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Introduction

The AmCham China Small Business Handbook is a reference for entrepreneurs and small business owners doing business in China. The information is based on feedback from AmCham China's Small Business Forum members, and is updated on an annual basis. Please contact the referenced source or relevant government ministry for more information.


Choosing a Business Type

The first step to setting-up your business in China is choosing the appropriate type of Foreign-Invested Enterprise (FIE) structure. Foreign investors must choose from three types of FIE formations. The following section provides: a brief description of the advantages and disadvantages of each formation; links to more detailed overviews; and the required legal steps required to set up business once you are on the ground in China.

I. Representative Office (RO)

Formation time: up to three month

Advantages:

  • Least expensive and quickest business formation option
  • No minimum capital requirements
  • Enables marketing your business and building a list of local contacts

Disadvantages:

  • Business functions are significantly limited
  • Cannot engage in direct profit-making activities
  • May be subject to 10 percent tax on business expenses
  • Must hire local workers through a local sponsor organization

Click here for Steps to Setting up a Representative Office. (the link leads back to handbook page, should instead scroll down)

II. Wholly Foreign-Owned Enterprise (WFOE)

Formation time: three to six months

Advantages:

  • Allowed to make profits on the ground
  • Gives foreign investors complete control over the business
  • Not subject to taxes if not making profits

Disadvantages:

  • Required minimum capital requirements upon registration
  • Restricted to certain business types

Click here for Steps to Setting Up a Wholly Foreign-Owned Enterprise.

III.  Joint Venture (JV)

Formation time: thee to six months

Advantages:

  • Required for certain business types
  • Local partner may be able to provide better market access

Disadvantages:

  • Foreign investors do not have complete control over the business
  • Possibility for future disputes with local partner

Click here for Steps to Setting up a Joint Venture or here to listen to an AmCham China podcast on the “Return of JVs?

*Please note these resources are a compilation of information from AmCham China members and should not be used as a legal resource. For legal information, please contact your legal counsel.

a. Representative Office (RO) Overview

The RO is often the fastest and least expensive option for foreign companies wishing to establish operations in China. Although ROs may not engage in direct profit-making activities, they can carry out a number of functions, including market research, coordinating parent company's activities, liaising with local contacts and other similar activities. ROs may also negotiate contracts, though contracts must be sent to the home office to be signed. Additional capabilities of a RO include converting Renminbi into US dollars, importing items necessary for running the business, and obtaining long-term visas for foreign employees.

It is also important to note that while ROs are technically exempt from China's business income tax, they are still subject to a 10 percent tax on their business expenses.i"China Procurement Centers Going WFOE Because It Makes Sense," China Law Blog, 1/25/07. Because of this additional tax, it may be less expensive for foreign companies under certain circumstances to establish a Wholly Foreign-Owned Entity (WFOE). This would be true in the case of a properly structured procurement center (e.g. trading companies), where revenues are balanced with expenses resulting in little to no profits to be taxed.ii"China Procurement Centers Going WFOE Because It Makes Sense," China Law Blog, 1/25/07. Additional drawbacks of forming a RO when compared to a WFOE are the inability to open branch offices in other Chinese cities and the requirement of having to hire local staff through a Chinese human resources agency.

Step 1. Find a local sponsor

A local Chinese sponsor is required to act on behalf of the foreign company and will approach the Ministry of Commerce (MOFCOM) on its behalf to submit the necessary documents for the establishment of a representative office (RO). A local sponsor can be arranged though a Chinese company with which the foreign company has had dealings in the past. Sponsors can also be found through several state-approved foreign service companies, such as FESCO, which can obtain sponsors or act as the foreign company's sponsor. Fees associated with obtaining an agent should be around US$1,000. Upon submitting all of the required documents and receiving a business license, the local sponsor will no longer have a role in the RO's operation.iiiChina-Britain Business Council (see http://cbbc.org/services/rep_office.html).

Step 2. Rent office space

Technically, a foreign company is not allowed to rent office space without first obtaining a business license; in actuality, it is normal to rent office space relatively early in the process. The proposed address of the RO and a signed lease will be needed later in the application process. Before signing a lease agreement for office space, make sure that the landlord is allowed to rent to foreign companies by requiring to see their zu lin xu ke (租赁许可) A foreign company will be able to enter into a long-term lease once they have received their business license.

