from New Zealand in 2012.8 And in Australia, Victorian dairy farms recorded a record $144 million in exports to China in 2011.9 In fact, China is now the largest powder milk importer globally as many families – out of concern of repeat poisoning – currently place higher value on imported brands.1011 As a consequence, Tmall, the largest e-commerce platform on the mainland, has begun importing baby formula from companies such as Nestle and Danone to be sold directly to Chinese customers.12 And milk is not the only dairy product that Chinese consumers are importing.  For example, despite being a new commodity to the mainland $139 million worth of cheese was imported in 2011.13

And to “secure” these supply lines according to Financial Review, China Investment Corporation (CIC), one of the world’s largest sovereign wealth funds, is actively seeking agriculture investment opportunities in Australia and other countries.14 In fact, the Beidahung Group, the biggest Chinese agricultural conglomerate recently purchased and is leasing 100,000 hectares in Western Australia and plans to invest up to $4 billion in Australian agriculture.15

In addition to the melamine fatalities above there have been scandals involving “gutter oil,” whereby cooking oil is collected and dredged from restaurant drains; clenbuterol and other chemicals are added to meat to “enhance” the taste yet is toxic; arsenic in frozen calamari and even tainted steamed buns crop up throughout the year.16 It is not unsurprising then that according to a 2012 survey conducted by Horizon Research Consultancy, a Beijing-based polling company found that 41% of those surveyed said food safety was a major problem, up from 12% in 2008.17 One residual ramification from this stark rise in concern comes from a 2012 report from Ipsos, a market research company, which found that due to food scandals “more than 60 percent of people would choose foreign brands more often.”1819

At the same time, in 2010 China exported $41 billion in agriculture such as garlic and onions, yet even among some of this purportedly screened produce, there have been food safety issues.  For example, this past summer a batch of strawberries originally grown in Shandong ended up poisoning thousands of German schoolchildren.  While the investigation is ongoing, the initial findings were that some of strawberries may have been contaminated with norovirus.20

Not quite soylent green

In a bid to protect consumers, an independent, private consumer watch-dog group called Zhichuchuangwai was started in 2011 to chronicle all of the nationwide stories involving food and beverage containments.21 In addition, the world’s largest food retailers (hypermarkets) including WalMart, Tesco, Carrefour and Metro have spearheaded an independent non-profit quality assurance consortium called Global Food Safety Initiative to produce food safety guidelines, harmonize food safety standards and create a certification framework for suppliers and distributors.

As China develops and the middle class grows, the demand for higher quality goods – safe goods – has led to an increase in opportunities for foreign brands which are perceived as meeting the highest safety standards.  For example, the USDA trade office in Shanghai reported that “the 82 foreign hypermarkets [in Shanghai] accounted for 78.6% of the total hypermarket sales volume in 2008.”22 These same hypermarkets also contain an increasing amount of food products (60% as of 2009).  Collectively the mainland hypermarkets is a $81 billion industry and growing.23 Yet before you decide to jump in and create yet-another-hypermarket, this area is fraught with nebulous legislation.  For example, in an effort to “protect” small and medium suppliers, on December 19, 2011 five ministries and committees issued a joint regulatory plan whereby they arbitrarily removed hypermarkets from being able to charge delivery fees, slotting fees, holiday fees and several other fees.24 This caused a lot of confusion and as a consequence retailers were essentially forced to resign their previous contracts with local suppliers.  In addition, these foreign “big box” companies face zoning restrictions that prevent them from competing with domestic retailers like Suning or Gome.2526

For perspective in this segment, in 2010 the two largest retailers in China were Vanguard and Lianhua, both of whom are state owned enterprises (SOEs), and they both generated more than $10 billion in revenue.  For comparison, privately run RT Mart (owned by Sun Art), Carrefour and Walmart generated 25-35% less, yet with a fraction of stores compared with their domestic competition.  For instance, Carrefour generated almost $7 billion in revenue from 182 stores compared with Vanguard, who had 3,155 stores.  In addition, not all private companies perform the same.  In 2012 Tesco closed several outlets in August and scaled down its expansion plans and Carrefour’s same store sales declined 6.1% in Q3 2012 yet RT Mart has thrived and plans to open 105 hypermarkets in 2013.27

In my own anecdotal observations, these large foreign-owned hypermarkets are continuously filled by Chinese and expats alike, even though some of the products cost significantly more than locally owned supermarkets are charging.  For example, as I mention later in Chapter 6, I had a bad bout with food poisoning while in China during 2011 and as a consequence both my Chinese and American doctors recommended that it is better to be safe than sorry – better to spend more on safer food now than pay for it later as an in-patient.  So several times a week I shop at a nearby CityShop.28 CityShop is an up-and-coming, locally owned and expat managed supermarket with 10 stores in the Shanghai and Beijing areas.  More than 80% of their products are imported from the US, Germany, Australia and other developed countries.29 And like Walmart and Carrefour, CityShop is packed with shoppers – both Chinese and expats – throughout the day.

In March 2013 I spoke with Lawrence D’souza, customer service director for CityShop.  He is originally from Goa, India and has spent his career managing a variety of supermarket chains around the globe.  For the last three years he has worked on the mainland at his current position and in his view there are a couple of challenges that while not unique to China, can be a hurdle for entrepreneurs.

In D’souza’s words, “one of the issues that all grocery stores face when trying to import goods is changes in duties and clearing customs.  So for example, recently it has become difficult to import certain products like organic foods which require the CCC stamp from the government yet may not be approved for a variety of unstated reasons.  On the other hand, items like organic milk from Australia are typically allowed entry.  So supermarket owners need to keep up-to-date otherwise they will have backlogs in their supply chain.  Another reason this is important to a grocery store like ours has to do with location.  Each of our store locations is placed in a different neighborhood with differing demographics.  So for example, one location may cater to a client base that is comprised entirely of mainland Chinese.  Another location may have a mix of businesspeople from Japan, Hong Kong and Taiwan.  And yet other locations may have 50% of their customers that are expats from the West.  As a result, we have to stock each store with different items that the target market wants, thus the consistency and flow of items is different.  Which brings us back again to keeping up-to-date with changes in the import rules so that way we can remain flexible to the demands of our diverse customer base.”  As mentioned in Chapter 1, CCC stands for China Compulsory Certificate and is required in order to import any item.  Furthermore, import taxes such as those on wine or breakfast cereal can vary throughout the year and the list of which is maintained by the General Administration of Customs (海关总署).  Additionally, all organic foods imported or produced locally needs to be approved by the China Organic Food Certification Center (COFCC).30

At the same time D’souza sees several untapped opportunities in this segment.  According to him, “because of the rapid development in the last several decades and scarcity of shelf space, there is a product gap, a lack of certain flavors and tastes as some of the food that supermarkets import on the mainland may not necessarily be of interest to customers from India, Russia or Southeast Asia.  For instance, there are between 40 to 50,000 Indian businesspeople and traders that work in Shanghai throughout the year, yet finding specific food like basmati rice can be difficult to locate in the metroplex.  One example in our own stores is that based on customer feedback we added avocados and guacamole throughout the year due to the popularity of Mexican food.  So other entrepreneurs could likewise satiate demand from ethnic niches and become successful doing so.  On the other extreme is volume and scale: the bigger the store, the more products you can stock.  Entrepreneurs and managers could try to emulate big-box stores such as Costco which may be able to keep costs low and process bulk orders to cost conscious buyers – but this also has its own share of inherent challenges.”

Another challenge that D’souza and others that I interviewed raised that is not unique to China is fixed capital costs.  Or in other words, leasing real-estate.  In busy areas like Raffles City (来福士广场), one of the most popular shopping malls in Shanghai, space may cost 15 RMB per square meter per day.  It is significantly higher in the case of supermarkets, 10,000 to 15,000 RMB per square meter or up to 50% of the total operating costs may come solely from rent.  Entrepreneurs should also be aware of the gestation period in receiving import permits and licenses.  According to several businesspeople that I spoke with, it may take 6 or more months to have all the paperwork processed and approved (photocopied, translated, verified), especially if it is a new type of food or ingredient that has never been sold in China.

However, before you come away thinking that hypermarkets and supermarkets throughout China are filled row-after-row with imported goods, the same USDA report noted that even international retailers “typically carry less than 1% imported SKUs” and that “imports rarely constitute more than 5% of total SKUs” even in high profile stores in large cities like Shanghai and Beijing (an SKU is a stock-keeping unit).  One of the reasons why this is the case is that few of the retailers have been able to build out a distribution network (e.g., cold storage) that they already have in Western countries on the scale that KFC has managed to do (as I note in Chapter 16).  What this means is that by-and-large, these same retailers typically still source their food from local suppliers.  This presents an opportunity to foreign distribution and supply chain management experts – to bridge the wide gulf between an increasingly wealthier consumer that would like to purchase imported products for quality and safety reasons versus the amount of imported goods that retailers are able to continuously stock.

Another opportunity is for cold storage experts as well.  For example, PFS (Preferred Freezer Services) is a joint venture between an American company and a Dalian-based company (Yida Group).  During the next several years they will spend more than 7 billion RMB ($1.1 billion) to build out a cold storage network across China, including a 40,000 ton facility in Shanghai.31 And according to Li Wanqiu, head of Zhongde which is a cold-storage consultancy, “Beijing alone built over 50,000 square meters worth of new cold storage warehouses in 2011.”32 The reason these are needed is that according to Datamonitor, “China’s frozen food market grew 9.9 percent annually between 2004 and 2009.”33  One of the reasons for why this marked increase in consumption has occurred is that as an economic develops and urban residents work longer hours, they have less time to cook.  So the demand for quick, easy-to-make meals such as TV dinners (e.g., Hungry-Man) increases.  Can your firm take advantage of this opportunity?

You don’t need to bet the farm

 In Chapter 16 I discuss the failures and successes of foreign owned and operated restaurants (such as KFC and McDonald’s) but even with their entry there is potential for additional competition.  For example, in October 2012 I interviewed Glenn Wilkinson an Australian who has lived in China for the past 25 years.  He is a Senior Consultant at Beacon Consulting, a Shanghai-based firm that specializes in corporate training and HR staffing.34 In his mind, one of the biggest opportunities for both foreign and local entrepreneurs is in the “food industry,” a very vibrant and dynamic market.

What he means by food for example, are the restaurants I listed above.  One of the reasons this is a vibrant market is that according to the National Bureau of Statistics, the restaurant industry as a whole has been growing 14% annually since 2007 “reaching two trillion Chinese yuan (US $319 billion) in 2011 to account for 11.3% of all revenue in the consumer products category.”35 The food-service industry (e.g., catering) jumped to $99 billion in 2011 also up 14% from a year earlier.36 Furthermore, as noted by Wilkinson and others interviewed, there is a high demand for a quality product due in part to safety concerns and in part because of a growing middle class.  For comparison, retail sales in China have risen an average of 17% for each of the last five years and the luxury goods market (see Chapter 11) is expected to grow 20% a year for the next decade.37

Yet to be even handed, enthusiasm should be tempered due to policy changes from the top.  According to the China Cuisine Association (CCA) that due in large part to Xi Jinping’s (the new President of China) fight to stop waste of public money on extravagant meals, the CCA recently conducted a survey that found, “60 per cent of nearly 100 restaurants saw bookings cancelled recently, with one Beijing-based outlet reporting an 80-per-cent drop in sales.”38 Furthermore, “The survey found that business owners felt pessimistic about the outlook of the industry.  They think it’s necessary to readjust their business models to adapt to the new market conditions.”  Prior to the new national policy, the average monthly failure rate of restaurants was 15% in mid-2012.39 Thus the risks involved in setting up a new food & beverage establishment arguably have changed and that failure rate may increase in the short and medium term.

While each city has different rules regarding local partnerships and minimum registered capital requirements, the restaurant business is relatively open to market participation (e.g., certain districts in Shanghai require a $150,000 minimum in registered capital).40 While you would need to do your own fact-finding exploration to measure the return-on-investment, based on anecdotal evidence, it appears that mainland Chinese are apt to eat foreign food just as voraciously as they eat domestic food.

For example, in 2002, Element Fresh was founded by two foreigners, Scott Minole and Sheldon Habiger, has since opened 13 stores in Shanghai, Beijing and Guangzhou.  While a bit on the expensive side, in my mind the quality of the salads more than make up for the price.   In 1999, Bob Boyce from Montana co-founded Blue Frog with his business partner Kathleen Lau.41 I have visited two of its 9 locations (there are 6 in Shanghai and 3 in Beijing) in part because they have great specials on Monday’s and because the burgers are some of the best in the city.   Also in 1999, John Christensen of Denmark founded Wagas, a delicious sandwich shop that I have personally frequented several dozen times.  There are now 25 and counting Wagas locations in Shanghai alone and one in Beijing.

One of the reasons these Western-style restaurants are finding success is as I note in Chapter 15, you have several million Chinese residents who have lived, studied and worked overseas and some of them now enjoy Western food.  For example, according to one estimate by the government, 186,000 Chinese living abroad moved back to China in 2011.42 According to the China Tourism Agency, 70 million Chinese tourists traveled overseas in 2011 and an estimated 82 million traveled overseas in 2012 (who spent $98 billion).4344 McKinsey & Company estimates this number will climb to 94 million by 2015.45 And by 2020, Boston Consulting Group predicts that “China’s total outbound market [will] likely be three times as big as Japan’s.”46 In addition, nearly one million Chinese students now study overseas, including more than 190,000 in the US alone.47 Thus, the Chinese middle class is increasingly familiar with Western-flavors and styles.  And if my own anecdotal experience is any indication, restaurants like Wagas and Blue Frog, while popular with expats, are also quite popular with locals as well – some nights accounting for 90+% of the customer base.  Perhaps you could create a BBQ or Tex-Mex franchise, both of which there are currently few market participants.

Simultaneously, domestic firms whose management understands these dynamic tastes are not sitting idly by.  For example, the Alibaba Group, the largest ecommerce internet company in China (owner of Taobao, Tmall and Alibaba.com) is developing a new procurement system to bridge consumer demand with foreign, international suppliers.4849 According to its founder, Jack Ma, “Tmall will work with the center to build a database of international suppliers that Chinese consumers are most interested in.  It would then collect orders to make group purchases.”50 The new system is expected to be rolled out within the next two years and part of the domestic plans is to deliver anywhere on the mainland within 24 hours.51

Tastes and flavors from home

In March 2013 I spoke with Charles Zeng, founder of Piro, a restaurant and bar located in Shanghai near Jing’an Temple.  Zeng is originally from New York City and previously worked in the financial industry before moving to Shanghai.  After some cursory research he saw an unmet demand: tasty Western food with a normal price tag.  Thus two years ago he setup shop, teaching himself how to cook, learning as he went.  In his words, “while both of my parents were originally from Shanghai, they moved to the US about 30 years ago.  Yet despite this cultural connection, starting up the restaurants was still difficult for me due to a lack of guanxi and knowledge of the regulatory climate.  The learning curve was steep but based on my research I found that there was not enough American-style food for a price that both expats and locals could afford.  And so despite the hurdles I have turned this project into a profitable business venture and definitely think that there are a wide range of opportunities for more competition in this food and beverage area.”

In his view, obtaining the necessary licenses and permits and meeting the food code regulations are an ongoing challenge that all business owners must face.  Specific opportunities beyond food that he sees are “niches such as micro brews, craft brews – there are currently not many out here despite the enormous consumption of beer and liquor.  More specifically, craft beers that are higher value, top-shelf products.”  In 2011, 50 billion liters of beer were consumed in China compared with 24 billion in the US and 9 billion in Germany.52  With $1 billion in industry profits in 2012, China is the largest beer market by sales and Nomura forecasts that profits will rise to $9 billion in 2021.  Yet according to Accenture, 85% of the domestic beer market is “comprised of low-end domestic beer brands” such as Tsingtao which sells a 330 mL bottle for $.32 (for comparison, a similarly sized Budweiser costs $1).53 Thus, Zeng sees this as an opportunity to serve a niche market that will invariably grow as consumers become more familiar with what the market offers.  Maybe your local microbrew club could find success, like Carlsberg has attempted to do, as it recently bid to takeover Chongqing Brewery Company for $461 million.54

Yet to temper visions of immediate grandeur, consider champagne and chocolate.  In contrast to the large amounts of wine importation (see Chapter 11), the consumption of champagne remains relatively subdued.  Only 1.3 million bottles of champagne were sold in China in 2011 compared with 1.3 billion bottles of red wine during the same year.55 Similarly sales of other red wines to China from areas such as Germany remained muted because of lack of brand awareness (i.e., Chinese consumers are unfamiliar with German brands).56 In other food segments, chocolate consumption also remains low-key on the mainland.  The average Chinese consumes a mere 100g of chocolate a year; in comparison the average Japanese eats 11 times as much, an American eats 44 times as much and a German eats 82 times as much.57

And if you own a farm

Roughly 2% of all American’s work in the most productive agricultural industry in the world; an industry which not only feeds the 3rd largest populace but also grows and exports significant portions of the world’s caloric intake (up to 20%).  In 2011, the US exported a record $137 billion in agricultural products globally and China imported a record $20 billion from the US (surpassing Canada).58 In fact, due to a variety of reasons, in 2011 China became the largest importer of agriculture.59 Among other products, US farms exports soybean, rice, corn, cotton and pork to China.60 And in part because of a variety of domestic policies in China (discussed in Mark DeWeaver’s new book61 ), China is essentially dependent on the US for food security and thus is investing in and buying secure supply channels to improve its livestock.

For example, the New York Times noted this past spring that the US, “exported a record $664 million worth of breeding stock and genetic material like semen in 2011.”62 Who is buying this material?  In 2011, Chinese companies “bought $41 million worth of live breeding animals and genetics.”

Why are they buying this?  The New York Times quoted, Ronald Lemenager, a professor of animal sciences at Purdue University in Indiana, who said, “[w]hen you have a nation’s diet changing as rapidly as China’s, the most efficient way to build up production is to improve your animal genetics. We have the genetics they want.”

Thus, if you own or operate a farm in the US, not only can you export your products to China, but you can probably provide services to improve China’s knowledge base of breeding and husbandry.63

Domestic initiatives in agribusiness 

As I detail later in Chapter 14, NetEase is the 2nd largest tech company in China.  Its founder is William Ding who is investing a significant portion of his personal multi-billion dollar wealth in agriculture.  He along with his company “have set aside $16 million for agricultural investments” such as an organic piggery stocked with 5,000 pigs “raised and sold under conditions that can satisfy health-conscious consumers spooked by China’s many food safety scandals.”64

How large is this organic industry?  According to Du Xiangge, chairman of the China Federation of Organic Agricultural Movements (CFOAM), “Only 1.9 million hectares of land are used for growing organic vegetables in the country, less than 1 percent of all farmable land.  It is possible that the ratio could reach 5 percent over time.”65 Thus there is ripe potential for investors such as SAIF partners a domestic private equity (PE) fund that finances specialty shops like LohaoCity which sells organic health food in Beijing and Tianjin.

And on the other end of the spectrum is Peter Zhang a former-chemical engineer at a large SOE (and an autodidact) who is originally from Heilongjiang in the northeast.  Over the past several years he has retrained and retooled to become an English teacher, yet in an effort to hedge against food safety he has retrained yet again, becoming proficient in agribusiness and has leased several dozen hectares in Southeast Anhui province to grow organic produce, primarily fruits and vegetables, for his friends and family.  Zhang told me in November 2012 that, “I am concerned about food safety issues and have invested my personal savings into growing quality produce for my family and friends.  I belong to the middle class, I should be able to afford the quality of food that previous generations have in the past, yet due to inflation and a number of other macro factors, cannot.  So I have invested our savings into a dozen hectares of crops including carrots, rice, pears, cherries, grapes and even free-range chickens.  And after you get through the inconvenient paperwork, land is relatively cheap to lease outside of urban areas thus making the whole endeavor worthwhile.”  He is leasing roughly 80 acres (around 500 mu or亩) for about 30,000 RMB ($4,800) a year based on a 55-year lease between the government and rural farmers who exchanged the land with him (the typical lease on the mainland is 50-70 years, after which time ownership automatically reverts back to the state).

According to Zhang and others I have spoken to, inflation has pushed the price of chicken past a psychological “100 yuan per pound” line, a price that makes eating high-quality chickens unaffordable to those living, ironically, in larger cities.66 Why have these prices increased?  According to the Ministry of Agriculture, “urban Chinese increased their consumption of chicken 219% per capita from 1983 to 2006.”67 What Zhang is also referring to are consumer price index (CPI) increases which have added transportation and storage costs for farmers that bring poultry and produce from outlying farms due to a nascent supply chain network and cold storage network discussed earlier in the chapter.  For example, while CPI increased at a relatively low 1.7% in October 2012, roughly two years ago in January and February of 2011, CPI in China increased by nearly 5%, led in part by a 10% increase in food costs.6869  Similarly, the CPI index rose 3.2% in February 2013, a 10-month high due to a 6% increase in food costs – more specifically, residents in Beijing pay more per pound than their peers in Boston70 Yet to give you an idea of how this fluctuates and differs according to category, in mid-February the average prices of 21 different vegetables declined 11.2%.71 And since Chinese consumers spend a significantly larger portion of their disposable incomes on food (28% in China versus 10% in the US72 ), even a relatively small increase in price of staple goods is immediately felt.

Zhang also noted that one of the main reasons he and his family have become increasingly vigilante about what they eat is “because our trust and our faith in domestically owned restaurants has been shattered due to milk powder poisoning, gutter oil, fake honey and even moon cake scandals.”  While each region varies, roughly half of all honey currently sold in Shanghai is reportedly fake, comprised of substantially cheaper substitutes made of syrup and gum.73 Moon cakes are a traditional dessert made and given as gifts during Midautumn Festival usually held in September.  Over the past several years, investigations have uncovered several domestic mooncake producers, who in an effort to reduce costs have reused and resold both filling and entire inventories of mooncakes – made from previous years – to customers believing that they were buying newly made desserts.  For example, in 2003 a Shanghai-based company, Guanshengyuan, “was caught making mooncakes with expired and mildewed fillings.”74

He also mentioned that similar scandals have taken place at grocery stores and restaurants that dyed rotten pork to make it look younger and “leaner,” dyed noodles and even sold fake steamed buns.75  He is referring to a scandal in 2011 in which 17 noodle manufacturers in Dongguan added ink and paraffin wax “to give their products the look and texture of more expensive varieties.”76 In addition, while there have been several steam bun scandals, one of the most recent notables cases is the Shanghai Shenglu Food company, which added food coloring to lower costs (e.g., turning corn flour buns into a different color) and repackaged expired buns.77

This is not to say foreign restaurant chains are scandal free.  KFC advertised that its soybean milk was freshly ground, when it was not; and its chicken suppliers in Shandong may have used antibiotics to fatten the chicks faster (same-store sales declined 37% in January 2013 as a result).78 In fact, to alleviate food safety concerns, in February 2013 KFC announced that it was launching a new quality assurance program and cutting out small farmers due to the difficulty in overseeing them.79 Ajisen Ramen (a Japanese noodle restaurant) claimed its soup was made from bone-based broth, which upon further investigation turned out to be highly diluted (e.g., “a concentrate”).80  And a McDonald’s outlet in Shenyang reportedly served laundry detergent instead of a Coca-Cola.81

Yet perhaps by partnering with these entrepreneurs, foreign agriculture companies can establish a foot-hold on the mainland and satiate consumer demand.  And as I discuss later in several other chapters (notably 11 & 12), branding, trust and market perception are distinct advantages that foreign firms typically have when entering the mainland market.  This is in part because of the immense resources invested in quality control programs (e.g. Six Sigma) by foreign brands in order to proactively innovate and prevent any potential quality-based scandals from ruining their company images.  In contrast, this kind of branding issue is not taken as seriously on the mainland as it is elsewhere which itself creates an opportunity for brand marketing consultants.

Changing times

According to China Daily, a substantial portion of businesspeople in Zhejiang have moved away from the low-end, low-margin manufacturing industry to agriculture.82 In fact according to the Zhejiang Provincial Administration for Industry and Commerce, “the average annual amount of money invested in agriculture by Zhejiang businessmen has exceeded 10 billion yuan over the past five years.  The total amount reached 20 billion yuan last year.”83 Could your ag firm work with these businessmen in modernizing their farms?

Or maybe foreign companies that build or design automated farming equipment (e.g., robotic fruit pickers) can find demand for products in an industry that is still largely based on manual labor.  For example, according to a 2010 statement from China’s Ministry of Agriculture, “in corn production, the mechanization rate for sowing has reached 72.5%, but the mechanization rate for harvesting is only 16.9% and has become the bottleneck for corn production.”84 In 2012 this figure was updated and the new estimates for the overall mechanization rate for corn harvesting is now 38%.85 In contrast, in the US both planting and harvesting of corn are fully mechanized.  In fact, through the use of mechanization and genetically modified crops, an acre of US farmland “yields twice as much corn as in China or Eastern Europe and four times as much as in India.”86 Yet mechanization, as shown in the statistics above, is increasing rapidly on the mainland and according to a recent Reuters report, “[m]ore than half of China’s ploughing, planting and harvesting is carried out by machines, compared with a third a decade ago.”87 In fact, the 2011 harvest yields in Heilongjiang province broke nation-wide records, rising 11% over the previous year due to “bigger and better machinery for threshing and plowing.”88

And according to Der Spiegel, one of the reasons German companies purchased the imported strawberries from Shandong in the first place (see the strawberry story at the beginning of the chapter) was because strawberry picking robots capable of washing and cutting are an unknown variable – hence the relatively cheaper labor costs in China provided a cost advantage that neighboring countries did not have (at the time).89  In fact, because of relatively high labor costs in California, farm companies have begun looking for robotic alternatives such as prototypes from Vision Robotics that while still on the drawing board, have the potential to assist and replace manual human labor.90 Similarly, German and Californian agribusinesses may even be interested in a project unveiled two years ago: Japanese researchers demonstrated a robotic system that can identify the ripeness of a strawberry which enables the machines to “cut harvesting time from 500 hours to 300 hours.”91 Thus if you and your company build the agribusiness machines or software that powers the machines, you may be able to find new revenue sources in China.

Yet there are two sides to every coin.  As one Chinese source recently told me, “the potential for opportunities for foreign firms remains high in the agriculture industry because it is still largely underdeveloped.  Compounding the issue is that much arable land has been seized from farmers for real estate development during the urbanization process, and major labor forces have migrated from the farmlands into the cities, which leads to worries that the current food production capacity may not meet the growing food demand for the populace.”9293 For example, between 1996 and 2008, arable land decreased from 130 million acres to 121 million acres.  Another estimate put the loss at 123 million mu (one mu is about 1/6 of an acre).9495 Thus China must either import food or modernize its agricultural industry to increase production to make up for the food shortage.96 Simultaneously there are regulatory hurdles that sometimes require technology transfers from foreign agriculture firms to Chinese companies.  For example, seed companies like Monsanto must team up with local partners in order to gain market access.  Yet, these provisions have not prevented Monsanto from increasing both earnings and market share – and it plans to further boost investment on the mainland.97

Takeaway: as China develops, its middle class will have more funds and resources to allocate towards food and beverages.  US businesses and entrepreneurs are already providing both products and services in the form of agriculture, knowledge and physical storefronts.  Yet because of the continued growth, there are still opportunities to start new restaurants or even restructure and train a largely non-mechanized agriculture workforce to the industrial-scale agribusiness that is the envy of emerging markets.  Chapter 12 discusses how you can establish a brand in China through its diverse domestic social media networks.


Endnotes:

  1. A Chinese friend suggested that I provide an explanation to this phrase.  The complete phrase is wang zhe yi min wei tian, min yi shi wei tian.  While wang zhe means emperor, according to him the key to this is the last word “tian.”  Tian on its own is literally ‘heaven’ or the sky over our heads.  But this phrase should be better appreciated in the context of its originator, a Minister Guan Zhong of the powerful Qi Kingdom of the Spring Autumn (1st half Eastern Zhou) period, who meant to use tian here as in “tian ming” – the mandate from heaven (to rule over the people).  Properly understood, the five character phrase ending should correctly translate to something like “the government’s mandate (king or prince) to rule is founded upon its ability to feed the people.”  Or, in the more sophisticated form of political advice: “hunger breeds discontentment.” []
  2. See Agriculture Commissioner Todd Staples says that Americans spend less of their disposable income on food than individuals in Mexico, China and Russia from PolitiFact and Meet the 2020 Chinese Consumer from McKinsey & Co. []
  3. Seniors aged 55 to 65 in China’s largest cities spend half their expenditures on food and only 7% on apparel, according to Ogilvy data, while those a decade younger allocate 38% of their spending to food and 13% to apparel.  See Targeting Grandpa: China’s Seniors Hunger for Ads from The Wall Street Journal []
  4. See Chinese figures show fivefold rise in babies sick from contaminated milk from The Guardian, Two get death in tainted milk case from China Daily, Timeline: China milk scandal from BBC, and 毒牛奶事件 from Yunnan News []
  5. China dairy industry whistle-blower dies after assault from South China Morning Post []
  6. Another reason milk powder is in high demand is that milk powder companies have successfully convinced families that powder makes babies more “chubby” and therefore healthier than being breast-fed.  See Breastfeeding faces challenges in China from Xinhua  and Breastfeeding flashmobs: Chinese mothers are abandoning formula from The Telegraph []
  7. See Baby food sails out with Chinese crews from The New Zealand Herald and Dollar falls as tariff raised from The New Zealand Herald []
  8. This trend may not last as Chinese consumers and government officials have began investigating a claim regarding dicyandiamide, or DCD that has purportedly contaminated some milk powder from New Zealand.  See Ministry acts on dairy safety from China Daily []
  9. Farmers to milk China’s taste for cheese from The Australian []
  10. Hopes wane for China whole milk imports from agrimoney []
  11. 美赞臣等洋奶粉仍热销 国产奶粉再沦陷消费者失去信心 from Qbaobei []
  12. Tmall announces cooperation with foreign baby formula companies from Xinhua []
  13. Foreign cheese firms eye big slice of China’s market from China Daily []
  14. China targets dairy industry from Financial Review []
  15. Chinese buy farms for food from The Western Australia []
  16. See The Shandong Oilman from Caixin and Maggots in the Pasta: Europe Screens Tainted Chinese Food from The New York Times []
  17. See Survey: Half of Chinese like US ideas on democracy from Associated Press and McDonald’s says food giveaway not tied to China’s TV show on Corporate Shame from South China Morning Post []
  18. The consuming challenge of food safety from China Daily []
  19. For an illustration of why and which foreign items are purchased in China see this excellent infographic: Why Do Chinese Consumers Pay So Much for Foreign Brands? from East-West Connect []
  20. See The Hidden Price of Food from China from Der Spiegel and No contamination found on China-exported strawberries: watchdog from Xinhua []
  21. The consumer report site is Zhichuchuangwai []
  22. China Retail Report from the US Department of Agriculture Trade Office in Shanghai []
  23. Sea Bass With Barbie Dolls Challenge Wal-Mart in China from Bloomberg []
  24. China Retail Report from the US Department of Agriculture Trade Office in Shanghai []
  25. Chinese retailers give global giants run for money from The Hindu []
  26. Walmart, Tesco, Carrefour finding it tough to do business in China from The Economic Times []
  27. Sea Bass With Barbie Dolls Challenge Wal-Mart in China from Bloomberg []
  28. This is not an endorsement of their services as there are other chains that provide high-quality imported food as well, such as Ole’ – which is owned by CR Vanguard (華潤萬家), the largest grocery company on the mainland.  Another competitor is Metro (麦德龙), a German-owned chain. []
  29. CityShop []
  30. China Organic Food Certification Center (中绿华夏) []
  31. Cold storage industry sees a hot market in mainland from China Daily []
  32. In Beijing, cool profits from sub-zero storage from smartplanet []
  33. Ibid []
  34. Beacon Consultancy []
  35. China’s restaurant industry shows strong growth potential from Want China Times []
  36. This double digit increase is expected to decline due to a maturing market and a crackdown on government banquets in 2013.  See New Bureaucratic Diet Takes Bite Out of Restaurants, Hotels from The Wall Street Journal []
  37. Chocolate-makers seek to whet China’s appetite from Asia One []
  38. Mainland restaurant takings plummet as party order cadres to tighten belts from South China Morning Post []
  39. Ibid []
  40. For a step-by-step guide on forming an WFOE see China’s Approval Process for Inbound Foreign Direct Investment from the US Chamber of Commerce.  See also Forming A China WFOE. How Long Will That Be Going On? from China Law Blog and Selling In And Into China. Four Good Tips And Mine. from China Law Blog []
  41. Interview: Bob Boyce, owner of Blue Frog and KABB from Shanghaiist []
  42. Reverse brain drain: China engineers incentives for “brain gain” from Christian Science Monitor []
  43. See Demystifying the Chinese traveler from CNN and Chinese rush overseas for holiday from China Daily []
  44. While Chinese consumers typically trust foreign brands (as shown in Chapter 3) they are increasingly vigilant against scams and cons as well, especially while traveling abroad.  See Tourist: We were conned from The New Zealand Herald []
  45. Chinese Choosing Prada Over Louvre Boost Luxury Shares from Bloomberg []
  46. Chinese check-ins from The Economist []
  47. In 2011, the US embassy in China issued more than 160,000 student visas for Chinese students to study at American schools.  Yet a November 2012 report from Open Doors notes that the actual number is even higher, 194,029.  See Ten Years of Rapid Development of China-US Relations from Xinhua and Students from China add $5b to US economy from China Daily []
  48. The goal Sales at Tmall and Taobao combined to reach $157 billion in December 2012, a new record.  See RMB 1 TRILLION: Alibaba Shopping Sites Hit a Sales Milestone from Alizila []
  49. According to a recent Morgan Stanley research note, Alibaba is worth between $66-128 billion and Alibaba continues to diversify into other areas of e-commerce including notably a new search engine through its Aliyun brand.  See Morgan Stanley’s Latest Alibaba Estimates Suggest It’s Worth $66 – 128 Billion from Forbes and China’s E-Commerce Giant Now Has a Search Engine to Take on Baidu and Google from Tech In Asia []
  50. Tmall Plans to Link China’s Consumers with Foreign Goods from Caixin []
  51. The plans are being rolled out together however the domestic 24-hour delivery service is expected to be completed within 1 year.  See 马云1000亿建电商物流 目标全国任何地区24小时内送达from ifeng. []
  52. China beer consumption hits the 50 billion litre mark for first time in 2011 from Mintel []
  53. In the battle for China’s beer drinkers, the $0.32 brew is still king from Quartz []
  54. Carlsberg launches take-over offer for Chinese brewer from Reuters []
  55. Putting some fizz into the wine market from China Daily []
  56. German winemakers seek to win over the Chinese from Deutsche Welle []
  57. Chocolate-makers seek to whet China’s appetite from AsiaOne []
  58. See US agricultural exports to China become costly in times of drought from Global Post and U.S. chief agricultural negotiator sees bright future for exports from the Agricultural Communication Services []
  59. China Overtakes U.S. as Largest Crop Importer, WTO Data Show from Bloomberg []
  60. Chinese farmers produced 50 million tons of pork in 2012, more than half of the world’s total.  See How China’s love affair with pork is creating a pollution problem from The Guardian []
  61. Animals Spirits with Chinese Characteristics by Mark DeWeaver []
  62. From the U.S., a Future Supply of Livestock for China from The New York Times []
  63. According to one estimate at the US Department of Agriculture that I spoke with, building a new corn or soybean farm in the US may be profitable with current prices, especially since both of these crops are in high demand from China. []
  64. Game Boy: Billionaire William Ding Lei Has A Few Fantasies Of His Own from Forbes []
  65. Backed by Profit-hungry Investors, New Approach to Farming Takes Root from Caixin []
  66. This is not to say all produce has increased in costs.  For example, there has been a cabbage glut that has put many farmers in northern China in a bind.  The cost of cabbage harvest and transportation costs more than what could be made selling the produce at the market.  Thus some farms have allowed the public to gather cabbages for free and in some cases even let the cabbage rot in the fields.  See Cabbage price drop hurts growers, wholesalers, grocers from China Daily []
  67. Cheap food may be a thing of the past in U.S. from Los Angeles Times []
  68. See China’s food inflation leaving a bad taste from Globe & Mail and China’s inflation eases to 1.7 percent in October, giving room for more stimulus from Washington Post []
  69. China CPI in December 2012 rose to 2.5% and has spurred interest in looking for ways to reduce farm distribution costs.  See China moves to cut farm produce distribution costs from Xinhua []
  70. Meat prices add to China’s inflation, policy risks from Reuters []
  71. China’s farm produce prices down from China Daily []
  72. See Agriculture Commissioner Todd Staples says that Americans spend less of their disposable income on food than individuals in Mexico, China and Russia from PolitiFact and Meet the 2020 Chinese Consumer from McKinsey & Co. []
  73. Fake honey sales called rampant, hard to detect from Shanghai Daily []
  74. Bad moon rising: China’s mooncakes won’t keep from Want China Times []
  75. From Milk to Peas, a Chinese Food-Safety Mess from International Health Tribune []
  76. See China wrestles with food safety problems from Los Angeles Times and Noodle makers in hot water from China Daily []
  77. 3 arrested over Shanghai steamed bun scandal from China Daily []
  78. See Yum stumbles badly in China, warns on profit from Reuters, ‘Kentucky Fried China’ no more? from Reuters, Yum’s Yuck Factor in China from The Wall Street Journal, Yum’s chicken in China contained excessive levels of drugs from Reuters, CCTV report says KFC chickens are being fattened with illegal drugs from South China Morning Post and China Chicken Probe Hurts Profit as KFC Ends Deal: Liuhe from Bloomberg []
  79. Yum Makes Cuts to Supply Chain in China from The Wall Street Journal []
  80. Some foreign fast food is harder to swallow from China Daily []
  81. Shenyang McDonald’s apologizes after woman served detergent from Want China Times []
  82. Manufacturing, mining and construction represent approximately 45-48% of China’s GDP; in contrast, services accounted for 44.6% of China’s GDP in 2012.  While there are and will continue to be opportunities for manufacturing, the service industry continues to grow at a fast clip.  Yet as a number of the people I interviewed noted, services are intangible, physical goods are much more tangible so it can be a lot of hard work educating consumers about the value proposition in paying for something less concrete than they are used to.  How long will it take to educate them to appreciate this quality?  How to differentiate your company from local competitors like Newegg tried to do?  See Chinese Graduates Say No Thanks to Factory Jobs from The New York Times and Served in China from The Economist []
  83. Entrepreneurs turn to the land for profit from China Daily []
  84. Another innovation that may assist in the merging, acquisition and development of agricultural land is satellite imagery which is now being used as part of a land reform project being piloted in Anhui.  See China’s big step in rural reform; mapping tiny plots of farm land from Reuters, 加快推进玉米收获机械化 力争2015年玉米主产区机收水平超过50% from the Ministry of Agriculture and All About Corn by Cathy Gao Jing []
  85. 农业部:全国“三秋”农业机械化生产迅速展开 from The Central People’s Government of the People’s Republic of China []
  86. Monsanto Needs to Put Doubts to Rest from The Wall Street Journal []
  87. Analysis: China turns to machines as farmers seek fresh fields from Reuters []
  88. Ibid []
  89. The Hidden Price of Food from China from Der Spiegel []
  90. Farms Fund Robots to Replace Migrant Fruit Pickers from Wired []
  91. Strawberry-picking robot knows when they’re ripe from c|net []
  92. This is not to say similar “eminent domain” cases do not take place in other countries.  See China’s cabinet warns of rural land expropriation from Xinhua, China’s giant, deserted malls wait for reluctant consumers from The Globe & Mail and Henan city refuses to stop clearance of graves to make farmland from South China Morning Post []
  93. This is not suggesting that China is facing a looming plague or food shortage as a whole.  Yet despite a record grain output of 589 million tons in 2012, according to Xinhua, China throws away enough food to feed 200 million people each year.  Another estimate from China Agricultural University states that 50 million tons of food is wasted annually (10% of China’s annual grain output) due to poor storage techniques and rot during transportation.  These statistics have become talking points recently during a government crackdown on waste and corruption targeted at government banquets where food is often left uneaten.  For comparison, according to the Food and Agriculture Organization (FAO), one third of all food grown globally is lost or wasted each year (amounting to approximately $1 trillion).  Another recent report from the Institution of Mechanical Engineers states that as much as half of all food produced in the world ends up wasted each year.  See Curbing food waste from Xinhua, China’s anti-waste campaign revives frugal spirit from Xinhua, Grain supplies still not secure from China Daily, Assuring Chinese Finish Their Live Lobster Sashimi from Bloomberg and Almost half of the world’s food thrown away, report finds from The Guardian []
  94. Shortage of farms and water threatens grain output targets from China Daily []
  95. Shrinking arable land threatens grain security from China Daily []
  96. This is called a “grain security” issue that Chinese policy makers and analysts have been increasingly discussing over the past several years.  Some have noted this is equivalent to the “Western dependence” on Middle East petroleum.  See Keep a red line for arable land from China Daily and Grain supplies still not secure from China Daily []
  97. See Monsanto Sees Greater China Investment on Par With Brazil from Bloomberg and Monsanto Needs to Put Doubts to Rest from The Wall Street Journal []
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Chapter 4 – Hospitality services

[Note: below is Chapter 4 from Great Wall of Numbers]

What I should have done when I first flew into Shanghai four years ago was take the high-speed maglev from the airport into the city.  Instead I was sweet-talked by a suave salesman outside the arrival gate’s entrance into taking a luxury sedan.  500 RMB?  No problem, no way is that expensive – after all it is the same rate that other companies nearby were charging.  The shiny new black Buick was driven by a young college graduate who had studied international trade in Australia.  Throughout the nearly hour long drive along one of the many highways that bisect the metro, Johnny, as he called himself explained what there was to do in each district we were passing through.  In crisp English he answered all of my questions and delivered me at the foot of the hotel my travel agent had previously booked.  And during my stay, the bellhop and front desk staff greeted me in pleasant hellos and how-do-you-dos.  My image of China – my first impression was immediately biased because despite the 300 million English learners in China (see Chapter 9), the stark reality is outside of large metros, English dissipates into the wind.

And this presents an opportunity to any number of educational providers (discussed in Chapter 9) and hospitality training firms.  For example, according to the World Tourism Organization, in 2011 there were 57.58 million inbound overnight tourists that spent $48.5 billion on the mainland.1 Since 2000, the number of foreign visitors to the country has increased 10 percent annually.2 Five out of the top six source countries for inbound tourism in China speak native English at home.3 And in my own anecdotal experience, while cities like Guangzhou and Shanghai are relatively easy to navigate – with their helter skelter smattering of English on highway signs and subway stations – I am still accosted by bewildered tourists wanting to know how to get to Jing’an Temple in Changning, Shanghai.  In fact, China is now globally the third largest inbound tourist destination (after France and the US) and as I note later in Chapter 11, it is one of the largest outbound as well (in 2012, 82 million Chinese traveled overseas).

In February 2013 I spoke with Shaun Rein, the author of “The End of Cheap China” and an expert on Chinese consumer behavior.4 According to Rein, “a lot of commentary has been made regarding retail sales, which only grew 14.7% last month [January 2013].5 This is not to say that Chinese consumption has stopped, rather consumers are moving away from status items.  Instead of buying Louis Vuitton bags to show off, they are now buying lifestyle experiences such as trips overseas.  In short, they are changing habits which is bad for certain segments such as footwear and apparel brands.”

This kind of lifestyle experience and “genre tourism” caters to those wanting to have first-hand exposure to authentic conditions (e.g., ruggedness, safari) and as The Wall Street Journal recently pointed out, is increasingly popular with affluent Chinese in particular.  For example, more than 60,000 Chinese nationals visited South Africa in the first half of 2012, “a 68% jump from the same period a year earlier.”6 And those that visit these locales are “more likely to get private tours and embrace the safari opportunities.”  Consequently, traveling in general is no longer relegated to the top outlier either.  For instance, according to Li Yianqin a professor at Minzu University in China, in terms of tourism economic theory, “when a nation’s per capita gross domestic product exceeds $5,000, foreign travel grows rapidly.”7 And by one estimate from the World Bank, China’s gross national income per capita reached $4,940 in 2011.

Where do these tourists stay?  How can you and your company capitalize on either of these growth trends?

According to the China National Tourism Association in 2009 there were roughly 300,000 hotels on the mainland.8 The 21st Century Business Herald estimates that in 2011 there were 2 million hotel rooms on the mainland, a number that is expected to increase to 5 million by 2016.9 In fact, according to the Boston Consulting Group, “China’s combined domestic and international tourism revenue is expected to increase 14% annually for the next nine years.”10 This would create an estimated $838 billion tourism market.  For comparison, as of 2011 there were more than 4.8 million guest rooms at hotels in the US that generated $137.5 billion in sales.1112

While you may think you could squeeze the margins at the low-end in hospitality with relatively cheaper labor, there are already several domestic hostel and motel chains such as Motel168, Home Inn and 7 Days Inn (all three of which I have stayed in and I recommend) that create a highly competitive environment.13 Rather it is at the top end that has larger margins to work with and is currently comprised of the usual coterie of global hotel chains including Hyatt, Hilton, Marriott and Howard Johnson.14

Howard Johnson is a luxury brand

As I note later in Chapter 11, the management team at Coach handbags has repositioned their products – typically considered mid-level in the US – and through market perception campaigns has moved the handbags towards the higher-end market segment in China.  Their efforts have resulted in large sales growth, which in Q1 2012 increased 40% on the mainland.15 Similarly, Howard Johnson which is considered a mid-level hotel experience in the US is also now repositioned at the top-end of the hotel experience in China (in Chapter 16 I discuss KFC which has benefited from perception marketing as well).  Howard Johnson entered the Chinese market in 1999 and has since expanded across the mainland where it now operates 46 hotels in 29 cities.

