The aspects related to the ways of operations for a German car company in China - Essay Example

? International Business Environment Executive Summary Conducting business in foreign market necessitates consideration of several aspects. The economic condition, industry situation, cultural aspects, foreign investment strategies, government policies and risks need to be duly considered before entering in a foreign market. The report represents the international business environment analysis for a German car company to enter in the market of China. Germany is considered as one of the most popular countries for automobile industry. On the other hand, the automobile industry of China is increasing rapidly and becoming a preferred place for business and investment for several multinational companies. The report summarises the aspects that a German car manufacturing company can face if it enters in the car market of China. It has been observed that China had faced several issues regarding exchange regime which can cause threat for a new company. The most preferred way to enter in the market of China for the German car company is through export at the initial phase and then foreign direct investment after realising the demand of its products. The report describes the ways to deal with the exchange risk as well as the political risks the German car company can face during the operations of business. Table of Contents Table of Contents 3 Introduction 4 1.0Analysis of National Business System and Cultural Condition in China & Its Impact on Automobile Industry 4 2.0 Pattern and Trend of Trade and Investment between Germany and China in Automobile Industry 7 2.1 Type and Level of Protection for Import and Foreign Direct Investment in Chinese Automobile Industry 8 3.0 Exchange Regime of China and Germany 9 3.1 Assessment of Risk for German Car Company in China 10 4.0 Recommendation for Effective Business in China 12 5.0. Types and Implications of Political Risk for Car Company in China 14 5.1. Recommendations for Reducing the Political Risks 15 6.0. Conclusion 17 References 18 Bibliography 22 Introduction The economic development of China has become an issue of concern for several businesspersons. Before 1978, China was considered as centrally strategic and closed economy. Since then, China propelled numerous economic reorganisations. The central government had introduced the price and proprietorship inducements, inaugurated four Special Economic Zones (SEZs) in order to entice foreign investment, increased exports and imports of high-tech products among others (The International Tax Planning Association, 2008). In China, the car industry is considered as one of the major sectors for industrial development and innovation efforts. In recent times, China has become one of the fastest car producers internationally. The car industry of China has continued to expand in spite of recent economic crisis (Tang, 2009). The report will describe the business systems of China and Germany and provide brief description about the methods for a German car company to conduct business in the Chinese market. Several factors such as business systems of the countries, foreign direct investment policies, and political aspects affecting the car industries, entry strategies, and recommendations for resolving the financial risks are considered in this report. 1.0 Analysis of National Business System and Cultural Condition in China & Its Impact on Automobile Industry China is one of the significant nations in Asian region in terms of business, cultural influence and population. China has experienced steady economic development in recent times and this progression is extensively expected to continue in future (Grainger & Chatterjee, n.d.). Through analysing the national business system of China, three aspects have been identified which are adaptability, creativity and competency; and any company entering into China must comply with these three aspects. China follows the capitalist business system. The private sector in China contains huge numbers of small and medium organisations which operate their businesses in regional market or engage in international businesses in the capitalist networks of the world (Redding & Witt, 2008). The private business organisations rely on mediators to associate with external sources for design, marketing plan, technology, brand, and logistics, and their individual capabilities in the Chinese market are flexibility, production quality, and cost effectiveness. This form of organisation represents almost 65% of the total economy (Redding & Witt, 2008). Therefore, the new automobile company should consider these factors in order to succeed in the Chinese car market. The business system of China is considered by three types of slack which are availability of skilled inexpensive labour, growing reserves of capital, and high industrial size. Though the reserves of capital in China are increasing, they are being utilised of high rate of incompetency and the industrial volume in China has also become double according to economic requirement (Redding & Witt, 2008). It can impact on the automobile company which will seek to enter in the car industry of China. The competitive stress from external business environment will force China to congregate on liberal market system. The experiential studies on institutional conjunction have recognised a general form of hybridisation in China where business