Succeeding in China:

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28 Οκτ 2013 (πριν από 3 χρόνια και 5 μήνες)

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Succeeding in China:


The Risk of Doing Business



in China


Presenters:

Andrew Walker, Director, Deloitte Consulting


Jim Chapman, Partner, Foley & Lardner LLP


Silicon Valley RIMS

January 31, 2013


The Focus of this presentation is on identifying and mitigating the
risks of doing business in China

1.
China represents a large and attractive market for Multi
-
National Companies (MNCs)


2.
There have been a series of well
-
publicized incidents involving U.S. companies operating
in China


3.
MNC’s have found ways to be successful in China


to both grow their businesses &
mitigate risks


4.
A programmatic approach to risk reduction has proven to be the most successful
approach


Macroeconomic Issues
in China


China offers significant market attractiveness for MNCs

# 1

GDP Growth (9.3%) among emerging
and developed nations

Sources: (1)
WorldBank

(2) UNCTAD (3) IMF projections, Deloitte Analysis

# 1

United Nations FDI Attraction Index
Rank
2

# 1

Country Population (1.35 Billion)

# 1

Total Exports ($1.90 Trillion)

# 2

Total Imports ($1.66 Trillion)

# 2

Total GDP ($7.3 Trillion)

$13.2

$9.4

$20.3

$49.8

$5.9

$5.3

$12.5

$39.4

Global GDP Share
3

China
Brazil, India, & Russia
Other Countries
Developed World
2010

2017 (
proj
.)

China provides MNCs with a strong economic and
demographic foundation for growth and projects to
continue dwarfing other major emerging markets

China’s Global Positioning
1

+12.2%
CAGR

China’s demographic and economic profile make it the world’s fastest growing economy.

China offers significant market potential that can be
hampered by significant risks

Companies are expecting increased revenues
from China over the next 3 years

However, unique risks may limit MNCs ability to
capture the growth potential . . .

4%

10%

30%

25%

14%

16%

Decrease/No Change
Increase by less than 10%
Increase by 10-24%
Increase by 25-49%
Increase by 50-99%
Increase by 100% or more
Revenue Expectations

from China in next 3 years

Sources: (1) Deloitte Consulting emerging markets survey conducted in 2011; (2) Weekly Economic Update (7/9/12) (3) 22
companies reporting revenue earned in China, Economist Intelligence Unite and Deloitte Analysis

Global weakness has affected China’s
economic growth, slowing to 7.6% in Q2
2012, however the China market is growing
faster than the global average indicating
continued investment opportunity

Potential revenue opportunity in China

Risk
-
adjusted
revenue

B
illions

As documented in mainstream newspapers,
magazines, journals, and trade publications…


Changing regulatory landscape is making China more
attractive for MNC

119

62

55

53

52

50

49

India
European Union
Brazil
Indonesia
United States
China
Russia
Number of Recently Initiated Trade
Restrictive Measures

Despite increased global protectionism, China has
imposed fewer restrictive trade measures
1

compared
to other major economies. During the same period 21
new trade liberalizing measures were initiated.

Sources: (1) Data from 9/2008


7/2011;
Mohini
, D.,
Hoekman
, B., and
Malouche
, M., “Taking Stock of Trade Protectionism Since 2008” (2) UNCTAD

0
10
20
30
40
50
60
70
China
United States
Germany
United Kingdom
France
Japan
India
Spain
Canada
UAE
Brazil
Top Destinations for MNC Investment

Over 60% of executives surveyed by the UN
Conference on Trade and Development cited China as
a top 10 destination for investment between 2012 and
2014
2
.

In addition to China’s economic and demographic profile, new leadership and policy changes
are making China a top destination for investment.

20
40
60
80
100
120
140
2005
2010
2015E
MNCs already operating in China are expecting
substantial near
-
term revenue growth

55% of surveyed companies are
expecting increased revenues from China
between 2011 and
2014.

4%

10%

30%

25%

14%

16%

Decrease/No Change
Increase by less than 10%
Increase by 10-24%
Increase by 25-49%
Increase by 50-99%
Increase by 100% or more
Revenue Expectations

from China
1

Overview

Sources: (1) Deloitte Consulting emerging markets survey conducted in 2011; (2) 22 companies reporting revenue earned in Chin
a,
Economist Intelligence Unit and
Deloitte Analysis; (3) The Economist

An index of 135 companies weighted by their revenue share from China has
climbed 129% since 2009 compared with the S&P 500’s gain of 57%.
3

Potential Revenue Opportunity

i
n China ($B)
2

Legal, Regulatory and
Transaction Issues



Technology Transfer Legal Framework

China’s Regulations on Administration of Technology Import and Export
(Technology Regulations), effective January 1, 2002, govern the import
and export of technologies into and out of China.

