China’s global industrial investment strategy gives a perfect illustration of the new economic model that the People’s Republic has been building while entering the XXIst Century. The « Socialist Market Economy » that was officially proclaimed in 1999, has found with it one of its most obvious materializations.
China has unleashed the Market forces in an overseas investment and acquisitions process that has been carried out by many competing and diverse enterprises – ranging from giant State-Owned firms to relatively small private companies, through all the in-between configurations that can be met in the Chinese corporate field today.
But at the same time, the State has kept a strategic role of arbitration of this market driven process. When time comes to materialize the initiatives of the different Chinese firms engaged in global prospection, Beijing’s controls of administrative decisions and, more decisively, of financial resources, give it the power to validate or not the proposed investments - depending on wether they correspond or not to the national strategy.
This national strategy, that has been defined in the very first years of the XXIst Century, is oriented toward two goals. One is securing the supply of raw materials playing a decisive role for the Chinese economy, and for which national reserves are not sufficient. The second goal is acquiring technologies that will ensure qualitative progress of the national industry.
This strategy can be considered to have been deployed since around 2005. On that very year, a first major success came in the field of technological acquisitions, with the takeover of the PC division of America’s IBM by national champion Lenovo. But a first indication of the limits that this strategy would have to deal with also came, in the raw materials field, with the aborted takeover of California-based Unocal by China’s CNOOC.
Securing vital raw materials
As China progressed on its path to the 2nd rank among the World’s economies, it became obvious that in some fields, its natural resources would be insufficient to meet its needs.
Oil, for which China holds only limited reserves, was the first sector in which this problem appeared. Some years later, metal ores, although China has important reserves, became insufficient when faced with the huge proportion of World productions using that resource that took place in the country.
Oil : few actors, many ways of action
China evolved from a net oil exporter to a net oil importer position as soon as 1994. Since then, its dependency has noticeably accrued, as China had to import 58% of its crude oil consumption in 2012. And the unsubstituability of oil in the transport sector, untill major technological breakthrough are accomplished, can only confirm that trend.
The global investment strategy on that field has been carried out by a limited group of comparable firms, as China’s oil and gas policy relies mainly on the three national oil Majors – CNPC (China National Petroleum Corporation, the holding of PetroChina, China Chemical and Pëtroleum Corporation or Sinopec, and China National Offshore Oil Corporation or CNOOC). But these firms have been deploying a variety of approaches that expose the pragmatism of the Chinese strategy.
China’s three oil giants have been using the traditionnal approach of other Majors, and buying concessions in oil-rich countries. The most important projects of that sort have been those developed by CNPC in Irak. Involvement (alongside Western Majors BP and Total) in the development of Rumaila and Halfaya’s oilfields, should ensure China’s main oil producer control over yearly volumes of 40 million Tons of crude oil.
In an already crowded World of oil exploration, China’s Majors have also been using the alternative of acquisition of concessions holders, as a way to raise their controled reserves. Main successes there were acquisitions of Switzerland-based Addax Petroleum by Sinopec in 2009, and of Canada-based Nexen by CNOOC in 2012. These operations ensured the two competitors of PetroChina control over yearly productions of 7 million Tons and 10 million Tons of crude oil, respectively.
Nevertheless, that sensitive domain has also been the one where China’s global investment strategy has suffered its main setbacks. The already mentionned Unocal affair, when US Representatives opposed acquisition of the California-based company in 2005, prompting CNOOC to retreat from what was China’s biggest foreign bid, was echoed by the YPF (Yacimientos PetroliFeros) case in 2012. The agreement between Sinopec and Spanish oil Major Repsol, for buying its 57% share of Argentina’s main oil producer, collapsed because of opposition of Buenos Aires that led to nationalization of YPF.
