China at a Crossroads
Taiwanese Businesses Go West
Instead of waiting for prosperity to trickle down from coastal provinces, Chengdu and Chongqing are taking matters into their hands, with Taiwanese businesses caught in the middle.
Taiwanese Businesses Go WestBy Ching-hsuan Huang
From CommonWealth Magazine (vol. 481 )
Every day some 5,000 cartons of goods circulate through the Chengdu logistics center of Taiwanese electronics distributor Synnex Technology International Corporation. The center serves China's western autonomous regions and provinces including Sichuan, Tibet and Yunnan.
A closer look at the markings on the cartons reveals that "Chongqing" -- the manufacturing center and transportation hub for Southwest China -- is increasingly appearing as the place of origin instead of coastal Chinese cities.
Early last year the names of Chongqing and Chengdu, the capital of Sichuan Province, both landlocked cities in China's remote interior, suddenly emerged in the public eye for various reasons. When U.S.-based IT giant Hewlett Packard (HP) last year announced that it would gradually move its Asia-Pacific settlement center from Singapore to Chongqing, Taiwanese investors also began to catch "go-West" fever.
Under the central government's Great Western Development Strategy, both Chengdu and Chongqing aspire to become the economic center of western China. The two cities have always been in a love-hate relationship, vying to outdo each other. Due to this fierce competition, Taiwanese investors find themselves caught between a rock and hard place.
Chinese business magazine Caixin recently reported that the government's industrial transformation policy did not have the anticipated effect of accelerating industrial upgrading along the coast. The coastal provinces were supposed to encourage old-economy industries to relocate to the Chinese hinterland, a policy popularly called "vacating the cage to switch birds." But because the coastal areas have been reluctant to let go of GDP-generating industries, competition for investors among the ambitious interior provinces has dramatically increased. Consequently, local administrations in western China have taken their fate into their own hands. Instead of waiting for the coastal areas to hand them the old bird (old-economy industries) after replacing it with a new one (high-tech industries), they have stepped into the cage to catch the birds themselves.
Stepping into the Cage to Catch Birds
After HP picked Chongqing for its new settlement center and multinational computer corporations, Dell and Lenovo picked Chengdu as the site for their western China headquarters. But Taiwan-based computer vendor Acer couldn't decide where to establish its western China foothold, leaving the Chengdu and Chongqing city governments both eager to secure a commitment from Acer.
When the board of directors discussed the Chengdu-Chongqing conundrum at Acer headquarters in the Xizhi District of New Taipei City, Chengdu mayor Ge Honglin also arrived in Taiwan for a last-ditch effort, after managing to get his Taiwan travel permit in just two days. But much to his chagrin, Acer eventually opted for Chongqing.
Rumor has it that Chongqing granted the computer giant very generous incentives, but also exerted tremendous pressure. When the Chongqing city government announced in late August that it would launch a "notebook computers going to the countryside" initiative, Acer's stock price, which had languished near a nine-year low, suddenly soared by the maximum daily limit.
The Chengdu city government, which carefully researches industrial supply chains, has now zeroed in on Taiwanese-funded TPK Holding Co. Ltd., a supplier of touch screen modules for the Apple iPad.
"The companies we think about recruiting, we target them rather than sit around waiting for them," notes Chen Fu, deputy director of the Chengdu Municipal Investment Promotion Commission. Chen has already visited the TPK headquarters in Xiamen to pitch his city. For a company of the caliber of TPK, the municipal government has spared no effort, no matter how costly, to lure it to Chengdu.
City officials know once they have won over a major manufacturer, its suppliers are sure to follow suit. When Chongqing hauled in Acer, its contract manufacturers such as Compal Electronics and Wistron, who were already based in Chengdu, were all forced to also set up shop in Chongqing.
Brand manufacturers enjoy the advantage of getting their share of the big pie of China's domestic market. But what about contract manufacturers who are forced to follow their customers and set up factories in both locations?
