One of the biggest choices when a foreign company is thinking to open a new business in China is the basic nature of the company. In China a company can be incorporated as WFOE (Whole Foreign Owned Enterprise) or JV (Joint Venture). There’re big differences and advantages or disadvantages. I want to make a short sum up from the strategy point of view.
Starting up as a WFOE is surely much more difficult. The foreign company in this case has no Chinese partner and approach the market alone. For sure start up costs in this case are much more high. Normally this choice means also to choose a professional that will take care of all the bureaucratic tasks to setup a company and it can hide some long times due to the fact that business in China is a local matter, so first suggestion is to choose a professional that knows specifically the peculiarities of the area where you decided to invest and knows key people in the local institutions. After the real start up, however problems come immediately, because unless you have a breakthrough product or service for China, normally the biggest initial problem for WFOE is that they have beautiful companies, good technologies, but no market. It’s terribly difficult for a WFOE to create the market for their products, especially when there’re already local competitors. Sometimes even with Chinese local marketing or sales team (or existent Representative Offices or Trading Companies) can take years to have a name on Chinese market. Sometimes the cultural barriers are so big that is really a learning process quite long to understand how to build the market without running too many risks. So where are the advantages? On the other side with a WFOE the foreign investor is really the owner of the company and can really take decisions alone, so there’s a lot of flexibility in managing the business, choices are rapid and timely and for sure this in the long term is a very big advantage especially in the customer relationship. For a WFOE is difficult to get the market, but once created it’s easier for sure to manage. Meanwhile in the day by day business a WFOE is not obliged to some long directional meeting that can last also weeks for simple choices unlike in JVs where there’re different views because the different partners and the negotiations and compromises are the only key to keep the business alive. Especially for small-medium business it is much better to have a WFOE to avoid to get stuck in cultural differences with a local partner. So if you’re a small business maybe with sole ownership in your mother company that has a clear strategy for the Chinese market and can afford long term investment WFOE is the right choice.
JV is sometimes a big trick. Everything is easy: you setup the company with the Chinese partner in a short time, because he has already big knowledge about it, you normally choose to put technology while you ask to the partner to help with the market, in a few months it seems you to be the king of the Chinese market. But the big question that should turn in your mind is: “Is it so easy to make business in China?”. The reply is no.
First of all, consider that in any case in a JV the Chinese partner has always an information and language advantage compared to the foreign partner, second of all consider that normally in a manufacturing JV the Chinese partner uses human management resources coming from its other companies (that surely he has in China), last but not least you’ll understand easily that now you have a stake (maybe majority) in a Chinese company with some technologies brought from you, but the level of the company is surely not what you’re thinking before, unless you choose an illuminated partner that wants a western standard company. What I am saying is that for sure with a JV, you don’t create the company you want and even if you’re in majority you don’t decide alone how to go on with the business and if something goes wrong remember that even in majority you’re not at home, but your partner is at home.
So it seems easy but in reality the successful JV are the one that are built with clear rules and understanding between partners and this takes a lot of time in negotiations before the opening of the company. Important for the foreign investor is to protect its rights through the JV agreement: state always a certain level of technology to inject into the venture and state what you cannot give to the venture in terms of technology; state exactly some activities that must directly controlled by you; put a trusted financial people in the board or in the relative departments as well as for HR, appoint someone trusted in the new venture, try to limit the freedom of your partner (as well as your partner is limiting yours). And then? And then starts the negotiation, because a JV will be a negotiation with the Chinese partner long life time even for unnecessary items but wherever ideas and cultures are different. If you’re not ready to do this, it’s better you create a WFOE, unless you’ll see the “easy” money of the beginning turning into a nightmare and the JV going down.
JVs are suggested for big groups that has a structure that can well control the partner and are ready to negotiate every different aspect of the strategy. It’s not always so, but it’s a simple economic law, where there’s an information asymmetry you must be able to control and limit that, otherwise you’ll finish probably stuck.