We have long become accustomed to the ‘special alliance’ between the US and the UK: they battled together against Hitler, share the same language and belong to the same race, and have a deep and long-lasting friendship - at least this is the impression in the eastern hemisphere. Once this vast former colonial market was opened to the US - the wealthiest and most powerful player, but one with few colonies - it would become the new overlord.

Therefore, despite that it had to allow the “small Philippines” to become independent, the US was delighted to be able to benefit from the open trade around the world. The key point is not whether the free trade theory is reasonable or correct, but to whom is it most advantageous. It seems that the anti-colonialist stance of the US has a moral advantage, as well as enhancing its “soft power” and, most importantly, increasing its “hard power”, that is, the economic strength. Meanwhile a number of elite groups in the U.S are slowly but decidedly practicing a new “invisible” form of colonialism through financial and trading operations.

Paul Hellyer, former Canadian Minister of Defense, has described what took place at the 1991 Bilderberg Conference (on the same occasion where State Governor Bill Clinton was introduced to the assembled VIPs, starting his journey to a place on the world stage). He says David Rockefeller, a grandson of the founder of Standard Oil, extended his gratitude to the directors of The Washington Post, The New York Times, Time Magazine, and other major publications “whose directors have attended the meetings and respected their promises of discretion for almost forty years. It would have been impossible for us to develop our plan for the world if we had been subject to the lights of publicity during those years. But, the world is now more sophisticated and prepared to march towards a world government. The supranational sovereignty of an intellectual elite and world bankers is surely preferable to the national auto-determination [read as ‘democracy’] practiced in past centuries.”

This annual secret meeting provides the top politicians, bankers and media giants from the pan-Atlantic countries an ideal opportunity to gather and discuss the topics with which they are most concerned. It was at such meetings that British leaders such as Tony Blair and Gordon Brown were first recognized before rising to the position of Prime Minister. This is not simply a conspiracy, but part of a series of practical measures taken by bankers and the elite of the business world for their own benefit. The “world government”, as we call it, aims to replace democratic systems and sovereignty with governance by business elites.

The essence of companies is to replace market transactions with command control so as to boost efficiency and reduce costs. The democratic institutions entrusted with the power of national sovereignty also[K1] enable market players to bargain; this, however, is the biggest obstacle to allowing multinationals to act as they see fit. So the essence of the new colonialism, globalization and so-called free trade is: anti-democracy and anti-sovereignty.

Many western scholars have pointed out that during the globalization process in the past 30 years, the middle classes in western countries have all but disappeared, and the democratic political systems have been trampled upon. The wars launched by US President George Bush under the veil of “exporting democracy and freedom” have aroused indignant protests such as: “George W. Bush has stolen our words to cheat people.” Scholars who sincerely support neo-liberalism have also voiced their concern at the U.S Administration’s abuse of power and the weakening of the principle of separation of powers.

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However, here in China, we’ve long been persuaded into the belief that capitalism is inextricably linked to democracy, and thus ignored the fundamental contradiction between the two. The risks are as follows: when a crisis hits, the negative aspects of market economy and democracy will be exaggerated to the extent that we would subconsciously connect the generation of the crisis with the democratic system. However, we forget that it is just the weakening of democratic supervision that leads to unrestrained conspiracy and the expansion of capitalist power and political power. That’s how the world economy has been hijacked and why those on the bottom rungs of the ladder are suffering most.

To gain access to wider markets and more resources, big bankers and multinationals are doing all in their power to avoid the restriction of local trade unions in the areas of wages and working conditions, thus intentionally covering the prerequisites of neo-liberalism economics theory, and shrugging of the inherent contradictions. For instance, international financier George Soros points out that the Western business world, which has profited so much from the developing world, always plays deaf to the calls for fair compensation for workers and for causing environmental damage in these countries.

Negative income tax, as advocated by Milton Friedman - a strong supporter of neo-liberalism - could be considered an “ideal solution”, being both efficient and fair. But due to its negative impact on big business, the system has never been put into practice. But this does not inhibit some businessmen from trying to twist Friedman’s theory for their own benefit. They lobby governments to open up their markets, claiming this will help lift their people out of poverty; but once they have obtained the government-guaranteed loans and subsidies, or persuaded the governments into launching oil wars, they expect - or even force - the supporters of the free market to fall silent.

This is all due to the selfishness inherent in human beings, thus the value of this as a valid economy theory should not be denied. During the economic crisis, while scholars noisily debate about the causes on the theoretic level, the most important question for Chinese business people is: what forces lie behind the crisis, and what special interest groups are directing all these?

In the face of the global crisis, as new US President Obama takes office, he is busy discussing whether or not the completely “free” market economy should be abandoned and if the government’s role should be strengthened, suggesting the solution is merely a process of correction.

However, China faces a two-sided problem: on the one hand, before the complete establishment of a market economy, and before seeing its positive effects, we find ourselves in the depths of an economic crisis of epic proportions. In such a crisis, it is private business that suffers first, and what’s worse, our lack of clear understanding may deprive this sector of the opportunity for growth in the future. Those on the political left are blaming the market economy as “the source of all evil”, and demanding a return to the system that existed before reforms, that is, planned economy.

On the other hand, the proper supervision of government administrators over the market economy may not be well policed. And this can give bureaucrats an ideal opportunity to expand the interests of their own small groups. Under present economic conditions the expansion of domestic demand should not be hijacked into simply expanding the interests of bureaucrats. 

The challenges involved in bringing up solutions to problems in both these aspects and maintaining a suitable balance, are much tougher than those facing the US at present. 

In his speech, Lee seemed excited as he announced that AUO would be an active supplier of the “Home Appliances to the Countryside” program launched by the Chinese government. But there was something unusual about his address - on the list of partners of AUO involved with large-sized panels, no TV manufacturers from the mainland featured.

Financial crisis has drastically reduced demands for large-size flat screen panels, leading to a collapse in prices. And it seems the sudden market changes have resulted in flat panel suppliers and TV manufacturers adopting radically new positions in their negotiations. For TV makers in Mainland China, steadily increasing market demand has helped shift the advantage in their favor. And that is why it took such a short time for panel suppliers and buyers from both sides of the Strait to reach agreement after a long-lasting deadlock - and why Lou seemed so excited about his 20-minute speech.

At the forum, nine TV manufacturers from the mainland signed a US$2.19 billion “Letter of Intent (LOI) for Strategic Cooperation and Procurement” with Taiwan-based LCD panel suppliers. The LOI will bridge the distance between suppliers and buyers. However, the problem is: will this promise of cooperation mark the start of closer partnership, or is it merely a “fugitive flower” which will wither with the reviving of economy?

For TV makers in Mainland China, steadily increasing market demand has helped shift the advantage in their favor.

Market Changes amid the Financial Crisis

Taiwan is the world’s third largest flat panel display production base after Japan and Korea. LCD panel makers AUO, CHIMEI, CHUNGHWA Picture Tubes, INNOLUX, and HANNSTAR are known as the “five Taiwan tigers” in the flat panel industry. Indeed, at one time, Taiwan suppliers held about 50% of the global panel market, playing a vital role in flat panel supplies.

In contrast with Japanese and Korean panel makers, who also have their own TV manufacturing facilities, Taiwan companies are mostly focused solely on the production of panels. And for quite some time, Taiwan-based panel makers have always been the leading suppliers to TV manufacturers in Mainland China.

However, when flat panels were in tight supply, Taiwan makers were not above using their favorable position to milk extra profits from Mainland TV manufacturers in China, just like their Japanese and Korean counterparts.

So, when Ching-Siang Liao presented letters of invitation to Lou and other Chinese government leaders at the forum, and when Kuen-Yao Lee smiled as he announced his company’s involvement in the “Home Appliances to the Countryside” program, it is understandable that there was some surprise amongst those watching. 

At the beginning of his speech, Lou also enthusiastically declared, “Thanks to the economic crisis, companies across the Strait have finally reached a common understanding, for which we have worked for years.”

Apparently, this sudden about-face is happening for one fundamental reason: the economic crisis has largely changed the supply and demand relationship, as well as the outlooks of companies across the Strait.

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After September 2008, the subprime lending crisis that originated in the US turned into a global economic crisis. This resulted in a drastic reduction in consumer demand for display products on the global market and LCD panel supplies far exceeded demand. As bottom line prices continued to fall, almost all panel suppliers found themselves in a loss-making situation.

And of course, the Taiwan panel suppliers were no exception. The five Taiwan tigers are all cutting back on production or postponing new projects. Statistics show that in 2008, exports of large-sized LCD panels from Taiwan dropped by 69%.

In a contrast to the woes of the panel suppliers, the flat panel TV market in Mainland China has maintained a relatively steady rate of growth, leaving TV manufacturers there sitting pretty.

Figures provided by the China Video Industry Association show that output and sales of LCD TVs in Mainland China were 40.9 million units and 11.77 million units respectively in 2008 - accounting for 45.8% and 33% of the total TV output and sales. Those figures were up 10% and 11.3% respectively on those of 2007.

