China: Go West, Westerners

With growth slowing in the crowded and costly coastal centers, Beijing is ushering investors into the hinterlands

It was a Chinese-style road show. In a sumptuous compound of sculpted gardens and plush banquet halls in south Beijing, executives from a long list of multinationals, including Boeing (BA ), Caterpillar (CAT ), Goodyear (GT ), Alcoa (AA ), Unisys (UIS ), and Microsoft (MSFT ), sipped cocktails and dined on such Sichuan delicacies as twice-cooked pork, diced duck with pepper on pastry shells, and dan-dan noodles. Their hosts for the Oct. 26 event were a delegation of top officials from Sichuan, a western province 2,000 km from Beijing that is eager to lure new investment away from the coastal cities that have been the center of China's business boom.

The Sichuan officials had much to offer. A manufacturing worker there earns an average of $126 a month, a little more than half what he might make in Guangzhou or Shanghai. There's also abundant energy, brand new highways and power grids, and a vast interior market. "We sincerely hope that multinational corporations can take an active part in the development of Sichuan," local Communist Party Secretary Zhang Xuezhong intoned over repeated toasts of rice liquor and Chinese red wine.


  Two years after President Hu Jintao and Premier Wen Jiabao placed urgent priority on developing China's hinterlands, and five years after the Develop the West policy was launched by their predecessors, China's bureaucrats have unleashed a charm offensive to persuade more companies to move inland.

Anxious about a rising tide of industrial and farmer protests in central and western China, Beijing is giving top billing to narrowing the yawning income gap between rich coastal cities and the rest of the country. Billions of dollars have been spent on bridges, expressways, and power plants to boost the economies of inland China. Now provincial delegations increasingly are trekking to Beijing, Shanghai, and Guangzhou to trumpet their edge over the coast.

"In Sichuan, we provide year-round reliable energy for investors -- we don't have the problems of the Yangtze River Delta," bragged Xu Mengjia, the mayor of Yaan, a Sichuan city of 1.5 million. He was one of five Sichuan mayors who attended the Beijing coming-out party.


  These days those mayors have an increasingly easy sell with multinationals and local companies alike. After years of easy expansion, coastal China, and particularly the Pearl River and Yangtze River deltas, are facing growing pains. Labor and land costs are rising fast in Shanghai, with commercial rents up nearly 40% over the past three years, while industrial space is simply not available. Labor costs are inching up in Guangdong too, but the bigger problem is finding any workers at all for its huge manufacturing sector.

"The operating environment in coastal areas is getting worse and worse," says Zhai Suoling, general manager of a toy factory in Dongguan. "Lots of manufacturers are moving to inland cities." Indeed, while foreign investment in central and western China was up 7% in 2003 (the last year for which regional figures are available), it actually fell by 0.2% in eastern China.

Companies including General Motors (GM ), Honda, Intel (INTC ), and Motorola (MOT ) now run operations in interior provinces. They report no shortage of skilled labor -- and increasingly vibrant consumer markets. "Companies that don't look at inland China will find themselves disadvantaged," says Emory Williams, chairman of the American Chamber of Commerce in Beijing, which reports that 50% of U.S. member companies have already invested in second-tier cities.

Amcham-organized delegations, including executives from Chevron (CVX ), Rockwell Automation (ROK ), and Ohio-based manufacturer Eaton (ETN ), recently scouted new investment opportunities in Xinjiang, whose capital Urumqi is 2,500 km from Beijing, as well as Inner Mongolia and Yunnan, which borders Vietnam. "When I talk to manufacturers, they say they will never build another plant in Shanghai -- it's too expensive," says Michael Hart, Shanghai-based head of Greater China research for real estate consultancy Jones Lang Lasalle. "They need to go further inland to find land and people."


  Moving west is now easier than ever due to the massive buildout of interior infrastructure. Almost $9 billion has been spent on new airports alone in the last five years, with twice as much allocated for the next five. In the coming years, a recently approved national highway plan will double the 34,000-km highway network -- already the world's second most extensive after the U.S. interstate system. "When the Chinese government talks about building infrastructure, they will do it on time and on a scale that defies belief," says one Shanghai-based Western logistics expert.

Not surprisingly, managers of businesses with cutthroat margins, like toys and shoes, have been the first to migrate. Take Taiwan native Zhai Suoling, whose factories in the city of Dongguan in Guangdong province build wooden dollhouses and toy wagons that sell in big-box stores like Wal-Mart (WMT ) and Kmart. Last year he built a $2 million factory in Tonggu, Jiangxi, where 200 workers make wooden toy pieces that are then trucked 12 hours to his Guangdong factory for assembly.

When a new road between the two provinces opens next year, transit time will be cut to nine hours. With land 50% cheaper in Jiangxi than in Guangdong, and energy and water 25% less, the move was a no-brainer, Zhai says. Workers in his new factory are also paid a little less, but more important, he says, is the low worker turnover -- close to zero in Jiangxi vs. 40% in Guangdong. "Having a stable labor force and smooth operation is key to my business," Zhai says. "I plan to move more and more production out of Dongguan."


  Even deep in China's hinterlands, thousands of kilometers from the bustling coast and its ports, some cities are succeeding in wooing foreign investment, including high-tech industries that can utilize air freight to transport products and the Internet for logistics. Well before the recent road show to Beijing, the gross domestic product of Sichuan province was growing 12.7% a year. It has pulled in more than $6 billion in investment from the likes of Toyota Motor (TM ), hypermarket chain Carrefour, and French cement maker Lafarge (LR ). In the provincial capital of Chengdu (population: 10 million), western China's most affluent city, streets are lined with Audi and Buick dealerships and boutiques for luxury goods by Louis Vuitton, Gucci, and Cartier.

Chengdu was an early beneficiary of the Go West movement: It nabbed a Motorola research and development lab in 2001 by promoting lower costs as well as access to engineers from its strong universities. When Motorola decided to expand outside its original downtown location in 2003, the municipal government agreed to pay for the new research center. (Neither the company nor Chengdu officials will say how much.) Inside, some 330 Chinese engineers and technicians are developing software for Motorola phones.

"R&D has the advantage that we don't have to ship freight," says Motorola Software Center manager Stone Shi. Since Motorola arrived in Chengdu, Alcatel (ALA ), Ericsson (ERICY ), Nokia (NOK ), and Microsoft have all set up R&D or tech centers in the sleek industrial parks that skirt the city.


  For many manufacturers, the market is right outside their door. Intel justifies the $450 million it is spending on two assembly plants for chipsets in Chengdu by pointing out that computer sales in the region are growing by as much as 45% a year. Boise (Idaho)-based semiconductor maker Micron Electronics (MU ) has just announced it will sink $250 million into a new plant in the ancient city of Xian in the neighboring province of Shaanxi. "Both cities have very young and energetic, ambitious, results-oriented politicians," says Ian Yang, Asia Pacific general manager for Intel.

What about coastal China? Foreign investment there still dwarfs what is going on in western China. Infrastructure in many parts of the interior is still primitive and unreliable. And regardless of any cost savings, multinationals want their regional headquarters near the political, regulatory, and financial centers of Beijing and Shanghai.

Nevertheless, it is clear that vast new regions of China are now open for business, or soon will be. The next round of banquets sponsored by officials from areas like Sichuan are sure to be well attended.

By Dexter Roberts in China

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