There is no shortage of tales about the perils of investing in China, carried out alongside heaping doses of wishful thinking by companies across the business spectrum enticed by the size of China’s market. As the years have gone by, these tales have certainly grown in scale and frequency. Almost invariably the companies involved have devoted little (or sometimes no) attention to due diligence either up front or during the course of their business activities. So what is a company or investor to do?
In Risky Business in China, A Guide to Due Diligence, author Jeremy Gordon has done a superb job, in a light-hearted yet detailed manner, of explaining the full array of due diligence tools that can enhance a business’s chance of success in this opaque and challenging market. Gordon draws largely on his own experiences, contemporary examples of business ventures gone awry, as well as the shared expertise of other prominent due diligence professionals in the China market.
Gordon takes great pains to explain that China is not a uniquely risky market, and helps to demystify the craft of due diligence as not the province of “shady spooks” but rather a required business consideration that should be as common to an investment decision as any other performed. He provides digestible steps and processes – all with Chinese characteristics – pairing an explanation of realpolitik in China with employing due diligence processes wisely. It is one part China reality briefing detailing recent history, and one part a compelling and thoroughly explained business lesson in how to reduce risk. The Chinese government, and the Communist Party, is part of the business reality in China, and it’s important to align one’s strategy with long-term government plans.
Gordon emphasizes repeatedly that due diligence processes need to be adapted to suit Chinese conditions, and one needs to remain objective and pay attention to red flags. Due diligence is needed throughout the business relationship, and companies would be wise to employ external specialists to maintain objectivity. It is similarly important to avoid the trap of thinking that conducting due diligence will cause local counterparts to lose face, and instead see this as an opportunity to develop a more lasting relationship. In a nod to Donald Rumsfeld, effective due diligence should be used to answer conclusively the “known unknowns” as well as identify and deal with the “unknown unknowns” before they come back to haunt you.
Gordon’s analysis is particularly strong in outlining how to traverse a Chinese domestic legal and regulatory environment that in recent years has become even more unyielding of important information. Citing China’s reaction to investigatory financial reporting by short-sellers and foreign stock exchanges, China has tightened further the availability of information considered “normal” in many other markets. At the most basic level, China is squeezing the availability of registration records from the central and local offices of the State Administration of Industry and Commerce – the prime building block of understanding who owns a company, what it does, and how its revenue is derived. In more arcane but increasingly substantial ways, there is now more aggressive enforcement of laws on handling and accessibility of information, including China’s Privacy law, State Secrets law, and Archives law. Each is vague about exactly what is off limits, but all have a penultimate paragraph which basically states “and whatever the relevant authorities believe is sensitive is off limits.”
While Gordon’s overall analysis and prescriptions for the reality of the China market are compelling and thorough, he does miss the opportunity to spell out the “New Normal” in China and its impact on the business environment, particularly post-2008 financial crisis and the advent of the Xi Jinping era. He does note that China’s attitude toward foreign investments and foreign firms has cooled, and that all too many firms have become too dependent on China’s market and this point of leverage is being used against them. Businesses need to fully absorb the impact of this new situation, align their activities accordingly, and where possible localize and restructure – or retreat.
That said, this book is a tour de force for any multinational company or investor of any type on the unique challenges and remaining opportunities of the China market, and a how-to guide to effectively and comprehensively navigate the shoals of China’s market. In other words, this should be required reading for anybody in the Chinese market seeking to “cross the river by feeling the stones.”