Even more encouraging for the industry, consumer demand for flat panels (mainly LCD displays) to substitute CRT (cathode ray tube) displays in Mainland China is still rapidly increasing. On February 1st 2009, the “Home Appliance to the Countryside” program was launched, providing strong support for the increasing of the sales of flat panels. 2008 saw a major growth of LCD panel sales in the tier-III and tier-IV markets.
Figures from the same source also show Chinese TV manufacturers overtook foreign brands by holding 70% of market share. Apparently, in the “Home Appliance to the Countryside” program, Chinese makers hold the advantage in terms of channel and product costs.

With the market tilting strongly in their favor, Chinese TV makers are highly but understandably confident at the moment. In fact this is the reason the “cross-strait flat panel display partnership” program, which was initiated back in early 2008, suddenly gained momentum at the end of the year after remaining stalled for so long.

The question is, now the financial crisis has brought suppliers and buyers closer together, but once the tight supply and demand gap is bridged, will the “honeymoon” continue? In an effort to weather the storm flat panel giants in Japan and Korea are cutting back, or even halting, production lines. Market research company, Display Search, estimates that the tight supply and demand situation will start to reverse in the fourth quarter of 2009. Then only capital links can bind the two sides together.

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No Easy Job to Link Up through Capital Operations

However, TV manufacturers in Mainland China are reluctant to remain simple buyers.

At the Fuzhou Forum, Konka Vice President Chen Yuehua expressed what was on the minds of the Chinese TV manufacturers: “To build a solid relationship with Taiwan companies, capital cooperation is necessary.”

On November 19th 2008, the China Video Industry Association (CVIA) launched a work group in Beijing to promote the flat panel industry across the Strait, with TCL, Changhong, Konka, Skyworth, Hisense, Haier, SVA, PRIMA, Panda, AUO and CHIMEI all registered as members. Soon, it was rumored that while the Taiwan panel suppliers are worrying about the economic chill, TV makers from Mainland China might take advantage of the opportunity to acquire a number of the Taiwan panel manufacturers.

However, in an interview, CVIA Secretary-General Bai Weimin denied this indirectly, claiming: “Cooperation has just started, and all the issues require further negotiation. Even the measures to fulfill the six points of strategic consensus have not yet been reached.”

At the moment it is absolutely unrealistic for Mainland companies to talk about acquiring Taiwan panel makers that operate late-generation panel production lines. According to Taiwan regulations, 5th generation or higher LCD panel production lines must not be established in Mainland China, and those controlling such technology are also prohibited from entering into capital partnership with companies on the Mainland, suggesting strong local protectionism in the hi-tech sector in Taiwan.

In 2005, the world’s second largest wafer OEM (Original Equipment manufacturer) supplier, Taiwan UMC, was charged by the authorities there with “illegally investing in, transferring technologies to, and exchanging engineers with a Suzhou-based chipmaker”. More recently, the president of Taiwan’s largest home appliance supplier, SAMPO, dare not to return to the island following the investment of over 70% of his assets in Mainland China; as this proportion is higher than the limit set by Taiwan regulations, he could face charges on his return home.

However, there is a way out for capital cooperation to support the flat panel display business across the Strait. In 2007, in the face of a severe shortage of flat panels, TV manufacturers in Mainland China began to set up LCD module production facilities to ensure a steady supply of these components. The partnership between Skyworth and LGD provides a best example of this initiative.

Now, Hisense, TCL, Konka, Skyworth, and a number of other leading TV manufacturers, all have their own LCD module factories; but the problem is that the output hovers around 1 to 2 million units, far to meet the soaring growth in the number of TV sets built by these companies. In TCL, the phase-I output of its LCD module factory in Huizhou was 2.33 million, compared to more than 3 million TVs sold by TCL in 2008. In 2009, the planned output is approximately 6 million units, which will mean a 3-million-unit shortfall within the company. In 2008, Hisense and Skyworth both sold more than 2 million LCD TV sets.

It seems inevitable for TV manufacturers to build more LCD module production facilities. In fact Hisense has begun to plan for the third LCD module production line. While most of the recently completed LCD factories were set up in cooperation with Japanese and Korean companies, when it comes to building new facilities it seems likely the TV manufacturers will choose Taiwan panel makers as partners.

This would appear to be the best option for capital cooperation and to consolidate the relationship with Taiwan manufacturers. One source at Chinese TV manufacturer says that Konka, which has always maintained close ties with Taiwan panel suppliers, is planning to invite Taiwan capital to invest in its LCD module factory.

Actually, a simple method does exist to ensure a stable relationship between the suppliers and purchasers across the Strait: signing a contract for “prioritized supplies” and “prioritized purchases”. Still, the situation remains uncertain, with new factors liable to alter the landscape at any time. The most reliable solution remainscapital cooperation. This would mean both sides have an interest in the outcome and diminish the chances of unproductive rivalry.

At a symposium held to celebrate the 30th anniversary of the publication of the Message to Compatriots in Taiwan, Chinese Chairman Hu Jintao put forward six proposals which outlined the Chinese government’s practical approach to the cross-Strait relationship. And now the cross-strait flat panel display partnership program initiated by China’s Ministry of Industry and Information Technology, also aims to demonstrate to Taiwan companies that the Chinese government wants to be pragmatic in dealing with the cross-Strait trade relationship. A sales manager with Taiwan’s AOC admitted that the US$2.19 billion procurement intentions had given many Taiwanese a completely fresh image of Mainland China.

With the flat panel industry being such a huge business in Taiwan at present, there is a strong probability that the views of leading industrial players will carry weight with the Taiwan authorities who will then be forced to backtrack on their current restrictive policies in the hi-tech sector.

Urged by both central and local governments, some domestic commercial banks have already started to show an increase in their lending appetite. Clearly, either on their own initiative or under pressure, the domestic commercial banks will undoubtedly focus their credit extensions on government-backed infrastructure and key projects during 2009 or even for a longer period of time. As the continuous interest rate cuts and expectations of further rate decrease have already squeezed the profit margins of commercial banks, will the government projects become theirshelter?

Looking at the projects themselves, we find it hard to be optimistic, not to mention the relatively weak risk control capacity on the part of domestic commercial banks at present.

The high-speed railway projects favored by commercial banks offer a good example. Risks in the current domestic railway construction model have already been clearly exposed. For instance, the construction cost of the Beijing-Tianjin Intercity Rail came to RMB185 million (US$27 million) per kilometer on average, resulting in an annual loan interest payment of RMB700 million (US$102.3 million). But the operating income now is not yet sufficient to cover operating costs, let alone the repayment of loan principal and interest.

Based on the current mode of operation, the capital chain of China’s railway will be completely broken within three years, said Professor Zhao Jian, with the School of Economics and Management at Beijing Jiaotong University.

At present, the repayment of loan interest and principal could be delayed until the end of the construction period of a high-speed passenger railway line. Therefore, the increasingly serious debt crisis would be temporarily avoided. However, once the new railways were put into use, their sub-standard revenue performance would drag down the asset quality of the commercial banks.

As for large investment projects rolled out by local governments aimed at fueling economic growth, the quality issue is even more worrying. According to information disclosed to the media, the proposed local economic stimulus packages across the country have reached a total of up to RMB20 trillion (US$2.9 trillion) to date. Where does the money for the investment projects come from? In light of the investment plans, the size of local fiscal revenue could only suggest a huge shortfall.

Let’s take Shandong province as an example. On November 12, 2008, Shandong Provincial Development and Reform Commission unveiled 240 projects in eight key sectors, with a total investment of around RMB800 billion (US$117 billion). However, the total fiscal revenue of Shandong province in 2007 only came to RMB160 billion (US$23.4 billion).

According to China’s fiscal stimulus plan, the central and local governments would account for approximately 25% and 75% of the funding respectively. As a result, Shandong Provincial Government has to raise at least RMB700 billion (US$120.3 billion). Based on a required average capital ratio of 30%, the initial fund should be at least RMB210 billion (US$30.7 billion), which is significantly higher than the level allowed by the government’s fiscal position.

It is certain that the momentum of such a kind of investment boom ushered in by local governments would pose tremendous credit pressure on the commercial banks. Recently, there have been several local media outlets covering various pressures imposed on commercial banks by local governments, requiring them to support new local projects with credit extensions.

On December 15, 2008, the General Office of the State Council released the Several Opinions on Promoting Economic Development with Financial Policies (also known as the 30 measures to boost the economy), which set the basic target for money supply growth. The statement said that the growth of the total amount of money supply for 2009 would be 3-4% higher than the sum of the GDP growth rate and the inflation rate, and the growth of the M2 money supply for the year would be around 17%.

According to the estimates of relevant agencies, the new loans in 2009 will reach RMB4.8 trillion (US$701.8 billion) based on the M2 money supply growth rate of 17%. In accordance with preceding practices, the actual amount of money supply will be slightly higher than planned. Therefore, the total amount in new loans in 2009 is expected to be around RMB5 trillion (US$731 billion).

After a credit supply spree, the domestic commercial banks will soon find themselves struggling amid the severe shortage of quality projects. This kind of scenario may even occur as early as during the first quarter of 2009.

Will the commercial banks then become more cautious? In view of the powerful public relations capacity of local governments, it is feared that the commercial banks will ultimately hand out the money as required. According to an earlier survey by the People’s Bank of China, only 20% of non-performing loans at commercial banks were caused by poor management, while operation-unrelated factors are responsible for the remaining 80%.