Is it too late to enter the market?  Probably not.  In fact, in March 2012, Intercontinental (the biggest hotel company in the world) announced that it would begin rolling out a new brand of hotels in China called Hualuxe to cater to the top-end of the domestic market.  And by establishing a Chinese-focused luxury hotel chain on the mainland, Intercontinental hopes to later roll out similar chains in other countries that are popular destinations for Chinese tourists.  Their plan, which could certainly be emulated in a variety of service industries (e.g., restaurants in Chapter 6), is to build a reputable, trusted brand at home and use a loyalty program to bring back repeat visitors when they are abroad.1617 Furthermore the new Peninsula Shanghai hotel was named the top 5 global hotel for business in 2012 illustrating that there is still room for potential new entrants in this segment.1819

Visa changes and HR challenges

Beginning on January 1, 2013 both Beijing and Shanghai now allow for 72-hour visa free access to their metropolises by tourists connecting to other countries.20 Beijing usually receives 5 million foreign tourists a year and its international airport (北京首都国际机场) was the 2nd busiest globally in 2012 (behind Atlanta’s).  Thus because foreigners typically spend twice as much as local at tourist destinations ($1,000), it is thought that the amount of tourists that are estimated to pass through on this new program will double over the next three years.  Yet expectations should be tempered as previous visa free stays (such as Shanghai’s 48-hour policy) only netted an additional 3,000 visits in 2010.21

With these large tourist numbers, what are the potential issues in moving into the hospitality industry?  What are some of the challenges in setting up a hotel chain?

As I noted above and discuss later in Chapter 15, staffing sticks out towards the top of issues.  For instance, according to a 2008 report by Emmanuel Hemmerle, “there are less than 40 local professionals with proven experience in the Development function within the hotel industry in the whole of China, of which only 10 have over five years experience in the field.”22

You might be thinking that your hospitality company can merely start small and build up slowly from their footholds.  This might be possible but could be problematic in this specific industry.  For example, while those low numbers – 40 local professionals – have probably changed considerably since the Beijing Olympics another concern that Hemmerle’s report touches on is retention.  What happens to competent productive managers in the hospitality industry in China?  According to Rene Schmitt, president of Kempinski Hotels, “[m]y one greatest, and constant, challenge of operating over the past 15 years in China has been to attract and retain staff. We are constantly building and rebuilding our leadership across all the cities in which we operate. You train them, and then you lose them to other hotels or airlines.”23  Kempinksi is a German-based luxury hotel company that operates 14 five-star hotels on the mainland.

Yet with these challenges come opportunities to foreign firms that specialize in training hospitality-related services.  For example, Les Roches is a Swiss-based hotel management school (one of the largest in the world) that teaches all of its courses exclusively in English.  It has teamed up with a local college called Jin Jiang in Shanghai to create a joint international hospitality management training program.  Together they are already partnered with many of the hotel chains – both foreign and domestic – across China.  Can your company provide similar training services?

Hotels Rising

In January 2013 I spoke with Fred Xu, a native of Shenyang who is completing his MBA at a university in Switzerland.  He previously worked for the luxury hotelier, Shangri-La, based in its flagship Shanghai location.24 According to him, “the hospitality industry on the mainland still has large swings in seasonal volatility and a lot of traffic actually depends on the location of the hotel.  For example, China has two “Golden Weeks for Tourism” (黄金周) – May 1st and October 1st.  These peak seasons unsurprisingly bring a large amount of travelers and tourists from across the country which dramatically affects the occupancy of hotels.  In recent years, the gap between slack seasons and peak seasons has diminished.  This is largely because China itself has attracted more and more international travelers throughout the year.  And as a long term consequence, due to the process of ‘reform and opening up’ and globalization in general, the hospitality industry continues to develop and the trend is now towards catering to both business travelers and tourists alike.”

One of the HR challenges for all hotel management according to Xu is that, “traditionally speaking, Chinese people typically do not think the hospitality industry is an ideal career.  Simultaneously, because of the intense competition between graduates and non-graduates alike, people who choose hospitality usually receive a lower salary [e.g., limited supply of positions, large supply of potential employees].  And as a consequence, individuals with less educational background actually prefer to have this job due to its upward promotion mobility despite its initial low salary.  The dilemma facing managers however is that they prefer skilled people, especially those with language skills irrespective of educational attainment.  In their mind, they think it is a waste of resources to cultivate highly educated yet unskilled employees yet in the long-run this has caused a serious outflow of talent as skilled workers can easily move to competing chains.”

In January 2013 I also spoke with Xuerong Su, a native of Sichuan and six-year veteran who is a manager at Mind Group, a real estate company that builds hotels and luxury apartments.25 Her most recent project is developing the new Mandarin Oriental Hotel in Chengdu.  According to Su, “in my opinion, Chengdu is one of the best locations for projects because of its winding mountainous scenery, home of the panda, its incredibly long [2000 years of] history, famous rivers nearby and a well-known culinary culture.  And despite the recent governmental policies that place pressure on housing prices [see Chapter 10] many large luxury projects have been largely unaffected thus far, especially those catering to an affluent demographic.  As a consequence I think there are continued opportunities to build and manage five-star facilities across the mainland, especially in larger cities inland such as Chengdu.”

One of the challenges that Su thinks others should be cognizant of is that “acquiring the necessary technology to build luxury hotels and apartments can be quite cost prohibitive.  Because when you build the tallest building in a city like Chengdu, it will ultimately become a landmark and in fact, most of our projects are landmarks.  Thus to maintain our brand and image we buy the best technology from around the world, hire the most experienced consultants around the world (all of them are from some of the most famous companies in the world) and as a consequence this can be very expensive.  Yet this is a cost of doing business in our industry and something that customers have come to expect.  They want the best and demand it.”  However one challenge that should be acknowledged, although perhaps temporary, is the crackdown on government-financed “extravagant” galas and banquets that have taken place at hotels over the past decade.  As a consequence many hotels have faced a rash of cancelations due to the austerity and “anti-corruption” policies currently being implemented.26

Real estate and marriage

As I mention later in several other chapters, following the 4 trillion RMB stimulus (扩大内需十项措施) enacted in 2008 by the Central People’s Government, there was subsequently a large real-estate bubble that grew across the entire country (fáng dìchǎn pàomò).  As a consequence policy makers have attempted to cool it down, to create a soft landing.27  While the efficacies of these efforts are debatable, there are still opportunities and demand for firms that specialize in high-end condos and townhouses.

In fact, while I touch on it in Chapter 15, the relatively expensive property is one area that is sometimes ignored when recruiting talent from abroad (e.g., paying for expat lodging).  For example, while the residential real-estate bubble is largely considered “plateaued” relative to 2-3 years ago, the most expensive property ever sold in China was recently acquired in Shanghai at a price ($8,000/ m²) that most locals and expats alike typically could not afford (the average salary in Shanghai is roughly $9,000 a year).  Yet there is still continual demand for domestic investment opportunities due to a close capital account (see Chapter 5).28 Furthermore, land sales in Shanghai and Beijing continue to reach new highs due to this issue.  For example, at a recent auction in November 2012, one parcel of land sold for $5,431/m² in Beijing.29 And this phenomenon is not relegated to houses and apartments on the mainland as Hong Kong is now home to the most expensive parking spot globally which costs $82,600.30

One of the reasons that these prices may continue to stay at these relatively high levels in larger Tier 1 cities is that migration to these cities continues from around the country side (roughly 48% of the population still lives in rural areas).  And in order to get married, many would-be brides (and their families) require that the groom provide fully paid for apartments and homes to live in.  As a consequence, the groom and his family pool their savings together to purchase these homes, all in the hopes of marketing their sons as attractive mates (over 60% of home purchases are made with “significant backing from the parents”).3132 One reason why this is important is that due to the gender imbalance (approximately 117 males are born for every 100 females) over the coming decade, there will be 40 million men who will be unable to find a mate.33 Thus women (and their families) are increasingly picky and unsurprisingly demanding when it comes to finding life partners.

With the largest population is it unsurprising that China is the largest wedding market.  According to one estimate 13 million couples got married in 2012 and the wedding industry has grown 10-12% a year over the past three years.34 At $9 billion in purchases during 2011, China became the 2nd largest consumer of diamonds (behind the US, overtaking India) and 4 out of 5 couples in Beijing and Shanghai bought engagement rings in 2012.35 Simultaneously 200 million RMB ($32 million) was spent on wedding dresses (4.77 million sets) in 2011.36 As a consequence, as of 2010 the wedding industry was worth $57 billion and the average wedding now costs 200,000 RMB ($32,000).37 This relatively high price tag relative to annual salaries (the average salary in Tier 1 cities is less than $9,000 a year) is feasible due again to the pooling of family resources (e.g., since many families only have one child, the parents will only host one wedding and can therefore spend more on it).  And it provides opportunities for wedding planners and photographers, perhaps even your firm.

In addition, Christine Ng of Bartle Bogle Hegarty (BBH) recently noted that some of the new management offices in hotels are positions such as “director of wedding” primarily because nearly all weddings are held in hotels.38  This is one additional revenue stream that could be tapped into by the hospitality industry.  And with weddings often times comes babies.  And as a result there are business opportunities for those in the maternity industry.  For example, Gome, one of the largest appliance retailers in China is now investing $150 million in a new maternity-focused e-commerce site. 3940

Takeaway:  As China’s infrastructure and cities develop, more travelers – both domestic and international – will visit and tour regions of the mainland.  The hospitality industry, while filled with both local and foreign incumbents, still has potential room for growth and more competition especially at the top-end.


Endnotes:

  1. Tourism Development in China (2011) from the UN World Tourism Organization []
  2. Plan to reduce minimum stay for foreign workers from Shanghai Daily []
  3. The top 10 tourist source countries to China are: the US, Australia, Singapore, the UK, Malaysia, Canada, India, Germany, Indonesia and France. See China Tourism from TravelChinaGuide []
  4. Shaun Rein is the founder of China Market Research Group and the author of “The End of Cheap China.” []
  5. China Lunar New Year Festival Retail Sales Gain 14.7% from Bloomberg []
  6. For Affluent Asians, Africa’s Appeal from The Wall Street Journal []
  7. Chinese rush overseas for holiday from China Daily []
  8. Building boom in hotel industry from China Daily []
  9. Luxury hotel boom leads to oversupply in China from Want China Times []
  10. Meet Hualuxe, China’s Newest Upscale Hotel Brand from The Wall Street Journal []
  11. 2011 At-a-Glance Statistical figures from the American Hotel & Lodging Association []
  12. According to STR Global as of February 2012, globally there are 13.4 million hotel rooms.  See Reader quiz: 16% guess worldwide hotel room count correctly from USA Today []
  13. 7 Days Inn was recently acquired by Carlyle Group for $688 million.  See Carlyle-Led Group Buys China Hotel Chain for $688 Million from Bloomberg []
  14. Hilton is the parent company of DoubleTree and operates more than 30 hotels in China. Marriott is the parent company of Ritz-Carlton.  Marriott operates 56 hotels on the mainland and has another 44 being built.  See Marriott International Announces its 100th Hotel in China from Marriott []
  15. Strong overseas, US sales lift Coach 1Q profit from BusinessWeek []
  16. Meet Hualuxe, China’s Newest Upscale Hotel Brand from The Wall Street Journal []
  17. If your firm is looking to cater to Chinese tourists you may be interested in learning from the mistakes of previous companies that have used stereotypes and clichés to conduct business so as to avoid their pitfalls.  See The cultural cliches the travel industry uses for Chinese tourists from Skift []
  18. The Peninsula Shanghai is Acclaimed as the World’s Best Business Hotel by Travel + Leisure Magazine from PRNewswire []
  19. Another Shanghai hotel recently received an international award for its interior design and decoration.  See The Swatch Art Peach Hotel Shanghai wins prestigious prize for daring design at the Tatler Travel Awards 2013 from Travel Daily News []
  20. See Beijing to offer 72-hour visa-free stay for foreign visitors in 2013 from People’s Daily and 45 countries listed for 72-hour visa-free stay in Shanghai from Global Times []
  21. Coming Soon, Visa-Free Beijing Visits from The Wall Street Journal []
  22. Leadership in China’s Hopsitality Industry Begins at the Head Office from Heidrick & Struggles []
  23. Ibid []
  24. Shangri-La will open its 71st hotel this year.  Headquartered in Hong Kong, these are all high-end 5-star accommodations.  See Billionaire Kuok Says His Empire Can Last ’Generations’ from Bloomberg []
  25. Mind Group []
  26. Hotels feel the pinch as banquet business slumps from Xinhua []
  27. While a lot of focus from journalists (both foreign and domestic) has been on real estate prices in Tier 1 cities, bubbles formed in other tertiary cities as well, such as Yingkou in Liaoning province.  See Beijing issues new rules to limit house purchase from China Daily,王安顺:北京房地产调控决不动摇from Yicai and Real Estate Bubble Expands to Third and Fourth Tier Cities from The Economic Observer []
  28. This is not to say that these properties will lay dormant, especially as the middle class grows and rural migrants continue to move to Tier 1 cities.  See Who Says China is Building Too Much? from The Wall Street Journal Shanghai Sells Year’s Most Expensive Land as Market Recovers from Bloomberg []
  29. See Shanghai property sold for US$35,000 per square meter from Want China Times, Average salaries rise by 10.9% from Shanghai Daily, Land price at record high in Beijing, Shanghai from China Daily and Four Land Parcels in Beijing Sold for CNY 3 Bn from ChinaScope Financial []
  30. The $640,000 parking space from CNNMoney and Hong Kong Parking Costs $387,000 as Cash Moves From Homes from Bloomberg []
  31. In terms of average age for first-time home buyers, at 27 years old, Beijing actually has the lowest average in the world, due in part to parents and relatives pooling savings together.  See First-time house buyers are youngest in China: survey from Want China Times []
  32. China’s Hot Real Estate Market Takes Broad Toll from NPR []
  33. See China’s gender imbalance alleviates but still grave from China Daily, The Plight of China’s Favored Sons from The New York Times and Bride Shortage in China from Facts and Details []
  34. In 2009 there were 11.45 million marriages and increased to 13 million in 2012.  See China reports more divorces, marriages in 2009 from Confucius Institute and Loving China: Romance, Dating & Weddings from Thoughtful China []
  35. See China to overtake U.S. in diamond consumption from Xinhua and Diamond Demand Slows in China from The Wall Street Journal []
  36. Profound Evaluation and Development Trend Forecast of China’s Wedding Dress Market, 2011 to 2015 from Huidian Research []
  37. Loving China: Romance, Dating & Weddings from Thoughtful China []
  38. Ibid []
  39. China’s Gome Invests CNY1 Billion In Maternity E-commerce Website from China Tech News []
  40. Dating sites are also increasingly popular for a variety of reasons and by 2014 these sites are expected to generate an estimated $318 million in revenue.  The largest, Jiayun, has 68 million registered users.  Yet another area that may be relatively untapped is the divorce app market.  For example, more than 5,000 couples divorce each day in China.  Roughly 1.96 million couples got divorced in 2009; in 2011 2.9 million couples got divorced.  In fact, the divorce rate has doubled over the past decade in Beijing and Shanghai and is now nearly 40% (for comparison the national divorce rate is 2.29%).  To be even handed, some of these divorces may be related to avoiding regulations on buying 2nd or 3rd homes.  Yet just like in the West, when children are involved, the custody issues require communication between exes.  Thus online communication through apps may be a potential market.  See Ensuring a long marriage with insurance from China Daily, Joint Custody From A Distance from The New York Times, Divorce: Why the big breakup in China? from CNN, China’s Hot Real Estate Market Takes Broad Toll from NPR, China’s divorce rule dubbed ‘Law that makes men laugh and women cry’ from The Telegraph, Over 5,000 couples divorce each day in China during first quarter from People’s Daily, Divorce rate exceeds one third in Beijing and Shanghai from SINA, Shanghai has 2nd highest divorce rate in China from People’s Daily and Divorce app could help couples decide if their marriage has a future from The Guardian.  See also Why China’s Internet Dating Sites Are Booming from Worldcrunch and Dating in a Digital World: Trends in 21st Century China from Knowledge@Wharton []
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Chapter 6 – Games, health and robotic related services for the elderly

[Note: below is Chapter 6 from Great Wall of Numbers]

In October 2011 I had a bad bout with food and ended up having to stay in a hospital for a few weeks in provincial China.  In contrast to the modern facilities at Huadong hospital in Shanghai (which I have also visited), all three public hospitals in Bengbu, Anhui were at the time, less than sanitary and for residents of the West, a seemingly step-backwards-in-time.  During my stay, I befriended one of the surgeons who had studied in Switzerland.  Dr. Wang or “Charley” as he affectionately called himself, gave me a tour of the in-patient facilities I was staying and said, “Tim, look around, we can barely cope with medicating and treating these patients – how could we possibly take over the world as some media outlets suggest?”

He raises a visceral point.  Despite the abundant growth over the past three decades, one of the industries that has had its share of growing pains is the health care sector (see Chapter 19 for more).  While the debate over government versus private ownership and maintenance of the industry continues on in China, there are a number of opportunities that US medical companies can capitalize on. For example, while the pharmaceutical industry is basically tied up with patent and legal proceeding and negotiations on both sides of the Pacific, US-based medical equipment and medical device manufacturers now have a liberalized export channel compared to just a few years ago.

Overlooked yet increasingly important

On a national level, life expectancy in China has grown from 65 in 1976 to 73 in 2010.  While its increase may have plateaued, reaching farther back in time illustrates how prolonged life expectancy is a positive spillover effect due to economic growth.1 For instance, according to Xinhua, the average life expectancy in Guangdong (the wealthiest province) has risen from 31 in 1949 to 75 in 2008.234

Assuming the retirement age is not increased, by 2050, it is estimated that 31% of China’s population will be near the age of retirement.5 In contrast, today about 14.8% of China’s population is over the age of 60.67

Yet with these demographic changes come different opportunities as well.  According to Zhao Baohua of the Gerontological Society of China, he notes that in terms of entertainment and “toys” for the elderly, “[a]bout 99 percent of Chinese toy factories just produce items for children, but in more-developed economies about 40 percent of toys are designed for older people. It may take China 30 years to catch up with some countries in this area.”8

Here is an area where Western-based toy, games and entertainment companies can export goods and services to a market ripe with potential.  For instance, Amazon.com has several pages of “toys for the elderly” and “toys and games for senior citizens.”  And as described below, there are a number of other made-for-the-elderly products that are currently available in the West but not in China.

This also raises the question, what activities do elderly populations in other countries have access to?  One potential answer to that could be the apartment complex where I currently live in Changning, Shanghai which has a small playground that is typically used by both toddlers and the elderly alike.  According to a Reuters report, “there were over 15,000 pieces of elderly workout equipment parks across Japan.”9 This same report noted that “an elderly playground starts at 8 million yen ($87,220), including the installation of equipment and instructors’ fees.”  Thus there is a potential business opportunity for US firms that develop playgrounds to export their products and services to China.

What about demobilizing conditions?  In the Netherlands, a village was recently built that “doubles as a nursing home,” serving clients suffering from dementia and Alzheimer’s.10 Similarly in Switzerland, a $26 million village has been built catering to the elderly afflicted with Alzheimer’s as well.11 In 2007, six million Chinese suffered from Alzheimer’s and that number is expected to grow markedly as the population ages.  In fact, one third of all Alzheimer’s sufferers live in China.  Shanghai alone has 120,000 residents with Alzheimer’s or dementia.12 While the debate and conversation over how to help treat these patients is still on-going, many Chinese families have now found solace through new treatment centers opening across the country.13 And with new centers comes potential markets.

What can foreigner medical experts do on the mainland?

In November 2012 I spoke with J.J. Liu who is originally from Beijing.  After completing graduate school he moved to California and worked in the bio-med industry for about 20 years before returning and now is the marketing manager for QIAGEN’s operations in China.  QIAGEN is a German biotech firm that builds and designs technologies to diagnose and measure biological specimens (e.g., when you give a blood test, they make the machine that analyses it).  Liu mentioned that as China ages the potential to provide services for the elderly increases as well.  For example, he noted that because of the economic boom in the 1990s and early 2000s many of the elderly now have more assets and funds to spend on improving their health, including the possibility of residing in assisted living facilities – or as he observed, “villas and hotel-style living that are arguably more culturally acceptable.”

Historically, Liu explains, “in the past the average resident did not have the resources to receive medical treatment – while the medical knowledge and facilities were lacking – families simply did not have the assets and resources to finance medical treatments.”  As a consequence, many families simply self-medicated through the purchase and consumption of relatively cheap drugs and TCM (Traditional Chinese Medicine or 中医) at local pharmacies.  While this self-medication phenomenon still takes place, Liu and others expect that these consumers will be able to utilize modernized Class 3 hospital facilities (the top flight), many of which are now stocked with the latest medical equipment.

What other opportunities can foreign companies become involved in?

In Chapter 3 I noted that Chinese consumers largely perceive foreign brands as premium quality. Liu noted that pharmaceutical brands are no different, as “Chinese patients are partial to imported products.”  Yet one of the limiting factors has been relatively high prices.  And some medicines like insulin for diabetes have few generic substitutes.  This price inelasticity means that the 92.3 million diabetes sufferers alone (China is now the “capital of diabetes”) have created an additional $3.2 billion drug market.14

Liu also expects that the current health care reforms being implemented by various levels of government via the 12th Five-year Plan will have “wide-ranging effects, most notably in terms of pharmaceutical costs.  Previously multinational companies [MNCs] were given a preferential pricing policy that allowed them to charge 100-200% markups on medicines whose patents were already running out in the West.  In the next several years this markup will be reduced to a mere 10-20% while simultaneously generic brands are introduced.”

Prior to these reforms, Chinese policies required that in order for MNCs to have access to the market they would need to produce and manufacture the pharmaceuticals on the mainland.  In doing this, policy makers expected a knowledge transfer would take place – as in the auto industry, which I briefly discuss later in Chapter 10 – as MNCs would need to train local staff and administrators.

Subsequently, while very little original research and development has taken place on the mainland over the past decade, going forward many MNC pharmaceuticals have opened up regional headquarters in China to take advantage of both the increased resources being placed into the health care industry as well as recruiting from a well-trained local talent pool.

What does this mean for you and your company?

In six years since it was established, QIAGEN’s Asia Pacific sales have grown from zero to accounting for almost 20% of global sales.  Simultaneously its Shanghai headquarters has grown from 1 employee to 400.  How has it done this?  Its double digit growth rates comes from selling medical systems – like those described above – through distributor channels to hospitals and clinical research facilities (QIAGEN as a whole generated $1.17 billion in 2011).  And because of the various reforms being enacted in all cities, counties and provinces, there are substantial areas of growth for medical providers, both domestic and foreign.  One other area where Liu sees specific potential opportunities for foreign experts is to help set up and train staff at a wide-array of facilities, including retirement villas.  Thus if you and your company already provide health care services you may be able to find new opportunities and revenue streams in China as well.

Lack of products presents opportunities

While services such as LifeCall’s medical alarm (creators of the catchphrase: “Help, I have fallen and I can’t get up”) have been offered to US residents for more than 15 years, there are few equivalents in China at this time.  Even though it is debatable whether or not such a service would prove to be popular in China, one possible product that has gone under the radar and could appeal to elderly Chinese consumers are e-Pants, designed by engineers at Virginia Tech.15 Embedded in the pants are several electronic gyroscopes and accelerometers that communicate to nearby computers via Bluetooth and can detect whether or not a wearer has fallen down.  Similarly a team of researchers at the University of Adelaide are using RFIDs and software to detect sensory movement and help monitor the activities of the elderly so that these aged consumers can continue to live both independently and safely at home (e.g., alert emergency providers if an accident occurs).16 Maybe you or your company can integrate LifeCall’s functionality with e-Pants.  Or perhaps your firm can take a page from Fujitsu who in February 2013 unveiled a “smart” cane called the Stylistic S01.17 Embedded in the handle of the cane is a GPS with LED lights that can help point the user in the correct direction.  In addition, built-in sensors can monitor temperature, heart rate and even humidity.  Their target market is the elderly as well.

Because of Japan’s rapidly aging population (it has the highest average age in the world) its engineers are also at the forefront of innovating and producing both machines and robotic solutions to provide support for the elderly.18 For example, the AGNES suit allows its wearers to feel what it is like to have limitations in physical motility.  The Hybrid assistive limb (HAL) is a new robotic exoskeleton developed by Tsukuba University in a bid to help improve the physical capabilities of its users.19 In the UK there is Hector, a mobile “assistive” robot that can follow its owners and take commands via a touchscreen.20 In the US, there are a number of social and domestic cleaning robotic projects such as the PR2 from Willow Garage and the Roomba from iRobot.21 And since China is rapidly aging as well, this presents an opportunity not just for foreign robotics companies but also IT firms to export their solutions to China (see Chapter 13 as well).22

Digital demographic differences

While personal computer ownership in China continues to increase over the past two decades, as the average urban salary is about $3,430 a year, the typical urbanite usually does not have the funds to pay for one at home.23 That serves as a reason why, internet bars or net cafes (wangba) are substantially much more popular than their Western equivalent.  Xinhua estimates that as of 2009 there are more than 138,000 “cybercafés” in China.24 And 70% of the customers are between the ages of 18 and 30.

So where does this leave the aged and elderly?

As I mention later in Chapter 13, both the iOS and Android app marketplace’s in the US have a number of simple games that some older audiences have gravitated towards.  And as smartphone proliferation continues in China, this presents Western developers and programmers with an opportunity to port and translate their games to a similar demographic across the Pacific.

For example, in 2012 approximately 189 smartphones were sold in China and at the end of November 2012 there were now 1.104 billion phone users on the mainland – 233.4 million were 3G users (3G adoption will increase by 100 million in 2013).2526 This past summer China overtook the US to become the largest smartphone market.27 Flurry now estimates that as of February 2013 there were 246 million smart devices in China compared with 230 million in the US.28 It is thus unsurprising that China is also the fastest growing market for iOS and Android devices.29 Yet in terms of demographics, the vast majority (~90%) of smartphones on the mainland are owned by users who are less than 55 years old.

As I mention later in Chapter 13, in the US, 50% of Solitaire and FreeCell players are senior citizens and 44% of US seniors have played solo games online.3031 Yet a 2012 Flurry Analytics report found that only a mere 3% of US users aged 55 or older, play games on their phones.32 However, in terms of total tablet and smartphone ownership, according to Flurry, in the US this same elderly demographic group (55+) represents 17% of the total tablet and smartphone ownership.

While open market research is relatively scarce on the Chinese side, CNNIC (which is part of the Ministry of Information Industry) estimates that the internet penetration rate for those over 50 is the lowest, at 7% in 2010.33 A 2010 IDC report found only 7.1% of those aged 55 or older play computer games in China.34 One estimate from iiMedia was that 10.1% of Android users in 2011 were aged 45 and older.35 iResearch estimates that 3.8% of iPhone users in 2011 were 45 and older.36 Similarly, a February 2012 report also from iResearch found that approximately 6% of Chinese mobile internet users were 45 and older.37 And Askci estimates that only 1.5% of 50+ year olds in China had a smartphone by the end of 2011.38 So in short, smartphone and computer penetration is relatively subdued within older demographic brackets.

Why is there such a disparity between the US and China?  Why does it matter?

I posed this question to a number of Chinese students and colleagues and they noted that the vast majority of the elderly in China were born and raised on farms and are unfamiliar with the latest technology (e.g., only 51.3% of the population is currently urbanized).39 Another issue could be illiteracy rates.  For example, an older New York Times report noted that many of the less developed more rural regions of China have much higher illiteracy rates.  In 2001, parts of Tibet had up to 42% illiteracy rates.40 Yet trends could be changing as We Are Social estimates that there are at least five million shoppers and increasing over the age of 50 in China.41

Apps that cater to the elderly

One argument against investing resources towards this demographic group is that you do not, with such relatively low market penetration why invest the resources for a risky return on capital?  However one unseen opportunity is the ‘long tail’ – that the simplified game you make could find an audience with other demographic groups such as primary school students at the other end of the population pyramid.

For example, Brain Age is a best-selling Japanese puzzle game for the Nintendo DS (a handheld gaming console) that is popular and successful in part due to its simplicity and ease of use for a wide-range of ages.  Perhaps Western developers could look to the simplified user experience design (UXD) in Brain Age as they port their games over to Chinese markets.

In my own anecdotal experience I think an overlooked, yet important phenomenon regarding elderly Chinese is that they are incredibly social and often even physically active.  On any given night you will see large groups of seniors dancing in plazas, practicing qigong and playing mahjong along the roads.  As my students noted above and the CNNIC data illustrated, if a developer could make accessing apps and the internet itself relatively easier elderly customers may find smartphones less imposing and confusing (e.g., tap on a big simple picture of the person you want to talk to).42

And in addition to using easy-to-see objects, be sure to modify the games to include Chinese traditions, symbols and cultural tie-ins – or in other words ‘Western video games with Chinese characteristics.’  For example: the color red, number 8, and the Chinese knot (Zhōngguó jié) are all considered lucky.  In the early 2000s a knock-off of Red Bull completely redesigned their can to fit the Chinese penchant for red and gold.43 Perhaps creatively integrating these symbols into your game would prove crowd-pleasing.

Also, even though gambling is currently banned on the mainland, this has not prevented small-scale gambling activities from taking place (e.g., in 2007 Macau overtook Las Vegas in gambling revenue).444546 From my observations, a large part of gambling is done in person on pieces of cardboard in the streets or in little game houses (e.g., tea houses and mahjong parlors).  This is not an endorsement of these illicit activities.  Rather this consumer behavior presents an opportunity for app developers to focus on both simplicity and the social aspect of any app that is created.  And since gambling is popular across many demographic groups, perhaps designing a “social” fortune-style game or a non-monetary betting app would find success across the mainland.

Thus while there is viable market potential for game and entertainment developers to create applications for both sides of the Pacific, careful due diligence of age and technology distribution and proliferation is recommended.

Service with a smile

Another possible area for business opportunities is senior care services.  In a December 2012 email exchange with Qian Jianchu, a professor at Shanghai Institute of Foreign Trade,47 he mentioned to me that “elderly nursing will be the most prosperous industry in China in the next 10-50 years.  The market is currently at a relatively low penetration level at present due to the lack of management experiences and promotion.  Therefore foreign firms with experience may find many opportunities in this segment.”  Why is this the case?  Because as noted above, assuming the retirement age is not increased, by 2050 it is estimated that 31% of China’s population will be of retirement age; and within 40 years China “will have nearly 500 million elderly people.”48 Yet despite this increasingly larger demographic bracket, “only 8% of elderly Chinese consumers feel that marketers adequately target them with advertising and products.”49

There are exceptions such as the US-based hedge fund Fortress Investment Group who is investing in and working with China Senior Care to provide “elderly care and retirement facilities.”50

And while assisted living and senior living centers have become increasingly popular in Western countries, aside from several token centers in China, they are virtually non-existent.  That is to say, only 1.6% of people over 60 on the mainland (compared with 8% in developed countries) are accommodated in some way by care facilities.51 Or rather, all but a few of the affluent do not currently receive services from an assisted living center.  Yet according to a report from China’s National Committee on Ageing, about 12 million Chinese over the age of 60 would consider retirement villages an option.52  This potential is one of the reasons why J.J. Liu recommended the market segment for potential entry by experienced foreign firms.   In fact, Fortress is investing $1 billion over the next several years to build and operate centers in larger cities like Shanghai and Beijing.  And the sky may be the limit, as the most expensive 7-star nursing home in Hainan province targeted and tailored at seniors recently opened in Haikou, charging between $1,283 to $2,444 per month.53

In contrast, a 2008 study noted that approximately 1.4 million Americans currently live in several thousand assisted living centers and nursing homes.54 Thus the potential opportunities in China to not only train the staff but also to sell and equip the centers with vital materials provide Western firms and entrepreneurs with new revenue streams in the immediate future.

Some critics may argue that firms like Fortress Capital are getting ahead of themselves, that there may be very little genuine demand – regardless of costs – for assisted living.  For example, Shanghai International Medical Zone (SIMZ) had a tough time starting up several years ago.  It was initially planned to be a luxury retirement village targeting wealthier retirees.  However as part of its marketing push its owners “boasted an investment partnership with Augustinum Group, a leading provider of retirement homes in Germany.”55 Yet work on SIMZ actually stalled for a few years and Augustinum said it never made investments on the mainland.  SIMZ has since been completed and subsequently foreign firms such as Eli Lily (a large US-based pharmaceutical company) and Parkway (a Singapore-based health care provider) have begun operating in the zone.56 Thus even though there is potential due to an expanding market driven by a rise in living standards, investors should still be cautious.  Another argument notes that one of the three Confucian ideals that children are taught is filial piety (xiào): take care of their parents when they grow older.57 Yet because of cultural dynamics, home healthcare may eventually become an accepted alternative as Liu noted above.  Just as generational changes in the West led to outsourcing care of our aged parents, so too may the post-1980s generations (bā​líng​hòu) do in China.

I also spoke with Adam Clemans who echoed similar rationales and prospects.  Clemans is an American pharmacist who works at an international hospital in Shanghai.  According to him, “while somewhat tangential with the filial piety idea, many Chinese children do not necessarily want to (or cannot afford to) spend enormous amounts of money on their parents, but rather they want to get them things that seem like they might be expensive.  The simple fact that something is imported or made by a foreign company makes it seem valuable and special.  For example, relatively mundane “low-tech” items like slip-proof rugs or handle bars for getting on and off the toilet could be attainable hits.  In addition, I think there might be a third market (upper-middle class) for elderly care as well.  Not necessarily super-luxury, but with more Western characteristics (like clean floors & privacy).  Right now it seems like there seems to only be two options, cheap or extremely expensive.”

With a middle class currently numbering 300 million – and estimated to grow to 600 million by 2020 – these alternative care options could become increasingly possible for consumer and suppliers alike.58 Yet again it should be pointed out that middle class is defined as those with at least $3,000 a year in disposable income (e.g., earn between $10,000 and 60,000 pre-tax).5960 So while they have more funds for supporting their elderly relatives, they may not have enough to buy a product like a walk-in bathtub quite yet.  In addition, your company may be able to cater to clients from the Greater China region such as elderly Hong Kong pensioners.  According to the Guangdong provincial government, 69,000 elderly Hong Kong pensioners now live in retirement homes throughout the Pearl River Delta – the bulk of which (more than 10,000) reside in Guangzhou.61 One of the main reasons is that the quality of care is purportedly the same as it is in Hong Kong yet the labor costs are significantly lower thus enabling retirees to live more flexible in terms of finances.

Takeaway: The rapid demographic changes within China present health care providers, robotic manufacturers and game developers with opportunities.  What products and services can you and your company invent and export to China?  These solutions can range from the seemingly obvious, personal movers like the Rascal to something less evident such as old-age proofing doors and cabinets or even simple smartphone games.


Endnotes:

  1. Life expectancy in China Rising Slowly, Despite Economic Surge from The New York Times []
  2. Life expectancy increases by 44 years from 1949 in China’s economic powerhouse Guangdong from People’s Daily []
  3. Residents of Shanghai has the highest life expectancy at birth on the mainland, at 82.41 years.  See City keeps top life expectancy on mainland from Shanghai Daily []
  4. Guangdong has led GDP provincial output on the mainland since 1989.  In 2012 its GDP output was 5.7 trillion RMB ($920 billion) which is half the size of India’s.  See Guangdong GDP up 10.2 percent in 2012 from NewsGD, Jiangsu unchained: Top in per capita GDP, Guangdong in its sights from Want China Times and Guangdong leaders fear they will lose economic pole position to Jiangsu from South China Morning Post []
  5. Empower elderly to be active participants from People’s Daily []
  6. See Age will weary the Chinese miracle from BusinessSpecator and Elderly population to surpass 200 mln in 2013 from Xinhua []
  7. China’s Achilles heal from The Economist []
  8. Age of disillusion haunts senior citizens from China Daily []
  9. Japan’s elderly playgrounds show fun is for everyone from Reuters []
  10. Alzheimer’s Disease: Dutch Village Doubles as Nursing Home from ABC News []
  11. Switzerland’s ‘Dementiaville’ designed to mirror the past from The Independent []
  12. See China in Alzheimer’s double bind from BBC and China, in a Shift, Takes On Its Alzheimer’s Problem from The New York Times []
  13. China, in a Shift, Takes On Its Alzheimer’s Problem from The New York Times []
  14. This upfront cost is on top of the $26 billion in annual healthcare and lost productivity.  See China Diabetes Triples Creating $3.2 Billion Drug Market from Bloomberg and China’s diabetes epidemic exacerbated by one-child policy from News Track India []
  15. E-Textile Pants Identify Fall-Prone Elderly from PhysOrg []
  16. Computer science helping the aged stay home from The University of Adelaide []
  17. Fujitsu prototype GPS cane hands-on: the future of monitoring and protecting the elderly from Engadget []
  18. For an in-depth discussion on assistive robots, see Population Ageing and Socially Assistive Robots for Elderly Persons: The Importance of Sociodemographic Factors for User Acceptance from the International Journal of Population Research []
  19. Robot Suit Hal from Cyberdyne []
  20. Hector: Robotic Assistance for the Elderly from Forbes []
  21. Another robot that could potentially assist both the elderly as well as manufacturers is Baxter.  See Small Factories Give Baxter the Robot a Cautious Once-Over from MIT Technology Review []
  22. With their increased popularity in North America, selling walk-in bathtubs may also be another market opportunity although transportation inland may be difficult. []
  23. Low rate of ownership to lift PC buying from Shanghai Daily []
  24. China saw 138,000 Internet cafes as of 2009 from Xinhua []
  25. China Mobile alone sold 60 million TD-SCDMA (a domestically developed radio technology) devices in 2012.  See Check Out 3 Years of Stunning 3G Growth in China from Tech in Asia, China’s Smartphone Sales Grow 189 million Units in 2012 from MIC Gadget and China Mobile Sold 60 Million TD-SCDMA Devices Last Year from China Tech News []
  26. See China Had Over 1.1 Billion Mobile Phone Users By November 2012 from China Tech News and China Has Over a Billion Mobile Phone Users, 192 Million 3G users from Tech In Asia []
  27. China smartphone market to overtake U.S. in 2012 from Reuters []
  28. China Knocks Off U.S. to Become World’s Top Smart Device Market from Flurry []
  29. Flurry: China Is Fastest Growing Market For iOS & Android devices, Chile comes in 2nd from TechCrunch []
  30. Vintage PC Video Games Still Thrive in World of App from Nielsen []
  31. The Data Digest: Digital Seniors from Forrester []
  32. Flurry Game Accerlation Program from Digital Analytics Association Symposium in June 2012 []
  33. China Internet Insights — Incitez, p.11 from China Internet Watch []
  34. See Table 3, p. 9 China Gaming Market End-User Survey, 2010 from IDC []
  35. See 2011年中国Android智能手机用户年龄分布 from iiMedia and 2011 年中国Android 智能手机用户年龄分布 from China Mobile []
  36. 中国iPhone用户用户年龄段偏成熟 from ChinaPP []
  37. China Mobile Internet User Age Distribution from China Internet Watch []
  38. 2010-2011年12月中國智能手機與非智能手機網民的年齡分布比較 from Askci []
  39. See China urbanization rate exceeds 50 percent from Xinhua, China’s Urban Population Exceeds Countryside for First Time from Bloomberg and Crossing the 50 Percent Population Rubicon: Can China Urbanize to Prosperity? by Kam Wing Chan []
  40. China’s Long — but Uneven — March to Literacy from The New York Times []
  41. Social, Digital, Mobile China (Jan 2013) from We Are Social []
  42. Part of the problem in terms of relatively low penetration rates has to do with the User Experience (UX) that is still being refined.  Phones like SafeTalk (“as seen on TV”) are designed specifically for seniors and others who may have vision difficulties. []
  43. Red Bull still waiting for approval to enter China from Just Drinks []
  44. Despite initial reports that suggested a new pilot program was starting at a casino in Sanya, Hainan province (called Jesters), gambling on the mainland is currently banned.  Macau is the only nearby domicile where this is allowed.  Mainland residents must still apply for an entry visa in order to travel to Macau and are typically only allowed to visit it a few times a year.  There are exceptions, for example, if you live nearby in certain cities of Guangdong or if you have relatives living in the SAR.  See Sanya Says It Never Licensed Any Form of Gambling Activities from Caijing, Chinese authorities close cashless casino bar in island resort from Reuters, Macau Casinos Decline on Visa, Credit Limit Concerns from Bloomberg, Macau’s Casino Revenue Reaches Record After Holiday Week from Bloomberg and China Tightens Reins on Macau from Bloomberg []
  45. Revenue hit $38 billion in 2012 and is expected to reach $44 billion in 2013.  See Rolexes Pawned in Macau Signal Further Gains for Casinos from Bloomberg, Macau gaming revenues hit $33.5 billion in 2011, no slowing seen from Las Vegas Review-Journal, Broken Tooth and New Macau from Foreign Policy and Door is about to slam shut on high-rolling holidays to Macau from The Times []
  46. Despite visa issues, MGM and other resorts continue to invest in building casinos on Macau.  See MGM to build new 15.5bn yuan casino in Macau from Shanghaiist []
  47. Qian Jianchu is also the editor-in-chief at China Commerce and Trade Press []
  48. See Empower elderly to be active participants from People’s Daily and Rise in China’s Aging Poses Challenge to Beijing from The New York Times []
  49. Targeting Grandpa: China’s Seniors Hunger for Ads from The Wall Street Journal []
  50. Big money bets on China growing old, and rich from Reuters []
  51. China faces ‘timebomb’ of ageing population from The Guardian []
  52. Growing old in China: The business of going grey from BBC []
  53. 7-star nursing home opens in Haikou from China Daily []
  54. See Nursing Facilities, Staffing, Residents, and Facility Deficiencies, 2001 Through 2007 from PAS Center and Nursing Homes from the AARP Public Policy Institute []
  55. Growing old in China: The business of going grey from BBC []
  56. See About Shanghai International Medical Center, Shanghai from Parkway Pantai and Covance China and Eli Lilly Pharmaceutical Signed an Agreement on Strategic Cooperation from SIMZ []
  57. For a detailed, illustrative case study on filial piety in modern China see: In China, Betting It All on a Child in College from The New York Times []
  58. 600 million middle-class Chinese by 2020: think tank from Xinhua []
  59. China’s middle-class boom from CNNMoney []
  60. While it may be momentary exception to the trend, the stereotype of “Chinese generational savers” may be coming to an end.  According to a recent CNN report younger Chinese consumers born in the 1970s and 1980s have a savings rate near zero.  Shaun Rein author of “The End of Cheap China” similarly observes that today’s “20-something generation” are veritable spendthrifts with “an effective savings rate of zero.”  See China youth have savings rate near zero from CNN and Getting Chinese to stop saving and start spending is a hard sell from The Washington Post []
  61. In terms of specific numbers, in Guangzhou, “[t]he Shouxing Building is the city’s largest private rest home and home to about 50 pensioners from Hong Kong.”  See Hong Kong elderly go north for retirement from China Daily []
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Chapter 7 – Exporting manufactured goods

[Note: below is Chapter 7 from Great Wall of Numbers]

When I was teaching at a college in Bengbu, Anhui there was a small supermarket across from the main campus entrance called Joy Mart (合家福).  While a new Carrefour had just been built downtown, most students and faculty still regularly shopped at the nearby Joy Mart due to its physical proximity.  While I had originally brought a number of extra spare shaving razors from the US and Korea (where I had worked previously) I eventually ran out and needed to shop for more.  During my first trip along the shop aisles, I noticed one razor package that stood out among the rest: “Blades: Made in the USA.”  I got a good chuckle out of it because of all things you picture as a US export, razor blades is probably not one of them.

Which brings up a good question: being the world’s 2nd largest exporter, what exactly does the US export?  Who does it?

In case you skipped ahead I mentioned in Chapter 1 that, in its August 2012 SME Viewpoint, the US Department of Commerce noted that small and medium-sized enterprises:1

  • Only 1% of US 28 million SMEs export to any country
  • And only 10% of those that export, export to China

If you are reading this, odds are you do not work for a company that exports products and services to China.  There may be any number of reasons why.  The same publication notes that legal uncertainties and property rights protection rank among the top reasons preventing US firms from doing business in China.

But what if you are willing to take the risk and attempt to generate revenue through customers in the 2nd largest economy?  How would you do it?