To bypass that sort of political problem, China’s oil giants have not hesitated to employ traditional State – to – State type relationships, at the same time they recurred to Market mechanisms in other parts of the World. The strategy deployed in that case has implied association with another State heavyweight from the financial sector – namely the powerfull China Development Bank (CDB). In 2009 and 2010, CDB was engaged in loans-for-oil agreements with Russia’s Rosneft, Venezuela’s PDVSA and Brazil’s Petrobras, that ensured yearly deliveries of over 35 million Tons of crude oil to CNPC and Sinopec, in exchange for over 45 billion dollars of credit lines.
Metals ores : many actors involved
Whereas oil resources securing saw the use of different techniques, but was the field of a limited number of Chinese firms, metal ores prospection has been a field invested by more Chinese actors. Nevertheless, it shows a clear predominance of State-Owned firms, encharged with the strategic mission of controlling raw material supply to the country’s giant metals industry.
Logically, this task has involved investments in foreign producers, by ore trading specialists working for China’s industry. The two heavyweights China Minmetals and SinoSteel have been involved in operations, implying both majority and minority stakes acquisitions, from Australia to Southern America, Africa and Central Asia.
But securing foreign ores supply has also been an important field of investment for final consumers of those materials, i.e. China’s main metallurgical producers. Several of China’s major steelmakers have thus been investing in foreign iron ore mines, such as AnBen Steel and Hunan Valin in Australia, WISCO (Wuhan Steel) in Brazil, and Hebei Steel in Canada.
Copper producers have also engaged in foreign mining, with investment in huge projects in Afghanistan and Peru by national leader Jiangxi Copper, and smaller operations by some of its competitors in Africa.
But the main player in that field has been aluminium producer Chinalco. At the same time it engaged in local mining developments in Africa and South America, Chinalco has been in charge of China’s interests in a battle with the trio of giants that dominate world metal ores trade. In order to counterbalance influence on iron and other metals ores prices of Brazil’s Vale and Australia’s BHP Billiton and Rio Tinto (the three of which control 70% of iron ore international trade), Chinalco has been entering the capital of a weakened Rio Tinto in 2008, and trying to gain control of it in 2009. Final failure of that last attempt, seemingly determined by manoeuvers from BHP Billiton, was a new exemple of the limits met by China’s global strategy. It has nevertheless permitted the country to enter a power relationship with the giant global ores miners.
By the side of these giant battles involving State-Owned Behemots, smaller operations have been carried out by smaller, including private, Chinese firms. But whatever the official speeches, experience has showed that, past a certain size of projects, Beijing intends to exert control. Raw materials is clearly too sensitive a problem for China to permit decisive influence of out-of control actors (on that point, see part 3.1. of that chapter).
Acquiring technologies
Acquiring technologies that will permit China’s industries to evolve from a position of subcontractor to that of developer, has been the other main goal of China’s global investment strategy.
Actors there have been much more diverse than is the case in the raw materials securing process. The huge scope of Chinese interests – in nearly every segment of industry – has made that China has heavily relied on the initiative of all sorts of firms, from State-Owned giants designated as national « champions » with a nearly geopolitical mission, to relatively small firms embarked on a globalization process for purely financial motives.
The move has begun in industries where China hold a decisive position in World production as a subcontractor – such as electronics, which will be taken as a first exemple there. But it has spread to other sectors where China intends to emerge as a competitor for foreign firms that dominate its domestic market today – such as automotive, which will be the second exemple evoked in that chapter.
Electronics : lessons from a pioneer sector
With more than 60% of computers and over 50% of TV sets produced in the World, assembled in plants located on its territory, China has become the core of global electronics production. Nevertheless, untill 2005 that production was overwhelmingly subcontracting for foreign firms, with very limited benefits for China’s industry. Over 90% of PCs and TV sets produced in China then, wore European, Japanese or US brands.