According to the estimates of industry analysts, by the end of 2007, domestic commercial banks still had nearly US$1 trillion of non-performing assets not disposed of effectively.

Under the requirements of the policies to maintain the economic growth, local governments have rushed to urge commercial banks to increase credit by administrative levers, and applied the visible hand of intervention regarding government-backed investment projects. These actions increase the risks in raising non-performing assets at local commercial banks, making a strong case for caution.

Zhuhai Zhongfu has always been the largest packaging supplier to Coca-Cola and PepsiCo in China. It has about 60% of the domestic market. In a bid to better serve its long-term clients, Zhuhai Zhongfu created a unique production model by setting up its production lines at its clients’ bottling plants. Wherever there is a Coca-Cola or Pepsi production plant, there would be a Zhuhai Zhongfu packaging facility. Over the last 20 years, Zhuhai Zhongfu has established more than 70 subsidiaries across the country. In the first three quarters of 2008, the company’s revenue reached RMB2.4 billion (US$350.9 million).
Zhuhai Zhongfu’s giant operations have largely been built on the efforts of Huang Lefu, the company founder. Huang had a history of dabbling in an assortment of industries including fishing nets weaving, marine battery repairing and manufacturing and spray-bonded cotton production. He is quite sensitive to the market needs.

It was the differences with private investor that caused the Huangs to lose control of their own company.

In the 1980s, when he heard that Coca-Cola would set up bottling facilities in Mainland China, he promptly got a loan to start his plastic packaging manufacturing business. By using advanced imported equipment, he soon won the trust of his customers. In 1996, Zhuhai Zhongfu was listed on the Shenzhen Stock Exchange. As the beverage giants expanded into China’s second- and third-tier cities, Zhuhai Zhongfu earned annual growth of 15% to 20%. With its dominant market position, Zhuhai Zhongfu also planned to gain a foothold in the beer bottling market.

But Huang Lefu wanted more. He believed that introducing strategic investors would help boost the company’s development and lay a better foundation for his son, Huang Zhaohui, to succeed him. After talks with several potential strategic investors, Zhuhai Zhongfu ultimately sold its 29% stake to London-based CVC, Europe’s second largest private equity fund, in 2006. The price was RMB8.27 (US$1.2) per share. The deal made CVC the largest shareholder in the company. The total price tag was more than RMB1.65 billion (US$241.3 million), nearly twice the value of the company’s net assets.

On the surface, it seemed as though Huang had pulled off an awesome deal. Furthermore, CVC could also bring in other resources, in particular, funding. CVC’s capital infusion and credit extension from local and foreign banks could allow the company to buy advanced machines and open up new production lines. The deal also explored more potential international clients since some CVC global acquisitions include international beer giants. Most importantly, CVC promised to retain the existing management team and would not be involved in daily management. The private equity fund would only send auditors to regularly review its financial statements.

However, Huang Lefu’s dreams failed to materialize and before long, his foreign investor was calling the shots. In the initial acquisition talks, CVC said it would appoint only one or two directors while allowing Huang Lefu to take a back seat as the company’s advisor. But soon after the Ministry of Commerce approved CVC’s acquisition of Zhuhai Zhongfu in October 2007, all of the company’s directors and senior executives resigned. This effectively left the Huang family with only one seat on the board, occupied by Huang Zhaohui, while CVC took over three-quarters of the seats on the board and two-thirds of the seats on its supervisory committee. Soon, the company’s human resources, corporate planning and financial department bosses had all been replaced. Suddenly, general manager Huang Zhaohui became a commander with no soldiers. The newly appointed general manager, Wang Yuling, and other executives had all been hired after CVC took over control of the company.

In fact, there were several factors that led to the Huangs being out-maneuvered. The Huangs hold different views with the investor over corporate management Many of CVC’s new strategies and systems for business improvement were difficult to implement. But more importantly, the company’s return on investment was sagging badly, and its business expansion combined with shrinking market demand was cutting into profits. The beverage market was approaching saturation while tough competition was eroding profit margins in plastic bottle manufacturing.

In terms of new business, Zhuhai Zhongfu had invested more than RMB200 million (US$29.2 million) over the past five years but the project failed to produce results due mainly to higher costs for PET beer bottles. Over the past two years, Zhuhai Zhongfu’s growth had slipped by 6.7% and 16% respectively, while rising prices of raw materials, higher labor costs and taxes added to its misery. Therefore, CVC decided it was time to do away with the Huangs’ traditional family management style. As the global economic downturn deepens, CVC plans further layoffs in 2009.

Zhuhai Zhongfu’s transition should be considered a good deal given the current financial crisis. But there are many people who consider the Zhuhai Zhongfu case another example of how foreign capital assimilates quality Chinese companies. In either case, the Huangs will have plenty of time to reflect on the decisions that led to their demise. In the meantime, the remaining 11.8% of the company’s shares currently held by the Huangs will probably continue to be sold off.

So far, no Chinese company, except the unfortunateSAIC, has been accused of impairing bilateral relations in the process of expanding into overseas market. Since its acquisition of SsangYong Motor in 2005, more than half of the RMB4 billion (US$584.8 million) SAIC invested has evaporated with the shrinking of SsangYong’s market value. This was more than unfortunate for SAIC, which was expecting its investment to yield huge returns after SsangYong posted results in the black for the two fiscal years 2006 and 2007.

But SsangYong, in its weakened state, has been submerged by the global financial crisis, just like General Motors Corporation and Chrysler LLC. Crisis within the company exploded at the end of 2008 and intensified in January 2009. Although SsangYong’s losses began to mount, union members went on strike for higher salaries, and SAIC said it would provide relief funds only after implementing cuts in staff numbers.

SsangYong’s labor unions held a rally against “the restructuring and technology transfer” in front of the company headquarters at Pyeongtaek.

In Korea, workers have a strong protective instinct towards their companies. There was general support for the position of holding together and fighting against SAIC. The labor union rejected the offer and SAIC, in the light of the continuing losses of SsangYong, refused to continue pumping money into what it saw as a bottomless hole.

The resulting fiasco has been extremely embarrassing for SAIC. Buying SsangYong was the company’s biggest deal in its quest for global expansion. The capital involved had been accumulated from its sales of various brands in China, including Santana and PASSAT (brands operated by Shanghai Volkswagen in China). Just four years ago, SAIC’s acquisition of SsangYong was widely cited as a success story in China and a model for Chinese auto makers to follow.

Now, the picture has changed utterly. The episode is being held up as another case of expansion failure, following on the heels of TCL Corporation’s purchase of Thomson SA and Lenovo Group Limited’s buying IBM’s PC business - all frustrated attempts at international expansion.

Its special significance is that it is the first time that a player in China’s auto industry has suffered losses from an expansion attempt, and the price paid for this lesson was high. In fact, the losses incurred exceeded the entire market value of Geely Automobile, China’s leading private automaker. Now the wisest option for SAIC appears to be to cut its losses promptly.

Knee-deep in Financial Crisis

In acquiring SsangYong, SAIC was interested in both its technology and global presence, but never expected that just four years later it would instead be knee-deep in crisis.

In January 2005, SAIC paid US$500 million for 49.82% of the shares of SsangYong, which was having operational troubles at the time, to become the major shareholder. It raised its stake to 51.33% in 2006 and marked the first move into overseas acquisitions among Chinese automakers.

After gaining a controlling interest in SsangYong, SAIC adopted a series of measures to improve its competitiveness such as reducing expenditure, reexamining parts costs, and taking advantage of its sales network in China to promote SsangYong sport utility vehicle (SUV) models. Consequently SsangYong saw steady increase of sales in China.

In 2006, SsangYong’s core business recorded a profit and in 2007 the company as a whole had been turned around. Up to November 2007, SsangYong sold more than 30,000 vehicles in China, up 230% compared with the same period in 2006, % higher than the average for China’s SUV sector, which was 60%.

Thanks to aggressive promotion by SAIC, three flagship models, ActYon, Rexton II and Kyron08, achieved enviable market positions for SsangYong, while its diesel SUV captured 90% of the sector in China. In 2007, SAIC announced that, to improve on delivery of SsangYong’s brand slogan “the world’s diesel power expert”, it would expand its number of local dealers to 70 and service depots to 100 to cover the whole Chinese market.

But this period of success was also accompanied by demands from the labor unions for higher salaries and other compensation. In keeping with tradition in Korean companies, when workers at the company saw the substantial profits being achieved, they felt this was a good reason to demand salary increases.

However there was a problem. In spite of spectacular growth in the Chinese market, SsangYong, with a staff size of more than 7,100, came out as the worst performing of all Korean auto makers over the previous four years, with output lingering around the 90,000~150,000 unit mark. Due to low efficiency, labor costs for each vehicle accounted for more than 20% of the total cost, compared to 10% for competitors such as Hyundai Motor Company and Kia Motors.

On top of that, SsangYong was also affected negatively by narrow product range. In 2008, the price of crude oil was rocketing, resulting in plummeting sales for large-sized, luxury vehicles. However, SsangYong did not have any medium or economy class models with which to substitute its SUV gas-guzzlers.