Step 3. Apply to MOFCOM for approval certificate

The application for approval to set up a RO should be submitted to the local MOFCOM branch.ivvAccording to Deacons, a Hong Kong law firm, companies affiliated with certain industries may skip over this step and go straight to registering the RO with the SAIC. These industries include trading companies, manufacturers, consultancies, etc. Industries which must apply for the approval certificate include insurance companies, financial institutions, etc. Industries which must apply for the approval certificate include insurance companies, financial institutions, etc. (see http://www.deaconslaw.com/eng/knowledge/knowledge_157.htm). MOFCOM will then have 30 days to issue an approval certificate.vJames M. Zimmerman, Esq., China Law Deskbook: A Legal Guide for Foreign-Invested Enterprises, Second Edition, American Bar Association (2005). Before submission, all of the application materials will need to be translated into Chinese. The application will need to include the following documents:

  • An application letter signed by the chairman of the board or the general manager. The letter should also include a description of the company's business background and its major trading partners in China
  • Certified articles of incorporation
  • Notarized copy of the foreign company's business license
  • A list of the board of directors, management personnel or principal partners
  • An original bank reference letter testifying to the company's creditworthiness and any additional documents concerning the company's financial standing
  • A board resolution letter containing the purpose for setting up the RO and the intended scope of its activities in China
  • A notarized letter from the CEO nominating the chief representative and the chief representative's detailed resume
  • Additional documents that may be required by MOFCOM

Step 4. Apply to SAIC for business license 

Upon receiving the approval certificate, a foreign company has 30 days to apply for a business license with the local branch of the State Administration of Industry and Commerce (SAIC). The application should include all of the documents submitted to MOFCOM with the addition of the approval certificate. The SAIC normally takes 30 to 60 days to approve and issue a business license.vi"China Procurement Centers Going WFOE Because It Makes Sense," China Law Blog, 1/25/07. Once the license has been issued, the RO will be legally established.

Step 5. Additional business registration formalities

A number of business registration formalities need to be attended to after the RO has been established. These include:

  • Obtaining an organization code from the General Administration of Quality Supervision (AQSIQ) or its local branch
  • Registering with the local and state tax bureaus
  • Registering with the local customs bureau if your company needs to import any business supplies or office equipment
  • Registering with the State Administration of Foreign Exchange (SAFE) to allow the operation of foreign currency bank accounts
  • Open a bank account

Step 6. Employ local and foreign staff

A RO required to hire local staff through a government HR agency, such as FESCO, though a RO can still select candidates for employment indirectly. A RO must first enter into a contract with FESCO for the purpose of hiring staff. At that point local staff can enter into labor contracts with FESCO.

It is not necessary for a RO to obtain approval before hiring foreign staff. Upon arrival in China, foreign employees need to register at the local SAIC and Public Security Bureau (PSB) offices. The PSB will also grant a foreigner's residence permit. The foreign employee should also apply for a long-term multiple-entry visa.

II. Wholly Foreign-Owned Entity Overview

The Wholly Foreign-Owned Entity (WFOE) is quickly becoming the favored investment vehicle for foreign investors in China. Unlike a RO, it gives the foreign investor the ability to engage in direct profit-making activities in China, and unlike a JV, it gives the foreign investor complete control in the operation of the business. In addition, WFOEs, in some circumstances, can actually be taxed to a lesser extent than ROs because they will only be taxed on their profits; if there are no profits then there shouldn't be any taxes.vii"China Procurement Centers Going WFOE Because It Makes Sense," China Law Blog, 1/25/07. ROs, on the other hand, are taxed on their business expenses despite the fact that they are not making any profits.

One of the drawbacks of setting up a WFOE is the associated minimum capital requirements. Minimum capital requirements vary by region, and it may be possible in some cases to receive permission from local officials to set up a WFOE for less than the required minimums depending on the proposed business.

Step 1. Determine if WFOE falls within an approved class of foreign-invested businesses

WFOEs are now allowed in most industries, but there are still certain sectors where Chinese law requires working with a local partner. Restricted sectors include the following: education, telecoms, nuclear, automobile and insurance among others. For an authoritative list as to which industries can form a WFOEs, check the "Guidance Catalogue for Foreign Investment" published by MOFCOM.viiiChina-British Business Council (http://cbbc.org/market_intelligence/presense/wfoe.html). The list includes "encouraged," "restricted" and "prohibited" categories of industries and also includes additional restrictions that may apply to certain businesses.

Step 2. Get pre-approval for WFOE Chinese name from SAIC

Before beginning the application procedure, foreign investors should first reserve a name for their prospective WFOE with the local branch of the State Administration of Industry and Commerce (SAIC). Name registration requires the submission of a proposed name as well as two alternatives.

Step 3. Rent an office

Technically, a foreign company is not allowed to rent office space without first obtaining a business license; in actuality, it is normal to rent office space relatively early in the process. In addition, the proposed address of the WFOE and a signed lease will be needed later in the application process. Before signing a lease agreement for office space, make sure that the landlord is allowed to rent to foreign companies by requiring to see their zu lin xu ke (租赁许可). A foreign company will be able to enter into a long-term lease once they have received their business license.