organisations coming from other backgrounds are adjusted and reconfigured in the procedure of fitting them in the existing formal commercial structure of China. Therefore, German car company needs to adapt with the Chinese production techniques without the requirement of substantial modifications from the features of German institutional environment. Conducting business in China signifies developing close relationships with Chinese business individuals as well as administrators. Therefore, the German car company needs to understand the Chinese business related culture, business procedures, meeting practices, and negotiation systems to increase the potential of the business. Confucianism, battle schemes and Taoism have ruled the Chinese civilisation for several years and have remained the fundamental cultural system in present Chinese business conduct. China’s current ‘guo qing’ has significantly impacted the method of conducting business between Chinese and other multinational organisations. For example, one significant component of China’s ‘guo qing’ was absence of communal and financial development because of foreign conquests and corruptions in the period of 19th and 20th century. Disgraces and disturbances at that time had inclined Chinese people to intensely disbelief the foreigners (Sebenius & Qian, 2008). As a consequence, the present Chinese business environment engages with foreign investors and organisations by win-lose negotiating strategies inspired by patriotic passions which can impact on German car company’s business. Chinese business has become progressively combined into the international business field which was long ruled by the western countries. Due to the ‘open door policy’ of China’s business system, the evolution of the rules of the business on the international platform has been accelerated by arrival of foreign direct investments (FDI), acceptance of cutting edge technology and upsurge of foreign talented people among others (Sebenius & Qian, 2008). Chinese negotiation experience towards learning international business activities had sharpen the skills of Chinese business people by cross-border transactions, which had caused increasing resemblance in the business activities with western business people and multinational organisations (Sebenius & Qian, 2008). The focus of Chinese cultural system for business is developing relational associations. Chinese people believe that any affair between businesses is eventually constructed upon associations between persons (Sebenius & Qian, 2008). Conducting business in China not only limited between companies but also is expanded between people. German car company should understand the importance of interpersonal relationships for effective business in China (Sebenius & Qian, 2008). 2.0 Pattern and Trend of Trade and Investment between Germany and China in Automobile Industry Germany is considered as one of the major financial and industrial centres and a crucial member of European Union. It plays a significant part to form business relations between China and Europe. Apart from other European countries such as France, Italy and Great Britain, Germany is also one of the major dealers of equipments and key bases of investments and growth in Chinese car industry (Zhaorong, 2010). The business trend between China and Germany had gone through several fluctuations. During 2005, there was evolving disparities between China and Germany due to complex alterations in global business environment and political fluctuations in Germany. In the year 2007, the trade relation between China and Germany was rigorously harmed due to problems in Tibet (Zhaorong, 2010). But since 2008, Germany had taken clear cut measures on the Tibet matter and the trade relation restored again. Throughout 2009, both the nations had significantly maintained positive relationships in terms of business (Zhaorong, 2010). In spite of the international economic crisis, the trade relationships were stable between two nations. A number of German car companies such as Audi and BMW Group among others had increased their sales in China by 28% and 46% in the early part of 2009. The rapid economic development of China had provided business prospects for Germany (Zhaorong, 2010). The investment trends between two countries have been also strong. In the year 2011, Germany and China had signed agreements of above 15 billion USD in order to increase the trade twice as much by 2015 (Asia News Network, 2011). One of the major contracts in car industry occurred between a renowned German car company, Volkswagen with Shanghai Automotive Industry Corporation for investments in new products, machines and research and development hub. In the year 2010, the total trade between Germany and China was calculated at almost 142 billion USD which was one-third of total business between China and other European nations (Asia News Network, 2011). Several statistics justify that the investments between China and Germany have increased considerably. In 2011, Germany had invested in almost 7,110 projects related plans in China with monetary contributions of 17.67 billion USD (Asia News Network, 2011). China has become one of the preferable investment destinations for Germany and 43% of German investors had conveyed an aspiration to increase business in China (Asia News Network, 2011). 