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Apart from few SUV models, the only high volume seller SsangYong had on the sedan market was Chairman, a large luxury sedan. Encouraged by SAIC, in 2006 SsangYong started research into developing a smaller-sized cross model, the C200, which has yet to be released. However, amid the financial crisis, friction between the two shareholders escalated.

During the first nine months of 2008, SsangYong’s losses totaled KRW108.3 billion (US$70.2 million). Statistics show that in 2008, the company sold just 92,665 units, 29.6% less than 2007, with sales in December dropping by more than 50%. At the same time, in the US the three American auto giants were seeking help from the Federal Government, closing down production facilities and cutting staff.

In spite of these difficulties, SsangYong’s labor union still resisted any shift in its stance. In November, SsangYong sold just 1,632 cars in Korea and exported 2,203 units, down 59.2% and 64.8% respectively compared with the same period in 2007. As a direct result of plummeting sales and union intransigence, by December 2008 SsangYong could not afford to pay salaries.

Escalating Conflict

The conflict escalated as SsangYong’s operations situation grew steadily worse. Although SAIC did its best and made large compromises, it still failed to reach an agreement with the SsangYong labor union.

In early December 2008, SsangYong sold off half of its production facilities in Pyeongtaek at a price of KRW40 billion (US$25.9 million). SsangYong has also announced that it intends to sell off other assets, including projects under construction, to improve the short-term financial situation. Major reductions in profits have forced the company to improve cash flow to maintain routine operations.

On December 19th, 2008, SsangYong wrote to all its employees saying, “it is estimated that the Company will have a deficit of KRW100 billion (US$64.8 million) in 2008. In December, due to lack of operating funds, it is impossible for the company to pay salaries.” SsangYong officials claimed the payment of salaries was “postponed”, not cancelled.

SAIC offered to provide SsangYong with US$200 million (about KRW257 billion) in relief funds to cover salaries and operating expenses, but only on condition that SsangYong let go 2,000 workers. The union, however, again rejected the demand, although the majority shareholder thought such a demand quite reasonable.

On December 22nd, SsangYong labor union held a rally at Pyeongtaek against “the restructuring and technology transfer”. More than 1,000 employees demanded that SsangYong cancel restructuring, and not export technology to SAIC. What’s more, they voiced strong disagreement with the postponing of salaries for December.

The labor union continued to fight tooth and nail for its demands. Union representatives said that if they were asked to share the pains of the worsening situation, then the company must first halt capital investments and technology transfer. They promised to fight to the death against technology transfers that concern the lives of 10,000 workers.
On December 23rd, SsangYong Motor president Hyung-Tak Choi, in a meeting with the Korean Ministry of Knowledge Economy, indicated that if SsangYong could not meet the conditions of the restructuring, SAIC might exit.“That afternoon, the labor union held another rally, this time right in front of the Pyeongtaek government building. The union again blamed SAIC for the situation. It claimed the Chinese company had failed to keep its promise to invest KRW1.2 trillion (US$777.6 million) to reach an annual output of 330,000 units. The union held this, with the transfer of auto technology, to be responsible for the operational crisis.

On January 16th 2009, the SsangYong labor union held a rally in front of the Chinese embassy in Korea. The protestors, chanting slogans and waving placards, accused SAIC of stealing technology from the company and violating its cooperation promises. They also demanded the withdrawal of the Chinese investor. In this way the union hoped to escalate the issue into a diplomatic problem.

On the second day, 13 union members blocked a car carrying 3 SAIC employees, holding them under duress and confiscating their computer notebooks on the grounds that “there was confidential information stored in the laptops”. SsangYong filed a suit against the union members, but no ruling has been made so far.

On February 6th, the Seoul Central District Court granted bankruptcy protection to SsangYong. By this stage, SsangYong’s debts totaled KRW1.5 trillion (US$972 million), versus total assets of KRW2.2 trillion (US$1.4 billion). At the moment, SsangYong holds about KRW30 billion (US$19.4 million) in cash, not even enough to run its production facilities for a single month. Yet it takes at least four to six months to initiate the receivership process and seek the court’s approval for the receivership plan to revive the company.

The court named former Hyundai Motor president Lee Yoo-il and SsangYong executive director Park Young-tae as appointed managers. Under the ruling, SAIC will still hold its stake in SsangYong but must give up its management rights. This means SAIC cannot sell off or transfer SsangYong assets or make major management decisions. However as a majority shareholder, it is allowed to sell its stake in the over-the-counter market.

Korean media has reported the story under the title, “China’s first direct capital investment in Korea fails.”

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Caution, Overseas Expansions

So it looks like endgame for SAIC’s Korean adventure. As the majority shareholder, SAIC has given up its management power, a heavy loss that will apparently force it out of SsangYong.

“It is improper for a majority shareholder to shift responsibilities onto the workers”, commented a leader of the SsangYong labor union. Addressing the accusations from SsangYong, Jiang Zhiwei, Vice President of SAIC Group, replied, “if SsangYong refuses the restructuring, we will not provide any financial assistance.”

Thus the two different stances are crystal clear: different understandings on business culture, which have led to an escalation of the dispute. In China, the business sector has expressed sympathy with SAIC’s position and disagreement with the SsangYong labor union’s stance.

In Korea, a mix of nationalism and patriotism has resulted in broad and strong support for the Korean auto makers. At a time when international auto giants were sweeping the world, Korea took a closed-door approach, putting restrictions on imports and encouraging government organizations and the public to buy domestically produced cars. This helped boost the rise of brands such as Hyundai, Daewoo, Kia and SsangYong.

Therefore, auto workers in Korea have a much stronger awareness of corporate interests being closely tied up with the national interests than those of other countries. They take it for granted that SAIC should look after SsangYong’s well-being, as well as Korea’s national interests.

Also in this patriotic mold, SsangYong’s labor union was naturally hostile to SAIC, the overseas buyer. At the heart of this mistrust is a desire to protect the core technologies, as well as employment opportunities. In the 4 years following SAIC’s purchase of stake in SsangYong, the planned joint venture never fully materialized. Although SAIC was the majority shareholder, SsangYong kept itself relatively independent.

For the Korean labor unions, exporting SsangYong technology and products to China would be disastrous. It would result in Korean workers losing their jobs, and the entire whole company might end up being transplanted to China. So, they chose to get rid of SAIC by filing for bankruptcy and possibly finding another buyer. Even if this risked the complete collapse of the company they saw it as preferable to giving in to SAIC.

Even though it was the biggest shareholder, SAIC had restricted control over SsangYong, and was always at a disadvantage in the talks with the labor union. SAIC misunderstood the situation in Korea and expected the restructuring would be accepted with an open mind, never foreseeing that the different outlooks on business culture would put it in such an awkward situation.

With no signs that the global financial crisis is likely to improve soon, SAIC looks like paying a big price for submitting to the SsangYong labor union’s requests. According to the strategic plan as published by SAIC and SsangYong in early 2006, in the period up to 2010, the former will inject about US$2.5 billion into the latter for development of new models, new technologies, new production facilities and expansion of sales network. If this plan has actually gone ahead then, SAIC will suffer badly given SsangYong’s financial hemorrhaging.

After the acquisition of Nanjing Automobile Corporation, SAIC also has the headache of how to position Roewe and MG, two self-owned brands of Nanjing Automobile. On top of that, it needs more money to support the development of its own brands.

It is a fact that in the auto industry few acquisitions of foreign carmakers succeed and most buyers end up regretting the takeover deals. US giant Ford Motor Company bought Jaguar, Land Rover and Volvo. But so far the first two have already been sold on and Volvo is attracting plenty of attention from potential buyers. Therefore, for SAIC, it would be in its best interests to cut the losses.

When Ford and General Motors, who have always adopted a multi-brand strategy, are suffering from record losses, the smaller players such as Honda, Mazda and Subaru in Japan are seeing steady growth. This should provide the best example for Chinese auto companies: no haste, no waste. To expand into international markets, it is better to focus on empowering one’s own brands.

“Coca Cola is a company relying on marketing, not on producing,” says Coca Cola China CIO George Kuan. In fact, Coca Cola mobilized for the Olympics as soon as Beijing was awarded the Games back in 2001. Various Olympic-related marketing programs helped propel Coca Cola’s sales in China to new highs: on the night of the opening ceremony, nearly 300,000 cans of Coca Cola were sold at the Bird’s Nest (the National Stadium in Beijing).

It might seem that an IT division wouldn’t have much to do with Coca Cola’s slick ads. But in reality, these promotions require billion dollar marketing budgets, and that kind of money needs to be precisely monitored through the IT system.

Although Coca Cola China’s IT division is just one part of the company’s massive global IT infrastructure and an executor of its strategy, Kuan and his group have a relatively large space to make innovative move thanks to the market’s rapid growth and uniqueness. With the support of a powerful advertising and marketing campaign over the past seven years, Coca Cola’s sales have more than doubled in China. It is now the fourth largest market for Coke after the US, Mexico and Brazil.

“In spite of the financial crisis and a sliding global economy, the demand in China’s market remains robust, which suggests the best opportunities for IT innovations,” explains Guan. The China region used to simply follow the business system or procedures developed by Coca Cola for other regions. Now, however, some innovative programs of the China IT division have caught the attention of Coke’s other global branches, and some of its programs[K2] are even being implemented in other countries and regions.

