Disillusionment in China business: fewer opportunities, more challenges - but German companies want to stay

Created: 01/18/2022, 16:36

By: Christiane Kuehl

Plant of the FAW-Volkswagen joint venture in Changchun, northern China: German companies are facing major challenges in China (archive image) © Zhang Nan/Imago/Xinhua

Realism instead of euphoria: German companies in China are lowering their expectations.

The challenges increase, the opportunities decrease.

Nevertheless, many still expect good business.

Beijing/Munich – Just a few years ago, foreign companies in China were brimming with optimism. The economy of the People's Republic was booming, the opening of the market progressed despite remaining obstacles, and some even still believed in "change through trade". Disillusionment reigns today. In its business climate survey among German companies presented on Tuesday, the German Chamber of Commerce (AHK) found more realism than euphoria in China. The headline of the study already clarified the dichotomy: "Business prospects positive - unequal treatment and localization pressure challenge German companies in China."

Most companies generally expect good business to continue.

According to the survey, 96 percent definitely want to stay in China*, and 71 percent even want to invest more.

But companies seem tired - from the tough corona restrictions, the politicization of the business environment and the decoupling tendencies, especially between China and the USA.

"Companies are already rethinking their business activities," said Andreas Glunz, Head of International Business at the auditing firm KPMG in Germany, which organized and evaluated the survey with the AHK.

A year ago, Glunz had stated that optimism was as great as in the boom year 2018. There is no longer any talk of that.

German companies in China: Business continues to go well, but expectations are subdued

But first of all, to the business expectations: 60 percent of the companies surveyed expect increasing sales in 2022, 41 percent also more profits. That is only slightly less than in 2021: At that time, 63 percent expected more sales and 48 percent more profit. At ten and 17 percent, even fewer companies expect falling sales or profits today than in 2021 (then 14 and 22 percent). Meanwhile, 51 percent expect the situation in their industry to improve — after 66 percent a year ago. 18 percent of companies are preparing for a deterioration in the prospects in their sector in 2022 - after only nine percent in the previous year.

China's economic growth was a robust 8.1 percent* in 2021. For 2022, various experts still expect between four and 5.5 percent. Nevertheless, the optimism of the companies is decreasing, says Glunz. “There are still chances. But if you take a closer look, the outlook becomes less positive in all segments.” In other words, the respondents have seen fewer opportunities for their company since 2019. A few examples: In the current survey, 51 percent see opportunities in growing consumption on the domestic market. Two years ago, more than two thirds still believed in it. 42 percent see opportunities in participating in Chinese innovation — compared to 61 percent two years ago.

Only 39 percent believed in growing demand for foreign brands as an opportunity, compared to 65 percent two years ago.

"This is the strongest decline," says Glunz.

There has been a trend towards buying local brands.

Fashion trends tend to come from Japan or South Korea these days.

In fact, the consumer market has therefore become more difficult for Western companies.

At the same time, the mood is currently very quickly directed against foreign brands when they position themselves against human rights violations such as in Xinjiang, mark Taiwan as a state on maps or depict the “wrong” models.

China's market: challenges for German companies are increasing

However, the challenges are increasing. This applies to the political and regulatory environment as well as to very practical issues. The current energy shortage and the real estate crisis surrounding the struggling Evergrande group are also putting pressure on the economic mood.

However, China's strict corona travel restrictions are still among the three most frequently mentioned operational problems for companies (42 percent). Since there are hardly any flights between Germany and China, and the People's Republic still hardly issues entry visas, companies have difficulties bringing employees and their families into the country. Installers who install sold systems at the customer's site are also not allowed in. Business trips by German managers to headquarters in Germany make little sense due to the three-week quarantine on the return trip. "The reduced connectivity between our two regions since the beginning of the corona pandemic is a serious concern for all of us," warned Frank Rückert, the envoy of the German Embassy in Beijing, on the occasion of the presentation of the chamber survey.

German companies are also concerned about the omicron variant* of the corona virus, which was first detected in Chinese cities last week. "Omicron could lead to massive lockdowns in the future, which would have consequences for German companies," said Glunz. Supply chains could be interrupted, factories paralyzed. According to Clas Neumann, President of the AHK in Shanghai, this has not been the case so far. While China only records 150-200 cases a day, it still adheres to its strict zero-Covid policy.

Even more frequently than the travel restrictions, the companies only named finding and retaining employees and rising wages in China (49 percent each) as challenges.

It is striking that all of these issues are directly related to Human Resources.

According to Glunz, companies are already feeling the effects of the gradual aging of society.

Some are already considering concepts for employing older people even after they have reached retirement age — at 60 for men and even earlier for women.

German companies in China: Concerns about unequal treatment and decoupling

The companies also see growing difficulties in the regulatory environment. "The lack of equal treatment has become the biggest regulatory challenge for the German economy in China," emphasized Neumann. 34 percent of companies named this as one of their top three challenges. A major problem for companies here is the lack of participation in public contracts in China.

42 percent of those surveyed who took part in public tenders experienced a preference for Chinese competitors.

According to Neumann, they reported a lack of transparency, "buy-local" practices and preferential treatment for state-owned companies.

But for the future, German companies in China need "a sign that equality is part of the economic system."

For years, chambers such as the AHK and the European Chamber of Commerce (EUCCC) have been calling on Beijing to finally join the WTO agreement on public procurement - so far without success.

China: Despite everything, German companies are planning more investments

In general, self-sufficiency is a headache for companies. President Xi Jinping* is increasingly bothered by China's great dependence on raw materials and intermediate products. Added to this are geopolitical tensions. At the beginning of 2021, the companies had already looked at the impending decoupling between the economies of China and the USA or the rest of the world with concern. In the new survey, 55 percent expect negative decoupling effects. 30 percent fear high costs for a future restructuring of the supply chain.

So far, however, the companies do not want to leave China despite everything. On the contrary: they seem to be reacting to the problems with even greater localization. 49 percent want to invest in new production facilities, 47 percent in local research, 37 percent in automation, and 30 percent in the digitization of their companies. Only 24 percent want to invest less. According to Clas Neumann, this trend, called “Localization 2.0” by the AHK, is not only due to decoupling. “There are also strong forces coming straight from the market, they might even be stronger.” 38 percent of respondents now want to “become more local”. In other words: more strategic cooperation or even joint ventures with local partners. "57 percent said a Chinese partner would improve market acceptance," Neumann said.Almost a third wants to expand the decision-making powers of local branches from the headquarters in Germany.

This shows that, despite all the difficulties, China is still too important to easily push the market to the sidelines of its own business activities.

It is better to look for new ways to somehow deal with the problems.

The companies' commitment to the Chinese market "remains unshaken," concluded Neumann.

The AHK called on the new federal government to take companies' concerns into account in their China strategy.

"From the point of view of German companies, the new federal government should continue to work to improve the competitive conditions and relax travel restrictions," said Clas Neumann.

After all, he expects more scheduled flights between Germany and China in the spring.

Desires have become modest.