Step 4. Determining WFOE minimum capital requirements

All WFOE formations must include minimum capital requirements specified under Chinese corporate law. This amount is provided in the Articles of Association of the company (see step 5) and includes the total initial investment into the company, including its start-up cash, contributed property, and transferred intellectual property. Current minimum capital requirements are RMB 30,000 (US $4,000) for multiple shareholder companies and RMB 100,000 (US $12,000) for single shareholder companies.ix"Chinese Company Formation, Part II �? WFOE Minimum Capital Requirements," China Law Blog, 3/21/2006.It is important to note, however, that the actual amount of required registered capital can vary greatly by location, with capital requirements in some second-tier cities a fraction of what it would be in Beijing or Shanghai. Lastly, regulators at the local MOFCOM branch will make a final determination regarding registered capital amounts. These amounts can actually be less than the statutory minimums after the regulator has taken into account all the circumstances surrounding the business's long-term prospects.x"Chinese Company Formation, Part II �? WFOE Minimum Capital Requirements," China Law Blog, 3/21/2006.

Step 5. Submit Feasibility Study Report and Articles of Association to MOFCOM for preliminary approval

Before applying for the approval certificate and business license, a foreign investor wishing to set up a WFOE must first submit a Feasibility Study Report (FSR) and an Articles of Association (AOA) both detailing the WFOEs proposed structure and business plan. The FSR will include a first-year business plan and budget, and the AOA will need to spell out both the management structure and capitalization of the business, including the board of directors, local management, company address and registered capital.xi"Chinese Company Formation �? Forming a WFOE in China," China Law Blog, 3/20/2006. The local MOFCOM branch will have 30 days from submission to grant or reject the proposed business plan and structure.xiiJames M. Zimmerman, Esq., China Law Deskbook: A Legal Guide for Foreign-Invested Enterprises, Second Edition, American Bar Association (2005).

Step 6. Apply to MOFCOM for approval certificate

If the proposed WFOE has been granted preliminary approval, the next step will be to undergo the full application process. MOFCOM will have three months to issue an approval certificate.xiiiJames M. Zimmerman, Esq., China Law Deskbook: A Legal Guide for Foreign-Invested Enterprises, Second Edition, American Bar Association (2005). Before submission, all of the application materials should be translated into Chinese. The following documents are required:

  • FSR
  • AOA
  • Certified Articles of Incorporation
  • Notarized copy of the foreign company's business license
  • An original bank reference letter testifying to the company's creditworthiness and any additional documents concerning the company's financial standing
  • A board resolution letter containing the purpose for setting up the RO and the intended scope of its activities in China
  • Additional documents that may be required by MOFCOM

Step 7. Apply to SAIC for business license

Upon receiving the approval certificate, the foreign company has 30 days to apply for a business license with the local branch of the SAIC. The application should include all of the documents submitted to MOFCOM and the approval certificate. The SAIC normally takes 30 to 60 days to approve and issue a business license.xivJames M. Zimmerman, Esq., China Law Deskbook: A Legal Guide for Foreign-Invested Enterprises, Second Edition, American Bar Association (2005). Once the license has been issued, the WFOE will be legally established.

Step 8. Additional business registration formalities

A number of formalities need to be attended to after the WFOE has been established. These include:

  • Obtaining an organization code from AQSIQ or its local branch
  • Register with the local and state tax bureaus
  • Register with the local customs bureau if your company needs to import any business supplies or office equipment
  • Register with SAFE to allow the operation of foreign currency bank accounts
  • Open a bank account

III. JV Overview

JVs used to be the required type of business formation for most foreign investors looking to make money in the Chinese marketplace, but this is no longer the case as regulations for WFOEs have opened up significantly in the past few years. In almost all cases, WFOE formation will be preferable to entering into a JV with a local partner because it gives the foreign investor complete control of the business. Certain businesses may want to enter into a JV with a local partner. For instance, business types that are restricted to foreign investment through a WFOE and local partners can provide valuable market entry assistance with the help of local contacts.xvChina-British Business Council (http://cbbc.org/market_intelligence/presense/jvs.html). If a JV is deemed necessary, the following should be taken into account: the financial well-being and capabilities of the Chinese partner; the Chinese partner's obligations to its employees; the Chinese partner's relationship with customers and government officials; and if the Chinese partner is operating within its approved business scope.xviJames M. Zimmerman, Esq., China Law Deskbook: A Legal Guide for Foreign-Invested Enterprises, Second Edition, American Bar Association (2005).

Step 1. Entering into an equity or contractual JV

The first step to setting up a JV is to decide whether you want to enter into an equity joint venture (EJV) or a contractual joint venture (CJV), sometimes referred to as a “cooperative joint venture”. In an EJV, each party shares in the risks and profits equal to the proportion of their contributed registered capital (registered capital includes start-up cash, contributed property, and transferred intellectual property). In addition, board membership does not have to be in proportion to each party's contributed registered capital, though even a minority shareholder is entitled to at least one seat.xviiRobert Collins, MBA, and Carson Block, Esq., Doing Business in China for Dummies, Wiley Publishing Inc. (2007).