ExportNow is a turnkey solution provider founded by Frank Lavine, former U.S. Ambassador and Undersecretary of Commerce for International trade.2 It is a streamlined central sales platform that allows US firms – small and large – to export their products directly from the US all the way through customs into the hands of Chinese customers.  There is no need for warehouses or store fronts as ExportNow promotes and markets the products through China’s largest online retailer, Taobao (Tmall).345

Who goes shopping online in China and how much do they spend?  Nearly 60% of Taobao’s userbase is between 25-35 years of age.6 For comparison, according to Quantcast, nearly half of Walmart.com shoppers are under the age of 34 and more than a quarter of Amazon.com’s customer base is 45 years or older.7 To give you an idea of how large online shopping is in China and how fast it has grown consider that Boston Consulting Group (BCG) published last year noted, “nearly 173 million people in China shop [online], and the e-commerce space is expected to exceed $118 billion gross merchandise value for last year [2011].”8 In 2012 that increased further to $196 billion and 242 million shoppers.9 The BCG report also estimates that China’s e-commerce market will become the world’s largest in 2015, with 329 million online shoppers (each spending roughly $1,000 annually online).10 In fact, Analysis International projects that China’s e-commerce market will hit 2.57 trillion RMB ($410 billion) by 2015 and $457.6 billion in 2016.11 And Ali Research Center estimates that if B2B transactions are not included, by 2020 sales of consumer goods via e-commerce on the mainland will reach 10 trillion RMB ($1.61 trillion).12

And if you would prefer to look around for other e-tailers, in addition to Taobao, US firms looking to tap into the Chinese e-marketplace should also consider Yihaodian (an online grocery store), 51buy.com (a subsidiary of Tencent) and 360buy (which specializes in electronics) all three of which have had double digit growth rates over the past several years.13 And these are hardly fly-by-night operations.  For example, in February 2012, Walmart increased its ownership stake to 51% in Yihaodian and by December 2012 had over 20 million registered users and 400 supplier partners.14 And in October 2012, 360buy introduced its native English channel to allow easier access for international buyers and sellers.  Furthermore, In February 2013 Saudi Arabia’s Kingdom Holding’s investment group announced it had paid about $400 million for a strategic stake in 360buy.15

So the first step is less ambiguous as you now know who you can sell your wares to in China and how you can sell them.  Chapter 12 discusses the social media and social marketing aspects of promoting your products and services in China.  But what about services and supply chain improvements?

Industrial robots

While most Westerners are under the impression that you cannot compete with China’s millions of relatively low-skilled workers, there are still opportunities in the future.

For example, as its economy has developed, wages in China have increased dramatically as well (in economics this is called the Lewis turning point16 ).  According to Ernst & Young, “[t]he average labor cost in China has nearly doubled in the past five years, going to more than 40,000 yuan ($6,400, 4,900 euros) a year in 2011 from less than 25,000 yuan a year in the beginning of 2007.”17 In fact, these higher costs are forcing many Chinese firms to relocate and automation is becoming increasingly popular (see below).  According to one Chinese official, nearly one third of manufacturers in provinces like Zhejiang and Guangdong (who produce textiles, shoes and garments) have relocated overseas to neighboring countries in Southeast Asia such as Vietnam and Malaysia in a move that has been called “the great transfer.”181920 This is not to say that manufacturing on the mainland is faltering, in fact for the third year in a row, FDI reached over $100 billion in 2012 on the mainland spurred in part by firms trying to “move up the value-added chain.”21

As a consequence, firms such as Hon Hoi Precision (Foxconn), which make the iPhone and other electronic devices, plan to move inland to provinces where wages are lower and install 1 million robots in their new factories and plants by 2015.  For example, in 2011 Foxconn only used 10,000 robots throughout their factories yet planned to have in place 300,000 by the end of 2012.22 In fact, following the 2013 Spring Festival (春节), Foxconn announced a hiring freeze on the mainland where it currently employs more than 1 million workers.23 The company will use this time to install robots throughout their factories in Shenzhen and Zhengzhou, replacing manual labor.

In 2011, China as a whole was home to 74,300 robots, up 42% from 2010 due in large part to a collective acquisition of 22,600 robotic units.24 The number of industrial robots sold on the mainland quadrupled between the five years spanning 2006-2011.25 All told there are approximately 21 robots for every 10,000 workers on the mainland.  For comparison, Japan is home to the largest number of industrial robots (more than 250,000) giving it the highest density of robots to manufacturing workers (339 per 10,000).2627 Thus Chinese firms with robots, of which there are next to zero per capita, have a long way to go before such densities are reached.  One of the reasons why the robot per capita rate is relatively low is that at 140,000 RMB to 160,000 RMB ($20,000 to $25,000) a piece, these robots (or “Foxbots” below) cost more than four times the annual salary of an assembly line worker.2829  On the domestic side, Sun Zhiqiang is the managing director of Risong Group based in Guangzhou, Guangdong.  For the past 15 years they have been developing robotic automation systems and their revenue has increased 20-fold since it was founded due in part to firms switching as a result of increased costs of human labor.  This means there may be potential long-term opportunities for foreign robotic design firms, especially at lower price points.

While Foxconn plans to use domestically made “Foxbots” for some of the work, this trend towards automation provides possibilities for Western robotic manufacturers, designers and programmers to export their goods and services.  All told, 80% of robots currently being used in China are imported from abroad (in 2011 imports increased 62% to 38,000 robots).30 For example, to improve efficiency and reduce prescription errors, many US pharmacies like CVS have rolled out automated robots in pharmacies.31 Similarly, companies like Philips and Tesla Motors have installed robots that help load and unload shipments from trucks, saving time and reducing physical stress.32 Thus firms providing robotic solutions in these segments like pharmacies and shipping may find new customers on the mainland.

Do you or does your company currently design, manufacture or maintain robotic systems?  Perhaps you can find new clients in Zhejiang and Guangdong.  Cities like Yiwu and Dongguan are some of the largest and most developed manufacturing hubs in China and as a consequence are areas where workers wages have also risen.  In fact, because wages have doubled since 2007, the return on investment of installing a new robot may outweigh the costs of hiring relatively more expensive human labor.

A distributed decentralized manufacturing process

But what if you have a small business that already manufactures goods on a small scale?  How can you compete with large OEMs?

There is a disruptive technology on the horizon and currently moving out of hackerspaces, garages and hobbyist circles called 3D manufacturing.33 As futuristic and seemingly science-fiction as it sounds (and barring legal hurdles), 3D printers and rapid prototypers have finally begin to mature into economically viable tools.34

There are a number of ways a 3D printers can work, the most common of which now is ‘additive.’  Much like a printer nozzle lays ink, commonly used 3D printer nozzles add additional plastic layers on top of one another to build the widget.35 For example, using computer-aided design (CAD) software you can design a customized object like a plastic toy for your young nephew.  Using relatively inexpensive hobby kits or even professionally manufactured 3D printers, you send the CAD file to the 3D printer.  The 3D printer then builds this toy, layer upon layer – right in your home (giving it the nickname of “desktop manufacturing”).36 And as I mention below, several of these 3D printers are now sophisticated and versatile enough to build much more complex objects than your average, everyday coffee mug.

A new report from SmartPlanet suggests that 3D printing can “make global supply chains” increasingly unnecessary.37 The report notes that while the technology is still in its germination, maturing phase, the potential to decentralize manufacturing can save on transportation costs by completely removing the costs and time of shipping from China to the US.

For example, US-based manufactures, both small and large can now purchase relatively precise 3D printers from a number of vendors.  This includes the highly acclaimed MakerBot, Fab@home and Reprap among many others.3839 The award winning MakerBot allows users to turn CAD files into physical constructions, starting at $2199 (the top-end model is $2,799).  Thus if you currently own or work for a US-based manufacturer, regardless of size, you have the potential to build and export anything from miniature toy action figures and playable guitars, to goods of all shapes and textures such as automotive parts, football cleat, artificial ears, cell phone faceplates, stainless steel dice, James Bond cars, UAVs, fuselages, microscale figurines, prosthetics, face jugs, robotic dinosaurs, civil engineering dams, houses, life-sized robots, conductive thermoplastic composites (carbomorphs), marine life models, stem cells, lunar structures and even photo booths.4041

This also presents a good opportunity for independent entrepreneurs looking to start-up a part-time project.  For example, entrepreneurs do not even need to purchase 3D printers as they can contract the physical manufacturing process to a nearby fabrication owner, allowing the entrepreneur to simply design the product and export it to China or elsewhere.  One such US-based company that already provides this content-to-print service is 3D Systems.42

Other firms such as US-based Stratays will lease 3D printers and prototyping machines to users at a monthly rate.43 One business opportunity could be renting one of these Stratasys machines and subcontracting and in-sourcing work orders from both international and domestic clients.  For example, Staples, the office retailer, will begin to integrate and install 3D printers into its printing facilities beginning in Q1 2013 making subcontracting and decentralizing relatively easier.44

In terms of legal considerations, in February 2013 I spoke with Stephan Kinsella, an author and intellectual property lawyer specializing in patents.45 According to Kinsella, “3D printers are a disruptive innovation that will probably face substantial legal hurdles depending on the jurisdiction.  49,000 3D printing systems were sold worldwide in 2011 and even in the face of copyright and patent lawsuits I suspect that tens of thousands more will be sold.46 Furthermore just as bit-torrenting and encryption have enabled file-sharing as means to avoid copyright law, ultimately the prospect of 3D printing may do something similar for patents.  And just as the RIAA sued Napster, patent holders will unsurprisingly fight to prevent this innovative process from occurring as Wired and the EFF have pointed out.”  Wired recently showcased 10 patents that could stifle the homegrown 3D printing market and the EFF is a non-profit organization that has chronicled how patents stunt innovative advances.47 For instance, last November 3D Systems (noted above) sued Formlabs for patent infringement.48 Formlabs is a startup that plans to sell a new 3D printer based on a processing technique called stereolithography that 3D Systems claims to have patented.

Despite these legal issues Kinsella still sees business opportunities, noting that “once we have sophisticated 3D printers that can make copies of themselves like the RepRap project aims to do and are capable of printing out objects retrieved on the Internet from sites like Thingiverse via encrypted files, then patent holders will find it much harder to stop 3D printing which will lead to further proliferation and economies of scale as CAD files are distributed and decentralized globally.  The traditional manufacturing business model will eventually have to change either way and since two-thirds of all 3D printers are currently made in the US, there are still several ways profit from this disruptive innovation without the need to open a factory in China.  For example, any first-mover fashion trend such as designing a creative accessory (e.g., Lady Gaga-inspired purses) and being first to print, ship and sell it to a distribution channel or even to end-customers themselves.  Information, which is what CAD files are, will ultimately become “free” – so to futureproof your business model, entrepreneurs should factor in this change sooner rather than later.”  RepRap is an open-source 3D printer project with a goal of being able to build an identical copy of itself using everyday material (in situ).49 Thingiverse is a site facilitating the sharing and distribution of user-created digital files (CAD).50

Just how large can such the 3D manufacturing process be scaled?  On October 19, 2012, New York City mayor, Michael Bloomberg, cut the ribbon to a new Queens-based 3D manufacturing facility that will soon be home to 50 large industrial-scale 3D printers capable of producing millions of customized consumer goods.51 All told, Wohler’s Associates estimates that the 3D printing industry will be a $3.1 billion market by 2016.5253 And the Consumer Electronic Association estimates that printer sales would rise to $5 billion by 2017 (up from $1.7 billion in 2011).54 These goods can in turn be sold domestically, or as illustrated above, sold to Chinese customers through ExportNow or a variety of other e-commerce providers.

Would Chinese consumers be interested in buying your 3D printed objects?  Perhaps they might, depending on what it is.  For example, in 2011 mainland toy sales increased by 18%, generating $8.58 billion in revenue.  As a consequence Toys ‘R’ Us is not only expanding by building smaller brick-and-mortar stores but also stocking them with more education-focused products like toy microscopes because “[a]bout 35% of sales in existing stores in China are tied to education, compared with 21% in the U.S.”55 In fact, Lego, the plastic build block company, announced in March 2013 that it was building a new factory in China, its first mainland factory to cater exclusively to the Asian market; a market that has seen annual sales growth of Lego’s increase 50% for each of the past several years.56

But remember, even though the Asia-Pacific region is expected to become the world’s largest toy market in 2016 and just because you make a product that is popular in the West, does not mean it will also be popular in China.  For example, in 2009 Mattel opened a $30 million six-story flagship store in Shanghai that included not only the world’s largest collection of Barbie dolls but also other branded goods and services such as customized furniture and even a fashion runway.  Yet the store shut down two years later in large part because Chinese consumers prefer the “cuteness” of Hello Kitty over the “sexy” blonde icon.57 Thus, performing market research on consumer behavior is just as important in the East as it is in the West.58

Takeaway: In the US, only 1% of SMEs export and only 10% of these firms export to China.  This amounts to roughly 30,000 SMEs.  And odds are your company is not one of them.  Yet solutions like ExportNow make it easy for any American company to export and sell their products directly to Chinese consumers online via Taobao.  And because of labor arbitrage, developmental economics (specifically the “Lewis turning point”) and specialization, it is becoming increasing expensive to own, operate and scale manufacturing plants in hubs like the Pearl River Delta and Yangtze River Delta regions.  As a result, US firms specializing in automation (specifically robotics designers and producers) now have potentially new sources from which to generate sales.  In addition, US firms specializing in 3D printing also have the ability to disrupt and modify existing supply chains, enabling CAD designers in the US to compete directly with Chinese-made products (specifically just about anything made with plastic today).

 


Endnotes:
  1. See Opportunities for U.S. Small and Medium Business in the China Market from the American Chamber of Commerce in Shanghai. []
  2. It is called ExportNow.  I would like to thank both Eric Meng and Matt Garner for bringing this service to my attention. []
  3. While some Western sources consider Chinese auction e-tailers to be less than trustworthy, Alibaba (Taobao’s parent company) has implemented a number of policies to improve the quality, reliability and service of Taobao.  As a consequence it was recently removed from the USTR “notorious markets” list.  See Alibaba Group’s Taobao Removed From “Notorious Markets” List By U.S. from TechCrunch []
  4. Another reason to export is that the long-term potential for emerging market annual consumption is expected to reach $30 trillion by 2025.  See Winning the $30 trillion decathlon: Going for gold in emerging markets from McKinsey Quarterly []
  5. In Q3 2012, online ad revenue in China surpassed newspaper ad revenue: 14.53 billion RMB ($2.33 billion) versus 14.39 billion RMB.  See China Online Ads Market: Review and Prospect from China Internet Watch []
  6. Nearly 60% Taobao Shoppers Between 25-35 Year-old from China Internet Watch []
  7. See Demographic Differences Are Key in Amazon-Walmart Online Battle from CBSNews. For recent data from Quantcast see Amazon and Walmart []
  8. Wal-Mart Set to Cash In on Chinese Online Boom from The Motley Fool []
  9. See Bezos’ Kindle-Less Amazon Mashed in China by Ma’s Alibaba from Bloomberg and China Had 564 Million Netizens By End Of 2012; Fewer Using Desktop Computers To Surf from China Tech News []
  10. Saudi Arabia’s Kingdom Holding Invests in 360Buy Jingdong from The Wall Street Journal []
  11. See China Now Has 242 Million E-Commerce Shoppers, Spending $40,000 per Second from Tech In Asia, E-commerce in China – Statistics and Trends from Go-Globe []
  12. China E-Commerce Market to Reach 30 Trillion Yuan in 2020 from China Internet Watch []
  13. Over the past three years, sales at 51buy.com “increased by nearly 20 times.”  See Tencent Adjusts E-commerce Subsidiary Structure In China from China Tech News []
  14. Walmart’s Chinese E-commerce Initiative Takes Further Shape from China Tech News []
  15. Saudi Arabia’s Kingdom Holding Invests in 360Buy Jingdong from The Wall Street Journal []
  16. Named after economist William Lewis, this eponymous law describes the transition from relative subsistence to a modern industrialized economy with higher wages (e.g., capital accumulation leads to prosperity which leads to specialization away from subsistence agriculture).  See How to blow away China’s gathering storm from Financial Times, What Does the Lewis Turning Point Mean for China? A Computable General Equilibrium Analysis by Huang Yiping and Jiang Tingsong and The Lewis Turning Point in China and its Impacts on the World Economy by Andong Zhu and Wanhuan Cai []
  17. The rise of the robots from China Daily []
  18. See Economy Higher costs forcing firms to relocate from China Daily, Chinese Graduates Say No Thanks to Factory Jobs from The New York Times and What Worker Shortage? The Real Story of China’s Migrants from The Wall Street Journal []
  19. On the other hand, remaining factories may be moving up the value chain.  See Analysis: Investors make $100 billion bet on China’s drive up value chain from Reuters and China Still The Place For Manufacturing from ChinaLawBlog []
  20. Mexico is increasingly competitive in manufacturing as the maquiladora’s in border cities continue to grow in experience and talent.  See Mexico: The New China from The New York Times []
  21. For example, Samsung is investing $7 billion to build a chip plant in Xi’an and another $1.7 billion to expand production capacity at an existing plant in Kunshan, Jiangsu.  See Analysis: Investors make $100 billion bet on China’s drive up value chain from Reuters and Samsung Ups Chinese Manufacturing Investment from China Tech News []
  22. Will your next iPhone be built by robots? from IT World []
  23. 富士康暂停招工机器人将上岗from Sina []
  24. Another estimate puts the increase at 51%.  See Chinese robot wars set to erupt from China Daily []
  25. Ibid []
  26. See What’s Behind Japan’s Love Affair with Robots? from TIME and The Rise of the Machines from IEEE []
  27. Another robot that could potentially assist both the elderly as well as manufacturers is Baxter.  See Small Factories Give Baxter the Robot a Cautious Once-Over from MIT Technology Review []
  28. The average salary for assembly line workers in Guangdong is typically around 30,000 RMB a year.  See 富士康机器人上岗:每台成本14万 智商七八岁 from TechWeb []
  29. Another estimate from Wang Tianmiao, head of the State High-Tech Development Plan is that “a typical industrial robot costs around 300,000 yuan and has annual maintenance costs of 20,000 yuan. The total layout of 500,000 yuan over 10 years is considerably less than that for a 6,000-yuan-a-month technician, and robots can work three times more efficiently.”  See Chinese robot wars set to erupt from China Daily []
  30. Ibid []
  31. Will Robots Steal Your Job? from Slate []
  32. Skilled Work, Without the Worker from The New York Times []
  33. Hackerspaces are small, community owned shops typically owned, run and managed by hobbyists (like independent researchers and engineers) to allow for tinkering and education.  China now has several hackerspaces including perhaps its best known, XinCheJian in Shanghai.    See Created in China by Silvia Lindtner and David Li []
  34. How Big Business is Stymying Makers’ High-Res, Colorful Innovations from Wired []
  35. You can even used recycled plastic to refill the spool used in a 3D printer with the new Filabot which successfully completed its Kickstarter goal.  See Turn Your Plastic Recyclables Into 3D Printing Spools With Filabot from Singularity Hub []
  36. See The Desktop Manufacturing Revolution from Fast Company, Desktop Manufacturing’s ‘Macintosh Moment’ from Wired, Disruptions: On the Fast Track to Routine 3-D Printing from The New York Times and Print me a Stradivarius from The Economist []
  37. See 3D printing may put global supply chains out of business: report from smartplanet, Mr. China Comes to America from The Atlantic, The Insourcing Boom from The Atlantic, 3D Printing and the Future of Shopping: Shapeways CEO Peter Weijmarshausen from Reason, Big Data and cloud computing empower smart machines to do human work, take human jobs from The Washington Post and What’s the Deal with Copyright and 3D Printing? from Michael Weinberg []
  38. The New MakerBot Replicator Might Just Change Your World from Wired []
  39. There are more than a dozen publicly released 3D printers available to consumers.  See The shape of things to come: A consumer’s guide to 3D printers from Engadget and Formlabs Co-Founder Describes Their Stereolithographic 3D Printer from Slashdot []
  40. See Completely Customizable 3-D Printed Figurines from Wired, The World’s First 3D Printed Guitar from BusinessWeek and voxeljet builds Aston Martin models for James Bond film Skyfall from 3ders []
  41. Student Engineers Design, Build, Fly ‘Printed’ Airplane from UVAToday, Everything you need to know about the Lumia 820 and 3D printing from Nokia, Microscale 3D printing of a spaceship from Nanoscribe, Weighted Companion Cube Die – Stainless Steel from Etsy, 3D Printed “Exoskeleton” Lets a Little Girl Lift Her Arms and Play from Stratasys,  Robohand: How cheap 3D printers built a replacement hand for a five-year old boy from ArsTechnica, A Simple, Low-Cost Conductive Composite Material for 3D Printing of Electronic Sensors from PLOS One, Nike launches its first 3D-printed football cleat from Engadget, Bioengineers print ears that look and act like the real thing from Chronicle Online, Recreating 19th-century face jugs with 3D scanning and printing technology from BoingBoing, Robotic Dinosaurs On the Way for Next-Gen Paleontology at Drexel from Drexel NOW, Honey, I Shrunk the Dam! from US Army Corps of Engineers, Dutch architect to build “endless” house with 3D printer from 3ders, Print your own life-size robot for under $1,000 from CNN, 3D printing: The world’s first printed plane from NewScientist, Airbus Explores Building Planes With Giant 3D Printers from Forbes, Colony: beautiful 3D prints, reminiscent of marine life-forms from BoingBoing, Edinburgh scientists use 3D printing to produce stem cells from BBC, Foster + Partners works with European Space Agency to 3D print structures on the moon from Foster + Partners and 3D Printing “Photo Booths” Popping Up Across the World from Singularity Hub []
  42. 3D Systems []
  43. Stratasys []
  44. Staples to Use Mcor IRIS in Copy Centers from Fabbaloo []
  45. KinsellaLaw []
  46. New Industry Report on Additive Manufacturing and 3D Printing Unveiled from Wohler Associates []
  47. How Big Business is Stymying Makers’ High-Res, Colorful Innovations from Wired and EFF []
  48. 3D Systems Sues Formlabs and Kickstarter for Patent Infringement from Wired []
  49. RepRap []
  50. A free open-source repository of CAD files for 3D printing is actively maintained at Thingiverse and Autodesk recently released an iOS app called 123D Creature that allows users to design and print 3D creatures. []
  51. See Giant 3-D Printing Factory Opens In New York City from Popular Science and Inside The World’s Biggest Consumer 3D Printing Factory from Forbes []
  52. Next Year’s 3-D Printers Promise Big Things — Really Big Things from Wired []
  53. Stratasys recently merged with Objet to become the largest 3D printer company (ahead of 3D Systems).  See After Merger, 3D Printing Industry Has A New Leader from SingularityHub []
  54. Domestic research and development of 3D printing is a nascent industry on the mainland.  According to Wohler’s Associates, two-thirds of 3D printers sold in 2011 were made in the US compared with just 3.6% from China.  See China’s 3D Printing: Not a Revolution – Yet from Caixin []
  55. Toys ‘R’ Us Grows in China, With ‘Tiger Moms’ in Mind from The Wall Street Journal []
  56. Lego Ramps Up Production for Asia from The Wall Street Journal []
  57. See Why Barbie Stumbled in China and How She Could Re-invent Herself from Forbes and What do Chinese consumers want? Not Barbie from CNN []
  58. In addition to studying the 250 million members of the emerging middle class and their shopping habits, another area of potential research involves that of the consumer behavior of only-children which may impact the sales of the goods and services from your company.  See Ambition and angst: inside China’s middle class from The Times and Little Emperors: Behavioral Impacts of China’s One-Child Policy from L. Cameron et. al. []
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Chapter 8 – Sports

[Note: below is Chapter 8 from Great Wall of Numbers]

In 2011 I was teaching at a college in Zhongshan, Guangdong – a mid-sized city in the Pearl River Delta manufacturing region of southern China.  During lunch I would regularly eat at the campus cafeteria.  The faculty dining area was in a separate room connected with the main student dining area.  Throughout the month of June, the students – typically men but also women – would pack their dining area to catch a glimpse of the NBA playoffs on TV’s hanging from the ceiling (and also because it was one of the few rooms with reliable air conditioning – unfortunately their dormitories only had fans).  For nearly an entire month the area was crowded almost shoulder-to-shoulder, even during final exams.  And on numerous occasions, my students, including one named Jason Xu from Dongguan, asked me repeatedly to bring back basketball ‘high tops’ whenever I traveled back to the US.  This task typically involved looking through Eastbay catalogs with them and listening to their dreams of one day wearing “authentic” NBA apparel.

Is this just an isolated group of NBA fans?  No, according to sport consultant Matt Beyer, “the NBA has close to 30 official corporate partnerships specific to China.”1 Thus while you may see Chinese apparel companies advertising in the background during an NBA game – if the student body at the college in Zhongshan is any indication – there is a similarly large potential for US brands to advertise in the Chinese Basketball Association (CBA) as well.

In fact, commissioner David Stern estimated that the NBA’s revenue generated from China will reach $150 million in 2012 (based on television and digital broadcast rights).  And according to Stern, “NBA viewership in China rose 18 percent last year [2011]” and will grow 10% a year for the foreseeable future.2 Furthermore, CCTV 5, a state-owned TV station that focuses on sports recently signed a new agreement with the NBA to increase its live-coverage, programming and analysis based on content “produced exclusively for China.”3 The NBA’s relationship with CCTV 5 dates back to 1987 when the All-Star game was broadcast on the mainland.4

What kind of sponsorships takes place in this cultural-sport trade?

For instance, while Yao Ming has a $10 million contract with Reebok, in 2006, Shaquille O’Neal signed a five-year sponsorship deal worth $1.25 million with Li-Ning (and later expanded to $6.2 million and again to $10 million).56 Li-Ning is one of the largest sports shoe and apparel companies in China, with $1.4 billion in revenue for 2011.7 Similarly, O’Neal’s teammate, Dwayne Wade recently cancelled his sponsorship with Nike and signed for a percentage of equity stake with Li-Ning.8 Yet for comparison, Nike did more business in China alone in 2011 ($2.1 billion) than Li-Ning’s total global revenue.910 And for perspective, according to Boston Consulting Group, the apparel market in China is expected to generate $204 billion by 2020 (triple from 2010).11

How popular is basketball on the mainland?  According to Ying Wushanley, a professor at Millersville University:

It is estimated that more than 300 million people play basketball throughout China; NBA games are watched by more than 30 million viewers per week; retail stores are saturated with NBA merchandise; NBA.com/China has become the most popular single sports website in China; and NBA is consistently the most searched sports term on China’s top search engine Baidu.com.12

The Chinese Basketball Association (CBA) is the top professional league in China.  It has been around since 1995 but has had its share of growing pains.  According to FORTUNE magazine, the league incurred a loss of nearly $17 million in the 2008-2009 season because a significant portion of the expenses go towards recruiting overseas talent.13 For example, in October 2012 Tracy McGrady, a seven-time All-Star for the Houston Rockets signed a $1 million annual contract with the Qingdao Eagles of the CBA.14 Two weeks later he was greeted at the airport by a huge fanbase, which itself attracted media coverage.15 Even non-CBA players are sometimes hot commodities.  For example, this past summer, Jeremy Lin (林书豪 of ‘Linsanity’) signed a two-year sponsorship agreement with KFC, both of whom have huge followings on the mainland (see Chapter 16).1617

And while the domestic league continues to grow and recruit global talent (of note, in the 2009-2010 season, 19 of the top 20 scorers were foreigners18 ), this is not the only sport being played on the mainland.1920

Kicking and skating

While Yao Ming is probably the best known Chinese athlete abroad, the domestic basketball industry – while large (according to both FORTUNE and Ying, more than 300 million play it) – is just one of several sport markets.  As I discuss below, in addition to soccer and tennis, both badminton and table tennis, while seemingly pedestrian in the West, are each have the potential to become multibillion dollar sports in China.

The Chinese Super League (CSL) is the highest level of professional soccer in China has been around since 2004.  While its ticket gate revenue is relatively low, at an estimated $33 million a year, its 17,651 in average attendance is the highest in Asia.21 Soccer, as I note below, is a popular sport played by large portions of the population through pick-up games and several organized leagues (especially in high school and college).

As part of a new 10-year deal with CCTV (the state broadcasting company), in 2012 IMG (one of the largest sports and media firms in the world) was brought in to help market, brand, develop and manage the CSL into a topflight global league.22 Similarly, in March 2013, it was announced that David Beckham will be paid several million euros to become the new CSL Ambassador in an effort to bolster the CSL image overseas.23 Yet despite having a poor national soccer team (plagued by scandals) that has failed to qualify for the World Cup all but once (2002), an estimated 700 million Chinese watched the 2006 World Cup and 24 million Chinese fans watched the 2010 match between Greece and South Korea.2425 The 2004 Asian Cup final between China and Japan drew 250 million viewers in China, making it the “most watched single sports event in the history of Chinese television.”26 Thus US brand awareness firms on Madison Avenue (such as IMG) have a potentially large audience with which they can position their clients’ products.

Sport agents could look at the CSL market as a new venue for their clients.  Guangzhou’s Evergrande team hired Marcello Lippi of Italy for $12.5 million, the third highest ever for a coach.  And Shanghai’s Senghua team signed Nicolas Anelka for $13.3 million, coincidentally the third highest for a player.  All told, “forty three percent of the [league’s] revenue goes to foreign players.”27 Similarly if you are a Western trainer or coach, you may find large monetary incentives to train and coach Chinese athletes.  China’s meteoric rise in the Olympic swimming events is in large part due to Australian coaches who were lured over in part by financial incentives.  For example, Ken Wood noted that China pays four times the amount he would get in Australia.282930

Other non-traditional sports have begun to make inroads as well.  Skateboarding, for instance, has begun to spread throughout the larger cities of China and as of 2009, there are between 40-50,000 active skateboarders.31 At 12,000 square meters, SMP Skatepark in Shanghai is purportedly the largest skate park in the world and home to around 2,000 members.3233

Playing without nets

My first apartment in China was next to the outdoor basketball courts at the college I was teaching at.  During the daytime there were relatively few students on the courts.  But after 5pm, all 20 hoops were roughly jam packed with mostly young Chinese men (and sometimes women).  Just next to the courts was a soccer field, also filled with several soccer teams comprised of a similar demographic distribution.

Yet despite the popularity of soccer and football, at dusk many students, faculty and families would take to the campus streets and play badminton just like a scene out of The Sandlot, sans James Earl Jones.  Hours after sunset, up and down these streets the groups continued to play – until the mosquitoes became too much to bear.  And they did it all without nets.

With similar enthusiasm, the numerous ping pong tables at the student union and faculty centers were continuously occupied by both young and old alike.  None of the equipment was new, or the best – it simply was good enough as Voltaire might say.  And nearly identical recreation patterns are found across the entire country.  As a consequence Chinese athletes have dominated the medal table at nearly ever badminton and table tennis event over the past decade at the summer Olympics and World Games.

For example, Lin Dan is a household name and the first person to ever win the Super Grand Slam in badminton (winning all 9 major badminton events).  His image now graces the cover of numerous marketing campaigns – from Red Bull to Gillette – netting him at least $1.9 million in sponsorships annually (and ranking him the 33rd “most marketable athlete”).34

Table tennis (ping pong) is the national sport of China and the Chinese Table Tennis Association manages the largest professional table tennis league, China Table Tennis Super League (CTTSL).3536 Zhang Jike, currently the reigning Olympic and World champion, is sponsored by Coca-Cola (his image actually appears on the cans).  Domestically Jike is sponsored by Yanjing Beer Group (netting a $70,000 bonus for his Olympic win) and State Grid.37

In tennis, Li Na became the first Chinese national to win a grand slam tournament.  She won the 2011 French Open and subsequently signed 10 sponsorship deals including those with Hagen-Daz, Rolex and Nike as well as a three-year contract with Mercedes Benz and is on track to be the highest earning female athlete globally.38 And in swimming, Sun Yang broke an Olympic record in London last year and has signed 10 million RMB ($1.6 million) worth of sponsorship agreements including those with Yili Dairy, 361 Degrees (a sports manufacture) and Coca Cola.39 The 361 Degree deal was purportedly for 1 million RMB ($157,000).

Thus along with a social media strategy that I outline later in Chapter 12, if you or your company plans to sell goods and services to consumers on the mainland, it is important to look at potential sponsorship deals with popular athletes in leagues across the country.  And once again, if you do not, your competitors (both US and Chinese) could very well be looking to sign the next Yao Ming or Lin Dan.40

Professional know-how

What other services could you provide that are not available or are in scarce supply in China?

In his book Red Flags, Matt Garner notes that because Westerners – and specifically Americans – are exposed to the best advertising campaigns, the most concerted marketing efforts and the most methodical media plans, Westerners are by-and-large the most sophisticated and savvy consumers on the planet.

How can you use this to your advantage?

Colin Colenso is an Australian businessman who illustrates how Garner’s “saviness” can be put into practice.  He is the CEO of Human Action Media and with no qualifications or work experience in marketing, media or event managing, within 18 months of pursuing his dream to start a business in Shanghai running billiards events, Colenso’s small company – aided by two English speaking Chinese friends – managed the first nationally televised snooker event in China with a western multinational brand as sponsor.4142

In an October 2012 interview I had with Colenso, he noted that “this national snooker event was actually presented to me by the government officials as they hadn’t the marketing or public relations skills or resources to sell sponsorship packages to professional westernized companies in China.  Such gaps in skills and knowledge in sports and many other aspects of China are numerous, as services and products adapt to a growing and freer market.  This market phenomenon occurs everywhere, but the gaps in China’s rapid evolution to a market economy have been wider and deeper than in developed countries where such obvious opportunities had been snatched up long ago.”

So where does this leave a sport marketing expert in the developed world?  Is there a way you can translate your experience to the Chinese market?  Or is it too late?

I asked Colenso these same questions and he advised that while, “the development of sports business in China has been rapid, particularly in the last decade, so the gaps may be narrower and shallower for beginners.  Thus opportunities may not be obvious or easy to discover.  But in a market of dozens of cities with millions of residents whom have a growing desire and capacity to procure sports entertainment and products, I have no doubt Chinese sports will be grabbing headlines around the world in years to come, not just in athletic performances, but in business developments related to sports.  In fact, sports, as well as other markets are maturing to the point that they are more capable of providing opportunities for experienced professionals and companies from the West.  Snooker provides but one example of this, as China has become a key ally in World Snooker’s strategy for international expansion.  I’m sure the same is true for golf and various other sports, as the various organizations and companies involved have evolved.”43

And remember, just because you might not know who Lin Dan or Li Na are does not mean that Chinese consumers are equally unaware.  For perspective consider that the English Premier League generates almost the same revenue as the NBA ($3.5 billion versus $4.3 billion)44 yet it would be foolish to ignore the marketing potential of sponsoring teams like Manchester United or players like Wayne Roonie (the League’s highest paid player) just because you did not like the sport.  In fact, due in part to its large fan base on the mainland, Manchester United recently signed a 3-year sponsorship deal with China Construction Bank and Wahaha, the largest soft drink producer in China.45 Could your firm or clients find similar opportunities?

The Great Outdoors

As I discuss later in Chapter 11, according to the China Daily, in 2011 more than 60,000 Chinese children traveled to the US and participated in various summer programs.4647 While educational attainment is the primary motivation, another reason is that some middle class families have begun looking for outdoor activities for their children.  Why?  According to a recent survey, “Chinese kids under six spend less than an hour outdoors every day, only a quarter of the global average.”48 Thus in an effort to educate their children about nature, some are opting for day-trips to nature preserves and even summer camps.  In fact, according to a McKinsey & Company survey, “Chinese consumers who identify “retail-tainment” as a favourite pastime has fallen from more than half a few years ago to about 40 per cent now, and will be less than a third by 2020.”49

This kind of change in consumer behavior could provide an opportunity for both domestic and foreign companies to provide outdoor services and entertainment to children and adults.  For example, two years ago Club Med opened its first ski resort near Beijing.  During the summer it doubles as a golf course and theme park and was built to accommodate 18,000 customers a day.50 And according to one estimate from Justin Downes, a ski resort advisor, “there are about five million ski tourists in the country” – a number he estimates could reach 20 million by 2020 once new ski resorts are built.51  There are even ski resorts in relatively remote Urumqi, in the northwest province of Xinjiang.52 All told there are over 400 ski resorts nationwide and companies like Mountain China Resorts are investing several billion RMB to develop and build additional resorts and hotels to cater to a customer base which is now about 70% Chinese.53 Thus both foreign and domestic turf experts, course and resort designers, and even ski trainers may find a new revenue source.

Yet one area both foreigners and domestic firms and investors should be cautious of is golf courses.  While the ban on golfing was lifted in 1984, construction of new courses has been officially banned since 2004 (e.g., “it is an elitist game” and “uses scarce fertile land”); there has been a cat-and-mouse game of subsequent construction followed by investigations.  To get around this ban, new golf courses typically use other names like “health clubs” or “country clubs.”54 Those that are discovered (typically via satellite imagery) are sometimes dug up.  For example, several years ago the Anji King Valley country club (southwest of Shanghai) received a 10-day visit from bulldozers who subsequently redesigned the landscaping (tore up the turf and sprinkler system).55 Yet there are others that thrive and generate purportedly large sales; the Qinghe Bay club that opened in 2008 charges 880,000 RMB ($141,000) for lifetime membership.56

In fact, one estimate is that the Chinese golfing industry generated nearly $10 billion in revenue in 2008 (from course costs and equipment) and is expected to grow from 700 courses in 2012 to 2,700 in 2015.57 Even Mission Hills, the world’s biggest golf resort operator has opened several courses in the face of legal uncertainties.  Their largest course is the size of Manhattan and is located in Hainan province which is exempt from the ban.  Yet as I mentioned at the beginning: caveat venditor.  This boom may only be temporary.58

Six Minute Abs

As China both ages and develops (see Chapter 6 and 19) the demand for professional recreational facilities may also increase.  For example, water aerobics is generally considered a healthy, physically beneficial activity for elderly consumers in the West.  Yet aquatic facilities do not exist in China at the level as they do in some foreign countries.  And it is not due to a lack of popularity as anyone who has visited a public pool can attest; these facilities can become very crowded.59 Similarly, just as all other developing countries go through growing pains, one literal example that is increasingly relevant is physical stress.60 Or rather, many segments of the mainland do not feel they have enough time to both work hard at work and exercise afterwards.  In fact, according to the World Health Organization, the obesity rate for those 15 years or older in China reached 38.5% in 2010 (up from 25% in 2002) and another study by the General Administration of Sport (国家体育总局) found that “overweight rate among students between the age of 7-22 climbed to a new high.”6162 And as I mentioned in Chapter 6, in terms of overall numbers China is now the capital of diabetes, with 92.3 million or 9.7% of the population suffering from this affliction compared with 11% in the US.63

Part of the predicament leading to this rise in obesity is that quite simply, many students are encouraged and required to study more that in the past.  The increased competitiveness in obtaining academic placement (see Chapter 9) has led to many primary, secondary and even tertiary students to typically attend school from 7:30am to 5pm and then spend an additional 3-4 hours doing homework.  As a consequence they have little time to play or participate in physical activities.64 In fact, according to a recent Global Times report, “[i]n comparison with data collected in 2005, scores in men’s 1,000 meters fell by 3.37 and 3.09 seconds for urban and rural students, while breathing capacity of college students as a general dropped by nearly 10 percent from the 1985 level.”65 According to Qiao Xiaoshan a physical education researcher, “[f]rom 2002 to 2010 in China, more than 40 participants in long-distance running events aged 16 and over died suddenly.”66 In 2012 two more college students died from heart exhaustion after participating in a marathon in Guangdong and another student died in Shanghai while playing basketball.67 This has led to cancellations of running-based tests and competitions across many cities and provinces.  In fact according to Qiao, “more than 30 universities in Xi’an no longer held long-distance races because of the decline in students physical fitness, leading to concerns the students may suffer injury or even death if they took part in intense physical activity.”6869

In other cases, the consumer may not feel comfortable at existing facilities.  For example, in my own anecdotal experience at participating in gyms in China, one common concern I have heard by female patrons is that they would prefer to work out in their own women-only gym so they can receive train in a more supportive, focused environment.  Thus foreign, women-oriented firms such as Curves may find opportunities to cater to niche clientele.70 Similarly, specialty gyms like CrossFit may be able to capitalize on its status as a non-traditional, unconventional training program that could market itself towards the insatiable demand for wushu (e.g., Shaolin kung fu) which similarly involves training in creative ways and carrying, throwing, contorting and kicking unusual apparatus.71 However, all told, by one estimate, the penetration rate for fitness facilities is a mere 0.3% on the mainland compared with 16% in the US and 13% in the UK.72

For perspective, in 2011, there were 29,365 fitness-related businesses providing 43.6 million gym memberships in the US.73  Yet just because there is potential in one country does not mean there is instant success in another.  For instance, Bally’s Total Fitness has actually reduced its fitness centers in China from 44 in 2008 to less than 30 today.  And 24-Hour Fitness sold its centers to a local Chinese group (Ansa) in August 2012.  Why?  Because according to Walter MacDonald, a wellness management consultant, “[a]ll the ideas that work in the West mostly don’t work here.  Fitness is not like fast food chains that can easily change the menu according to local taste.”74  Similarly Theo Hendriks, the CEO of Sports and Leisure Group explains that “[t]he international clubs that have a difficult time in China are franchises, and they just have one concept for their gyms in different countries and cultures.”75

And again for those willing to stick with the mainland, the revenue potential could be rewarding.  According to Walter Macdonald, in terms of market size only $11 billion is spent on fitness in Asia compared to $21 to 25 billion in the US.76 For example, Hosa Fitness Clubs is one of the largest on the mainland with more than 500,000 members and plans to increase its centers “from the current 82 to 300 by the end of 2013.”77 Thus perhaps if foreign firms can figure out how to localize and cater fitness to specific consumer behavior (e.g., group based activities like tai chi, yoga, cycling) instead of the traditional Western model commonly tried they may be able emulate Hosa’s success.7879

In my conversation with Kirt Greenburg (see Chapter 1), he also noted that foreign firms should conduct research to specifically discover consumer behavior patterns regarding scheduling preferences at the gym.  For example, based on his cursory research he has found that many local gyms do not cater to consumers who prefer to work out in the morning, that gyms are typically only open beginning at 8:00 am.  According to him, “because the gym itself and formal fitness culture have not been established in most urban regions, customers and entrepreneurs are still adjusting and learning how to utilize and cater to peak hours.  The idea that you can take your work clothes to the gym, workout, shower and then head straight to work is still not fully embraced by urban workforces.”  Thus it may take some long-term planning and even education to cater to this new segment of time-conscious customers.

Takeaway: China’s sports base and sport development continue to create world-class athletes.  Professional leagues are beginning to mature and have attracted significant fan bases.  As a consequence, sponsorship and advertising revenues continue to climb both for sport franchises and athletes.  If you plan to sell your products and services in China you should also consider looking for potential athletes and sports – even those seemingly unpopular in the US such as badminton or table tennis – because if you do not take the opportunity to sign them, your competitors (both Chinese and American) very well might.


