The problem of Undercapitalization for new businesses in China

I wrote this article originally for China-Briefing, but this is an excerpt which I think is very relevant for all small to medium sized businesses thinking about registering in China.

One of the most common, and most serious, problems with China Foreign Invested Enterprise applications is the issue over registered capital. This is a much misunderstood area. Confusion exists, and many ill-advised investments are made in China due to misinterpretation of the local governments term “minimum registered capital.” This is not supposed to be a ruling on how much you need to invest. Actually, the amount of registered capital needed in the business depends on a number of different factors.

Location – Some regions in China apply different levels of capital requirements than others to reflect their lower or higher regional operational costs.

Scope of business – For certain industries or services, the applicable registered capital amount can be quite high. This is sometimes used as a protectionist tool to discourage foreign investment, and is sometimes used to ensure that only the right standard of international business can enter the market to ensure the quality of the applicant. Note that if some existing businesses wish to expand their current scope of business, it may be required to increase the amount of registered capital.

Cash flow – This is critical and often overlooked. Registered capital is also required to fund business operations until it is in a position to fund itself. Generally speaking this should be catered for in the feasibility report – a business plan type document that is submitted to the authorities as part of the application process. In the rush to attract new investments many government agents do not pay much attention to details of this report. Often the happy foreign investor will naively assume he’s gotten a great deal due to “minimum amounts” being identified as all that is required. However, the business can come to a shuddering halt if the registered capital amount is insufficient to support the operations cash flow. It is also not just a simple matter of wiring additional funds to China.

The procedures to be followed include:

• Application to increase the registered capital with the original licensing authority
• Application to the State Administration of Foreign Exchange to transfer funds into China bank to fund transfer
• Capital verification
• Reissuing of business license reflecting above; this is important as the registered capital amount is also the limited liability status of the business
• Update other licenses at various government authorities for registered capital amount

These steps take between six to eight weeks to fulfill. If you have already run out of operational money, you by now have not paid your staff, your suppliers, and possibly your utilities for two months. In effect, your business has been throttled before it even had a chance to breathe. It is vital you properly capitalize your business in China in accordance not just with government guidelines over “minimum registered capital,” but also with regards to pure economic and operational realities.

Businesses can and do go broke in China because of this issue, and unscrupulous consultants may not always advise on the matter as they seek to gain more fees from you in terms of sorting the problems out when they arrive, or because they are just in the business to make a quick buck out of handling your registration processes without putting any thought into the business aspects of your operations. The catch here is that if you do run out of cash flow due to undercapitalization, you can wire money to the businesses capital account. In doing so, China’s tax bureau will regard this as taxable income, meaning you incur an additional tax bill purely for refinancing your business. It’s an obvious waste. Calculating the required registered capital properly in advance will save a lot of headaches and an unnecessary loss of capital later on.

Mongolia - Economic Governance Forum March 2011

Governance was the main theme at the Mongolian Economic Forum being held in Ulaan Baatar, as the country begins to come to terms with its newfound status as a major global player in critical resources.

The country, which only overthrew the heavily Soviet-influenced Mongolian People’s Republic in 1990, became a democracy soon afterwards and has sometimes struggled with the transition from decades of mismanagement to its new status as a resource rich state sandwiched between two superpowers – China and Russia. Yet as an increasing volume of massive mineral reserves – ranging from massive oil, coal and iron ore deposits to the world’s largest copper, rare earths and uranium reserves – the country is undergoing a transition that could either be a great success story or lead it to the alternative national path, trodden by other nations, of its natural wealth becoming a curse.

The event, an NGO-sponsored platform inaugurated last year, has attracted major players such as Peabody, Rio Tinto, TDB, Goldman Sachs, Tenger, the IFC among other international organisations (I attend in my regional capacity with the UNDP), foreign governments and related trade, investment and commercial organisations, in addition to the highest office of the Mongolian government. It is intended not as a showcase, but as a genuine and critical examination of where and how Mongolia should be developing its newfound, and extraordinary wealth. For a democratic nation of just 2.5 million people, this has major implications.

