Monday, May. 22, 2000

The China Drive

By Terry McCarthy/Shanghai

The Mickey Mouse jingle is sounding again at station 121R on the Shanghai General Motors assembly line. The procession of semiassembled cars and minivans halts, and workers start frantically pulling off an exhaust pipe from a blue minivan. Dennis Dougherty, GM's man in charge of manufacturing, is watching the process apprehensively from 50 yds. away. Blue-uniformed Chinese engineers come running to help. But Dougherty doesn't move. Two minutes later, Mickey Mouse stops, the line starts moving again...and Dougherty's expression relaxes.

"It is gut wrenching. There's something wrong, and your instinct is to jump in there and fix it," says the 48-year-old Maryland native, who has been in Shanghai since 1996. "But you've got to let the system work, got to let the team you have trained solve the problem."

In the beginning, there were so many problems that nobody outside the small Shanghai GM (SGM) project team thought the venture could work, even with $1.5 billion to invest. Build a factory in a marsh, train Chinese workers to international standards and bring to market a car costing $40,000 in a country where per capita GDP is less than $800? In two years?

But work it has. In its first year of production last year SGM sold 20,000 Buick Century sedans--more than double the target--and declared a $75 million profit. In addition to the original model, the company has launched two new vehicles, including a minivan, which goes on sale this week, only five months after the plant geared up production for it. There have been plenty of problems and more than a few Mickey Mouse alarms along the way, but the auto plant has become a textbook example of how a joint venture in China can succeed--as well as a prime exhibit in the politically charged debate over U.S.-China trade.

Just as President Bill Clinton launches a final effort to convince Congress that China deserves permanent normal trade status, there are still plenty of critics who see the communist goliath variously as a strategic threat to the U.S., a vast sweatshop economy swallowing up American jobs and a serial abuser of human rights. Even free-trading multinational corporations experience enormous frustrations trying to do business in China. Countless joint ventures have soured on disagreements between the partners, contract violations and unrealistic expectations of quick profits. A survey last year by management consultants AT Kearney found that 60% of all foreign companies were unprofitable in China.

It could be that SGM is an induplicable exception. But talk to foreign executives on the ground--including the skeptics who ruled that GM would never make it--and they'll tell you SGM's achievements are a remarkable symbol of what is possible. "It's the vision thing," says Patrick Cranley, head of the Cigna insurance group and chairman of the American Chamber of Commerce in Shanghai. "GM knows what it is in China for."

In short, that is to leave other automakers in its dust. So far, with the exception of Volkswagen and new efforts by Honda and Audi, nearly every other foreign-car company in China has wrecked its hopes for a quick piece of the world's fastest-growing market. In the 1990s, Chrysler shut its China offices, Peugeot-Citroen closed a loss-leading factory in Guangdong, and even Audi is still seething over the reverse engineering of its 100 model by a Chinese manufacturer, after its own production license for that model expired. GM had a classic failure with its first venture--a factory to produce pickups in the northern city of Shenyang. It was established in 1991, struggled for years, and was finally mothballed in 1996 after producing just 300 vehicles.

That might have been the end for GM had it not been for a heroic personal campaign by then CEO Jack Smith. Frustrated at the inability of the world's largest car manufacturer to make any headway in the world's most populous country, Smith sat down in 1994 with Vice Premier Li Lanqing to hammer out what it would take for GM to be successful in China. The Chinese side was unequivocal. There had to be a long-term commitment, a readiness to transfer technology to the Chinese and the introduction of Chinese employees into upper management. In short, GM would have to function as a Chinese company, for the Chinese, and not, in Smith's words, "as a U.S. company in China."

Back in 1994, many GM executives balked at the technology-transfer requirement. China has 112 car factories, but they are state-owned, inefficient producers using old technology. The country's largest producer, First Auto Works, turns out just 300,000 vehicles a year--a small fraction of GM's 5 million annual production in the U.S. It was no secret that the Chinese wanted to develop their own car industry using foreign technology, and after the Audi 100 experience, foreign carmakers were cautious of giving China up-to-date technology.

Still, Smith had two advantages: his enthusiasm and his counterparts, who were in Shanghai, not Beijing. The GM veteran embraced what he called a "paradigm shift"--the company would try to forge a long-term strategic relationship with the Chinese, to get a head start in the market. If that meant giving away modern technology, so be it. Meanwhile, instead of wining and dining China's central-government bureaucrats, GM strategists decided to direct all their negotiating efforts at Shanghai, run by the powerful and increasingly autonomous acolytes of President Jiang Zemin and Prime Minister Zhu Rongji. Smith was so intent on securing a deal that he kept a bag packed in his Detroit office, ready at a phone call's notice to fly out for another round of talks. The following year, GM beat out Ford, Toyota and Mercedes for the license to produce high-end sedans in Shanghai.