Kuan is not a unique case. With the increasing strategic significance of the Chinese market, CIOs from other multinationals in China have new opportunities to become more influential in their corporate environments.

The uniqueness of China’s consumer market has forced Kuan to make some innovative attempts while complying with the global standards.

Local Practices

Coca Cola China’s IT division has about 30 employees；Kuan is the IT director of Coca Cola Greater China. Like most multinational IT divisions, the China region IT division is part of Coca Cola’s global IT operation. One of the advantages of this vertical organizational structure is that an optimized global distribution of human resources is available. For instance, when the China region was implementing the ERP (enterprise resource planning) system and it needed a technology expert familiar with a certain module, Kuan was able to tap Coca Cola’s global IT network for the right person. Similarly, Coca Cola China’s IT employees are often sent abroad to provide support. Because the IT projects are standardized and implemented globally, the global organizational structure can be optimized.

Nevertheless, the uniqueness of China’s consumer market has forced Kuan to make some innovative attempts while complying with the global standards. “Chinese consumers are very price-sensitive,” Kuan points out. Even a slight price difference can tilt Chinese over to buying a Pepsi instead of a Coke. This is in contrast to Western countries where consumers tend to be more brand loyal. Consequently, Coca Cola spends hoards of cash on advertising and marketing in a bid to build brand loyalty.

“99.61% of Coca Cola is carbonic acid, syrup and water. Who’s going to buy that unless you advertise?” That comment came from Robert Woodruff, the[K5] former head of Coca Cola.

In the fast-growing Chinese market, branding is taking on special significance and is always the focus of Coca Cola China. The day after Beijing was awarded the 2008 Olympics in 2001, Chinese consumers suddenly saw store shelves stacked full of glistening commemorative Coca Cola cans in honor of the winning bid. During the 2008 Olympic Games, the entire city was festooned with Coca Cola ads. Coke’s status as a top Olympic sponsor belittled Pepsi Cola.

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“Coca Cola focuses its promotions on TV, and the IT division doesn’t have much to do.” says Kuan. Although the IT division also launches websites for major initiatives and organizes online surveys, it has done more for the back-end business-monitoring the flow of marketing money, a critical point for a marketing-focused company.

Every year, Coca Cola delivers a marketing budget for the following year. However, it used to be unclear how the money would be distributed and used in the marketing campaigns since the ad placements and marketing activities varied depending on the market, and the programs were packaged in a complicated way. It was a real headache. The situation required an IT system to be flexible in support of fund management.

Kuan was tasked with putting all the marketing money allocated to Coca Cola China under the supervision of the IT system. The information system also performs automatic regular budgetary check-ups, and Kuan has designed various methods to maintain budgetary controls. Upper limits have been established for budgetary allocations. If the limits are exceeded, notices and countermeasures are activated.

The IT system also performs several kinds of pre-defined analyses reports to locate and analyze the discrepancies between budget figures and the actual amounts spent in different periods. This provides the business divisions with enough data to take corresponding measures and to plan for future budgets.

Midway through 2008, Kuan started the budget management program; the China region was the first stop for the initiative. “The project is quite difficult to execute,” says Kuan proudly, “But it does manage to control every penny spent on marketing.”

Chen Qiwei’s projects have made him a center of attention at the annual Bausch&Lomb Global CIO Conference.

Besides marketing management, Kuan has attempted to adapt channel sales to the China market. In China, Coca Cola has a powerful distribution network, with more than 30,000 distributors and 1.3 million contracted retailers. But compared with the global market, China has very scattered markets and diversified and complicated retail terminals (small stores in remote villages, large supermarket chains in cities, and distributors in between). So channel management is much more difficult than in other countries and regions. This makes it challenging for Coca Cola to transplant its international expertise into China.

This massive network of scattered sales outlets also makes it difficult for Coca Cola to get a clear picture of its retails sales. Consequently, it is troublesome for Coke to quickly draw up an effective marketing strategy.

“The task of the IT division is to help the business divisions sell more products,” explains Kuan. Coke’s sales people can use the sales management system to extend the company’s reach further across the country. Currently Coca Cola uses two channel models in China: supplying directly to large supermarket chains like Carrefour and Wal-Mart outlets in big cities, and indirectly to retailers in smaller cities and remote regions through the distributors.

To collect detailed retail data, Coca Cola employs specific sales people for its distributors. They take orders directly from the retailers, and deliver them through the IT system to the distributors, who are responsible for delivery of products to retailers.

The sales forecast system also powers Coca Cola’s rapid supply chain. Using the IT system, the forecast center at the China Region headquarters can distribute the inventories to branches and prepare a six-day safety inventory for first-level distributors.

Kuan’s IT projects have “Chinese characteristics” built into them to support the business divisions. But Kuan is more excited about the e-map and database project that he has worked on for some branches in China.

In these branches, Coca Cola’s sales people are able to check basic information and sales figures about the sales outlets with the e-map. They can also get information about the dynamics of the business organizations in certain regions as well as the distributions of competitors. The system also works out the most efficient delivery routes based on the locations of orders.

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Exporting Innovation

Coke’s global management system is mature enough for branches in different countries to copy and adapt it to their local markets. As for the IT construction, most multinationals are adopting a strategy similar to that of Coca Cola-taking the advanced procedures in the EU and America and fitting them into emerging markets. And CIOs from the China region are more often becoming the implementers of their company’s global IT strategies.

In fact, the fast-geared Chinese economy has provided new opportunities for CIOs like Kuan. “The robust growth in China has given us the chance to surpass other countries in terms of IT construction.” Coca Cola China region has always followed the IT projects that were first launched in America or Japan. But recently, Kuan has exported some of his own expertise to other countries.

Some other CIOs in China have also attempted innovations to support the rapid growth of their companies in the Chinese market. Many of those innovations are now being applied in corporate communities outside China.

Thanks to Gui Weidong’s success of building a solid foundation for InBev China, AB InBev China has decided to integrate the facilities and channels of the former Budweiser into InBev’s IT platform.

Chen Qiwei joined Bausch&Lomb China in 2001. Before that, he worked in HP’s IT division. HP is highly IT-based, and Chen learned a lot from its IT management system. However, HP’s China region generally just implements its global IT strategy without creating much innovation.

When Chen was hired by Bausch&Lomb, the company’s IT division in China was still in the preliminary stage of construction. Chen was excited because he saw the opportunity to put all his talent to work. The first IT program he completed at Bausch&Lomb was the distributor management system in 2001. Chen used an online software-leasing service model to provide 13 big distributors with free IT services. The system controls the distributors’ sales and inventories dynamics. Most Bausch&Lomb distributors were private business owners in Zhejiang and Jiangsu provinces, who had no concept of modern management techniques. With the standardized IT system, Bausch&Lomb is now able to inject advanced management ideas into the minds of those distributors.

There is nothing particularly novel in Bausch&Lomb’s distributor management system. But in 2001, the adoption of an online software-leasing model marked a really big innovation. Based on its success in China, Bausch&Lomb promoted this model to other markets such as India.

Since then Chen has led one independently developed IT project every year to improve Bausch&Lomb’s business in China. So far, almost all his IT projects have been implemented in other branches across the Asia-Pacific region, Australia, Malaysia and other regions.

“Innovations are a forced result,” says Chen. He believes that the growth of a number of multinationals in China has doubled or more compared to their growth in the rest of the global markets. Bausch&Lomb, for example, has had single digit growth internationally, but it has seen double digit expansion within China. To improve performance, the IT divisions of multinationals in China must cooperate more closely with the business divisions in terms of localized innovations.

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Elevated Positions

The elevation of the China market’s position in overall marketing strategies and the transmission of expertise from China to the global marketplace have given new status to the CIOs in China.

Chen’s projects have made him a center of attention at the annual Bausch&Lomb Global CIO Conference. “I was asked to deliver reports at the conference every year. So, people had expectations for me.” Chen understands how Bausch&Lomb’s growth in China’s emerging market has given him the best opportunity to leverage his talents. That, in turn, has increased his profile within the company.

But many other CIOs believe their main responsibility is to simply carry out the IT strategies that are developed by their overseas headquarters, which tend to have very sophisticated procedures and technologies. There is indeed much to learn. However, the business environment keeps changing, so even a heritage company like Coca Cola can provide people like Kuan with a steady supply of innovation challenges. But before those opportunities are presented, one must be prepared; a successful CIO must be innovative, professional and experienced in project management and execution.

Gui Weidong is the China business system integration director at Anheuser-Busch InBev. Because of his innovation expertise, he has been chosen to lead the business system integration program for the China region during the merging process. Recently he has been promoting a suite of global business planning systems in China for distribution and channel management.

The system will integrate the management of distributors, the profit-making capability of channels, retailers, the performance of sales people and bonus distribution. Anheuser-Busch InBev has completed the channel and sales integration in the Zhejiang market. The scale and benefit superiority of acquisition is beginning to show.
In July 2008, Belgium brewer InBev announced it was buying Anheuser-Busch, the parent company of Budweiser, for USD52 billion. This biggest ever acquisition deal in the beer industry was completed at the end of 2008, making Anheuser-Busch InBev the biggest beer brewer in the world.

