China's Communist Party extends reach into foreign companies

Chinese soldiers carrying the flags of (from left to right) China's Communist Party, the state, and the People's Liberation Army during a military parade at the Zhurihe training base in Inner Mongolia region on July 30, 2017. PHOTO: AFP

BEIJING (WASHINGTON POST) - American and European companies involved in joint ventures with state-owned Chinese firms have been asked in recent months to give internal Communist Party cells an explicit role in decision-making, executives and business groups say.

It is, they say, a worrying demand that threatens to put politics before profits, and the interests of the party above all other considerations.

It suggests that foreign companies are no longer exempt from President Xi Jinping's overarching vision of complete control.

"The creeping intrusion by the party apparatus into the boardrooms of foreign-invested enterprises has not yet manifested itself on a large scale but things are certainly going down that path," said James Zimmerman, a managing partner of law firm Sheppard Mullin Richter and Hampton and former chairman of the American Chamber of Commerce in China, who is instructing clients to "push back".

The party's demand would give its cells a formal role in approving management decisions, such as investment plans or personnel changes. And that is ringing alarm bells.

At the same time, a campaign to reinforce China's draconian censorship of the Internet is now beginning to have an impact on foreign companies.

The twin efforts to keep tabs on foreign companies are an expression of the Communist Party's constant paranoia about internal stability.

But they also represent a shift in the balance of power here, as China feels itself to be stronger economically and Western businesses more dispensable.

Not every company is affected by the changes. Larger enterprises have dedicated lines and special technology ensuring unfettered Internet access. But the smaller ones do not have that latitude.

By the same token, wholly owned foreign ventures have not faced the same pressure from internal party cells, while even companies involved in joint ventures are pushing back against the new demands.

But everyone is aware which way the wind is blowing.

For decades, China was something of an El Dorado for foreign companies, its low wages luring in manufacturers and its vast consumer market and rapidly expanding middle class presenting an unrivalled opportunity for growth - even if it was always a challenging place to operate.

These days, though, the mood has perceptibly changed: China is no longer so keen to extend the welcome mat, and foreign companies are increasingly prone to complain of unfair treatment.

Even after the wholesale transformation of the Chinese economy, the Communist Party has remained ever present in business.

Executives of state-owned firms are party members, while under China's Constitution, any organisation that has three or more party members has to provide the "necessary conditions" for cadres to establish a party cell.

In practice, that rule hasn't, up to now, been intrusive.

Party members might use company premises to meet, but would tend to do so after office hours, and might help organise social events for employees. Executives described relations as friendly and cooperative, with the cells acting at times as if they were adjuncts to existing human resources departments.

But in the past year, that has begun to change.

Party members are expected to spend more time studying Xi Jinping Thought, the president's political theory, in office hours or in time-consuming off-site retreats.

Although a formal role for party cells in management decisions is not required under Chinese law, business executives are worried about a trend toward growing party interference.

"The long-term negative cost, in my view, is the inefficiencies and wastefulness that are likely to result from political influence that has no other purpose than to drive the political machine," Zimmerman said.

The European Chamber of Commerce in China said in a statement that introducing an "additional layer of governance" would have serious consequences for the independent decision-making ability of joint-venture companies and deter investment from the continent.

China's investment law stipulates that foreign companies have to enter into joint ventures in many sectors of the economy. Already many companies fear they are simply being used to mine their intellectual property, before they are one day pushed aside by their erstwhile partners.

For now, minority joint ventures are feeling the most heat from party cells, but even 50-50 joint ventures have reported a growing assertiveness, executives and business groups say.

"That's the danger European investors see, a kind of salami-slicing tactics, that starts with the minority joint ventures, then heads for the 50-50 joint ventures, and eventually heading for the 100 per cent foreign-owned companies," said Joerg Wuttke, former president of the European Chamber of Commerce.

"We really want people here to understand: We don't object to party activities or people, but we do want them to stay away from operational questions," Wuttke said.

The controls on the Internet could follow a similar salami-slicing tactic, whereby controls are extended across smaller companies first.

China has embarked on a major crackdown on VPNs, or virtual private networks, technology that is widely used to jump over the country's Great Firewall and access-banned websites such as Google, Facebook, Twitter and many foreign news sites.

While large companies use dedicated lines and technology known as MultiProtocol Label Switching (MPLS), which allows them to bypass the firewall and encrypt messages, that's often too expensive for small and medium-size enterprises that rely on commercial VPN and encryption software.

Some companies have had ports closed down until they register with local telecommunications operators and report who is accessing the Internet and why.

To regain full access to the Internet, one American company was asked to sign a "solemn commitment" - that it would obey the Chinese Communist Party's "seven bottom lines," do nothing to undermine the socialist system, public order or social morality, and wouldn't use the Internet to violate the interests of the state.

The agreement, made in Shanghai last November, is typical of the hoops some foreign companies are having to jump through to maintain access to the Web, and to continue doing business in a country where politics is back on top of the agenda.

That has led many American companies to take a "much more cautious approach" to regulating who within their organisation uses VPN software, said Jake Parker, vice president of China operations at the US-China Business Council in Beijing.

A mergers and acquisitions team might, for example, be cleared to access websites such as Reuters and the Financial Times to make better business decisions, but other staff would be more restricted, Parker said.

"That's because there is an emerging consensus among our legal counsels that using VPNs for noncommercial functions could be construed as potentially violating China's rules and regulations," he said. "There is a 'more safe than sorry' approach."

Parker said not everyone was taking this approach, but there has been a shift in that direction, with "10, 15 or 20" companies saying they had adopted similar procedures.

An ongoing clampdown on VPN use by private individuals could also have an impact on recruitment, executives say: Parents will be reluctant to relocate to China if their children can't access their preferred social media sites, many of which are banned here.

A more fundamental anxiety is that the Communist Party will ultimately demand to see everything that flows in and out of the country over the Internet, under China's new Cybersecurity Law, which went into effect in June last year.

"How safe will (intellectual property) and trade secrets be? Will servers have to be stored here? Will companies have to hand over encryption codes to Chinese authorities?" asked a Beijing-based diplomat who requested anonymity to discuss sensitive matters.

"Could perhaps entire industry sectors become off limits for foreigners for security reasons? It's not clear whether Chinese authorities are aware of possible collateral damage to businesses."

To an extent, Beijing does not care as much about foreign firms as it used to, with a definite hubris setting in after the Western financial crisis, experts say.

"Foreign companies used to be seen as special here, as friends of China," said China-based author and businessman James McGregor.

"But that kind of flipped during the Western financial crisis."

Attitudes changed, he said. China began to believe its system of state-directed capitalism was superior to the West's, and that foreign companies are simply "here to serve us".

One consequence: As President Donald Trump starts to take retaliatory action against China over its trade and business practices, Beijing is putting off some of its most valuable lobbying partners.

"In the past, foreign business has been an important ally for China, but the country now appears to be alienating it at a time when it most needs friends abroad," Wuttke said.

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