First up, the good news. Coming from China, where when the government talks, everyone else listens and questions are largely brushed aside as irrelevant, the Mongolian plenary session included Prime Minister H.E. Batbold, a host of Cabinet officials, and the mayor of Ulaan Baatar. So far, so familiar. Unlike China, Mongolia being a democracy, the moderator was the outspoken, U.S. educated, pro-reform and anti-corruption lawyer, Jargalsaikhan. Being democratic, Mongolia certainly knows how to keep its politicians on their toes as awkward questions concerning government policies and performance were asked, including of the PM. This did not strike me as a country about to fall into cronyism anytime soon. When the somewhat hapless mayor of Ulaan Baatar – a city possessing the largest amount of Mongolia’s academic and institutional resources, and over 50 percent of the national population – was confronted with a litany of problems ranging from pollution to corruption and lack of public services, and then reminded his was not actually an elected position, sparks were going to fly, and the forum did not disappoint.

The jaded could argue that it was a show, and that Mongolia’s well known problems were being outed in a routine display of the government showing it was listening could be debated, but I don’t think this cynicism was the case. Rather, the exercise seemed more akin to a momentous change occurring in the country, and local politicians and lawyers being passionate about the outcome. This is a very positive sign.

Recognised also was the fact that in possessing such natural resources, Mongolia has emphatically joined the club of about 50 nations whose wealth largely depends upon natural resources. These range from Zimbabwe to Norway, however the path to sustainable prosperity still has to be laid down. The theme of “the curse of resources” cropped up time and again at the forum, and it is the responsibility of the government to ensure they get this right. To that end, Prime Minister Batbold described the need to “define boundaries” and introduce structures defining the influence of government between interfering, regulatory, support and when to stand aside. Such comments are wise.


Chris Devonshire-Ellis with the Prime Minister of Mongolia, His Excellency Mr. H.E Batbold.

Definition was also needed, he continued, to define the boundaries between public and private sector involvement, while calls were also made from the floor to better regulate Mongolia’s political parties to prevent them making election promises of financing that lay far beyond the country’s fiscal capabilities.

Indeed, the managing of Mongolian people’s expectations and the capabilities of the government to deliver were all discussed at some length. Your average Chinese investment seminar, with reams of statistics and well-rehearsed lines were far removed from what was going on in Mongolia’s Parliament building at this event.

Other issues, such as the mismatch of the Mongolian labour market, were also discussed. Mongolia exports large numbers of workers to Korea, yet imports labour from China, and has an unemployment problem. Training and education, in addition to labour law and the wages on offer in Mongolia all came to the fore in a debate that attracted much heartfelt participation. A statistic of note was that 20 percent of all Mongolian workers and engineers have work experience overseas.

Moving on, it was announced that Mongolia would be investing in a Heavy Industry Development Zone based in Sainshand, in the South Gobi. The site is expected to cover 3,500 hectares, and provide a base for mining exploration, heavy industry, in addition to added value productions such as manufacturing and components in addition to the export of readymade final products. The government is committed to public/private partnerships, as in the Indian model and is actively seeking investors. Coal/coke, oil, copper, and iron ore are all expected to be the key products for the Sainshand Zone.

In terms of competitiveness, the government had commissioned an independent study, comparing Mongolia with other countries of similar size, economy, political situation and resources – in total some 55 nations. This report is apparently available in English and was released on February 28 this year (we will try and source a copy as soon as we are able). Apparently, Mongolia scores well on matters concerning the role of women in society, decision making, and education. However, to close the circle for this article, governance remains poor.

It is obvious that major changes, some of which will affect the global supply of important commodities, are happening to Mongolia. The international community is well aware of this, and appears committed to ensuring Mongolia does not experience “the resource curse” – where corrupt officials take power and divert resources away for the building instead of family dynasties or short term gains. Quite how Mongolia will adapt, with a relatively small and inexperienced government, both struggling with, yet at the same time fiercely proud of its democracy, has still to be flushed out. But on the basis of today’s performance, I’d suggest there’s more right with Mongolia’s move towards governance than there is wrong.

I shall report tomorrow in greater detail on the regulatory environment and opportunities for investors interested in Mongolia.

How I Started My Business in China

This is the first of a series of five posts I am writing for China-Briefing on how I started my business in China.

One of the phenomena that crops up after a long career in China is the style of the questions that get asked. When once it was questions over taxes for representative offices, the impact of WTO accession, or where the hell was “Quangjoe (sic),” nowadays I increasingly get asked about managing and developing a business in China.