CJVs are created through a detailed contractual agreement and enable parties to allocate profits and assets in a way that is not in proportion to their registered capital contributions. Many CJVs are formed so that one party will receive a majority of the profits accrued at the end of a specified time period, while the other party will receive a majority of the assets. Foreign investors may find this type of arrangement beneficial in infrastructure and real estate related projects.xviiiRobert Collins, MBA, and Carson Block, Esq., Doing Business in China for Dummies, Wiley Publishing Inc. (2007). Foreign investors may also find that the CJV grants them more flexibility in determining the daily operating procedure of the business.

Step 2. Drafting a contractual agreement

Creating a comprehensive contractual agreement will be essential for both types of JV formations. First, make sure the organizational structure of the contractual agreement is consistent with the AOA. Also ensure that profits and assets are clearly allocated. Finally, include an arbitration clause in case of potential disputes between parties.xixRobert Collins, MBA, and Carson Block, Esq., Doing Business in China for Dummies, Wiley Publishing Inc. (2007).

Steps 3 and 4. Submit application materials to MOFCOM and SAIC

Just as with WFOEs and ROs, both MOFCOM and SAIC must approve the formation of a JV and issue a business license. Some of the required documents include: certified articles of incorporation documents for both the foreign and Chinese partner; information detailing the management structure of both the foreign and Chinese partner; and contractual agreements relevant to the formation of the JV.

Step 5. Additional business registration formalities

A number of formalities need to be attended to after the JV has been established. These include:

  • Obtain an organization code from the AQSIQ or its local branch
  • Register with the local and state tax bureaus
  • Register with the local customs bureau if your company needs to import any business supplies or office equipment
  • Register with SAFE to allow the operation of foreign currency bank accounts
  • Open a bank account

What to Consider Before Entering China’s Market

This section provides a list of key considerations to remember when contemplating your move to China.

1. Do you recognize that success in China is not easy?

For every foreign company that has been successful in China, there are many that have failed miserably. While China may play a role in many businesses, opening business operations in China is not a decision to take lightly.

2. It takes a lot of time. Do you have the patience?

One of the most important lessons to understand when learning about business in China is that you must invest time, resources and energy to be successful. The market is complex, fragmented and dynamic. In China, time on the ground—learning the culture and the market and developing relationships along the way—is one of the most important factors for success. It is virtually impossible to start your China business operations solely from abroad.

3. Is your company's strategy aligned with the Chinese government's goals?

As founder and CEO of a large Chinese beverage company explained, "Your company has to solve the country's problems."22James McGregor, 1 Billion Customers. If your company does not in some way help China achieve its goals, it is unlikely that you will do well in China. Learn what the government is looking for and adjust your strategy accordingly.

4. Is your product/service right for the market at this time?

For some companies, the most important consideration is when they should enter the Chinese market. . Are Chinese consumers ready for your product? Is the regulatory environment suitable for what you have to offer? Before you make the decision to start operations in China, make sure you have answered these questions.

5. Do you have the right people to execute your business plan? If not, will you take the time to find them?

People are the most important part of any business, but finding the right people for your company can be particularly challenging in China. According to AmCham China's 2009 White Paper on the State of American Business in China, human resources still ranks as one of the biggest challenges facing US firms in China. Commit time and resources to developing your talent. Bringing on the wrong people or losing your best employees can be particularly debilitating for a SME.

6. The Chinese market is competitive and fast-paced; is your business plan adaptable to innovation?

Innovation and an ability to change with China's rapidly evolving market are keys to success. Plan to continuously adapt as necessary. When creating your business plan for China, do not merely copy an existing plan, but tailor it to fit the Chinese market.

7. Do you face significant barriers to entry?

Given the highly competitive and dynamic market where competitors will do anything to win, you must have a distinct and sustainable competitive advantage to succeed in China. Move quickly and continue to innovate.

8. Do you have defined goals and benchmarks for success?

Doing business in China requires flexibility. However, it is important to have key goals and expectations for your business.. Reviewing and revising your agenda will help ensure that you are still working towards your ultimate goals

9. Are you ready and willing to confront unforeseen challenges?

Again, all business start-up operations will have unforeseen challenges, but in China these challenges can be swift and country-specific. Before you start investing in your China operations, be prepared to weather difficult and unique situations that you would not encounter in the United States. For a summary list of major industry concerns of American firms in China, please refer to AmCham China’s 2009 White Paper on the State of American Business in China’s Priority Recommendations Table.

China Specific Challenges

Businesses should be aware of eight key challenges as they chart their China plans.

