Buy Now, Profit Later

German manufacturers slept through the 1990s when foreign manufacturers were scrambling to gain a toehold in China. Many German blue chips manufacture in China or another Asian country. But there is a dearth of small and medium-sized companies there. Experts say they will have to follow the big Dax companies they supply or risk losing their business to competitors who do.

But moving abroad is not always a winning proposition for small, inexperienced companies. Making a profit in Asia requires two things: cash and stamina. Companies also risk being driven out of business by their Asian partners after transferring their technology and expertise.

For years, Asia received around 33 percent of German direct investment to emerging markets, 14 percent to 16 percent of the country's overall foreign direct investment. In the coming six years, German companies will invest a projected EUR10 billion in China, according to a Deutsche Bank survey among Dax 30 blue-chip companies. In the past six years, German companies invested around EUR8 billion in China. German direct investment in China currently accounts for just 1.2 percent of the country's total foreign direct investments or a fifth of what the United States and Japan invest in that country. Statisticians say the real sum is higher, however, since most German companies reinvest their earnings directly in China rather than repatriating them first.

Most of the money flowing into Asia from Germany comes from multinationals listed on the Dax index. Few of these companies have seen a return on their investment. Only six of the 23 Dax companies that responded to the Deutsche Bank survey said they were earning money in China. Deutsche Bank analysts warn that investments in China are bringing less output. “In light of sinking efficiency and growing overcapacity, it may take companies longer than expected to earn a profit,“ Deutsche Bank analysts write. German manufacturers also complain of high barriers to entry and cutthroat competition as well as a low level of strategic security and a lack of transparency. Legal uncertainty and personnel problems round off the list of complaints of the Dax companies that participated in the survey.

Volkswagen is a good example of how German companies are faring in China. Last year, VW manufactured more cars in the world's fastest-growing economy than in Germany. But this booming business did not translate into a profit, despite China's notoriously low labor costs. "It costs more to produce a VW in China than it does in Germany," said Peter Stellbrink of Made-In-Germany GmbH, a private initiative that finds joint-venture partners in Asia and eastern Europe for small and medium-sized manufacturers.

"Wage costs are not the decisive factor. Manufacturing structures and plant technology cannot be transferred one-to-one. BMW's costs doubled [when it started producing] in South Carolina." While it didn't take long for BMW to make its production site in the United States competitive, this process may take longer in Asia. The reason German manufacturers are there, said Stellbrink, is market proximity.

This is also the logic behind VW's massive buildup in China. The company still believes its China business will be a winning proposition in the medium term. Nowhere else in the world is the demand for cars growing as rapidly. The rush of German multinationals to Asia is a severe threat to the country's small and medium-sized suppliers. "The SMEs are being left behind. The big players want to source where they produce. But BMW can't find the quality it requires in Thailand. So it wants its German suppliers to transfer part of their production to Thailand as well," said Stellbrink. He believes that German suppliers must follow the example of their Japanese counterparts who went to Thailand with Toyota. "Toyota has been developing its supplier structures [in Thailand] for years. We have to help SMEs go abroad with the big companies." Stellbrink is also the director of Made-in-North Rhine-Westphalia and NWR Auto, two similar business models that negotiate partnerships with foreign companies. Both of these companies are supported by the state government of North Rhine-Westphalia.

But while big companies such as VW and Bayerische Motoren Werke (BMW) have the cash to ride out losses in new markets, their suppliers don't. They must find a way to supply their customers and indirectly the Chinese market without folding. Stellbrink said the answer is good planning - from the choice of a country, over the strategic partner in that country to negotiating a contract with that partner.