Few events symbolized the advance of China and the retreat of the West during the financial crisis more than the touchdown in Beijing of Secretary of State Hillary Clinton in February 2009. Previous U.S. administrations, under Bill Clinton and George W. Bush, had arrived in office with an aggressive, competitive posture towards China. Before she landed, Ms. Clinton publicly downplayed the importance of human rights. At a press conference before leaving, she beamingly implored the Chinese government to keep buying U.S. debt, like a traveling saleswoman hawking a bill of goods.

Deng Xiaoping’s crafty stratagem, laid down two decades earlier, about how China should advance stealthily into the world—”hide your brightness; bide your time”—had been honored in the breach long before Ms. Clinton’s arrival. China’s high-profile tours through Africa, South America and Australia in search of resources, the billion-dollar listings of its state companies (including PetroChina and the Industrial & Commercial Bank of China) on overseas stock markets, its rising profile in the United Nations and its sheer economic firepower had made China the new focus of global business and finance since the turn of the century. China’s star was shining more brightly than ever before, even as its diplomats protested they were battling to be heard on behalf of a relatively poor, developing economy.

The implosion of the Western financial system, along with an evaporation of confidence in the U.S., Europe and Japan, overnight pushed China’s global standing several notches higher. In the space of a few months in early 2009, the Chinese state committed $50 billion in extra funding for the International Monetary Fund and $38 billion with Hong Kong for an Asian monetary fund; extended a $25 billion loan to cash-strapped Russian oil companies; set aside $30 billion for Australian resource companies; offered tens of billions more to various countries or companies in South America, central and Southeast Asia, to lock up commodities and lay down its marker for future purchases. In September, China readied lines of credit of up to $60 to $70 billion for resource and infrastructure deals in Nigeria, Ghana and Kenya.

Beijing’s ambition and clout were being lit up in ways that would have been unthinkable a few years previously. The Chinese central bank called for an alternative to the U.S. dollar as a global reserve currency in early 2009, and reiterated its policy as the year went on. France obediently recommitted to Chinese sovereignty over Tibet to placate Beijing’s anger over the issue, after Beijing had canceled an E.U. summit in protest at Paris’s welcome for the Dalai Lama. On its navy’s 60th anniversary, China invited the world to view its new fleet of nuclear-powered submarines off the port of Qingdao.

The giant Chinese market had become more important than ever. Just ahead of the Shanghai auto show in April 2009, monthly passenger car sales in China were the highest of any market in the world, surpassing the U.S. A month later, Wang Qishan and a team of Chinese ministers met Catherine Ashton, then the E.U. trade commissioner, and about 15 of Europe’s most senior business executives in Brussels to hear their complaints about Chinese market access. Sure, Mr. Wang conceded after listening to their problems over a working lunch, there are “irregularities” in the market. “I know you have complaints,” he replied. “But the charm of the Chinese market is irresistible.” In other words, according to astonished executives in the meeting, whatever your complaints, the market is so big, you are going to come anyway. Even worse, many of the executives realized that Mr. Wang was right.

The rise of China is a genuine mega-trend, a phenomenon with the ability to remake the world economy, sector by sector. That it is presided over by a communist party makes it even more jarring for a Western world which, only a few years previously, was feasting on notions of the end of history and the triumph of liberal democracy.

In just a single generation, the party elite has been transformed from a mirthless band of Mao-suited, ideological thugs to a wealthy, business-friendly ruling class. Today’s Party is all about joining the highways of globalization, which in turn translates into greater economic efficiencies, higher rates of return and greater political security.

In the absence of democratic elections and open debate, it is impossible to judge popular support for the Party. But it is indisputable that support for the Party has grown with reform since Mao’s death. The Chinese Communist Party and its leaders have never wanted to be the West when they grow up. For the foreseeable future, it looks like their wishes will all come true.

Richard McGregor is deputy news editor and former Beijing bureau chief for the Financial Times. This essay is adapted from “The Party: The Secret World of China’s Communist Rulers.”

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WATER

China’s population growth and economic development will continue to drive significant increases in demand for clean water, which is projected to grow to 654 billion cubic meters in 2030, a 47% increase over 1980. China’s need to meet this growing demand will inevitably place more pressure on existing fresh water supplies.

With per capita water resources equivalent to only one-fourth of the world average,

China faces severe water challenges. North China’s water resources, a mere 11%

of those in South China (on a per capita basis), are particularly stressed. Water pollution further diminishes China’s usable water resources. China’s industrial and domestic water users discharge 50+ billion tons of wastewater into the country’s natural water bodies each year. As much as 70% of China’s rivers, lakes and reservoirs are seriously impacted by water pollution.

The annual cost of China’s water scarcity (i.e. imbalance between availability and demand), due to pollution and depletion of groundwater is estimated at 147 billion yuan (US$21.8 billion), almost 1% of China’s annual economic output.

China’s insufficient water infrastructure coverage, particularly in rural areas, exacerbates scarcity and pollution and contributes to health problems among supply, sewerage and wastewater treatment infrastructure, particularly in rural areas, leaves a significant portion of the population underserved.