The first major foreign industrial investment by China marked a clear will to change that situation. Acquisition of the PC branch of American pioneer IBM by untill-then low profile Lenovo, raised the latest to 3rd position among world producers. It brought it an international commercial network, an established brand (with the ThinkPad name associated to IBM), and technologies. This did not mean things were going to be easy. The new Lenovo went through a learning period with relatively deceiving results. But after a shake-up symbolized by the return of its legendary chairman Liu Chuanzhi, the champion went back on the path to success – and engaged in new acquisitions. The PC branch of Japanese group NEC in 2011, and smaller but locally important assemblers Medion in Germany, and CCE in Brazil, in 2012, completed Lenovo’s global deployment strategy. As a result, the Chinese group ended the year 2012 in a close tie with American historical leader HP for the first spot in global own-brand PC sales.
Whereas Lenovo provided a model for a successfull worldwide investment strategy, the electronics sector also registered some obvious failures in these first attempts to go global. The most obvious case was certainly that of local champion TCL group. One year before Leovo’s IBM deal, this Guangdong-based group engaged in a less important but nevertheless high profile operation, by acquiring French brand Thomson. The historical European leader among TV sets producers was supposed to give the Chinese group a new dimension – and it did so, but for a very short while. In 2005, the new TCL raised to first rank among World TV sets producers. But only five years later, it had fallen to 6th position, far behind its main Japanese and Korean competitors.
The reason for that spectacular failure was a wrong appraisal of technological evolution. Thomson was one of the leaders of CTR TV sets. But it was not prepared to the LCD technology, that revamped the sector in the five years following TCL’s acquisition.
TCL was to be saved by its powerfull local political partners. But the lesson of its global investment strategy failure was not to be lost when China came to invest in more complex industrial sectors.
Automotive : actors with diverse profiles
At the same time it engaged in investments dedicated to changing its position from subcontractor to developer in a certain number of export oriented sectors, such as electronics, China aimed at constructing its own champions in other fields, for which it had a huge domestic market dominated by foreign firms. The automotive industry, for which China became the World’s number one market in 2010, is one of the sectors concerned.
The first big operation can be dated back to 2005 there also. On that year, when the last important vehicles manufacturing group of the UK went bankrupt, its two components were bought by Chinese automakers. While SAIC (Shanghai Auto) bought technologies and trademarks of Rover, smaller neighbour and rival Nanjing Auto bought what remained of MG. Two years later, when SAIC absorbed Nanjing Auto, the full herency of the last British carmaker fell into the hands of China’s first automotive group.
Whereas this pioneer move was orchestrated by a State-Owned giant, the following big step in China’s auto industry foreign acquisitions was made by a much smaller private group.
When Zhejiang-based Geely bought historical Swedish carmaker Volvo in 2010, it ranked only number 11 among China’s vehicles builders. The move made it a symbol but certainly not a heavyweight among global carmakers, raising from number 30 to number 20. China’s overseas industrial investments appeared not to be reserved to the State-Owned giant « champions », but open to private initiative as well.
How the State remains at the helm
From national to local champions, from State-Owned giants to much smaller private firms, China’s global industrial investment may appear as a spontaneous and unorganized movement. Nevertheless, analysis reveals that this spontaneity, while real in the exploration phase, disapears when it comes to validating, and transforming foreign investment opportunities in concrete operations. The role of the State as a strategist appears clearly then, through its arbitration.
Control over raw materials : the Hanlong affair
The Hanlong affair illustrates in a spectacular, thriller-like way, how China’s central governement intends to maintain control over initiatives concerning the vital question of securing foreign raw materials.
Whereas involvement of Chinese private groups in marginal mining operations in Africa became relatively common in the 2000’s, in 2011-2012 one of these groups engaged in projects of a totally different size. In 2011, Sichuan-based Hanlong group announced its engagement in a 3 billion dollars iron ore project in Tanzania. The following year, its overseas ambitions came closer to realizing, when the group signed an agreement for buying Australian firm Sundance, that was itself the owner of exploitation rights for the Mbalam iron ore mine in Cameroon. When the China Development Bank (CDB) announced in october, 2012, it granted Hanlong a 1 billion dollars debt facility, the deal seemed done.