Then came the really hard part: negotiating the terms of the joint venture. For a year, Phil Murtaugh, a GM executive vice president, and Hu Maoyuan, his counterpart at Shanghai Automotive Industry Corp., negotiated the details of supplier agreements, manufacturing and training protocols and all the other minutiae of setting up a car plant. They talked--and shouted--16 hours a day, seven days a week in a small office on Shanghai's Huashan Street. "I would say, 'I can't live with that, Mr. Hu. I'll get killed,' and he would say, 'My neck is under the blade here,' and so it would go," says Murtaugh. But with the technology-transfer guarantee from Smith, the Shanghai government was as determined as GM to make the joint venture a success. "We were both under orders that this was going to happen," says Murtaugh. "We had to resolve the issues. We couldn't buck them on."

Once the deal was done, the factory rose miraculously from a site in the city's Pudong development district--140 acres of marshy paddy field with no roads, electricity or drainage. The first piles were sunk in January 1997, and to everyone's amazement, not least the GM engineers, the first car rolled off the line on Dec. 17, 1998. "The government helped us enormously with infrastructure," says Chen Hong, president of SGM. In 1998 SGM was designated Shanghai's No. 1 economic project--a privileged, pull-out-all-the-stops status that went to the city's new airport the following year. Chen concedes this is not how most foreign companies are treated. "Without this priority, it would have been very difficult to have built it in 23 months."

It was difficult enough. When the HELP WANTED signs went up, 40,000 people applied for 2,000 jobs. All were selected on the basis of an 8-hr. evaluation session that measured teamwork skills and behavior as well as technical ability. Each successful candidate was given a minimum of 375 hours of training, and 60% of the team leaders were sent overseas to study at other GM plants.

One thing they learned was that an American Buick wouldn't necessarily suit China. So the Buicks they produce have been subtly redesigned for the Chinese market. Since most of the buyers are bureaucrats or managers of state-owned enterprises, all of whom have chauffeurs, the car is built for a backseat passenger. Air-conditioning and radio controls face the backseat. The chassis has been strengthened to deal with China's bad road surfaces. The V6 engine has been reduced from 3.1 liters to 2.98 to get around an unwritten rule in China that only people of ministerial level are allowed to drive 3-liter cars.

Today SGM's modern facility has become a showpiece in Shanghai's campaign to attract more investment to the city. The factory gets more than 600 visitors a day. It is so important to the city's leaders that on the first working day after the U.S. bombed the Chinese embassy in Belgrade, Shanghai Mayor Xu Kuangdi showed up at the gate. "He wanted to make sure we continued production," says GM's Dougherty. The American staff members were jumpy after a weekend that had seen the U.S. embassy trashed in Beijing and Americans targeted for abuse around the country. "Xu said he didn't like what happened in Belgrade, but that was politics, and this was business."

Ironically, politics has come back to bite SGM in an unexpected way. When U.S. negotiators signed a deal with Beijing on World Trade Organization membership last November, the sale of Buicks plummeted. The WTO deal requires China to reduce tariffs on imported cars from the current 80%-to-100% level down to 25%. Chinese customers reckoned that by waiting, they could get an import cheaper than the homemade Buick. Sales were down 30% in the first quarter of this year, forcing SGM to drop the price of its cars 5% last month.

But this, after all, is what competition is all about. If Congress passes the trade bill and China abides by its promises to open markets, business is going to get a lot tougher for GM. Even this year, it is far from clear whether SGM can meet its ambitious target of selling 50,000 cars and minivans. Neither is it certain that GM will secure its ultimate goal--a license to produce smaller, cheaper cars for that vast promised market of average Chinese.

In the meantime, GM has plenty of problems at home. Its market share in the U.S. has slipped to a historic low, and the company's stock price has been battered by less than glowing reports from Wall Street analysts. Still, top management is determined to keep its foot on the gas in China. On a visit to Beijing last week, Rick Wagoner, who will succeed Smith as CEO of GM in June, told TIME that no matter what the company's troubles elsewhere, China remains a top priority. Says Wagoner: "There is no market with a growth opportunity like this."

Shanghai GM is in many ways an example of all the promise--and the peril--of U.S. business ambitions in China. Energy and perseverance built an advanced factory in record time, even as labor leaders back home accused GM of selling out American workers (GM contends that the venture's annual imports from Michigan total more than $200 million, which translates into jobs gained, not lost). Still, no sooner was the Shanghai plant complete than China agreed to open its markets to global competition, thus undermining GM's comparative advantage. At least with China's WTO accession on the horizon, maybe executives like Wagoner can hope the rules will stop being rewritten.

--With reporting by Joseph Szczesny/Detroit

With reporting by Joseph Szczesny/Detroit