2.1 Type and Level of Protection for Import and Foreign Direct Investment in Chinese Automobile Industry Since economic reforms and subsequent opening up, the Chinese car industry had experienced impressive growth. China had aggressively designed comprehensive series of laws and regulations in order to administer the FDI. The laws comprise of regulations developed by “People’s Republic of China” on completely owned foreign organisations, joint ventures and cooperative enterprises. The laws and regulations also contain associated privileged rules and provisions for special economic zones (SEZs) in the country (Long, 2003). In order to successfully conduct business, the German car company must certify that the products meet an assured benchmark and certain proportion of the product must be exported. The neutral policies of FDI in China attempt to generate fair situation for export in order to compete globally (Long, 2003). Therefore, in order to get competitive advantage in Chinese market, German company needs to produce more by utilising the raw materials and renewable sources widely. Higher export rather than import can also provide competitive advantage for the company operating in China. For instance, if the German car company exports 70% of the products from overseas countries, then it will lead to reduction of 50% corporate income tax, hence attainment of less operational costs (Long, 2003). Therefore, the car company can enjoy more positive outcomes with respect to trade. The FDI rules of China are related with increasing the degree of export and lowering of import. The German car company must have competitive advantage in terms of advanced technology, machinery and capability to upgrade the production system if it wants to survive in the Chinese car market. 3.0 Exchange Regime of China and Germany Exchange rate regime in the Chinese market is a key concern for conducting business due to increased capital flow followed by extensive crises. Several developing countries had transferred to flexible exchange regime in the period of 1990s but China continued to stick with the ‘currency peg’ in spite of the crisis of Argentina and Turkey in the year 2001 (Frankel & Wei, 2007). Several researchers have revealed that China’s choice to adhere to ‘currency peg’, where its currency could easily be permitted to raise is a thoughtful decision with the aim to accomplish competitive advantage over international market (Frankel & Wei, 2007). Therefore, the exchange regime of China had discouraged the balance of payment regulations and also created adverse impact in the world economy. In the year 2005, China had declared new exchange regime after slight preliminary insurrection of 2.1%, permitting a drive of up to +/- 0.3% in mutual exchange rate in any specified day. In theory, the changes can be cumulated to the maximum tendency of 6.4% per month, but in practice, the cumulative tendency was only a small fraction of exchange rate (Frankel & Wei, 2007). From the year 2005 to 2007, the currency of China was appreciated by 10.8% in opposition to the USD and 14.4% against Japanese Yen (Bernard, 2008). In comparison to this, value of Chinese currency is actually sapped by 8.8% against Euro and 6.2% against Pound. Though the general form of movements was similar, the real value of the Chinese currency regime is roughly unaffected between years 2000 to 2007 with minimal appreciation mostly equalised by higher inflation in the USA (Bernard, 2008). 3.1 Assessment of Risk for German Car Company in China The currency of China is alleged to be extensively underrated. In spite of appreciation of currency in the year 2005, there is increasing pressure from the USA to China for quick appreciation of the currency (Bernard, 2008). In the year 2007, European administrators jointly issued a declaration advising China to let its currency to appreciate more swiftly. As the car industry of China is flourishing rapidly, therefore it becomes a subject of belligerent trade arbitration and trade authorisations by European countries. Several car organisations with significant Dollar earnings are capable of appropriately recognising the possible risk of strengthening of Chinese currency against other currencies (Bernard, 2008). However, this discrepancy between currencies and actual terminuses can lead to unexpected difficulties for German car company if the currency of China rises against European currencies such as Pound and Euro. Therefore, even if the German car company operating in China, efficiently appraises the disclosure to currency activities, it will possess few choices for managing the financial risk (Bernard, 2008). In the presence of strong competition in car industry, the unseen currency disclosure and absence of effective risk management methods can generate significant challenges for the company. In China, the German car company can face two kinds of exposure risks which are direct exposure and indirect exposure (Bernard, 2008). Direct exposure is the financial status in a currency on the book value of organisation i.e. alteration between incomes in currency and expenses in currency. The indirect exposure is the risk of variance between an organisation’s transactions in the international market and purchase of materials from the global market (Barumwete & Rao, 2008). Besides, there are others risks that the German car company can face such as transaction exposure which can result from business dealings (Barumwete & Rao, 2008); translation exposure which can arise from accounting revelation when financial reports of foreign business are interpreted into parent corporation’s domestic currency for the purpose of combining the financial recording and the operating exposure which can derive from unexpected change of long-term net present value due to exchange rate fluctuation (Barumwete & Rao, 2008). Therefore, if the German car manufacturer is exposed to those exchange risks, the company can reduce them by hedging strategies in order to inhibit itself from financial losses or losses due to rise in organisation’s value (Barumwete & Rao, 2008). Organisations which use currency hedging instruments are less profound to exchange rate risks. There are several derivative instruments which can be used to reduce the financial risk such as currency options, currency futures, and swapping among others. 