The Technology Regulations classify technologies into three broad
categories, including:

1.
Prohibited technologies: Cannot be imported into or exported out of
China.

2.
Restricted technologies: Import and export must be pre
-
approved by the
relevant Chinese governmental authority, and copies of the relevant
technology transfer agreement must be submitted to the relevant
governmental authority.

3.
Permitted technologies: Can be imported into or exported out of China
without prior Chinese governmental approval.


Forms of Technology Transfers


Patent assignments


Assignments of patent application rights


Patent licensing


Assignments of know
-
how or trade
secrets


Licensing of know
-
how or trade secrets


Technical services and other unspecified
forms of technology transfer covered by
the Technology Regulations


Cooperative research and development
contracts


Technology consultancy contracts


Technical training contracts


Technology brokerage contracts


Software import and export contracts


Trademark licenses or assignments
involving patented or non
-
patented
technology

Technology transactions may take a variety of forms
. All
of the
following transactions are subject to
the Technology
Regulations:

Applicable Contract Law

Unified Contract Law, adopted in 1999 provides
substantial freedom for the parties to enter into
agreements.

Obstacles to Technology Transfer to China


Lack of control over future developments, modifications and
enhancements of transferred technologies.


Warranty requirements.


Collecting royalties and other payments.


Protection of Intellectual Property.


Lack of Trust.

Mandatory Provisions of Chinese Law

Chinese law requires that the foreign licensor to:


“Guarantee” that the licensed technology be complete,
correct, valid, and capable of accomplishing the specified
technological objectives.


“Guarantee” that it is the legal owner of, or the party with
the right to license, the technology.


If the Chinese licensee infringes on another party’s right by
using the licensed technology pursuant to the license
agreement, the licensor is required to bear the
responsibility for such infringement.

Prohibitions

The Technology Regulations prohibit the following provisions:


Requiring the transferee to accept incidental conditions unnecessary for the
imported technology, including the purchase of unnecessary items.


Requiring the transferee to pay for, or undertake obligations relating to, a
technology for which the patent right has expired or has been announced as
invalid.


Restricting the transferee’s improvement of the technology provided by the
transferor, or restricting the transferee’s use of the improved technology.


Restricting the transferee’s acquisition from a third party of any technology
similar to, or competitive with, the technology provided by the transferor.


Unreasonably restricting the transferee’s channels or sources for the purchase
of raw material, parts, components, products, or equipment.


Unreasonably restricting the quantity, variety, or price of products produced by
the transferee.


Unreasonably restricting the transferee’s export channels for products
manufactured by the transferee using the transferred technology.


Key Issues of a Technology Transfer Agreement


Field of use


Geographic scope/territory


License fees and payment terms


Ownership of technology


Ownership of improvements


Exclusive or non
-
exclusive/sublicense


Nondisclosure


Noncompetition


Term/termination


Indemnities/liabilities


Dispute resolution


Governing law


Governing language

(
i.e.
, Chinese or English)

Typically, a technology license agreement will
cover
the
following key issues points:

Key To Successful Technology Transfer


Find the “right” licensee.


Invest in the relationship and work to build trust.


Thoroughly document the transaction.


Work to keep interests aligned.


Maintain constant communication and support.

Risks and Mitigation
Strategies

Type of Risk

IP Protection

Negative Impact on USG
-
Related
Business

Export / OFAC Compliance

Compromise of U.S. Ethics Laws

Ineffective

Legal Entity and Business
Structure

Partner Turning Competitor

Market Restrictions

Profitability in China

Supply Chain & Operational Risks


Mitigating risks to profitability and value creation is
critical

All are related to protecting a company’s brand/reputation

Potential Impact

Likelihood

High

High

Medium

Low

2

7

8

3

1

Export / OFAC
Compliance

USG
-
Related
Business

Market
Restrictions

6

4

5

U.S. Ethics Laws

1

2

3

4

5

6

7

8

IP Protection

Profitability in
China

Ineffective Legal
Entity & Business
Structure

Partner Turning
Competitor

9

9

Supply

Chain

IP Risks in China


Local companies are known to introduce
rival products within 2
-
6 months of a new
product introduction by an MNC

ƒ
Significant number of IP related lawsuits
between MNCs and Chinese companies
indicate existence of IP infringement
practices (~60,000 in 2011, up from
~43,000 in 2010)
2

ƒ
Government
regulations on IP creation and
usage makes it mandatory for MNCs to
share IP in China in certain instances

