Wiring China

A brief item carried by China’s official news agency recently marked a significant milestone in the international telecommunications industry.

By the end of 1996, the New China News Agency reported, more than 40 million mainland Chinese will be using pagers, surpassing the United States as the biggest users of the devices in the world. For those who live in China--where pagers have taken on the “Chinglish” slang name of call-ji--this came as no particular surprise.

The constant beeping, ringing, chiming and buzzing of pagers in public places became such a nuisance that the State Education Commission banned them from school grounds. Even the courses in Marxist-Leninist philosophy at Qinghua University in Beijing were not immune to the constant electronic interruptions.

For a country that only a few decades ago still had telephones with cranks, the pager phenomenon is remarkable enough. But for those in the telecommunications industry, it was only the first milestone among many destined to be achieved here.

By sheer weight of its huge population and steady double-digit economic growth, China in the next quarter of a century or so is expected to have more telephones, more cellular phones, more beepers, more transmission lines--more everything telecommunicatively--than any other country.

One statistic tells the story: Every two years, China adds a telephone network equal to France’s national system. Under the latest “Five-Year Plan,” China is committed to spending up to $90 billion before 2000 to expand its telecommunications network.

According to the Claydon Gescher Associates consulting firm in Beijing, the more realistic estimate is that “China faces a bill of some $40 billion to $52 billion (at present international costs) for planned infrastructure expansion over the next five years and the technological upgrading required to breathe life into the information superhighway.”

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Despite its enormous promise, however, China remains an elusive and difficult market for foreign companies hoping to connect and collect.

“Clearly, this is the biggest market in the world right now in terms of equipment,” said a Western diplomat in Beijing. “They are buying tons of equipment, everything from satellites to fiber optics. But services are not open yet.”

Some of the world’s biggest equipment manufacturers--notably Motorola and AT&T;, Canada’s Northern Telecom, Nokia of Finland, Alcatel of France, Ericsson of Sweden and the German giant Siemens--have already profited handsomely from the Chinese market. Motorola, for example, peddling everything from its flip-cellular phones to two-way radios and semiconductors, counts on China for more than 12% of its total business, accounting for sales of $3.2 billion in 1995.

But companies hoping to cash in on the longer-term, potentially more profitable service and operational side of the business have had a much more difficult time.

Officially, the Chinese government prohibits foreign “investment and management in the telecom networks.” Although most of the major players have tested the waters, few have made much headway.

“In China,” Tobias Newland wrote recently in the magazine China Law & Practice, “the problem for telecom investors is that the meat in the sandwich of these contracts, the operation of telecom networks, is prohibited.”

Only a few foreign firms--including Ameritech and McCaw International, Singapore Telecom and Siemens-Deutsche Telekom--have managed to forge joint-venture agreements in the service sector. And because of the prohibitive Chinese regulations, those companies have been forced to officially define their business relations as consultancy or engineering advisory agreements--categories that offer little or no legal protection.

Last fall, Chicago-based Ameritech became the first U.S. telecom company to sign a joint-venture service agreement in China. With a total investment of about $20 million, Ameritech has agreed to construct and supervise a 10,000-subscriber digital cellular system and switched telephone network in Taiyuan, capital of Shanxi province in north-central China.

During the 15-year term of the venture, Ameritech is supposed to reduce its 80% initial stake in the project to 49%. The company is hoping to recoup its investment in seven years.

“Because there is no telecommunications law, we are really working in some gray areas here,” said Wilson S. Wang, a former IBM executive who now heads Ameritech’s Beijing representative office. “Both our local partner and us have to work very carefully.”

Like other telecommunications firms deciding to dive into the Chinese market, Ameritech hopes that its pioneering effort will give it an advantage later in the game, when the legal framework of investment here becomes more clear.

Foreign businesses in China often cite the example of Volkswagen, which by pioneering joint production of cars in Shanghai, the country’s biggest metropolis, has built up a highly profitable business.

“You can gain something and lose something by being first,” Wang said. “We thought it might give us a better chance of exercising control of the operations and setting the contract terms and conditions than if we had come later.”

Meanwhile, the terrain is strewn with the wreckage of failed deals and unfulfilled contracts.

For example, BellSouth, one of America’s regional Baby Bells, came very close last year to winning a major contract to provide and maintain a major telecommunications network for Beijing, the capital. At the last minute, however, the Chinese partners demanded an unsecured payment of $30 million to clinch the deal. BellSouth backed out, although it continues to pursue business on other fronts.

The Beijing contract eventually went to a previously obscure Thai company, Master Call.

Ameritech’s Wang said his company was also asked for a last-minute payment of $20 million in “earnest money” before it contracted to build the Shanxi province system.