Now, the integration of the headquarters of the two entities in China has also been completed. Next, it plans to integrate the business divisions and the production facilities in China. Since 2006, using a unified IT platform and standardized business procedures, Gui has incorporated about 20 facilities under InBev China onto the same management platform. This has helped the Inbev China headquarters transform from a capital-restricted group to a management center. Thanks to his success of building a solid foundation for InBev China, AB InBev China has decided to integrate the facilities and channels of the former Budweiser into InBev’s IT platform.

This year, Gui is working to copy the IT systems established by InBev China, including the distributor and channel management system, into the system used by the former Budweiser China.

Before that happened, Moody’s Investors Service had already decided to downgrade the corporate family rating and senior unsecured debt ratings of Neo-China Land from Caa1 to Ca. The ratings outlook is negative, which reflects significant uncertainty over Neo-China’s ability to service its near-term financial obligations, as well as potential recovery prospects for debt holders.

Founded in 1999, Neo-China Land went public on the main board market in Hong Kong in 2003. Its main focus has been real estate development, primary land development and assets operations. It has developed more than 20 large real estate projects in Shanghai, Beijing, Tianjin, Shenzhen and Chongqing, including famous projects like Neo-China Chanba Byland (Xi’an) and Neo-China Laochengxiang (Tianjin). Its market value once hit HKD9.6 billion (USD1.2 billion).

In 2007, as China’s real estate industry saw rapid expansion and land prices skyrocketed, Neo-China Land was quick to capitalize. Its primary strategy was to make large scale land purchases and expand nationwide by securing several projects through acquisitions. One of its largest investments was the Zhuhai Qiao Island project which cost nearly RMB3.1 billion (USD453 million).

Within a year, the developer’s land reserve had risen by nearly 90%. By October 31, 2008, its land reserve has amounted to nearly 14.8 million square meters. In 2007, Neo-China Land even had plans to increase its market value on the main board in Hong Kong to RMB30-50 billion (USD4.3-7.3 billion), and its land reserve to 20 million square meters within three to five years.

Times were good - then 2008 arrived - with a thud. China’s real estate industry stalled. A few developers like Vanke quickly slashed prices to keep cash flow going. However, most developers suddenly found themselves in a deep freeze, and their fund chains were put under severe stress. Neo-China Land was no exception.

On January 23, Neo-China Land issued its interim report for 2008, which said that in the six months ending October 31, 2008, its turnover amounted to HKD57.8 million (USD7.4 million), a drop of almost 95% from the same period the year before. Equity holders lost a combined HKD271.4 million (USD34.9 million), in stark contrast to the year before when they shared a profit of HKD132.7 million (USD17.1 million). In the meantime, the company’s cash and bank balances totaled about HKD2.52 billion (USD324 million), down by almost half from what it had at the end of April earlier that year.

The massive fund raising drive in 2007 turned out to be a double-edged sword. Neo-China Land was under considerable pressure to pay back the principal and interest of the bonds it had issued. The interim report also revealed that by October 31, 2008, Neo-China Land’s equity totaled HKD8.46 billion (USD1 billion), the current ratio was about 1.85 and net debt amounted to HKD6.59 billion (USD849 million). This meant that its gearing ratio was up to 77.8%.

According to the report by CICC, the company has USD400 million of senior debt that will fall due in 2014. Neo-China Land’s liabilities also include HKD940 million (USD121 million) in convertible bonds, HKD3.18 billion (USD409 million) in bank loans, and HKD6.14 billion (USD791 million) in account payables.

CICC also pointed out that first redemption for convertible bonds maturing in June of 2011 (redeemed at 120.103) will be due on June 12, 2009, involving around HKD1.13 billion (USD145 million). Since the HKD6.2 (USD0.79) conversion price was much higher than its share price when trading was suspended at the beginning of 2008, (HKD4.95 (USD0.63) per share), there is every reason to assume that most convertible bond holders will want to redeem instead of converting. This will make a bad liquidity position even worse.

If the worst-case scenario becomes reality, the creditors will demand immediate liquidation of the USD400 million principal that matures in 2014 due to the default coupon payment of USD19.5 million, plus the HKD1.1 billion (USD141 million) convertible bonds that are due in June 2009. Neo-China Land will then need to pay nearly HKD3.9 billion (USD502 million) in cash within six months. Its cash and bank balances, which total around HKD2.5 billion (USD322 million), will simply not be able to cover this demand.

Neo-China Land is also unlikely to get any outside help. Bank loans are unlikely. Although the People’s Bank of China (the central bank) has eased its monetary polices, the banking sector remains very cautious about the increasingly risky real estate industry. And a company like Neo-China Land, which can’t even meet its interest payments, is the last kind of situation a bank wants to get involved in. Conversely, any hopes of the company raising new capital are dim at best. Trading of Neo-China Land’s shares has been halted for over a year. Several high-profile dismissals and resignations have further scarred its reputation, and thus significantly cut into investor confidence.

From its large-scale fund raising and land acquisitions over the last two years to its failure to sell its real estate projects soon enough to make its money back, Neo-China Land has made every mistake a developer can make. Neo-China Land has become a textbook example of what can happen to a Chinese real estate company once investment dries up. And the story isn’t over yet.

Founded in 2003, Liba now covers nearly 100 shops in Beijing selling a host of mainstream decorating material brands. However, it should be noted that Liba is not just an e-commerce website, but also a web community which hosts forums on home decoration and other topics. It attracts huge numbers of consumers who use these forums to exchange ideas on such subjects as home decoration, wedding planning, or even getting a driving license. But in addition they can also take advantage of commercial promotions organized by Liba. Thus, unlike many other community based web sites, Liba has been extremely successful in making the leap from community information to commercial operation.

Reverse Matching

“We are engaged in those businesses in which there is marked information asymmetry; home decoration, wedding organization and driver training for instance. We attract consumers by lowering the cost of getting relevant information,” says Xu Xiangtao, co-founder of the website. The first step in the website’s business model was to develop a user base through its community forum element. In fact, the website started out life as the “Happy Liba Decoration Forum” (or BBS as they are often referred to in China) which the founders set up to protect themselves from being cheated during the redecoration of their home. However they discovered that even after they had finished their project, the forum continued to increase in popul arity. The website currently has 2.1 million registered users, all of whom have clear demands and come at absolutely no additional outlay.

This figure gives the website crucial leverage when it comes to negotiating with upstream vendors, thereby providing the second step in its business model. Presently, it has over 2,000 vendors, for which it acts as a channel distributor. Of course, the channel value of the website varies according the commodity category. For instance, in the Beijing market, which Liba has only recently entered, it accounts for a remarkable 20-30% of the local vendors’ total number of customers. And in Shanghai, there are even companies for whom the website supplies over 60% of their customers. “For some vendors we are virtually an outsourcing service provider,” points out Xu. So far, the website has recorded more than 100,000 consumer transactions.

On the one hand, Liba gives consumers (its users) access to cheaper goods, while on the other it acts as a channel distributor for vendors, and helps them source potential consumers. It then makes money by taking a commission from each transaction. This is normally around 8% of the transaction value; however it can vary slightly depending on the sector involved. In sharp contrast with more traditional retailers, Liba gets as close to the demand as possible, and then reverse matches the upstream vendors in the industrial chain with that demand. In the five years since it was founded, the website has seen transaction values soar, from RMB10 million (US$1.4 million) in 2003 to RMB640 million (US$93 million) in 2007.

Even in 2008 with China’s property market in recession, transaction value is expected to hit RMB1.3 billion (US$190 million). For the boss of one vendor, Kalabay Curtain in Beijing, Liba is a godsend; the site is responsible for 30% of his total number of customers. And for those at their wits’ end with the whole decorating process and unsure where to turn, the site offers the chance to discuss and compare experiences with others in the same position - as well as buy materials at discount rates. More importantly, in the notoriously chaotic home decorating market, the website provides the luxury of standardized after-sales service for consumers. In the event of a dispute, Liba’s customer service department will become involved and help broker a resolution satisfactory to both sides.

In the Name of Service

Asked which is more important - the upstream vendors or the downstream registered users - Xu Xiangtao has no hesitation in opting for the latter. In addition to lower prices, and a more comfortable and efficient shopping experience, another key factor which enables the website to retain its customers is continuously improving service.

One upstream vendor partner of Liba, a Shanghai-based aluminum gusset plate maker, serves as an example of this. The supplier’s standard delivery procedures were overly complicated and meant a customer who had placed an order was obliged to wait at home on four separate occasions. As users of Liba mostly tend to be young, employed people, this was obviously inconvenient in the extreme. Consequently, Liba asked the vendor to simplify its procedure by halving the number of visits required. Initially the vendor was reluctant to change its long-standing system; however, due to the large volume of transactions carried out through Liba, it eventually yielded to the request. Obviously when Liba linked transactions account for much of the total sales of a vendor, the website has plenty of muscle to exert influence and improve terms of service. Naturally where Liba’s share of total customers is not so great this influence wanes proportionately, In fact, the website constantly adjusts the type of goods it promotes in various categories to ensure that its share of vendors’ sales is as high as possible and that, consequently, it is in a position to influence vendors in this way.