Endnotes:

  1. China reaches for the big leagues from The National []
  2. NBA China Revenue to Increase at Least 10% Annually, Stern Says from Bloomberg []
  3. NBA, CCTV to boost basketball coverage in China from Variety []
  4. NBA, CCTV to expand partnership from China Daily []
  5. Yao Gives Reebok An Assist in China from The Wall Street Journal []
  6. O’Neal the real deal as Li-Ning goes global from People’s Daily []
  7. 2012 was a relatively difficult year financially and strategically for Li Ning and it may not exist in a year or two.  See A Year of Rebuilding for China’s Li Ning from The Wall Street Journal, Li Ning Torches Inventory from The Wall Street Journal, Li Ning tumbles on fundraising plan from Financial Times and Is the end nigh for Li-Ning? from The Li-Ning Tower []
  8. Chinese Shoe Deal Could Make Dwayne Wade The Richest Athlete of All Time from Celebrity Networth []
  9. Wade to sign with shoe brand Li-Ning from ESPN []
  10. I would be remiss if I did not mention a story Matt Garner originally told me.  Qiaodan is what they call Michael Jordan in China, but it was also a knock-off Air Jordan brand that Chinese consumers thought was actually American.  The reality is that the brand was registered as “Qiaodan,” not Jordan.  But most Chinese consumers cannot tell the difference.  It is like having a place in the US called “Hafo Business School” which has nothing to do with the real Harvard Business School yet most Chinese consumers do not know what they call Harvard in English.  See In China, Air cheow-DAN Cries Foul from The Wall Street Journal. []
  11. J.Crew to Open First Asian Store in Hong Kong from Bloomberg []
  12. See p. 204, Sports Around the World [4 Volumes]: History, Culture, and Practice by John Nauright and Charles Parrish and STATS Delivers the NBA to China’s Leading Web Portals from STATS []
  13. Pro basketball hits a wall in China from FORTUNE []
  14. It’s Official: NBA Star Tracy McGrady to Play in China from The Wall Street Journal []
  15. How Big is Tracy McGrady in China? from The Wall Street Journal []
  16. The two ‘followings’ are different.  Whereas KFC operates more stores on the mainland than anywhere else outside of the US, many basketball fans have enjoyed the rise of Jeremy Lin (born in Los Angeles to Taiwanese immigrants).  See Jeremy’s KFC Photo Shoot and More Photos From Volvo Shoot from Confessions of a Jeremy Lin Addict. []
  17. Another high-profile NBA import is Gilbert Arenas who currently plays for the Shanghai Sharks which is owned by Yao Ming.  See Zero Sum Game from Slam Online []
  18. NBA Washouts Have China Calling Foul from Bloomberg []
  19. Beyond Yao: The Future of Chinese Basketball from Knowledge@Wharton []
  20. Yao Ming’s Cure for What Ails Chinese Basketball from The Wall Street Journal []
  21. One Billion Fans, One Terrible Team from The New Republic []
  22. IMG Sees ‘Tremendous’ Sponsor Interest in Chinese Soccer from Bloomberg []
  23. See Beckham’s CSL ambassadorial role now confirmed from The Li-Ning Tower and Chinese Super League hoping Beckham can restore its battered image from South China Morning Post []
  24. See China bans former soccer chiefs for life, slaps heavy fines on clubs from Xinhua and Soccer in China from Facts and Details []
  25. Where are China’s Soccer Stars? from The New York Times []
  26. Asian Cup final smashes viewing records from the Asian Football Confederation []
  27. Chinese soccer clubs pay high salaries to foreign players from Want China Times []
  28. How world stole the brains behind Australian sport from The Daily Telegraph []
  29. How a swim school in Redcliffe is driving China’s Olympic gold rush from News Limited []
  30. Back in the swim from Financial Times []
  31. Skateboarding out of the shadows from China Daily []
  32. SMP Skate Park []
  33. Action Sports and Sport Participation in China from China Sports Review []
  34. The world’s 33rd most marketable athlete – Lin Dan from SportsPro []
  35. See China, Still the World Champ, Is Falling Out of Love With Table Tennis from The Atlantic and Ping Pong Diplomacy from China.org.cn []
  36. The late Zhuang Zhedong was one of the best known table tennis players on the mainland.  He was instrumental in ‘Ping Pong Diplomacy’ which presaged the normalization of relations between China and the US in the early 1970s. []
  37. See Zhang Jike: An Eligible Bachelor from Table Tennista and State Grid Welcome Visitors to the Brazil Junior and Cadet Open from ITTF []
  38. She was most recently the runner-up in the 2013 Australian Open.  See Li Na wins three-year Mercedes endorsement from SportsPro and Li Na on course to be world’s highest earning female athlete from The Li-Ning Tower []
  39. He was recently disciplined and his “commercial activities” (sponsorships) were put on hold.  See Sun Yang, advertising’s next big thing from China.org.cn and Sun Yang suspended from commercial activities from China Daily []
  40. Zou Shiming, gold-medal winner in Olympic boxing, is just one of many potential world-class athletes coming out of China.  See Zou Shiming’s professional example set to lead boxing revolution in China from Global Times []
  41. Human Action Media []
  42. Amway sponsors snooker from SportBusiness []
  43. World Snooker []
  44. Bumper revenues for Premier League clubs tempered by soaring wages from CNN []
  45. The wealthiest man in China is Zong Qinghou, founder of Wahaha which is the largest beverage producer in China.  See Man Utd signs up Chinese sponsors from Financial Times, Manchester United Signs Sponsorship Deal with Wahaha in China from Business Wire and China’s Richest Man Says Capital Markets ‘Suck’ from The Wall Street Journal []
  46. Chinese parents turn to US summer camps from China Daily []
  47. Some of these summer school programs may come under scrutiny due to relatively lax transfer credit requests.  See Chinese Summer Schools Sell Quick American Credits from The Chronicle of Higher Education []
  48. China discovers its inner tree-hugger from Financial Times []
  49. Ibid []
  50. Club Med looks to profit from China’s skiing craze from Agence France-Presse []
  51. Ibid []
  52. See Ski fields in Urumqi opens for business from Xinhua, Ice and Snow Festival kicks off in Xinjiang from Global Times and Urumqi attractions from China Daily []
  53. The ski’s the limit from China Daily []
  54. Golf course boom points to China corruption from Financial Times []
  55. The Forbidden Game from Slate []
  56. Golf course boom points to China corruption from Financial Times []
  57. See Golf defies rules to gain ground from China Daily and Mission Hills puts share float idea on table from South China Morning Post []
  58. Golf construction is booming in China, though it’s banned from Los Angeles Times []
  59. See Swimming: Chinese pools often too crowded to swim from Agence France-Presse and China’s Dead Sea Is World’s Most Packed Swimming Pool from The Daily Mail []
  60. This is a phenomenon that Matt Garner calls “stress stratification.”  In fact, due to time constraints Garner and others have predicted that many families will begin consuming pre-made food packages such as TV dinners like Hungryman.  This is further discussed in Chapter 3 (e.g., “frozen foods”). []
  61. Another estimate is much lower, 13.3% of urban Chinese male college students were classified as obese compared with 19.6% Americans in the same demographic group.  See China’s young in crisis of declining fitness from Associated Press []
  62. See Obesity in China: Waistlines are Expanding Twice as Fast as GDP from USC US-China Institute, Deaths in sports means more exercises needed from China Daily and What’s Making China Fat? from The Atlantic Cities []
  63. Another report from the International Diabetes Foundation puts the Chinese percentage slightly lower at 8.8% and in the US at 9.3%  See Prevalence of Diabetes among Men and Women in China from Yang et al. and China’s diabetes epidemic exacerbated by one-child policy from News Track India []
  64. Deaths in sports means more exercises needed from China Daily []
  65. Children’s tug of war between classroom, sports ground from Global Times []
  66. Races canceled as students struggle to stay in shape from China Daily []
  67. See Second death from Guangzhou marathon reported from Xinhu and Sudden death of college student raises attention from China Daily []
  68. See Races canceled as students struggle to stay in shape from China Daily and China’s young in crisis of declining fitness from Associated Press []
  69. Compounding this problem is air pollution (as noted later in Chapter 18).  According to John Balmes, a professor of medicine at UC San Francisco, due to the poor air conditions and relatively high levels of pollution in cities like Beijing, “it’s actually unhealthy for kids to be exercising outdoors. When you’re playing sports outside – or just being a kid and being very active – you get a high exposure to pollution because you’re breathing more per minute. Also, when you’re exercising, you breathe through your mouth instead of your nose, which has a filter.”  See Eye-Stinging Beijing Air Risks Lifelong Harm to Babies from Bloomberg []
  70. Compared to the rest of the industry, Curves has actually fallen on financial difficulties.  Thus competing firms that operate in this niche may be able to take this opportunity to expand overseas.  See In Search of More Muscle from The Wall Street Journal []
  71. The first official CrossFit gym on the mainland was recently opened in Shanghai.  See Iron Dragon: Crossfit []
  72. Down at the gyms from China Daily []
  73. Ibid []
  74. Ibid []
  75. Ibid []
  76. See Gym, Health & Fitness Clubs in the US: Market Research Report from IBISWorld, The Shape of the Fitness Industry from South Source and Industry Research from IHRSA []
  77. Down at the gyms from China Daily []
  78. For perspective consider that a year ago in 2011 Bally’s had large expansion plans for the mainland however those do not seem to be panning out.  Similarly, the fitness market has been another area that seems to have suffered from hype as back in 2002 it was reported that China’s sport and leisure market had 400 million consumers who spent $1.7 billion on sporting goods in 2000.  Thus, again while the potential remains, it may take many more years for any kind of critical mass or market penetration rates that are equivalent to the West, if ever.  See China’s Next Revolution Is in Fitness from The New York Times, Little Weight to China’s Gym Fad from Los Angeles Times and The New Sweatshops from TIME []
  79. An area of personal interest is the sport supplement and dietary supplement industry (which I did my graduate research on in the US).  While specific market research numbers are hard to come by, products from GNC are readily sold in CityShop (see Chapter 3) locations and some yogurt shops sell MuscleMilk.  And because of the prevalence of TCM (traditional Chinese medicine) and herbal supplements at every local pharmacy, perhaps foreign firms specializing in supplements could find a new market to generate revenue from if properly localized, branded and marketed. []
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Chapter 9 – The education market

[Note: below is Chapter 9 from Great Wall of Numbers]

Over the past four years I have had a chance to live and work throughout China.  This was done in the capacity as an instructor, teacher and professor at a variety of colleges and schools across the country.  Along the way I have met numerous fellow travelers, international teachers and businesspersons who have worked across the wide expanse of China’s educational systems.

I say systems because there is a cornucopia of private international schools, public schools, specialized Montessori schools and a seemingly infinite amount of training centers called bǔxíbān (companies and institutions that typically offer after-school programs such as EFL, GRE, GMAT, art, business and math training).  These all exist to meet the demand of an extraordinarily large population that culturally values formalized schooling for educational attainment.

For example, in 2006 there were an estimated 16.7 million students studying at 336,200 elementary schools and 21.2 million students studying at 361,300 junior high schools (the reason for the relative decline and difference in the cohort sizes has to do with the one-child policy).123 More than 9 million high school seniors take the national college examination (gaokao) each year, the top percentage of which typically then study overseas.4 And approximately 8 million college students now graduate each year in China, a rate that has quadrupled since 2002.5

In addition, as I mention below, there are a number of extra-curricular training centers called bǔxíbān that cater to the growing domestic demand for foreign educational services.  For instance, in 2011 more than 20,000 Chinese high school students took the SAT as part of their quest to study overseas.67 With 58,196 test-takers from the mainland, one in five people who took the GMAT in 2011 was from China – a 45% increase from the previous year (and up from 11,000 in 2008).89 Both tests are conducted entirely in English.  New Oriental Education – among many other training centers – alone trains and tests up to 200,000 students a year in standardized tests like TOEFL and SAT.1011

EFL market

In January 2009, then-Premier Wen Jiabao stated that there were roughly 300 million English learners in China.  For perspective, there are 600 times more Chinese studying English than Americans who study Mandarin.12 From primary school through the first two years of college, nearly every student in China is required to take English.  One of the subjects tested during the gaokao, the annual national college entrance exam, is English.  And with great commitment comes great costs.  In 2002 the estimated price tag on EFL education was $1.4 billion and according to a 2009 McKinsey & Company report, “China’s foreign-language business is worth $2.1 billion annually.”13 As I mention below, this is substantially lower (5x) than their peers such as Japan and South Korea.

Who teaches these EFL courses?  According to People’s Daily, approximately 100,000 foreign teachers and experts are recruited each year to work on the mainland.1415 But before jumping on a plane and starting a new EFL division of your company overseas consider that not only would you need various licenses to start up a new firm, but that the EFL market is already sorting the wheat from the chaff.16 For example, a large number of nation-wide EFL providers including: Disney English, Wall Street English and English First (EF) are owned and operated by foreign companies.  EF is actually the world’s largest EFL company, with 34,000 employees and more than 500,000 paying students globally.  New Oriental Education and Ambow Education were both founded by Chinese nationals.17 They rank among the top EFL providers in China and are even traded on the NYSE.

So like all business startups, be sure to do a SWOT (strengths, weaknesses, opportunities, threats) analysis and identify what your company can provide that is not already being serviced.  Even with these well-funded incumbents, a case could be made that entrepreneurs (both foreign and domestic) can still create a profitable business model, catering to specific niches (e.g., first-contact health care providers, hospitality managers, financial and securities traders, lawyers and paralegals).18

While some have argued that EFL might be bubble activity, there is arguably a lot of organic, bottom-up support for this drive into English.  For instance, according to Jun Liu, English professor at the University of Arizona, as of 2007 about “40,000 foreign companies have been set up within China and employ 25 million people.”19 As a consequence a lot of the day-to-day operations are conducted in English, such as emailing, accounting, finance and sales.  And this outward push from within organizations can be illustrated by firms such as Air China – the third largest carrier in China – which has introduced an incentive program for its employees to learn English from a large TEFL provider.  Similar incentive programs exist at foreign-owned multinationals such as Eli Lilly, Metro (a large German supermarket chain) and Intel.  On a governmental level, in a bid to help tourists and foreigners, one such firm – English First – was even hired to teach taxi drivers and volunteers during the Shanghai 2010 Expo; they were also the official trainers for the 2008 Beijing Olympics.

And with a goal of becoming distinguishable and eventually an international brand, most businesses and large SOEs have adopted English names such as China Unicom, Lenovo, Agricultural Bank of China, China National Petroleum, State Grid and China Railway.2021 As I mention later in Chapter 12, this push outward presents an opportunity for US companies and institutions to help market and educate Chinese firms looking to do business overseas.  On this note, in June 2012, Shaun Rein, the author of “The End of Cheap China,” made the case that China will continue to need American education and American educators.22 He makes a persuasive call for US-based educational entrepreneurs as well as educational companies and institutions to set up shop on the mainland.  And if you do not, someone, perhaps even your competition will.

What you and your firm can do

For perspective, South Korea, which invests more on EFL education than any other country, collectively spends between $10-$15 billion a year on EFL education; one 2005 estimate put the figure even higher, 1.9% of GDP (approximately $16 billion).23 And with a number of domestic programs similar to its neighbors, Japan spends about $8 billion a year on EFL.24 Thus with a population ten times the size of Japan and a GDP six times the size of South Korea, there is a lot of potential room for EFL growth in China, which as noted above, spent $2.1 billion on EFL in 2009.

How much do these programs at a language center typically cost?  I spoke with a high level Chinese manager in charge of operations at a large EFL training center in Pudong, Shanghai who has had 20 years of experience working at Disney English, Wall Street English, EF, Web English and Huapu (the latter two are Chinese-owned and managed).  According to her, “ten years ago it was a seller’s market as there were relatively few language centers and as a consequence they could charge enormous tuition fees, upwards of 400,000 RMB [$64,000] a year primarily because there was and still is a large demand for authentic face-to-face experiences.  In return the centers provided one-on-one intensive training with laowai – native English speakers – for hours each day.  Today, because the market has matured over the past decade, the average high-end language package now costs about 30-40,000 RMB [$4,800-$6,400] annually in larger cities like Shanghai and Beijing – which is still a somewhat high amount considering the annual wages for most urban residents is less than $9000 a year.  Yet, there still a number of firms such as RISE and baite (百特英语) that specialize in providing English-only, total immersion environments for their customers – at a substantial cost.”

One of the ongoing issues that any service provider in any country must continuously deal with is figuring out the right price point for attracting potential customers.  Online education is one way to create flexible rates; as a consequence several EFL programs are now available at substantially lower costs compared with ten years ago (e.g., 500 RMB per month).  Another example is while the value of an EFL package is subjective based on each individual’s preferences, there are ways to make repayment easier.25 Take for instance, payment plans.  At some language centers they are now allowing customers to pay by installment.  And according to this same source, even though 10-20,000 RMB [$1,600-$3,200] a year is now considered a “reasonable sweet spot” in the mind of the typical middle class worker in a Tier 1 city; some of these consumers still would like flexibility and assistance and thus providing month-to-month billing allows them to achieve a win-win compromise.

Catering to specific clientele

In November 2012 I spoke with Cathy Su, a six-year marketing veteran at English First (EF) and Fujian native, about education-related business opportunities in China.  According to Su, “parents will go to great lengths to sacrifice themselves for their child’s educational future.  For example, in order to send their children overseas, many are essentially price inelastic.  Some are willing to invest and spend substantial amounts in order to help their children get an overseas education.  They do this for multiple reasons, yet in every case, the students all need both coaching and training to prepare for standardized tests like the SAT, GMAT and TOEFL in order to matriculate overseas.”

While there are cultural components (such as li or 禮) to this seeming inelasticity one of the key issues that Chinese families currently face is as Charles Zhang (the founder of internet giant Sohu) recently explained in an interview,

“I believe the US system is definitely better than the Chinese system. First of all, China just has way too many people. The entire system becomes very competitive and thus opportunities are limited. Education in China is not education; it is selection. Of course, the biggest selection process is the national college entrance exam, the Gaokao. The Chinese system naturally must prepare children to study for this inevitable exam, but the preparation is the complete destruction of creativity.”26

Zhang’s comments were similarly echoed by Paul French, the Chief China Market Strategist at Mintel who recently noted that, “[t]here simply aren’t enough places at enough good universities for all the Little Emperors capable of attending and passing the required exams.”27 Little Emperors (八零後) are single children born and raised under the one-child policy.  And due to this confluence of scarcity and demographic pressures, this ultra-competitive labor market has motivated parents to push their only child to accumulate other degrees and certificates (see below).  For example, according to a report from Mintel, “three-quarters of middle-class Chinese parents expect their child to earn a postgraduate degree, while only 32% said they would be happy if their child stopped at the undergraduate level.”28

This sentiment was similarly noted by Wendy Bao, with whom I also spoke in November 2012.  She is originally from Zhejiang and has worked throughout EF over the past 10 years in positions such as a product manager, market analyst and in business intelligence.  According to Bao, “Chinese parents care more about education for kids than themselves.  Or rather, if there was an investment decision between the two, Chinese parents will invest more in their children’s education and extracurricular activities because they see their progeny as more important than their own personal achievements.”

Such sacrifice is illustrated by the family of Wu Caoying, who now attends a three-year polytechnical school.  Growing up in Shaanxi province, she is the only child of her parents.  Her father works in a coal mine, earning $500 a month and her mother earns $12 a day “tying little plastic bags one at a time around 3,000 young apples on trees, to protect them from insects.”29 Together they have scrimped and saved for their daughters education and spend more than 50% of their monthly earnings so that their daughter could attend a boarding school during high school and can now matriculate to the polytech.  In return, Caoying is expected to help take care of her parents after they retire.

While part of the education-centric ethic stems from various Confucian teachings (e.g., xiushen or修身) that most Chinese are taught from a young age another reason why foreign degrees are sought is that this highly competitive labor market has led to credentialism (e.g., obtaining a certificate or degree merely to collect it for your resumé and CV).30 As a consequence Cathy Su also thinks that because of this education ethic, that in addition to traditional EFL training there is essentially an insatiable demand for niche services such as SAT coaching.  This may be especially true since the middle class is expected to grow from 300 million today to an estimated 600 million by 2020.31 And as I noted in Chapter 6, with a growing middle class comes growing disposable incomes.  Furthermore, wealthier Chinese families are increasingly looking to send their children abroad in part because of the hyper competitive domestic climate and due to the perceived creativity-friendly environment at Western institutions.  For example, a 2012 report from Hurun regarding high net worth individuals (there are approximately 2.7 million HNWI in China), “85% plan to send their children abroad for education.”3233

And what do these Chinese students do after completing their degrees?  While many of them obtain permanent residency, others return to the mainland (see ‘brain drain’ in Chapter 19) as future innovators and policy makers.  For instance, several of the largest internet companies in China were founded by Chinese nationals who attended US institutions for college and graduate school.  Charles Zhang (Sohu) graduated from MIT; Robin Li (Baidu) graduated from SUNY Buffalo; Joseph Chen (Renren) graduated from University of Delaware, Stanford and MIT; Gary Wang (Tudou) graduated from Johns Hopkins and the College of Staten Island; James Liang (Ctrip) graduated from Georgia Institute of Technology; Victor Koo (Youku) graduated from Stanford and UC Berkeley; and numerous executives in the management teams at Sina and Tencent attended a US college.  In addition many others at Alibaba attended other Western institutions or joint ventures like the China Europe International Business School, the first business school to offer an MBA on the mainland.3435 Harvard has several programs designed specifically to educate and facilitate information exchange with future Chinese policy makers.  One of its programs called China’s Leaders in Development brings in “50 to 60 official each year.”36 Its Kennedy School has trained 150 Chinese officials since its program began in 1998.  All told about half of the 668 Chinese students in the 2012-2013 school year at Harvard are enrolled in the Graduate School of Arts and Sciences.37

In fact, while the legal issues are still being sorted out, there may be opportunities for both non-profit and for-profit traditional brick-and-mortar schools in larger mainland cities.  For example, many Chinese families are faced with a dilemma in terms of educational options on the mainland.  On the one hand they can send their children – or usually the only child – to public schools.  While some of the public schools are opening special classes for students wanting to study abroad (SAT, AP, A-level prep), public schools are usually considered substandard due to lack of funding and rote memorization learning methods.  Another viable choice is for families to try and help send their kin overseas yet this is financially cumbersome to most middle-class families.38 A third option is private schools, yet there are currently very few private schools on the mainland, thus the other two options above place many families in an uncomfortable bind (e.g., they would like their children to receive the best education possible but have limited choices).

This may be changing however.  Two years ago Wellington School, a 150-year old British school, was replicated in Beijing.39 For £15,000 a year ($23,800), Beijing parents can now send their children to this new school based on the British public school system.  Oxford International College (unrelated to Oxford University) charges up to $41,700 a year in its private schools located on the mainland and also emulate the British education system.40 And while it take  some time before such imports are more widely accepted, the only other alternative currently is international schools, though while relatively popular, they are also both very exclusive (you typically need to have a foreign passport to be eligible) and prohibitively expensive ($10,000-$35,000 a year).41 Yet the trend towards international schools is growing.  According to Reuters, there are now 338 such schools (up from just 22 twelve years ago) whom collectively enroll 184,073 students.42

Or conversely perhaps your firm can help place Chinese students in American schools.  For example, according to the Association of Boarding Schools, “about 5,600 students from China [are] enrolled in its 285 member schools in the US this academic year [2012-2013].”43  According to the US Department of Homeland Security, in 2010-2011 the amount of Chinese students studying at private schools in the US was 6,725, up from 65 in 2005.44 In terms of costs, some international programs like Leman Manhattan Preparatory School in Manhattan cost $68,000 a year (30 out of the 40 international students at Leman are currently from China).45 Other boarding schools in the New York metro area cost an average of $46,875 a year.  As a consequence, the opportunities for foreign experts and entrepreneurs looking to wade into both sides of the market may be viable, even for administrative tasks.

For instance, US institutions and organizations collectively spend $980 billion annually on education, twice as much as China.4647 Due to a variety of factors including large spending per capita, US institutions continue to attract foreign talent.  For example, there were 765,000 foreign nationals studying in the US in 2011 – including 158,000 Chinese (there are now 194,000 Chinese studying in the US).4849 And according to the US Department of Commerce, these foreign students contributed $22.7 billion to the economy and many stay after graduation (Chinese students alone added $5 billion to the US economy in 2012).50  Thus in an effort to  improve both the quantity and quality of its graduates as well as raise its standing on league tables and rankings, every level of the Chinese government is implementing plans to invest ever larger sums of funds into education; including recruiting foreigners (for comparison, 24,000 Americans studied in China in 2011).51

Yet, with the administrative, marketing and teaching prowess gained from over six decades of being at the top of the international educational marketplace, managers and entrepreneurs at US institutions could conceivably capitalize on their skill bases and leverage them in China’s expanding market.5253 A year ago, in March 2012, Stanford University opened the doors to a new joint venture, Stanford Center at Peking University making it one of the first permanent higher education facilities to open on a Chinese campus.54 NYU has set up the first Sino-US joint venture university that will award a double bachelor’s degree (from both the local Shanghai branch and NYU in Manhattan).  Classes began in the fall of 2012 and students from the mainland will pay 100,000 RMB ($15,948) a year to attend.55 And Julliard, the performing arts conservatory, is building a campus in Tianjin (southeast of Beijing) catering to students aged 8 to 18.56

At the same time however, enthusiasm should be tempered as a joint Yale University – Peking University undergraduate program “collapsed” this past July due to “high expenses, low enrolment and weaknesses in its [Yale] Chinese-language programme.”57 Similarly, Duke University’s venture with Wuhan University has run into several major problems.  The construction of the new Duke Kunshan joint campus has been delayed five times over the past three years due to “slow” and “shoddy” workmanship.58 Thus success in this segment is not necessarily a foregone conclusion.

Another role that foreign administrators may be able to utilize is that of an agent, or admissions consultant.  According to one estimate, “8 out of every 10 Chinese undergraduate students use an agent to file their applications.”59 These agents in turn will help candidates fix their admissions essays, find the best references to write recommendation letters and otherwise guide clients through a streamlined process to foreign-based colleges.60 Maybe you and your company can utilize your expertise to work with new clientele.

However, as touched on above, the mainland education industry can also be tricky.  For example, in order to be granted a license, certifications have to be recognized by the Ministry of Education.61 Online-awarded degrees and certifications are typically not accredited by the Ministry.  As a consequence you may have to set up a physical brick-and-mortar office in order to do business within the Chinese marketplace.  In addition, alternative certification programs such as Microsoft’s MCSE, Cisco’s CCNA, Huawei’s HANA and others like Certified Nutritionist are increasingly prevalent – so as long as they are recognized by what the Ministry deems as a legitimate institutional authority.

For instance, what if your company trains and educates workers in an ISO management process in the US?  If you wanted to expand into China you may need to reinvent your firm on the mainland by creating a brick-and-mortar office location before you can legally market within China.  A consequence for failing to do so would be the trials faced – according to a source at the company – by the University of Phoenix, which despite its 35 years of history, was originally not seen as a legitimate degree awarding institution in China.

National Quality Assurance (NQA) is one of the largest ISO registrars in the world and an Accredited Certification Body (ACB) that coordinates with regional sub organizations to train, audit and certify organizations and companies in ISO 9000 family of quality management certifications.  SNQA is the organization in charge of verifying, confirming and auditing ISO 9001, ISO 13485, TL9000, BRC-CP and several other standards on the mainland.62 In January 2013 I spoke with Jason Jia, who is managing the new Wuhan, Hubei office for SNQA.  Jia is originally from Anhui but has spent the last 3 years working in sales for SNQA.  He noted that, “there are long-term opportunities for foreign ISO experts that can provide to mainland firms such as training and auditing services.  However one of the challenges facing these same companies is that communication issues are usually a big problem.  In addition, the maintenance and foreign labor overhead expenditures relative to local labor are usually cost prohibitive and as a consequence the daily maintenance fees are typically so high that most Chinese firms cannot afford it.  For example, we as a certification organization pay the auditor company a daily training and on-site verification fee and this quickly adds up when taking into account the relatively higher per hour costs charged by foreign companies.”

Recruitment

One lively human resource area within the education labor market provides large compensation packages yet has relatively few candidates: if you have internationally recognized awards, Chinese institutions will hire Western superstar teachers to improve their table rankings.63  For example, three years ago Jiao Tong University in Shanghai scored a coup, recruiting French virologist Luc Montagnier, who discovered HIV and subsequently received the Nobel Prize in 2008.  Another case is, Rao Yi, who grew up in China but spent 22 years at Northwestern University before being lured back to become the dean of Life Sciences at Peking University.64 All told, the Chinese national government in a project dubbed the “1,000 talents program” (see more below in Chapter 15) is offering perks and bonuses up to $150,000 in an attempt to lure “foreign-educated Chinese scientists, academics, financial experts, and M.B.A.s.”65 And according to Wang Huiyao, head of the Center for China and Globalization, approximately 15,000 individuals have come to the mainland through this program.66

At the same time, if your goal is acting as an intermediary and talent recruiter, expectations should be tempered with a dose of reality.  For example, Pat Sullivan, an accountant and chairman of international recruiting at Young Harris College told me in March 2013 that there are a number of obstacles created by current US immigration policies, which put numerous roadblocks in the way of foreign students seeking to study in the United States.  According to her, “The paperwork required for US Visas, health certificates, assurances of financial solvency, and other forms are always more time consuming than one would expect.  Planning for the arrival of foreign students must begin months in advance and requires the active participation and assistance of the host educational institution.”

Consequently, for those entrepreneurs looking to open up a new seminar or class room system, several questions need to be answered: where will you find customers who are willing and able to pay?  How will you build, manage and incentivize a sales force team to convert leads into customers?  Who will teach and design the curriculum for the courses?  Where will these seminars and courses be held?

In terms of taxes, there is one other challenge for foreign-owned companies that is not entirely unique to the EFL industry, yet should be recognized and addressed.  As mentioned above, each province has its own legal requirements for business licenses and certifications.67 For example, in Shanghai, in addition to a college degree a foreign teacher is required to have at least 2 years of previous teaching experience as well as a TEFL certificate from an authorized institution.  On the business end, due to relatively strict capital controls (e.g., individuals are limited to $50,000 in transfers annually) it can be relatively complex to repatriate your profits and assets from schools as there are also numerous taxes, tariffs and levies that do and do not apply specifically to educational companies.  While not explicitly discouraged, creative accounting, subcontracting and the “Hong Kong shuffle” (see Chapter 10) have become increasingly popular tactics by EFL firms to reduce tax liabilities.6869 Thus it is recommended that you speak with an attorney or tax expert before you invest in a new EFL program.

Cloud education

In terms of educational activities irrespective of being indoors or outdoors, according to its September 2012 report, Distimo noted that the popularity of English-based apps in China for the iPhone still remains very high.70 It is the 2nd largest installed language for apps overall and thus foreign entrepreneurs – including those in the education industry – may be able to turn this embedded built-in language base to their advantage.  Because the userbase is already largely familiar with Romanization, that is one less problem to be concerned with.  You might consider creating online virtual EFL classrooms based on apps for smartphones and tablets or rolling out cloud-based video courses that can be viewed by anyone with an internet connection.

In fact, one point Wendy Bao explained to me was that online classes and programs like Khan Academy will be the future of education.  Khan Academy is a popular non-profit educational organization that focuses on making micro lessons on a variety of topics and has delivered more than 200 million lessons online.71 In Bao’s words, “while online courses may have a slower uptake in China due to a limited – yet growing – telecommunication infrastructure, because of their inherent flexibility for being offered and accessed throughout a wide variety of time slots, this will enfranchise rural and urban students who can now utilize global knowledge databases.  These same students – who due to their inland locations and schools lacking the funds would otherwise not have access to experts including foreign instructors whose language skills are highly sought after and could be substantially cheaper via telepresence.”

Yet again, one challenge, as Bao mentioned, is that the telecom infrastructure is still relatively limited in bandwidth.  For example, as I note later in Chapter 15, according to their Q3 2012 speed survey, ChinaCache, the largest domestic content delivery network (CDN), notes that while the overall speeds are a little slower than previous speed rankings, Shanghai currently leads the country in average speeds at roughly 3.44 Mb/s and Beijing is 10th at around 2.5 Mb/s.7273 Akamai Technologies (a global  content delivery network provider) ranked China’s average internet-connection speed at 94th globally, at 1.6 Mb/s.74 In addition, depending on the regulatory and monitoring issues discussed in Chapter 20 with the Great Firewall, quality of service and bandwidth may decline as you leave the larger Tier 1 cities.  Thus entrepreneurs should take these factors into account while making a business plan.

In December 2012 I spoke with Eric Azumi, vice-president of information systems at EF.  According to him “the online market is just now beginning to be tapped.75 There have been limitations that continue to be overcome including computational and bandwidth issues that arise in every country but especially in China.  Voice recognition services similar to Siri will probably be the next technology incorporated into this segment and eventually, as the online industry matures, it will be commoditized.  What I mean by that is that at some point all competitors will have very similar software stacks in terms of features and functionality, yet there is always room for value-added services – especially as more direct-teacher training is replaced with mobile learning.”

Azumi gives as an example, the technical changes over the past 15 years as online classrooms evolved from text-only, to incorporate audio, then video via telepresence (e.g., webcams) and as he predicts in the near-term, real-time voice recognition.  Yet again even with all of these competitive forces with large, well-funded, experienced incumbents he thinks that “because of the relatively low barriers to entry just about anyone can still set up an educational center in China and elsewhere, especially if they cater to niche groups or provide a unique environment such as how coffee shops in Japan have been turned into English conversation centers that provide both relaxed and informal way of improving language skills.  And because people by-and-large still insist on face-to-face time, the general acceptance of online education will take time to diffuse here and around the globe.  Furthermore even with the advent of on-demand instructional services there are still many opportunities for traditional schools in 2nd & 3rd Tier cities which are still nascent markets that have not been exploited yet.”  These technological challenges and opportunities related to cloud computing are further expanded on in Chapter 13.

Yet for those willing to face these technical challenges, the financial rewards could be lucrative.  According to one recent estimate, up to 380 million people in China will “need high-quality education and training resources across the country” from 2012 to 2017.76 And a large percentage (~30%) of these people are expected to utilize online services and tools, creating a potential market worth an estimated $11 billion in revenue.  However, to temper any get-rich-quick enthusiasm, the amount of investment into Chinese education companies fell to $46 million in 2012, less than a quarter of the previous year.77 Why?  David Chen of AngleVest – a venture capital group focusing on angel rounds – noted that “the timeframe for growing an education business can be drawn-out, and a challenge for fund managers who have to achieve returns by a specific date.”78 Thus once again, while there is potential revenue there is also required patience for returns on investment.

Takeaway: The education market in China has the potential to be both large and profitable.  However, gone are the days when you could merely jump on an airplane, get off and instantly set-up a market-leading company.  The industry has become increasingly competitive with both professionalized workforces and various rules and regulations such as licensing and certification guidelines.  But as long as the Chinese economy and population continue to grow, there should be continued opportunities for entrepreneurs and companies who have done their due diligence.  This chapter does not discuss guanxi, a cultural phenomenon involving personal connections within the hiring and deal making process in all Chinese business transactions.  But that is a very complex topic worthy of several copious volumes and touched on in Chapter 10.


Endnotes:

 

  1. Number of Elementary Schools Shrink in China as Population Ages from Xinhua []
  2. Age will weary the Chinese miracle from BusinessSpectator []
  3. More specifically, “Despite a 40% increase in population since 1976 the number of primary school students has gone down by 33%, from 150 million to 100 million, and there were half as many primary schools in 2010 as there were in 2000.”  See 停止计划生育政策的紧急呼吁 from Eduzx.net []
  4. The peak was 9.5 million in 2006.  It has declined in part because of the one-child policy and also because many students are matriculating overseas for education.  See More students choose to study abroad from People’s Daily and The gaokao: still life’s most important test? from China Daily []
  5. The number of higher education institutions doubled in ten years, from 1,022 to 2,263 in 2011.  This includes a combination of both universities and junior colleges.  For comparison roughly 3 million students graduate from US universities and junior colleges each year.  There are now 11 times as college students in China as it had in 1989.  See China’s Ambitious Goal for boom in College Graduates from The New York Times, China’s Graduates Face Glut from The Wall Street Journal, Chinese Graduates Say No Thanks to Factory Jobs from The New York Times and A work in progress from The Economist []
  6. Testing time for study abroad from China Daily []
  7. Currently there are no SAT test centers on the mainland due to restrictions by the government.  Thus students wanting to take the SAT must go elsewhere, typically Hong Kong.  See ”洋高考”来势凶猛国内高校面临挑战 from Sohu []
  8. See Chinese Flock to the GMAT from The Wall Street Journal and China Outperforms U.S. on GMAT from The Wall Street Journal []
  9. This growth in GMAT testing and overseas matriculation is one of the reasons why US institutions that provide MBAs have grown from 26,000 to more than 168,000 annual graduates from 1970 to 2009.  There are a number of mainland based MBA schools as well including the top ranked Cheung Kong Graduate School of Business in Beijing.  See Is the MBA Obsolete from Forbes, China Best Business School Leadership MBA from Forbes and Game Changers: Guanghua Cai from Fortune []
  10. China’s Test Prep Juggernaut from BusinessWeek []
  11. New Oriental is currently involved with a class action lawsuit that alleges the company did not clearly state that students in franchises (which the company does not own) were counted among the overall headcount (e.g., headcount inflation).  See New Oriental faces class law suit in the US from China Daily and New Oriental Sinks as Block Renews Allegations: China Overnight from Bloomberg []
  12. An education exchange would strengthen ties with China from Politico []
  13. Chinese Learn English the Disney Way from The Wall Street Journal []
  14. China to recruit foreign experts through Internet from People’s Daily []
  15. In addition to traditional formats and courses, the EFL market in China also includes: IELTS, TOEFL, SAT, GRE, GMAT and LSAT. []
  16. For a step-by-step procedure, see Starting a Business in China from the World Bank.  See also New Path for Trade: Selling in China from The New York Times []
  17. Ambow is currently facing a lawsuit by investors who accuse it of fabricating acquisitions to bolster its revenue numbers.  See Ambow Education Investors Pursue Lawsuit as Shares Plunge from Bloomberg []
  18. Teaching English in China: What You Need to Know from Yahoo! Voices []
  19. The Impact of English in China by Jun Liu []
  20. As I note in Chapter 14, through the mass consumption of Western entertainment, the Romanization and Latinization of both mainland businesses and cultures continues.  And yet this is not the only area in which Western culture is absorbed on the mainland.  According to Yasmin Haskell, “The Chinese already appreciate the importance of these sources [European sinologists]. Several years ago they were sending local students on scholarships to learn Latin at European universities. Today, as I am reliably informed by a senior American colleague, they are training up thousands of Chinese teachers of classics – not the Chinese classics of Confucius and Lao Tzu, that is, but those of ancient Greece and Rome.”  See We must look to an ancient tongue to understand Asia from The Australian []
  21. Another on-going long-term opportunity for brand marketers is working with these large SOEs as they internationalize and go abroad.  While they typically dominate their specific market segments domestically (in part because of their monopolistic privilege) they have had uphill challenges in expanding abroad.  See BCG: Chinese State-Owned Firms Not So Muscular Abroad from The Wall Street Journal []
  22. China Needs American Education. Here’s How to Bring It There from Forbes []
  23. See English language education in Korea, fad or the future? from Yonhap and The Economics of English by Hyo-Chan Jeon []
  24. See Japan Launches primary push to teach English from The Guardian, The Economics of English by Hyo-Chan Jeon and Elementary Schools to get English from The Japan Times []
  25. The economic term for this is the “subjective theory of value” in contrast to the classical “labor theory of value.”  See Chapter 4 entitled The Subjective Theory of Value by Thomas Taylor []
  26. An Interview With Charles Zhang, CEO of Sohu from Agenda []
  27. China’s Middle-Class Parents Underwhelmed by Undergrad Degree from The Wall Street Journal []
  28. Ibid []
  29. In China, Betting It All on a Child in College from The New York Times []
  30. As one of my Chinese mentors in Singapore explained, the cultural component should not be overlooked or downplayed.  There is a Confucian virtue called xiushen (修身 or self-cultivation, improvement, rectification) which has been enshrined at a deep cultural level across the Chinese populace that Western education, especially at tertiary levels, and particularly in the fields of science, technology, management, marketing and finance will probably see strong demand for years to come.  This is not simply a calculation concern (to improve one’s income potential), but even more so a cultural phenomenon. []
  31. 600 million middle-class Chinese by 2020: think tank from Xinhua []
  32. See p. 10 The Chinese Luxury Consumer White Paper from Hurun []
  33. The target schools abroad, especially in the US are elite institutions like the Ivy League.  See Chinese flock to elite U.S. schools from CNN []
  34. To be even handed there are also several successful domestic tech firms founded by homegrown talent that did not matriculate overseas such as Jack Ma (Alibaba) and William Ding (NetEase). []
  35. USC’s Marshall School of Business has a joint international venture with Jiao Tong University in Shanghai, offering an executive MBA since 2004. []
  36. Harvard Trained Communists Vie for Power as Party Gathers from Bloomberg []
  37. Ibid []
  38. Some of these new “special” programs (preparatory courses often taught by foreigners) are called “American-Chinese cooperation programs” and are being implemented at public schools, yet they also have their own admissions hurdles.  For example, they all require their own entrance examination and some of these programs charge up to 100,000 RMB ($15,000).  See “洋高考”来势凶猛国内高校面临挑战 from Sohu []
  39. See British public schools exported to China from BBC and China creates a replica of famous British public school Wellington College near Beijing from Daily Mail []
  40. An Oxford in Changzhou? International schools spread across China from Reuters []
  41. SMIC Private School in Shanghai is estimated to cost around $11,000 a year whereas the British International School in Shanghai purportedly costs $30,000 per annum. []
  42. An Oxford in Changzhou? International schools spread across China from Reuters []
  43. Spreading their wings early from China Daily []
  44. Ibid []
  45. Ibid []
  46. Can U.S. Universities Stay on Top? from The Wall Street Journal []
  47. Various levels within the Chinese government are attempting to recreate the education boom laid forth by the G.I. Bill through their own $250 billion a year initiative.  See China’s Ambitious Goal for Boom in College Graduates from The New York Times []
  48. Chinese boost for US colleges from Shanghai Daily []
  49. It is not just US colleges that have benefited from this international student pool.  According to an Al Jazeera report, “British universities receive more students from China than any other country outside of the European Union.”  There were 67,235 Chinese international students in the 2010-2011 cohort in the UK.  See Chinese students choosing to study abroad from Al Jazeera []
  50. Students from China add $5b to US economy from China Daily []
  51. Ten Years of Rapid Development of China-US Relations from Xinhua []
  52. Prior to World War II, the leading institutions of both the sciences and social studies were in German-speaking countries.  German, not English, was the lingua franca of the academic world for nearly a century. []
  53. One tool that all administrators and application departments in any country can now utilize to screen potential candidates is IntialView which is an interview platform that is becoming increasingly popular among both by applicants and administrators (38 out of the top 50 US colleges now accept interviews from this platform).  See China’s InitialView gains traction as most top US universities now accept its candidate interviews from The Next Web []
  54. Stanford research center opens at Peking University from Stanford []
  55. Shanghai NYU will open for fall of 2013 from Shanghai Daily []
  56. Juilliard to Bring New York-Style Teaching to China from The New York Times []
  57. Foreign universities: Campus collaboration from The Economist []
  58. Duke Kunshan University delayed again, following communication and funding problems from The Chronicle []
  59. Forged Transcripts and Fake Essays: How Unscrupulous Agents Get Chinese Students into U.S. Schools from TIME []
  60. While there are many genuine applicants, foreign admissions consultants should be aware that considerable amounts of fraud have taken place in this subindustry.  In fact, one report in 2011 based on a survey of 250 Beijing high school students matriculating to the US “concluded that 90 percent of Chinese applicants submit false recommendations, 70 percent have other people write their personal essays, 50 percent have forged high school transcripts and 10 percent list academic awards and other achievements they did not receive.”  See A Chinese Education, for a Price from The New York Times, The China Conundrum from The New York Times and Busted: Fraud in China by Tom Melcher []
  61. For a step-by-step procedure, see Starting a Business in China from the World Bank.  See also New Path for Trade: Selling in China from The New York Times []
  62. SNQA []
  63. Chinese Universities Send Big Signals to Foreigners from The New York Times []
  64. ‘Sea turtles’ reverse China’s brain drain from CNN []
  65. Steal this Scientist from The Daily Beast []
  66. Reverse brain drain: China engineers incentives for “brain gain” from Christian Science Monitor []
  67. For a step-by-step procedure, see Starting a Business in China from the World Bank []
  68. For a concise explanation see PRC Taxes on Hong Kong & Foreign Companies: Clarifications, Changes, Challenges & Opportunities from Orrick, Herrington & Sutcliffe.  And while not exactly the same, there is a similar method of reducing tax liabilities used by numerous multinationals; see ‘Double Irish With a Dutch Sandwich’ from The New York Times and Google Revenues Sheltered in No-Tax Bermuda Soar to $10 Billion from Bloomberg []
  69. See In Reversal, Cash Leaks Out of China from The Wall Street Journal and The Mechanics of Moving Cash Out of China from The Wall Street Journal []
  70. According to Distimo, “Applications with Chinese as a language in the top 200 were responsible for the largest share of the free downloads in China at 73 percent. English was responsible for only 69 percent of the free downloads among the top 200 in China.” See App Distribution Becomes A Global Game: The Shift Of Power & Impact For Developers from Distimo []
  71. One Man, One Computer, 10 Million Students: How Khan Academy Is Reinventing Education from Forbes []
  72. ChinaCache Releases Third Quarter 2012 China Internet Connection Speed Rankings from China Web Report []
  73. For comparison, the average download bandwidth in the US is 11.6 Mb/s.  See International Broadband Data Report (Third) from the Federal Communications Commission []
  74. China’s ‘Wall’ Hits Business from The Wall Street Journal []
  75. To be balanced I should point out that there are several other competitors that offer online language learning services including TellMeMore and GlobalEnglish. []
  76. Tencent Eyes Growing Online Education Market in China from Caijing []
  77. China Investors: We Don’t Need No Edukation from The Wall Street Journal []
  78. Ibid []
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Chapter 10 – Legal services

[Note: below is Chapter 10 from Great Wall of Numbers]

I have been more or less fortunate not to have any problems with government authorities at any level (yet).  However whenever you put a group of laowai (foreigners) into social setting you will eventually hear a story or two – sometimes embellished – about legal problems.  The one personal story that I have involves visa delays.  About two months into my most recent teaching position I received a notice from my HR director that my visa was being delayed by the PSB – Public Security Bureau (equivalent to the Immigration Services).  They wanted me to come in person for a face-to-face interview at a local police station with an officer.  My director said while this was unusual we could prepare for it and analyze what they may inquire about.  At around 2pm on a June weekday I went in and met a number of plain-clothes inspectors.  One handed me a worn book of immigration laws covering the sections I possibly had violated.  After a few questions and three hours of sitting next to their terminals, one of them – Zhang (not his real name) – approached me and after a brief exchange allowed me to leave without any recourse.