1.  Culture (guanxi)

The good news is one does have to be a true China expert to succeed. But a little effort goes a long way. It is worth learning as much as possible about the market and the people you intend to involve in your enterprise. Much has been made about the importance of guanxi (relationships) in doing business in China. Indeed, developing relationships with your suppliers, customers and other counterparts is important. The bottom line is businesses around the world rely on relationships. This may be more pronounced in China for a variety of reasons, including less emphasis on rule of law, historical mistrust of foreigners, a business culture dominated by extended family networks and complicated bureaucratic processes. But in the end, like anywhere else, the more time you spend getting to know the people you are working with, the better off you will be. In China, you must become friends with someone before you can do business with them. This takes patience, understanding, and openness to sharing personal experience--but is also entirely achievable.

2. Legal/Contracts

As with many systems in China, the legal system is slowly improving. In a World Bank report that ranked the ease of doing business, China came in 81 out of 181 countries. China has advanced to 18th in the category of enforcing contracts, which many foreign businesses have cited as a problem in the past.18China Law Blog, July 13, 2009.

That being said, it is best to avoid any sort of legal issues as much as possible. China remains a place where the law (particularly when it comes to business) can be flouted with perpetrators gaining protection from friends in high places or as a result of politics trumping regulations. Laws and regulations in China are often written with a large amount of gray area, which allows for a certain amount of wiggle room and negotiation. It is also important to note the limitations of foreign firms in the legal process. A brief overview of the current situation can be found in theLegal Services section of AmCham China’s 2009 White Paper on the State of Business in China.

Before you invest in China, hire a lawyer who has experience in the country and can draft detailed and explicit contracts both in English and Chinese. Don't expect the legal system to resemble the US system. It's a whole different ballgame here. AmCham China has a full list of legal services representatives that can be accessed via our onlineMember Directory.

3. Government

Despite the torrid pace of China's market-based reforms, the Chinese government remains a very important factor in any business venture. Even the smallest of businesses should place heavy emphasis on developing government relationships. Hire an employee or consultant focused on government issues and have senior management develop their own personal relationships with relevant officials and entities. As long-time China business veteran and AmCham China member, James McGregor, wrote in his book One Billion Customers, "Never, ever, put your business in the position where you are dependent on one individual for access to government officials."

Though China's national government is a strong force in crafting comprehensive policy initiatives, the all-important responsibilities of implementation and enforcement fall on the shoulders of provincial and municipal governments. As these are frequently the institutions that SMEs will be interfacing with, it is important to note that there may be a greater deal of flexibility when working with officials at the local level. That being said, as a foreign company, it is advisable for activities to at least be largely in line with national protocol.

Along these lines, the ubiquitous influence of politics on business dealings makes it essential for all companies seeking opportunities in China to have a good sense of the overall regulatory and political environment that may impact your business. Furthermore, another factor in success in China is the ability to understand the incentives that drive the government officials you will most certainly have to deal with at some point in your business's life cycle. For more information on current regulatory information, visit the Business Resources Tab on the AmCham China website here.

4. Diverse and Rapid Changes

One of the most challenging and exciting aspects of China's development is the speed and scale of its change. What is true in China today may be completely different tomorrow. Also, different parts of China are changing along very different trajectories. Certain sectors are subject to great volatility due to policy and market influences. Some regions are undergoing 20 years worth of upheaval within the span of a few years--both the magic and the danger of doing business in China.

IIt also proves to be a great point of difficulty for foreign companies as they begin to learn and engage the Chinese market. For this reason, it is essential for companies to have some form of trusted on-the-ground presence in China. This country is too diverse and too dynamic to be tracked from afar.

5. Language and Translators

The difficulty of the Chinese language serves as a great impediment to conducting successful business in China. Moreover, as more and more Chinese become adept at English, the language barrier also becomes a significant strategic advantage for your Chinese business counterparts. With numerous bilingual Chinese leaders now in business and in government, foreigners who do not speak Chinese are put in the unfortunate position of having all of their communication understood but not being able to understand side conversations and documents not communicated in English. This is one reason why it is becoming increasingly apparent that China knows more about us than we know about them

Of course, if your company has a trusted employee (or even better, an executive) who is fluent in Chinese, you will be able to mitigate this challenge. As the successful China hand, Jack Perkowski, added in his book, Managing the Dragon, knowledge of the Chinese language is not essential to doing well in China. If you are young enough and have the time, study the language extensively. But there are also other ways to leverage your competitive advantages in the Chinese market. It is more important to gain an understanding of Chinese culture and business practices than learning the language.

In the absence of someone who is absolutely fluent in the language, it is strongly advisable to hire a professional translator to assist in all business meetings. Make sure this person is not biased in any way and has a track record of experience in successfully working with other foreign companies. Otherwise, there is a chance that your communication will be compromised or manipulated in some way.

6. Human Resources

Developing a strong team is essential to the success of any business venture in China and also one of the most challenging aspects of establishing a presence in China. Finding strong middle and senior-level management is particularly difficult as there are very few individuals who possess the combination of language skills, market knowledge, innovation, leadership and exposure to global business practices. In the past, some companies have hired ethnic Chinese managers from Taiwan, HK, Singapore and elsewhere, but these people also run into major hurdles as a result of cultural differences with mainland colleagues and a lack of knowledge and access to the market.

