China’s rich market potential and rapid economic reform have made the country a prime target for multinational companies (MNCs), a growing number of which may be characterized as strategic—or "second generation"—investors.¹ No longer content with establishing a beachhead in a single product or in one region of China, these second-generation MNCs are committed to pursuing ambitious investment programs and building dominant, nationwide market positions and world-scale businesses.

But translating commitment into reality in China, as leading investors have found, takes far more than a blank check, a good product, and a careful strategy. For one thing, it demands that MNCs understand and deal effectively with the complex, often confusing web of government entities that approve and facilitate business development—especially in such highly regulated sectors as telecommunications and energy.

Internally, multinationals face the equally daunting task of coordinating business units, regional and country organizations, and support units to realize synergies, maximize impact, and contain cost duplication. Moreover, enormous time and energy are needed to manage multiple joint ventures (JVs)—still the principal means of market access for foreign investors—with local partners that typically lack the product and market knowledge, distribution reach, and financial resources to match MNC aspirations. Yet skilled local managers and experienced expatriates capable of leading China initiatives are woefully scarce.

China’s unique opportunities and challenges are prompting many multinational pioneers to rethink their established ways of building businesses in new markets as they seek to increase the pace and payoff of their China investments. While the specifics vary and implementation is still in its early stages, there is mounting evidence of innovative organizational approaches to improve the coordination and control of business development by cutting across traditional global business-unit boundaries, centralizing key functions, and developing local structures and staff that will allow MNCs to better shape their own destinies in China.

Our work and discussions with leading MNCs have identified the following emerging organizational solutions to four critical requirements for success in China:

• Achieving effective coordination of external relationships and investment decisions by establishing a strong China corporate center with a clear mandate to lead strategy development and implementation.
• Gaining control of inherently weak JVs by taking majority equity stakes, deploying expatriates in key management positions, and providing outside support.
• Coordinating multiple JVs by creating China business units to provide focused management leadership and share services and product expertise across ventures.
• Strengthening local human resources by bringing in expatriate managers/ trainers, investing heavily in training local staff, establishing China career paths for them, and instilling corporate values.

While these organizational solutions obviously must be tailored to the needs of individual companies, experience suggests that they are likely to steer MNCs away from their characteristic hands-off, JV-driven approach and toward more integrated business development and management in China.

Coordination through a China corporate center

Chinese negotiators pounce on inconsistencies and are adept at playing one business unit off against another

Presenting a consistent and coordinated face to China’s powerful bureaucracy is important, since government decision makers control access to a wide range of business opportunities. Like busy people everywhere, Chinese mayors, governors, and ministry officials do not appreciate having to deal with multiple delegations from the same MNC. Investors have found that Chinese officials respond well if they are made aware of the overall scale and purpose of a corporation’s commitment to China, not just its unit-by-unit initiatives. Moreover, appearing unified to officials from the outset is not merely a matter of bureaucratic convenience; Chinese negotiators are apt to pounce on inconsistencies in investment proposals from different divisions of a multi-business company, and are adept at playing one business unit off against another.

Traditional global business-unit structures can make it difficult to achieve a unified corporate face. Individual business-unit representatives seldom work together in a coordinated fashion; indeed, their missions and management processes are often specifically designed to encourage a single-minded focus on maximizing value in their own business. Some business units may lack experience and relationships in China and thus risk reinventing the wheel or, worse, making costly mistakes in dealing with high-level government officials.

Given these problems, many second-generation MNCs have established China corporate centers to provide vital coordination across all their activities in the country. These centers usually have three things in common:

• A clear mandate to develop the company’s China strategy and endorse all local investments.
• Leadership either by a powerful China chief executive with profit responsibility, or by a team of business-unit representatives coordinated by a senior country executive.
• A set of business development support functions, including, among others, experts in government relations and negotiation.

Importantly, MNCs agree that such centers will be a temporary structural feature of their China organization (see Exhibit 1). Once their China businesses are all in place and operations are up and running, most MNCs expect their global business units will assume a greater role and share decision-making responsibility with the China center. However, few see this transition occurring within the next decade, given the huge business-building challenge involved.

A clear mandate

The China center articulates the corporate vision for China and is responsible for developing the company’s overall China strategy

The China center is responsible for developing the company’s overall China strategy—in effect, by orchestrating a series of conversations with the global business units. The business units define their aspirations and plans, and the China center synthesizes them and identifies whatever cross-business synergies and strategies may exist. As part of the strategy process, the China center may also articulate the corporate vision for China, set risk exposure limits, and define principles for building relationships and developing business. It may establish core policies for doing business in China—regarding, for example, expected returns, acceptable joint venture structures, priority partners, and the like. The process is iterative, with strategy and policies being updated as new businesses enter China.

