VZCZCXRO1807
PP RUEHCN RUEHGH RUEHVC
DE RUEHBJ #5639/01 2400831
ZNR UUUUU ZZH
P 280831Z AUG 07
FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC PRIORITY 1277
INFO RUEHOO/CHINA POSTS COLLECTIVE PRIORITY
RUEATRS/DEPT OF TREASURY WASHINGTON DC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY
RHEHNSC/NSC WASHDC PRIORITY

UNCLAS SECTION 01 OF 03 BEIJING 005639 
 
SIPDIS 
 
SIPDIS 
SENSITIVE 
 
STATE FOR EAP/CM PSECOR, JYAMAMOTO 
TREASURY FOR OASIA RDOHNER, BCUSHMAN 
USDOC FOR 4420/ITA/MAC/CEA/MCQUEEN 
USTR FOR BHATIA/STRATFORD/WINTER/ALTBACH/MCCARTIN 
 
E.O. 12958: N/A 
TAGS: ECON ENRG EINV EPET EFIN CH
SUBJECT: CHINA/SOE REFORM: THE LOCAL VIEW, AS SEEN FROM QINGDAO 
 
-------------------- 
INTRODUCTION/SUMMARY 
-------------------- 
 
¶1. (SBU) Coverage of state-owned enterprise (SOE) reform in China 
tends to focus on the 155 large national firms managed from Beijing 
by the central State Assets Supervisory and Administration 
Commission (SASAC).  Easily overlooked, however, are the tens of 
thousands of companies run by the 32 provincial-level and 448 
prefecture-level SASAC entities.  Recent meetings held by Econ M/C 
and Econoff in Qingdao illuminate the degree of autonomy experienced 
by these "local" SASACs as well as the unique challenges faced in 
executing enterprise reform at the local level. 
 
¶2. (SBU) Our meetings with Qingdao's SASAC and local SOEs focused on 
the challenges of diversifying ownership and implementing new 
policies and regulations, such as a dividend payment plan.  With 
local SOEs accounting for 40 percent of Qingdao's GDP, the city's 
SASAC has a geographically-based stake in enterprise reform that is 
quite different from the broader perspective enjoyed by the central 
SASAC.  Meanwhile, the local SOEs themselves are struggling to court 
outside investment, and some have or are looking to list on stock 
exchanges and/or expand to include operations overseas.  Two 
well-known companies, Tsingtao and Haier, provided very different 
perspectives on doing business in the United States.  End 
Introduction and Summary. 
 
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QINGDAO DIVERSIFYING OWNERSHIP OF LARGE SOES 
-------------------------------------------- 
 
¶3. (SBU) Qingdao City SASAC Vice Director Gao Sizhang told us that 
the commission's number one reform priority is diversifying 
ownership of the city's 32 large SOEs.  Qingdao SASAC is 
accomplishing this through three methods: inviting strategic 
investors to acquire a stake in a SOE; using mergers and 
acquisitions between SOEs; and finally, publicly listing SOEs both 
in China and abroad.  Gao stated that the SOEs will become more 
competitive as a result of ownership diversification.  Qingdao SASAC 
has come to recognize that wholly state-owned SOEs cannot survive in 
an open-market, said Gao. 
 
¶4. (SBU) Vice Director Gao noted that Qingdao SASAC is carefully 
monitoring the impact of enterprise diversification upon the local 
economy.  The commission must be prudent when diversifying since 
SOEs account for 40 percent of Qingdao's gross domestic product 
(GDP).  There are four basic categories of SOEs in Qingdao: 
manufacturing; services and investment; public infrastructure and 
utilities; and finally, trading.  Each enterprise category has rules 
regulating the percentage of the enterprise that the city must 
retain, according to Gao. 
 
