Build Operate Transfer for factories: Can it be implemented in China?

The Build-Operate-Transfer model can be a beneficial approach for larger businesses that are looking to start manufacturing products in a new location while shielding themselves from some of the typical risks faced when setting up a new factory from scratch.

China is an obvious choice to start manufacturing in for certain businesses due to its deep & wide pool of component manufacturers and relatively inexpensive engineers, as well as mature transport and logistics infrastructure. That’s especially true when some of the output will be sold on the local market (made in China for China) and the impact of the China-USA trade/tech war is limited.

However, it can be hard for businesses to break into the market and set up a factory due to a lack of knowledge of local regulations, areas, customs, and business practices; not to mention the language barrier.

That’s not to say that foreign-owned businesses can’t set up a factory in China…we did it but fortunately, we started small and grew organically over the years. For a company new to China, could the Build Operate Transfer (BOT) model be a good alternative?

What is Build Operate Transfer (BOT)?

Build Operate Transfer is quite different to you going into China and breaking ground on a new factory alone. You will partner with a local business (a specialized partner who is the BOT contractor) that designs, builds, and sets up and initially operates the facility. BOT helps you piggyback on their existing presence, local knowledge, finances, and expertise that, in China, may be far deeper than your own. During the initial period where they run the business, they make back the costs spent setting the business up from a concession of the profits. There may be other payments agreed between you and the contractor for their services, too. After an agreed period, ownership of the facility transfers to you, the foreign party, from the BOT contractor.

BOT is normally used for new facilities being built by large businesses (Wiki):

A BOT project is typically used to develop a discrete asset rather than a whole network and is generally entirely new or greenfield in nature (although refurbishment may be involved). [It is usually used] for large-scale infrastructure projects, wherein a private entity receives a concession from the public sector (or the private sector on rare occasions) to finance, design, construct, own, and operate a facility stated in the concession contract. The private entity will have the right to operate it for a set period of time. This enables the project proponent to recover its investment and operating and maintenance expenses in the project.

Build Operate Transfer in China: Key points

Interestingly, the very first BOT ever done was in China:

The first BOT was for the China Hotel [in Guangzhou], built in 1979 by the Hong Kong listed conglomerate Hopewell Holdings Ltd.

As China has challenges, and foreign companies seeking to use the BOT approach to set up a factory should consider the following:

• Gaining an understanding of Chinese culture, business etiquette, and how to communicate with Chinese suppliers will be essential for building successful relationships.
• Get local legal and administrative support, because these people know China’s complex bureaucracy better than you and will help you be legally compliant and find ways to reduce your tax burden, avoid penalties, obtain benefits such as grants, etc.
• Research and understand the Chinese market (if selling into China) and ensure you offer what they want. There are plenty of tales of popular Western brands that entered the Chinese market, didn’t pay attention to consumer trends and the culture, and had to leave with their tales between their legs. Take the UK’s retail chain Marks and Spencer, for example. And who could forget Italian fashion brand, Dolce & Gabbana‘s epic meltdown?
• Consider China’s geography. Coastal provinces may have a higher profile, but they’re also likely to be more expensive to set up a factory than inland provinces, including land costs, staff wages, etc. You may also find that local authorities from interior cities will make more efforts to win your investment, such as offering subsidies, tax rebates, etc. Also, you may find that certain areas are particularly geared towards specific products, so choosing an unsuitable location could put you far from your material and component suppliers (the BOT contractor should be useful when it comes to making this decision).
• Will a potential BOT contractor see your venture as worthy of the risk of their investment? Their motivation will be to make back their investment and more during the concession period, but they have to be confident that the business will be successful. Also, interest rates from lenders, who they will likely borrow from to raise the funding, could be quite high. They will investigate your business and goals very thoroughly before taking on the risk, so this may preclude smaller, less well-established businesses.

BOT’s Benefits

If we follow the Build Operate Transfer (BOT) model in China we’re placing trust in local experts to set up the facility and get it running correctly. For many importers interested in starting manufacturing operations that’s valuable, as their know-how and experience fill many gaps and make the process easier and faster.

But let’s go into more detail about the benefits for you to consider:

Local expertise and knowledge

Sometimes only Chinese companies know how to navigate local regulatory challenges. Over time foreign businesses can learn the ropes, but it takes just that, time. By tapping into a local expert’s knowledge you reduce making errors when setting up the business that could land you in trouble with local authorities and they will get you through the bureaucracy (which can be heavy) faster than if left to navigate it yourself.

