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| Issue 1, Oct 2011 |
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We encourage your feedback: margot@apec.org.au |
Back to full APEC Currents, October 2011 Sustaining Chinese Outward FDI in Australia: The Vital Role of Corporate Governance   by Dr. Xueli Huang and Dr Ling Deng RMIT University, Australia
Chinese outward foreign direct investment (ODFI) has surged since 2003. In 2010, China’s OFDI reached US$68.1 billion, and accounted for over 5% of global FDI in 2010 (UNCTAD, 2011). Australia has become one of the largest destinations for Chinese OFDI since 2007 (Ministry of Commerce, 2010). Compared with FDI in Australia from the US, UK, and Japan, China’s OFDI is relatively small, only accounting for about 2.71% of the total FDI stock in Australia by the end of June 2010 (Australian Bureau of Statistics, 2011), and heavily concentrated (81.6%) in the resources sector (Ministry of Commerce, 2011), rather than spreading over major industries, such as manufacturing, services, and agriculture, as US, UK and Japanese firms do. China’s OFDI in Australia seems to slow down after 2009 with most OFDI being in those approved projects, rather than new mergers and acquisitions (M&A). In fact, there have been no major new M&A made by Chinese firms that involved more than $1 billion in Australia since Yang Coal acquired Felix Resources for $3.4 billion in October 2009. One of the reasons is the reduced demand for global capital by Australian firms, coupled with the stimulation monetary policy of governments in many countries. Indeed, the availability of capital in Chinese firms was considered as a major factor for their investment in Australia during the Global Financial Crisis (GFC). Another reason is that the financial performance of Chinese OFDI has not been satisfactory. Although some Chinese OFDI has been very successful, such as Minmetals’ acquisition of most assets of OZ Minerals and Yang Coal’s acquisition of Felix Resources, many project investments by Chinese firms in Australia have incurred substantial losses, cost blowouts, or project delays, such as Sinosteel Midwest, CITIC Pacific Mining, Karara, a 50-50% JV between Gindalbie Metals and Anshan Iron and Steel Corporation (Ansteel). In response to the rapid growth of Chinese OFDI, particularly those made by state-owned enterprises (SOEs), and the poor performance of OFDI globally, the State-owned Assets Supervision and Administration Commission (SASAC) of China has recently released two interim regulations on the supervision and management of ODFI by SOEs, tightening the supervision and control of investment decision-making and management. SASAC also clarified the responsibilities of OFDI for the SASAC and SOEs and clearly stated that penalties and disciplines will be applied to those responsible for the loss of state-owned assets overseas according to relevant laws and regulations. These two Regulations have covered many areas, such as risk management, decision-making, and accounting. To some degree, they can be regarded as those internal policies, systems and procedures that are part of the responsibilities of the board of directors in a large corporation. Indeed, the board of directors is the brain of a company (du Plessis, McConvill, & Bagaric, 2005) and responsible for establishing the systems by which companies are directed and controlled” or “corporate governance”, as defined by the UK Cadbury Report (Cadbury, 1992), in a company. Broadly, the board should “direct, govern, guide, monitor, oversee, supervise and comply” (du Plessis, et al., 2005). Corporate governance in China is still developing although much progress has been made since its first Corporate Security Law was promulgated in 1998 (Ho, 2008). However, corporate governance in China is not well implemented and many problems still remain, including “intervention and expropriation of firm assets by controlling shareholders, weak regulatory enforcement, lack of independent board and effective controls, low corporate transparency and disclosure quality” (Ho, 2008 p. 234). Corporate governance, particularly its legal and regulatory framework, and implementation, in Australia is very different from that in China. Such differences can impose many challenges on the competence and behaviours of Chinese directors working in Australia. For example, corporate governance has rapidly expanded in the past decade with a shift of focus from shareholder primacy to stakeholder primacy (du Plessis, Bagaric, & Hargovan, 2010). This has been well reflected by a series of amendments on the Corporations Act and the release of the Principles of Good Corporate Governance and Best Practice Recommendations by the ASX Corporate Governance Council in March 2003, and revised in 2010 (Australian Securities Exchange, 2010). Listed companies need to follow these recommendations, although they are not compulsory. Otherwise, they must explain why not. Some recommendations have become more prescriptive after the Corporate Law Economic Reform Program (Audit Reform & Corporate disclosure) (CLERP 9) came into effect on 1 July 2004, which has been regarded as a hallmark of major change in Australia’s corporate governance from a “disclosure-based” approach to an “interventionist” one. One of the consequences of these changes in corporate governance is a high demand on the knowledge and competence of board of directors in an Australian company, particularly those which are listed. For non-listed companies, Standards Australia published a five-part set for corporate governance standards (Standards Australia, 2003). Besides the Corporations Act and Corporate Governance