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China's Curling Investment Wave at US Shore

The state of Michigan's Economic Development Corp. moved its Asia office to Shanghai from Hong Kong in 2005. A few years later, the State of South Carolina beefed up its Shanghai development staff and closed a Tokyo office.

AP

These and other states have pursued economic growth strategies that strongly target Chinese investment. And according to a new report, the initiatives are paying off.

A rising tide of Chinese investment capital is crossing the Pacific, penetrating markets and creating jobs from coast to coast, according to the report conducted by U.S.-based economic consultant The Rhodium Group. The report released May 4 says Chinese companies and investors in recent years have established operations and created jobs in at least 35 of the 50 states in dozens of industries, spanning America's manufacturing and service sectors.

Texas led the rest in the states in dollar terms by attracting $2.7 billion in total Chinese investment between 2003 and last year, the report said. California ranked fifth in monetary value but lured more projects than any other state during the period – 55, more than twice the second-most attractive destination, New York.

"And this is just the beginning," wrote Daniel H. Rosen and Thilo Hanemann, authors of the report that's the first of its kind to map Chinese investment trends in the United States.

The report predicts American business targets will likely receive a significant share of the US$ 1 trillion to $2 trillion that Chinese investors are expected to inject in overseas markets by 2020.

"We stand at the dawn of trillions of dollars in Chinese mergers, acquisitions and investments in new, greenfield facilities around the world, over the decades to come," said the report, whose sponsors include the Asia Society's Center on U.S.-China Relations, the Woodrow Wilson International Center for Scholars' Kissinger Institute on China and the United States, and The Monitor Group.

"The United States is finding itself increasingly on the receiving end of foreign direct investment from China," the report's forward declares.

Even now, Chinese investment can take credit for badly needed jobs in Michigan, South Carolina, Illinois and other states whose economic development agencies have been busy recruiting in China.

"The actual number of jobs that Chinese investors have created likely exceeds 10,000 – many times the official estimate" commonly cited in the United States, the report said. "In 2008, Chinese firms reported a total payroll of $166 million, implying an average annual salary of $66,400 – similar to the average compensation of workers of other foreign multinationals."

A popular perception in China is that the United States discriminates against Chinese investment, which in turn fuels anxiety over bilateral business relations. Contributing to this perception are memories of China Offshore Oil Co.'s 2005 botched attempt to acquire U.S. oil firm Unocal, and telecom equipment manufacturer Huawei's withdrawal of a proposed takeover of America's 3Leaf last year.

U.S. officials including Treasury Secretary Timothy Geithner say these anxieties are often based on misperceptions. "The longstanding U.S. commitment to welcoming investment from abroad extends to investment from China," Geithner told Caixin in March during an interview in Washington.

The Rhodium report supports Washington's argument that the government employs a fair administrative review process for Chinese investors eyeing U.S. business, but adds that political interference is real and has somewhat dampened Chinese investor enthusiasm.

"Though the legally mandated screening organ for national security risks, the Committee on Foreign Investment in the United States (CFIUS), generally has operated in a fair manner, bad publicity stirred up by the threat of congressional interference is having a chilling effect on Chinese readiness to invest," the report said.

The report also cites what Chinese investors see as "confusing and unclear messages" about the direction of U.S. government policy.

But it says the Chinese can take a proactive stance by, for example, boosting corporate images in the United States. To win public and political trust in America, the report suggests Chinese companies improve transparency and corporate governance.

"If China wants a more straightforward hearing for its firms in Washington, it must improve corporate governance at home," said the report.

At the same time, however, the report's authors suggest the United States would do well to work with Chinese investors and prepare to tap the huge outflow of foreign capital now lapping at its shores.

"I saw a situation developing. And I feared that the U.S. might miss an opportunity to embrace Chinese investment in a way which would be to the maximum advantage of the US," said Orville Schell, director of the report sponsor Center on U.S.-China Relations.

Going Abroad

China has long been one of the world's largest recipients of foreign direct investment. In 2009, it was second only to the United States, drawing some $1 trillion in cumulative investment from abroad.

Meanwhile, China's investment outflow is growing fast, after starting from a low base.

"China's current outward FDI stock of $230 billion still accounts for a mere 1.2 percent of the global FDI stock, on a par with Denmark and only slightly above that of Taiwan," the report said. "Japan, for instance, has a stock three times that of China, while the United States has $4 trillion, or 20 times, the OFDI assets of China."

Included in that worldwide wave of Chinese investment was $2.3 billion worth of direct spending in the United States at the end of 2009, the report said, citing the U.S. Bureau of Economic Analysis – a minor amount compared with total FDI stock in the United States in 2009 of $2.3 trillion.