But Hanlong’s ambitions appeared as a problem for China’s authorities when they scrutinized the proposed deal, because the diversified Sichuanese group had a quite particular - and unsecuring - background. Hanlong’s chairman had a history marred by business violence, including being the targer of an assassination attempt by a former partner in 1997. Much worse, the other way, his brother was accused of hiring a hitman who murdered three people involved in an other affair in 2009.
This background obviously raised eyebrows as Hanlong was to use State-funneled funds to take control of strategic foreign iron ore resources. As a consequence, begining of 2013, it was rumored that the private group had been ordered to team-up with a State-Owned steelmaker as a condition for the Sundance deal to be approved. As the attempted union apparently did not work, Chinese authorities then resorted to an other much more direct approach. In march, 2013, just days before Hanlong’s chairman was to sign the final acquistion deal with Sundance, he was arrested under accusation of having hidden his fugitive brother, sought after by the police since the 2009 murders. The deal with Sundance was not signed, and Hanlong’s foreign ambitions vanished in a few days.
The Volvo versus Saab cases : financial arbitration for technologies
Most of China’s foreign investment attempts are settled in a much less dramatic context. And they usually do not need to recur to such extreme measures. Control of the financial system is usually sufficient to shape China’s overseas investment strategy, because Chinese banks take instructions for important loans authorizations from the State and the Communist Party of China. And no foreign investment attempt can materialize without these loans. The different fates of Sweden’s two bankrupt historical carmakers, in 2010 and 2011, provide a striking illustration of that reality.
When second rank carmaker Geely intended to buy the ailing sedans branch of Volvo in 2010, this was a heavy burden it could not bear by itself. The 1.8 billion dollars Geely had to pay for the acquisition, represented 80% of its turnover at that time. Therefore, the Zhejiang-based automaker needed financing for the buyout to materialize ; an it needed Beijing’s green lights to the Chinese banks that were to bring it most of that financing. Chinese authorities lokked at the issue, and saw that Volvo’s former owner, Ford company, would not oppose technology transfers from its former subsidiary. Financing was then approved, and the deal could proceed.
The Saab case was very different. When, only one year after Volvo, the other historical Swedish carmaker ended in the same sort of financial woes, Chinese carmakers also appeared as potential acquirers. Huatai and Youngman groups, that made successive bids, were much smaller than Geely. But the financial needs were also much smaller : 700 million dollars would have been enough to acquire Saab Auto.
But financing of that operation by Chinese banks was not authorized by Beijing. And the reason was very simple : Chinese authorities anticipated (as would be confirmed later) that Saab’s former owner, GM group, would oppose transfers of a certain number of technologies of which it was proprietary, to a new owner. The main interest of an acquisition therefore disapeared – all the more considering that in 2009, an other Chinese carmaker, BAIC (Beijing Auto), had acquired a certain number of the technologies of which Saab was owner independently from GM.
The financial arbitrations of the Chinese authorities show that, although Chinese acqusitions overseas can appear at first sight as a spontaneous and uncoordinated move, they enter, in the final stage, in the frame of a strategy. They must obey the goals of securing the national industry’s necessary resources, or acquiring technologies that will help it to change its competitive positioning, and thus participate in construction of China’s Socialist Market Economy.
Jean-François DUFOUR
Jean-François Dufour is Chief Analyst at DCA Chine-Analyse, a strategy consultancy focused on China’s industry. After obtaining Masters in Economic History and International Negotiation from AMU (Aix-Marseille Université), he was a visiting student at the Beijing Language Institute and Shanghai Foreign Language Institute. He worked several years as a journalist before creating DCA Chine-Analyse. He is the author of several books on China, including Hongkong, Enjeux d’une transition historique (Le Monde Editions, Paris, 1997), Géopolitique de la Chine (Complexe, Bruxelles, 1999) and Made by China, les secrets d'une conquête industrielle (Dunod, Paris, 2012, and Springer-Verlag Italia, Milano, 2013).
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