15 years in China – Foreign Exchange Certificates

Posted by Reading Time: 9 minutes


Part two of our special series celebrating 15 years of Dezan Shira & Associates in China

Many expatriates in China don’t know that 15 years ago, RMB were not the currency foreigners could use. China had a two tier currency system, with foreigners having to buy Foreign Exchange Certificates (FECs). It was forbidden to possess RMB, which were restricted only for use by Chinese. Needless to say, purchasing FECs was at a 10 percent premium over the face value of the note.

This elaborate system, which was employed nationally, was designed to restrict the movements of foreigners in China. Only certain, special “Friendship Stores” and specifically designated hotels could accept FECs. It meant foreign visitors in China were restricted in where they could stay and where they could shop. Indeed, shopping in the Friendship Stores was something of an experience. Such stores stocked only “luxury” goods, which were reserved only for foreigners, and only foreigners were allowed in them. Chinese were barred from entry. In the Friendship Stores (some of which still remain, a giveaway as to their background being the name) a back shelf displayed the luxury goods. They were generally, Johnnie Walker Red Label whisky, Marlboro cigarettes and a few expensive Chinese silk paintings. That was about it. 

Dining out was also restricted mainly to the hotel, where food was usually unexciting and also expensive. Only foreigners were allowed to dine in them, and contact with local Chinese was minimized in this way.

Of course, this created a huge black market. Foreigners, fed up with the limited options available with their FECs, wanted to have RMB and to be able to use them in regular Chinese restaurants and shops, even though it was illegal. The Chinese too, wanted FECs so that they cold buy the “luxury” goods – a bottle of Johnnie Walker red label and a packet of Marlboro cigarettes was highly prestigious at the time. So as an ancestor of today’s fake DVD salesman, Chinese men would furtively whisper “Change FEC?” as a foreigner walked past. You’d do the deal in a side doorway – the black market rate was far better than the Bank of China’s rate. Clutching illegal RMBs in hand, it smelt of danger and excitement. But you had now a pass, even if illicit, to a world of real Chinese restaurants, shops, and purchases.

Still though, it wasn’t always easy. Many prejudices and fears about foreigners were rampant, and many Chinese restaurant or shop owners refused foreigners entry. If they didn’t have the right license, it was illegal for them to allow you into the premises. More control. Many times, I was refused entry to a restaurant. On one occasion, the elderly woman point blank pointed at me as I entered her small dumpling restaurant and said “No admittance to foreigners!” Her son of about 25 said, “But Mum, he’ll have money.” Turning to him as she held open the door for me to leave she said, “I don’t care. He’s a capitalist!”

FECs were finally phased out twelve years ago and were exchangeable, at the Bank of China, for a period of six months at face value to RMB. I cashed all mine in, many people did. I found some recently at a flea market in Beijing. I bought the full set at about double face value, which seemed a good deal to the trader who sold them to me. However, they are now rare, and I have been offered US$2,500 for the set by a Hong Kong collector – quite an appreciation, and somewhat ironic given the environment they existed in. So if you find an, hang onto them, for they were a piece of Chinese history and not so long ago the only currency foreigners were permitted to have.

The following are excerpts from the new book “The Story Of A China Practice”, detailing the first 15 years of Dezan Shira & Associates in China. The book, the first to describe the development of a professional services firm in China, is available priced US$20 plus p&p from sales@china-briefing.com. Chris Devonshire-Ellis, the firm’s founder relates the story:

Incorporation and the Red Rooster 
(excerpt from Chapter one, circa 1992)

Every so often in life, just a few words amongst the many that get spoken each day carry a significant resonance that ripple out way beyond the time they were spoken. So it was when Tom Nordell, a huge Swedish oilman with Weatherford, in the South China oil town of Shekou, said to me in spring 1994: “Chris, here’s your beer. Now, tell me, can you arrange trademarks in China?”

With those words, Dezan Shira, after 18 months of trying, was about to secure its first ever client. A trademark for a pub. Tom owned, with his Chinese partner Garrison, the best and most raucous drinking establishment in all of Shenzhen. It was “The Red Rooster” – and everyone drank there.

But why 18 months? And why Shenzhen? Times were a lot different then, when a little earlier, in 1992 I had begun the practice.

I’d been working in Hong Kong, embarking on occasional business trips to China, with somewhat unsatisfactory results (both for my employers and for me) at various stages for Asia Law & Practice (now part of Euromoney), publishers of the Hong Kong Law Society monthly magazine, and the brand new China Law magazine; the Panamanian law firm Mossack Fonseca & Co, with whom I was involved with offshore incorporation work for businesses in Hong Kong; and briefly as a consultant for Ng & Shum, a local Hong Kong firm with an office in Guangzhou. All had been OK, but my ambitions had seemed, well perhaps too ambitious, as a 30-year-old Brit with no Chinese language skills or business experience wanting to be sent to Beijing. None of those jobs lasted long (almost certainly to the relief of my employers) and instead, in November 1992, I petulantly and somewhat rashly established a Hong Kong limited company, named it after a misspelling of my surname from correspondence I had had as part of a previous small consulting role with the Chinese Ministry of Justice, told everyone I was now a China consultant, and that I was, in effect, open for business. The Gods, however thought otherwise. The newly incorporated, and somewhat long-windedly named, Dezan Shira Business Management Services (China) Ltd immediately failed to make any dreamed of impact whatsoever, and continued stubbornly any attempts by me to generate any revenues for it at all for a full year and a half. As Homer Simpson so eloquently puts it, “Doh!”

