Operating in China presents many hurdles, but they are not insurmountable
Stephan Binder and Jun Xu
While financial institutions today face a serious challenge in many global markets, particularly in Europe and the US, China is offering the sector a desperately needed glimmer of hope.
In recent years it has become one of the world’s fastest growing, and most profitable, markets for banking and insurance. In fact, China is likely to overtake the US as the world’s largest banking market by 2023. But so far Chinese firms have been the primary beneficiaries of this exciting growth, with foreign firms accounting for just 2 percent of banking assets and 4 percent of insurance premiums. So, how can foreign financial institutions finally start making serious inroads in China?
They have got off to a slow start. Disappointing results have already prompted some foreign financial institutions to scale back their Chinese operations or even quit the country. A large European bank recently dropped plans to expand its retail banking franchise in China after a trial over a few years yielded disappointing results.
Regulatory hurdles, such as restrictions on geographic expansion and a complicated approval process for new products, are the most common reasons foreign firms give for their lack of success. But local firms are also heating up the competition for market share and successfully luring talent away from their international rivals.
Some firms have done better than others – Aviva Insurance of Britain is among the better performers. Aviva’s life insurance joint venture broke even after six years of operation, thanks to its employing independent Chinese financial advisors as an alternative channel for distribution.
Several foreign companies have failed in China because they imported business models, organizational structures or products from their home markets without making sure that they were adapted to the unique characteristics of China’s culture. Many also grapple with an inability to attract and retain talent – despite offering attractive starting salaries – due to a lack of promotion opportunities for local staff. Some foreign financial institutions have also failed to forge strong relationships with Chinese partners because they were not good at combining diverse workplace cultures.
The good news for foreign financial institutions is that with patience and a long-term China strategy, they can solve most of these issues. And they have good reason to get moving: the fundamental forces underpinning China’s financial services sector are not only strong, but every year growing more attractive.
China’s rising middle class, of which there are expected to be 500 million by 2025, has been gradually shifting financial assets from low-paying deposits into higher-yielding investments, creating new opportunities for financial firms. Chinese consumers are also seeking to protect their existing assets. In fact, demand for insurance in China will contribute an estimated 25 percent to insurance growth globally over the next five years. Demand is also intensifying from small-to-medium enterprises that have been under-served by the commercial lending market.
Competition in each of these arenas is fierce. And the traditional business models many foreign firms found successful at home, offering risk management and business planning, are less in demand in China, where many global financial brands are unfamiliar. Instead, these firms must embrace strategies that make them more like their local competitors if they want to compete effectively. Here are some key ways foreign companies can outflank their local competition.
Growing a business in China, with its huge population, geographic diversity and 5,000 years of history, is like a marathon rather than a sprint. The time commitment required for foreign firms to gain market share can seem daunting and may even outlast the tenure of a CEO. For example, in building an organic retail bank it takes an average 10 years to break even. It’s the same for building a profitable life insurance agency.
To succeed in China, foreign firms need to follow a clear and consistent strategy that avoids the tendency to sacrifice long-term health for short-term performance. While that may sound obvious, some firms arrived in China with a big splash, only to change their strategy when they encountered speed bumps. Inevitably, their performance faltered. History shows that foreign companies are rewarded for patience and consistency in China.
A sound strategy also aligns ambition with capabilities. For example, foreign banks could operate in China primarily to service the financing needs of multinational corporations from their home countries, or they could establish both retail and commercial banking services. Each strategic option requires different investments and distribution arrangements, but all are viable.
For example, Cigna, a US-based health insurance firm, broke even in just three years by pursuing a differentiated strategy that combines its strength in direct sales with the huge customer base of its partner China Merchants Bank.
Foreign companies trying to succeed in China need to remember that a number of Chinese cities are larger than many European countries. That means treating China as a collection of diverse markets differentiated not just by income, but also by distinct geographic and financial needs. For example, our research reveals that consumer attitudes vary more by region than by income. So we found that residents of Jinan, the capital of Shandong province, prefer more conservative investment products than their counterparts in other major cities, regardless of their salaries.
To serve these differences in demand, foreign firms need to improve more than their understanding of China’s many regional markets. They must also adjust their operational structures to serve them. Most foreign banks operate the same kind of top-down, centrally operated business units in China as they do in their home markets. This strategy stymies companies from responding nimbly to local differences in customer demand, which could unleash the entrepreneurship of local management.
Foreign firms report that their ability to attract and retain talent is their No 1 challenge in China. Not only do they have trouble finding well-qualified employees, they are finding it increasingly difficult to lure talent away from their fast-growing local competition. In a recent survey we conducted with the employees who recently left foreign financial institutions, the top reasons for their decision to quit were a perceived lack of promotion and development opportunities, the absence of longer-term incentives, and, most surprisingly, the absence of a performance-based culture.
Foreign firms can successfully respond to these issues by showing a greater commitment to local management. They should also aggressively reward performance and commitment, such as by offering things like loyalty bonuses, stock options and even equity participation in the local business. Foreign firms also need to give managers clearly defined opportunities to climb the management ladder.
Team stability also highly correlates with performance in local Chinese companies. In our experience, the most successful foreign firms in China tend to have the fewest high-level management changes and take steps to ensure the continuity of the top team.
About the Authors
Stephan Binder is a Director and head of McKinsey’s insurance practice in China, based in Shanghai. Jun Xu is a Partner in McKinsey’s financial institutions practice, also based in Shanghai.