Fortunately the paperwork had been merely misplaced and nothing came of it.  But what should foreign firms and expats expect when starting a business?  Always be prepared.

There are several ways in which you can proactively protect both your physical assets and employees.  The first almost goes without saying: hire a legal advisor to analyze and asses any liabilities, risks and loop-holes in your contracts and business model.

For example, Dan Harris is an American attorney at Harris & Moure who frequently travels to China and publishes the popular ChinaLawBlog.  In an email exchange in October 2012, he noted “that the most common challenge for US service-oriented SMEs is getting paid. Chinese companies are reluctant and slow to pay for services. Most service companies do not have much IP [intellectual property] so that is not always a big issue for them. And thus I would have to say contracts is their biggest issue, which gets us back to getting paid.”

Dan and his co-blogger Steve Dickinson, who lives and works in China, have written a number of excellent overviews of contract law in China and about protecting your assets, your employees and even your IP.1

Why is professional advice such as theirs important?

Ten years ago when China’s Railway Ministry elicited bids for building a nation-wide high-speed network (called the CRH, HSR or 高速铁路), several foreign companies from France and Japan submitted bids.  As part of the deal to do business on the mainland, the Ministry required that foreign firms set up joint ventures (JV) with domestic suppliers and provide technology transfers to these firms.23 Japanese firms, unfamiliar with the nebulous legal framework in China, ultimately handed over their ‘best practices’ and engineering techniques to the JV.  Their Chinese partner (CSR, 中国南车集团) then quickly replicated and reverse-engineered the technology using domestically sourced parts and labor.  As a consequence the Japanese companies were edged out of the Chinese market by the very machinery they had originally designed.4

Another example is General Motors which, wanting to gain access to China’s car market (now the world’s largest), transferred and exchanged technology to their JV partner, SAIC.  While GM still operates in China (hitting a record 2.54 million in vehicle sales in 2011), they have found themselves between a rock and hard place with China’s new policy regarding electric cars.5 This policy mandates that foreign firms provide technology transfers to their JV partners in order to have access to the Chinese electric car market.6 Since foreign firms are holding out – not wanting to part with their trade secrets and proprietary information – Chinese firms now have a distinct advantage because the national government is offering nearly a 50% subsidy to consumers for each sale of an electric car in China.78

Let’s discuss this over dinner

As noted in Chapter 1, guanxi, or personal connections, can be a very tricky and hard to fully describe to those who have never lived or worked in China.  For example, compared with thirty years ago, contracts are relatively more ironclad in legal disputes – yet the “rule of law” today is not quite the same as it is in Western countries.  This presents a challenge to any firm wanting to do business in China and thus building guanxi, personal connections with suppliers and even buyers is sometimes just as important as the resources spent in drafting contracts, subpoenas and lawsuits.

While guanxi can work for you – you might land a deal with a mere handshake at a KTV (Chinese businessmen typically dine and sing in contrast to discussing business deals on golf courses in the West) – not having enough guanxi, or not having guanxi with the right people could prevent your company from exporting your goods to consumers outside of China.9

Can you just “grease some palms” and make things happen?  Over cocktails with other laowai it may be common to hear insinuations various businesses that used bribes to improve their guanxi.  I should point out that the Foreign Corrupt Practices Act (FCPA) and UK Bribery Act deals specifically with bribery.  To better understand this law and its enforcement, it is highly advised that you consult a lawyer because the FCPA is actively enforced and the penalties for violating it are quite stiff.  Furthermore, as I mentioned in the first story in Chapter 1, even if you know the right people and make the right connections this does not immediately translate into success.

Legal structures

If you do decide to operate a business in China, what legal structure will you use?  Should you try to start up a Wholly Foreign-Owned Enterprise (WFOE), Variable Interest Entity (VIE) or some other joint-venture structure?10 Stephen Dickinson, the Beijing-based American attorney above, has written a number of primers on what legal structures foreign businesses should and should not create.  Because of Chinese regulations that prevent foreign ownership of companies from being directly involved in “sensitive” areas of the economy (e.g., for national security reasons), one way to skirt such limitations was to set up a VIE.11 Yet due to new regulations issued last year, VIEs are no longer an option and the SEC itself is rumored to be investigating how they operate as well.12 While this was not particularly surprising to lawyers and serial entrepreneurs, it may have come as a surprise to the uninformed and those who failed to carry out thorough due diligence.

Similarly, during the summer of 2011 several shareholders of Yahoo were ‘surprised’ when the Alibaba Group (owner of Alibaba, Tmall and Taobao) transferred the ownership of Alipay.13 Alipay is an online payment method (similar to Paypal) that is currently the domestic marketshare leader, at 47%.14 According to Chinese law, online payment processing companies cannot be owned by foreigners, something that a VIE structure was considered as a means to get around.  What resulted was a high-profile, very vocal series of discussions that headlined the business press for several months between May to July of 2011.  The lesson here is that, as Dan Harris noted, this was not unprecedented.  His law firm “has been involved in probably a dozen similar matters.”15 So once again, talk to a legal advisor before you set up any kind of presence in China, even if it is as “simple” as a minority shareholder position.

What kind of opportunities are there for legal professionals?

I asked a couple of Chinese lawyers this question.  They both quickly noted that experienced practitioners can find a number of opportunities in areas such as FDI and M&A.  For example, in addition to Harris & Moure discussed above, King & Wood Mallesons is an international legal firm with offices in China that specializes in more than a dozen areas of law including, Import/Export Credit Facilities, M&A, FDI and PE deals.16 Their foreign expertise allows them to provide services like FDI that local firms – lacking in international experience – sometimes cannot fully provide.

Yet before getting on an airplane with your fresh JD and Bar certifications consider the following challenges.  In order to practice on the mainland you need to be licensed in China as well. That means you need to take the National Judicial Exam (国家司法考试) which means you not only need to be fluent in Chinese but because of sovereignty issues, at this time the only people legally eligible for sitting for the exam are citizens from the mainland plus Hong Kong, Macau and Taiwan.  For comparison, in the US, each state has its own residency and citizenship requirements.  Some such as California and New York currently allow foreign nationals to take their bar exams and set-up practices.17

A frequently asked question from friends overseas is if there are many licensed lawyers in China?  Yes.  In fact, according to their new 2012 White Paper on judicial reform, the State Council Information Office states that there are nearly 220,000 lawyers and 18,200 law firms in China (this is substantially higher than the 200 lawyers in 1980).1819 These same lawyers acted as counselors for 392,000 clients and handled 2.315 million litigation cases in 2011.

A legal professional I know in New York recently asked me if there is a work-around for this to provide paralegal services instead.  Perhaps, but you probably would not be able to access large portions of information that have restricted access.  For example, currently in China only licensed lawyers can look up internal business records (e.g., shareholder meeting minutes, the shareholders list, the composition of the board, the balance sheet and other related financial reports).  And there are conditions for even licensed lawyers to access this information.  Currently, the authority granted to lawyers must be justified by some “reasonable concerns.” Access is allowed only for the appropriate purposes – for example, if a shareholder wants to exercise his inspection right, his lawyer then could claim the right to see the company records on the shareholder’s behalf.20 Similarly, doing investment research on the mainland as a WFOE (Wholly Foreign Owned Entity) is not currently legal.21

In contrast, in the US just about anyone can look up the full company records of any public company.  In addition, the domestic legal profession on the mainland has run into a number of barriers that some have called a “clawback” relative to reforms implemented in the 1980s and 1990s.22 Thus the nebulous uncertainty and dynamism for legal professionals is something to consider before establishing a permanent physical presence on the mainland.

Explicit and implicit rules

While many expat companies will set up a Hong Kong office to reduce the tax burden and liability on incomes earned on the mainland (e.g., your workers are paid through the Hong Kong subsidiary and are thus taxed at the lower Hong Kong rates), many Chinese companies also have set up Hong Kong subsidiaries to reduce their tax burden.  For example, in the Chinese energy industry, several companies that manufacture hydrocarbon drilling equipment on the mainland will ship and sell (e.g., “export”) their physical products to a Hong Kong controlled subsidiary, and then re-import them.  In some cases they can reduce their taxes by up to 20%.23

According to Chinese law, the maximum amount of funds that any individual can move out is $50,000.  Thus how to repatriate your assets is another key issue.  The Wall Street Journal has published several reports this past year about the labyrinthine difficulties that both Chinese and foreigners face when attempting to move funds outside of China.24 While not explicitly encouraged, the Hong Kong legal system protects certain activities including money transfer agents who essentially move capital across the border.  It is highly recommend that you consult with an attorney or tax expert before attempting to do the “Hong Kong shuffle.”25 Failure to do so could result in being (temporarily) arrested, like Yan Suiling – who was accused of money laundering in China (because the process she used is illegal on the mainland) but was later acquitted (because the process she did it by was legal in Hong Kong).26

Another example of legal issues and lawful avoidance involves real-estate purchases.27 In an effort to “cool down” the property market, over the past several years larger cities like Beijing and Shanghai have implemented a number of regulations that place restrictions and “curbs” on individuals purchasing multiple homes.28 This move into multi-home ownership was done in part because strict capital controls prevent domestic savers from investing overseas.  As a consequence many savers have few places to park their assets.  Depending on the region, one of the areas where they can typically invest more freely is real-estate.  So in addition to suppressed (low) interest rates set by the central bank which have incentivized construction projects and capital consumption, many savers in the past decade have had few investment choices and thus have purchased, invested and speculated in real-estate markets.29 And due to a perceived “bubble” in the real-estate market, several cities subsequently enacted laws that make it increasing prohibitive to buy multiple homes (e.g., by increasing down payments from 20% to 50%).  In an attempt to legally circumvent this, some prospective home buyers will pool their resources together and purchase housing units in a “group buy” method (e.g., like GroupOn).

Takeaway:  While there are numerous opportunities to do business in China there are also a number of challenges, including legal uncertainties.  This includes the legality of contracts, movement of assets, protecting IP and lowering tax liabilities.  In addition there is a cultural practice called guanxi, or personal connections, which can directly impact many (if not all) business transactions on the mainland.  While there may be opportunities for experienced legal professionals to work in niches, before moving to the mainland it is highly recommended that you do your due diligence to find out what specific niches areas are in demand.  In addition, all proprietors are encouraged to speak with and perhaps hire a legal counsel that is proficiently versed in both the mainland legal system as well as the culture.  Failure to do so may result in being unable to protect your assets and possibly even forfeiting them as well as the market access that your firm had hoped to achieve.


Endnotes

  1. For their series on protecting your IP in China, see How To Protect Your IP from China from ChinaLawBlog []
  2. For their discussion on technology transfers and legal statutes in China see How To Handle Chinese Negotiating Tactics. Part Three. from ChinaLawBlog []
  3. For more regarding legal issues surrounding joint ventures on the mainland see, China Joint Ventures. Watching The Sausage Get Made. from ChinaLawBlog []
  4. See Japan Inc shoots itself in foot on bullet train from Financial Times and IPR fears won’t derail bullet train exports from China Daily []
  5. General Motors closest competitor is Volkswagen, who sold 2.81 million cars in 2012 but initiated one of the largest recalls beginning April 2, 2013.  See Volkswagen recalls over 384,000 cars in China: watchdog from Reuters []
  6. General Motors in China: Coping with the Changes in the Automobile Industry from ICMR []
  7. GM and SAIC join forces on electric cars from Financial Times []
  8. See Road Gets Bumpy for GM in China from The Wall Street Journal and GM and SAIC’s Open Marriage from China Bystander []
  9. There are endless amounts of anecdotes retold by colleagues and coworkers over the years.  One notable story involves a friend who wanted to buy natural and artificial hair in China and ship it to the US targeted specifically for African hair salons for use as braiding.  She spent several hundred hours traveling across Shandong, filing the necessary paperwork, building guanxi, buying hair samples and contacting US hair salons.  Yet due to the thin margins, legal fees related to permits, import & export duties on both sides of the Pacific and transportation costs, her business plan would prove to be unprofitable.  Thus collecting all of the necessary requirements and doing due diligence is highly recommended before investing any significant capital into an overseas endeavor. []
  10. For a step-by-step guide on forming an WFOE see China’s Approval Process for Inboud Foreign Direct Investement from the US Chamber of Commerce.  See also Forming A China WFOE. How Long Will That Be Going On? from China Law Blog and Selling In And Into China. Four Good Tips And Mine. from China Law Blog []
  11. VIEs In China. The End Of A Flawed Strategy. From ChinaLawBlog []
  12. Variable interest entities in China from China Accounting Blog []
  13. Yahoo gets short end of stick in Alibaba deal from Reuters []
  14. According to Analysys research and consulting, as of Q2 2012, Alipay leads with 47.3%.  This is up from 46.9% in Q4 2011.  See Alipay Lead China 3rd Party Internet Payment Market 2011Q4 from Analysys []
  15. Yahoo/Alibaba/Alipay/Jack Ma/Carol Bratz: What Really Happened And What It All Means. from ChinaLawBlog []
  16. See Harris & Moure and King & Wood Mallesons []
  17. See Chart 4 on p. 14 in Comprehensive Guide to Bar Admission Requirements 2012 from National Conference of Bar Examiners []
  18. See p.5 in Judicial Reform in China from the State Council Information Office []
  19. China has 220,000 lawyers from China Daily []
  20. There are other requirements as to the eligibility of the shareholder for claiming the inspection right as well.  In addition, the restrictions on this and on accessing full company records will vary city by city. []
  21. On Doing Investment Research In China As A WFOE. Not Legal. from ChinaLawBlog []
  22. China’s Turn Against Law by Carl F. Minzner []
  23. In some ways this is similar to retailers in Western countries that practice “rolling inventory” at the end of the year.  Speak with a legal professional before conducting this type of transaction. []
  24. In Reversal, Cash Leaks Out of China from The Wall Street Journal []
  25. This issue was directly discussed in Getting Money Out Of China. That’s Illegal. from ChinaLawBlog []
  26. The Mechanics of Moving Cash Out of China from The Wall Street Journal []
  27. Another area that may change in the near future is capital gains tax on returns for private equity firms investing in China.  See Tax Experts: China May Crack Down on Capital Gains from The Wall Street Journal []
  28. Property curbs to stay from Global Times []
  29. One of the reasons this rate incentivizes real-estate speculation is that the interested earned at a bank is usually lower than CPI or inflation.  Thus merely placing funds into a savings account will actually net a loss once adjusted for inflation.  Readers may also be interested in the analysis from Michael Pettis, a finance professor at Peking University and Patrick Chovanec, a finance professor at Tsinghua University as well as Animal Spirits with Chinese Characteristics by Mark DeWeaver. []
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Chapter 11 – Luxury goods, amenities and art

[Note: below is Chapter 11 from Great Wall of Numbers]

As I mentioned in Chapter 3, an estimated 82 million Chinese tourists traveled overseas in 2012.  At $69 billion in purchases in 2011 (and $98 billion in 2012), these same tourists collectively now spend the third largest amount while abroad (behind Germany and the US).1 Nine of the top 10 travel destinations for Chinese are in Asia (e.g., Hong Kong, South Korea), the exception: the US which was visited by 1.36 million Chinese tourists in 2011.23 And in the first half of 2012, “Chinese tourists visiting the US eclipsed that of travelers from other countries.”4 In fact, Chinese tourists spent an average of $7,107 in the US in 2011.5 According to Shao Qiwei, of the National Tourism Industry, “China and the US are each other’s fourth-largest tourism destinations.”678 A 2012 survey conducted by Global Blue, a tax refund tourism company, found that “82 percent of Chinese tourists see shopping as a vital part of their trips overseas.”9 For comparison, France in 2011 – with 900,000 visitors – was Europe’s top destination for Chinese tourists and the UK received about 150,000 tourists from the mainland (who collectively spent $390 million in the UK).101112

So what does this mean for your business?  How can you and your company capitalize on the popularity of Chinese traveling to the US and other western countries?  And what are they buying?

In a phrase: foreign luxury goods.13 Domestic luxury brands purportedly sold well in the 1980s and 1990s but with the entrance of foreign labels they have faced stiff competition.  According to the Shanghai Academy of Social Science, “just 10 percent of Shanghai’s traditional brands are making a healthy profit. Roughly 70 percent are struggling, with the rest on the verge of bankruptcy.”14 In contrast, according to recent reports from McKinsey and from Bain (two of the largest management consulting firms) Chinese consumers are now the biggest luxury buyers globally, consuming primarily foreign brands.1516 This is not to say that Chinese designers are not creating their own fashion trends worldwide.  Last year Haizhen Wang, from Dalian, won the Fashion Fringe Award for young designers and was mentored by Christopher Bailey, creative officer at Burberry.17 Similarly Huishan Zhang is another young mainlander who spent a year at Dior and whose first collection sold out within its first month in London.  For now however, luxury brands consumed by Chinese consumers are decidedly Western.

Overall McKinsey & Company estimates that “purchases by Chinese both at home and abroad account for over one-quarter of the global total” and that by 2015 will account for one third of the luxury market globally.18 And who are buying these goods?  According to research from CLSA, an equity broker based in Hong Kong, men account for 55% of China’s luxury goods market (compared with the global average of 40%) because as Bain noted in another recent report, businessmen gift the items to significant others and to build guanxi with officials, associates and partners.19

On that note, not all is smooth sailing for luxury goods.  For example, according to Ren Guoqiang, a partner at Roland Berger Strategy Consultants, “more than 25 percent of the luxury items sold on the Chinese mainland were used as gifts.”20 Thus during the recent crackdown on government corruption currently being carried out nationwide, gift-giving has dropped markedly.21 As a consequence, according to a report from the Federation of the Swiss Watch Industry “show[s] that Swiss watch exports to the Chinese mainland dropped 27.5 percent year-on-year in September [2012].”22 This is on the back of 40% growth from 2011 noted below.  Furthermore, in February 2013, three of the largest global luxury houses including the parent companies of Gucci, Louis Vuitton and Burberry announced that they would be slowing down their expansion in China this year due to softer sales last year.23

Yet this may be a temporary bump domestically and a substantial amount of this luxury shopping activity is actually done overseas.  Bain estimates “that 60 percent of Chinese purchases are made outside China.”24 And according to a recent KPMG study, “71% of China’s middle class made a trip outside of the country” last year of whom 61% of the study respondents purchased cosmetics overseas and 51% had bought luxury watches.25 Altogether Chinese tourists on average spend $14,686 overseas during these shopping trips, according to Global Blue a shopping tourism service company.26

Why?  One reason has to do with import taxes and duties mentioned in Chapter 1; up to a 60% luxury tax on high-end imported goods.  For example, according to the Ministry of Commerce, a Chanel bag in Shanghai costs 72% more than in Paris and the same Tiffany & Co necklace costs 6,900 RMB in the US but 11,000 RMB on the mainland.27 In addition, even when a 25% customs duty and 15% VAT are accounted for, luxury goods makers such as Burberry also mark-up their mainland products as part of an ‘elite’ perception pricing strategy (e.g., towards the nouveau rich, 暴发户). 28

As a consequence, large amounts of luxury goods are substantially less expensive when purchased abroad relative to the prices on mainland China.  And because many consumers travel abroad to purchase these products to circumvent the importation costs, according to Nick Debnam of KPMG, “One brand told us that for every dollar they sell in China, they’ll sell more than $2 outside of [the country] to Chinese consumers.  Brands are realizing it’s a global market. You can’t get fixated on just within the China market.”2930 Furthermore, KPMG estimates that luxury purchases account for 71% of all spending done by Chinese tourists overseas.31 Thus if you own or operate a luxury goods store in the US or Europe, you may be able to cater to new potential customers.

In 2011, prior to overtaking the US, the luxury consumer goods market in China was an estimated $51.7 billion (€40 billion), slightly less than the size as the luxury consumer goods market in the US ($62.4 billion).32 To get this number, overseas sales are included.  For example, according to the Financial Times, on the mainland the market for these goods in 2011 itself was actually only $16.77 billion.33 This domestic number itself will grow to $27.39 billion by 2015 (up from $9.9 billion in 2009).34 Yet if you include the shopping done by Chinese consumers in Hong Kong, Macau and Taiwan this rises to $30.5 billion.35 And then add in an estimated $15.5 to $19.5 billion spent in 2011 by tourists outside of Asia, this number rises to the $51.7 billion.  So no matter how you shake it, there is a huge demand for foreign luxury products by Chinese consumers.  Or as P.T. Barnum might say, at least in the short-run no one ever went broke underestimating public taste and in this case, Chinese tastes.3637

In fact, Harrods department store in London, to better cater to mainland customers that frequently travel to the UK and shop during the past Christmas holiday brought on board “70 Mandarin-speaking shop assistants” and “has more than 100 UnionPay terminals directly connected to Chinese bank accounts.”3839 Selfridges, another department store in London, employs “dozens of Mandarin-speaking staff.”40 Likewise, the Hippodrome Casino on the West End “has an entire floor dedicated to Chinese gamblers” and the staff speaks Chinese.41  Burberry has taken it a step further and doubled the amount of Putonghua (Mandarin) speaking staff in Europe this past year.42 Why?  Because according to Patricia Yates, director at VisitBritain noted, “the average Chinese visitors spends about three times as much – 1,600 pound ($2,600) – as the average visitor to the United Kingdom.”43 Or more to the point above, Chinese tourists spend five times as much at Herrods than Americans do.44

Similarly in New York City, to prepare for the tourist rush during the 2013 Spring Festival celebration (春节), Bergdorf Goodman (an upscale woman’s department store) added Mandarin speaking staff and Saks Fifth Avenue installed UnionPay terminals for Chinese nationals.  On the other coast, Haiyi Hotels in San Francisco launched a special discount for Chinese groups traveling in large part because Chinese visitors to California (who collectively spent $1.5 billion in 2011), “is expected to increase 57 percent between 2011 and 2015.”45 And not to be left out, luxury makers such as Gucci promoted Spring Festival with red accessories personalized with Chinese zodiac symbols and Burberry sold bags with snake-skin prints to kick off the “year of the snake” (each year is represented by a different animal, 2013 is the snake).46

Are there any other niches that SMEs can find success catering to?  In December 2012 I spoke with Adam Remington, founder of Remington Pipes, a Tennessee-based pipemaking company.47 Over the past several years his business has grown to include a customer-base in China which is interested as collectors and consumers of his hand-made tobacco pipes.  According to him, “one of our strengths is that we customize each pipe to an individual client.  The value-added is that we provide a rare commodity as specialists, as artisans, to a consumer that has an appreciation for our craft.  For example, the wood we use for the pipe is briarwood that is imported from Italy because it only grows in the Mediterranean climate.  And we use ebonite, a vulcanized type of rubber that is imported from Germany.  Then over the course of several days we hand-cut, shape, stain and paint a unique pipe produced to the customer’s specifications.”  Finished products start at $600 and can reach several thousand with a comfortable profit margin.

Remington’s firm is an example of a successful American craft business that can generate revenue from China without a physical presence on the mainland.  While they have an expansion plan to open a workshop within the next year in the Yangtze Delta Region, perhaps your craft and specialized trade company (e.g., hatter, haberdasher, cobbler) can find a niche customer base as well; maybe even by producing a product in a 3D printer as described in Chapter 7.

Luxurious conundrums and opportunities

Why are they buying these goods while traveling?  As I briefly mentioned in Chapter 8, several of my students wanted to purchase Nike shoes primarily because of the perceived authentic, “higher” quality of the imported shoes.  However, unbeknownst to many consumers around the world, numerous “high quality” goods are actually manufactured in China and then exported to other countries, including Nike shoes.48 These other countries typically levy import taxes and duties on the manufactured goods.  One challenge for foreigners who want to sell sport apparel and luxury goods into markets in China – after receiving the necessary licenses and permits – is how to bring the goods into China (see ExportNow in Chapter 7)?

If a retailer on the mainland stocks goods from Chinese manufactures – despite the actual quality – mainland consumers may think that the goods are less authentic and of lower quality.  For example, in 2011 a Shanghai-based retailer called Da Vinci furniture was accused and found guilty of lying to customers about importing its products from Italy.  Upon investigation it was discovered that the furniture was manufactured in Chinese factories, sent (“exported”) to Shanghai’s Waigaoqiao trade zone and then sent (“imported”) to Da Vinci retail outlets.49 Thus the dilemma: if foreign traders import goods from the US and other countries they will face both import and export taxes.50

What kind of goods are Chinese consumers now buying?  Watches from Citizen and Rolex, bags from Burberry and Coach, wines from Bordeaux and the Napa Valley, art from Christie’s and automobiles from Mercedes Benz and Ferrari.  In fact, China is the largest importer of Swiss watches, “accounting for 30 percent of exports of the country’s [Switzerland’s] roughly 200 brands in 2011.”5152  Another example is wine.  While France still dominates as the largest wine exporter to Mainland China, the Chinese market is now the 5th largest export market for US wineries (Hong Kong is 3rd).535455 China is also the largest importer of cognac (by value) and is expected to surpass the US as the largest consumer of the brandy by 2020.56 In fact, Camus, a French cognac producer, sees Chinese consumption as a percentage of global consumption to increase from 35% today to over 50% in the future.57

Hand bags are also very popular.  In Q1 2012, Coach, the US bag maker, had mainland sales rise nearly 40%; and by Q2 its profits rose 24% “driven in large measure by a 60% sales gain in China.”58 Stimulated by that, Coach is now “pushing for China to become its No. 1 market in the next three years.”59 There are several reasons behind this.  And this is where your company can distinguish itself from the competition.  What exactly is a luxury good?  In addition to institutionalized qualitative management techniques like Six Sigma (which are still not prevalent on the mainland) and because of the food safety issues I mentioned in Chapter 3, more than 60% of Chinese consumers wanted to purchase and import products from foreign countries because they are deemed safer and simply better.60 A recent survey from Boston Consulting Group also found that 61% of Chinese consumers were “willing to pay more for the U.S. made goods — in some cases quite a bit more.”61

Thus while the goods your company manufactures may not necessarily be typically classified as a “luxury” product, with a little rebranding and market positioning, you can turn your well-made widget into a must-have product.  Take a page from perception marketing like Coach handbags did above.  In the US, Coach bags are considered mid-level products, yet their management team has tweaked the marketing in China and elevated them to high-end luxury products.  And because Chinese consumers already consider and perceive foreign products to usually be of higher quality, why not use this advantage to satiate demand?  It can even be as simple as using the 3D printing opportunities in Chapter 7.  Perhaps by partnering with a boutique fashion designer in your hometown and some tweaking of CAD files you can be the first to market a widget that is easy enough to replicate in a MakerBot yet novel enough that it has not been produced by others (e.g., the first mover of a trendy purse).62

An American source at the company explained to me that one of the reasons Coach has succeeded despite domestic copycats and knock offs is that it continuously changes its product line, updating it throughout the year (e.g., spring, summer and fall lineups).  Because it changes so often, it is hard for copycats to catch-up.  In contrast, many of Louis Vuitton’s most popular merchandise items are classical designs that do not change as much and are frequently uniform (e.g., same iconic colors).  As a consequence, local copycats have relatively more time to clone the fashion house.  This is not to say that Coach is immune to counterfeiting as a recent investigation in China during November 2012 found thousands of counterfeit handbags including Louis Vuitton, Hermès and even Coach.63 Yet another difference is that because Coach’s price points are targeted as “affordable luxury,” it can reach a broader range of demographics.  Thus, while their handbags are still relatively expensive (e.g. $600) they are substantially less compared to a Louis Vuitton equivalent which starts at $3,000 and increases markedly.

Another challenge for luxury brands is that in the event of a downturn, which can take place even in China, sales can inevitably also take a hit.  For example, several European luxury makers including Mulberry issued a profit warning in mid-October 2012.  Mulberry noted that its “overseas shipments slumped 4 percent” in the second and third quarter.6465 Another competitor, Burberry, which operates more than 60 stores on the mainland with plans to open 100, issued a profit warning in 2nd half of 2012 due to a macro economic slowdown on the mainland and Europe.66 Another issue that is hard to quantify is gift-giving for guanxi as noted above.  According to one 2009 estimate, gifts to government officials comprised nearly 50% of all China’s luxury sales.67 During recent public appearances, a number of political policy makers have come under fire for wearing expensive belts, watches and handbags that their official salaries could not cover.68 As a consequence there has been some public backlash on social media (like Weibo discussed later in Chapter 13) that has led to investigations and crack-downs on traditional gift-giving.  Luxury consumer goods makers and other high-end goods like Moutai’s baijiu (strong domestic liquor) are purportedly vulnerable to this negative public sentiment.6970 In fact, on March 18th 2013, the Shanghai stock index dropped 1.7% to its lowest point in three months.  Leading the downturn were baijiu firms because Li Kaqiang, the new Chinese premier, announced that government spending on receptions, hospitality and banquets would be significantly reduced this year.71

Another area that US companies can provide services for is summer and winter camps like authentic dude ranch experiences.  A number of students I have had over the years have visited camps in the US and come back ecstatic.  In fact, each semester at least one student and their family have visited places like Yellowstone Park, the Grand Canyon or the Grand Tetons.72 According to the China Daily, in 2011 more than 60,000 Chinese children traveled to the US and participated in various summer programs.73 These participation rates, like tourism rates in general, are expected to increase substantially this year (one estimate is 40-50%) due in part to looser visa restrictions placed on Chinese tourists to the US.74 What services can you or your company provide to these ‘genre’ tourists?75

Amenities and services

In Chapter 3 I mention an interview with Glenn Wilkinson, a consultant with 25 years of experience in China.  In addition to opportunities in the restaurant industry another area that Wilkinson as well as Wendy Bao mentioned is that China’s growing middle class is turning to amenities.  This includes services like high-quality sports massages, spas and even quality-controlled leisure activities.  For example, there is now a large massage chain called Dragonfly Retreat (悠庭), which has grown tremendously over the past decade in large part because its entrepreneurs saw an unmet need: a professional, non-compromising service that was sanitary, reliable and with a consistent quality.  As a result, even with its sometimes long wait times, it has received high praise by CNN and About.com and now operates 17 locations (and counting) on the mainland.76

While relatively unpopular in the West, karaoke or KTV is also a multibillion dollar business.  For example, Wanda Group is the 5th largest private company in China and operates one of the largest KTV chains (with 30 KTV boxes or “bars”) on the mainland.77 Wanda is expanding overseas and bought AMC Entertainment (a large US theater chain) for $2.6 billion in 2012 and plans to invest another $10 billion in the US theater chain and $30 billion globally over the next decade.78 KTV venues operated by Muse, Cashbox and Haoledi chains are also popular in part because they gives their customers a sense of privacy in an otherwise physically crowded environment.

In fact, each weekend millions of consumers including many of my students, colleagues and friends visit and patronize KTV venues.  KTV is popular with all demographics and strata within China, from teenagers to the elderly and from couples to business associates.  How popular?  During August 2012 the most popular app on iOS and Android in China was Changba, a portable KTV booth.79 In my own anecdotal experience in both KTV and Noraebang’s (the Korean equivalent), local customers enjoy it because they have a private outlet to share their emotions and feelings with their friends – something that sometimes is difficult in relatively dense metros.  Just like happy hour in Western countries provides rest and relaxation to bar patrons, so to do KTV establishments.

What does this mean for you and your company?  What amenities can you provide that may satiate an unmet demand?

Main Event and Dave & Buster’s (D&B) are two entertainment and restaurant operators in the US that cater to families and adults.  For example, the ten Main Event locations in Texas offer food, bowling, billiards, video arcade, laser tag, miniature golf and rock climbing under one managed roof.  Similarly, D&B manages 60 locations in North America each of which combines a restaurant, video games, shuffle board plus a sports bar.  While there are a number of independent sports bars and numerous video game arcades throughout cities in China, there is no managed chain similar to Main Event or D&B.  One reason this might be the case is that in China, students in high school and college are expected to focus on studies and scholastic-based extracurricular activities – hanging out with your friends after school – especially in smaller provincial cities is not as prevalent as it is in the West.

In Chapter 6 I mentioned that internet bars or net cafes (wangba) are substantially much more popular than their Western equivalents.  Xinhua estimates that as of 2009 there are more than 138,000 “cybercafés” in China.80 And 70% of the customers are between the ages of 18 and 30.  While these demographics might suggest that rest and relaxation at establishments like Main Event may be profitable enterprises, based on my own anecdotal observations and knowledge of cultural norms, Main Event-like proprietors may face consumption behavior that is unlike that of Western teenagers and young adults.  Thus like any other investment, potential investors should do their due diligence before cutting the ribbon and breaking ground.  And trying to compete for the same demographic group that Wanda, Haoledi, Cashbox, Muse and others currently attract is yet another hurdle that must be confronted.

Art is in the eye of the beholder

While both Sotheby’s and Christie’s have been continuously denied licenses to operate on the mainland, their art house auctions in Hong Kong each generated nearly $1 billion a year in sales in 2011.  According to The Wall Street Journal, in 2011, Sotheby’s sold $960 million of collectibles in Hong Kong and Christie’s sold $855 million in collectibles also in Hong Kong.81 All told, the 2011 art season from the Big Four auction houses in Asia (Sotheby’s Hong Kong, Christie’s Hong Kong, China Guardian and Beijing Poly) pushed the Chinese auction market from the 2nd highest at $8.2 billion in 2010 to the worlds largest.  In fact, with $4.8 billion in total sales, the Chinese art market “made up 41% of the global total turnover” in 2011.82 Yet this is not necessarily an area for get-rich-quick schemes either.  To be even handed, the overall art market slumped on the mainland in 2012 (due to a sluggish macro economy).  For example, Sotheby’s noted a marked decrease in sales, generating $258 million in autumn sales (a 37% decline from the previous year).83 Overall sales at Sotheby’s dropped from nearly $1 billion in 2011 to $592.9 million in 2012.84 Likewise, Christie’s reported a 15% drop year-on-year.  And both China Guardian and Beijing Poly faced significantly larger drops as well.  Altogether auction sales in China dropped 30% in 2012, allowing the US to regain the top position as market leader.85

However there are several reasons why the art market in China has grown over the past decade.  The first is that China, despite the internal and external conflicts that have resulted in the destruction of its cultural heritage (e.g., Old Summer Palace, 圓明園) still has one of the largest indigenously produced collections of art and calligraphy, a cultural endowment in which collectors around the world are increasingly interested.  Another reason is, as I briefly discussed in the previous chapter, art sales are one way to move capital out of China, bypassing the strict capital controls on the mainland.  And one creative corollary to this legal loophole is “elegant bribery,” a phenomenon that Jia Guo of Columbia University methodically detailed last year.86

While I certainly would not encourage the risky cat-and-mouse business of bypassing capital controls, Western artists and collectors may find new consumers and clients to whom to sell their paintings, statues and art wares.  In fact, skilled artisans in classical realism, impressionism and academic painting may be able to set up art schools and salons on the mainland.  This is a region, which despite a cultural appreciation for art and institutionalized support, currently has room for foreign skilled experts.  As I noted in Chapter 9, there are a growing number of public and private education venues and projects to satiate consumer demand in scholastic activities, this includes art and sculpting.  According to Nigel Carrington, rector for the University of the Arts London, UAL is looking to set up art foundation courses in part because “the Chinese are “furiously building” art and design schools in a bid to stem the flow of young talent to the west.”87

Do you have to move to China to sell art or services?

Not always.  Ken Yeh, chairman of Christie’s in Hong Kong, after observing a surge in impressionistic buying thinks that “the potential for Western art in China is huge, just massive.”88 Last year the New York Times noted that this renewed interest in Western art appeals to the affluent, like hedge fund manager Lawrence Chu, as well as new Chinese buyers who were raised during the Cultural Revolution and are now “successful business people with huge amounts of money at their disposal.”89 Perhaps you and your company can sell paintings and statues on Taobao through ExportNow (discussed in Chapter 7).  Perhaps you can use Wildfire or Mila (discussed next in Chapter 12) to locate patrons and clients.  Either way, your company can capitalize off the consumer demand for Western art in China without needing to open a physical shop on the mainland.

Another opportunity for independent artists and hobbyists is to sell art through a Beijing start-up called Yizzu.  For several hundred RMB, consumers can purchase reprints instead of paying thousands for an original.90 Community sites like this will enable a new segment of clientele to decorate their homes and offices.  And for perspective, at the other end, in 2011 more than 700 paintings sold for $1 million in China, compared with 426 in the US and 377 in the UK.91 Thus there are now opportunities at all price points.

Takeaway: Chinese tourists now comprise one of the largest tour blocks in the world, at 82 million overseas tourists in 2012.  China is also home to one of the largest markets for luxury consumer goods and its middle class places high value on foreign-made products.  In addition, Hong Kong – and by proxy, China – is now the world’s the largest art market.  How can you and your company capitalize off of these changes?  Can you reposition your brand and product like Coach handbags has?  Do you currently provide artisan services such as training and tutelage?  Perhaps you can begin to market your brand overseas using social media (discussed in Chapter 12) to promote your company to a new customer base that automatically considers and perceives foreign products and services as high quality.  And remember, if you do not take this opportunity, your competitor’s likely will.


Endnotes:

  1. See China Tourism Academy showed 70 million Chinese tourists outbound in 2011 from China Business Network, Chinese rush overseas for holiday from China Daily and China Voice: Keep China’s big spenders at home from Xinhua []
  2. Bless the Crass Chinese Tourist from The New York Times []
  3. Thailand now receives more tourists from China than anywhere else.  In fact, tourists from the mainland “accounted for 13 percent of the 19.8 million visitors to Thailand in the first 11 months of last year.”  For example during the 2013 Spring Festival, an estimated 270,000 Chinese tourists visited Thailand.  See Chinese Tourists Lost in Thailand Boosts Hotels: Southeast Asia from Bloomberg and 270,000 Chinese in Thailand during festival from China Daily []
  4. China now top source of leisure travelers to US from Want China Times []
  5. Chinese tourists spend more in US in 2011 from China Daily []
  6. Ibid []
  7. Some of these mainland tourists are now traveling abroad during Chinese holidays.  In fact there are numerous travel groups that are targeting the US during the winter due to its relatively slower season (compared with the intensely busy travel season on the mainland).  According to one report “four Chinese tourism companies have launched a project to attract Spring Festival vacationers from China” to the US.  See Start the new year with a trip to the US from China Daily []
  8. Hainan Airlines recently set up a non-stop direct route between Beijing and Chicago.  See Hainan Airlines to begin direct Chicago flights from China Daily []
  9. Global Blue also found that the top three favorite destinations for Chinese tourists are France, Germany and Singapore.  See Chinese overseas shopping hits record high from Xinhua []
  10. One of the reasons why there is such a large disparity between tourists to France versus the UK has to do with the Schengen Area harmonized visas (e.g., if you get an tourist visa to one member of the EU you can visit any of the other members).  The UK is implementing a new visa policy to streamline and make it easier for mainland tourists to visit; ; in 2012 the UK Border Agency issued 286,000 visas to people in China.  And according to Patricia Yates of VisitBritain, “[t]he average Chinese visitor spends about three times as much — £1,600 ($2,600, 2,000 euros) — as the average visitor to Britain.”  Collectively their spending amounted to £240 million ($390 million) last year.  See Britain looks to Chinese tourists for Christmas cheer from Agence France-Presse and UK aims to streamline visa application process from Global Times []
  11. France tops European table for Chinese tourists from The Guardian []
  12. See Chinese check-ins from The Economist and Chinese flock to Europe, US for holiday from China Daily []
  13. Another possibility that I did not mention is that you could cater to Chinese tourists coming to your hometown.  For example in 2011, “Starwood Hotels & Resorts Worldwide and Hilton Worldwide rolled out global hospitality standards such as in-room tea kettles, slippers and translation services, centered on wooing Chinese guests.”  See Meet Hualuxe, China’s Newest Upscale Hotel Brand from The Wall Street Journal []
  14. Chinese brands struggle in luxury market from People’s Daily []
  15. Chinese luxury: top of the shoppers from Financial Times []
  16. For an illustration of why and which foreign items are purchased in China see this excellent infographic: Why Do Chinese Consumers Pay So Much for Foreign Brands? from East-West Connect []
  17. Why China is sitting on fashion’s front row from CNN []
  18. Luxury Without Borders: China’s New Class of Shoppers Take on the World from McKinsey & Co. []
  19. See China’s metrosexual men revive luxury shopping from Reuters, Let’s hear it for the boys: China’s men lift luxury market from Reuters and Gucci owner targets luxury brands to cash in on Chinese consumers from South China Morning Post []
  20. Corruption curbs crimp luxury market from China Daily []
  21. According to one 2009 estimate, gifts to government officials comprised nearly 50% of all China’s luxury sales.  See China Targets Corruption, Luxury Brands Mourn by Evan Osnos, For Bribing Officials, Chinese Give the Best from The New York Times and SARFT orders ‘gifting’ ads off the air from Global Times []
  22. Corruption curbs crimp luxury market from China Daily []
  23. 奢侈品告别“中国盛宴” Gucci今年在华暂停开店from Yicai []
  24. Chinese Shoppers Overtake U.S. as Top Luxury Buyers from Bloomberg []
  25. The actual study period was from August 2011 to August 2012.  See Coming to a City Near You: More Chinese Shoppers from The Wall Street Journal []
  26. China Gets Angry at Overseas Luxury Shopping Trips from The Wall Street Journal []
  27. See Le Chinese tour de luxe from South China Morning Post, Luxury brands still reaping big rewards in China from South China Morning Post and视频:业内人士曝洋奢侈品在中国利润吓死人 from CCTV []
  28. In economics parlance this is called “conspicuous consumption” []
  29. Coming to a City Near You: More Chinese Shoppers from The Wall Street Journal []
  30. Chinese consumer spending overseas increased 31% between 2011 and 2012 yet sales growth on the mainland for luxury goods fell from 30% to 7% during the same time.  See China Voice: Keep China’s big spenders at home from Xinhua []
  31. China’s Frills and Posh Market Springs a Leak from Caixin []
  32. Another estimate cited by Colin Speakman is that in 2012 Chinese consumption of luxury goods amounted to $46 billion in total of which $27.1 billion was spent overseas.  See The bane of domestic consumption from China Daily []
  33. Luxury goods: style rises in the east from Financial Times []
  34. Burberry lays on ‘mother of all parties’ to launch flagship Beijing store from The Telegraph []
  35. To give you an idea of how many people visit Hong Kong, in November 2012 more than 3 million mainlanders visited the SAR; this resulted in a 13.7% increase in sales of jewelry and watches.  See Hong Kong Luxury Sales Rebound on Confidence in Mainland from Bloomberg []
  36. Why China’s 1% Is Now Discreetly Hiding Its Wealth from The Atlantic []
  37. One challenge for foreign retailers that receive tourists from the mainland is dealing with the “kickback” bonus (5-10% of sales) to tour operators who bring the Chinese tourists to the actual stores.  See Copenhagen Luxury Retailers Face Chinese Tour Guide “Kickback Culture” from Jing Daily []
  38. Santa is coming and China takes a lot more notice from China Daily []
  39. UnionPay is the largest credit card company on the mainland (equivalent to MasterCard and Visa).  Despite the assumption that few people or families have credit cards in China, the reality is that by the end of 2013 there will be an estimated 360 million credit cards on the mainland.  This is up from a mere 3 million in 2003.  See More Chinese to swipe credit cards in 2013 from CCTV News, Spring Festival holiday fuels bank card transactions from Xinhua, China Credit Card Market Forecast to 2015 from RNCOS and Competing for China’s credit card market from McKinsey Quarterly []
  40. Chinese tourists snub ‘Big Stupid Clock’ from BBC []
  41. Ibid []
  42. Le Chinese tour de luxe from South China Morning Post []
  43. Santa is coming and China takes a lot more notice from China Daily []
  44. Chinese tourists snub ‘Big Stupid Clock’ from BBC []
  45. Retailers prepare for holiday shoppers from China from China Daily []
  46. There are 12 animals altogether in the Chinese astrological zodiac.  See What Do People Want Most for Chinese New Year? Cash Money from The Wall Street Journal []
  47. Remington Pipes []
  48. Approximately one in three pairs of Nike shoes are made in China.  Nike contracts out to 180 manufacturers, employing 210,000 workers on the mainland.  See Nike still sees China labor challenges from USA Today and Rising Chinese salaries pushes Adidas to look elsewhere: report from Agence France-Presse []
  49. See Imported’ furniture never left country, say officials from Shanghai Daily, What did DaVinci furniture scandal expose? from People’s Daily and Furniture retailer fined after ‘fake imports’ scandal from China Daily []
  50. While many other countries have similar policies, dozens of Chinese industries and product-lines receive VAT export rebates and subsidies which incentivize production irrespective of their profitability.  See Nation ‘unlikely’ to reduce export rebates from China Daily and Vuvuzela sounds clarion call for China’s manufacturers from Xinhua, Glut of Solar Panels Poses a New Threat to China from The New York Times and China adjusted VAT & consumption tax policies for exported goods and services from KPMG []
  51. Swiss Watch Boutiques Swap Christmas Trees for Hongbao from Bloomberg []
  52. Not all is smooth sailing for luxury goods.  For example, during the recent crackdown on government corruption, gift giving has dropped markedly.  And since luxury watches were one of the popular gifts provided to businessmen and officials, there has been a measurable decline.  According to the Federation of the Swiss Watch Industry “show that Swiss watch exports to the Chinese mainland dropped 27.5 percent year-on-year in September.”  This is on the back of 40% growth from the previous year.  See Corruption curbs crimp luxury market from China Daily []
  53. One of the reasons why Hong Kong has become a large importer of wines is that duties were removed on wine imports in 2008.  See Mainland China Now #5 Export Market For US Wines, HK #3 from Jing Daily []
  54. Yacht designers – both foreign and domestic – have also begun finding new opportunities with wealthier Chinese clients.  Two other areas are hand-made tobacco pipes and hand-made bicycles which are both seen as unique, luxurious items by high-net worth individuals.  See Made-in-China superyachts reflect changing tide of economy from CNN, Bikes for bonuses as China’s wealthy reminisce from Reuters and The new face of bling in China – bikes from Reuters []
  55. There may have been another bubble in the wine industry as wine sales dropped from $397 million in 2011 to $322 million in 2012 at the biggest auction houses.  See Wine Auctions Drop 19%, Chinese Demand Cools for Bordeaux from Bloomberg []
  56. China On Track To Be World’s Biggest Cognac Consumer from Jing Daily []
  57. China Has Become A Very Important, Huge Market For Every Cognac Company from Jing Daily []
  58. See J.Crew Brings Its Brand to China from The Wall Street Journal and Strong overseas, US sales lift Coach 1Q profit from BusinessWeek []
  59. Coach Looks to Bag Chinese Market from The Wall Street Journal []
  60. The consuming challenge of food safety from China Daily []
  61. See U.S. and Chinese Consumers Willing to Pay More for Made in USA Products from Boston Consulting Group and Chinese Willing to Pay More for Made-in-USA Goods from The Wall Street Journal []
  62. Chinese consumers are becoming increasingly savvy and in-tune with fashionable trends from elsewhere as magazines such as Elle, Vogue and Cosmopolitan publish large monthly issues customized for their Chinese audience.  See The Stylish Side of China from The New York Times []
  63. China uncovers luxury bag fakery, arrests 73 from Xinhua []
  64. Fashion industry struck by China lowdown from The Independent []
  65. It’s Up, It’s Down: Reading the Tea Leaves on China’s Luxury Market from brandchannel []
  66. See Burberry profit warning chills luxury rivals from Reuters and Burberry lays on ‘mother of all parties’ to launch flagship Beijing store from The Telegraph []
  67. See China Targets Corruption, Luxury Brands Mourn by Evan Osnos, For Bribing Officials, Chinese Give the Best from The New York Times []
  68. China bloggers expose more corruption: reports from Agence France-Presse []
  69. See China’s downturn-proof booze makers hit government wall from Reuters and SARFT orders ‘gifting’ ads off the air from Global Times []
  70. After six months since the “clamp down” on “pricey booze” began, domestic liquor makers have reported that business was not initially been hampered and in fact they have posted strong profits in Q3 2012.  Yet at the turn of the New Year, baijiu manufacturers were especially hit relatively hard due to a new national government crackdown on extravagant spending at banquets and parties funded by local governments.  And according to a recent survey of high-network individuals in China, most affluent residents prefer to receive foreign luxury items as opposed to domestically made brands.  Subsequently Moutai itself has had a number of administrative problems that have only added to the issues of crackdowns on banquet and gift-giving.  Conversely imported liquor is reportedly seeing robust growth, with UK-based Diageo seeing a 50% increase in sales of its luxury Scotch.  See Mao’s $300 Red Army Liquor Suffers Before China Congress from Bloomberg, Withdrawal symptoms: China’s rice wine market from Buy Buy China, Glass half full for imported liquor from China Daily, Premium liquor shares iffy amid frugality campaign from Xinhua, Bottoms up: China booze makers defy economic gloom from Reuters and China gift crackdown hits watches, booze but foreign brands hold on from Reuters, 茅台整改:反腐潮加快白酒业全面市场化 from NBD, 媒体称多地严查公款吃喝后部分名酒价格暴跌from 163 and白酒年关难过from Caixin []
  71. Baijiu Stocks Sink After Premier Vows to Curb Spending on Banquets from The Economic Observer []
  72. On October 22, 2012 Bill Bishop highlighted a Chinese photographer’s tour of the American West during Chinese National Day (October 1-7).   Bishop predicts that there “will be lots more travelers like this as US visas get easier for Chinese tourists.”  See美国西部特写–大提顿国家公园_梁芳洁的芳草地_梁芳洁_博联社 from 梁芳洁. []
  73. Chinese parents turn to US summer camps from China Daily []
  74. Number of Chinese tourists to USA doubles after loosen visa policy from South China Morning Post []
  75. Glenn Wilkinson, the Australian consultant that I mentioned a couple of times, told me he knows of numerous Chinese who have gone and who are currently interested in going to the Australian Outback or even Africa.  This kind of “genre tourism” caters to those wanting to experience the authentic conditions (e.g., ruggedness, safari).  See For Affluent Asians, Africa’s Appeal from The Wall Street Journal []
  76. See Best massages in Shanghai from CNN and Dragonfly Spa Review from About.com []
  77. Top 10 private companies in China 2011 from China.org.cn []
  78. Wanda of China set to buy more U.S. entertainment assets from Los Angeles Times []
  79. Changba: The Viral KTV App from The World of Chinese []
  80. China saw 138,000 Internet cafes as of 2009 from Xinhua []
  81. Art Sales’ Old Guard Gets Rival From Asia from The Wall Street Journal []
  82. Four Tips On How To Approach China’s Art Boom from Forbes []
  83. See Sotheby’s autumn HK sales drop as China economy slows from Reuters and Auction Houses Go Head-to-Head in Hong Kong from The Wall Street Journal []
  84. China art market: auction houses see slump in 2012 sales from Financial Times []
  85. Chinese slump dents global art market in 2012 from China Daily []
  86. In Guo’s words, “The briber first presents a forged artwork as a gift to the official being bribed, which does not violate the Chinese anti-corruption laws since such artworks have very low monetary value. Then, the official auctions the painting via an auction house. Finally, the briber attends the auction and purchases the artwork back for a very high price, as if he mistook the work for an original. Since bribery, rather than investment or personal appreciation, is the purpose of such purchases, “elegant bribery” is a significant source of inelastic demand for works of art in the Chinese auction market, driving prices beyond what can be explained by observable characteristics.”  See What Drives the Chinese Art Market? The Case of Elegant Bribery by Jia Guo []
  87. Art schools face uncertain financial future from The Guardian []
  88. Chinese take the art market by storm from China Daily []
  89. China’s New Cultural Revolution: A Surge in Art Collecting from The New York Times []
  90. Yizzu.com Brings Chinese Art to the Masses and Builds a Community from TechNode []
  91. Four Tips On How To Approach China’s Art Boom from Forbes []
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Chapter 12 – Social Media and marketing your brand