4.0 Recommendation for Effective Business in China Considering the above findings, it is recommended that the German car company should export the products at the initial stage. Afterwards, considering the consequences of the entry and demands of the car products in the market of China, the German car company can progressively develop production facility in the Chinese market through FDI. It can help to fulfil the local demand of people as well as understand their preferences. There are several alternatives for German car manufacturer to enter into Chinese market through FDI, such as completely foreign owned initiative, compliant joint project, illustrative branches and mutual partnership among others. Foreign investment enterprise (FIE) usually denotes to Chinese business units with minimum 25% of FDI. These organisations are allowed to conduct business activities in agreement with the possibility of their business strategies as sanctioned by the administration. Organisations which enter through FIE are mainly regarded as “Limited Liability Company” and is characterised by the degree of listed capital injected by the investor while entering in the market (Deloitte, 2011). It is advisable that the German company should use the ‘wholly foreign owned enterprise’ (WFOE) strategy to enter in the Chinese market (Deloitte, 2011). At the initial phase, the car company should not include any Chinese companions in the business. The WFOE strategy will provide the German car company solitary control over the business procedures and help to evade extensive negotiations with Chinese associates. There should be minimum capital of almost 30,000 Chinese Yuan in order to enter in the market through wholly owned strategy (Deloitte, 2011). The actual requirement of capital should be proportionate with the projected business proposal and validated by forecasts in the feasibility statement enclosed in the organisational strategy. As a minimum 30% of listed capital of the German car company should be made in cash, and the value of business assets, equipment, and technology should not surpass above 70% of the listed capital of the company (Deloitte, 2011). Placing board of directors or managing director within organisational structure is necessary in WFOE strategy (Deloitte, 2011). The German car company should assign a self-governing administrator for corporate governance as it has become necessary for conducting business in present days. The WFOE strategy provides the easiest business authorisation way and comprehensive management control for the German company (Deloitte, 2011). This strategy is recommended because it can help to defend the company’s innovative technology from being imitated by other organisations, and as a result can provide competitive advantage. The variable cost of conducting business through FDI is much lower than through exporting. The reason is that export business includes higher transportation expenses, taxes, and employees’ charges among others (Deloitte, 2011). Though FDI necessitates entry expenses, if the demand is huge, the savings on variable expenses will be enough to cover them. If the demand of car is not satisfactory or drop over time, then it is recommended for the German company to use export for conducting business in China. The entry cost to enter in any foreign market denotes a permanent investment where the German car company will naturally wait and enter to the market when the demand extents to an adequate level (Rob & Vettas, 2001). In the initial phase, exporting can be used because once the German car company enters in the Chinese market the initial investment will be much higher. The capacity of investment will increase as the demand increases. In this period, the German car company should use a blend of FDI and export, as they both will play complimentary parts for the company. This process can help to reduce the risk of loss in the Chinese market. 