There is, of course, no one real answer, it all depends on the size of the business as well as other salient pertinent matters that impact upon the business environment. But while many, when it comes to China, tend to focus on the China cultural issues, I believe that even more important are the disciplines of business itself. Even sensible, practical advice can become drowned out among the cacophony of the “China” angle.
I began Dezan Shira & Associates (then named the rather long-winded “Dezan Shira Business Management Services (China) Ltd”) back in 1992. Newly divorced and pretty much financially cleaned out, I knew my Hong Kong, and had traveled to China a few times. Shekou, part of Shenzhen, and a deep water port, had seemed a good bet, not least because Deng Xiaoping had anointed the new city and declared “to get rich is good” there, but also because his old presidential yacht, the Minghua, a gift from Charles DeGalle, was moored in the port. It also had a low tax rate of just 12 percent against taxes in Shenzhen of 15 percent, and those compared to the rest of China at 25 percent. Money, at least it occurred to me, would be a motivating investment factor.

Deng had been appalled at the poor state management of China’s energy requirements – and with the South China Sea close by had earmarked Shekou as a base from which the international oil companies would partner with the China National Offshore Oil Corporation and jointly explore for oil and gas reserves in Nanhai. Shekou at the time was a true wild west – oilmen from Texas, Norway and Scotland, plus a few hardy souls relocated from Nigeria made up the expat scene there. Racing around on Harleys illegally imported as part of the rig equipment, these were hard working, hard drinking two weeks on, two weeks off guys built on Budweiser and Brazilian tattoos. Lan Kwai Fong seemed somewhat pretentious by comparison.
I set up shop. Dezan Shira & Associates would provide legal advice to the MNC oil companies in Shekou.
Eighteen months later, I got my first client, and it was a trademark registration for a Norwegian pub. I had had to literally fight tooth and nail to support myself in China, earning money from DJing, teaching English, and appearing on Shenzhen TV. I was lucky sometimes to have enough to eat McDonalds, and a large bottle of beer was an expense that had to be considered. I hadn’t realized that the local market didn’t really need a small-time guy selling legal administration services, and that all their juicy legal and contractual work was being handled by corporate lawyers back home or some of the few fat-cat firms that had tentatively entered the China market at that time.

Lesson 1

“Do your market research before you enter China, and understand your competition. A lot of people ignore this, and hope to learn as they go. If you can afford to – spend some time in China doing your own due diligence and ask as many questions as you can before you start up.”

That said, I had been tenacious in still plugging away. It hadn’t been an easy 18 months and certainly had led to numerous moments of self-doubt and wondering if China was in fact the right move. Supporting myself through working in nightclubs and teaching English had been a bit of a come down; just a few years prior to this I had been working in Singapore with a company apartment and a big Mercedes. I was now way behind my peers, all working in MNCs and appearing bemused by why I was living on the edge of poverty to keep a business going that obviously did not appear to be working.

Lesson 2

“China can be difficult, and it pays to be tenacious. If you think what you are doing is right, even if it is hard in business – then you’re probably right and should stick with it. Gut feelings and determination are both part of a winning strategy. Don’t give up.”

The trademark was duly processed, and I found by change that the choice of client – a large Norwegian oil guy called Tom, who ran the pub as a sideline to his real business – proved enormously beneficial. Running a pub, and pouring pints behind the bar, Tom both knew everyone and everyone knew him. He’d told some of his regulars – all potential clients of mine – that he was getting his pub brand “The Red Rooster” trademarked, and that I was doing it. When I eventually turned up with the documents to prove the filing, he would then advise them I’d done a good job. From 18 months to obtain my first client, it took just another five weeks to get my second.

Lesson 3

“Some clients can be beneficial in other ways, especially in helping you market your business. Although I got lucky to end up with Tom as an initial client, it can also pay to identify businesses who can not only use your services and will pay you, but who will also provide added value in terms of marketing or networking. These clients should be nurtured. Word of mouth and positive marketing by satisfied clients is the cheapest and the most effective method of promoting your business.”

By now, with a few smaller jobs coming in, I was starting to get busy. The DJ work, the TV station and English teaching all had to go. I had real work to do, and I also needed support. I hired a couple of Sichuan girls out of a local bar to assist. Although my Chinese wasn’t that great, it was enough, and with the help of a Lonely Planet phrase book and a Chinese-English dictionary, we could make ourselves understood. I found my Chinese skills were improving fast too, and tried to learn 10 new words a day. It’s repetitive and can be boring, but if you’re disciplined, it does make an impact. Slowly I found myself able to make sentences; a green light bulb would suddenly pop on in my head as I learned how to construct sentences. My office in those days was also in my apartment’s second spare bedroom. Kitted out with just one computer and a printer, I was able to painstakingly hand-produce typed business flyers which I would have photocopied and leave in the business centers of hotels (in those days many foreign companies were extant in specific hotels, which had two or three floors given over to business tenants). I started getting phone calls from interested clients. Money was still tight, but at least I had a raw business model that was generating both enquiries and income.