[Note: below is Chapter 12 from Great Wall of Numbers]

Unlike Chatroulette, parachute pants and cabbage patch dolls, social media is not a passing fad.  Despite its IPO growing pains, with more than one billion users Facebook is here to stay.  And organizations like Pew Internet continue to note the strong embrace of social media by digital denizens.  For example, in September 2012, Pew reported that 46% of internet users (in the US) post original photos and videos online.1 Similarly, there are 564 million internet users in China (growing at a rate of 4 million more each month, a number expected to reach 800 million in 2015), a large portion of who – as I detail below – have also adopted and incorporated social media into their daily lives.234

Keep in mind, as Matt Garner notes in Red Flags, that you will not be able to establish a long-term presence in China as a foreign company without establishing yourself as a brand – using social media services.  This is because domestic Chinese companies will continually benchmark your bottom-line and undercut you on price.  The situation can be likened to the consumer goods company that sells excess product to a private in-house label.  Before long, the company has diluted its own brand image and the private label has cannibalized its market share.  The original benefit to an American company sourcing its goods from China is a low cost overhead. But when the American firm decides to turn around and sell its goods directly in China it often discovers it cannot because the source company has already started selling its own domestic brand of the same product.  One way to establish your brand is by using social media.

Yet social media services in China are typically no different than those in the West.  For example, I remember exactly where I was when Youtube, Facebook and Twitter no longer worked in China – at my apartment in Bengbu in the summer of 2009.  Yet, irrespective of what you might think about the Great Firewall and internet censorship, the humbling reality of China is in the words of Bill Bishop: one worlds, two internets.5 In fact, in a short email exchange in January 2013, Bishop explained to me that “If they [foreign social media experts and firms] are not tracking and engaging on Chinese social media they will not be talking to most of their Chinese customers who are online. Facebook and Twitter are basically irrelevant on the Chinese Internet.”

Or in other words: an intractable situation that will not change anytime soon.  But while international web 2.0 technology titans such as YouTube, Facebook and Twitter are effectively blocked, this is not to say that domestic internet users are not proficient with similar services.  And with its 564 million internet users (and 420 million mobile net users), it would arguably be a significant segment too important to ignore even if you think it is not worth the trouble.6

Do Chinese users spend much time on these services or buy anything?  Incitez, a market research firm, found that “consumers in China spend 46 minutes a day visiting social-media sites.”7 In comparison, in Japan the time is 7 minutes a day and in the US it is 37 minutes.  And according to a report from the Boston Consulting Group published last fall, China’s online shopping population was the largest, 193 million compared with 170 million in the US (though it trails both the US and Japan in total online spending).8 China’s shopping population has since grown to 242 million people through December 2012.9

How big is this in revenue numbers?  Altogether in 2012, e-commerce revenue totaled $196 billion.10 During the 2012 Single’s Day (November 11th or 11-11) on the mainland, Alibaba Group e-commerce properties (Tmall and Taobao) purportedly broke the single day sales record with over 100 million visitors and $3.03 billion.11 And as noted earlier in Chapter 7, the BCG report also estimates that China’s e-commerce market will become the world’s largest in 2015.  In fact, Analysis International projects that China’s e-commerce market will hit 2.57 trillion RMB ($410 billion) by 2015 and $457.6 billion in 2016.12 For comparison, e-commerce sales in the US reached $186.2 billion in 2012; the previous revenue records were $1.3 billion from Cyber Monday 2011 and $1.04 billion of merchandise was sold on Black Friday 2012.13

What are the domestic alternatives to the international social media site?  In place of these Silicon Valley firms are a slew of Chinese-based solutions, most notably:14

–          Tencent is China’s largest tech company, generating $4.5 billion in 2011 and $3.24 billion for the first half of 2012.1516 It develops the popular instant messaging clients, QQ (784 million users) and Weixin or as it is known in English, WeChat (300 million users, doubling its userbase in 6 months) and operates two microblogging sites called Qzone and Tencent Weibo.1718192021 Its success has prompted Western marketers such as Nike, Intel and Starbucks to build marketing campaigns around it.22 WeChat’s Western-equivalent is WhatsApp and the Chinese companies influence may have rubbed off on Facebook which itself has been purportedly stealthily adopting some of WeChat features for mobile users (e.g., communications tool).23 And messaging applications like WeChat have become so popular in China that SMS usage grew at a mere 2.1% in 2012 even though wireless service penetration grew at 9%.24 Furthermore WeChat now has 10 million overseas users and has recently opened a US office with a team focused solely on developing the app for developed countries.25 According to the same Incitez report above, Qzone and Tencent Weibo are the 1st and 3rd most popular networks for social sharing in China.  All told Tencent is the 9th largest web platform in the world.  For perspective, the collective instant messenger userbase in China reached 1.21 billion in Q3 2012 and the mobile instant messenger active userbase reached 480 million in the same timeframe.26

–          Youku/Tudou recently merged in the summer of 2012 to become the largest video sharing site in China’s fragmented market.  Altogether they receive a combined 400 million visitors a month.  By one estimate, their combined marketshare was originally 32.3% but decreased to 25.2% in May 2012 while their main competitor, iQiyi (which itself was recently acquired by Baidu) has jumped up to 18.4% marketshare in July 2012.  In Q1 2011 all three of them had a combined 70% marketshare.27 Tencent-related properties have reportedly gained at their expense.  Despite this challenge, Youku’s revenue increased 84% in Q3 2012 and posted its first ever profit during the same time frame.28 And in December 2012 Victor Koo (founder and CEO of Youku) now estimates that “Youku gets 74% of the Chinese Web audience in a given month [for streaming videos].”29

–          Renren is one of the largest domestic social networking sites, with about 200 million registered users and more than 45 million monthly active users.30 According to Incitez it is the 4th most popular network for social sharing.  Its feature-set serves as a very close proxy to what Facebook offers, including many of the popular games and apps.  For perspective, eMarketer estimates that China is already the largest social networking market with an expected ad revenue of $612.8 million in 2013 (based on a conservative estimate of 307.5 million users).31

–          Sina Weibo, is now the world’s second largest microblogging service after Twitter.  As of February 2013 they had 503 million accounts, 300,000 enterprise customers and at least 46.3 million daily active users, second only to Twitter (which also more than 500 million registered users and 200 million monthly active users).32333435 It has a number of additional features that differentiate it from Twitter, such as a built-in instant messenger.

–          Baidu is the largest search engine in China (with 78.6% marketshare through 2012) largely because of preferential regulatory policies that have stymied Google (which only has about 15.6% marketshare on the mainland.36 Baidu also now owns iQiyi, the Chinese equivalent to Hulu that streams licensed HD video content.37 Incitez estimates that Baidu properties account for roughly 12% of social media sharing.  It now has 80 million daily active users on its mobile search product and serves up five billion search queries daily across all of its partner sites; it is the 3rd largest tech company by revenue, $3.558 billion in 2012 (up from $2.34 billion in 2011).38 And in an effort to internationalize, in February 2013 it launched an English website for developers.39

While the start-up culture is still young and maturing, some domestic start-ups are funded by the likes of Kai-Fu Lee (former head of operations for both Google and Microsoft in China) and Digital Sky Technologies (DST) or through incubators in Shenzhen financed by Tencent.40 Others are even financed directly by Silicon Valley venture capitalists (VCs) like 500 Startups which opened a Beijing office in Q1 2013 headed by Rui Ma, an experienced venture capitalist.4142 There is even a venue similar to TED-talks called Geek Park which has held 40 forums since 2010, bringing together thousands of developers, product managers and investors.43  In fact, after initial success this past year, Microsoft now plans to incubate 100 companies annually on the mainland and will provide “the space, the technology, mentorship, access to funds” to the start-ups.44

Yet Duncan Clark, a technology analyst in Beijing, has noted that the insular protectionist policy making by officials renders it increasingly difficult for international companies to enter the domestic market.4546 What this means is that you should not wait for the Great Firewall to open back up.  Instead, take the initiative to create company accounts at Chinese social media sites.

Starting from scratch

Arguably the first service a foreign firm should start working with is QQ international.  It is free and easy-to-use because it is in English (Sina Weibo is also internationalizing and creating an English-based version).47.  It also puts you into direct contact with more than 700 million active QQ users.  But it does not stop at the desktop as many TV commercials and retailers prominently display company QQ numbers (like the AOL keyword).  In addition to the traditional contact information, many Chinese business cards also have QQ numbers displayed as well.  So if you plan to do business in China and want to interface with potential customers, having a QQ number is a must.

While micro-blog Twitter-like sites such as Sina Weibo and Tencent Weibo follow the same 140 character constraints as their Western counterparts, one distinct advantage written Chinese has over English is that the language is more compressed.  Chinese users typically only need 1-3 characters to make a word whereas English words typically need more, even when abbreviated.  While this may seem trivial minutiae, every little bit helps to better understand your potential customer base more.48

Pin-boards and group-buying

Pinterest is an increasingly popular “pin-board” style content sharing web service, breaking the record for fastest time to reach 10 million unique visitors (accomplished in less than 1 year).49 It was founded in March 2010 and raised $100 million this spring at a $1.5 billion valuation.  It competes head-to-head with Facebook’s newly acquired Instagram photo sharing site.  And it has a significant advantage in this region: it is not blocked in China.

As a consequence its usage rate is not only soaring, but its popularity has inspired the sincerest form of flattery, copying.  One recent estimate from Zhang Dan at ZDNet is that there are now about 30 Chinese clones of the site.50

One of the key differences between Pinterest and clones like Faxian and Mogujie is that users not only “pin” things that interest them, but can also buy items as well.  Typically users can make purchases directly from Chinese e-tailers like Taobao who have formed revenue sharing partnerships with the Pinterest-clones.51 As a consequence many of these start-up Pinterest/ e-commerce hybrids in China have found relatively “quicker return on capital.”

What about other services that have moved West-to-East?  The seemingly instant success of group-buying sites such as Group-On has inspired a plethora of copy-cats in China as well.  According to an August 2012 China e-Business Research Center report, there were 3,210 group-buying sites operating in China, whose transaction values reached $2.3 billion in the first half of 2012, “an increase of 124 percent from the same period a year ago.”52 It is a highly crowded space with about half of all group-buying websites closing down in 2012 including 24quan, which was shut down in September (it had been the 5th largest).  In fact, Lashou was at one point the market leader yet has dropped to 6th by revenue.5354 While it may be very difficult to start a similar service, placing your product on one of the sites could enable your company to expand its brand awareness to an entirely new customer base.

The immediate takeaway for you and your company is this: how can you position your idea, your brand, and your products in China?

If you sell consumer goods, components or even services you can utilize Pinterests organic grassroots community sharing to help promote your goods and services.  And you can also try to get your products placed on Meituan, the current group-buying leader in China.

There are of course legal concerns to regarding copyrights in Pinterest-like sites.  Because of the relative ease and viral nature of copy/pinning, Pinterest has attempted to help alleviate some of the legal headaches by implementing a “nopin” tag that companies can use to prevent copyrighted images from being pinned on the site.  Another issue that Brian Heidelberger recently noted, that touches on this viral marketing and positioning of your product: if you open an official company Pinterest page and allow your customers and fans to pin images for your promotion, these users may not own, thus creating copyright complications (e.g., because when a copyrighted image is attached to a commercial product, your company must receive legal permission to use it).55

Brand Positioning

Just like there was a virtual land rush for unique domain names in the 1990s and with Facebook Pages, so too is there a land rush for social media positioning in China.  And with that rush comes branding and market research.

In October 2012 I spoke with Pieter Nooren, Research Manager at Wildfire Asia, a social marketing firm with offices in Shanghai and Singapore.  Wildfire Asia provides technology for understanding and changing online conversations; a service with high demand in a country where word-of-mouth is shown to drive 55% of consumer purchase decisions.56

In particular, the company combs Chinese social networks to discover conversations and trends, helps brands to understand and engage in conversations, and recruits unpaid influencers to a brands’ cause.  In Nooren’s words, “We monitor the internet. We index any conversations and comments on forums, BBS and social networks according to our client’s strategic objectives. We then analyze this data to provide consumer and market insights, as well as to identify advocates and influencers in the brand’s category.”

To help their clients manage all of the data, Wildfire provides them with an online dashboard providing key conversation metrics, Weibo performance, and influencer management tools. Based on the data, Wildfire can provide “insights and strategic recommendations to the client.”  This is important, especially to foreign companies unfamiliar with both the Chinese marketplace and social networking services.  And Wildfire’s business model has been effective thus far, as the firm has grown to 25 full-time staff since its founding in 2009.

What does this mean in a nutshell?

It means that Wildfire not only tracks what consumers are saying about your brand, but gives you the ability to impact those conversations through social customer relationship management (CRM) and influencer marketing.  You can also find out what is going on with your competition using the same tools.57

You might already be thinking to yourself, “I already have a Facebook strategy, why should I bother with Weibo or Renren?”  As both Duncan Clark and Bill Bishop have noted above, it would be foolish to assume that Facebook will be allowed back in anytime soon.  And unfortunately the harsh reality is that Facebook’s reach is very limited within China.5859

Back in September 2012 there was a rumor regarding a speculative Facebook user-base number being floated around parts of Western media: that there were up to 63.5 million Facebook users in China.  This however was quickly verified to be untrue.60 Nor are there millions of Twitter users on the mainland.61 While we may never know the real number, Facebook’s own indirect estimate is closer to 600,000 (and perhaps only 18,164 active Twitter users).62 While relatively low, this falls in line with another number: there are approximately 600,000 permanent foreign residents in China.63 It should be noted that not all foreigners use Facebook in China nor do all foreigners have a VPN to access it in the first place.  Furthermore, the average Chinese user does not currently have access to a VPN or other “Wall Climbing” software such as UltraSerf, WebFreer or Hotspot.  In their mind, why should they have to pay to access foreign services when there is a similar Chinese version available for free?

Brand awareness

Social media provides important benefits in improving company brand awareness.  According to a 2012 McKinsey & Company report, Estée Lauder created a drama series exclusively for China called “Sufei’s Diary” to promote the brand Clinique.64 The 40 episode series was broadcast on a variety of digital venues in China (websites, buses, trains, airplanes).  Its online viewership alone was viewed “more than 21 million times” and as a consequence, Clinique’s online brand awareness “is now 27 percent higher than its competitors.”   Estée Lauder’s use of social marketing has paid off financially, as the company generated $500 million in China in 2011, which is an integral part of its 9.2% increase in overall corporate revenue.65

Another consideration for foreign cosmetic firms is that what Chinese consumers view as beauty may not be the same as Western tastes and preferences.  For example, fair porcelain skin is traditionally considered more preferable over tan skin due to historical social status (e.g., the affluent could afford to sit inside whereas manual laborers had to withstand the elements including sun light).  Thus Unilever, the 2nd largest consumer goods company globally plans to expand its business on the mainland “five fold” by marketing products like Pond’s Flawless White.66

While this is not to say your company will also reap immediate success, creating a social media plan today will enable your company to reach new customers and generate additional revenue streams.  Or as Incitez recommends, do not become too obsessed with return-on-investment in social media – “digging out insights is more important.”67

Using social media to find customers

As I discuss later in Chapter 13, another way that SMEs can leverage domestic social media sites is through a start-up called Mila.  Mila is a new cloud service that combs social media websites and helps companies find potential customers.  For example, if you are a real estate agent, you can post pictures of vacant apartments and then Mila can help to find people who are looking for apartments for you.  Or if you are a plumber, you can create a company profile on Mila which will then search across social networks for potential customers looking for plumbers.

Mila has been localized for the Chinese marketplace through a partnership with China Unicom and is even rebranded as Womaiwomai (沃买沃卖) for the Android ecosystem (its Mila name remains the same on the iTunes App Store).  Together with Unicom they integrate Sina Weibo (the largest microblog platform in China) and Alipay (the largest e-pay platform in China) into their product.

Thus before even moving to China your company can create accounts on a wide-variety of social media services in China like Youku.  You can then promote your brand through Pinterest-style websites and communicate with customers, clients, fans and even critics through Sina Weibo and Renren.  And perhaps most importantly, you can even find potential leads through Mila, which searches social networks to discover who is looking for services that your company offers.

Culture and branding

While there are numerous historical case studies regarding mistranslations of company names and slogans that are typically cited in business schools, creating a Chinese name for your company or product is just as important as it is in the West.6869 For example, whereas Apple and Microsoft literally translated their names into Mandarin, Pepsi was a little more creative and chose the name baishi which means “wishing 100 happy things.”70 Similarly, Coca-Cola is pronounced ke kou ke le “which includes characters for delicious and happy” and as a consequence is considered a prime example – or gold standard – of how to brand your company and product on the mainland.71 In contrast one tone of Bing (病) – the name of Microsoft’s search engine – sounds like “sickness” in Chinese and thus was mocked by netizens when it was first introduced.72

Why is this language component important?  According to a 2012 Economist Intelligence Unit report, “43 percent of nearly 600 global executives admitted to incurring financial setbacks as a result of communication misunderstandings standing in the way of a major cross-border transaction.”73 Furthermore, “90 percent of the executives [surveyed] felt that company profits, revenue and market share would climb if cross-border communication is improved.”  What this means is that you and your company should be cognizant of communication barriers and limitations at both the negotiation table and marketplace for brand recognition.

Takeaway: with nearly 600 million internet users (and as of January 2013 more than 420 million of whom are mobile users), China has a digital populace almost twice the size of the US total population.74 So what is your company’s social media plan and strategy in China?  If you do not have one, you still have time to develop and roll one out.  And while you may be unable to understand Mandarin, there are a number of free, easy-to-use online tools that can help you register a namespace at popular Chinese social media sites.  Ignoring these potential customers is the last thing your company should do.  Be safe rather than sorry – register your brand name at social media sites today.


Endnotes:

 

  1. Photos and Videos as Social Currency Online from PewInternet []
  2. See MIIT: China’s Internet User Base to Hit 800 Mln by 2015 from People’s Daily, SMS growth in China slows as mobile users turn to alternatives like Tencent’s WeChat from The Next Web and Social, Digital, Mobile China (Jan 2013) from We Are Social []
  3. See Chinese Web Users Hit 538 Million from PCMag and China’s Internet population surges to 564 million, 75 percent on mobile from ZDNet []
  4. As of 2011, the amount of rural internet users was 136 million.  According to China Internet Watch, “In other words, there is still 82% of rural population that could not access the Internet. Paralleling that, Chinese penetration of broadband connection is low. Only 39% of families have fixed broadband connection in China. In some middle and western provinces, less than 70% of population has phones.”  See 74% Chinese Netizens Acquire News Online from China Internet Watch []
  5. One World, Two Internets by Bill Bishop []
  6. China Had 564 Million Netizens By End Of 2012; Fewer Using Desktop Computers To Surf from China Tech News []
  7. China Social Media Whitepaper (October 2012) from China Internet Watch []
  8. See Singles Day: China’s online shopping holiday from USA Today and Singles’ Day promotions draw in shoppers from China Daily []
  9. China Had 564 Million Netizens By End Of 2012; Fewer Using Desktop Computers To Surf from China Tech News []
  10. Bezos’ Kindle-Less Amazon Mashed in China by Ma’s Alibaba from Bloomberg []
  11. See Black Friday in Red China by Evan Osnos and Singles Day: China’s online shopping holiday from the Associated Press []
  12. See China Now Has 242 Million E-Commerce Shoppers, Spending $40,000 per Second from Tech In Asia and E-commerce in China – Statistics and Trends from Go-Globe []
  13. Black Friday surpasses $1B in online sales from Computer World []
  14. I would be remiss if I mentioned Group-buying and Pinterest clones but not about Kickstarter-like crowd-funding sites in China.  See Tapping into Crowd Power with Website Finance from Caixin []
  15. Tencent announces $4.5 Billion in 2011 revenue from NASDAQ []
  16. Unaudited 1H 2012 revenue was 20 billion RMB ($3.24 billion).  See Interim Report 2012 from Tencent Holdings []
  17. See Tencent’s WeChat messaging app passes 300m users, adding its latest 100m in just 4 months from The Next Web, Tencent: WeChat App Set to Surpass 300 Million Users Next Month from Tech In Asia, 200 million users strong, Tenecent’s WeChat messaging sees huge adoption outside of China from The Next Web []
  18. According to their Q3 2012 results, Tencent generated $1.82 billion in Q3 and their WeChat service passed the 200 million user mark.  See Tencent continues modest growth in Q3 with $1.8b in revenue, $511m in profit from The Next Web []
  19. WeChat is quickly gaining on Sina Weibo.  See Tencent’s WeChat Takes Bite Out of Weibo from The Wall Street Journal []
  20. See WeChat Bests Weibo in Monetizing Social Media from Caijing and Wechat’s Monetization and Overseas Quest from TechNode []
  21. For more about WeChat and how to effectively use it to reach consumer see: Conquering WeChat: Effective B-2-C Communication by Digital Jungle and The best blog posts about marketing and branding on WeChat from China Internet Guru []
  22. China’s Fast-Growing WeChat Shakes Up Weibo. Could It Jump to the U.S.? from AdAge []
  23. Facebook looks more like WeChat every day from Pando Daily []
  24. SMS growth in China slows as mobile users turn to alternatives like Tencent’s WeChat from The Next Web []
  25. See China’s Tencent Aims Mobile App at U.S. Market from The Wall Street Journal and WeChat to set up US office from Global Times []
  26. See China’s Instant Messaging Users reached 1.21 Billion in Q3 2012 from China Internet Watch and China Mobile IM Active Users Reached 480 Million from China Internet Watch []
  27. See Youku Tudou May See Postmerger Static from Barron’s and China Online Video Market Update Q1 2011 from China Internet Watch []
  28. Youku Revenue up 84% in Q3; Reports Net Profit for 1st Time from Caijing []
  29. Youku’s Now The King Of China Web Video: Can It Make Money? from Forbes []
  30. As of September 30, 2012 Renren had approximately 172 million users and is expected to hit 200 million within the next year.  See Renren Has 45 Million Monthly Active Users, Eyes on Mobile from Tech In Asia []
  31. To be even handed, some of these social media numbers require more objective analysis and may be artificially inflated.  See The myth of Chinese social media user numbers from South China Morning Post and Asia-Pacific to Top Western Europe Social Network Ad Spend in 2013 from eMarketer []
  32. See Sina Weibo poised to launch new version from China Daily, Twitter reaches 500 million user mark from The Washington Post and Twitter monthly active users: 200 million and growing fast. from Slate []
  33. See Sina Weibo Passes 500 Million Users, But Needs to Monetize More on Mobile from Tech In Asia and Of Sina Weibo’s 500 Million Registered Users, Are 90% Actually Zombies? from Tech In Asia []
  34. Monetizing your company’s fan base from social media sites like Sina Weibo is a challenge that was recently discussed by Ken Hong, the general manager of the Sina Weibo platform at Sina.  See Turning Brand Fans into BFFs from Thoughtful China []
  35. How many people actually use Weibo is another issue as a recent study conducted by researchers Hong Kong University found that a large percentage of users may be “zombies” – fake accounts used by marketers to boost follower numbers (an attract higher advertising premiums).  See Reality Check for the Chinese Microblog Space: A Random Sampling Approach by King-wa Fu and Michael Chaus []
  36. The 15.6% is an estimate from EnfoDesk regarding Google.cn; CNZZ estimates that Google’s marketshare is lower at 4.72% in October 2012.  See China Search Engine Market Share in 2012 from China Internet Watch and Google decline in China continues as its search share falls to 4th place, maps to 6th from The Next Web []
  37. Baidu acquires dominant stake in online video firm iQiyi, buys out ex-Hulu investor Providence from The Next Web []
  38. See Baidu Handles 5 BILLION Search Queries Per Day from Tech In Asia, Baidu Reaches 80 Million Mobile Apps Users, Reveals Full 2012 Financials from Tech In Asia, Qihoo Looks to Cut Into Baidu’s Market Share of China’s Internet Search Engine Market from Marketwire and Baidu Announces Fourth Quarter and Fiscal Year 2011 Results from PRNewsWire []
  39. China’s Largest Search Engine Baidu Launches English Site For Developers from TechCrunch []
  40. DST is a Russian-based venture capital firm headed by Yuri Milner that focuses in part in emerging market tech firms including those in China such as 360buy.  See China Deals Represent Half of DST Global’s Recent Investments from The Wall Street Journal []
  41. VCs coach Silicon Valley startups on investing in China from China Daily []
  42. In a bit of a role reversal, InnoSpring is a new US-China incubator based in Santa Clara, California.  See 500 Startups Is Setting Up Shop In China, Adding Beijing-Based Venture Partner Rui Ma from TechCrunch []
  43. Geek Park Lures Google’s Schmidt in China App Hunt from Bloomberg []
  44. Ibid []
  45. Could China Rival Silicon Valley from Australia Network News []
  46. This also provides a challenge for domestic Chinese internet companies wanting to expand and internationalize into the global marketplace.  See Now China’s WeChat App is Censoring Its Users Globally from Tech In Asia, If Tencent wants WeChat to go global, it has to stop international censorship from Pando Daily, China’s Tencent Apologizes for Message Problems from The Wall Street Journal and All Eyes Are on WeChat, Including the Chinese Government’s from Motherboard []
  47. Sina Weibo introduces beginnings of an English interface from Shanghaiist []
  48. In terms of understanding internet market opportunities and consumer behavior, it is highly recommended that readers peruse the 2012 China Internet White Paper from IDG-Accel which goes into detail about several areas that are sometimes overlooked.  For example, Chinese internet demographics can be broken down into the “Baigujing” (educated urban net users) and “Grassroots” (everyone else).  Understanding this type of consumer segmentation could help focus your marketing strategy. []
  49. Pinterest Hits 10 Million U.S. Monthly Uniques Faster Than Any Standalone Site Ever from TechCrunch []
  50. China’s “Pinterest” in a faster profit-making mode from ZDNet []
  51. Pinterest clones flooding Chinese web space from BBC []
  52. Nearly Half of China’s Group Buying Sites Now Closed Amid Heated Competition from PCWorld []
  53. See Popular group-buying site in China shutters from ZDNet and 24Quan, Once China’s 5th-Biggest Daily Deals Site, Suspends Operations from Tech In Asia []
  54. China’s Lashou Has Lost its Mojo, its IPO, and 50% of Market Share from Tech In Asia []
  55. How Brands Can Use Pinterest Without Breaking the Law from Ad Age []
  56. Experience Brands and the New Engagement Model from Jack Morton in 2010 []
  57. Readers are encouraged to peruse the analytics provided in several case studies.  See Case Studies from Wildfire Asia []
  58. This image was released in December 2010 showing the active regions of the world based on Facebook usage.  China is notably dark. []
  59. There are also a number of social networks designed for professional business people akin to LinkedIn; collectively their userbase has now reached 100 million.  To illustrate the dynamism in this space, one of the former leaders, ChinaHR is currently in decline and its parent company (Monster.com) has sold off all but 10% of its stake by February 2013.  See China’s Professional Social Networking Users to Reach 100 Million from China Internet Watch, Rumor: ChinaHR.com May Be Dumped By Parent Company For Measly CNY55 Million from China Tech News and Ireland’s Saongroup Acquires 90% Stake In ChinaHR.com; Half Staff Will Lose Jobs from China Tech News []
  60. No, Facebook does not have 63.5 million active users in China from The Next Web []
  61. There are NOT millions of Twitter users in China: Supporting @ooof’s result and refuting GWI’s survey from Blocked on Weibo []
  62. New Study Proves that Twitter Users in China are Rare Birds from Tech In Asia []
  63. 593,832 foreigners live on Chinese mainland: census data from Xinhua []
  64. Understanding social media in China from McKinsey Quarterly []
  65. Estee Lauder’s New Skin Care Brand in China: The Potential for High-risk, High-reward from Knowledge@Wharton []
  66. Redefining the Chinese Beauty Standard from China in Focus []
  67. China Social Media Whitepaper (October 2012) from China Internet Watch []
  68. Perhaps the most popular urban legend, which is false, is the Chevy Nova.  It is sometimes mentioned in business school textbooks as having sold poorly in Spanish-speaking countries due to a retranslation of “nova” as “no go.”  This is incorrect.  See Don’t Go Here from Snopes []
  69. In China, Air cheow-DAN Cries Foul from The Wall Street Journal. []
  70. What’s In a Name? by Meredith Rodriquez []
  71. Naming in Chinese, the Coca-Cola Story from About.com []
  72. Microsoft Launches Search Engine for China — But Don’t Call It Bing from The Wall Street Journal []
  73. See Competing across borders from Economist Intelligence Unit and Bridges and Barriers by Linda Yu []
  74. See China’s Internet population swells 10% to 564m in 2012, with 75% logging on from a mobile device from The Next Web and Sohu’s mobile traffic nears PC volumes from China Daily []
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Chapter 13 – IT and software services

[Note: below is Chapter 13 from Great Wall of Numbers]

At the various schools, colleges and organizations I have worked at on the mainland, each facility was staffed by employees with a diverse range of technical abilities.  In addition, the equipment ranged from slightly dated to cutting edge.  While I have had the chance to work on a SugarCRM and Drupal wire frame development project domestically, I think some general statistics will give you a better idea of the size, scope and marketshare of the software and IT service industries in China.

According to their 2012 annual report, the Ministry of Industry and Information Technology estimated that China’s software and information services in 2011 had an output of $60 billion, “up nearly 40 percent year-on-year.”1 IBISWorld estimates that the entire software and IT industry in China “generated revenue of $284.02 billion in 2011, up 35.1 percent from 2010.”2

For perspective, India’s business process outsourcing and IT industries generated $100 billion in revenue in 2011.3

In terms of BPO growth – which is commonly called offshoring in the West – NASSCOM estimates that Indian firms generated $11 billion in BPO revenue in 2008 and $32 billion in 2012.4 In comparison, by one estimate the Chinese BPO sector “generated revenues of US$3.52 billion in 2009.”5 Another estimate, by XMG Global, shows that Chinese outsourcing firms generated $43.1 billion in revenue in 2012 (compared with $63.2 billion in India).6

Since its humble beginnings as an importer of DEC computers in the late 1970s (e.g. the PDP-7 minicomputer) China’s software development and IT services industry have grown dramatically and by one optimistic estimate, could generate $635 billion by 2015.7

Yet for perspective, the US software industry generated $261 billion in 2007 and the ten largest US software companies alone generated over $235 billion in 2010.8 Furthermore 63 of the world’s largest software companies are headquartered in the US compared with 2 in China.9

Big numbers, big opportunities

What this means is that for US-based firms, there are numerous opportunities to provide both software and related-services to the Chinese market.  And while market access and intellectual property (IP) infringement issues continue to dominate bilateral forums, there is still potential for foreign firms – especially those that focus on services – to gain substantial market share.

For example, in November 2012 I spoke with Larry Chang, the CEO of Pro-Lambda Solutions which specializes in Computer Aided Engineering (CAE) solutions and provides CAE software packages.10 Chang is originally from Taipei and had spent 25 years working in the CAE industry including in the US.  After conducting due diligence, he created a startup in Shanghai five years ago based on some surprising market research: there is no domestic CAE software company that actually develops and sells its products abroad (yet).  Or in Chang’s words, “zero engineering software products that are made in China are sold outside of China.  As a consequence everything is by-and-large still imported from other countries.  Obviously, something is missing here; if and when we can provide this missing part to the society, the economic payback will follow.  That is the opportunity we see and value.”

This is not to say that Chinese individuals and software companies do not make innovative or exportable software.  For example, Kingsoft (金山软件) is a Chinese developer that develops antivirus software and a office productivity suite called WPS.  It has 50 million monthly active users globally.11 Internet giant Baidu recently invested in the firm as well.12 Similarly, local software engineers like Ni Chao, a developer in Beijing, can and do create innovative solutions to large-scale problems such as purchasing train tickets during peak hours.13 Innovation takes place outside of the computer world as Reuters recently aired a story about various inventions used by migrant workers on their long journey home during Spring Festival, such as a local designed “seat sleeper” that enables passengers without beds to sleep on a mobile tray that can be leaned on.14 And in another fulfillment of Plato’s dictum “necessity is the mother of invention,” The Telegraph discovered a Chinese man of modest means who hand-built a working dialysis machine that has kept him alive for the past 13 years.15

Yet Arthur Kroeber, founder of the research firm Dragonomics sees scalability issues even with this promising amount of creativity.  In March 2013 he told a literary panel in Beijing that, “What’s sad is the amount of creativity you see in China is phenomenal but it’s not always directed in ways that are ultimately productive.”16 He likened it to figuring out how to create homemade solutions to a car whose parts are no longer on the market, yet running into problems trying to create “innovative solutions which are scalable throughout the entire world.”

As a consequence, Chang’s long-term vision is to become the first mover, to build and design engineering software in China which is then exported abroad.  There is a small twist to his strategy.  One of the problems he (and others like David Veksler cited later) have noted is that if you build and try to sell a product in China, most Chinese consumers will consider the quality is of lesser value.  That a product is perceived to be “better” if it originated from a foreign country is a stigma that Chang is hoping to reverse.  Thus in August 2012, Pro Lambda began selling its software solutions to the international market with the intention of giving his team experience, credibility and real-world feedback, before they attempt to sell directly on the mainland.

While traditional software solutions may be a risky business, services also have its share of challenges.  According to Chang, “one of the problems with the service industry as a whole and the software industry in particular is that this value added service is relatively unknown – and quite a suspicious concept to most Chinese consumers and businesses.  For example, upon buying your software they often think ‘why do we have to pay for your services since we just bought your software?  You owe me, not the reverse.’  Thus, this is a long-term challenge but I think enterprises and developers have begun making inroads as a younger generation of consumers has begun to understand the importance and value of this business model.”

There are also a few reasons why this lack of engineering software exports exists.  Yet according to Chang, this absence presents an opportunity for those willing to do the training needed.  For example, he notes that “software architects continue to live and work outside of China as do nearly all software product managers and development facilitating teams.  As a consequence, what has moved to China in the past decade is the ‘digital assembly line’ – coders and programmers are pretty much all that currently exists.  These coders and programmers are overseen by a project manager who coordinates with the foreign-based research and development office.  Yet, there is no facilitating team and no product team for engineering software on the mainland.”  Chang’s comment about a dearth of software architects was recently echoed by Ji Yongqing.  Ji is a technology author on the mainland who noted that while there are many programmers in China, relatively small amounts of resources are put into long-term projects to generate high-end skills, ideas and fundamental software research.  In his words, “Even now in the internet industry, everyone talks about product managers and no one talks about software architects, but in truth the two are equally important.”17

Furthermore, there are at least two systemic issues for this phenomenon as David Veksler (see below) and Chang both note: the first is that most Chinese students typically did not participate in team-based activities throughout school.  Thus when they are required to work as a team on larger scale projects, they often have difficulties adjusting to cooperation-based tasks – because they have been culturally raised to always compete and silo off information that can be traded and exchanged like currency.  Or in other words, whereas many Western education systems encourage teamwork and cooperation, older generations in China were taught a different style which relies more on trust networks (e.g., only share information with those you know, with whom you have guanxi) instead of “being a team player.”

Another key issue which is being addressed and discussed at every level and corner of Chinese society is fostering innovative thinking and creativity – taking the initiative to “think different” (see Chapter 20 too).  Yet there is a Chinese phrase that describes and explains why this same phenomenon is being repressed (and one that many Westerners are familiar with): 树大招风、枪打出头鸟or in English, “the stake that sticks up gets hammered down.”18 There are numerous requirements to build a “creative class” – yet there are also numerous cultural and institutional hammers that prevent this from germinating and blossoming on the mainland.  And while rote memorization and a lack of institutionalized ‘free thinking’ (e.g., ‘free expression’) are typically cited as the two main reasons, there are a number of additional factors that explain the constraints on domestic creativity, those would fill volumes if fully discussed.

Yet to be even handed, this is not to say that Chinese people are not creative or innovative.  For example, there is an entire industry of shanzhai (山寨) products such as customized smartphones which are cobbled together in a MacGyver-like fashion (though some segments are being shut down).1920 Similarly, web services such as Sina Weibo actually made it very easy to find and maintain trackbacks which illustrates indigenous ingenuity.  On that point, Gary Wang, founder of Tudou (a video streaming site that merged with Youku last year) recently told The Wall Street Journal that Chinese incubators, app-makers and innovators actually have cutting-edge, top-quality ideas comparable to those in Silicon Valley.21 However in his view they fall short due to a lack of experience and skills because of “the educational system and shorter start-up culture.”  Thus there is long-term potential as Larry Chang noted, for utilizing and training local talent for research and development.

Proprietary leakage

Later on in this chapter I discuss trade secrets and IT security issues, but one real-world case study that entrepreneurs should be aware of is what Chang himself faced several years ago.  His sales team abruptly left and took corporate proprietary information with them and as a consequence his sales bottom line was “burned.”

Instead of offering higher pay and enforcing stricter rules, he simply showed the predicament of the start-up company to his employees.  What he does is explain to each employee that while they could become temporarily richer by leaving and selling proprietary information, if they stayed and continued to build the company the results and rewards would be substantially larger in the long-run.22 Thus he considers his employees as partners, not employees – continuously trusting them with vital information while painting a picture of the future in which they are compensated significantly more than they might have otherwise in the immediate short-run.  As a consequence, Chang figuratively keeps the door open for all staff and is certain that any proprietary information that does leave would find little market value due to his focus on branding (i.e., why buy a pirated copy of software for the same price as the legitimate software?).

And while it remains a challenging market, as he also noted that “while a younger generation of engineers are willing to buy some types of software and government institutions are required by law to stymie digital piracy, many of the top enterprises, institutions and organizations on the mainland still typically use pirated copies and do not feel bad about it.  This presents an opportunity though and I do not begrudge them,” Chang said, “for example, in order to export a product domestic firms will have to eventually benchmark it with a legitimate copy of the software in order for foreign customers to trust its quality.  As it stands now, piracy is a form of free marketing and advertising.  As subsequent generations of users adopt and use the software they will begin to trust the product and eventually buy both the product and support services.  Take Hollywood films for example.  If copyright enforcement and penalties had been very strict, it is highly likely that no one would have watched the films to begin with.”  This last point is germane to the rapid growth of video stream sites like Youku, who arguably would not have gained preeminence if they had not stored and streamed copies of Hollywood films (Youku has now signed agreements with every Hollywood studio, see Chapter 14 for more).23

As a consequence, after hiring his first software architect five years ago, Chang’s firm now has about 30 employees, with growth rate targets of 30% annually, the profit of which is recycled and reinvested back into the company.