5.0. Types and Implications of Political Risk for Car Company in China The policy of open-door adopted by China has proved to facilitate its economic transformation by way of encouraging foreign investment. The automobile industry of China has experienced a rapid progression owing to the policy (Barumwete & Rao, 2008). Although the government of China has introduced policies that are aimed towards enhancing the progress of the automobile industry, there still exist certain barriers that have slowed down the progress of this industry especially for the foreign companies. The rules related to tariff that are applicable for the automobile industry has been observed to be quite severe. The burden of tax pressure on the car users’ needs to be eased which would encourage the usage of cars (Barumwete & Rao, 2008). The proper development of rules and policies aimed at alleviating the tax burden from the people would initiate the buying of cars which would make the country to promote its local automobile industry along with encouraging and attracting other foreign car companies (Barumwete & Rao, 2008). Therefore, in terms of political risk, the German car company in China has to witness the severe tax burdens. However, it needs to be further added in this respect that the strict policies regarding the operations related to research & development has been stated to be the other major political risk for car companies operating in China (Barumwete & Rao, 2008). The government policies related to the operations of research and development are considered to be quite stringent which in a way discourages the conduct of these operations. The major political risk existing in China has been stated to be exceptional in comparison to other countries and it is the continuous conflict of the central government of the country with the local as well as the regional governments (Barumwete & Rao, 2008). This conflict takes place for the reason of the prevailing law that is implemented in the country and also regarding the adherence and non-adherence of those laws (Nag, Banerjee & Chatterjee, 2007). This particular issue or rather conflict can make it tough for the German car company functioning in China to comprehend the rules. This gives rise to the confusion regarding the laws that are required to be pursued. The other political risks that the German car company would face are expropriation, contract repudiation, confiscation and the problems related to currency convertibility (Huchet, 2003). 5.1. Recommendations for Reducing the Political Risks China needs to take immediate steps for the reason of alleviating the political risks that are currently faced in the country. The government requires altering the stringent rules related to trade but most importantly it needs to bring down its degree of conflicts with the regional and the local governments. This is important for the reason of offering a clear understanding of the laws pertaining to the trade operations of the foreign companies. The German car company considering the option of expanding its business functions in China needs to apply great concern and carefully balance the political risks existing in the country (Insight Investment, 2011). It is suggested for the German company not to undervalue the expenses related to the introduction of manufacturing specifications for the reason of meeting up to their own prerequisites. Indulgence of such an action could entail high amount of expatriate remunerations with regard to increased operating expenses as well as training and managerial roles. The other important suggestion for the German company would be to engage local Chinese partners for the reason of carrying out smooth business functions. The involvement of local partners would prove advantageous for the German car company owing to the comprehension and experience regarding the relevant laws prevailing in the country by the local partners ( Bremmer & Zakaria, 2006). However, it is further recommended for the company to undertake additional caution and expertise while choosing the partners. The other suggestions for the purpose of trimming down the political risks in the country would be to pursue their local governments for the reason of convincing the government of China to respect its assurance related to economic rules, safeguarding the rights to intellectual property and open markets. The German company should also make certain their reduction in the degree of reputational risks in its own country. The company requires setting up and definitely sticking to the specifications relating to corporate responsibility. Therefore, these are the suggested measures through which the German car company can hedge the political risk existing in China. 6.0. Conclusion From the above discussion, the aspects related to the ways of operations for a German car company in China can be evidently identified. The initial way of entering the market of China for the car company would be exporting. After initiation of the export is made in the country, the response of the Chinese market to those exports and the demand of car products would be analyzed by the German company based on which, FDI should be taken. It was found from the above discussion that there were a few problems in trade between both the countries which were resolved through clear cut measures which helped in restoring the trade relations in due course of time. However, it is evident from the above study that there are certain issues, in the form of political risk that needs to be witnessed by the German car company. These are the issues that have been prevalent in the country since long. Therefore, the German car company needs to undertake positive measures such as financial risk derivatives, development of good relationship with Chinese counterparts, understanding of Chinese negotiation system and adjusting the production as well as marketing strategies with the business environment of China among others which would help it to deal with the impressing problems. References Asia News Network. (2011). China, Germany sign $15 billion deals. 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