China's Going-Out Party

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One of China's poorest provinces, Ningxia, abuts the Gobi desert and enjoys few economic advantages in any commercial field except perhaps the cultivation of watermelons. Yet this hasn't stopped the leaders of the sand-swept region from pressing local companies to invest abroad and establish an international presence. Last month, Ningxia's commerce bureau issued a directive titled "Leading Ningxia's Enterprises to Grasp the Opportunity and Go Out Faster." The document takes into account that leaping into the cutthroat international arena entails certain risks, noting that the vast majority of Ningxia's enterprises that have previously ventured overseas have gone bankrupt, while the remainder "lack talented managers" and "have often been taken in by scams." The commerce bureau reaches a sunny conclusion, however: investment abroad "has a promising future."

Ningxia's blithe entrepreneurial spirit isn't the exception in China—it's the rule. The news last week that one of the mainland's big three oil companies, China National Offshore Oil Corp. (CNOOC), is interested in purchasing California-based energy firm Unocal Corp. was just the latest evidence of a government campaign introduced at the 2002 Communist Party Congress to raise China's global economic profile by snapping up foreign assets. Beijing has even coined a catchphrase for its policy—"Going Out"—to encourage Chinese firms large and small, from Nanjing to Ningxia, to invest abroad.

In other words, China's growing urgency to buy overseas assets (recent high-profile deals include Beijing-based computer maker Lenovo's purchase of IBM's PC business) in some cases may owe as much to government diktat as it does to sound business strategy. Managers of state-owned enterprises, in particular, answer first to Beijing for reasons that may have little to do with profit and loss. During the first 11 months of 2004, Chinese companies invested $1.8 billion abroad; 90% was by state firms.

From a macroeconomic perspective, "Going Out" often works to China's advantage. The country now attracts more money through exports and foreign investment than its economy can comfortably digest, causing speculative bubbles in some sectors. This capital inflow is boosted by investors' betting that the government will sooner or later revalue the national currency, which is pegged to the U.S. dollar and is widely thought to be undervalued. Outbound investment by Chinese companies removes dollars from swelling national reserves, easing pressure on the renminbi to appreciate. China has given 22 of its cities and provinces the right to approve overseas investments of up to $200 million without consulting Beijing. Last month, the China Development Bank even issued a $10 billion loan to telecom-equipment maker Huawei to promote its international operations—a line of credit more than five times greater than the overseas investments of all Chinese companies last year.

International expansion may make sense for some of China's largest companies and as a matter of national policy. The country's rapidly growing demand for oil means oil companies, including CNOOC, must increase their sources of supply. Unocal is the ninth largest U.S. oil company in terms of its oil reserves. But economists fear that, due to government pressure and national pride, managers will go for deals with inadequate regard for long-term corporate health. To keep growing, Lenovo needed to reach markets beyond the highly competitive domestic electronics sector, and buying IBM's PC unit gives the company control of one of America's most respected brands. But Lenovo's share price in Hong Kong has fallen 21% since the deal was announced in December. Investors are questioning the prudence of acquiring a unit that lost nearly $1 billion in the three-and-a-half years prior to June 30, 2004. Ma Xiaoye, director of the Shanghai-based Academy for World Watch, has larger doubts: "The government should consider, does a developing country need to invest overseas?"

He may already have his answer. When Chinese TV maker TCL bought French company Thomson's television operations last year, China's President Hu Jintao insisted on presiding over the signing of the deal in Paris, says a Thomson executive. TCL's profits later dropped 69% in the third quarter. That hasn't discouraged the state-run People's Daily, which two weeks ago urged more companies to follow TCL abroad and "make China a strong country." Ma is worried that history could repeat itself. During Japan's economic bubble in the 1980s, cash-rich Japanese companies went on a U.S. buying spree, only to see their high-profile investments sour when the bubble burst. "We don't want to end up like the Japanese," Ma says. Sometimes it's better to stay home than to Go Out.