The Importance of India for China-based Foreign Manufacturers

September 26, 2014 Posted by China Briefing Reading Time: 8 minutes

Selling to China will no longer be dependent upon the China manufacturing price. Rather, it is the price that the product can be made for in India that will count.

Op-ed Commentary: Chris Devonshire-Ellis

With Chinese President Xi Jinping’s India visit having come to an end, it is an opportune moment to examine economic developments in both countries and to draw some conclusions about the directions both are heading. In fairness to Xi, demographics and political developments in India overshadowed his visit, which was ultimately greeted with less than baited breath in Delhi. The Chinese side had talked up the trip, promising US$100 billion worth of deals to be signed, whereas in fact just US$30 billion was agreed upon. Indian media reacted accordingly, describing the Chinese visit as “disappointing”.

Xi meanwhile seemed more intent not on trade, but on asserting China’s position over its many territorial disputes, including those in the South China Sea. That has relevance for India, which has several joint ventures with Vietnamese companies claiming drilling rights. The trip, as it was, appears to have been a rather muted, dour affair and not the rapprochement that many (including the Chinese media) had had played up. Consequently, newsfeeds have become silent on the China-India issue.

Yet much is going on under the surface, including developments that will have a significant impact on foreign manufacturers and investors in China. Many have become “China-centric” and happy to assume that the country is the only in game in Asia. This is a mistaken presumption. Eight years ago now, I looked to take Dezan Shira & Associates beyond China. This decision was made in order to spread the China-only risk, retain a competitive geographic advantage over China-only firms, attract more MNC clients with locations in multiple countries, and to continue what seemed to me a logical expansion into Asia.

I chose India, a strategy that was inevitably greeted with derision on numerous China blogs. The reason behind India specifically was the result of the country’s underlying demographics. Yes, we were early in the India market, and perhaps that was unexpected; however I also knew from my experience of developing our China practice that the first few years would be spent making mistakes and absorbing the lessons that would need to be learned, but that this would give us a head start on any other competitors (and still today very few China practices are in India). Also, the India fundamentals pointed to a young emerging workforce that would be available at low labour costs – just at the time when China’s would start to become more expensive. As it turned out, one end of that equation was accelerated; China introduced new labour laws that significantly added to the employment burden.

The China-based naysayers pointed out India’s weakness: its infrastructure. Yet I never really saw that as a major problem, as I had been in China, when it too had little in the way to offer. An old boss of mine once told me when learning of my plans to start a business in China back in 1991: “Don’t go. It’s dirty, horrible, and Communist. Nothing works and they’ll rip you off.” All were true, but not to a fatal degree. China’s infrastructure gradually improved; many truly old China hands will recall when the Guangshen Highway was opened between Shenzhen and Guangzhou in 1993. It was China’s first. India has been the same.

Just as Beijing’s Capital Airport previously offered only one terminal with hot water and dried noodles for passengers, then became an international hub, the same has occurred in Delhi. The only drawback India had – and in this case, making it quite different from China – was its frustrating politics. Decades of democracy had produced nothing but coalition Governments whose inevitable horse trading meant much needed reforms did not get passed. These were frustrating times to be invested in India; the country promised so much yet delivered so little. As the Wall Street Journal itself put it recently, India today is as China was fifteen years ago. It is a reasonable comparison.

That lack of infrastructure investment and development finally changed however, when the Indian people, also dismayed at a persistent and stagnant approach to national development, finally elected a government with a strong mandate to rule. A business-savvy and foreign investment friendly party is now in power with an absolute majority – India’s first in 30 years. And if anyone is in doubt about what this means for foreign investors, a scan of this summary in India’s Economic Times should put them at ease. If this were China of course, it would be front page news. India still only ranks as worthy of pages 4&5, buried inside the broadsheets. But don’t be fooled. Understanding a resurgent India is vitally important for China based manufacturers.

“This means that the cost dynamic for success in China will no longer be the China price. Rather it will be the price that a product can be made for in India.”

China of course has developed, and will continue to develop as a massive consumer market. The nation is becoming increasingly wealthy, and its population, by and large, with it. China will possess 600 million middle class consumers by 2020. Yet luxury goods aside, where are the vast number of consumables going to come from? China can no longer afford to be making plastic buckets and high-volume low-margin goods.

Yet with a consumer base of its size; China needs a huge workforce to support all this consumption. Only India, with a workforce of some 400 million today (expected to reach 900 million by 2025) has that population. This is one reason why India is setting up “Make in India” platforms across China – to attract Chinese manufacturing investment into India to support the Chinese consumer. This means that the cost dynamic for success in China will no longer be the China price. Rather, it will be the price a product can be made for in India.

In addition to this, India also has its own, growing middle class consumer base. It should be stressed that India is not a poor country. While wealth distribution remains an issue, it is also true that India’s middle class, while smaller than China’s, is still a figure of some 250 million. Strategically-positioned manufacturing in India can service not just the China market, but also the Indian domestic consumer, and that market too is fostering the ability to provide both cheap manufacturing and a burgeoning consumer class.

Getting to India while selling to China is another issue. Interestingly, both countries have significant free trade agreements with ASEAN, with the Indian agreement arguably even more beneficial than the Chinese one as it includes the services sector. This means that the establishment of a company in Singapore, which is a member of ASEAN, to hold a new Indian manufacturing or sourcing entity, and then trade with and sell to China can enjoy some significant tariff advantages. Our Singapore office routinely handles such pan-Asia structural establishment and tax work for international clients investing in China, India and ASEAN.

Much has been written on China blogs about the emergence of “China alternatives” such as Vietnam and even Myanmar, and these destinations can provide some answers. For example, production ratios for justifying a Vietnamese factory over a Chinese one – taking into account China’s superior manufacturing capabilities – currently stand at about 70% (meaning that if you can get your Vietnamese manufacturing operations to 70% of that achievable in China, the cost dynamics then tip in favor of Vietnam). For these reasons, our firm established operations in Vietnam shortly after commencing our India adventures, having set up our own offices in Delhi and Mumbai. Yet when it comes to the future dynamics and justifications concerning China manufacturing, it is India that is really the elephant in the room.

It is the demographic dynamics that really dictate where the future of manufacturing investment lies. For the past twenty-five years, that has been China. But it is India that is now poised to take up that mantle as the China price rises, its workforce diminishes, and global consumer demand increases. This was exactly the case twenty-five years ago – substituting American and European manufacturing costs for China – and it remains so today. Rising China manufacturing costs mean it is losing production competitiveness, while only India is capable of stepping into a volume gap of that size. It is now time to get prepared.

Chris Devonshire-Ellis is the Founding Partner of Dezan Shira & Associates – a specialist foreign direct investment practice providing corporate establishment, business advisory, tax advisory and compliance, accounting, payroll, due diligence and financial review services to multinationals investing in emerging Asia. Since its establishment in 1992, the firm has grown into one of Asia’s most versatile full-service consultancies with operational offices across China, Hong Kong, India, Singapore and Vietnam, in addition to alliances in Indonesia, Malaysia, Philippines and Thailand, as well as liaison offices in Italy, Germany and the United States. For further information, please email china@dezshira.com or visit www.dezshira.com.

Stay up to date with the latest business and investment trends in Asia by subscribing to our complimentary update service featuring news, commentary and regulatory insight.