Lesson 4

“Marketing is an aspect of business that is vital. Without it, you fail to create a funnel into which clients potentially interested in your services can fall. The bigger the funnel, the more chance of attracting interest. Whether it is by leaving flyers in hotel business centers (something we still do today with issues of China Briefing) or via use of the internet, the more you widen your net, the more chance you have of creating a sustainable source of enquiries. Developing, and continuing to invest in marketing infrastructure is key to your business development.”

Of course, I couldn’t bring clients home for a meeting. But I could see them in their hotels. So meetings were always conducted in their hotels, meeting in the lobby over a coffee. Although I had a set program of services that I was providing – mainly legal administration work related to setting up representative offices, trademarks, and so on – I would also be asked if I could perform other duties such as market research, recruitment and even teach English to an entire Chinese management team twice a week for a year. Beggars can’t be choosers, and sometimes it is necessary to bill for related, yet non-core work during the early days.
Before starting the business, I had also gone through a divorce, which had cost me a lot of money. In fact, I was personally in debt as a result (spouse credit card bills on a joint account) and I couldn’t get credit. So no credit cards and I had to manage my cash flow very carefully. In fact, I got so used to not having a credit card, it became normal. I applied and received a new one – my first in 20 years – just last year, and then only due to hassles with bill payments for overseas travel. Having no credit can also in the longer term have a very positive impact, which can also be crucial to a young business. I had to live within my means. If I couldn’t afford it, I couldn’t have it, and the entire business, even today, still adheres to those principles. Dezan Shira & Associates today still has no overdraft facilities or loans. What money we have is ours – and not someone else’s – to manage, and it makes business decision-making processes a lot easier without bankers or other creditors interfering.

Lesson 5

“You can’t build a business on credit. If you try – and I have seen many attempt it – it always ends in tears. Only spend what you can afford – and especially in early days of erratic cash flow it may even pay to cut up your card. You don’t need it, and the business will grow stronger and faster as a result.”

There’s a term for this – “Bulkhead financing” –which means you keep the banks completely out of your business except for maintaining your account and giving you a safe place to hoard your income. Otherwise, keep them out of your company.

Top 10 Chinese Movies

I wrote this list originally for China-Briefing.com, a Chinese business news site. This is my personal list of favourites, which I think help give insight into the country and it's culture.

1. The Last Emperor (1987)
2. Raise the Red Lantern (1991)
3. The White Countess (2005)
4. Farewell My Concubine (1993)
5. Empire of the Sun (1987)
6.  The World of Suzie Wong (1960)
7. Enter the Dragon (1973)
8. Big Shot's Funeral (2001)
9. The Joy Luck Club (1993)
10. A Chinese Ghost Story (1987)

These films should all be available with English dialogues or subtitles.

Shanghai vs Beijing

A couple of months ago I wrote a piece for China Expat, comparing Shanghai and Beijing. Here, I will just recap some of the points I made:

• Shanghai is often known as China's financial centre - but this ignores the fact that Beijing is the home of most of the regulatory bodies, and Hong Kong even has many more international banking outlets.
• As a port City, Shanghai can transport more by sea, than Beijing can from Tianjin. Shanghai shipped 25 million TEU's in 2009, Beijing only 8
• Airports - Shanghai might currently win with the impressive Pudong and Hongqiao airports, but Beijing has another airport coming, the Beijing International Airport.
• Shanghai wins biggest population, although the census data is a bit out of date, and likely to be innacurate
• Both cities have invested a lot of money in their subway system, but Shanghai's carries over 7 million people a day, Beijing's just over 5.5 million
• In terms of events, Beijing's 2008 Olympic Games certainly beats Shanghai's Expo. But Shanghai's annual international sporting events like the formula one and the tennis, means that the Pearl Tower is seen much more across the world, than Beijing's Drum Tower
• Museums - Shanghai has a tech museum, the Shanghai museum and the Communist Party Birthplace museum. Beijing has the Forbidden City, so it wins hands down.
• Peking Duck in Beijing, vs Xiaolongbao in Shanghai