Liba users are all well aware of the website’s system for accurately tracking the performance and reputation of vendors. Just two factors affect this word-of-mouth based indicator. One is the number of orders, while the other is the number of complaints. When an order is completed, the system awards three points; however if a complaint is registered then 12 points are deducted, thereby cancelling out all the points gained from three orders. Of course, this deduction is primarily intended to track the quality of follow-up service provided. If, after the consumer files a complaint, the vendor responds and takes effective remedial action the consumer may decide to return the 12 points, partially or in whole, to the vendor.

Obviously the better a vendor’s reputation the more likely it is that it will be able to outdo its rivals in attracting consumers. In this way Liba hopes to cajole vendors into providing ever better levels of service. If a particular vendor is the subject of a consistently high level of complaints and fails to take action to address them, Liba will eventually remove it from its site and end its cooperation.

Liba provides regular reports analyzing vendors’ operations. In its Summary of Vendor Operations, it analyzes the data covering orders received and deals reached by vendors and the reasons complaints were made against them. It also makes suggestions on how vendors might address these complaints and in addition provides long-term plans for their future expansion. Of course, in most cases these plans will closely coincide with the planned development of the website itself.

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Growing Pains

Liba boasts a healthy cash flow, and has only received two tranches of investments totaling no more than US$ 18 million. Although the website currently has no worries in terms of growth rate and cash flow, it does needs to solve at least two problems if it is to extend its growth beyond its current boundaries.

The first of these is how it can copy its model to different territories. Currently, 60% of the website’s registered users come from Shanghai, while users in several cities where it has more recently entered the market, including Beijing and Hangzhou, account for less than 40% of the total. It has been reported that Liba intends to expand southward - including to the large cities of Guangzhou and Shenzhen - in 2009. However, the question of how to successfully transplant its business model to new markets is a common challenge for many community websites. The key difficulty is how to continue to satisfy personalized demands while providing standardized service.

Differences in habits, customer profiles, ideas, geography, and even climate, can often give rise to unexpected difficulties in expanding the business. As an example, young females make up 70% of the customer base of Liba. This is because amongst couples in Shanghai, Jiangsu or Zhejiang, it is more common for the woman to take charge of the whole area of home decoration. But the case is very different in the northern part of China. In Beijing, for instance, men expect to play a major role in this regard. This was something that Liba did not foresee when it expanded into Beijing. Many aspects of its operations that catered specifically to women then had to be adapted to the new market.

The second problem is how to expand its portfolio. Currently, Liba is mainly engaged in the areas of home decoration, wedding organization and driving lessons. Although these are all businesses that suffer from a high degree of “information asymmetry” they are also, for the most part, one-off, once-in-a-lifetime purchases for consumers. Despite involving the spending of relatively large sums of money, the chance of repeat business is extremely limited. This fact represents a major bottleneck, which Liba will have to overcome if it is to continue to grow its business.

Expansion into new areas of business, whatever they may be, presents Liba with similar problems to those we have seen it faces when moving into new geographical areas. The difficulties and unseen factors can easily be imagined. According to some industry insiders, the easiest way forward is to transplant new, but linked, products onto its current markets. For instance, it could incorporate used-car sales businesses alongside its driving lesson channel; or sell mother and baby products on its wedding organization channel. However all these possibilities also bring with them new challenges for Liba.

But before tackling the aforementioned problems, Liba has already apparently begun addressing another one: the website is reportedly developing its own payment platform which is expected to be launched in a few months. What’s more, a co-branded payment card, launched jointly by Liba and Bank of China, is soon to be released. This customized card is carefully designed to satisfy the particular needs of the website’s users, who need a much higher line of credit than most ordinary card users due to the special nature of their high value purchases. According to some investment professionals, this means that Liba has transformed itself from an information manager in the industrial chain to a third-party platform, whose “value should not be underestimated.”

Comments on the Model

By You Qingji (Senior Manager, Investment Banking Division, Credit Suisse)

The channel business is naturally dependent on the supply chain. The key to this business is “targeting”, i.e. the value of the channel hinges primarily on whose attention it can grab.

There exists a category of clever business owners who are highly skilled at formulating standards and rules for the supply chain, ranging from product design and selection of materials, right through to pallet sizes, operating on the principle that nothing is impossible. It is these businesses that generally dominate the value chain, even deciding how profits should be distributed. For instance, Ikea, which was created by Ingvar Kamprad from Sweden, is, to all intents and purposes, a moneymaking machine.

Meanwhile there is also another talented group which is adept at quickly snapping up all the available positions on the supply chain. Redbaby and Liba are two typical examples of these new channels. Once Redbaby realized that it should operate as a pure channel business, it quickly converted from a website selling mother and baby products to a channel retailer delivering a variety of products and channels. Gone are worries about how to find the right customers for different products, or how to go about selling those products. This is an example of a top-to-bottom approach in which the retailer remains close to the products.

Liba is an example of the opposite approach; by using the technique of “reverse match”, it gets as close as possible to the customers. The idea of an online “community” is a powerful one; it can be energizing just to imagine people gathering together for a common purpose. For these reasons, communities such as Facebook have no difficulty in attracting large investments. But communities which have models for sustained profit are rare. In the eyes of many people, the success of Liba is somewhat unintentional. In my opinion, however, its current success was inevitable. For a top-to-bottom model to be successful, the key is to find “a market where there is information asymmetry”. In this market, the standard of supply is haphazard, with a mishmash of both good and bad suppliers. It is against this background that the sharing of experiences and lessons amongst customers becomes so valuable.

From the perspective of investment value, both models have positive points. The thresholds for a Redbaby-like website include marketing based on databases, the management of a huge number of different product categories, and a highly efficient logistics operation. In addition to remaining a highly popular community, an excellent Liba-like website should also have the ability to study the consumption behavior of customers’ life cycles, and convert such behavior into actual cash deals.

Any business that can give full play to its advantages may become an outstanding company. However, excellence may also be the biggest obstacle to attaining this preeminence. Successful matching is the core skill needed by a channel distributor. Increasing product range and expanding marketing methods are undoubtedly important, but they should all aim towards the goal of increasing the total value of transactions. There is no doubt about the appeal of having access to precise information on demand - and creating real information sharing amongst customers. But what is perhaps most important is that this can increase the rate of successful transactions.

According to the financial report that Sohu issued on February 9, its revenues in the fourth quarter of 2008 reached US$121.6 million, up 86% year-on-year, and its net earnings were US$56.6 million, increasing 280% year-on-year. In 2008, its revenues reached US$429.1 million, 230% higher than 2007, and net earnings amounted to US$158.6 million, increasing by a factor of 4.5.

This outstanding financial report goes beyond the estimates on the Wall Street. On the same day, Sohu’s share price rose by 7.78% to US$49.16 per share, and trading in the company was four times larger than the previous average level. All this has undoubtedly made Charles Zhang, Chairman and CEO of Sohu, a very happy man, demonstrating as it does that even the current global financial crisis can’t prevent Sohu from producing record results.

So what exactly is behind Sohu’s dramatic growth? By comparing the financial data, it is easy to see that the booming online games sector was the source of Sohu’s strong performance. In the fourth quarter of last year, Sohu’s online game revenues reached US$58.4 million, up 240% year-on-year. Meanwhile annual online game revenues for the company totaled US$210.8 million, 4.8 times that of the previous year. Of these products, the game “Heaven Dragon the Eighth Episode (TLBB)” contributed as much as US$188.9 million, representing a massive annual growth of as high as 540%.

“This is a huge slap in the face for those who used to doubt Sohu,” said one industry insider. And shortly after Sohu shifted its strategic attention to online games, there were indeed those who doubted the wisdom of Charles Zhang in relying too much on online games. On one hand, they pointed out, Sohu was not familiar with the industry and wouldn’t be able to compete with netease.com, shanda.com, jr.ztgame.com and other top online game operators. On the other, such a move would erode Sohu’s position as a portal website, and compromise the increasing prospects of its advertising revenues, especially in view of the prospect of the Olympic Games. However, what happened subsequently was quite unexpected.

From the second half of 2008, as the financial crisis began to deteriorated, the market for online advertising began to shrink and its growth rate declined. In fact some experts predict that its growth rate will hit a record low in 2009. But despite the financial storms the market is enduring, the online gaming industry has become a safe haven amidst the crisis. According to statistics released by ComScore, in the fourth quarter of 2008 the number of online game players increased by 29.9%, in sharp contrast with the 0.3% reduction in the same period of 2007. Meanwhile, the excellent financial reports from netease.com, shanda.com, jr.ztgame.com and other online game operators are further proof of the ongoing prosperity of China’s online gaming industry.

Understandably, online gaming business features low Average Revenue per User (ARPU) and large numbers of consumers. Due to the worldwide economic recession, the consumption power of individual consumers is greatly reduced. At this time, high-cost entertainment becomes an unrealistic choice, but due to human nature the demand for entertainment will not diminish. Therefore, consumers tend to resort to lower cost alternatives - and online gaming has become one of the most popular choices.

Take TLBB, the online game that Sohu operates, as an example. Thanks to a slick overseas marketing strategy, the maximum number of concurrent online players has topped 740,000, up 40% over the previous year, within less than seven quarters. As the profit from this game comes from the players’ outlay on equipment, any increase in player numbers directly boosts revenues. In the fourth quarter of last year alone, this game brought up to US$53.5 million in revenues, accounting for nearly 30% of the annual total, and up 240% year-on-year.