Additionally, because of management talent shortages, Chinese and foreign companies both face problems with turnover. It is not uncommon for managers and young stars to jump from company to company in an attempt to continue learning new business practices and to increase their salaries and titles along every step of the ladder. Particularly for SMEs, the problems with retention can be disastrous. One strategy that might help a company deal with these particular issues is creating a multicultural team across all layers of the venture. Given the dearth of "all-in-one" management, it is important to find people with complementary skill sets. Bringing in people from different cultures also enhances the organization as a whole, providing opportunities to learn the best practices from China and countries around the world. Furthermore, having a diverse team will help inspire innovation of thought and create a more trusting, teamwork-oriented environment.

Another important consideration in developing a solid team in China and reducing turnover is to place a strong focus on training and development. Executives have found that the greatest driver for high turnover amongst foreign companies in China is not pay or title, but rather empowerment and access to opportunities. Many local employees in foreign companies need to believe that they are being treated as a respected member of the team and that they will be able to receive opportunities to learn and enhance their careers within the company. Further information can be found in the Human Resources section of the 2009 AmCham China White Paper on the State of American Business in China.

7. Quality Control and Due Diligence

Recently, the news has been rife with quality control scandals in China's toy, food and health product industries. Most prominently, the American toy company Mattel battled a huge scandal in the summer of 2007 because of problems with their China-based supply chain.

These issues beg the following questions: 1) Can American companies continue to trust Chinese suppliers with outsourcing of their manufacturing processes? 2) How can American companies conduct better management of their supply chains? 3) How can small businesses conduct the necessary diligence on suppliers, partners and other stakeholders in China to feel comfortable?

Indeed, this is a major challenge and one that does not have a particularly easy solution. On the whole, Chinese companies are very efficient, effective and safe when it comes to production. The isolated incidents that have been reported in the news, while concerning, are no reason to halt operations all together in China.

Companies that are looking to source from China must first establish strong relationships with their stakeholders whereby they can educate them on requirements and best practices. Strong relationships will also enable companies to be stern with its suppliers when necessary. Admittedly, SMEs should have an easier time as their supply chain should be considerably smaller than a company like Mattel's.

American companies would be wise to play an active role in safety and compliance across all aspects of the supply chain. This practice will not only ensure decreased risk of any major problem, but will also show your suppliers your willingness to engage with them and help them improve their own standards. A wealth of information is available regarding customs, export controls and standards AmCham China website.

8. Intellectual Property

Dealing with intellectual property (IP) infringement is another crucial consideration for any company looking to do business in China. Everything from design techniques to consumer-oriented products are often copied in China, with little to no ramifications. Court protection is improving but remains highly biased and inconsistent. Ensuring the safety of your company's IP can be challenging, and any business strategy should be carefully thought through with this in mind before moving towards an execution phase.

There are a few important concepts to understand that may help your company navigate this area.  Products that tend to be copied have the following characteristics:
       1) A large difference between manufacturing costs and retail price
       2) Easy to manufacture
       3) Products sold into the retail market

As Jack Perkowski writes in Managing the Dragon,, China's fragmented distribution leads most retail transactions to be one-off, whereas in the US, retail sales tend to be business-to-business transactions due to the nature of logistics and distribution networks.

If your products have these characteristics, you must carefully weigh the costs and benefits of your strategy in China. Also, if you are forced to share technology with suppliers and other stakeholders, it is prudent to isolate various components of the technology from each other, therefore your partners are never able to see everything as a whole. This logic should hold true whether you decide to produce your technology within China or to keep it offshore.

Finally, if you are a technology company, you must assume that your products are being copied somewhere in China. With the free-flow of information, it is nearly impossible to avoid this once your products hit the marketplace. The only solution to compete under these circumstances is to beat the competition through constant innovation. To assess the current intellectual property rights environment, please click here for AmCham China’s 2009 White Paper on the State of American Business in China, provided by the chamber’s IPR Forum.

WHY CHINA?

For most American businesses, both large and small, the list of compelling reasons to be in the Chinese market is long. Whether your company is evaluating new markets for its products, searching to improve its supply chain cost-efficiencies or searching for investment opportunities, it is wise to develop a China strategy. After completing your research, you may decide your best option is to shelve any business dealings with China until a future stage in your company's life cycle. However, at the very least you should engage in a thoughtful and thorough analysis of how China impacts your business and how it will shape your future prospects as a small or medium-sized company.

For a more thorough review of the business climate in China, use AmCham China's 2009 White Paper on the State of American Business in China.