Shuangliu County, Chengdu
It's the hottest week of the year in Chengdu with temperatures reaching a sweltering 38 degrees Celsius. Outside a brand new factory complex in Chengdu's Shuangliu County, four security guards leisurely chat away in the heat, their pant legs rolled up, as they fan themselves to cope with the heat. The giant lettering across the entrance of the idle manufacturing plant reads "Compal."
Expectations that Compal's manufacturing base in Chengdu would begin mass production in August have not materialized. Mass production is now scheduled to begin in November at the earliest. Presently, the laptop contract manufacturer is quite far behind its annual production target of 10 million units in 2011, which was announced with great fanfare when breaking ground for the Shuangliu plant in January this year.
Due to the release of the Apple iPad over the past two years, laptop makers no longer enjoy annual growth rates of around 15 percent. IT research and consulting firm Gartner forecasts meager 3.8 percent growth for the personal computer industry this year. The European and U.S. markets have yet to divest themselves of a huge inventory buildup and with the worsening sovereign debt crises, consumer confidence is not likely to rebound anytime soon. During the first half of the year, net Quanta Computer and Compal reported lower net margins than in recent years.
Competition from Apple is not the only bad news affecting profitability. Much worse is that the contract manufacturers themselves have created downward pressure on prices, since their new factories in western China only have only added new capacity to an already oversupplied market. Compal is a case in point. The company has received orders for some 3 million laptops per month, not even enough for its Kunshan plant (outside of Shanghai in eastern China) to run at its full capacity of 5 million units. Yet Compal has built or is building new production bases in Chengdu and Chongqing.
"The Chinese government is smart enough to strong-arm the brand makers into going West, since the brand manufacturers will then strong-arm the original design manufacturers, and the ODMs, in turn, will strong-arm the parts and components makers into going," laments the general manager of a Compal supplier.
Closely Interlinked Supply Chain
In recent months, traffic on China's National Highway 318 from Shanghai to Sichuan and Tibet has increased by more than 30 truck convoys per day. Loaded with notebook parts and assemblies, the roaring trucks cover the 2,000 kilometer distance from the Shanghai Waigaoqiao Free Trade Zone to Chongqing in four days. The transportation of each truckload of bonded cargo costs some 21,000 renminbi, which means about 3 million renminbi are spent every day on ground transport of parts and assemblies alone.
Moreover, these shipments only represent the amount of notebook parts, some 25,000 sets, needed by a mass producing Chongqing-based contract manufacturer to fill its orders for a single brand.
The problem is that Chongqing already hosts three large brands and six contract manufacturers, whereas Chengdu boasts two large laptop brands and three contract manufacturers. So far the local governments foot the entire bill for these mind-boggling transportation costs, effectively subsidizing the contract manufacturers.
Their largesse doesn't stop there. At Compal's Chengdu production base, both the endless rows of factory buildings on the left side and the dozen or so dormitory complexes on the right were funded and built by the local government.
"Like hungry tigers pouncing on their prey, the western governments don't hesitate to roll out all kinds of incentive policies, allowing smart businesspeople to cash in on these efforts," a Caixin article once criticized the local governments' zealous approach to investment promotion.
But the parts makers at the bottom of the industrial food chain have little room for negotiating conditions and taking advantage of incentives. The municipal governments and the contract manufacturers have a common goal, namely to complete the PC industry chain in the west as soon as possible so that the parts manufacturers have no choice but to move west too.
Carrot and Stick for the Parts Makers
"The global PC supply chain suffers from oversupply. Production capacity is not fully used in eastern China, so how can they go west? This doesn't make sense at all! They (the contract manufacturers) have already been taken hostage. If they want to haul in the parts makers too, it's like whistling in the dark, calling for more people simply to keep up their own courage," notes the enraged boss of a parts maker who has so far steadfastly refused to go West. "Why are only few companies willing to go? It's because only the brand vendors and contract manufacturers get anything out of it," remarks the entrepreneur, fuming with indignation.