The China center typically reviews all investment proposals from the business units and endorses those that fit with the overall strategy. If the center rejects a proposal, the business-unit representatives may still push for approval at the corporate level, but the center’s objections will probably need to be resolved before the corporate green light can be given. Balancing global business-unit priorities with corporate country priorities based on Chinese relationships is at the heart of the China center’s responsibilities.

Underpinning this mandate must be a deep and consistent corporate commitment to China. Only with such a commitment can the China center legitimately argue—if need be—that a particular business unit should pursue an investment that is suboptimal in itself but would greatly boost other projects, such as combining oil refining and downstream chemical investments to capture downstream benefits.

Effective leadership

For multi-product or multi-business companies, effective internal and external coordination, as described above, is one of the keys to success in China. One option is a team approach, where the China center comprises senior representatives or heads of the local business units, plus a senior country executive (Exhibit 2).

Getting this team approach right is often difficult, requiring new information flows across businesses, extraordinary commitments of senior management time, and an unwavering effort to collaborate that can typically be achieved only with the constant support and influence of the corporate CEO and chairman. The most successful China center teams we have seen have invested many weeks in talking through the roles of business units and country management at different stages of business development, and they have built a shared sense of mission in the process.

By contrast, some MNCs have decided that the China center can work only if it is led by a China CEO with country P&L responsibility to whom the China business units report. AT&T’s Bill Warwick is a well-known pioneer of this model, and a peer of AT&T’s global business-unit leaders. Another example is Northern Telecom, which recently reorganized its businesses outside North America into six geographic areas, one of which is China, in the belief that its international success is driven by strong country relationships. The company’s China center has full authority over all Northern Telecom’s investment and operating decisions there, and can draw on whatever it needs to build the China business from Northern Telecom’s worldwide operations or from outside vendors. Centrally guided industries such as telecommunications may particularly benefit from such focused leadership.

China CEOs may be selected for their ability to operate effectively in an uncertain and frustrating environment

Multinationals that adopt this latter approach select their China CEOs according to their track record and their ability both to develop relationships with Chinese stakeholders and to operate effectively in an often uncertain and frustrating environment. Most China CEOs have run businesses before, have been with their company for a long time, and possess far-reaching internal networks. Up to now, only a few have been Chinese.

Selected support functions

Apart from decision making, the China center’s involvement in actual business development varies. Some centers look for specific opportunities, particularly those with cross-business potential, which must then be endorsed by the relevant business units. The most proactive China centers assume direct responsibility for identifying, structuring, and capturing opportunities before handing them off to the business units.

Government relations and negotiation support are two key aspects of business development that usually fall under the China center umbrella. Having the center coordinate relationships with Chinese authorities—especially with central and provincial government leaders—ensures that MNCs deliver consistent messages at every level. Many companies arrange occasional but effective "top-to-top" meetings while cementing strong municipal-level ties through their expatriate JV general managers.

Pooling skilled negotiators can help reduce the time from initial contact to signing a deal from the usual 18-24 months to six months or less

Sharing talented negotiators across businesses makes sense too, both because the necessary skills are unique to China and because lessons learned from one series of venture negotiations often prove valuable in the next round. Partly thanks to this pooling of skilled resources, some second-generation MNCs have managed to reduce the time from initial contact to signing a deal from the usual 18-24 months to six months or less.

Gaining control of weak JVs

Joint ventures in China have not to date been marriages of equals. Most have taken place in light industry and consumer goods, where local enterprises lack vital marketing and distribution skills. Usually driven into JVs by a need for cash or technology, Chinese partners are keen to generate immediate profits and can seldom afford to invest for the long haul. Moreover, Chinese businesses often need help to raise the level of their operations to MNC standards; as state-owned enterprises, they lack incentives to improve performance on their own.

As second-generation MNCs come to grips with these problems, many are reconsidering their role and adopting a more hands-on approach to JV management. They are also realizing that the financial and capability gaps of weak local partners mean that today’s JVs are unlikely to be stable in the long term, and must thus be managed with a view to eventual integration.² Whether MNCs will look to step up their authority over JVs that involve stronger local partners remains to be seen.

To play a more active role in JV management, MNCs are seeking overt equity control, deploying expatriates in key venture management positions, and controlling financial and management information systems directly (Exhibit 3). Whether equity control is possible depends in part on the degree of regulation in an industry. Traditional bastions of state ownership like oil and gas are much less open to foreign participation than light industry or textiles. However, in our experience, majority foreign ownership is possible even in formerly planned industries such as steel. The Chinese have been remarkably receptive to equity ownership provided a foreign company offers innovative solutions and shows real commitment to turnaround and expansion. Hit-and-run financial investments are increasingly unpopular.