“I just told them that as a representative office I was not authorized to spend that amount of money,” Wang said. Eventually, the Chinese partners withdrew the demand.

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Shan Phillips, a telecommunications analyst with the Shanghai office of the New York-based consulting firm Coopers & Lybrand, has described the telecommunications investment environment in China as “edgeball”--a term derived from Ping-Pong in which the ball caroms erratically off the edge of the table.

In other words, the telecommunications industry in China is not for the fainthearted. As a result, Phillips said, the investment climate favors risk-taking entrepreneurs or overseas Chinese companies familiar with the supra-legal terrain.

Foreign firms have reluctantly accepted the routine Chinese demand for access to Western technology in return for contracts to do business there, in telecommunications and virtually all other industries.

Sometimes it helps to have influential connections. California Microwave, a Redwood City company specializing in wireless and satellite communications, has had success selling communications hardware to clients ranging from the Shanghai Stock Exchange (satellite modems and terminals) to the New China News Agency (satellite communications network).

Earlier this year, California Microwave named Li Chenye (Bill Li) as vice president for China, based in Beijing. Li, a chemical engineer who has a master’s degree in applied economics from the University of Maine, is the son of China’s ambassador to the United States, Li Daoyu.

Investors here are betting that China will eventually be compelled to deregulate in order to meet its enormous telecommunications requirements.

“The situation is still very murky,” said a Western diplomat in Beijing. “When companies come in and ask us about investing in the telecom service area, we just tell them that, officially, it is still closed and we don’t know when it is likely to open up. But at the same time, we feel that China will not be able to do what it wants to do alone. They don’t have the experience or the resources.”

Phillips concurred: “Overall, there will be increasing liberalization. But as is true in many Asian countries, the leading edge is going to be way out in front of what is specified in the regulations. Those who are waiting for a totally non-opaque atmosphere will be left out.”

Still dominating the Chinese side of business is the giant Ministry of Posts and Telecommunications. The ministry not only operates the biggest existing telecommunications network in the country but, in the absence of a national telecommunications law, also serves as the industry’s de facto regulatory agency.

When asked why it continues to ban foreign investment or operation of telecommunications networks, ministry officials generally cite national security reasons. Like other countries, China is reluctant to open its national communications networks to foreigners.

Communications greases the wheels of commerce. But it also opens up society in a way that makes the control-oriented Communist Party uncomfortable. An extreme example of how far this can go came recently when the ministry banned the country’s 1,500 licensed paging companies from “editing and disseminating news” in the message function of their pagers. The bureaucrats complained about messages such as fortune telling, weather reports and “matters of a sensuous nature.”

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But another possible reason for the ministry’s reluctance to deregulate the service side is the specter of competition.

In 1994, the government broke up the ministry’s monopoly by creating two supposedly rival operators: Liantong (Unicom) and Jitong.

Jitong is owned by 26 state institutions and is in charge of building the country’s information highway, ranging from a national credit card clearance system to an Internet system connecting the major universities.

Liantong, designed as the more direct rival to the telecommunications ministry, was created by the Ministry of Railways, Ministry of Electronics Industry and Ministry of Power. It also has 13 other stockholders, including several of China’s largest state-owned trading companies. Liantong’s stated goal is to control 10% of China’s long-distance telephone service and 30% of its mobile phone traffic.

But confusion arises because Liantong and the telecommunications ministry often send out conflicting signals. The ministry insists that the ban on foreign investment and operation of China’s telecommunications networks remains intact and that there are no plans to scrap it. Liantong, meanwhile, encourages foreign firms to skirt the issue by entering into the “consulting” agreements.

As a result, complained a representative of one American company, foreign investors feel vulnerable to the whims of the Ministry of Posts and Telecommunications:

“The problem is that the MPT is a player but it is also a regulator. Liantong [Unicom] is the second carrier. It is like an infant. They need a lot of patience, and right now they don’t have any protection.”

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Getting Connected

Rapid economic development has spurred an explosion in telecommunications services in China: The proportion of households with telephones jumped from 1.1% in 1990 to 4.6% last year, and is projected to reach 10.5% by 2000. Other indicators of the telecom surge, in millions:

Telephone subscribers: 12.7 (1990); 78.7 (1995); 123.0 (2000*).

Pager subscribers: 0.4 (1990); 25.0 (1995); 50.0 (2000*).

Mobile phone subcribers: 0.2 (1990); 3.4 (1995); 10.0 (2000*)

Long-distance lines: 0.1 (1990); 1.1 (1995); 2.8 (2000*)

* Projected

Source: Ministry of Posts and Telecommunications