Obviously this had not been part of my plans. Having chosen Shenzhen (in hindsight a sensible move, although it seemed not so at the time) because Deng Xiaoping had proclaimed it a low tax haven of 15%, and had invited in all the oil companies to drill in the South China Sea, I figured the combination would be enough for me to pursue some legal contractual work and gradually ease my way into the foreign business community in South China and get established. I hadn’t done my homework. All the target companies had in-house legal counsel, and they had major legal representation with the likes of Baker & McKenzie, Freshfields, Coudert Brothers and Deacons. Was young Chris, with his weird “Indian” sounding consulting practice, who no-one has ever heard of before, going to pass muster? Not a chance. How naive I was. Yet those who are not aware of their naivety carry on, like happy fools, regardless.

So those 18 months were spent, keeping myself alive in essentially a hand to mouth existence – a divorce from my ex wife in Hong Kong eating up what little capital I had left – and I found myself moonlighting as a “consultant” by day (but one without any clients, which at least gave me the chance to read up on PRC Representative Office law in the Hong Kong Public Library next to the Star Ferry in Central) and earning a living in the evenings – teaching English, DJing in a couple of dodgy Shenzhen nightclubs, and for a halcyon six months, being the six times a day star performer on Shenzhen TV’s “5 minute English” for which I earned RMB4,000 a month. I was living on RMB100 a day.

Shekou however, was where I would hang out. I wanted to be in China, the beer was cheap, the girls more exotic, and it was easy access – a 45 minute ferry ride away from Hong Kong. That trip was like passing from one world to another. As soon as you arrived in Shekou, everything changed. People’s priorities, the things they talked about, the entire ambience were completely different, and the expats in Hong Kong seemed dull and unadventurous by comparison. “Filth” they called the British expats in Hong Kong at the time: “Failed in London, try Hong Kong.” Well I’d done that and failed in Hong Kong too! I wondered what you’d call somebody like me. But I kept at it, kept seeing expats around Shekou, kept drinking beer with them, and telling them it was great to be self employed, that everything with Dezan Shira was fine, and that business was pouring in.

It wasn’t, of course, and I had started to give in, to send off cv’s in Hong Kong looking for a job. I couldn’t even get interviewed, and I thought about going to South America, or maybe to Russia. It certainly didn’t look as if it was going to work out for me in China.

And then, finally, after 18 months of banging my head against a wall and doing stupid jobs just to pay the rent, Tom Nordell bought me a pint, asked if I could do the trademark for his pub, and Dezan Shira was on its way. The firms first ever job, a trademark for a pub – it’s still there – and the princely sum of US$1,000. It seemed a fortune after living on RMB100 a day; and I spent a good part of it wildly celebrating.

Self Financing
(excerpt from chapter five, circa 1999)

Dezan Shira however was doing nicely, but we still had cash flow issues. The specter of receivables started to bite, and it bit hard. It was frustrating to see all the hard work and effort still being delayed in being able to obtain any sizable financial rewards by having hundreds of thousands of dollars outstanding and not in the businesses bank account where it belonged.

When I had set up the business, as you will recall, it had no money, and neither did I. Upon my divorce, I had cut up my credit cards and vowed not to use them until I could afford it. Under those circumstances, and amidst the fact that initially Dezan Shira wasn’t billing for any business, I hadn’t bothered to apply any bank overdraft either. There wasn’t any point, I’d have been laughed out of the bank and probably locked up as insane. It bred therefore, painful as it was, a business culture that meant that Dezan Shira just simply didn’t borrow any money. No loans, no other investors, no bank overdrafts. With Alberto Vettoretti’s (the firm’s second equity partner) prudent financial management, he was also able to curb my wilder schemes, yet was savvy enough to let me spend when he could feel I had a good idea, or was committed to a business plan, as long as we could afford it.

So Dezan Shira had grown up with a financial model of only spending what we had, physically in the bank. “A deal is not a deal until the money is in the bank” we would chorus to our regional managers, and deflate their over-optimistic income forecasts by essentially cutting them in half. We were usually correct in terms of reality. But receivables were another matter. We were turning over close to US$2 million a year, yet I couldn’t make a decent salary for myself, in line with market norms. I discussed it with Alberto.

“We have two choices. We either go to the bank and ask for an overdraft to tide us over the cash flow gaps that receivables are causing, or we tough it out and develop the business until the gap between income and receivables is large enough at the income end so it doesn’t hurt as much. If we do that, how long do you think it will take in terms of business development at existing levels before we can fund our own debts without so much pain, and begin to produce dividends?”

Alberto did some calculations and looked me in the eye. “If we don’t go to the bank, we’ll suffer for another three or so years with awkward cash flow before we have grown enough to get out of it and can start to award dividends, if we stick to existing growth models.”

We both paused for a few seconds. Simultaneously we both said it. “Screw the banks!” Dezan Shira was going to continue to be self funded. We had waited for our rewards for that long, we could wait a while longer, and we were in no mood to let any banks into our business financing, having come this far on our own. To this day Dezan Shira funds it’s own receivables, and pays staff and operational costs on the nose. “Bulk Head Financing” is not letting any other financing into your business, including the banks, and Dezan Shira operates all it’s accounts in the black. No loans, no outside investors, no debts. It took a long time to get to that position, but by 2002 it had been achieved – and the firm’s growth since then has been testament to tough financial decisions taken in preceding years, including a prudent policy of salaries to partners, in order to allow the business to achieve self financing.

But debates about the perils of getting into bed with banks notwithstanding; China itself wasn’t finished with the firm’s trials and tribulations just yet. In late October 2002, a strange disease was reported in Hong Kong. Its name would become known as SARS…

More excerpts from “The Story Of A China Practice” including working through SARS, tomorrow.

The entire series can be found here.