Regardless of their level of equity, MNCs try to exercise management control by installing their own staff in general manager and financial controller posts, and often in specialist manufacturing roles, where they help to upgrade facilities. One leading JV with more than a decade’s operating experience in China and 3,000 Chinese employees has just 10 expatriates, but they control all the top sales and management positions. The Chinese partner supplies only one manager, at the manufacturing plant. MNCs are also providing various types of outside support for their JVs, including:

• Framing of personnel, finance, and administrative policies and leadership of human resource development, including compensation and training, across ventures.
• Project execution and other technical resources. Volkswagen, for example, has a 10-strong technology group in its China center that is responsible for quality control at its JVs.
• Marketing and distribution services. For instance, a leading pharmaceutical company has centralized all its sales and market research activity in Beijing, far from its manufacturing JV.
• Services that a business enterprise would normally obtain from the market in more mature economies, such as distribution, MIS and financial accounting systems, real estate management, and advertising.

Some MNCs have established "umbrella enterprises" in China through which they can hire Chinese employees directly

MNCs are organizing these services through their China centers with a view to fostering the development of their JV operations, and perhaps eventually buying out and integrating them. A growing number of MNCs with multiple ventures have gained permission to establish "umbrella enterprises" in China—legal entities through which MNCs can channel investments in JVs and hire Chinese employees directly. Their main attraction is that they offer a convenient and transparent vehicle for providing JV development services.

Eventually, these umbrella companies are likely to become the means by which MNCs will be able to centralize JV support services and fully integrate their JVs. Several consumer goods MNCs, for example, have begun to centralize distribution within their newly established umbrella companies.

Coordinating multiple JVs through China business units

Not only are second-generation MNCs moving aggressively to bolster JV performance, they are also recognizing the need to coordinate their China ventures in each line of business. Multiple JVs are essential for most foreign investors, simply because of China’s size and the limited distribution clout of most local partners. Some MNCs already have three or more JVs in each of their business lines. Unless these ventures are carefully coordinated, sales territories tend to overlap, management resources are spread thin, and support functions are duplicated, adding unnecessary costs.

Without compulsion of some kind, individual JV managers are unlikely to take the initiative to cooperate with one another

One China CEO found that he was spending almost half his time just attending JV board meetings, but he still felt he lacked real control over what was going on in his company’s 25 or so ventures. Without some kind of compulsion, individual JV managers are unlikely to take the initiative to cooperate with one another and, where necessary, make the compromises needed to create coherent national businesses. Moreover, as noted earlier, companies are recognizing that a collection of disconnected, weak JVs is unlikely to afford a stable long-term foundation for growth in China.

To provide the necessary coordination, therefore, more and more MNCs are establishing structural overlays in the form of China business units. One large diversified electronics company is forming five product divisions to manage its 30-plus JVs in China. The leaders of these divisions will sit on the relevant JV boards and be held accountable for their JVs’ financial performance.

Most MNCs are avoiding regional business-unit structures except in single-product businesses such as fast food or cement, where market development is highly localized. In some cases, companies that would normally favor the product-line model failed to foresee the scale and complexity of their China operations and negotiated multiple-product JVs that cut across business-unit lines. These companies are having to evolve structures that combine features from both product and geographic organizations. Several oil companies, for example, have established multiple provincial JVs that encompass their entire product spectrum, and they now need to coordinate their business development efforts on a product-by-product basis.

As China business units grow larger, some companies are centralizing marketing and service at this level, leaving their joint ventures as manufacturing-only operations. This centralization enables the MNC to retain control of critical aspects of both strategy implementation and the value chain. One consumer products company evolving toward such a model is coordinating marketing activities across JVs within each of its three business units, and providing shared distribution and other services to the business units through its umbrella holding company (Exhibit 4).

Even after establishing China business units, MNCs often find it valuable to maintain or create regional representative offices that report directly to the China center and support all the business units in a matrix organization. The regional offices may maintain local contacts, initiate ventures, and perhaps act as sales offices for a number of simple product lines, as in the industrial company example shown in Exhibit 5. According to an executive with this company, "The offices are our face to China, but the business units make the investment decisions."

Strengthening local human resources

With employee poaching, and salaries escalating by over 50% a year, MNCs have found that relying on compensation alone can be counterproductive

Most MNC managers readily cite attracting, developing, and retaining qualified local employees as their toughest challenge. With employee poaching common and salaries often escalating by more than 50 percent a year, most MNCs have found that relying on compensation alone is insufficient, and can be counter-productive. Instead, they are bringing in expatriate managers/trainers, who place great emphasis on building loyalty by developing local professionals, creating career opportunities, and instilling corporate values in their China operations.