¶5. (SBU) Gao stated that the most restrictive enterprise direct 
investment category belongs to the Qingdao's public sector, 
including the city's public transportation and utilities resources. 
Qingdao must maintain a 60 percent minimum stake in this area. 
Other enterprise categories have less restrictive investment rules 
and are being handled on a case-by-case basis.  A British company 
acquired a 40 percent stake in Qingdao's port authority.  The 
company has brought much needed capital, managerial talent, and 
technology to the port as it goes through an expansion.  Meanwhile, 
the city retains only a 30.56 percent ownership stake in the famed 
Tsingtao Brewery.  The United States brewer Anheuser-Busch (AB) 
 
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acquired a 27 percent stake with Tsingtao Brewery holding on to the 
rest. 
 
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QINGDAO SOES SLOWLY GOING PUBLIC 
-------------------------------- 
 
¶6. (SBU) In a separate meeting, Qingdao SASAC Vice Director Changjun 
Yang told us that so far only six of Qingdao's large SOEs are 
publicly listed.  Qingdao SASAC maintains a 20 to 30 percent 
ownership stake in those publicly listed enterprises.  SASAC will 
soon host a seminar intended to better prepare other Qingdao 
enterprises for public listing.  SASAC has invited several large 
Chinese and international banks as well as rating companies to speak 
at the conference, an event intended to help local enterprises 
improve their corporate governance and learn more about obtaining 
financing for future IPOs, said Yang. 
 
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LESS ATTRACTIVE OPTIONS FOR SMALLER SOES 
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BEIJING 00005639  002 OF 003 
 
 
 
¶7. (SBU) Vice Director Gao said that Qingdao SASAC is also reforming 
the several hundred small-to-medium (SMEs) sized enterprises it 
supervises, but noted that the commission spends far less time 
managing this issue.  The most important SME reform is adoption of a 
policy to allow the enterprises to go bankrupt if they run into 
financial difficulties.  This has become more common as the SMEs' 
access to cheap capital has eroded.  Bank loans to Qingdao SMEs are 
increasingly tied to the enterprises' performance, a departure from 
past practices which had led to local banks holding large sums of 
bad debt.  Gao said that there are two other options for SMEs 
encountering financial difficulties: apply to convert the enterprise 
to a wholly-privately owned company, or seek joint ventures with 
foreign-owned companies.  Managers of faltering SMEs are required to 
work with Qingdao SASAC to choose the most appropriate option, 
according to Gao. 
 
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SOE'S GINGERLY TESTING THE OVERSEAS MARKET 
---------------------------------------- 
 
¶8. (SBU) Vice Director Yang stated that Qingdao SOEs are slowly 
beginning to expand to the overseas market.  Qingdao SASAC plays a 
limited, supporting role in this regard.  It is up to the individual 
enterprises' leadership to determine if their companies are ready to 
expand overseas.  The vast majority of the city's SOEs are too small 
and their business too locally focused to expand overseas.  We met 
separately with two of the city's largest SOEs, Haier and Tsingtao 
Brewery, to discuss this issue and received very different views on 
expansion into the United States market.  So far, Haier considers 
its aggressive move into the United States to be a disappointment. 
In contrast, Tsingtao is pleased with its partnership with a larger 
United States brewer (AB) and is content with its niche share of the 
United States market. 
 
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HAIER COMPLAINS ABOUT ITS FORAY INTO U.S. MARKET 
--------------------------------------------- --- 
 
¶9. (SBU) Yang Mianmian, Executive Vice-President of Haier, China's 
top white goods manufacturer, stated that the company's operations 
in the United States have been unprofitable and a disappointment. 
Haier understands that the company will not receive preferential 
treatment in the United States but believes that U.S. companies have 
an upper hand in their home market.  Yang cited three examples: The 
company lost a bidding war for another company's brand (Maytag) to a 
competitor; U.S. regulators temporarily pulled a freezer model from 
the shelves in a standards dispute; and a competitor copied a Haier 
freezer model.  Yang also noted that Haier was unprepared for the 
legal environment in the United States and has struggled in dealing 
with several lawsuits that have been filed against the company 
there. 
 