Below are eight core reasons why firms are looking to China now:

1. China's Growing Role in the World

China is no longer simply “an emerging power. It is true that China’s GDP per capita remains very low (US $3,315) relative to developed countries, and well over 700 million of its estimated 1.3 billion people still live in poor rural areas. 1IMF World Economic Outlook Database 2008. Yet China is now the third largest economy in the world, trailing only the United States and Japan.  China is set to eclipse Japan as the largest regional economy, and continues to see enormous growth.

China is already a major world purchaser. The country currently consumes more than half of the world's pork and cement, a third of its steel, over a quarter of its aluminum and is now the biggest market for car sales. 2The Economist, The New Colonialists, March 13, 2008. From a macroeconomic perspective, China's actions now have global ramifications, while in the global political arena, China's influence and soft power over regional and worldwide geopolitical dynamics is rapidly increasingly.

Currently, China's GDP annual growth rate remains at a healthy seven to nine percent, far outpacing the developed world. The bottom line is that as China becomes an increasingly important global power, it will have increasingly greater influence over all businesses. Rather than an emerging power, China has already emerged as a serious player.

2. Market Size

With its population of 1.3 billion, China is the worlds most populated country. From a marketing perspective, there is little chance that a foreign business will be able to capture the entire China market, or even a majority of it. The segmentation between various age groups, geographies, economic status and consumption habits is too diverse.

However, the key implication of China's large population is that China’s sub-markets are large. For example, China currently has more internet users and people studying English than the entire population of the US.5Reuters, March 5, 2009.6McKinsey and Company. China has 650 million mobile phone users.7CTIA, The Wireless Association. In the consumer market, the country consumes 44 billion packages of instant noodles every year.9International Ramen Association. What this means, of course, is that companies can make excellent money without capturing dominant market share. In turn, there is some margin for error in your business planning because of the sheer number of potential consumers.

That being said, as always, it is crucial to take the time to understand your customer base fully. The Chinese market remains highly fragmented, distribution is difficult and consumer tastes are erratic and still developing. The allure of the largest market on earth has attracted businessmen from around the world, but few have actually succeeded in China. Take this lesson to heart and be wise in how you approach your business's China opportunity.

3. The China Price

The flip side to China's large population is its vast labor supply. China's emergence as the manufacturing hub of the world over the past three decades has created significant downward pressure on pricing of many of the world's goods. Outsourcing manufacturing to China has become a standard practice for many labor-intensive products, such as machine tools, leather products, toys, furniture and textiles, among others.

While many have characterized China's labor pool as unlimited, that has proven not to be the case. In a number of areas on both the low and high end of the production value chain, Chinese manufacturers have had to deal with shortages of suitable labor, particularly in certain geographical regions. Coupled with an increasing focus on environmental protection and labor rights reform, China's low-cost advantage has decreased a bit over the years.

Nevertheless, much like other developing countries, China has changed the global pricing landscape, often with deleterious effects on manufacturing companies elsewhere around the world, including the US. As a result, American companies have been faced with the harsh reality that they must compete on quality and design or else determine a low-cost production strategy to compete and survive. Often, this low-cost strategy entails outsourcing some part of the supply chain to China.

Importantly, China's competitive advantage in manufacturing is no longer driven solely by low-cost labor. Many Chinese factories have become very efficient and are able to deliver a high-quality product compared to counterparts in other low-cost geographies. Furthermore, China is in the process of moving up the production value chain and is making a major push to develop its service sector. Foreign companies should view this trend as both a threat and an opportunity, but it should be managed appropriately either way.

4. Increasing Disposable Income and the Urban Middle Class

China has long had one of the highest savings rates in the world (around 30 to 40 percent) and consumer consumption rates are nowhere near that of the US. However, with the growth of Chinese disposable income and a generational shift towards a younger, more sophisticated middle class, Chinese consumers are beginning to loosen their purse strings. According to the Financial Times' China Confidential, McDonald's had plans to open up 175 more locations around China in 2009. Chinese retailer, Bailian Group, opened 232 stores in Shanghai alone in 2008, and Louis Vuitton recently launched a flagship store in the inland city of Taiyuan.10China Confidential, Financial Times, March 2009.

Furthermore, scores of private equity and venture capital investments are targeting consumer-driven retail plays, underscoring the high expected growth in consumer spending in the coming years. Recent investments include CDH's investment in Li Ning (China’s biggest domestic sporting apparel brand), Oak Investments and SIG's funding of Chamate (a café chain) and Yum! Brand's investment in hotpot chain Little Sheep.

In addition to the increasing consumerism among China's youth, rapid urbanization is also playing a crucial role in the development of new business opportunities. At present, there are over 150 different cities in China with over one million inhabitants each, and more than 650 million people living in urban areas.12Jones Lang Lasalle. Urbanization will have a major impact on the evolution of the Chinese consumer and on the services and infrastructure that each person will demand.