Services

In December 2012 I spoke with Richard Qi, the director of SR Force Consultants, a Brisbane-based software consulting firm that focuses on providing SugarCRM solutions to the Chinese marketplace – specifically to joint-ventures and foreign-owned firms.24 CRM stands for customer relationship management; it is a type of organizational and productivity software that creates a streamlined method for tracking, converting and managing leads and is used at nearly every large enterprise in Western countries.  Qi is originally from Dongbei (中国东北) and worked in Australia for 10 years before returning to the mainland two years ago.  According to him, “while there is a lot of growth potential, one of the challenges to providing technical services and solutions is that many local firms simply have not done the necessary due diligence to implement and fully utilize a lot of the software and services they purchase.  For example, SAP implementations have a roughly 70% failure rate on the mainland (e.g., initial production goals were unmet) because local customers and decision makers typically do not know what to do after the software is installed and integrated.”

Thus one of the reasons why Qi caters to joint-ventures and foreign firms is that, “they usually have detailed operational meetings and specific milestones providing both their internal IT team and external contractor with the necessary requirements gathering to build and use the functionality of the system.  They know what they are getting into.  In contrast most domestic customers are not fully cognizant of the limitations and features of their IT department let alone something more complex like a CRM system.  They may know how to run and synch a Windows server with Outlook yet they typically do not have the necessary enterprise management skill base to utilize some of the more complex packages and projects that are initially funded and installed.”

Thus in his mind, one opportunity that service firms such as his provides is “filling in the blanks with locally sourced expertise.  We hire all of our consultants locally based on both bilingual abilities and technical proficiency.  Yet services such as ours do not have to be strictly focused on CRM; business consultancy in general is about delivering value to customers and not necessarily every functionality imaginable.”  Yet one of the challenges is that “many local businesses are family managed so they typically do not have the training necessary to make long-term strategic growth plans – they are focused on immediate short-term profits that result in millions of different business paths that are often counterproductive.  In the past when we have provided solutions to these local firms, the initial service requests typically involve functionality issues (“do you have a PDF convertor”?) rather than strategic long-term issues (“how to distinguish a lead from a contact?”).  As a consequence, a challenge that other service firms will face is that if they focus solely on domestic companies, your firm may become part of an endless feature-focused loop that prevents your firm from growing and keeping pace with your international peers.”

Another issue that Qi explained and is not necessarily endemic to China is budgeting constraints.  Often time because enterprise software implementation is new to most domestic firms, the allocated budget is usually not adequate.  For example, in projects like implementing a CRM typically for every $1 spent on software, $2 needs to be spent on services just in case new modules need to be added or modified or technical support issues crop up.  Yet due to aggressive timelines, many firms face budget overruns that can prevent the systems from working efficiently or providing value to the end-user.

Cloud services

Another challenge for software makers in general is that, irrespective of trade secret issues, a large portion of traditionally developed software (e.g., shrink wrapped packages) has already been emulated, copied and installed at Chinese enterprises.  For example, one estimate of the bootleg rate in China is 77% (down from 92% in 2003).252627

So where does that leave your firm?

Perhaps your company can build out cloud computing on the mainland.  For instance, according to IDC, $286 million was spent on cloud-computing specific infrastructure in China in 2011 and this is expected to increase to $1 billion by 2016.28 There are currently 430,000 data centers and more than 5 million servers on the mainland.29 Furthermore according to IDC, over the next five years the cloud computing data center market as a whole on the mainland “is valued at 2 trillion RMB ($320 billion).”30

In terms of specific build outs, Jingdong Century, owners of 360buy.com (a leading e-commerce site on the mainland), recently invested 4 billion RMB ($750 million) building two new datacenters and in January 2013 opened a new cloud R&D facility in Beijing.3132 In September 2012 Baidu announced that it is investing $1.6 billion in building a cloud computing center.33 In March 2013 EMC, an information management company, said that it expects to land 1,000 projects over the next five years by focusing on niche segments like healthcare and education in over 300 cities on the mainland.34 Also in March, the Weather Company International, producers of the Weather Channel, announced that it would further expand its cloud and data services on the mainland where it already has more than 35 clients.35 And in addition to the Kyocera’s newly launched cloud-based network security services other firms like the Alibaba Group (Taobao, Tmall, Alibaba) are already among the leading local cloud service providers as its sites host tens of thousands of storefronts for SMEs.3637

During my interview with Eric Azumi, vice president of information services at EF (see Chapter 9) he noted cloud computing as one area on the mainland ripe for opportunities primarily because local players are still largely fragmented, inexperienced and unfamiliar with international ‘best practices.’  For example, due to various legal issues (see below) it is difficult for foreign companies to set up and directly own a data center on the mainland.  Thus Salesforce.com built a new center in Japan and Europe because according to Azumi, “there is no big money for the cloud China for the largest international participants at this time but there probably will be in the future.”  Yet concurrently he sees abundant openings for experienced foreign firms to still come in and train and provide other ancillary services to this segment.

One word of caution however, “[f]oreign companies that wish to operate cloud service in China must have governmental license.”38 As a consequence, Microsoft actually leases room in a China Telecom’s data center and outsources data management to a local firm, 21Vianet.  And Amazon recently suspended their cloud rollout due to these regulatory requirements.  Thus foreign firms specializing in cloud services should investigate the necessary legal requirements before entering this segment as well.

While moving to the cloud is increasingly popular, another area where US expertise and experience still thrives and cannot be easily copied is support services.  For example, Gartner forecasts software-as-a-service (SaaS) reached $14.5 billion globally in 2012, with US-firms taking the lions share at $9.1 billion.39 And Parks Associates estimates that the US tech support industry will “grow from $9.6 billion in 2011 to more than $20 billion by year-end 2015.”40 Can you or your company provide such services?

There is an app for that

Another potential area for US and foreign software companies is modifying their iOS and Android apps for the Chinese market.  As I mentioned in Chapter 6, China is now the world’s largest smartphone market, overtaking the US this past summer.  In addition, there are certain demographic groups, such as the elderly (aged 55+) that have been thus far overlooked for targeted apps, specifically games.41

What is the breakdown for app ecosystems?

While iOS remains relatively popular within China at more than 17% market share as of Q2 2012, more than 80% of all smartphones sold within China were Android-based.42 And in Q3 2012 Android marketshare on the mainland reached 90.1%.43 This mirrors global adoption rates, as of November 2012 Android-based devices now account for 72.4% of the global market (iOS is 13.9%).44 Unsurprisingly this has brought the total Android ecosystem to more than 50% total market share in China.45 This has also led Eric Schmidt, chairman of Google, to actively woo Chinese developers to the Android ecosystem.46 Yet despite this huge potential market, nearly all of these Android phones have been stripped of Google ad-supported services as well as Google Play – replaced by custom 3rd party applications and app stores.4748 In fact, 80% of Android phones in China use a preinstalled version of the Baidu-powered search tool instead.49 Or in other words, modern smartphones with Chinese characteristics.

What this means is that for US app developers, there are some opportunities to port and translate their apps and games to the Chinese market.  For example, as I also mentioned in Chapter 6, in terms of smartphones and tablets, less than 10% of the Chinese user base are older adults (55+).  This same demographic group comprises 7.1% of gaming and entertainment app users compared with substantially larger percentages in the US.50

How much larger in the US?  For instance, while a Pew Internet study found that only 13% of those ages 65+ in the US had a smartphone, Nielsen reported in May 2012 that in the US, “more than 50% of those who play FreeCell, Solitaire, and Hearts are over the age of 55.”5152 And a June 2012 study from Forrester research found that 44% of US seniors play solo games online.5354

In contrast, according to their 2010 report from IDC, only 7.1% of those aged 50+ in China played games.  More specifically, in terms of online chess gamers and mobile gamers, those older than 50 comprised 5.7% and 2.4% of all players respectively.55 Or in short, your grandparents and their peers frequently play computer games yet few software firms design games specifically for them, let alone for their Chinese counterparts.

While there may be cultural reasons for such a dramatic difference (7.1% in China versus 50% in the US), in my own anecdotal experience of walking through the parks and streets throughout the cities I have lived in, elderly Chinese seem just as apt to play memory games, dominoes (mahjong) and poker-style games as their Western counterparts.  And according to China Daily, “the turnover of China’s mobile gaming market is soon going to hit 5.2 billion yuan ($835 million) as the number of players reach 270 million.”5657 Thus in the long run even if the adoption and penetration rate remains relatively low for the elderly demographic group, 7.1% of 202 million (the number of elderly currently in China, see Chapter 18) is a potential niche market for future growth.

And as I mention in Chapter 6, in general, developers looking to port their apps and games over to Chinese markets should consider modifying the games to include Chinese traditions, symbols and cultural tie-ins – or in other words ‘Western video games with Chinese characteristics.’  For example: the color red, number 8, and the Chinese knot (Zhōngguó jié) are all considered lucky.  Perhaps creatively integrating these symbols into your game would prove popular, just as Kung Fu Panda was (see Chapter 14).  And since Macau now generates more than six times as much as gambling revenue as Las Vegas (Macau overtook it in 2007) maybe there is a legal way to capture this market.58 Or rather, because gambling is popular across all demographic groups perhaps designing a social gambling game or non-monetary betting app would find success across the mainland.59

Based on the wide variety of demographic groups playing games on the subway in Shanghai and Guangzhou and standing in line at restaurants, casual games such as those from PopCap (e.g., Peggle, Bejeweled, Plants vs Zombies), Imangi Studios (Temple Run), ZeptoLab (Cut the Rope), Halfbrick Studios (Fruit Ninja) and Rovio (the Angry Birds series) are also popular.  In fact, “Cut the Rope” has more daily users in China than any other country and according to the Financial Times, “around a quarter of all Angry Birds downloads are conducted in China.”60 It is so popular in fact that Rovio recently turned Shanghai’s skyscrapers green to market their new product and simultaneously launch a native version for the Chinese market.61

Another advantage US-firms currently have in porting their apps to the Chinese marketplace: English is the 2nd largest language in the Chinese iOS app store.62 And this presents an opportunity for Western developers: in their September 2012 report, Distimo found that after introducing a native language app, their “download volumes on the iPhone [increased] by more than 128 percent during the next week that followed.”  And sales revenue increased by 26 percent in the same week.  Either way you look at it, even if your company does not create a Chinese-version of its apps, the potential competitive marketshare even in English remains in reach of your company.

Understanding the market

You might be asking yourself, how does the app store function in China?  Are they run by Apple and Google and are they censored?

Apple opened its first official app store in China on October 27, 2010.63 By June 2011, China became the second largest source of app downloads for Apple.6465 And China sales for Apple products and services now accounts for 15% of Apple’s total revenue, $23.8 billion in fiscal 2012.66 In fact, Apple is actively courting Chinese developers by translating their tools and guides into Chinese.67 In addition to the large Android userbase, there are more than 70 Android app stores in China, which is estimated to eventually consolidate down to 10 within the coming years.6869

In terms of censorship, as reported by the New York Times, Apple has been selectively censoring applications in its app store based on requests by the government.70 And because of Google’s on-again-off-again legal fights with Chinese regulators, it is oftentimes unclear of what is being censored in the Android marketplace.  For instance, in the fall of 2011 there was a week-long period in which both the Android marketplace and Gmail application worked intermittently.71 This occurred once again in the early parts of the summer and fall of 2012 yet service was restored in both cases.72

This also raises another visceral point.  Despite its off-and-on wrestling with Chinese regulatory authorities, with a mere 4.72% search marketshare, Google’s revenue in “China’s mobile-app ad market will probably more than double to about 1.8 billion yuan ($283 million) this year [2012], exceeding the 1.2 billion yuan from mobile-search queries.”7374 In fact, despite these ongoing disputes with Chinese regulators, Google is “still the 3rd largest advertising revenue generator in that country doing $640 million a year (annualized).”75  And despite being hard to access at times Google has roughly 15% of the search engine market on the mainland.76 If they can achieve this in the face of never ending challenges, then your firm has potential as well.77

An app that helps find customers

Over the past 18-months Windisch-based coresystems has been working on a cloud-based digital assistant called Mila (an app) that was a finalist in the GMIC G-Startup competition held in October 2012.78) Mila allows entrepreneurs and SMEs to create an online assistant and unified online store front which is hosted on the cloud for free.  The assistant (Mila) can then search social media sites like Twitter to look for potential customers based on what your company provides as services.  And once a match is found, it then guides you through a streamlined sales process including invoicing using a smartphone.

In October 2012 I spoke with Andrea Chang, the marketing manager for Mila’s branch in China.  According to Chang, in their effort to localize the brand on the mainland, Mila has partnered with China Unicom (the second largest telecom company in China).79 Together they have modified Mila to integrate with Sina Weibo (which I noted in Chapter 12 is the world’s 2nd largest microblog site) and Alipay (the largest online payment provider on the mainland).  According to Chang, “the process of opening an online shop is one of the easiest and cheapest ways to generate leads and do business in China.  Using an integrated chat feature that allows customers and business to speak directly to one another, Mila not only communicates directly with your customer but also conduct all transactions, including invoicing.”

Chang also noted that because of the wide proliferation of smartphones and social media in China that one of the advantages of using Mila is that its cloud based transaction model substantially lowers the sales cycle costs (e.g., locating potential customers) while simultaneously providing customer service (e.g., by storing customer contacts).  This in turn allows entrepreneurs and SMEs to compete more on service instead of spending resources on search-engine optimization (SEO) or virtual store fronts.

So how does this help foreign companies wanting to do business in China?

Again, as mentioned in Chapter 12, before your company even establishes a physical presence on the mainland, you can use Mila and other services like Wildfire to search and discover the potential customer base for your company’s products and services.  And as I mentioned in Chapter 12 as well, because Facebook and Twitter are currently blocked on the mainland, you will need a way to localize your customer search to Chinese web services.  Solutions like Mila and Wildfire makes the process easier for your team, even if you are unfamiliar with Chinese customs and culture.

Securing your network

Cybersecurity is a sub industry that is often overlooked and dismissed by many businesses in China.  It has not helped that some media outlets resort to hyperbole to describe the real – and sometimes imagined – dangers for all firms with insecure IT networks.  For example, in July 2012, General Keith Alexander director of the NSA announced that up to $1 trillion in cybercrime damage was done globally each year.  This figure was later debunked.80 Yet determined hackers – both domestic and foreign – can and will compromise trade secrets and other proprietary assets typically without being caught.  Because a lot of theft and digital espionage goes left unnoticed it is very difficult to guess how much damage cybercrimes create.81 However in September 2012, Symantec released arguably one of the most extensive studies related to cybercrime and estimated the damage to be $110 billion a year globally.8283

How does cybercrime affect China, Chinese business and foreigners doing business in China?

In March 2012, Businessweek published a widely circulated report about corporate espionage of a US wind turbine supplier (AMSC) conducted by its Chinese client, Sinovel.84 In short, while AMSC attempted to isolate its trade secrets and proprietary software code outside of China (using an ‘air gapped’ facility), Sinovel still managed to use social engineering (e.g., bribery) to lure one of AMSC’s key Austrian-based programmers to China.  An ‘air gapped’ facility in their case meant the proprietary code – “secret sauce” – was only accessible at a workstation that was not connected to the internet.85 Using the ‘defense in depth’ IT security strategy (e.g., multiple firewalls and secure zones nested within one another) AMSC purposefully built this facility with the sole intention of building a physically isolated silo that could not be easily compromised.  While the case is still being fought in court, this is not an isolated instance.86 According to Akamai, a leading content-delivery network provider, in Q3 2012 one third of all cyberattacks originated from China (the US was second with 13%).87 All told, since 2007 the FBI and the Justice Department have opened more than two dozen cases involving trade secret, economic espionage and embargo circumvention restrictions involving Chinese contractors and individuals.88

One solution – a drastic solution – was detailed by the Washington Post in 2011.89 They interviewed several American executives who frequently traveled between the US and China each year for a variety of meetings.  A few of the executives had a straight forward security solution: buy a new iPad before flying to China, download all of the needed information from the cloud and then never use it again (e.g., throw it away).  Another simple low-tech, yet increasingly popular solution is to simply no longer provide external media outlets like a USB in a terminal with access to sensitive information.  In fact, in some IT security circles, one nickname for the USB is now “Ubiquitous Security Backdoor” due to this chronic problem – the ease in which sensitive information can be removed with a flash drive or in which malware can be conveniently installed, such as Stuxnet and Flame.909192

But what if the hackers simply move and setup shop overseas in your hometown?  In May 2010, NetworkWorld ran a story about an ongoing espionage attempt by unknown Chinese operators and a large US firm in the Midwest.93 Similarly, according to a recent Bloomberg story, right before its attempted $2.4 billion acquisition of Huiyuan Juice Group fell through, Coca-Cola was hacked in 2009 by a Chinese hacker group dubbed Comment Crew.949596 While it is unclear whether either of the espionage activities was successful, the threat of domestic and foreign hacking should motivate your company into proactive risk assessment – even if it does not plan to operate overseas.

Yet it is not just US firms that are on the losing end of cybercrime.  According to the same McAfee study above, malware and phishing attacks cost Chinese consumers $46 billion in 2011, twice as much as the US.97 The Ministry of Information Technology and Industry published a report that said “in 2012 alone that foreign hackers used viruses and other malicious software to seize control of 1,400 computers in China and 38,000 websites.”98 In fact, according to the Anti-Phishing Alliance of China (APAC) between January and November 2012 there were 24,535 phishing websites and scams targeted specifically at China’s online populace.99 In addition, in just a matter of weeks into 2013, a new virus called “Bill Shocker” has already impacted 620,000 users in China targeting the popular QQ messenger (see Chapter 12).100 In another instance, there was a 47% month-to-month phishing surge during Single’s Day (11-11) in November 2012.  This is the biggest online shopping day of the year as mentioned in the previous chapter.  Furthermore, Rising Information Technology, a web security company located in Beijing, estimated in a January 2013 report that nearly 200,000 Chinese websites were hacked in 2011 and at least 60% “of the attacks targeting China’s large companies, government, and scientific research institutions come from overseas.”101 According to Rising’s report, because Internet security typically is overlooked “[a] growing number of Chinese companies are turning to overseas Web security companies for protection, a move which still leaves them vulnerable to attacks.”

However with these challenges come opportunities for foreign security experts such as David Veksler, CEO of CryptAByte based in Shanghai.102 In October 2012 I had a chance to talk with him regarding some of the key opportunities in China’s nascent security industry.  He noted that “Chinese companies and foreign firms doing business on the mainland are equally in need of information protection.  Since retooling and retraining in business is increasingly based on software, losing proprietary information and trade secrets to any competitor, irrespective of physical location, can lead to losing your competitive advantage in innovation.”  Later in Chapter 20 he explains several other challenges and opportunities, but according to him, there are numerous possibilities for security experts since SMEs on the mainland are typically unaware of IT vulnerabilities such as zero-day exploits.  Zero-day exploits (or day zero) are threats and attacks that take place on the first days of a discovered vulnerability, before a developer patches the hole(s).  Thus according to Veksler, security consultants can help train mainland-based IT departments on ‘best practices’ and preventive measures that Western firms have learned the hard way with.

How does this work in practice?  For example, the world economy is shifting from capital intensive retooling which typically involved heavy machinery, to rapid prototypers and 3D printers (see Chapter 7).  This means that capital tools are now software.  Thus if you want to steal a new factory in the 21st century, all you really need to do is pilfer software.  As a consequence, the theft of entire industries could conceivably take place, allowing perpetrators to simply take the data to the cheapest country (e.g., based on land and labor costs) and eat into the marketshare of the original innovator.

This cloak-and-dagger industrial espionage is in Veskler’s words, “actually becoming a prime motivator for innovation.  While competitors could learn trade secrets through hiring former employees or reverse engineering, because you are never quite sure if someone has hacked into your systems or used social engineering – like Kevin Mitnick did – to gain access to proprietary information, every incumbent must now continually innovate.  Otherwise their competition could use a stealth startup and out-maneuver you with your own confidential information.”  In economic theory, when a firm is successful it sends profit signals out to the marketplace (e.g., by satisfying consumer demand you become profitable and other participants take notice).  As a consequence, because the firm realizes it will eventually draw competition with these “signals of success” it has to always keep striving to improve and innovate.

Kevin Mitnick was a hacker in the 1980s who used social engineering (e.g., manipulating secretaries to give him secure access) to compromise corporate networks such as DEC and Motorola.103 Samuel Slater, known as the father of the Industrial Revolution in the US, was born in the UK.  He was an originally an apprentice at a cotton mill based on Richard Arkwright’s design near Cromford Mill in England.  When he immigrated to the US, he later used a design similar to Arkwright’s to kick-start the American Industrial Revolution.  This a common risk noted Kent Kedl of the consultancy Control Risks, who recently told The Economist that, “The easiest way to get intellectual property from a firm is by buying or renting an employee inside it.”104 Thus, a stealth startup today could conceivably appropriate proprietary information (e.g., CAD models, engineering designs) via social engineering, hiring or hacking, build a warehouse in a developing country where resources costs are relatively low, and fill the warehouse with 3D printers.  Then in turn, export the products to world markets.  Some of the practical issues involving VPNs for corporate environments, such as preventing industrial espionage, are discussed later in Chapter 20 as well.105

During my February 2013 interview with Shaun Rein, founder of China Market Research, he noted that “for any company in the world, internet security is an increasingly important issue.  And especially in China I think a lot of MNCs are continuously worried about protecting IP.  As a matter of fact, our firm recently received an RFP [Request for Proposal] from a very large internet company building a marketing expansion strategy on the mainland.  As part of the proposal we are supposed to disclose our firm’s security issues to make sure we are a reliable partner to work with.  In other words, to prevent any proprietary information from being leaked by a vendor they are modifying their risk management to hedge against the possibility of being hacked.  The flip side of this is that there are currently no large barriers to entry for doing internet security consulting because the government is very supportive of intellectual property transfers at this level.  At the same time, it may be more difficult selling antivirus software directly because then you would be competing with domestic forces and local firms like Kingsoft.  But services such as IT security are quite open.”

In January 2013, internet giant Baidu announced that it was investing in Kingsoft, makers of antivirus software (and an office productivity suite).106107 At the beginning of this year, several media outlets such as Businessweek have released additional reports covering Comment Crew (see above), also known as ATP1 (which may be the same as PLA Unit 61398) which has purportedly hacked into nearly 150 companies and organizations in more than a dozen countries over a period of 7 years bringing this IT security issue to the attention of more stakeholders such as MNCs.108

And with all of these local and international security issues laid bare, for another perspective one should also consider the comments from General Electric Vice Chairman, John Rice who recently explained that, “Despite hacking and other issues in China, foreign companies need to be there, due to the country’s potential as the world’s biggest marketplace.  The greater risk lies in staying away.”109 Without going into details, GE is purportedly “improving how it handles threats to its information.”  Thus eternal electronic vigilance may be the new normal but it is something that your competitors (both domestic and foreign) will probably have to overcome as well.

Takeaway: The software development, IT support and security services industry is both alive and growing at a fast pace in China.  US firms relying on traditional revenue models such as selling shrink wrap packaging will need to modify their business model for entry into China.  This may come in the form of cloud computing and software-as-a-service.  Yet either way their expertise and quality management – even at higher costs – are still marketable within China.  In addition, US firms specializing in developing apps have yet another revenue stream they can tap into if they are able to modify and translate their applications for Chinese consumption – the world’s 2nd largest app market.  Furthermore, IT security firms also have potential opportunities to secure and optimize the networks of Chinese enterprises and SMEs whom suffer billions in economic losses each year.


Endnotes:

  1. Software outsourcing on upward curve from China Daily []
  2. Chinese Software Industry to Grow 25% Through 2016: Report from eWeek []
  3. Indian IT-BPO Industry from NASSCOM []
  4. Ibid []
  5. 5 Reasons Why China Will Dominate Business Process Outsourcing from Right Site []
  6. China, not PH, eroding India’s BPO leadership, says consulting firm from InterAksyon []
  7. See The Emerging Market of China’s Computer Industry by Jeff Zhang and Yan Wang and Chinese software, IT revenue to touch $635bn from Times of India []
  8. Software Industry Facts and Figures from Business Software Alliance []
  9. Global Software Top 100 Edition 2011: The Highlights from Software Top 100 []
  10. See Pro-Emfatic and Pro-Lambda Software []
  11. Kingsoft Boasts Over 50 Million Monthly Active WPS Users from China Tech News []
  12. Baidu Invests in Kingsoft, Moves Into Web Security, Qihoo’s CEO Calls it a “Big Joke” from Tech in Asia []
  13. See Train ticketing software highlights China’s innovation paradox from Xinhua and China Train Ticket Site Cost Nearly $100 Million, Seems to Be Harassing Programmers, And Might Be Broken Again from Tech in Asia []
  14. Rubber chickens, ostrich heads ease China’s rough ride home from Reuters []
  15. Chinese man kept alive by self-built dialysis machine from The Telegraph []
  16. Economist: China Plenty Creative, Just Not in Right Ways from The Wall Street Journal []
  17. Why China Can’t Make Its Own Mobile OS from Tech In Asia []
  18. It is a cultural characteristic of many regions in East Asia.  For example, the Japanese equivalent is 出る杭は打たれる. []
  19. See also hackerspaces in Chapter 7.  See Bandit phone king has the last laugh from Financial Times, Imitation Is the Sincerest Form of Rebellion in China from The Wall Street Journal and In China, Knockoff Cellphones Are a Hit from The New York Times []
  20. Number’s up for fake cell phones from Shanghai Daily []
  21. Chinese Companies Getting Good at Attracting Talent from The Wall Street Journal []
  22. The economic term for short versus long-term time horizons is “time preference.” See Chapter 18 in Human Action by Ludwig von Mises. []
  23. Similarly, Hearst president David Carey recently noted that Apple and Steve Jobs “taught people how to buy digital content.”  See Hearst president David Carey: Apple taught people ‘how to buy digital content’ from Engadget []
  24. SRForce []
  25. Microsoft’s newest weapon in China piracy fight from Reuters and Report: China’s software piracy rate falls to new low — of 77% from ZDNet []
  26. To combat piracy of Windows 8 in China, Microsoft will not sell a shrink wrapped package – users can only get it pre-installed by OEMs or by downloading it.  With the release of Office 2013 on the mainland, consumers can still purchase traditional packages via Microsoft’s online store.  See Microsoft Cancels Packaged Windows 8 For Chinese Market from China Tech News and Microsoft Commences Office 2013 Software Sales In China from China Tech News []
  27. One other partnership area could be to pursue a joint-venture such as the kind that Microsoft and Suning (a large mainland retailer) have recently announced.  See Suning, Microsoft Ink Multipart Retail Deal For China from China Tech News []
  28. Cloud computing investment ‘to hit $1b’ from China Daily []
  29. Ministry to set up cloud computing data centers from China Daily []
  30. Ibid []
  31. Tech Bytes: 4 Billion Yuan from China Daily []
  32. China’s 360buy.com Launches Cloud Computing R&D Center In Beijing from China Tech News []
  33. Baidu Shares Plunge on Worries over Mobile Monetization from Caijing []
  34. EMC China’s Growth Focuses On Big Data, Cloud Computing from China Tech News []
  35. Cloudy Days Ahead As Big Data Comes To Chinese Meteorological Administration from China Tech News []
  36. Cloud-based Network Security Suite Launched By Kyocera In China from China Tech News []
  37. Alibaba’s Cloud Computing Platform Combines Storage Services from China Tech News []
  38. Amazon’s cloud service aborted in China, launch of Kindle delayed from Morning Whistle []
  39. Gartner Says Worldwide Software-as-a-Service Revenue to Reach $14.5 Billion in 2012 from Gartner []
  40. Tech Support Industry Webcast Will Examine Opportunities in $9 Billion Market from Parks Associates []
  41. It is highly recommended that game developers and digital entrepreneurs read Digital Game Design for Elderly Users from Association for Computing Machinery.  The study noted a similar finding, including one that I also point out: “the growing 65+ demographic is currently not well served by the majority of commercial games on the market, creating a significant potential niche market for game developers.” []
  42. China’s smartphone market grows 164%, Apple’s iOS takes 17.3% from Apple Insider []
  43. Report: Android Rises to 90% of Smartphone Market in China from Tech In Asia []
  44. Gartner has published two others estimates which put Android marketshare globally at 68.4% in 2012 compared with 19.4% for iOS and later with Android at 69.7% and iOS at 20.9%.  See Strategy Analytics: Android claimed 70 percent of world smartphone share in Q4 2012 from Engadget, Gartner Says Worldwide Sales of Mobile Phones Declined 3 Percent in Third Quarter of 2012; Smartphone Sales Increased 47 Percent from Gartner and Gartner Says Worldwide Mobile Phone Sales Declined 1.7 Percent in 2012 from Gartner []
  45. See Android is winning – if you’re writing apps for China. Elsewhere, though… from The Guardian and Alternative app stores and platform branches: Is Android too open? from Android Authority []
  46. After North Korea trip, Google’s Eric Schmidt swings by China to woo Android developers from The Next Web []
  47. Google is beginning to try and take action to purportedly prevent further fractures and forking of the Android ecosystem.  See The Acer/Google/Alibaba tussle: It’s not about open Android from ZDNet and Acer Apparently Reconciles With Google from Forbes []
  48. While there has been a lot of discussion over the past year over whether or not it is profitable for developers to make Android apps for the Chinese marketplace, there is at least one success story that could be used as a case study: CocoaChina which makes a popular game called Fishing Joy.  See How CocoaChina proved it’s possible to make money on Android in China (to the tune of $2m a month) from The Next Web []
  49. See 80% of Android phones in China will have its default search set to Baidu from The Next Web and Android Takes Off in China, But Google Has Little to Show for It from Forbes []
  50. See Table 3, p. 9 China Gaming Market End-User Survey, 2010 from IDC []
  51. Nearly half of American adults are smartphone owners from PewInternet []
  52. Vintage PC Video Games Still Thrive in World of App from Nielsen []
  53. The Data Digest: Digital Seniors from Forrester []
  54. While unrelated to gaming see also, For the first time, half of adults ages 65 and older are online from PewInternet []
  55. Gamers in a sample size of 29,392.  Online chess gamers in a sample size of 3,050.  Mobile gamers in a sample size of 1,519.  See China Gaming Market End-User Survey, 2010 from IDC []
  56. Internet gaming: ‘A winning gamble’ from China Daily []
  57. Mobile payments are also expected to rise markedly over the next 3-5 years, hitting $112 billion by 2015.  According to Alipay (the largest domestic online payment service), in 2012 the number of people who used mobile payment increased by 223% and “over 4.3 million people spent more money via mobile phones than PCs.”  See China’s Mobile Payments Will Reach Over CNY700 Billion By 2015 from China Tech News and China’s Alipay Reported 546% Wireless Payment Growth In 2012; Tibetan City Tops Ranking from China Tech News []
  58. Revenue hit $38 billion in 2012 and is expected to reach $44 billion in 2013.  See Rolexes Pawned in Macau Signal Further Gains for Casinos from Bloomberg, Macau gaming revenues hit $33.5 billion in 2011, no slowing seen from Las Vegas Review-Journal, Broken Tooth and New Macau from Foreign Policy and Door is about to slam shut on high-rolling holidays to Macau from The Times []
  59. Despite initial reports that suggested a new pilot program was starting at a casino in Sanya, Hainan province (called Jesters), gambling on the mainland is currently banned.  Macau is the only nearby domicile where this is allowed.  Mainland residents must still apply for an entry visa in order to travel to Macau and are typically only allowed to visit it a few times a year.  There are exceptions, for example, if you live nearby in certain cities of Guangdong or if you have relatives living in the SAR.  See Sanya Says It Never Licensed Any Form of Gambling Activities from Caijing, Chinese authorities close cashless casino bar in island resort from Reuters, Macau Casinos Decline on Visa, Credit Limit Concerns from Bloomberg, Macau’s Casino Revenue Reaches Record After Holiday Week from Bloomberg and China Tightens Reins on Macau from Bloomberg []
  60. See For App Makers, China Is Untapped and Untamed from The Wall Street Journal and China: lots of three kingdoms, not enough Angry Birds from Financial Times []
  61. Rovio announces Angry Birds book app: Live from Frankfurt Book Fair from paidContent and Bad Piggies and Angry Birds Hit the Road in China, Turn Shanghai Skyline Green from Tech In Asia []
  62. According to Distimo, “Applications with Chinese as a language in the top 200 were responsible for the largest share of the free downloads in China at 73 percent. English was responsible for only 69 percent of the free downloads among the top 200 in China.” See App Distribution Becomes A Global Game: The Shift Of Power & Impact For Developers from Distimo []
  63. Apple Opens Chinese App Store from The Wall Street Journal []
  64. China Now Apple App Store’s Second Biggest Market from PcMag []
  65. Apple’s App Store made big gains in China in 2011 from GigaOm []
  66. In a January 2013 interview, Apple CEO Tim Cook predicted that China will become the biggest market overall for Apple.  See iPhone 5 launch results in new weekend record for Chinese market from ArsTechinca, Tim Cook: China Accounts for 15% of Apple’s Sales, Will Get iPhone 5 in December from Tech In Asia and iPhone 5 hits China as Apple market share slips from Reuters, Interview: Apple CEO expects China to become biggest market from Xinhua and Apple’s China dilemma: market share or cachet? from Reuters []
  67. Apple is also opening up an R&D center in Shanghai.  See Apple courting Chinese developers to strengthen iOS in China from ArsTechnica and Apple Shanghai R&D center confirmed for summer 2013 from Apple Insider []
  68. See China Has 70 Android App Stores, But That Could Soon Whittle Down To 10 from paidContent and For App Makers, China Is Untapped and Untamed from The Wall Street Journal []
  69. One problem with this fragmentation is that applying security patches is a much longer process and sometimes never occurs, leaving consumers open to fraud schemes such as ‘smishing’ (sending phony text messages).  See ‘Fragmentation’ leaves Android phones vulnerable to hackers, scammers from The Washington Post []
  70. Far-Ranging Support for Google’s China Move from The New York Times []
  71. China Cripples Android With Fitful Blocks of Gmail, Market Apps from paidContent []
  72. Similar blockages have occurred in November during the leadership transition.  Readers may be interested in the developments with GitHub as well.  See What is going on with GMail in China, and how to get around from GreatFire and China, GitHub and the man-in-the-middle from GreatFire []
  73. Google Finally Leads in China – in App Ad Sales from Bloomberg []
  74. Google decline in China continues as its search share falls to 4th place, maps to 6th from The Next Web []
  75. Google Still Does $640 Million In Annual Revenue In China from Forbes []
  76. China Search Engine Market Share in 2012 from China Internet Watch []
  77. According to one recent report, sometime at the beginning of December 2012 Google acquiesced and removed “a feature which had previously informed users from China of censored keywords” and “at the same time, they deleted the help article which explained how to use the feature.”  Yet according to another source “the opportunity to capitulate was lost forever when Google gave the middle finger and left.”  See Google Bows Down To Chinese Government On Censorship from GreatFire.org and Mr Kim, tear down that wall; Mr Xi, carry on from The Economist []
  78. Mila from coresystems can be downloaded from Google Play and Apple’s App Store (WoStore is China Unicom’s equivalent []
  79. China Unicom has its own marketing channel which Mila uses. []
  80. Does Cybercrime Really Cost $1 Trillion? from ProPublica []
  81. Pentagon Warns: ‘Pervasive’ Industrial Spying Targets U.S. Space Tech from Wired []
  82. In February 2013 Microsoft researchers published a report discussing reasons and variables for why certain geographic regions and areas are more or less prone to cybersecurity holes and abuse.  Unsurprisingly economic stages of development played a big role (e.g., wealthy countries have lower rates of malware infection compared with developing countries).  See Wealthy Countries Better At Protecting Citizens…From Malware from The Security Ledger []
  83. 2012 Norton Study: Consumer Cybercrime Estimated at $110 Billion Annually from Symantec []
  84. China Corporate Espionage Boom Knocks Wind Out of U.S. Companies from BusinessWeek []
  85. FAA: Boeing’s New 787 May Be Vulnerable to Hacker Attack from Wired []
  86. China Court to Weigh Corporate-Spy Case from The Wall Street Journal []
  87. China Source of Most CyberAttacks, Says Akamai from PC Magazine []
  88. Summary of Major U.S. Export Enforcement, Economic Espionage, Trade Secret and Embargo-Related Criminal Cases from Department of Justice []
  89. In China, business travelers take extreme precautions to avoid cyber-espionage from Washington Post []
  90. Ubiquitous Security Backdoor from SANS Institute []
  91. This security issue is not endemic to China.  For example, over the past two years, a school in Virginia and a hospital in Oregon accidentally lost USB drives which contained sensitive information.  See OHSU says stolen USB drive contained some patient data from KATU and Students’ personal data exposed after USB drive stolen from SOPHOS []
  92. See Flame and Stuxnet Cousin Targets Lebanese Bank Customers, Carries Mysterious Payload from Wired and Resource 207: Kaspersky Lab Research Proves that Stuxnet and Flame Developers are Connected from Kaspersky Lab []
  93. See Black duck eggs and other secrets of Chinese hackers from NetworkWorld and Michigan Couple Stole GM Secrets for Chinese, U.S. Says from Bloomberg []
  94. Coke Gets Hacked And Doesn’t Tell Anyone from Bloomberg []
  95. Comment Crew (also known as APT1) is also suspected of hacking into other firms (both foreign and domestic) including a high-profile case involving Solid Oak Software, a California-based firm that specializing in developing internet filtering software.  Two other large hacking organizations are the collective known as ‘Beijing Group’ and the PLA’s Unit 61398 whom are suspected of conducting economic espionage (APT1 and 61398 may be one in the same).  See China Mafia-Style Hack Attack Drives California Firm to Brink from Bloomberg, A Chinese Hacker’s Identity Unmasked from Businessweek, Mandiant, the Go-To Security Firm for Cyber-Espionage Attacks from Businessweek and Mandiat APT1 Report from Mandiat []
  96. The New York Times has repeatedly been hacked since October 2012 as have the servers of The Wall Street Journal and The Washinton Post as well.  The perpetrators of all three are purportedly located in China.  See Hackers in China Attacked The Times for Last 4 Months from The New York Times, Chinese Hackers Targeted Wall Street Journal Computers from The Wall Street Journal, The People’s Republic of Hacking from Foreign Policy, A Chinese Hacker’s Identity Unmasked from Businessweek and Chinese hackers suspected in attack on The Post’s computers from The Washington Post []
  97. Chinese lost US$46 billion to cybercrime last year from Shanghai Daily []
  98. U.S. Ready to Strike Back Against China Cyberattacks from Associated Press []
  99. Phishing scams target China’s growing online population from Xinhua []
  100. Malware controls 620,000 phones, sends costly messages from Help Net Security []
  101. Nation under increasing threat from hackers from China Daily []
  102. CryptAByte []
  103. See The Art of Deception: Controlling the Human Element of Security by Kevin Mitnick and Takedown: The Pursuit and Capture of Kevin Mitnick by Tsutomu Shimomura []
  104. Who needs cyber-spying? from The Economist []
  105. Domestic Chinese firms are also investing into this segment.  See Baidu Invests in Kingsoft, Moves Into Web Security, Qihoo’s CEO Calls it a “Big Joke” from Tech in Asia []
  106. Baidu Invests in Kingsoft, Moves Into Web Security, Qihoo’s CEO Calls it a “Big Joke” from Tech In Asia []
  107. In 2002, foreign firms such as Symantec, Trend Micro and Network Associates were required to give code samples (e.g., viruses, rogue wiretaps) to the security ministry in order to receive approval for access to the mainland consumer market.  In addition to Kingsoft, domestic firms now include Qihoo 360 and Rising.  As of Q3 2012, Qihoo 360 had 442 million monthly active users and the enterprise version reached 420,000 users (representing millions of computers).  See China Is Asking Software Firms To Provide Samples of Viruses from The Wall Street Journal and Qihoo 360 Acquires Chinese Web Log Analysis Platform from China Tech News []
  108. See A Chinese Hacker’s Identity Unmasked from Businessweek, Mandiant, the Go-To Security Firm for Cyber-Espionage Attacks from Businessweek and Mandiat APT1 Report from Mandiat []
  109. Being in China Is Less Risky Than Not Being There from The Wall Street Journal []
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Chapter 14 – Pop Culture

[Note: below is Chapter 14 from Great Wall of Numbers]

According to the Ministry of Culture, China has now become the world’s largest TV series producer and third largest film producer.1 While domestically made Pleasant Goat and Big Big Wolf (喜羊羊与灰太狼) and homegrown talent like pianist Lang Lang, actress Fan Bing Bing and comedian Zhou Libo are increasingly popular outside of China, irrespective of where I have taught on the mainland, on any given week my students would invariably ask me what kind of foreign pop culture I enjoyed consuming.2

One student I vividly recall in the spring of 2010 had the English name ‘Scofield’ – as in Michael Scofield of Prison Break.  (Remember ‘Cena’ from Chapter 2?  This was one of his peers).  Needless to say ‘Scofield’ was quite a fan of the show, eagerly downloading the latest episode throughout each season.   While exact numbers are hard to come by, during its run, Prison Break itself was purportedly the most popular imported TV show from the US, eclipsing even Desperate Housewives.3 Because of this, Wentworth Miller, who starred as Michael Scofield later appeared in commercials for Me & City (an apparel company) and Ford Motors in China.

While it probably does not come as a surprise to frequent travelers or those with friends living in other countries, US culture is continuously exchanged globally throughout the day.  It is perhaps one of the largest, unquantifiable exports that US institutions and individuals produce.  It is a type of ‘softpower’ that is the envy of all emerging markets.45 And its popularity in China is no exception.

As I mentioned in Chapter 8, Chinese, both young and old are voracious consumers of US sports and in particular the NBA.  They are also equally interested in other parts of US culture.  In addition to paying attention to LeBron and Kobe statistics, after class these same students would frequently ask what I thought about shows I had never heard of at the time: Gossip Girl, Big Bang Theory, Vampire Diaries, ad infinitum.

How do they watch these shows?

While digital video recorders (DVRs) are essentially non-existent on the mainland, in addition to Bit Torrent, there are a number of sites and technologies that stream content on demand such as PPTV, Sohu, iQiyi and Youku (the latter two were mentioned in Chapter 12).6 Several Chinese video sharing sites have even signed agreements with US publishers to ‘legally stream’ content.  Prior to its merger, Youku licensed “Inception” from Warner Brothers and if users wanted to watch it, they had to pay about $.75.  Similarly Tudou (which later merged with Youku) licensed “Desperate Housewives” and “Lost” from Disney.  This culminated in November 2012 where the new Youku Tudou signed a 5-year deal with Sony Pictures which in turn means that Youku now has an agreement with every major Hollywood studio.7 In January 2013, Tencent announced that it had signed a similar agreement with several studios including Warner, Universal, Miramax and Lionsgate.8 For 5 RMB a movie or 20 RMB a month for an ongoing subscription, users of Tencent’s video portal can now view Hollywood movies a mere two weeks after they are first shown in US theaters.   But by-and-large, these are historically seen as exceptions, not the rule.

How much of an exception?  According to a Los Angeles Times story, China’s bootleg DVD industry “raked in $6 billion in 2010. By comparison, China’s box-office receipts totaled $1.5 billion last year [2010].”9

Yet for perspective consider this.  My students knew who Katy Perry was before I did.  They were fans of Game of Thrones (written by an American) before I even heard of it.  They had memorized the lyrics to Lady Gaga songs and their ring tones blared Rah-rah-ah-ah-ah through the halls.  They knew what happened to Charlie Sheen (not winning) and could laugh at inside jokes told between Barney Stinson and Ted Mosby.  And as mentioned below, it is little wonder that they also consume Mad Men as well.

Translating popularity into revenue

Another Los Angeles Times report recently discussed the popularity of Mad Men on the mainland.10 While intellectual property (IP) issues are a continued source of debate on both sides of the Pacific, Sohu, a large internet portal, recently signed an agreement with Lionsgate (which produces Mad Men) to distribute it online.  While the exact details are not public, other foreign companies have received ad-sharing revenue as these streaming sites place 30-60 seconds worth of pre-roll ads.  Altogether the online video ad business on the mainland is estimated to have generated $1.2 billion in 2012.11

Could your company sign similar revenue deals?  For the time being, probably not, unless you are a relatively large studio such as Disney, Warner Brothers or Lionsgate and have legal representation on the mainland.

While Mad Men may not be as popular as Gossip Girl (which is so popular that it is being remade locally121314 ) or Prison Break, according to Ken Ji, who works for the internet portal Soufun, “I think it reflects reality.  You can see from ‘Mad Men’ that [the] U.S. was already sort of open in the 1960s. China is developing and moving toward the stage reflected in the show.”15 Viewers like Ji and my students can also relate to the smoke-filled rooms in the show.  According to the same Times piece, “63% of workers are exposed to cigarette smoke on the job.”  And in my personal experiences, whether it is on a bus, a restaurant, an elevator or even a doctor’s office – smoking is near ubiquitous in many areas, especially outside of larger cities like Shanghai or Guangzhou.  All told, more than 300 million Chinese currently smoke, the repercussions of which I discuss later in Chapter 18.