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TSINGTAO OPENS AMERICAN TAP, BUT KEEPS LOCAL GAZE 
 
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--------------------------------------------- ---- 
 
¶10. (SBU) Chu Liangjing, Vice General Manager of Tsingtao Brewery 
told us that his company has been pleased with its experiences in 
the United States.  Its partnership with AB has brought much needed 
management expertise and technology.  Tsingtao has also used the 
partnership to better access the United States market.  The company 
has worked very hard to promote its brand in the United States, but 
recognizes that its target demographic is a small sliver of the 
overall market.  Chu stated that given Tsingtao's place in the 
United States market, the real payoff for the company's ties to AB 
comes from being able to grow more competitive in a Chinese market 
that is increasingly crowded with domestic and international 
competitors. 
 
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QINGDAO FOLLOWS BEIJING'S SOE LEAD, NOT LED BY IT 
--------------------------------------------- ---- 
 
¶11. (SBU) In response to a question from Econoff, Vice Director Gao 
provided insight into the relationship between local SASAC offices 
and the Central Government SASAC.  He noted that although the 
Central Government SASAC provides policy guidance to local SASAC 
offices, these offices do not directly report to Beijing. Instead, 
local offices profit from Beijing's experiences rather than 
following a set of rules issued by the capital.  Gao noted there are 
several policy issues, including dividend payments, establishment of 
boards of directors, and diversification out of non-core business 
interests, that the central and local government SASACs are working 
 
BEIJING 00005639  003 OF 003 
 
 
on simultaneously. 
 
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QINGDAO WRESTLING WITH DIVIDEND POLICY 
-------------------------------------- 
 
¶12. (SBU) Vice Director Gao stated that similar to the Central 
Government, Qingdao SASAC is exploring implementation of a policy 
requiring its SOEs to pay dividends to the city government.  Qingdao 
SASAC and the city's finance office are working on this together. 
Gao said that the Central Government so far has not issued 
guidelines, such as suggestions on what percentage of the profits to 
tax or how to use the money, which could assist localities. 
Instead, Beijing is encouraging localities to create their own 
dividend plans.  Gao noted that Qingdao is looking to other cities, 
such as Shanghai, to learn how those city governments are 
structuring their programs. 
 
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SOE MANAGEMENT REFORM ON-TRACK 
------------------------------ 
 
¶13. (SBU) Vice Director Gao noted that Qingdao SASAC is also 
undertaking enterprise management reform similar to that ongoing at 
the national level.  As part of this reform, many large Qingdao 
SOEs, including Haier, Hisense, and Tsingtao Brewery, have 
established boards of directors (and some have even listed on the 
Shanghai and Hong Kong exchanges).  Since most of Qingdao's large 
enterprises are not monopolies, they have had to undertake such 
reform in order to remain competitive in the open market.  Qingdao 
SASAC also has recently established a pay-for-performance plan for 
its SOE managers.  The commission sets performance standards in 
several different categories for each enterprise based upon the SOEs 
individual circumstances.  Managers at enterprises that excel beyond 
those standards receive bonuses.  Qingdao SASAC is still refining 
this program; some of program's evaluation and auditing process 
needs work, commented Gao. 
 
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PARING NON-CORE INTERESTS, SOCIAL SERVICES 
------------------------------------------ 
 
¶14. (SBU) Vice Director Gao stated that the city's enterprises must 
be concentrated in their core business areas.  On average, the large 
Qingdao SOEs are spread across six to eight sectors unlike the 
Central Government enterprises that frequently have hundreds of 
subsidiaries doing business across a host of sectors.  As an example 
of the non-core business activities Qingdao SOEs pursue, Gao noted 
that Hisense, an electronics manufacturer, is a very successful 
property developer in Qingdao.  Gao also told us that almost all 
social service responsibilities have been separated from Qingdao's 
SOEs.  During the separation period, the SOEs transferred ownership 
of schools, buildings and other social service related 
infrastructure to the local government.  The enterprises bore the 
human resource costs of the transfer for about a year, but 
otherwise, the Qingdao government has covered most of the costs, 
according to Gao. 
 
RANDT