There can be no doubt that Charles Zhang is well aware of this principle. For this reason he made a number of adjustments to the charges levied, especially in TLBB, which is particularly popular. Currently, some pay articles have become free, and other new pay articles have been introduced. As a result, although revenues will be affected in the short term, customer loyalty is increased. What is more, as a result of the newly introduced pay articles and adjusted charge framework, the expenditures of high-end Active Paying Accounts (APAs) are reduced and those of middle and low-end APAs are increased to leverage the large number of middle and low-end players. As a result, the total revenues from the game are considerably increased.

On the other hand, in line with the usual industry life cycle for such games, TLBB can only last in popularity for another 2-3 years at best. After that, Sohu is sure to launch new games to succeed it. According to the current development model, the burden of “top-earner” will be transferred to the new game, “The Deer & the Cauldron (Lu Ding Ji)”, for which Sohu is now making active preparations. According to some industry insiders the new game is expected to end the common complaint amongst online players that games are “all the same”; it is rumored to have a unique design and game culture. If so, this should help Sohu to further improve its online gaming business and make even greater progress in the sector.

Interestingly, Charles Zhang has been doing his best to minimize the publicity of Sohu’s online gaming business, emphasizing that it is only part of the “Sohu3.0” portal matrix strategy. But with the sudden precipitous rise of the online gaming business, and as advertising and other business areas continue to shrink, industry insiders are even more certain that Sohu will become another Netease - evolving from a portal website into an online game operator. In fact, there is nothing wrong with such a transformation. As long as “Wall Street and the board” are satisfied with Sohu’s performance, everything in the garden should remain rosy, despite the inclement weather elsewhere!

Then it may dawn on you how these businesses make money-from the extraction of silver from film developing and the sale of scrap paper.

In the stark analysis of an industry expert, the future of the printing industry is clear, “It will wither away and the traditional printing houses will no longer exist.” Low-end, low-tech printing houses, such as those in Langfang, will suffer the worst effects. In order to survive they have no choice but to implement staggering price cuts and slash their margins to the bone.

The Price of Change

Different from typing or copying, when it comes to printing, the first thing that comes to mind is a series of traditional offset printing steps including film, plate burning, etc. However, this is a view that is becoming outdated.

Thanks to the development of printing technology, digital printing with its flexibility and convenience delivers an increasingly superior result to that of traditional printing. For this reason the replacement of traditional offset printing by digital printing and plateless printing has become an irreversible trend.
As far back as early 2000, equipment manufacturers such as Fuji Xerox, Canon, Hewlett-Packard (HP) and others became aware of this trend and began to take steps. HP even acquired a digital printing manufacturer, Indigo, at the cost of US$882 million. “In the face of fierce competition, companies must constantly reduce costs,” says Li Peng, Indigo Business Development Manager at HP. “Higher flexibility for printing is also necessary in order to cater for product diversification.” By introducing new digital printing technology, businesses not only decrease their inventory of printed materials, but reduce ink pollution, which is in line with environmental protection goals.

Traditional printing houses are trapped in trouble with the rise and development of new printing technology.

“Our data show that the printing volume through Indigo increased by 100% year on year in 2006,” points out Li Peng. It is clear that the growth of digital printing has been dramatic in contrast to that of the global printing market, which has been relatively slow. One agency has even predicted that the total value of the printing market could rise to US$720 billion by 2011, from US$610 billion in 2006. This slight growth implies that the traditional printing industry will find itself in difficulty as new technologies take over from old ones.

“Especially today, business to business (B2B) printing is continuously reducing costs while business to consumer (B2C) printing is migrating to digital,” says Li Peng. In such circumstances, with price and profit both spiraling ever lower, the traditional printing houses - especially those at the medium to low end - will eventually fail to make ends meet, and some will even end up like those in Langfang with a completely distorted service model.

So what is the likelihood of a situation coming about where the printing industry simply ceases to exist, as predicted by the expert previously mentioned? He explains, “Digital printing is developing well, and more importantly it delivers printing flexibility. This flexibility may help an enterprise integrate printing into the production process as a whole. In other words, printing as a third-party service will simply no longer be able to meet the customers’ needs.” When printing becomes a production tool and simply another element of the business system, traditional printing services will move into companies, thereby simplifying the printing industry chain from “manufacturer - printing house - company” to just “manufacturer -  company”. In this way he justifies his argument about the inevitable disappearance of the printing industry.

Restructuring the Printing Industry Chain

Currently, digital printing with an end result that is comparable to traditional printing is not cheap; therefore it is not realistic for businesses with a large volume demand for printing to rely on digital printing completely. But, if such companies - with a flexible printing demand - do the high-end work themselves and otherwise outsource their printing work, a new kind of balanced printing solution, which takes into account cost and value increases, would have been developed.

Currently an internationally renowned beverage company is terminating its outsourcing of logistics and part of its printing work. It has set up its own digital printing division to produce the labels on its drink bottles both for common bottles and for specific campaigns or “special occasion” versions, such as personalized bottles for pop concerts for example.

Mobile phone manufacturers like Sony Ericsson can achieve higher flexibility by setting up their own printing divisions. Prior to going ahead with volume production of a phone model, 400-500 units (in four or five groups of 100 each) will be sold initially with different styles of packaging, leaflets and manuals. Customer feedback is then gathered and studied before deciding which style best suits the market. The flexibility of being able to print its own materials in these cases significantly shortens the market survey period for the new model.

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In the restructuring of the printing industry chain, service becomes a critical area. When the equipment manufacturers directly serve the end users without involving printing houses, they need to provide extra value, for instance, a promotion campaign solution based on printing, to integrate printing, production and promotion. For the end-users, printing not only makes them more agile in terms of allocating resources but also broadens their service channels. The traditional printing houses have to understand the clients’ needs and tailor their services to those needs besides providing a basic printing service. In this way they can strengthen and rebuild their core competitiveness.

Everyone is familiar with fashion magazines which often come with different inserts whose content may change occasionally. SNP Leefung, a print-service provider for many fashion publications, has quickly responded to its clients’ urgent requirements by proactively introducing digital printing for proof press. Shenzhen Artron Colour Printing Co., Ltd. has gone even further. Besides high-end imaging services, it even helps its clients to integrate the acquisition and design of the picture with the planning of the printing quality, the printing, binding and distribution of the presswork - a “one-stop” service that has won over users.

It has become a trend that digital printing will replace traditional offset printing.

New Business Prospects

On the one hand, technological innovation has affected the traditional low-medium-end printing industry; on the other, by lowering the barriers, it has brought interested investors more business opportunities. In fact, this “printing flexibility” has opened up unlimited new opportunities. One survey shows that London has more printing houses than the whole country of China does, and most of the transactions are made via the Internet.

In Korea, a company in the mother and infant sector has seen its popularity soar in recent time. It maintains connections with three parties: maternity hospitals, product vendors and expectant mothers. Based on information gleaned from the hospitals the company provides a home photo shoot service twice a year and then prints the photos into a fine album and calendar. In the customized calendar there are reminders for the mother such as, “Your baby is about 3 months old now, it is time to start introducing tomato juice and concentrated cod-liver oil!” Below the reminders mothers will find the related vendors’ phone number and coupons.

“Being considerate and offering convenience” is the core of this business. It brings the company closer to its consumers. The users even needn’t to turn on the computer or buy a newspaper. The information users need is right at hand.
Due to the availability of such personalized printing, new business models are constantly being created and enriched. This means that printing is no longer a single industry, but as one segment of many other industries, it plays an important role in improving their services and developing new business.

A number of high-end schools in the United Kingdom have used the textbook as the basis on which to launch one of their breakthroughs in “personalized education”. They have hired professional analysts to conduct a detailed evaluation of their students each year and, based on this, every student is provided with their own “individualized textbook”.

A real estate company in the United States delivers best practice in the transition from technology to service in printing. When a customer visits the company, their enquiries are recorded in detail and then entered into the buyers’ database in the server. After receiving information about the property for sale, the sales agent carries out an on-site inspection describing and photographing all aspects of the property. All this information is then compared to that in the buyers’ database. Finally a brochure with all the relevant information is printed and mailed to the right potential customers rather than being delivered by email or phone. Last year successful house sales for this company increased by 17%.

The latest business idea in the wedding industry in London is another example. Once the happy day has drawn to a close, guests, family and friends take their leave. Yet within just half an hour of returning home an album covering the entire wedding day will be sent to them. Although the service is not cheap, it is still attractive to couples who are splashing out on a once in a lifetime event.

The increasing popularity of the Internet has also enlarged the field of digital printing. The advantages of the “individualized aspect” which digital printing is so suited to are amplified by the Internet’s “long tail” effect.

One Chinese portal website provides a powerful online photo album service which is free to most of its users. Lately this website has been looking for a better printing solution to store these free photo albums. This could lead to a premium printing business chain in the downstream.

“Not only photos, but every webpage can be printed quickly now, and in bulk. The key is to be able to identify the right needs.’’ says Li Peng.

After all, in complete contrast to IT or the Internet, printing is a visible, tangible and portable medium. So when information is passed on in the format of “new printing” and becomes interactive, the key point of this new business becomes how to identify the needs of, and smoothly connect with, customers.