Hard Landing?
Worries of a possible “hard landing” of the world’s second-largest economy have risen with China’s quarterly growth rate dropping to its slowest in three years. The National Bureau of Statistics on April 13 announced that the annual rate of GDP growth in the first quarter slowed to 8.1 percent from 8.9 percent in the previous three months, and a run rate below the official 7.5 percent 2012 target.
Meanwhile, more doubts were cast upon the world’s number one exporter by the sub-par trade figures. China has set a 10 percent growth rate for exports and imports in 2012, but both targets were missed in March, with imports expanding just 5.3 percent from a year ago while exports grew 8.9 percent. Worse still, the global demand for China’s exports may remain weak as its two biggest trading partners – the European Union and the United States – remain wobbly and strained under concerns of unemployment.
Some economists say Beijing is actively pursuing a slower growth strategy to create room for
structural economic reforms without sparking a surge in inflation.
The official forecast for 2012 GDP growth has been cut to 7.5 percent, an eight-year low. Businesses are making adjustments in anticipation of a slowdown, but for the legal industry in China, it is business as usual. “The business of providing legal services has the characteristics to counter the economic cycle,” Michael Qi, a partner at Fangda Partners, tells ALB. “Even the in best market environment there are money-losing firms; and in the worst market, there are profit-making firms.”
Cooling off
However, legal firms do feel the pinch as business from sectors hardest hit by the slowdown begins to trickle - for example real estate, which accounts for 13 percent of China’s GDP in 2011. Over the past two years, the government has applied strict policies to reduce rampant property speculation, which helped push up inflation. Chinese Premier Wen Jiabao recently said that restrictions to curb speculation in the
real estate market will stay firmly in place, as home prices, which have soared tenfold in the last decade, remained “far from returning to reasonable levels.”
China’s average new home price fell 0.7 percent last month from a year earlier, the first decline in two years, according to a Reuters calculation. Investment in the sector grew 19.6 percent in March from a year earlier, down from 27.8 percent in the first two months of the year. “Real estate is an industry dependent on the international environment and domestic policies. The recent restricting policies have caused great difficulties for developers,” says Xue Yunhua, an executive partner of Guangda Law Firm, which has significant interest in the real estate sector.“The need for legal services in this sector has gone down, following the serious decrease in land acquisition, trade, house leasing, mortgage, financing, and so on.”
Some lawyers say that the impact of the slowdown in the property sector could, to some extent, be compensated by heavy investment in infrastructure construction. A large part of China’s four trillion yuan ($635 billion) stimulus package, plus some 20 trillion yuan of funds from local government borrowings since 2009, has poured into public infrastructure projects such as the high-speed rail, city underground transportation, and water diversion programmes. “The Chinese government is reputedly still the richest in the world,” says Tong Xin, a partner of Guanghe Law Firm. ”There is still business for us in government-backed construction projects.”
Countercyclical characteristics
The capital and securities markets have not escaped the slowdown either. The tight monetary policy adopted to curb inflation has squeezed liquidity, leading to the suspension or cancellation of many initial
public offerings (IPOs). But lawyers can make money in a sluggish market as much as in a prosperous one, says Qi, citing the examples from 2008 and 2009. Instead of IPOs, delistings have created business for attorneys, particularly by those Chinese companies that have been barely hanging
onto the U.S. stock markets with hopelessly high costs and low share prices. Seven Chinese companies applied to delist from the U.S. stock exchanges in the first two months of 2012, in addition to six in 2011, notes Diane Frankle, a partner at Kaye Scholer.
Other practices that have newly become lucrative for law firms include corporate restructuring and litigation, as well as mergers and acquisitions. “The strongest survive, with the weak dying out and being swallowed up. The pace of industrial consolidation goes up in the chilly winter,” says Qi.
Similar phenomena are taking place also in the legal industry, adds David Fu, a partner at Global Law Office. He highlights the recent trend of mergers among law firms, in particular international ones,
since the crisis broke out in 2008. “A firm has to be full service to survive different economic climates,”
says Fu. “For instance, a firm relying too much on the capital markets practice would be badly hurt under the monetary contraction.” According to Fu, a firm should proactively expand its portfolio of practices to reach a “reasonable combination” either by self development or by merger with others.“We may also see more mergers among Chinese firms,” he says.