5. Outbound Capital Investment

With more than US $2 trillion in foreign currency reserves, China has been encouraging its businesses to seek offshore investments for the past few years. After facing early challenges with CNOOC's proposed takeover of Unocal and Haier's failed bid for Maytag, outbound Chinese transactions are beginning to come together (not withstanding recent hiccups like Chinalco's Rio Tinto deal). China's total outbound investment in 2008 was US $18.6 billion, up from US $2.5 billion in 2002.13China Law and Practice. China's National Development and Reform commission estimated that such investments would amount to more than a 10 percent increase in 2009, despite the global financial crisis.14National Development and Reform Commission.

Furthermore, the Chinese government has recently loosened restrictions on Chinese companies seeking outbound investment opportunities. Under the new laws, Chinese companies will require a far less onerous approval process to engage in outbound transactions.15China Matters, Paul Hastings, June 2009.

For businesses in the US and elsewhere, this new dynamic may result in new opportunities for investment and partnerships, but may also raise the specter of new sources of competition on their own shores.

6. Chinese Competition in Other Markets

China's increasing global assertiveness and its trend towards investment overseas has significant implications for businesses in regions beyond its borders. As has been widely reported, Chinese companies have been aggressively opening new markets for labor, resources and consumers in Latin America, Africa, Southeast Asia and even Europe. Over the past few years, as the US has been engaged with other global priorities, China has quietly begun filling the vacuums left in countries throughout the world.

Consequently, China's influence has been gaining rapidly, with new trade and investment deals being rolled out by the day. While many of these dealings have been taking place on the national government level, the implications are already beginning to trickle down to all types of businesses. As a result, companies that have little direct contact with the Chinese market still need to understand China and its business practices. No matter where you conduct business, Chinese policies and/or companies will have some impact on your market and this will only continue to grow over time.

7. Increase in Innovation

A common assessment of China's labor force is that its strength lies in highly repetitive manufacturing processes that require large amounts of manual human labor. As for more service-oriented knowledge tasks, the reigning perception is that, on the whole, China’s workforce is not innovative, creative or flexible enough in its thinking to compete. China's top-down approach to government, policymaking and social constructs, combined with a rote learning system that is heavily focused on test-taking rather than teamwork and problem solving are regularly cited as reasons for this deficiency. In addition, rampant disregard for intellectual property rights may dampen incentives for innovation.

Even today, many Chinese companies find it far easier to copy or reverse engineering existing technologies.  Times are changing, though.  With approximately four million engineers graduating each year from Chinese universities and technical institutes16The Economist Intelligence Unit. and increasing numbers of multinational corporations moving their research and development (R&D) centers to China,17Knowledge@Wharton, June 3, 2009. the pace of innovation in China is picking up rapidly.

China was historically a center of innovation with gunpowder, the abacus, porcelain and countless other inventions originating from ancient China. Now that the country is breaking free from its Soviet-style production processes, a new dawn of innovation may be just around the corner.

Today, China benefits from a highly-educated, low-cost work force that can experiment on an enormous scale because of the size of their home market and strong government support. Moreover, given the dynamic and highly competitive nature of the China's increasingly market-based economy, companies are being forced to innovate in order to survive.

8. New Outsourcing Opportunities

China's increasing capacity for innovation means that the country's large workforce has the ability to provide a great deal more to foreign companies, both large and small than simply low-cost manufacturing. Increasingly, businesses are finding that higher-value services such as web design, market research, software development and clinical testing can all be managed by Chinese teams.

Moreover, for any company looking to sell its goods in the Chinese market, it is becoming increasingly important to leverage Chinese product design and R&D teams to effectively tailor products to the needs and tastes of Chinese consumers. To do otherwise would be a serious mistake for most businesses.

Over the past 20 years, China has developed a reputation as being the factory to the world, for better and for worse. The country has been the production center for many of the low cost goods that have flooded developed markets. But quickly, China is becoming a major force in other value-add activities. Like many of the other important trends in China's growth, this new development presents great opportunities and great challenges.

Hot topics

1. The American Chamber of Commerce in China homepage can serve as a starting point to both member and non-member businesses who are interested in getting more detailed information in their specific industry or information regarding the business climate as a whole.

2. With over 2,600 individual members from more than 1,200 companies, we connect working groups comprised of forums, committees, and strategic task forces that span across a vast spectrum of industries. These networks work in tandem to promote the American business perspective in China according to their respective industries. Groups also communicate regularly to collaborate on common issues or share their outlooks with co-members. Please click here to get connected with the AmCham business community or choose a forum or committee from the provided list below. Begin by identifying which industry sector most defines your interests. From this point you may contact the appropriate staff member regarding details on how we can help develop your interests in China.

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The things you should know about

The following list is currently under development and more information regarding specific details under each category will be released in the next few months. This page will provide an in-depth look at important aspects of the business climate that are affecting currently operating companies in the market.

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