30 November 2018

Cashing in the Brexit China Dividend

By Mark Schaub and Jack Tsang.

Introduction

The final form of Brexit is unclear but as the process has been triggered, a Brexit of some form seems inevitable. Accordingly, regardless of the merits for and against Brexit, it is now vital for UK business to pivot away from “Why Brexit?” or “Brexit or not” to “How Brexit?” or even, more boldly “How to benefit from Brexit?” 

A fixation on compliance with the regulations of the institutions of the European Union and the EU single market may have meant that for the last few decades, the UK has punched below its weight in other faster growing markets around the world. First and foremost, amongst these markets is China, the home to the world’s second largest economy – no other economy has grown faster and created more wealth in the last 20 years than the “Middle Kingdom”.

China has many superlatives. USD 4.24 trillion in retail sales. As of 2015 the world’s largest retail market. China’s population is over 1.34 billion and roughly 20% of the world’s population. All of these consumers are spending and of particular interest to Western companies is the huge and still growing Chinese middle class. 

China has experienced over 12200% (not a misprint) growth in retail sales since 1980. E-commerce sales have increased by over 400% in just the last 5 years. All this spending and China has not even had its first consumer credit cycle yet and this means the market is just getting started. 

China has gone from consumer wasteland to consumer heaven in less than 20 years ... and it has at least 20 years of strong domestic growth to go. 

UK’s footprint in China: Could Do Better

The UK is China’s second largest trading partner inside the European Union but only around 10th globally. The UK also ranks eighth in terms of foreign direct investment (FDI) into China over the last decade, at £4 billion[1]. China accounted for a mere 3.6% of UK exports and 7.0% of all UK imports.[2] There is no doubt that there is considerable potential for this to grow given what the UK has to offer an ever-growing Chinese consumer market.

While this can be considered a reasonable base,  as China has blossomed economically, its consumers are clamoring for services and products which play to the UK’s strengths such as luxury, tourism and education. Accordingly there are very significant China opportunities that British businesses should cash in.

Examples of possible growth sectors include:

Luxury - Although there are also British companies present in China (such as Burberry, Aston Martin and others) it is worth noting that the luxury consumer segment is dominated by French and Italian brands, and German brands for luxury vehicles.  No other country has a better reputation for heritage than the British. Also of note is that the high-end Chinese consumer market is increasingly moving towards bespoke offerings. The luxury heritage image that is associated with “Brand GB” will give UK businesses a head start in this lucrative market.

Tourism – While the UK attracted over 300,000 Chinese tourists in 2017 spending in aggregate around £700 million in 2017, it does not figure in either the top 10 largest markets (admittedly only Asian countries and the USA) nor in the top ten hottest growing markets (which includes comparative countries such as Germany, Spain, Italy, France and Australia)[3].

Education – The Chinese Ministry of Education reported that 523,000 Chinese students went abroad to study in 2015. Again, the UK did well in that it placed fourth with 86,000 students. However, this was behind the much smaller Australia (over 90,000 students) and far less than the leading country the United States which had over 250,000 students. Given the UK’s size and the worldwide reputation of its educational institutions it could be argued that, like a talented but underperforming student, the UK “could do better”. 

Australia as an example for trading with China

By contrast, Australia has punched above its weight in China. Australia’s largest trading partner is China and indeed Australia’s 25 years of uninterrupted growth and resilience in surviving various regional and international financial crises, has much to do with its Goliath trading partner’s insatiable appetite for Australian resources, product and services. In comparison, although the UK may not be able to compete with Australia in coal and iron ore, it does have a very strong hand to play in servicing China’s booming middle classes.

Today, Australia revenue from China in education and tourism sectors is growing faster than iron ore sales. In addition, China’s consumers have developed an appetite for Australian food, wine and tourism. There is no reason why British luxury goods and its well-regarded brands cannot compete in the “China space”. Apart from luxury goods, day to day essentials have also become an area where Chinese consumers are increasingly looking towards the West, for example, baby and child products is an ever-growing market in China, especially with the liberalisation of the “one child policy”. The Chinese consumer market has high regard for British brands and within the Chinese market, British products are seen as reliable and good value.

The UK is well placed to meet demand from China in sectors as varied as:

Health – varied and wide sector including pharmaceuticals, baby and infant food, medical technology, nutrition supplements and vitamins.

Fintech – London is the world’s greatest fintech hub and this presents great opportunities to collaborate with Chinese business in payments, apps and services.

Creative industries and fashion – British creatives, designers and fashion brands all have a strong reputation in China. The creative sector would greatly benefit from greater exposure to Chinese consumers.

Financial services – London is one of the world’s most sophisticated financial centers. We are seeing increased traction in deals in this sector.

Advanced Technology – the UK is a rich melting pot of expertise and is a world leader in many niche areas of advanced technology. We have seen deals in a wide variety of sectors from renewable energy to battery power and others.  Many of the hottest sectors align with British expertise such as autonomous cars, big data and AI. 