Nevertheless the authors noted "the average annual compound growth rate of China's outward FDI in 2004-2008 exceeded 130 percent." Why? The report cited a shifting business climate in China as one reason for the go-abroad trend.

"Because competition and profitability in China now are changing rapidly," it said, "incentives for Chinese firms to invest in America also are changing."

Labor costs may be low in China, but setting up a business in the United States offers access to the North American market and tariffs below those paid for imports. The rising value of the Chinese yuan against the U.S. dollar offers another incentive.

John Ling, director of South Carolina's representative office in China, said low utility and real estate costs in the United States can offer investors a clear cost advantage.

"In China, the commercial price of electricity is 12 to 15 U.S. cents per kilowatt-hour," Lin said. "In South Carolina, it's only 4 cents. The more you use, the cheaper the cost. Land prices can also be cheaper in South Carolina."

Foreign companies that establish a beachhead in the tough U.S. market also get an opportunity to improve branding and move up the value chain. Chinese companies that understand this market truism, such as telecom equipment manufacturer ZTE, are now focusing on building a U.S. presence.

"The U.S. has the world largest and most advanced telecom market," said Cheng Lixin, ZTE's vice president. "Before ZTE becomes a world leading telecom company, we need to establish ourselves in the U.S."

Chen added that a U.S. base can provide innovation that benefits the company's research and development efforts in other parts of the world.

Clarence Kwan, National Managing Partner of Chinese Services Group at Deloitte said some Chinese companies have chosen to open a North American operation to diversify their business. He cited a client that competes against multinationals but whose product enjoys a 40 percent market share in China.

The Chinese company's executives "worry that multinational competitors, subsidized by revenues generated in other markets, will use price wars to dominate the China market."

"The Chinese company needs to establish its own global network," said Kwan.

Level Field?

Ideological and legal differences between China and the United States have, according to popular perceptions, contributed to roadblocks for Chinese companies – particularly state-controlled entities – vying for U.S. market entry.

But South Carolina's Ling says there are no such barriers for Chinese businesses willing to operate in his state – a view that Geithner told Caixin, too.

"CFIUS applies the same rules to investors from every country, including China," said Geithner, who chairs the inter-agency committee. "Numerous Chinese investments in the United States have passed successfully through the CFIUS process, including foreign government-controlled investment."

Nevertheless, the Rhodium report found Chinese investors jittery about the CFIUS process have increasingly opted for a cautious approach when choosing sectors for U.S. investment. An increasingly number of companies, for example, have found they can be spared a CFIUS review by investing in greenfield projects – entirely new companies – that do not involve technology transfer.

Between 2003 and last year, greenfield projects accounted for 109 of the 230 Chinese investments in America, the report said. The rest were tied to acquisitions.

The report also said successful Chinese investors in the United States tend to team with domestic partners, agree to holding less than controlling stakes, and stay away from hostile takeovers.

Lingering Challenges

But political hurdles and questions about the future of the U.S. economy are among the sticky issues on the minds of Chinese executives with overseas aspirations.

Indeed, the future of Chinese investment in the United States at least partly hinges on the health of the American economy.

"If higher taxes and austerity are required because the United States becomes unable to finance its debt as a result of anemic GDP growth, then Chinese mergers and acquisitions could be something of a fire sale instead of investments that contribute to U.S. economic success," said the report.

Meanwhile, some congressional leaders in Washington have turned up the heat in opposition to the rising tide of Chinese investment.

U.S. Rep. Chip Cravaack of Minnesota, for example, wrote a letter to Geithner on March 25 saying he opposed China Aviation General Aircraft's proposed buyout of U.S.-based Cirrus Aircraft. He said the transaction would compromise national security interests, and fears the company's jobs and technology would move to China.

In a written response, the CEO of Cirrus Aircraft said the proposed transaction and new capital offered the best way to save jobs for the troubled Minnesota company. He added that the firm's technology has been used by Chinese companies for several years.

"If political interference is not tempered, some of the benefits of Chinese investment catalogued in this study – such as job creation, consumer welfare, and even contributions to U.S. infrastructure renewal – risk being diverted to our competitors," said the report.

Zhao Hongxuan, a lawyer at the U.S. firm O'Melveny & Myers, said investment methods, targets, industry areas and technology are among the factors that play into security debates and determine whether a proposed investment by a Chinese company faces political pressure.

He said private companies are less likely than state-owned firms to ignite political antagonism in the United States. Moreover, companies in the areas of clean energy, traditional manufacturing, real estate, medical services and food tend to find safe zones.

Experts say Chinese companies could lower the risk of political scrutiny in the future and improve their chances of successful investment in the United States by adopting more transparent corporate governance at home, in the Chinese market. In addition, Deloitte's Kwan thinks Chinese firms need to do more homework, build networks and learn about various stakeholders in a prospective deal before making a public announcement.

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