Short History of
Reforms Concerning Chinese State Owned Enterprises
Shanghai Flash N° 2/2005 pdf-version
It has been
a common trend in recent years for various countries to tackle
the performance of their state owned enterprises (SOEs). Among
those, the reform and efforts made by Chinese government are surely
Former President Deng Xiaoping’s guideline for the reform
was “crossing the river by feeling the stones under one’s
feet”. After over two decades experimental approach based
on trial and errors, the Chinese reform of SOEs has made remarkable
progress. The number of loss-generating enterprises was reduced
year by year, and the competitiveness of SOEs has been greatly
improved in a market driven economy, alongside the rapid growth
of the private sector.
However, it is now probably the time to cross the deep-water area.
With the intensified transformation of enterprise mechanisms and
the restructuring of state owned enterprises, the reform has encountered
unprecedented challenges, but also new opportunities.
of Chinese SOEs
founding of the P.R. China in 1949, the government nationalised
almost the entire industrial economy by taking over the previous
state owned companies, subsidiaries of foreign firms as well as
private companies. Two categories of ownership were created along
the Soviet model: ownership by the state and ownership by the
people, often called collective ownership. By 1958, the state
sector accounted for 89.17% of the industrial output, up from
32.69% in 1949 (Jian Sun, 1999). On the eve of the economic reforms
in 1978, the SOEs accounted for 80.8% of the total industrial
output (Justin Yifu Lin, Beijing University, 1999).
Under the former planned economy, the SOEs had little discretion
over their business operations. Production, purchase, sales and
even the wage rates were all decided and allocated by the government.
Moreover, SOEs had multi-functions at that time. On the one hand,
they were enterprises supposed to reach production targets and
generate profits, on the other hand, they should act as policy
executors who had to provide job opportunities and undertake social
welfare functions for their body of employees. With this burden
of multiple and sometimes conflicting tasks, the economic performance
of the state-owned sector was extremely poor. Many SOEs just survived
on the government’s protection and subsidies, e.g. cheap
raw materials and low interest loans from the state banks, among
which a large percentage became non-performing eventually.
At that time, the secure jobs in this kind of enterprises were
called “large canteen meal” and “iron rice bowl”.
Even if the bowl fell to the floor it never broke.
of Chinese SOEs
Since late 1978, China started its economic reform and opening-up
policy, which has made its growth rate maintain an annual average
rate of 9.7%, leading to an absolute economic growth increase
by 9.5 times in the last 25 years. The reform of the SOEs has
always been on the priority list of the overall economic and managerial
reform. A series of measures aiming at improving the efficiency
of the SOEs and creating a mixed-ownership structure was adopted,
including administrative decentralisation, liberalisation of the
state material allocation system, profit retention and authority
to invest and to import and export, as well as the introduction
of Contract Responsibility System in SOEs. As a result, the SOEs
were gradually deprived of their public administrative functions
and the performance of quite a number of them has been greatly
improved. Others were just closed down.
The government started to take initial steps towards labour market
reform in mid 1980s. The Tentative Stipulations on the SOEs Labour
Contract System, which was later replaced by the Labour Law (1994),
the Regulation on Unemployment Insurance for State Enterprise
Employees (1991) and Resolution on Unified Enterprise Basic Pension
Insurance System (1997), was promulgated in July 1986 to terminate
the permanent employment system in SOEs. However, the new labour
contract system applied only to new employees, until the first
half of the 1990s, most employees in the SOEs still retained lifetime
employment (Wu Zengxian, Europe-Asia Studies, Nov. 1997).
Under the former planned economy, the lifetime employees depended
solely on their enterprises for health care, housing and retirement
pensions, therefore the arrangement of the laid-off workers during
the re-structuring of SOEs remained an arduous task. The government
has been working to establish a sound social security system to
cover the unemployment insurance, retirement pension as well as
social relief and welfare since 1987, but apparently there is
still a long way to go.
