Two Tests for Chinese Giants

08/06/2010 9:21 am EST


Jim Jubak

Founder and Editor,

In diverse fields—trains and telecommunications—we'll soon learn whether some of China's leading companies can win business on the global stage.

The next six months will test the power of China's global champions—and their limitations on the world stage.

First, sometime in early 2011, California is expected to decide which company will build a high-speed rail link between Los Angeles and San Francisco. France's Alstom (OTC: ALSMY), which built Amtrak's disappointing high-speed Acela, and the Japanese companies that built their country's pioneering Shinkansen bullet trains will go head to head with Chinese rivals that nobody in this market had heard of ten years ago.

The ability of Japanese and European companies to beat Chinese upstarts on the relatively neutral ground of California would speak volumes about China's ability to win dominant positions in new global markets.

Second, the success—or lack of success—of Huawei, China's champion in the telecommunications gear industry, in breaking into the US market will tell investors exactly how big a handicap the ties that bind China's biggest companies to the Chinese government, and, in particular, the People's Liberation Army, will be as these companies try to move onto the global stage.

Between them, what happens with California's bullet train and Huawei's attempts to break into the US market will show investors the lay of the competitive terrain as the next generation of corporate and government spending speeds up and the global economy returns to whatever "normal" is after the Great Recession.

The Golden State Prize

 Every manufacturer of high-speed trains in the world will take its best shot at winning in California. The state won the bulk of the $8 billion in grants for high-speed rail included in President Barack Obama's stimulus plan. With the US the laggard among the world's big economies in building a network of high-speed trains, the California tender is seen, rightly or not, as the opening of a huge new market for rail equipment.

The competition would have been cut and dried ten years ago. Two consortia—one from Europe, the other from Japan—would have gone head to head.

But in 2004, Japan's Kawasaki Heavy Industries (OTC: KWHIY) signed a $1.6 billion deal to supply 60 eight-car high-speed trains to China's national railroads with the Qingdao Sifang unit of Chinese partner China South Locomotive & Rolling Stock (OTC: CSRGY). The agreement included what other Japanese companies now condemn as a too-generous transfer of technology from Kawasaki to the Qingdao Sifang unit. Within two years, Qingdao Sifang says, it had absorbed Kawasaki's technology.

These days, the Chinese company is producing equipment that resembles the famous shape of Japan's Shinkansen bullet train but that the company says is built on totally Chinese technology. Whether that claim is true or not, China's high-speed rail companies are now the team to beat.

I outlined China's strategy in this March 24 post on my Web site: "The rise of the Chinese high-speed rail industry is built on China's creation of a huge market for rail equipment of all kinds—everything from traditional rails to rolling stock to signaling equipment to high-speed equipment. China's market for all rail equipment, running at about $10 billion a year on average between 2004 and 2008, is projected to grow to more than $50 billion by 2013, according to McKinsey & Co. In 2010, China is projected to account for at least half of total global spending on rail equipment."

That huge domestic market, largely protected from competition, is the base that China's rail companies are now using to bid for—and win—high-speed rail projects in Brazil, Saudi Arabia, and across Southeast Asia.

Japan's companies, in contrast, seem to have fallen asleep at the switch. In early July, Akihiko Tamura, the assistant vice minister for international affairs in Japan's Ministry of Transport, told Bloomberg that Japan should consider setting up a consulting company like France's Systra to help it compete against Alstom.

Consider? To help compete against Alstom? It's a little late to be "considering," isn't it? And besides, France isn't the toughest competition anymore.

NEXT: Will Telecom Connect


Will Telecom Connect?

By the time a company is picked for the rail project, probably in 2011, the question of whether Huawei can break into the US market for telecom gear despite its connections to the Chinese military—the company was founded by Ren Zhengfei, a former officer in the People's Liberation Army—is likely to have been decided.

In 2008, Huawei was forced to abandon a bid for 3Com because of security worries. Now Huawei has launched a big push to sell equipment to Sprint Nextel (NYSE: S), the third-largest US wireless operator. That push has revived worries in Washington that the deal would give a Chinese company with a history of connections to China's military access to anti-hacking and other technology used by the US Defense Department.

A renewal of those worries isn't the only problem currently facing Huawei. At the end of July, Motorola (NYSE: MOT) sued Huawei for allegedly conspiring with former Motorola employees to steal trade secrets. In its suit, Motorola charges that a staff engineer had shared information about Motorola technology with Ren and that it has uncovered e-mail showing transmission of confidential product specification documents to Huawei.

Huawei has said the suit is groundless.

Despite these recent setbacks, it's clear Huawei hasn't given up and that the company learned a great deal from its 3Com setback. First, it has hired new advisers and lobbyists to convince Congress that worries about the security of US technology are baseless. It is considering an initial public offering on a US exchange or in Hong Kong in an effort to increase transparency to investors and government regulators. The company is also said to be considering setting up a US company that would be independent of Chinese control and shaking up management to increase distance between the company and the Chinese army and government.

This effort to shed light on the relationship between China's biggest companies and the People's Liberation Army should be of huge interest to investors. The army owns or controls a big piece of the Chinese economy, but no one is sure exactly how much or what "control" means in the case of specific companies. If Huawei can create a mechanism for showing investors—and customers—what degree of control the army has over a specific company or convincing them that the company has severed its military ties, it would enable China's domestic champions to take a much bigger role in the global economy.

I'd keep my eyes peeled for that Huawei IPO if I were you.

At the time of publication, Jim Jubak did not own or control shares of any company mentioned in this column.

See the complete Jubak’s Picks Portfolio here

Jim Jubak has been writing "Jubak's Journal" and tracking the performance of his market-beating Jubak's Picks portfolio since 1997 on MSN Money. He is the author of a new book, The Jubak Picks, and he writes the Jubak Picks blog. He is also the senior markets editor at

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