Foreign construction firms in China, A Local Game

In a competitive local market, Western construction and engineering firms are defining themselves by their unique specialities to attract clients.

IN HIS book, “Details Decide Success or Failure,” Chinese author Wang Zhongqiu describes two different subway lines. One was opened to the public in 1995 and has since operated perfectly, but the other, built five years later and modelled after the design of the first, remains associated with inefficiency to this day.

The lines in question, both on the Shanghai Metro, are Line 1, a cooperative venture by German firms Adtranz and Siemens, and the Chinese-built Line 2. According to Wang, the Chinese engineers behind Line 2 failed to incorporate the German line’s flood and cold-resistant design, clear safety demarcations, and heat-retaining platform doors, opening the line up to energy inefficiencies, floods, and accidents. Compared with Line 1 in these categories over the years, Zhongqiu states that Line 2 has “suffered huge economic losses.”

Yet despite this example and others like it, the reality is that China’s construction and engineering market is largely a local game, in which quality can often take a backseat to politics. The revenues of China’s five biggest construction firms last year ranged between USD34.4bn and USD72.6bn, while mainland revenues at one of the biggest Western construction firms in China, German firm Alpine Mayreder Construction Company (AMCC), have varied between USD48m and USD64m in recent years, according to the firm.

“Most of the market is dominated by big domestic companies,” says Wang S.Q., professor of construction management at Tsinghua University, who has published multiple books on the industry. “This is partially because these firms have good relationships with the government, and partially because such companies have better credit and can easily borrow money from banks.”

However, regulations placed on foreign construction and engineering firms in China are far more critical to the imbalance. These policies have helped limit foreign participation in public sector works like the Shanghai Metro in recent years. Notwithstanding these disadvantages, China’s foreign construction and engineering contractors have endured, as a result of discovering and promoting their respective niches.

Licensed out of the market

n the 1980s, AMCC was contracted by the Chinese government to build large-scale infrastructure projects, including hydropower plants, underground tunnels, and a 42km expressway. As with other foreign contractors, however, most opportunities for similar large-scale infrastructure projects have long since become scarce.

“In the past, the government had to use international contractors for these special projects, because local contractors didn’t have the technology or capacity,” says George Liu, senior manager of business development and project tendering at AMCC. “But now the Chinese contractors can handle this, and we have a very limited chance to participate. The Chinese government protects its contractors.”

Entering the construction market in China is, therefore, much more difficult. “[The licensing requirements] in China make it nearly impossible for newcomers to penetrate the market due the high costs of attaining licences,” says Arnaud Sebban, business development director for GSE Group, a French construction and engineering company.

Foreign firms, except in rare instances where the government grants an exception, are currently only permitted to carry out construction works on projects for non-Chinese clients or joint ventures that are at least 50 per cent foreign-owned. The regulation is enforced through the withholding of a variety of government granted licences. “In order to participate [in other arrangements] we have to get the highest level of licence, but we don’t have these because of personnel and track record requirements that are very hard for foreign firms to meet – nearly impossible,” says Liu.

“For certain services in China you must have the correct licence, the grade of which depends on your capabilities, years of service, projects delivered and how many staff you employ of recognised Chinese qualifications,” explains Ray Chisnall, China manager for Gleeds, a construction management firm. “What the standards generally don’t take into account is global capability and track record.”

Carving a niche

Confronted with such significant limitations, foreign firms in the industry have taken different paths, but one thing is consistent – they all have embraced a niche.

Some, like AMCC, have simply adjusted their construction output from big infrastructure projects for the government to medium-sized private sector projects for the only clients readily available to them– other Western firms. “In the past twenty years, we’ve shifted our strategy to mostly participating in foreign investment projects in China, like embassies, hotels, research centres, and production facilities,” says Liu.

AMCC remains an exception. “There are very few foreign construction and engineering firms focusing on construction in this market,” notes Liu. “Most are working for design, project management or other consultancy projects.”

While in theory project management firms can work with both local and Western companies, in practice they too end up relying on Western clients, due to a Chinese bias against their role. Chisnall draws a distinction between the Chinese view of architects and of project managers: “For Western architectural firms, a large part of their work is for local [Chinese] clients, because local clients see the value in having a building designed by a Western architect. However, most local clients don’t understand the value delivered by Western expertise in project management and cost management.”

As with the case of Shanghai Metro Line 1, the trade-off between using a Western and local contractor sometimes comes down to saving money long-term off a better design or saving money upfront off a cheaper one. “Most of the time we compete with local contractors, and most of the time they offer lower prices,” said Liu. “We have to compete with our better technology, engineering solutions and professional site management. We can optimise the design to our clients’ value-for-investment on their facilities over time.”