Focusing on Beijing clients
With state-owned enterprises relatively unscathed by the economic slowdown, law firms have set their sights on cultivating their SOE clientele. As such, many law firms have offices in Beijing to remain close to their clients, who also have their headquarters in the capital. “Other cities have their own advantages,
like Shanghai is the location of the securities markets and Shenzhen boasts many private enterprises. But these industries have been affected by the crisis while the central SOEs remain strong and cash-rich,” says Fu. “Their decisions and transactions have to be made in Beijing and the payment to the lawyers takes place here.”
In addition, the top government departments overseeing businesses are in Beijing, such as the banking, securities and insurance regulatory commissions, as well as the powerful central planning body, National Development and Reform Commission. “The client would think Beijing firms have
the advantages as all the relevant government authorities are in Beijing,” says Xue. For a firm with a strong governance focus like Bingham McCutchen, Beijing is “the appropriate place to start,” says Jay
Zimmerman, the firm’s global chairman. Bingham McCutchen recently opened an office in Beijing.
By the end of 2008, Beijing had 18,635 lawyers working for 1,121 firms, and in Shanghai there were 10,071 lawyers and 889 firms. Moreover, 95 percent of the 188 foreign firms in China are registered in the two cities. As of 2009, Beijing had 74 and Shanghai had 104. Revenue-wise, however, Beijing firms
earned twice as much as Shanghai-based firms in 2010, at 11.3 billion yuan ($1.79 billion) and 5.8 billion yuan ($0.92 billion). In comparison, another Chinese municipality, Tianjin had only 590 million yuan ($ 93.6 million) revenue, according to Westlaw China research.
Investing abroad
Aside from opportunities in the domestic market, firms can also leverage on China’s increasing overseas investments. “The Chinese government has made it clear that it is a matter of policy that they will be increasing foreign direct investment. They have also made it clear that they will be increasing
a focus on tangible investment, for example, government bonds. Furthermore, China’s
continuing growing need for agriculturerelated products and services, for energy, for technology and communications, are all bound to produce increasing cross border commerce,” Zimmerman tells ALB.
The crisis has created a favourable environment as many overseas companies are in dire need of capital and offer plenty of undervalued high-quality assets. Large SOEs have made their mark in energy, petrol, minerals and other commodities investments across Africa, Latin America, and elsewhere. Most recently, State Grid International Development took a 25 percent stake in Redes Energéticas Nacionais, SGPS, S.A. of Portugal. “The timing is right for the Chinese companies to go out to the U.S., Europe, and to many other countries. The Chinese companies have the capability, financially and operationally,
and have the willingness to do it,” adds Ye Xiaowei, Bingham’s Beijing co-head.
Private enterprises have also increasingly taken part in this overseas investment rush, with more and more deals closed in manufacturing and consumer goods production, which is part of the “national strategy” in order to accelerate the “industrial upgrading”, says Fu. He notes the example of privately-owned Geely Automobile, which took over Swedish premium brand Volvo from Ford Motor Co in 2010.
However, not all overseas ventures have been successful. In 2004, China’s Legend Holdings acquired IBM’s PC business but has struggled on the world stage, especially in developed markets despite its Lenovo PC’s domination in the home market. “The manufacturing industries are getting smarter with time,” says Qi. “With the lessons learnt from the failed attempts of purchasing the production bases and retailing channels, now the Chinese companies cautiously buy only the technology, patents and brands, and keep the production and the market domestic.”
The developed management experience and systems of the Western companies are attractive for the Chinese investors, according to Fu. Domestic competition is getting tough in times of crisis but many
believe potential and opportunities exist in other continents. Meanwhile, Western investment in China is expected to continue, as Zimmerman suggests, because the size and growth of the Chinese market are too large to be ignored by international corporations. But the preferential policies for foreign capital that had lasted for decades might only be reserved for high-tech, green, medical and high-end service industries, and a few other sectors, according to the 2011 version of the Guideline of Foreign Investment Industry List published by the National Development and Reform Commission.
“The Chinese government has become picky towards foreign investment,” says Fu. “But even with the raised bar, a continued strong growth in cross border mergers and acquisitions, both outbound and
inbound, in the next years is very likely.”
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