Remember, throughout the BOT process you’re learning from the contractor, so your business is gaining valuable China-knowledge about how to operate and the local markets in China, and, when it’s time to transfer ownership, you’ve already learned how to manage the business effectively in China leading to a smooth transition.

Smoother Chinese-to-Chinese relationships

In China, the concept of Guanxi is real, and foreign businesses starting out won’t have as much sway with potential Chinese partners as local companies. This could slow you down compared to a local company as you aren’t yet trusted. Also, your BOT contractor probably brings a pocketbook of useful business contacts with whom they have existing relationships to the table, too.

We should also point out that you will need legal advisors working for you, to check all is done legally. You don’t want the local partner to take ‘shortcuts’ that will harm your business, or even force it to close, down the road.

Fewer financial risks at the start

Your initial investment is lower as your local BOT contractor contributes to the infrastructure building and operating of the facility in the early days, minimizing your commitment. Although certain Chinese cities and provinces will offer subsidies to manufacturers who want to set up a new facility, land costs can be high, so reducing your financial commitment by sharing it may be helpful…the local contractor may also have relationships with the local government (or simply know whom to ask) that can help them obtain rebates, subsidies, and other preferential benefits.

Time

Perhaps one of the most valuable benefits of them all, allowing a local contractor to handle the intricacies of building, hiring staff, setting up the business in compliance with local regulations, etc, buys you time to focus on whatever is most important for your business. In the case of manufacturers in China, that may well be product development, market development, and so on, so you can hit the ground running once the factory is up to speed.

You will hopefully get your products manufactured in China sooner and, therefore, on store shelves faster than if left to go it alone, as the experienced contractor will open the factory with fewer delays allowing you to get to market and reap the opportunities of doing so (as well as beating the competition who may be racing you to market).

Note: many companies start with a distribution and/or licensing agreement to test the market before they invest in setting up a local company. That makes a lot of sense.

The 3 BOT phases

The Build Operate Transfer approach has 3 phases:

1. Build

In this initial stage, the local BOT contractor handles the design, construction, and development of the factory.

They will have a lot of dialogue with you so they clearly understand your factory’s specifications, requirements, and overall goals. A clear handover process and timeline should also be agreed at this time.

As they are local experts, they take care of acquiring the land, the building and business permits, finding contractors to handle all aspects of construction, as well as procuring the materials, and ensuring that the building work is carried out following local regulations.

2. Operate

Now that the factory has been built to your specifications, the contractor will assume control of daily operations.

They will have several goals at this point:

• They are putting in place the systems, processes, and infrastructure the factory needs to run effectively in China. They will use their expertise in running factories in China to get the factory running in a way that yields the best results in China (for example, expecting it to run in the same way as a similar factory in, say, the USA, is not necessarily as we’re talking about a different business environment and culture – if you’ve seen Netflix’s documentary ‘American Factory’ you can see this scenario played out).
• They will manage resources, such as purchasing equipment locally, and hire the local professionals you need, which, again, might be tough for foreign businesses with limited China knowledge.
• Build a local pool of reliable suppliers, many of whom they may have worked with before and have found to be reliable.
• The contractor will also set up local distribution in China which, again, probably benefits from the local networks and knowledge they have that foreign investing companies typically do not (although it should be noted that local distribution is probably only a concern for manufacturers who also plan to sell to the Chinese market as well as in others).
• To get the factory operating at the level you require, push out products that reach your quality and product safety standards, and improve processes over time to give a firm bedrock of operational capability before handover.
• Making sure that the factory is running in compliance with Chinese business laws, environmental standards, labor laws, etc.
• Building relationships with the local community and government to improve your factory’s standing locally.

3. Transfer

The final phase of the BOT process is for the local contractor to transfer ownership of the factory to you following the predetermined time.

The transition will include:

• The handover of assets, workforce, and management responsibilities
• Training and documentation for your team from the contractor to ensure that you have the required knowledge and skills to continue running the business effectively
• Assistance from the contractor that everything is transferred legally and all local administrative and legal responsibilities have been met
• Post-handover support (perhaps for an agreed period), where the contractor provides advice, support, and consultations on any issues or questions

Conclusion

The Build-Operate-Transfer approach for setting up a factory in China provides foreign investors, typically larger businesses, with a structured approach and local support. The right BOT contractor knows what it takes to build and operate a successful manufacturing operation in China and provides you with the local knowledge and relationships you need for success, such as legal compliance, reliable local suppliers, and a manufacturing operation that reaches your requirements and runs well in China.