Steve Willett, general manager of project management and construction for Greater China at Lend Lease, sums up the benefits of foreign expertise, stating, “It is about bringing the world’s best practices to the delivery of projects, from design concepts to methods of reducing safety risks to workers.”

Some construction and engineering providers have found more industry-based niches to work with. “We work with many international retailers and 3PLs such as Walmart, IKEA and DHL for their logistics needs. There is strong demand for Grade A warehouses in China due to coastal and inland retail expansion,” says Sebban.

Also of importance to Western clients is familiarity with Western standards and style. “There’s no way we can compete with a Chinese company in terms of their size or their cost base,” says Chisnall. “Where we add value is in the more complicated projects, particularly in dealing with Western clients, because they want to achieve results that are close to Western standards. It comes down to an experience gap. Local design institutes and contractors are largely still learning what full Western standards are.”

However, like any niche, the market share and ultimately the profits are limited, at least compared to those of many State-owned counterparts. “I don’t think people should believe that this is a place where you can easily earn high profit, as it’s highly competitive,” says Chisnall. “But I also don’t think it’s a place where, if you are careful with your business, you should be losing money.”

Trouble afoot

Even such moderate profitability has been threatened by recent industry trends. The overall rate of residential projects has begun to slow down, partially due to government intervention. “The residential property sector over the last couple of years grew very fast, but now the government is implementing cooling measures in order to keep residential property prices affordable for people,” explained Liu.

For most foreign firms, the effect of this has been minimal, as Western contractors have never found much success in the housing sector. “In residential, unless it is a Western developer that particularly wants a Western consultant, there’s not a lot of value that Western companies can add,” says Chisnall. Instead, foreign companies are far more reliant on office and retail projects, where their Western client base is primarily located and which are outperforming the residential sector. “Office and retail have been doing better than the housing market, especially over the last year,” says Wang.

Perhaps of greater concern is the worldwide slowdown, which has hit Western contractors both on their own side of the aisle and on that of their Western clients. “Given that Western currencies and economies are still in a downturn, our business growth will be impacted to a certain extent,” said Liu. “But our outlook for this year and the future is still quite positive.”

Still, he sees room for optimism, largely because of China’s relative resilience economically. “[Even with the slowdown], money is flowing into China, and it keeps growing. Global companies that have established production in China are, overall, making profits here, and they can use this money to expand their facilities.”

Strength in Positioning

Faced with increasingly aggressive local firms and a market which is not particularly open to foreign operators, leading logistics and industrial contractor GSE has its own strategy for remaining competitive

French firm GSE boasts 17 years in China, and its commercial director, Arnaud Sebban, has been here since 2000. It is this kind of on-the-ground knowledge, as well as a unique approach and service, which Sebban feels contributes to his firm’s success in a marketplace which remains firmly local. GSE has served companies such as DHL, Walmart, and IKEA, and is presently working with Becton Dickinson in Suzhou, Prologis in Jiaxing, and Adidas in Tianjin.

“The China market is very competitive. Local knowledge is indeed important, but you also need to adapt, and this has certainly been the case with GSE,” says Sebban.

GSE has focused its attention on the warehouse market – one which, at least for the moment, is undersupplied. “The warehouse market is only recently starting to attract heavy investment, and GSE’s track record already includes a 15-20% market share for Grade A warehouses,” Sebban says. Curiously, it is also one of the few markets worldwide in which developers are investing in speculative buildings.

While Sebban admits that the local market in China does not exactly make it easy for foreign firms to operate, he states that his company has been able to adapt through creating its own niche. “We do any kind of warehouse, which keeps our options open, and we are one of the few companies that provide turnkey solutions, i.e. where a firm handles a project from inception to completion,” he says. “In the industry, this is also called EPC, which stands for Engineering, Procurement, and Construction.”

In contrast, the construction industry in China is generally split into two parts: those who do design (Local Design Institutes, or LDIs), and those that build. This system gives rise to tensions between those at the beginning and those at the latter portion of the process. It is also further complicated by companies traditionally subcontracting long-term to only one firm, with whom they have a special relationship. GSE, in contrast, takes full responsibility of both design and works and subcontracts most of both among several special teams, to avoid excessive relationship-dependency.

Nonetheless, GSE does take a long-term approach when it comes to clients. “We prefer to work with clients on a repeat basis. This ‘key accounts’ philosophy is not so popular in China, especially among Chinese companies,” Sebban states.

The firm also takes an overall perspective that is comprehensive yet practical. “There is a balance between being driven completely by costs and completely by other issues such as design or sustainability. We consider ourselves pragmatic in our approach,” says Sebban, who adds that “Because of this, many clients now consider us as both international and local, as we combine the quality of the former with the well-positioned pricing of the latter.”

Leave a Comment