After 1998, particularly after 2003, when the 16th National Party
Congress was held, the reform of SOEs has been accelerated. By
reorganisation, acquisition, sell-off, close-down, and bankruptcy,
the number of SOEs shrank year by year. The efforts to re-structure
the SOE sector turned positive and became quite fruitful.
According to government statistics, from 1998 to 2003, the number
of state enterprises dropped by 40% from 238,000 to 150,000, but
the aggregate profits that these SOEs realised, had soared by
22.2 times, from an initial 21.37 billion yuan (US$ 2.58 billion)
to 495.12 billion yuan (US$ 59.9 billion). The total value of
SOEs rose by around 60%, from RMB 5.2 trillion (US$ 628.8 billion)
to RMB 8.4 trillion (US$1.02 trillion). It was reported that in
the first 10 months of 2004, the 181 central SOEs and their groups
had gained overall profits of 418.9 billion yuan (US$ 50.6 billion),
a 53% increase from the same period of the previous year.
Meanwhile, the competitiveness of SOEs has also been improving
rapidly. According to a government report, the economic profits
of SOEs stopped declining in 1999 and keep climbing since then.
The scale of assets of profitable SOEs continues to expand. By
the end of 2004, over 1,000 SOEs were listed in domestic and overseas
stock markets, with an clear upgrading effect on their corporate
governance and efficiency. As a result, 14 Chinese SOEs rank now
among the top 500 enterprises in the world, compared to only 5
Obstacles and Challenges
2.2.1 Chronic problems
Undoubtedly, the performance of SOEs, the first pillar of the
former Marxist economic structure, has improved quite a lot, but
is still far from that of the non-state sectors. Benefiting from
legalisation of private ownership and the relaxation of the state
monopoly over industry, the private business, which had been considered
as the source of capitalism (so called “capitalist tail”)
and should have been eliminated, has become a dynamic component
of China’s economic growth and its contribution to the national
economy is rising continuously.
Meanwhile, the second pillar of the former system, the township
and village enterprises, as well as urban collective enterprises,
which used to be under the umbrella of the local government organisations,
have mostly been transformed into private-owned firms but still
retained their strong connections with local governments. At the
same time, fiscal decentralisation enabled local government to
retain and allocate more of the tax revenues and to levy surcharges
and various duties on local enterprises. The lower governments
could therefore grant preferential policies to these former collective
enterprises. As a result, these companies could take advantages
of the flexible management mechanism of private firms on one hand,
and enjoy government support in terms of capital, resource and
workforce access on the other hand. Consequently many of them
have become the most dynamic sectors in local economy.
Under this circumstance the SOEs are facing strong competitions
from these fast-growing private, joint-venture as well as foreign
invested companies under the market force, especially after tariffs
on more industries are further lowered in line with China’s
commitment to WTO.
Currently large key SOEs in protected industries or in monopoly
positions like energy, telecommunications, steel, and automobiles
are quite profitable. Some have been enlisted on the stock market
in China and abroad. But it is predictable that these enterprises
will be still under tight central control in the foreseeable future
although minority stakes are being sold on the stock market. However,
low performance efficiency, resource-draining, and insider dealing
still remain major problems in China’s SOEs. In 2003, the
average profit rate of net assets was only 5%. According to a
recent report, about 10% of SOEs face deficits. State-run enterprises
in China yield, on average, a return on assets of only 3% - well
below the 7% that the companies in the private sector generate
(McKinsey data) - and much less than the housing property market
Irregularities during the reform
During the process of SOEs property rights reform, some problems
emerged due to legal loopholes which have resulted in the loss
of State assets. In some cases, government official and company
management worked together to prevent real open and transparent
biddings, in order to secure underpriced sales for themselves.
Some other financial scandals revealed cheating in financial reports
to create deficit or hide increased value. Among all the irregularities,
management buyouts (MBO) were particularly singled out and have
aroused heated debate in economic and government circles.
