Conducting an External Vulnerability Assessment

Case study on a consumer goods manufacturer identifies vulnerabilities


There are countless other examples of non-Chinese companies setting up operations inside China only after agreeing to partner with domestic companies. FC’s ability to enter China without that stipulation is an extremely strong indicator that they had/have a relationship with a high-level official in China who would have allowed them to bypass this almost iron-clad “cost” of doing business inside the country. Based on similar business cases that TSC is familiar with, it is likely that FC had or developed a relationship with a high ranking official in the Industrial Development Area (EDA) and/or the local/regional government. Those relationships can involve paying a fee to a Chinese official(s) to allow the new company to be solely foreign owned. In addition, it would be expected that there remain ongoing and regular payments carved out of the operation’s yearly profits in order to keep the arrangement current. The alternative, that FC was allowed to set-up PDQ without any financial arrangements with a Chinese official or entity, is virtually impossible.

Chinese Under-reporting: TSC believes that a likely offshoot of the above scenario is that FC uses the 2007 agreement with CGM as a means to lessen or remove the financial burden of the fee that they furnish to their Chinese contact. The JV may underreport revenue in an amount equal to the yearly payment or, more likely, over-report costs to cover the payment. For example, if the yearly payment to the Chinese Official is $500,000 (U.S.), PDQ could simply indicate that there was expenditure of X+ 500K in an area difficult to track. TSC believes that “soft money” expenditures such as maintenance, travel, advertising or marketing would be likely areas where the fee is carved out. Of course, safeguards such as CGM representatives in China and financial audits of the operations would make such a scenario more difficult to manage. However, in all open-source research conducted, TSC was unable to identify even one individual whose name is not, on its surface, ethnic Chinese. Without a dedicated and loyal CGM presence, the likelihood of financial skimming and intellectual property theft are exponentially increased. Although it is possible that either CGM or FC or both have a constant presence at the facility, even a lone individual could easily be misled or shielded from the truth, especially should there be any significant language proficiency barriers. Regardless, TSC strongly suggests further investigation and safeguarding against this likely scenario.

Chinese Long-term Manufacturing Strategy: In its short history of allowing foreign manufacturing investment inside its borders, China has repeatedly taken the long-term strategy of copying the layout, process and machinery inside a facility. They then take their newly “acquired” knowledge and open a competing enterprise where 100 percent of the profit remains within China.

Chinese JV strategy: TSC was able to find some initial data indicating that a similar long-term strategy may have begun with the CGM-FC JV in China. A Chinese-language website for the Tianjin University of Science and Engineering Research Institute of Food product reveals a March visit by the PDQ JV management. According to the document, the topic discussed during the visit was a review of “recent years in food product processing technical cooperation.” The management team and professors observed “the teachers design and manufacture their own food product equipment” utilizing techniques and processes developed over the past several years. The two sides also discussed in-depth technical cooperation for the future.  The Chinese characters used to describe the relationship indicate an on-going, long-term cooperation strategy. According to the press release, there has already been and continues to be cooperation in the manufacture of food product equipment as well as an exchange of expertise between the two entities. This is an enormous warning sign that needs immediate exploration.

Warning Signs through Language: The TSC analyst assigned to this report noted several troublesome descriptions of PDQ, CGM and the JV found on various Chinese-language websites and press releases. For example, a translation on the PDQ website from the Chinese states that they have been able to achieve success with the aid of two international companies. They have taken advantage of and borrowed resources from these companies in order to build their own success. There is no mention of foreign-ownership nor the JV in general. The reader is led to assume that PDQ is a separate entity of Chinese origin. The use of terms “borrow” and “taken advantage of” are deliberate and are not errors in translation.  One possible explanation is that PDQ wants Chinese citizens who visit the website to believe it is a purely Chinese operation and whose success they can take national pride in.  However, combined with other information in this report and numerous similar case studies, it is also possible that the Chinese view PDQ as their own, whether now or in the future through a competing facility or company.

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