Principles, there are many other legal requirements that affect the way business is conducted, including trade practices and fair dealing laws, consumer protection, respect for privacy, employment law, occupational health and safety, equal employment opportunities, superannuation environment and pollution controls. In several areas, directors and officers are held personally responsible for corporate behaviour inconsistent with these requirements, and penalties can be severe (Australian Securities Exchange, 2010). Company directors can be personally liable by virtue of their position as directors under a range of Commonwealth and State/Territory legislation. A recent case is the financial penalties or barring company directorship for 2 former directors of Centro Properties for breaching their duties when they approved financial statements for 2006-07 which did not disclose that Centro was required to repay billions of dollars of debt within a matter of months (Danckert, 2011; Wood, 2011). Our recent research on how Chinese MNCs control their subsidiaries in Australia (Huang, 2011; Huang & Austin, 2011) has shown that corporate governance in many Chinese subsidiaries in Australia is not well developed, particularly in terms of recruiting board of directors and appointing senior managers. For example, an overwhelming proportion of Chinese subsidiary directors appointed by their headquarters are insiders. Chinese MNCs appointed directors largely according to the proportion of ownership for exercising their ownership control. Most of them are qualified in science, engineering, accounting, and finance, but lack experience in international management. This appointment pattern raises questions about the effectiveness of the companies’ corporate governance, given that the independence and competence of the board are crucial for effective control. Moreover, Chinese MNCs prefer appointing insiders as CEO/MD to their subsidiaries; this is partly due to the weak role the subsidiaries’ board of directors plays, and a high level of trust valued by Chinese culture. Consequently, the strategic responsibilities often rest with the CEO/MD of the subsidiary. However, the preference for appointing insiders to senior management positions in the subsidiary is moderated by two things: the role’s task complexity at the foreign subsidiary, and the Chinese MNCs lack of competent elites and staff experienced in international management and operations. As a result, top management positions at the subsidiary are often filled on acquisition by non-Chinese managers with local experience. Nevertheless, some of these local managers have been replaced by Chinese expatriates shortly after acquisition, particularly in subsidiaries that are in the early stages of resource development and smaller in size. This is due to the relatively low level of complexity involved in managing these subsidiaries. The lack of experienced executives and middle managers, coupled with potential language and cultural issues, has limited the number of expatriates sent from Chinese MNC headquarters to their Australian subsidiaries. Finally, the overall pattern that can be drawn from our research is that Chinese MNCs extend the way they control their domestic subsidiaries to those in Australia, a strategy that relies heavily on ownership and personal control, and is largely reliant on on-the-ground staff monitoring and reporting (informal control). There are at least two implications from our research findings. Firstly, Chinese MNCs need to use corporate governance more effectively and efficiently in aligning the interest of its subsidiaries to that of corporate headquarters. In this regard, the role played by the board, and the behaviours of directors, needs to be explored, particularly its engagement or delegation in strategic decision-making. If the board would like to be engaged in the subsidiary’s strategic decision-making, then the independence and competence of the directors become crucial. These two areas can be improved through appointing directors with relevant knowledge, experience, and expertise from both within and outside the corporation. Moreover, improving the quality of the board can also enhance subsidiary’s reputation and investors’ confidence in the organisation (Ho, 2008). If the board would like to delegate the strategic decision-making responsibilities to the subsidiary’s top management, then, the system, structure, and process of corporate governance, as well as the recruitment and remuneration of senior managers, become vital to the subsidiary. This is an area stressed much by the SASAC’s two interim Regulations. Given the importance of strategic context for some Chinese MNCs to use Australia as a spring board for its growth in international operations, and the quality of the Australian legal and regulatory framework, Chinese subsidiaries in Australia with well-established corporate governance can play a role of strategic leader for the whole corporation in this area. Secondly, given the huge gap between the demand for experienced elites and their shortage in Chinese MNCs, Human Resources development is of strategic importance for enhancing the governance and management of foreign subsidiaries at both strategic and operational levels. This could be done through developing HR policies in management recruiting, training, and remuneration. On-the-job training (including sending managers for international assignments) may be an effective approach to developing human resources. Recruiting competent managers outside the MNC from within China or other countries could be another effective approach. References
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