An MBO refers to acquisitions of all or part of the equity capital
of a company by its directors and senior executives. In recent
years, MBOs were used in the reform of many SOEs, which, to some
extent, did improve the vitality of the enterprises. But in many
cases MBOs were abused by the management for personal gains.
In August 2004, Larry Lang, a Hongkong based economist, accused
the inappropriate MBOs which have caused the loss of State assets
in a series of articles and talk shows. Mr. Lang pointed out the
question for some of China’s most famous companies, including
Haier, Kelong, and TCL. Thus he lit the fuse for a heated discussion
in economic circles which later on caused a great deal of public
In response to these concerns, the State-Owned Asset Supervision
and Administrative Commission (SASAC), the watchdog agency acting
as the state owner of central SOEs, stopped the MBOs of major
large SOEs, and a detailed regulation on MBOs in small and medium-sized
SOEs was announced to be published within the first quarter of
2005. Founded in June 2003, SASAC (http://www.sasac.gov.cn/)
is responsible for the appreciation of State assets as well as
guiding and supervising the SOEs reform. With the deepening of
China’s economic reform, SASAC becomes one of the most active
and important government agencies.
To improve transparency and fairness of property rights transaction,
SASAC has been working on setting up state assets supervision
and management organs at the city level and property rights transaction
centres in big cities to organise open auctions.
Deepening of Reform and New Opportunities
by the government, deepening the re-structural reform of SOEs
will remain the highlight for the year 2005 - and even with bigger
pace, according to Li Rongrong, the Minister heading SASAC.
Mr. Li expected SASAC to take the next five years to basically
complete the restructuring procedure. SASAC has already drafted
a four-year plan for policy-arranged bankruptcy to let more poor-performing
SOEs withdraw. Under the scheme, around 2,800 SOEs will go bankrupt
in the next four years.
In the meantime, SASAC will also try to build up more internationally
competitive enterprise groups. In recent years China has been
implementing its “going global” strategy to push the
growth of export-oriented economy. The aim is to have 50 Chinese
enterprises among the world’s top 500.
To sharpen the competitiveness of the central SOEs, the government
encouraged these enterprises to invest more in R&D in order
to compete with international business giants. Currently China’s
major SOEs invest only an average 1% of their operational income
in R & D, compared to the 7% of multinational companies.
According to the official plan, 2005 will be a year with pilot
reforms, offering new opportunities to foreign capital as well
as private enterprises.
The Chinese government recently underlined the readiness for foreign
capital to be involved in the acquisition and merger of Chinese
SOEs. It is said that the restructuring of the Chinese SOEs will
need a capital of between 2 and 2.6 trillion yuan, while merger
and acquisition by foreign capitals only accounts for 5% to 10%
of the total FDI for the time being.
Official instructions were also issued to all China SOEs indicating
that their non-core businesses must be sold off - the risk not
to follow would go as far as these entities being taken away by
the Government and dismantled. Actually many of the targeted operations
are profitable or possess significant assets such as land. Furthermore,
some non-core businesses are in important sectors like chemical
industry, electrical appliances and telecommunications and have
a profound business network. On the other hand, the governments
at various levels are also happy to introduce foreign investment
to upgrade their industries. It is said that international acquisitions
will become an important way for local government to attract foreign
investment. Even in Shanghai where capital is quite available,
40 enterprises with 600 billion yuan (UD$ 72.5 billion) worth
of projects were opened to foreign investors for acquisition and
co-operation last year.
However, many factors, including financial loopholes, redundant
workers, as well as unclear regulations, still need to be taken
into consideration before a merger or an acquisition of a Chinese
Generally speaking, the year 2005 may expect to see considerable
changes in the process of China’s SOEs reform, while the
depreciation of the US dollar, the shortage in the supply of power,
as well as the fluctuation of the crude oil price may have a negative
impact on the overall growth of the economy, and thus create difficulties
in SOE development.
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