For the full report, click here

CREDIT: THE CHINA GREENTECH REPORT 2009

may be capital markets and financial reporting considerations

which will impact either the ultimate exit strategy for financial

buyers or the assessment of a business’s operating results for

strategic buyers.

Investors should understand that, when investing initially

in a Chinese pharmaceutical company, the target will most

likely not be using a comprehensive set of accounting rules

such as International Financial Reporting Standards (IFRS) or

Accounting Principles Generally Accepted in the United States

(US GAAP). Such a comprehensive basis of accounting would

be required if the company were to ultimately list on a foreign

market or to converge with the investor’s basis of accounting

for consolidation purposes. Although public Chinese

companies were required to adopt Chinese Accounting

Standards (CAS), which converges significantly with IFRS,

with certain differences, from January 1st, 2007, adoption was

not required for private companies. As a result, most private

companies in China prepare their accounting records on a

cash basis for tax purposes, and more significantly, many

transactions are unrecorded and undisclosed.

There are several implications the investor needs to consider:

• Ongoing monitoring of the performance and prospects

of the investment: Whether the investor plans to continue

operating the Chinese pharmaceutical company as part

of their ongoing business or to exit the investment at

some time in the future, they must be able to monitor the

performance and prospects of their investment in order

to make informed operating and financing decisions.

The investor will therefore need access to financial

information prepared with guidelines they are familiar with

and which ensure that all significant transactions and

events are disclosed and accounted for consistently and

transparently. It is likely that the target company’s historical

books and records will not provide this level of information

and that the investor will require some form of conversion

or reconciliation to a comprehensive basis of accounting.

Such conversion or reconciliation would require qualified

people either at the target company or through external

advisors familiar with the target’s operations, the Chinese

regulatory, tax and legal environment, and the appropriate

basis of accounting, be it IFRS, US GAAP, CAS or some other standard. For example, recognizing revenue is a

significant challenge for pharmaceutical companies, due

to the level of risk involved in the underlying products and

processes, with complex arrangements made to mitigate

these risks. In addition, most of these arrangements tend

to be non-standard and verbal, making their accounting

even more challenging. Qualified personnel can assist the

investor in reviewing these contracts and assessing the

financial reporting implications of these arrangements to

help the investor better monitor the true performance of

the company and their investment.

• Accounting for the investment: A strategic buyer planning

to operate a Chinese pharmaceutical company as part

of their business will need to properly account for their

investment in that company. If the target’s financial

statements, books and records are based on a different

set of accounting standards, there will be significant

implications for ongoing internal management and external

financial reporting requirements. Further, the target

company may continue to have home country filing or

other regulatory requirements under their domestic GAAP,

for which the investor would then be responsible.

In order to properly account for the acquired subsidiary

or investment, the target company’s accounting policies

and records will need to be converted to and aligned with

the investor’s group policies and guidelines. Without first

converting the target’s financial information, the investor

will not be able to appropriately consolidate or equity

account for the acquired interests. Depending on the

target’s accounting guidelines, significant adjustments

might be needed to align the records to reflect consistent

accounting policies. The investor will also need to

implement internal reporting processes and procedures in

order to perform this conversion on a periodic basis and

in a timely manner so that ongoing reporting requirements

are met. Even if the target does appropriately apply

CAS, which reflects most of IFRS’s principles, there are

still areas where both guidelines differ and areas where

CAS is silent, which may be relevant to accounting for the

target. The investor will need to understand the target’s

accounting policies so that they are aware of the business

and accounting implications of the target’s business

arrangements under their own operating and financial

reporting framework. Further, accounting for business

combinations and consolidated financial statements is

increasing in complexity and evolving constantly. This

will affect the extent and nature of the valuations required

during acquisition due diligence and for purposes of any

ongoing financial reporting. This will impact the planning

around the acquisitions/investments and require increased

involvement of valuation and accounting specialists before,

during and after the transaction.

• Planning for the ultimate exit strategy: If the investor plans

to exit the investment in the future through, for example,

an initial public offering, then a significant amount of

advance preparation would be required to prepare the

company for listing. This includes preparing the company’s

financial statements using accounting guidelines permitted

by the relevant exchange and regulatory bodies. There

are several Chinese pharmaceutical companies currently

listed in the United States, such as Mindray Medical

International Ltd, Simcere Pharmaceutical Group, Wuxi

Pharmatech and American Oriental Bioengineering, which

include both foreign private issuers as well as domestic

registrants, and which all report under US GAAP. While

foreign private issuers have the option of reporting under

IFRS, most of them continue to report under US GAAP

for various reasons, including comparability of financial

information with peer companies, compliance with

financing arrangements, etc. Conversion from IFRS to US

GAAP (or vice-versa) is a complicated process, which must

be managed carefully by qualified personnel.

Credit: PriceWaterhouseCoopers; Investing in China’s Pharmaceutical
Industry – 2nd Edition; 2009

Credit: 2010 Matthews International Capital Management, LLC