I mention this because a number of my students and colleagues found it somewhat strange that a working man such as myself, did not smoke.  Apparently because Chandler Bing and Don Draper smoke, so too must other foreigners.

How does this help you and your company set up business in China?

Again, remember, understanding your customer preferences and consumer behavior is just as important as the product itself.  For example, Kung Fu Panda was a smashing success on the mainland because the American producers got the authentic look and feel of China spot-on, leading to a number of domestic thought-leaders and policy makers asking, “why didn’t a Chinese company make it?”1617 In contrast, one of the most popular Chinese-made sit-coms on TV right now is iPartment – a popular yet controversial show because many of the jokes and situations apparently directly come from Friends, Big Bang Theory and How I Met Your Mother.18

What this means for you

Even if you are in the movie production industry you might not know that the Chinese film market is now the world’s 2nd largest box office, scooting past Japan last year.  Ernest & Young estimates that the mainland box office will grow 17% annually through 2015 and overtake the US in 2020.19 There are now over 12,000 theater screens in China, a number that will also double by 2015.20 And despite market restrictions that prevent nearly all but a select few of foreign films from being screened, foreign films still managed to account for 65% of the revenues for the first half of 2012.  In fact, according to Xinhua, box office sales in China “totaled $1.28 billion in the first half of 2012, up 41.7 percent year-on-year, due to imported movies.”21

To really give you an idea of how popular foreign films are, in the first half of 2012, out of the 38 imported films screened, 14 were considered revenue blockbusters, and only two of them failed to bring in more than $16 million.  In contrast, “among the 141 China-made movies screened in the same period, only 5 percent managed to break even and the rest lost money, industry insiders said.”2223 Altogether, movie ticket sales increased 30% in 2012, reaching a new record of $2.69 billion.24 And the 76 foreign films screened on the mainland represented 52.4% of ticket sales (compared with 227 Chinese-made productions).25 In fact, 7 out of the top 10 highest-grossing movies shown in China last year were imports.

In this same Xinhua story, Zhang Huijun, president of the Beijing Film Academy believes that this polarized situation might actually spur more creativity domestically because Chinese producers now ask themselves, “[h]ow can they produce quality films that cater to the audience and generate lakes of cash?”

Yet while this transition and transformation germinates domestically, you and your content company may be able to still capitalize off the popularity of “being foreign” (see also Chapter 3 and Chapter 11) and establish new revenue streams in China.  That is not to say that foreign firms can ignore quality.  Yet for perspective, this is a country where a mere 600,000 foreigners are year-round residents.26 In fact, in my own anecdotal experience, I have been photographed several hundred times simply because I looked different (or laowai).27

But also consider one challenge that Forbes recently reported on: the difficulties and challenges both foreign and domestic companies have in repatriating their earnings.2829  This is due in part to laws and regulations as well as a large SOE called China Film Group (CFG) which, even with seemingly ironclad contracts, still purportedly extracts a lion’s share of revenue for the films it distributes (it has an exclusive monopoly on mainland distribution).

For example, as I noted in Chapter 10, before setting up and doing business in China, it is highly recommended that you do your legal due diligence.  I then quoted an exchange I had with legal expert, Dan Harris, of the law firm Harris & Moure who said one of the biggest challenges of doing business in China was contract enforcement and getting paid.  This same Forbes piece above quotes Mathew Alderson, also an attorney at Harris & Moure, who said “getting paid is a big concern” for both domestic and foreign studios alike (and on both sides of the Pacific for that matter).

So a quick recap: foreign pop culture, especially entertainment from the US, is incredibly popular in China.  It is readily consumed and easily accessible through a variety of venues and channels, including the internet and movie theaters.  China’s movie theater industry has rapidly expanded and is now the largest outside of the US (see also Chapter 11 regarding Wanda and AMC).  Yet despite this popularity, monetizing and repatriating the revenue is a challenge for all foreign companies.

Marginal liberalizations and popularity

What kind of headway are foreign firms making into this maturing market?  Prior to a deal hammered out earlier in spring 2012 by US trade representatives only 20 US films were allowed to be screened at theaters; the number is now 34.  And according to the Forbes article above, in order to prevent “receipt leakage” and to audit the box-office receipts of an upcoming joint production, the US producers are “demanding that a collection agency” be used as 3rd party monitor.

Yet again, despite these hurdles, the popularity noted above indicates that pent up demand for foreign cultural products is not likely to subside.30 So what can you or your company produce that can capitalize off its cultural ‘uniqueness?’  And again, remember “Made in the USA” is actually a perceived badge of quality (see also Chapter 11).

What other types of entertainment are popular?

The third most-searched query on Baidu (which at 80% has the largest search engine market share in China) in all of 2012 was for 4399, a new popular gaming portal that develops easy-to-use casual games that are popular with younger demographic segments.31 NetEase is the 2nd largest tech company in China; it employs more than 6,000 and generated $7.29 billion in 2011.  While it has diversified and operates both a large popular portal (163.com) and a cloud word processor called Youdao Yunbiji, one of its biggest revenue sources is World of Warcraft (WoW) developed by US-based Blizzard Entertainment.  WoW is globally the largest (by revenue) massively multiplayer online role-playing game, with around 10 million subscribers.32 NetEase is Blizzard’s official partner in arguably the most popular, foreign revenue generating game on the mainland.3334 In fact, by some estimates, half of all WoW subscribers are now from China.

While I briefly touched it in Chapter 6 and Chapter 13, online gaming in China is a large and growing industry.  Just how big?  According to Pan Chenyu of PricewaterhouseCoopers (PwC), “China is now the world’s largest online gaming market, contributing one-third to the global revenue in this sector in 2009, or 56 percent of the Asia Pacific total.”35 In fact, sales revenue for online games in China for 2012 reached $9.69 billion, an increase of 35.1% from the previous year.36 And a recent report from China Daily noted earlier in the chapter, “the turnover of China’s mobile gaming market is soon going to hit 5.2 billion yuan ($835 million) as the number of players reach 270 million.”37 With approximately 330 million players (150 million who are below the age of 19), perhaps you can port or develop games for this market.

What else is consumed besides electronic games?

Based on my own anecdotal evidence, despite their on-again-off-again love-hate political relationship, many Chinese (especially under-30) consume large quantities of Japanese entertainment.  Yugi-oh collectible cards are sold in convenience stores and entire series of anime such as One Piece, Sailor Moon, Naruto, Full Metal Alchemist and Shin-chan are downloadable from the same video sites noted above.  In addition, local video arcades are full of systems originally from Japan such as SEGA and Namco and toy stores in larger cities are stocked with Japanese imports (like Hello Kitty).

Each large city typically also has stores that import and sell “officially” banned products like consoles such as Sony’s PS2 as well as Microsoft’s Xbox 360 (ironic since they are both manufactured in China as well).3839 Since being officially banned in 2000 due to parental outcries over “wasting time,” companies like Nintendo have reworked their products to fit the legal framework and while they still face domestic knockoffs and clones (like the “Vii”); Nintendo has managed to generate revenue through their a local partnership in the iQue and iQue DS consoles which are made and distributed on the mainland.

In November 2012 I spoke with Kyron Yang, a native of Kunming who is now completing a graduate degree in computer science at the University of Utah.  Prior to his graduate studies he worked as a voice actor for a genre of games called “street mechine” (卡战三国).  It is a genre of turn-based, role-playing styles blended between a collectible card game and traditional action game and is sometimes played on consoles at video arcades.40 Essentially a player controls a character or several characters that in turn collect cards and can use those cards to perform certain actions (e.g., fight).  In East Asia, this type of game is increasingly popular with both teenagers and adults, yet is also very popular with younger demographics.  According to Yang, “the market for this type of games is very competitive because the mechanics are relatively simple, much like ‘paper, rock, scissors.’”  Yet one word of caution, there are now policies that restrict the amount of hours that games can be played by minors thus solely targeting this demographic could place growth restrictions on your firm.41 Perhaps a company looking to build an entertainment venue like those discussed in Chapter 11 (Main Event, Dave & Buster’s) could find success by using these types of game consoles in their venues targeted at a wide range of demographics.

Takeaway: despite being the largest film market outside of the US and the largest TV producer globally, China’s maturing entertainment industry is dominated by foreign imports.  Whether it is movies, TV shows, music or even games, Chinese consumers have a seemingly insatiable appetite for foreign-made entertainment.  Yet with this demand also comes challenges in the form of bootlegging, regulatory hurdles and capital controls (see also Chapter 10).  At this time the market may only support physical sales and value-added services (theaters) yet small inroads have been made in terms of liberalization and revenue sharing.  As usual, be sure to do your due diligence before diving in.  The rewards may still not justify the investments.


Endnotes:

 

  1. China becomes largest TV series producer from China Daily []
  2. See An Animated Goat, Banker Look Abroad from The Wall Street Journal and Letter from Shanghai: Class and capitalism mix with comedy from The Washington Post []
  3. “Prison Break” catches on in China from The Seattle Times []
  4. Sun Tzu and the art of soft power from The Economist []
  5. Hollywood ‘gaining ground’ in China from BBC []
  6. On September 26, 2012, Bill Bishop noted the irony in Youku’s rise to the top.  It has now largely purged itself of “copyright infringement” material yet arguably would never have caught on and been popular in the first place if it had not stored and streamed this materials in the first place.  See also, Romney Dumped Shares In Chinese Video Giant That Was Piracy Haven from BuzzFeed Politics []
  7. The new company Youku Tudou now has agreements with every major Hollywood studio including, Warner Brothers, DreamWorks, Paramount, Disney, NBC Universal, Lionsgate and Twentieth Century Fox.  See Youku Tudou signs 5-year deal with Sony Pictures, completes its collection of Hollywood studio licenses from Engadget []
  8. Action rolls as online portals sign on with US movie giants from China Daily []
  9. DVD pirates running rampant in China from Los Angeles Times []
  10. In China, ‘Mad Men’ reflects reality of modern life from Los Angeles Times []
  11. Youku’s Now The King Of China Web Video: Can It Make Money? from Forbes []
  12. Why China Loves ‘Gossip Girl’ from Forbes []
  13. With ‘Gossip Girl’ a Hit in China, Could a Chinese Remake Be Far Behind? from Ad Age []
  14. China getting its own ‘Gossip Girl’ from Los Angeles Times []
  15. In China, ‘Mad Men’ reflects reality of modern life from Los Angeles Times []
  16. ‘Kung Fu Panda’ Hits A Sore Spot in China from Washington Post []
  17. One of the reasons why there is a disconnect despite having a large domestic film production industry yet a relative lack of popularity has to do with creative control.  See In Hollywood Movies for China, Bureaucrats Want a Say from The New York Times []
  18. Netizens post evidence of scene stealing from Global Times []
  19. Spotlight on China from Ernst & Young []
  20. MPAA says Chinese box office receipts reached new record: $2.75B in 2012 from ArsTechnica []
  21. Overseas blockbusters drive China’s box office surges in first half from Xinhua []
  22. China film industry suffers Hollywood headwind from China Daily []
  23. This is not to say domestic films are neither creative nor popular.  For example, Lost in Thailand is a low budget comedy that has gone on to break the domestic box office for Chinese-made films and is also popular with audiences.  Yet its domestic success did not translate into overseas success as it only generated $57,000 in the US and $72,000 in Hong Kong.  See Low-Budget Comedy Finds Record-Setting Success from Caixin and China’s Hollywood dream gets lost in translation from CNN []
  24. Nation’s movie ticket sales hit $2.69b last year from China Daily []
  25. Ibid []
  26. This number, while seemingly low probably does not fully take into account undocumented workers and “permanent” tourists (e.g., those that do visa runs each month across the border).  For example, at least 20,000 Africans legally live in Guangzhou alone (up to 150,000 Africans are estimated to live there including tourists and those illegally overstayed their visa).  For comparison, between 580,000 and 820,000 Chinese migrants live in Africa.  See 593,832 foreigners live on Chinese mainland: census data from Xinhua, The Promised Land by Evan Osnos and China cracks down on African immigrants and traders from The Guardian and Eastern Promise in Little Africa from The Global Mail []
  27. There are endless streams of stories about how foreigners (laowai) are paid to attend various functions, meetings and forums and not actually say or do anything.  For instance, during the time I lived in it, the city of Bengbu, Anhui had at any given time 10 Westerners living in a city of 3 million.  Yet throughout my stay I was offered any number of voice acting and ‘modeling’ jobs not because I had any particular talent, but rather because I was laowai.  See Chinese companies ‘rent’ white foreigners from CNN []
  28. Dazzled By China’s $2 Billion Movie Box Office? Try Getting Paid from Forbes []
  29. Another challenge for foreign film studios is that China Film Group can delay the theatric release and sometimes even pare releases together (e.g., head-to-head against other foreign ‘blockbuster’ films).  See ‘Skyfall’ China Release Date Pushed to 2013 from The Hollywood Reporter []
  30. Direct censorship, chilling effects and self-censorship also play a role.  For example, there are daily quotas for domestic TV primetime slots which have led to large, continuous productions of certain genres such as World War II re-enactments.  Or as Zhou Weicheng, general manager of Greentown Media recently explained, “There’s a limit on costume stories and spy dramas are not allowed to be aired during prime time slots.  What can we shoot other than the anti-Japanese war?”  See Hollywood and China: Revenue and Responsibility by Evan Osnos, Director takes Chinese censorship, business battles public from Los Angeles Times, What Lee’s `Life of Pi’ Oscar Says of Chinese Film from Bloomberg, State Meddling Stifles China’s Film Industry from The New York Times, China TV extra dies eight times a day as Japanese soldier from South China Morning Post and The east is read? from Global Times []
  31. 4399, the Third Most-searched Query on Baidu in 2012 from Tech Node []
  32. This number fluctuates throughout the year; it was at 12 million approximately a year ago after a new expansion was released (Mists of Panderia) but has dipped down to 9.6 million. See World of Warcraft cities hacked from BBC and World of Warcraft down to 9.6 million subscribers from Joystiq []
  33. The9 (第九城市) was the original partner in China, however in 2009 Blizzard switched and began working with NetEase. []
  34. There are other popular foreign games such as Counter Strike and DOTA, but the foreign publishers do not purportedly generate much revenue from them. []
  35. China’s online game revenue tops the world from China Daily []
  36. See China’s Online Game Industry Sales Reached CNY60.28 Billion In 2012 from China Tech News and China’s online game sales up 16.9% in H1 from China Economic Net []
  37. Internet gaming: ‘A winning gamble’ from China Daily []
  38. See Why Are Consoles Banned In China? from Kotaku, Ban on games consoles may be lifted, suggests Culture Ministry source from China Daily, China’s Ministry of Culture: We’re NOT Considering Lifting the Game Console Ban from Tech In Asia, China’s complicated history with video games: when a ban isn’t really a ban from Engadget and If the Xbox Came to China, Would the Chinese Notice? from BusinessWeek []
  39. According to Engadget, the PS3 may have been given official approval for sale on the mainland.  See Sony quietly gets PlayStation 3 certification in China, we hope for a few more Dynasty Warriors players from Engadget []
  40. One of the most popular of these card games is San Guo Sha (三国杀) based in part on the Romance of the Three Kingdoms novel.  The mechanics are similar to another Western game called Bang!  The company Yang worked for is 中山市众森信息科技有限公司 in Guangdong.  There is also a very popular web-based version at Sanguosha.com []
  41. Chinese Web Gamers at 51% Discount a Buy to Opennheimer from Bloomberg []
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Chapter 15 – Human resource and infrastructure challenges

[Note: below is Chapter 15 from Great Wall of Numbers]

Consulting firms in China are abundant and usually just a stone’s throw away.  The primary reason has to do with China’s developmental status: China currently lacks expertise and experience in several fields.  As a consequence many domestic companies are willing and increasingly have the funds to hire foreign experts to guide, manage and even direct operations at companies.  To paint a clearer picture of the situation, according to Chen Yuyu, associate professor at Peking University, “[h]igh-end jobs that should have been produced by industrialization, including research, marketing and accounting etc., have been left in the West.”1 As a consequence, because they are faced with dilemma of working in low-skilled, low-waged professions, a recent survey found that “among people in their early 20s, those with a college degree were four times as likely to be unemployed as those with only an elementary school education.”2

At the same time, it is advised that rosy enthusiasm – get-rich-quick in China – be tempered with a dose of reality.  For example, the Wall Street journal ran a piece in March 2012 which details the gradual shift away from recruiting expats at all corporate levels.3 This is due in part to increasingly expensive compensation packages needed to lure experienced expats and because of a growing talent pool of educated Chinese returning from overseas dubbed “sea-turtles” (hǎiguī). This changing outlook is best summed up by hedge fund manager Mark DeWeaver who recently told me in an interview,

I don’t think immigrating to China would be a logical choice for most foreigners.  There just wouldn’t be that many job opportunities for them, particularly if they don’t speak the language.  They would also be competing with the many Chinese graduates of US colleges that return home after graduating.4

Between 2000-2009, more than 630,000 Chinese-born immigrants received US green cards.5 Over the past 30 years more than 1.2 million Chinese studied abroad, approximately 20% of who matriculated to US schools and institutions.678 During the 2012-2013 school year, more than 190,000 Chinese students studied at US schools (up from 160,000 the year before) – they also comprise a quarter of all international students in the US.910 In fact, 37% of all international graduate students in the US now are Chinese nationals.11  While there is some overlap between the two groups and some manage to stay and attain green cards, some of the remaining – well-trained and educated – return home to join the Chinese workforce.12

According to the Ministry of Education, due in part to the incentives mentioned above in Chapter 9 (“1,000 Talents”) approximately 186,000 overseas Chinese returned to China in 2011, an increase of nearly 40%.1314 While some do move back to the West again, others stay.  For example, Kevin Woo is a Shanghai native who received an LL.M. from the University of Wisconsin yet works as an auditor for a large Chinese real-estate firm.  He returned to Shanghai in part due to the soft labor market in the US.  Anthony Wang received his bachelor’s and master’s from the University of Waikato and now works at his family-owned factory in Anhui.  Tony Wu received his bachelor’s from the University of Stirling and now works for AMER International Group, a large Chinese resource company in Shanghai.

So before packing your bags and flying out to China to open an office, you and your company need to answer the following questions: are you really a foreign expert?  Make a list of things you can do comparatively better than your Chinese counterpart.  What is your marginal productive value and what is the typical salary an expat with your skill set makes in China?  What are the advantages and disadvantages of opening an office overseas headed by a foreigner?

If you hesitated to answer at least one of these questions, remember that you and your company can always hire Western educated local Chinese who understand not only the complex culture of China but also can usually communicate effectively in English and understand many aspects of the West as well.

With that said, there are still a large number of multinationals that have moved in and set up shop on the mainland, recruiting both locals and expats alike.  Some notable examples in Shanghai are Indianapolis-based Eli Lilly which manages about 2,000 in the Pudong and Xintiandi districts; Sunnyvalle-based Intel which operates a 2,000 person division in Minhang, Shanghai, and another smaller office in Beijing of less than 1,000 workers (less than 5% are foreigners) both divisions focus on software development of chipset drivers; English First (EF), a Lucerne-based Swedish company which is the world’s biggest EFL training company and employs more than 2,100 full-time employees in the Shanghai metro alone, approximately 15% of which are expats.  In contrast, BP’s Pudong office has 200 employees, 10 of whom are foreigners; AIA’s Shanghai office only has about 150 non-sales employees; and Geneva-based Mercuria – a $75 billion resource multinational company (MNC) – operates a small corporate office of about 25 people also in Pudong.15

Some other auxiliary issues to consider before opening an office in China: according to the 2012 Expat Explorer survey, half of the expats recruited expect not only to earn more money upon relocation to China but also perks.16 For perspective consider that according to one October 2012 estimate that the per capita income of Tier 1 cities such as Guangzhou ($9200), Beijing ($8980) and Shanghai ($8325) are significantly higher than the average urban annual salary ($3,430).1718 For comparison according to the Social Security Administration the national average wage in the US in 2011 was $42,979.19 Yet Mercer’s 2012 ranking report on the most expensive cities notes that the cost of living for expats in China is disproportionally higher in these same cities: (being closer to 1st means more expensive) Shanghai is 16th, Beijing is 17th and  Guangzhou is 31st.2021 Similarly, an ECA International cost-of-living survey published in December 2012 found that Beijing is the 22nd and Shanghai is the 26th most expensive cities globally for expats.22 Why?  Because according to Lee Quane of ECA, “[e]ssentially what’s happening in China is that prices are rising at a faster rate than they are in the West, and that’s caused Beijing to leapfrog all those other locations in the rankings.”23 Or in other words, make sure to get firm budgetary numbers for the costs of: expat compensation packages (transportation costs, hardship perks, recruiting bonus) and rental property expenditures.

How large are these mainland cities?  Shanghai is the largest, with 23 million permanent residents, Beijing is slightly smaller with 20 million residents and Guangzhou has 16 million.24 Furthermore in terms of internet penetration rates across the country, Shenzhen has the highest (76.8%) followed by Guangzhou (72.9%), Beijing (70.3%) and Shanghai (66.2%).25 In contrast, Hong Kong is 68.7% and Singapore is 77.2%.  In terms of foreigners, despite the fact that more than 57 million inbound tourists visited the mainland in 2011 (see Chapter 4) there are only 600,000 foreigners who are permanent residents and 220,000 foreigners legally working on the mainland.26 Shanghai itself is home to the most foreign residents (200,000), roughly a third of all foreign residents on the mainland (in contrast Hong Kong has about 400,000 foreign residents).27

What city should you set up your first office and hire local labor from?  In addition to doing your due diligence regarding business licenses, you and your company should perform a cost-benefit analysis of mainland cities.  While labor costs are significantly cheaper in Tier 2 & 3 cities, salaries in Tier 1 cities also varied.  For example, the average monthly salary for an internet censor in Beijing is $653 whereas a similar censor in Tianjin is paid $480 a month.28 Similarly while land rental rates may be cheaper inland, larger metros like Shanghai, Guangzhou and Beijing typically have modern infrastructure (e.g., subways, well-maintained highways) which in turn attracts multinational corporations (MNCs).  Shanghai, which was according to a recent Forbes report is the best city for business on the mainland, itself has roughly 60 MNCs – more than any other city on the mainland.2930 This is due in part to subsidies and duty-free policies.  For example, a MNC can now receive an 8 million RMB ($1.3 million) subsidy for 3 years plus duty-free imports at facilities by setting up an office in Shanghai.31

Attracting, retaining and discovering talent and connections

Another seemingly mundane recruitment issue facing foreign and domestic companies alike is the labor hiring cycle.  Simply put, some recruiting months are not the same as others.  While most firms in large cities use the Gregorian calendar year for GAAP accounting, nearly every domestic firm celebrates holidays based on the traditional lunar calendar.  The biggest holiday of the year is Spring Festival or Chinese New Year, typically at the end of January to beginning of February.  Like their Japanese counterparts, it is customary for domestic companies to award significant bonuses – 20-50% of a month’s salary and even higher – to each employee just before Spring Festival.32 As a consequence, it becomes increasingly difficult to hire qualified workers after Mid-Autumn festival (also called Moon festival which is usually held in September) because employees not only would lose their potential bonus at the first, current company but would only be eligible to receive a reduced bonus at the new company.  This is just one more cultural issue US firms should be aware of before starting up a domestic office.

How hard is it to hire expats?  I posed this question to nearly every person I interviewed and the answer was unsurprisingly the same as it would be in other countries: compensation packages are usually the top priority.  And specifically, full medical insurance with coverage and reimbursements to private hospitals (see Chapter 19).  One of the reasons why this was important is that in the eyes of these managers, directors and CEOs, expats typically feel more comfortable in a foreign country if they knew they could have access to doctors and medical providers that spoke their native language.  As a consequence, firms looking to attract overseas talent may need to factor in the costs of medical reimbursements which can run up to 20,000 RMB ($3200) a night at some of the foreign owned and operated medical facilities.

Natalia Shuman, the new COO of Kelly Services’ in China mentioned in a recent interview that the top challenge in China for 2013 is,

I think retention and hiring talent are still going to be challenging.  More multinational companies are expanding their Chinese operations.  And the war for talent continues.  From the staffing and recruitment industry prospective, the operating environment here in China is tough: the competition is strong, limited collaboration between players, not enough regulations from the staffing associations, quality issues, cost pressures and price wars.33

In terms of retaining employees, in November 2012 I spoke with one foreign executive at a technology company in Shanghai who has employed a unique strategy in an attempt to kill two birds with one stone: retaining skilled employees and maintaining information integrity.  After losing several key staff to competitors, instead liquidating his assets he decided to go a different path, a “hollowed castle” route based on a strategy from Zhuge Liang in Romance of the Three Kingdoms (三国演义).

In a nutshell, there was a volatile period two thousand years ago when what we now know as China was divided into three warring states (三国时代).  One of the states (Shu) had its capital in Chengdu, in the contemporary western province of Sichuan.  This kingdom was ruled by a calculating leader named Liu Bei who had under his command an able minister and war general, Zhuge Liang.  At one point in this time period Liang had ordered all of his troops to leave the city and engage the enemy (Wei) capital of Chang’an (now Xi’an) to the north.  Yet his enemy took a different route avoiding a clash with the Shu, moving rapidly towards Chengdu whereupon they began preparations to lay siege to the Shu castle.  Liang, with little recourse attempted an unusual tactic: he opened the castle doors, disguised the remaining soldiers as civilians and played music from the top gates.  The leader of the opposing forces, Sima Yi, knew that Liang was a shrewd and calculating opponent and thus came to the conclusion that this ploy must be a trap.  So Yi withdrew his forces.  This type of reverse psychology is termed the Empty Fort Strategy (空城计).  Similarly this executive has since brought his subsequent teams into the fold, explicitly imparting the knowledge that they alone hold the key to their own long-term success – and that they could walk away at any time.  His staff turnover was subsequently lower largely due to what he considers from this frankness towards future revenue generation and employee trust.

In terms of specific retention examples in the service industry, when I spoke with both Scott Freeman and Richard Qi (see Chapter 13) they both noted that based on their experiences in the domestic IT industry there is a usually a dividing line of 1985.  That is to say, that the turnover rate is substantially higher for those born post-1985 (50-60%) than those born before it (20%).  Or in other words, the younger the employee, the riskier they may be – yet simultaneously, the younger the employee the more familiar they may be with new ways of thinking differently.  And it is a conundrum that is not endemic to China.

Another way to utilize and attract talent is a method used at Motion Global (MG).  Nira Binderer is an HR manager at MG in Shanghai and noted in our May 2012 interview that MG unequivocally sees China as the long-term home for its future base of operations.34 While it is no secret that from a wage and salary perspective it may make financial sense to hire local talent (e.g.,Chinese graduates from lesser known schools earn less than $350 a month at their first job35 ), Binderer said that MG had a unique external hiring strategy: hire expats as interns.  According to her, MG will give each intern a small stipend each month, but requires the interns to pay their own way (flights, accommodation, food) to show just how dedicated and genuine they are regarding SEO (search-engine optimization) and internet marketing.  After a two-month probation, their salaries increase proportionally to the success of their SEO campaigns (judged by analytic tools measuring click through rates, bounce rates, etc).  When I visited their Shanghai headquarters in May, more than two dozen foreigners (typically recent college graduates) were working side by side with local Chinese.  I spoke with one former intern, Miles Vaughn – now in Florida, who noted that he learned more in the months he was at MG than in any classroom.  In his words, “I hit the ground running and had a chance to not only learn as I went but each week we had a chance to talk with SEO teams from other companies including Google.”

While it would be difficult to convince the average expat to pay his or her own way just to be an intern at your new China office, hiring interns in general could help tide your firm over during cyclical periods such as the post-Mid-Autumn holiday (when fewer workers are willing to leave their employers due to bonus incentives).  Interns can also be viewed as an ongoing-asset.  After all your firm has invested both time and money in them, perhaps they can eventually be promoted to a permanent position in the future.

As mentioned several times previously as well as in Chapter 13, one of the problems that Larry Chang specifically faced when setting up shop in Shanghai five years ago was a lack of local contacts.  He did not know any businessmen or government employees and the locals were unfamiliar with him because he did not go to school with any of their colleagues, teachers or family members.  Thus building his guanxi (social, business, personal connections) was a challenge that required significant attention – one that he still focuses on.  In Chang’s words, “SMEs cannot make their own guanxi over night.”  One way he has successfully gotten his foot into the door is by meeting with consultants who act as his ‘air force’ – while he trains a figurative army of software designers, he relies on consultant connections to help put him into contact with suppliers, vendors and other contacts.  After years of meetings, this has enabled his firm to grow 30% annually.  Thus entrepreneurs should be cognizant of this all-encompassing cultural trait that Matt Garner described in Chapter 1 as “relationship focused” – in contrast to the “results focused” in the West.

Telecom infrastructure

ClarkMorgan runs a very tight ship in Shanghai’s Changning district, next to Jing’an Temple.36 Founded more than a decade ago by Australian Andy Clark and Briton Morry Morgan, it is primarily known as a firm specializing in corporate training, yet I would argue it publishes one of the top quarterly magazines on HR-related issues in China.  When I visited their office in May 2012, I had a chance to see firsthand the typical workday in which expat and local employees worked side by side, sometimes even sharing the same scarce tables.  The Shanghai office is staffed by approximately 20 full time employees (half expats) and as Gary Isse explained to me in an interview, “one of the challenges we continually face is maintaining a reliable network connections both internally and externally.”

This is one of the struggles that all potential firms wanting to move to China will face: how to deal with a relatively static telecom industry within each city.  While China is home to state-of-the-art telecom gear manufacturers such as Huawei and ZTE who produce modern equipment, its domestic broadband build-out is lagging neighboring peers such as Japan and Korea in part because its internal telecom infrastructure is organized into two disparate tiers.

In October 2012 I spoke with Scott Freeman, CEO of ITBN, a private internet service provider (ISP) that provides broadband connectivity solutions in Beijing and Shanghai.37 ITBN was founded in 2000 and offers a range of connections from dedicated ISDN lines to full fiber connections.  While ITBN charges a premium for their services, they also provide something that these SOEs cannot: reliability and bi-lingual telephone support and thus have captured a significant percent of the urban market share.

While much speculation exists about the telecom infrastructure in China, Freeman described the seemingly complicated national network thusly, “there are hundreds of licensed and probably thousands of unlicensed ISPs in China. Some have national licenses (like we do); others have only provincial licenses. Many more operate without licenses. The official differentiation between ISPs like us and the big state-run ones is that we are called “second-tier” ISPs, whereas they are called “first-tier” ones.  Theoretically the first-tier telcos are supposed to control all of the physical connections in and out of the country.  Other than that it’s not so clear what else differentiates them on the ground, other than the fact that the big state-run telcos have a lot more money and the extra job of content monitoring.”

As Freeman noted, aside from a few licensed private firms such as ITBN, there are essentially only three tier 1 ISPs in the whole country (China Telecom, Unicom and Mobile) all of whom are state-owned enterprises.38 In fact, on a user basis China Telecom and China Unicom (both SOEs) are the largest ISPs in the world.39 And while there may be developmental reasons for relatively slower bandwidth speeds (compared with their neighbors), in terms of throughput, according to their Q3 2012 speed survey, ChinaCache noted that while the overall speeds are a little slower than previous speed rankings, Shanghai currently leads the country in average speeds at roughly 3.44 Mb/s and Beijing is 10th at around 2.5 Mb/s.40

While the quality of wireless telephony signals between the US and China is debatable, the Ministry of Industry and Information Technology announced in September 2012 that it plans to being issuing 4G licenses within the following year.41 Thus while Western countries are finishing rolling out 4G networks, aside from a pilot roll-out in a dozen cities such as Chengdu, Hangzhou and Wenzhou (from China Mobile), the majority of Chinese users unfortunately have another couple of years before 4G becomes an installed reality.42 And in the case of ClarkMorgan, there just are not many broadband packages that fit their needs at the prices expat managers are accustomed to (e.g., choice between a relatively inexpensive 5 mb/s DSL versus an expensive dedicated T1).

Takeaway: before opening up a Chinese branch for your company be sure to research the costs of living, property rental prices and telecom infrastructure availability in the area.  In addition, paying attention to hiring cycles, offering internships and recruiting hǎiguī may also give your company a significant advantage over your competition that fails to do so.



Endnotes:

  1. See China’s Graduates Face Glut from The Wall Street Journal and University Graduates Have Hard Time Finding Job, Initial Survey Finds from Caixin []
  2. In other words, many college graduates are typically uninterested in low-wage, low-skilled factory work.  See Chinese Graduates Say No Thanks to Factory Jobs from The New York Times []
  3. Asia’s Endangered Species: The Expat from The Wall Street Journal []
  4. Animal Spirits with Chinese Characteristics: An Interview with Mark DeWeaver from The Libertarian Standard []
  5. Legal and Unauthorized Chinese Immigrant Population from Migration Policy Institute []
  6. According to a 2008 report from Reuters, “Of the 1.2 million Chinese people who have gone abroad to study in the past 30 years, only one fourth of them have returned, according to the Chinese government.”  In addition to Chapter 19, see China’s Brain Drain at the High End by Cong Cao, China’s Brain Drain Dilemma: Elite Emigration from The Jamestown Foundation and China fears brain drain as its overseas students stay put from The Guardian and China goes on the road to lure “sea turtles” home from Reuters []
  7. Unrealistic U.S. Immigration Policies Push Away China’s Best And Brightest by Forbes []
  8. An Export of Students: Where Are China’s Ultra-Rich Sending Their Children to Study? from Good Infographics []
  9. In 2011, the US embassy in China issued more than 160,000 student visas for Chinese students to study at American schools.  Yet a November 2012 report from Open Doors notes that the actual number is even higher, 194,029.  See Ten Years of Rapid Development of China-US Relations from Xinhua and Students from China add $5b to US economy from China Daily []
  10. Spreading their wings early from China Daily []
  11. U.S. a Hot Spot for Chinese Grad Students from The Wall Street Journal []
  12. Tough US job market sends Chinese students home from China Daily []
  13. Reverse brain drain: China engineers incentives for “brain gain” from The Christian Science Monitor []
  14. Is overseas returnee working as driver a waste of talents? from People’s Daily []
  15. It should also be noted that due in part to an economic slow-down on the mainland and because of political tensions, numerous Japanese firms are purportedly considering relocating elsewhere.  According to Reuters a “quarter of Japanese manufacturers are rethinking their investment plans in China and some may shift future production elsewhere.”  For perspective, since 1990, Japanese firms have invested almost $1 trillion the mainland.  And despite these tensions, in 2012, “Chinese consumers bought nearly 3 million Japanese cars and trucks.”  See As China tensions simmer, Japan pulls back from “world’s factory” from Reuters and Five Predictions for China’s Auto Industry in the Year of the Snake from The Wall Street Journal []
  16. Expat preference for the growing Chinese economy is apparent from HSBC []
  17. Other estimates such as the National Bureau of Statistics put the per capita averages higher:  (~$13,000/capita), Beijing (~$12,500) and Guangzhou (~$13,000).  The reason for the disparity involves not just sample size but also what geographic districts are included or excluded (e.g., in the NBS case they divided total GDP by population in the region).  See Guangzhou has highest average salaries for cities in mainland China from South China Morning Post []
  18. Charting China’s Family Value from The Wall Street Journal []
  19. National Average Wage Index from Social Security Administration []
  20. Modern China: A tale of luxury villas and displaced villagers from McClatchy []
  21. Worldwide Cost of Living Survey 2012 from Mercer []
  22. Beijing, Shanghai Cost-of-Living Leaps from The Wall Street Journal []
  23. Ibid []
  24. See The Current Demographic Profiles of Shanghai (2011) from Shanghai Municipal Population and Family Planning Commission, Beijing’s temporary population fell in 2011 from China Daily and Guangzhou seeks opinions on population draft from China Daily []
  25. Shenzhen Has the Highest Weibo Penetration Rate in China from China Internet Watch []
  26. See 593,832 foreigners live on Chinese mainland: census data from Xinhua and Plan to reduce minimum stay for foreign workers from Shanghai Daily []
  27. Shanghai’s foreign population above 200,000 from Want China Times []
  28. Wages have also decreased for certain professions over time.  For example, in 2000 a computer science graduate could earn $725 a month in Shenzhen, a wage that has decreased to $550 a month due to more competition from graduates.  See China’s ‘Manhattan’ becomes censorship capital from Financial Times and Chinese Graduates Say No Thanks to Factory Jobs from The New York Times []
  29. See Shanghai tops China’s “best city for business” from Sina and Top 10 best cities for business in China 2012 from China.org.cn []
  30. Another estimate puts the number of Asia-Pacific headquarters in Shanghai at 393.  See Almost 400 MNCs have their Asia HQs in Shanghai from IANS and Shanghai tops China in attracting multinational headquarters from Xinhua []
  31. Shanghai policies woo multinational headquarters from Xinhua []
  32. This is different than shūshin koyō (employment for life).  For a dated yet clear explanation of the Japanese bonus system see Bonuses and Employment in Japan from Journal of the Japanese and International Economies, 1987 []
  33. Developing a Competitive Edge from Insight []
  34. Motion Global []
  35. China’s Graduates Face Glut from The Wall Street Journal []
  36. Clark Morgan []
  37. ITBN and ITR []
  38. While there are a few large, private, independent ISPs on the mainland such as 263.net (网络通信) and Great Wall Broadband (recently acquired in Q4 2012 by Chengdu-based Dr. Peng Telecom, 成都鹏博士电信传媒集团股份有限公司) nearly all traffic is still routed through the three SOE tier 1 backbone monopolies.  China Tietong Telecommunications (中国铁通集团有限公司) which used to be China Railcom, merged with China Mobile in May 2008.  China Netcom (CNC) merged with China Unicom in October 2008.  See Users angry at slow Internet speeds from Global Times []
  39. Just two Chinese ISPs serve 20% of the world broadband users from ArsTechnica []
  40. ChinaCache Releases Third Quarter 2012 China Internet Connection Speed Rankings from China Web Report []
  41. China 4G licenses to be issues in 2013 from ZDNet []
  42. See China Mobile Network Costs Mean First Net Drop Since ’99 from Bloomberg, China Mobile Builds First 4G Base Station In Chengdu from China Tech News and China Unicom Books 50% Net Profit Growth In 2012 from China Tech News []
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Chapter 16 – Localizing and understanding your customer

[Note: below is Chapter 16 from Great Wall of Numbers]

My own experiences with Western fast-food establishments overseas can be summed up best by the rivalry and fortunes between KFC and McDonald’s in China.  It was November 2008, when I first arrived in Shanghai (and the mainland) I noticed immediately within walking into the KFC near the Holiday Inn in Pudong that the listed menu items were both visibly different and numerically more.  While Americans like to joke that there is a Starbucks at every street corner, the same can almost be said about KFC, especially with train stations in China.  No matter where you travel to, you are bound to see the Colonel.  And during these subsequent travels I noticed that KFC’s food selection varied from place to place: Guangzhou had different tastes than locations in Hefei, which tasted slightly different than those in Shanghai.  Furthermore, while the items offered were typically the same from city to city, relative to US menus there were a number of visibly different choices.  For example, KFC served corn as dessert in fruit cups, egg-yolk –filled-cupcakes operated as appetizers and traditional gravy was hard to find.1

In contrast, I rarely saw McDonald’s at every turn of the street.  In fact, when I first moved to Bengbu, Anhui in 2008, there were three KFC’s and only one McDonald’s.  Why was one more popular than the other?  One rumor was that McDonald’s simply imported the food items from the US and used it as the sole menu choice for Chinese customers unfamiliar with hamburger (remember, pork is the most consumed meat in China, not beef).23 But the real story is much more complex and interesting.

KFC and McDonald’s both opened up stores at around the same time in the 1980s.  Yet today, there are more than twice as many KFC restaurants as McDonald’s.  Harvard Business Review has discussed this case-study in depth,4 pointing out five key reasons for KFCs success:

1)       Corporate managers at KFC’s then-new China division led by Sam Su, “infused a Western brand with Chinese characteristics.”  As cliché as that may sound, managers at KFC China reworked the menu (expanding it more than 75%) so that it offered a mix of traditional foods as well as local tastes and flavors.  Because the parent company (PepsiCo) was relatively hands off, regional managers could continuously introduce, remove and tweak menu’s to better cater to local tastes.  The notable example HBR cites is that of spices: Shanghai customers thought food was too spicy and those in Sichuan felt foods were too bland.  So local managers were given flexibility to cater to the specific regional tastes.

2)       Instead of trying to compete head-to-head with McDonald’s in the largest cities, KFC managers first opened restaurants in smaller cities spread across the country.  As a consequence, because they were the first ones in the city, they were able to accomplish the three L’s of retailing: location, location, location.  So not only did they manage to win highly-trafficked real-estate but also a distributed supply chain to help “reduce costs” as they scaled.  The end result, KFC is now the largest restaurant chain in China, “with more than 250,000 employees and about 40% of the market for fast-food chains.”

3)       Starting in 1997, KFC built a distribution network from the ground up.  While relatively expensive, the investment paid off because they have supply-chain quality control all the back to the individual suppliers and animal feed companies.  As a consequence KFC “now has the most advanced and integrated cold-chain system in China, with 11 full service logistic centers and six satellite centers serving every province except Tibet.”

4)       Employee training is an on-going challenge to everyone operating a retailer with ambitious expansion plans.  KFC needs “at least 1,000 new managers and 30,000 new members a year” and so it has implemented a sort of rolling team of trainers that move from one new location to another, training each new restaurant team both job skills and people skills so they can provide “excellent customer service.”

5)       Unlike how they expanded in the US and other international regions, KFC locations in China are almost exclusively (90%) run by the corporate instead of the franchise model.  They did this because of a dearth of experienced entrepreneurial talent available and “to closely control every aspect of their operation, from menu to decor, and to monitor results and the success of new products.”

Since their first store opened in 1987, KFC now operates approximately 5,000 restaurant outlets in 700 cities and is on pace to open one new store everyday of the year – with a goal of opening 15,000 nationwide including 700 more in 2013.5 And despite a food scare regarding antibiotics in chicken suppliers mentioned in Chapter 3, they plan to continue this expansion.6 A large reason why they have been successful is as noted above in the HBR study: adapting to local tastes with foods such as fried dough, sweet potato buns and fishball soup.  Furthermore, its parent company, Yum Brands, now operates 5,400 stores on the mainland (including Pizza Hut restaurants); more than double what it had five years ago.7 As a consequence, China now represents for over half of Yum’s operating profit and sales globally.8 In fact, in 2010, KFC China for the first time had surpassed the US market in revenue.  In contrast, McDonald’s has a mere 1,464 outlets and 16% of the fast-food restaurant market share.9

How can these tribulations help you?

Before opening a physical store, ask yourself these questions:

  • Will my target market want my product as-is, or should it be tweaked and modified to fit their tastes?
  • Where should our company set-up shop first?  Does it need to be in a higher-profile Tier 1 city or can it take the distributed “long tail approach” that KFC utilized by placing proportionally more stores in smaller cities?10
  • Can you locally source your supply chain?  If it is inorganic matter, based on the discussion in Chapter 7 will you try to utilize a 3D printer?
  • Who will you recruit to fill your management, sales and customer service roles?
  • Should you franchise your operations out or manage them from a central location?

Other foreign restaurants and coffeehouses have moved into China as well.  By catering to both local and Western tastes, Starbucks now has more than 700 stores and 12,000 employees on the mainland and plans to have 1,500 stores and 30,000 employees by 2015 making it the 2nd largest market behind the US (for comparison Starbucks recently announced it plans to open 3,000 new locations in the Americas including 1,500 more in the US by 2017).111213 By introducing flavors specific to Chinese tastes such as Red Bean and Green Tea Frappuccinos (popular domestic flavors), they have managed to localize their brand.1415 As a consequence, same store sales increased 10% in 2012 from the year before and “Starbucks stores in China now average $886,000 in annual sales, up from $507,000 in 2008.”1617

Their success has seen the entry of Britain’s Costa Coffee, which opened its 100th Chinese store in 2011 and now has 186 as of July 2012.18 And across the straights in Taiwan, 85C, a coffee chain plans to open up 100 more coffee shops by 2017 (it currently operates 366 on the mainland and 347 on Taiwan).19 According to Euromonitor International, coffee shops on the mainland generated $558 million in sales in 2011 and expect sales to triple by 2016.20 In fact, coffee sales collectively rose 20% from 2010 to 2011.21 In other segments of the industry, Subway restaurants (赛百味) also plan to expand from the current 358 restaurants to 900 by 2015.22 Carl’s Jr. opened its first mainland restaurant in Shanghai in 2009 and has plans to add 100 by 2016.  And with arguably the most aggressive expansion plan, Burger King plans to open 1000 restaurants by 2019 (up from 63 currently).23 And like KFC before them, these firms are succeeding and hope to succeed by blending both local and Western tastes in a quality-controlled manner.

This localization-first strategy is similarly echoed by mainland experts such as Savio Kwan, former COO of Alibaba who recently told The Wall Street Journal that “Companies need to avoid bringing Western business ideas straight into China. It’s not always transferable.”