Protecting IP is typically cited as the most
significant challenge to operating in China

Sources: (1) Deloitte Consulting emerging markets survey conducted in 2011, (2) China Patent Agent LTD., (3)
Nera

Economic Consulting estimate

18%

24%

31%

37%

38%

43%

45%

45%

49%

58%

0%
20%
40%
60%
80%
Infrastructure problems
Supply chain capabilities
Establishing partnerships
with local companies
Protectionist policies or
government red tape
Adequate supply of
skilled labor
Providing afforable
products and services
Brand awareness in the
market
Understanding customers
buying behavior
Competition from local
competitors
Adequate IP protection
% of Companies Citing Challenges
in China as Significant
1

An IP protection strategy should be integrated from the
product strategy through the operating model and tactics

Identify

products
being

sold

in China


Identify the products and services best suited to China market


determine

whether to:

1. T
ake the whole stack (but restrict access to
core

technology), or


2. Dedicate
less valuable technology that is sufficient to meet current market
demand

Establish a
clear integrated
strategy


Create a China IP Protection
Control Structure that integrates politics, partners,
people, process, vendors, and technology


Define clear operating model (e.g., human resources, vendor management,
manufacturing, supply chain, information technology)

Manage


operations

with
IP protection in
mind


Redesign
R&D processes to increase compartmentalization and protection; this
will result in higher IP management costs


Program, implement, and commercialize technology development with value
management in mind, building IP protection

into processes

Apply the right

tactics

to
protect IP


Define processes and controls throughout all business functions to safeguard IP


Change product development cadence and release cycles

1

Implementation Steps

2

3

4

In addition to IP protection concerns, there is a risk that U.S.
government (USG) agencies could have concerns about offshore
operations in certain countries

Mitigation Approach

Key Risks


Certain USG agencies may have
concerns
surrounding their product
and/or service providers operating in
certain countries


Key concerns
appear to revolve
around
the following:


Loss of U.S. IP


Products or product code being
infiltrated or corrupted by foreign
parties


Network and IT access into USG
data centers or systems


USG related information becoming
accessible


Companies should wall
-
off foreign operations
from public sector business in a way that is
auditable


Leading practices include creating two sets of
operational, network, and IT firewalls:

1.
Between
Offshore
and US businesses

2.
Between US and
US Government Services
divisions


Companies should proactively develop programs
to educate government customers


Mitigation approach should be structured to
address operations for each business function
across eight key security threads

Negative USG perceptions of the company
may impact existing
and future contracts /
business may lead to loss of revenue and USG audits

Function: Information Technology

Security

Thread

Physical

People

Process

Product

Systems

Physical Data

Electronic Data

Vendors / Suppliers

Protecting IP and assuaging U.S. Government concerns
requires a reengineered operating model

Functional Example

Deloitte’s FOCI
-
Mitigation Toolset

(Foreign, Ownership, Control, or Influence)

Corruption
in China

pace of change, growing economic
prosperity
, historical
practices

US
FCPA


Prohibits payments of something of value to
foreign
officials or members of a
political party to obtain or
retain business.

V
iolations
and Penalties


Anti
-
bribery:


Individual
criminal fines up to $250,000 and
imprisonment
up to 5
years


Companies
may be fined $2 million for each
violation


Violations
and Penalties


Violation of accounting
provisions


Individual
criminal fines up to $5 million and
imprisonment
up to 20
years


Companies
may be fined $25 million for each
violation


What
is an improper gift or
payment?

FCPA
prohibits corrupt payments through intermediaries




What are the risks?

Foreign Corrupt Practices Act


Large
sales to governmental agencies or SOE’s with
high
unit price and low frequency;


A
request for commission payments to be made to
bank
accounts in other countries

or to
people or
companies
who did not perform the services;
Excessive
payments or
commissions for services
rendered
or insufficient staff to perform the services to
be
rendered;


Vague
deliverables in
contracts;


Losing
bidders hired as subcontractors;


Favorable
treatment of one supplier over another;


Lack
of relevant experience of a successful bidder;


Unnecessary
third parties performing services;


Lack
of documentation from agents;


A
representative or distributor has family or business
ties
with government officials;


A
representative or distributor requires that his or her
identity
not be
disclosed;


A
potential government customer recommends or
requires
that the U.S. company use a
particular
representative
or distributor;


A
representative or distributor makes requests such
as
backdating or altering invoices; or


A

representative or distributor requests that
an invoice
be inflated.


Understand the Danger Signs

U.S. Foreign Corrupt Practices Act


Process
and
procedures


Oversight


Audit


Components of Program

FCPA Compliance Program

Embezzlement Risk

What to watch out for?