Heavy use of expatriates

The leadership challenges in China are demanding, particularly during the early years when managers are expected both to build the business and to train their replacements. As a rule of thumb, a job requiring one manager in a developed country requires up to two in China if they are to cope with the frustrations of working there and, more importantly, take the time to develop local employees. One MNC characterized its China leadership team as "high performers" and "hard hitters" rather than "high potentials." Another emphasized the need for "broad-shouldered pioneers" in the early stages of business development, in contrast to the "consolidators" and "growth deliverers" required later.

To provide this leadership, most second-generation MNCs "overinvest" in experienced expatriate staff in China. A large US consumer goods company with sales of less than US$200 million in 1993 had 80 expatriates in China, focused mainly on strengthening the capabilities of its seven joint ventures. Far from being a short-term need, demand for expatriates in middle-management posts was expected to continue for at least another five years.

Many up-and-coming managers worry that a China tour may prove a dead end in their career

Some MNCs have experienced difficulty in attracting expatriates to China, and have been forced to devise special career-development incentives to make the move worthwhile. In particular, many up-and-coming managers worry that a China tour may prove a dead end in their career because it takes so long to demonstrate success. Addressing such concerns calls for balanced performance assessment, with traditional bottom-line measures supplemented with qualitative developmental milestones.

Emphasis on staff development

Another element that often sets leading MNCs apart is the quality of their human resource (HR) support systems, including training and career planning. IBM, Procter & Gamble, Volkswagen, and others are well known in China for their training programs, and are popular employers among recent graduates. P&G, for example, runs "P&G University" for new recruits and offers training and career development opportunities abroad for top-performing Chinese employees. Several European and Japanese companies invest heavily in training local staff, both in China and overseas.

Since HR capability building is so important, many MNCs have found it necessary to employ very senior HR managers to establish China-wide policies on recruitment, compensation, training, and development. They have also had to boost their complements of recruiting and training staff in order to deal with the rapid throughput of new hires needed to offset China’s high attrition rates (15-20 percent on average).

Transfer of corporate values

A crucial issue for leading MNCs is how to shape a distinctive corporate culture which, while uniquely Chinese, also embodies the core values that have made these companies successful global competitors. They must strike a balance between accommodating China’s culture and value system—along with its tendency to stress the differences between China and the West—and promoting strong employee identification with their own management style and values. Consensus on how to strike the right balance has so far proved elusive. At present, MNCs agree only that establishing shared values in China will be a long-term process requiring great commitment and consistency.

Guiding principles

As companies continue to invest, they will need to move beyond a business development focus toward establishing full business systems in China

Most MNCs anticipate increasing their China investments at least threefold over the next few years. They have many gaps to fill. Few have established all their global business units in China; of those present, most have only basic marketing and distribution capabilities in place, and many have a long way to go in manufacturing. As these companies continue to invest, they will need to move beyond a business development focus toward establishing full business systems in China, encompassing product development, sourcing, production, distribution, and marketing. Distribution is already emerging as the critical challenge for many companies starting to build their next platform for growth.

The organizations that MNCs build to support their business expansion efforts may be the key to their long-term competitive success in China. It is clear that robust markets exist, but less clear how to develop the capability to serve these markets effectively. Our work with MNCs in China suggests a number of guiding principles that should shape these country organizations:

• Coordination across global business units and across China ventures—essential if an organization is to share experience and best practice internally and get the most out of its overall commitment in China. Many companies are beginning to realize the importance of focusing international expansion on a few priority countries, and making disproportionate efforts to build long-term franchises in these markets. China calls for such an approach, which can be achieved only through consistent corporate coordination. A strong China center will be critical in this respect.
• Control of key functions and, over time, of key assets. Although there are examples of effective, durable joint ventures in China, many MNCs expect to acquire majority control to enhance investment and productivity. They are also moving to consolidate and control distribution and marketing in order to shape these missing links in the China business system. Seeking business control does not preclude joint ventures, but it does suggest that they should be strategic alliances, designed as the best vehicles to achieve growth strategies.
• Centralization of support or shared services, at least over the next five to ten years. The need to avoid cost duplication—and, equally important, to make effective use of scarce resources across multiple operations that are still subscale by world standards—is leading to the centralization of systems and of financial, personnel, and technical functions.
• Contact and communication with Chinese authorities. This will be a continuing necessity, both to learn about business opportunities and policy development and to communicate corporate interests and initiatives. China centers and programmed high-level visits will be required, as will organizational units that might elsewhere seem redundant, such as regional offices that parallel the business units and act as a company’s eyes and ears.
• Extraordinary commitment from/to people. Expats will be needed to build businesses and skills—for example, in underdeveloped functions such as marketing. However, the keys to success over time are ambitiously developing locals, recruiting ahead of need, training in-country and abroad, and building loyalty to both the local and the international business.

The MNCs that evolve from strategic investors to dominant local players over the next few years will do so on the back of China-tailored organizations that are not like any other business structures in the world.