In a bid to resist the pull of going West, the entrepreneur, who did not want to be named, does not participate when Chinese officials dine and wine prospective investors and avoids investment promotion events hosted by Quanta, Compal and other contract manufacturers. Keeping a low profile allows the supplier to swim against the "go West" tide for a little longer.
Still many parts makers, who are at the mercy of their customers, are forced to grit their teeth and go West.
"Those who go might still grow, even if they need to make some further investment. They won't necessarily make more money, but at least there is a chance that they will do so. If they don't go, they won't even have that opportunity," argues the president of another parts maker. He points to the exodus of notebook makers from Taiwan to China's coastal provinces in 2000. Those who didn't follow the crowd back then were all gradually wiped off the market.
Neijiang City, Sichuan Province
Bordered by Chongqing and Chengdu on its east and west, the prefecture-level city of Neijiang has also emerged as a player in the region's competitive scenario. In March this year, Ju Teng International Holdings, the world's largest manufacturer of notebook casings, circumvented the aggressive solicitation efforts of Chongqing and Chengdu by moving to Neijiang, halfway between the two cities. Less than 200 kilometers away from either city, Ju Teng's Neijiang plant can supply Compal and Wistron in the west and Quanta and Inventec in the east.
Wearing sunglasses, Ju Teng Chairman Cheng Li-yu is braving the stifling heat. From the hilltop, Cheng, a man of robust build, ostentatiously points out a manufacturing base at the foot of the hill. "We told them (Compal and Wistron) that our jointly funded (casing) company must be placed here," he remarks.
Cheng, who is known as a man who gets things done, went for a plot of land measuring more than 1 million square meters to build a factory with a production capacity of 2 million computer cases per month.
Located along the Cheng-Yu Expressway that links Chengdu with Chongqing, the site includes plots that have been reserved for the possible arrival of downstream manufacturers.
In contrast to the contract manufacturers who had their plants financed and built by the local governments, Ju Teng invested more than NT$1 billion for the construction of the first phase of the factory complex, not counting the costs for site preparation.
"They have standard factories, but I can't use these. I need a plant with 230,000 square meters of floor space, but one standard factory building has only 2,000 square meters. So should I rent one hundred of these? They are joking, right?" Cheng notes dismissingly.
While talking about his go West project, Cheng has smoked four cigarettes in a row. Like most Taiwanese investors he feels pressured to go, but also agonizes over the possible outcome.
"No doubt there are risks. If the supply chain does not materialize here in the end, then we will lose our entire investment," Cheng remarks pensively, while slowly exhaling a plume of cigarette smoke.
A Big Gamble: Who is Ripping Off Whom?
With the move West of Ju Teng and other casing makers, local governments' financial burden from subsidizing shipping costs for parts has been partially eased. But now the casing makers need to factor in additional transportation costs for raw materials that are not yet available locally. Many raw materials such as plastic granules need to be brought in from the coastal areas. Their expensive transport adds US$0.2 to the production costs of a computer case. If the shipping of other raw materials is added in, the production costs rise by US$1 per unit.
"The contract manufacturers expect us to demand that the government make up this one dollar through subsidies, but I don't think this will be easy. The governments are already having a hard time now dealing simply with goods shipments of contract manufacturers. The fiscal burden is huge," notes the general manager of a medium-size casing manufacturer.
This long march to the West, which involves several hundred companies and the livelihoods of some 300,000 people, is rarely playing out as planned or meeting rosy expectations. The Chongqing and Chengdu city governments are pressured by the mission to realize the Great Western Development, boost the local economy and raise living standards. They are even more generous than the coastal provinces were a decade ago in their all-out incentive policies.
And while Taiwanese investors seem to benefit from the investment incentives, overproduction and unstable orders are among the risks that are constantly lurking. A small operating error can erase already razor-thin profits.
"We talk them into giving us land and building us factories. They lure us into coming here for the sake of GDP and economic growth. What if their policy changes suddenly?" asks a Taiwanese investor sighing in exasperation. "We don't know yet who is ripping off whom in this gamble."
Translated from the Chinese by Susanne Ganz