Mitigation Approach

Key Risks


Fraud is rampant in China


“Opportunistic” vs. “Systemic
Malfeasance”


There is a view that there are no
consequences


It is OK to take advantage of a
foreigner


Pre
-
employment screening


verify everything


Certificate of No Criminal Record

provided by
local police station and can be verified


Manage the HR Manager in China


Kick
-
backs and payoffs are common


Do not allow the GM to hire the finance
manager

Contractual Risk

What to watch out for?

Mitigation Approach

Key Risks


Chinese view of contracts
-

tool for
building a relationship


Negotiation and re
-
negotiation


Enforcement



Formation basics


Understand the role of contracts


Use strong
contractual protections such as arbitration
outside of China, governing law and language,
waiver of sovereign immunity


Build personal relationships on a day
-
by
-
day
basis


Learn the culture


role of relationships, how
foreigners are viewed, the role of “face”,
humility, sincerity and other concepts

Understand the role of contracts and cultural differences.

Human Capital Risk

What to watch out for?

Mitigation Approach

Key Risks


The Chinese view of the workplace


Employees are not important


Hierarchy


*Loyalty


To whom do the key
employees owe their loyalty?


Turnover and
its costs



Integration


Training


Loyalty programs

Loyalty issues control and influence protection of IP and one’s brand and reputation

Operating Risk

What to watch out for?

Mitigation Approach

Key Risks


Supply chain visibility


downstream
and upstream


and chain of
command


Control over costs and pricing


Differences in protection of property
and business continuity efforts /
requirements


Quality control and assurance


IP


Compartmentalize production


Control the production process


Keep key technologies in the US


Employ rapid versioning


Integrate supply chain requirements through
contracts, quality assurance, and risk
management best practices

Visibility is most important in understanding critical operational risks

Risks should be managed through an integrated,
cross
-
functional program

Function Responsible For Mitigating Risk

Legal & Risk

1

2

3

4

5

IT

1

3

5

Sal es & Marketing

2

3

5

6

8

Fi nance

1

5

8

Oper ations

1

3

5

6

8

7

Ex ecutive Office

5

6

8

7

HR

1

2

6

3

4

Type of Risk

IP Protection

Negative Impact on
USG
-
Related Business

Export / OFAC
Compliance

Compromise of U.S.
Ethics Laws

Ineffective

Legal Entity &
Business Structure

Partner Turning
Competitor

Market Restrictions

Profitability in China

2

3

4

5

6

7

8

Sample Roadmap


Do
not leave common sense at the
border


Understand
the role of the Chinese government in
day
-
today
business
and develop a
governmental
relations
program


Develop

guanxi



Select
the “right partners, suppliers and
resellers


Always
have strong legal foundation for business
relationships


Key Lessons Learned

Summary

Andy is a
strategy
advisor with more than 15 years of
experience leading efforts to help business
executives overcome their most pressing challenges.
His primary focus is on advising companies on ways
to improve financial position by restructuring their
operating models to improve the focus on future
growth prospects
.


In
addition to this focus
area, Andy
is a lead in
Deloitte’s cross
-
border investment practice with a
focus on helping companies meet U.S. national
security expectations, as well as helping them
protect their intellectual property as they expand
globally. He has led Deloitte’s efforts on a number of
high profile CFIUS cases
.


Andy has worked with telecom and high tech clients
and has worked in China, Latin America and Europe
on their behalf. He is the author of a number of
articles, including, most recently an article published
in the Wall Street Journal entitled “Improving the
Yield on your corporate investment portfolio.”


Director

Strategy Practice

Deloitte Consulting

Jim is a partner at Foley & Lardner, a leading international law
firm. He is a corporate and securities lawyer focusing on start
-
up and emerging publicly traded and privately held companies
looking to expand domestically and internationally and the
venture capitalists, private equity groups and angels that invest
in them. He has substantial experience in international
transactions including mergers and acquisitions, foreign direct
investment, technology transfers and joint ventures in China.


Jim has been involved in approximately 250 mergers,
acquisitions and finance transactions and is the author of
approximately 50 articles and has given over 50 presentations
in the last four years on issues related to raising venture
capital, mergers and acquisitions, start
-
ups, doing business in
China and other topics.


Jim has been recognized by Law 500 as one of the best lawyers
in the US for mergers and acquisitions, was named one of the
Top 25 Clean Tech Lawyers in California in 2011 by the Daily
Journal and one of Northern California’s Super Lawyers by San
Francisco Magazine and Law and Politics Media.



Partner

Foley & Lardner, LLP