UK: learning from Australia

Few Western countries have developed a strategic relationship with China to the level Australia has. Australia started early and has allocated resources to build the relationship. Currently there are issues in the relationship and constant care is required but fundamentally Australia did get a lot right in dealing with China:

China focus – the Australian government did not concentrate only on governmental relationships but also funded useful organisations such as Austrade that support SMEs to sell and invest in China. Many of the China based team have deep expertise in the areas that Australia targets (i.e. E-commerce; supplements; food and agriculture). In addition, there is a very active Austcham where Australian business comes together to collaborate and share experiences rather than compete. The British have the British Council and BritCham is the longest running Chamber of Commerce in Shanghai (recently celebrating its centenary).  Accordingly the UK has excellent infrastructure in place but the question is whether British business back home adequately tap into it?

Focus on sectors of advantage – Chinese consumers do not directly purchase coal or iron ore, therefore tackling the market has been more an issue for B2C companies. Australia has concentrated on (and invested in) the areas where it perceives it has a competitive advantage. Australia’s reputation for being clean and unspoiled meant that food/agriculture and tourism were both natural areas for growth. In 2017, some 1.5 million Chinese visited Australia and they spent in aggregate, US$32 billion in 2017.  Chinese consumers will have a strong interest in UK’s heritage brands; high end tourism, education and financial services

Free Trade Agreement – although free trade agreements are not easy to negotiate they do bring strong benefits to both sides. Australia (like Switzerland) finalised a free trade agreement with China in 2015. Although a decline in tariffs is no doubt welcome to consumers in both countries, the signing of the Free Trade Agreement was a psychological boost that both countries were open for business and greater collaboration. It is of vital importance that after Brexit, the UK endeavors to strike a trade deal with China in order to facilitate the UK to cash in on the “China Dividend”. 

Fostering[4]Chinese in Australia – much of the spectacular China success of Australian supplements and infant formula has been due to China’s demand for these products. The high regulatory requirements of the Australian authorities no doubt played a part but probably more important has been the word of mouth of Chinese consumers who are resident, studied or visited Australia. These Australian companies were able to build well-known brands in China purely by encouraging such opinion leaders. When e-commerce became a major business in China, many of these Australian businesses were supported by “Dai Gou” traders (C2C by Chinese buying products in Australia and then selling in China via online platforms). By way of example Australia’s Chemist Warehouse sold more than $25 million worth of stock in 24 hours on November 11 (China’s Singles Day).

Chinese students – although educating Chinese students is a major cash cow the benefits for Australia go far beyond tuition fees. The vast majority of students return home to China and become customers, tourists and cheerleaders for their second home. Others stay and also contribute to trade and investment between the countries. 

High-end selective immigration – as stated above people to people interactions power both trade and investment flows. Australia has had in place a visa by investment for many decades and this has resulted in large amounts of Chinese wealth flowing into Australian real estate, education and many other sectors. After Brexit, the UK will need to consider whether its current migration policy may benefit from attracting high net worth individuals from China.

Next Steps for the UK

China is confronted with a hostile USA and a slightly skeptical and cautious European Union. As the world’s 5th largest economy, the UK would be a highly complementary partner for China in many aspects of the economy. Every sector of the UK economy from SMEs through the large enterprises should gravitate towards China to cash in on the “China Dividend” in a way that Australia has been doing in the past two to three decades.  We see Chinese companies actively looking for UK technology and partners in areas as varied as big data; health care; fintech; autonomous cars; education and others. In many of these sectors China is or will be the biggest market. In addition, many of the most interesting niches in such sectors will require JVs in order to enter the Chinese market. By working together, UK and Chinese companies may be able to establish leading positions globally, rather than just in their home or regional markets.

Further, Chinese companies continue to look for opportunities to expand overseas or acquire technology. For many UK companies a Chinese partner will allow them to secure the funding to continue world class research and development but also access to the world’s biggest market.

Many Chinese companies are increasingly willing to have a strategic stake in European companies provided that they have a hands-on role to build the business in China – which is often the largest market. British enterprises therefore benefit from the investment brought in by Chinese partners, as well as the opportunity to tap into one of the world’s largest markets.  The scenario is a “win-win” scenario for both British and Chinese partners. In one recent case we have seen, a UK company had a revolutionary pharmaceutical for infants – the UK company felt it had the resources and internal know-how to deal with the European and North American markets. However, China was already the largest potential market for the product but considered too difficult and too distracting for the company’s management to implement. In such case they found the solution was to find a Chinese strategic partner; many similar cases abound. 

The London office of King & Wood Mallesons specialises in working on cross-border transactions between the UK and China. We help unlock relationships and potential of British companies who are interested in cashing in on the “China Dividend” in the run-up to Brexit. Mark Schaub is an Australian lawyer who has been working in Shanghai since 1993 and relocated to London in August 2018. Jack Tsang is a Chinese Australian lawyer who has been working in London since 2010.


[1] CBI Sterling Asset Report 2017

[2] Statistics on UK trade with China: House of Commons Library 2018

[3] 2017 China Outbound Tourism Travel Report Joint- report: Ctrip and China Tourism Academy

[4] This is not a reference to that ridiculous beer but could not find a different verb.




A Guide to Doing Business in China

We explore the key issues being considered by clients looking to unlock investment opportunities in the People’s Republic of China.

Doing Business in China
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