Weichai powers on

CEO Tan Xuguang on the rebirth of a loss-making SOE.

Shandong province's Weifang is a modest city - by Chinese standards - of a mere eight million inhabitants. It's rather less pleasant than the seaside city of Qingdao, some 90 miles further east.

Further inland than the port city, the late-August weather is muggy and overcast. Half the city looks as if it was built in the last six months, and the other half looks as if it hasn't had a lick of paint since the Party took over in 1959.

Slashed through with a major new highway, Weifang's city centre doesn't really feel like one. The hustle and bustle of other city centres is absent, and the cityscape is dotted with low-rise, sprawling building, indicating that the real estate fevers of China's biggest cities hasn't yet spread as virulently to the smaller cities.

Still, the city has the distinction of being home to favourite local son Weichai Power, the country's dominant manufacturer of heavy-duty diesel engines, used in civilian and military trucks, tour buses, fishing boats and construction vehicles such as JCBs.

The company's interim results come out in late August, and while hard numbers are not available, a company spokesman says the figures will be up on the same time last year.

The company timed its March IPO in Hong Kong earlier this year to perfection, achieving massive subscription levels and pricing at the high end of its range. The company managed to raise $170 million before the H-share craze that had been propping up the Hang Seng index since last year fizzled out a scant few weeks later.

The money raised was earmarked for expanding Weichai's manufacturing capacity to buttress the existing Weifang factory, where massive engines slide smoothly down a conveyor belt in various stages of completion. From a block of steel at the beginning of the process, one production line can produce 360 units per day at the rate of one every 40 minutes. Operation is currently intense, with staff working seven days per week to meet orders for China's growing truck and construction vehicles market.

A few minutes by car away from the existing plant stand two huge hangars are the new facilities being built with the proceeds of the IPO. Hong Kong investors would be reassured by activity on the site, although so far only the steel skeleton and roves have been put up. The factory will add capacity for another 40,000 units, to add to the existing 100,000 units produced by the company's operations in Weifang, as well as another plant in the west of China.

Things weren't always as promising as the well-kept lawns and hum of activity indicate. Until CEO Tan Xuguang took over the reins in the mid-1990s, the state-owned company was up to its neck in Rmb100 million's worth of debt.

The stocky, 43 year-old CEO speaks with the kind of passion that the company must have needed in its transformation from a badly-managed SOE hemorrhaging cash, to a company with virtually no bank debt and rising profits.

Having just bid farewell to some visiting investors, Tan, dressed in an informal open-necked white shirt, waves me into his spacious office, dotted with models of the trucks and excavators powered by his engines.

He's so keen to make sure his audience misses nothing that he snatches up pen and paper to scrawl down Chinese characters to express his ideas.

Speaking slowly and carefully, he points out that Shandong is an unusual province. With its good education facilities and highly-developed transport network, it's become one of the richest provinces in China, lagging only the hyper-developed coastal areas. Yet unlike the companies in that area, Shandong's rising stars are all state-owned: Qingdao Beer, Haier, Haixing and now Weichai.

"It's not true to assume that a privately-owned company is always better than a state-owned company. That's especially true for family-owned companies (the bulk of private firms in China), whose operations are often run as much by the founder's fiat as by rational principles - especially in China, where the head of the family traditionally wields all the power," he points out.

Although Tan has been working in the public sector all his life, his experience is a useful barometer for finding out how SOEs are learning techniques from the private sector to improve themselves.

The relationship between the private sector and the public sector is extremely 'sensitive' in China, a word invariably used when referring to an area the government feels defensive about.

In many ways, the boundaries are blurring and that's making the government nervous. Entrepreneurs are taking to political positions and using their newly acquired networks to boost their business.

In some ways, the authorities seem happy to go along with the Western obsession with classifying everything in either the public camp or the private camp. By doing so, they protect themselves from the charge that the private sector is capturing the public sector in the way it has done in countries such as Indonesia, where the central government is largely subservient to big business and family dynasties.

If entrepreneurs are acting more like officials, officials like Tan are also behaving a lot more like entrepreneurs.

After joining the company in 1977 and working as a product tester for the company for several years, Tan moved to the export department in the mid-80s to move.

"When I first started in the export department, annual exports amounted to just $30,000 per year. When I left ten years later, exports had reached $60 million on the back of China's economic opening and I was head of the department. During that time, I learnt a lot about international markets and how to run a successful business," he notes.

It was on the back of that success that the company and the city government, awarded him the mandate to revitalize the company in the 1990s.

Weichai Power had to be cut into three pieces, says Tan. The future listed assets had to be set up away from the parent company with a slimmed down structure and a mandate to focus on transport engines; the parent had to be reorganized to focus on power plant engines for producing electricity; and the another third of the work force had to be cut off as formal employees of the company.

But this was mass firing with a heart. Ever aware of the need of keeping China's urban population on its side, Tan taught his employees to set up as suppliers of the parts they had been making previous at the factory - but with the difference they would be able to work with other customers and fend increasingly for themselves.

Consequently, the plant is surrounded by a dense network of small suppliers, enabling the company to ramp up with and scale down production with ease.

Tan estimates the transition was a great success, with only a hard core of misfits and unskilled personnel left with no place at one of the three units.

Ironically, the business for the parent company is also booming, with profit margins greater than the 24% Weichai achieves. That's on the back of a booming power sector, as companies scramble to add much-needed capacity.

This information is so startling, one has to ask him whether the listing and restructuring of the listco was necessary.

"They are two different business models. We have economies of scale to help our profitability. Remember the parent company was also restructured and its cost base was slashed thanks to the reducing the work force and reducing the social costs the plant previously has to own," he points out.

For all Weichai's success, the clanging factories and blue overall-ed workmen would surely appear nostalgically old-fashioned to a Westerner of a certain generation, a long way from the gleaming finance districts and high-tech production facilities of London, Silicon Valley or even, increasingly, Shanghai. The company's intellectual property was imported 20 years ago through a project with Austrian company Steyr. Although the company says it's constantly working on improvement, developing engine technologies is now the preserve of a tiny handful of elite car makers. Consequently, exports are very low.

"Know your produce, know your market," says Tan. "There no point in us producing fancy engines for a developing market. Our domestic customers are very price conscious. Our price competitiveness easily outsells foreign engines, despite joining the World Trade Organization (and lower tariffs). That's because the quality of foreign engines doesn't make up for their drastically higher prices," he says, adding that they hope to eventually move into foreign markets through joint ventures with Western engine makers.

The approach is certainly working. The company is the biggest producer in its field in China and has an overwhelming market sector in all its products.

Net profits have followed suit, increasing from Rmb 277 million in 2002 to a Deutsche Bank forecast of Rmb 515 million this year and Rmb 623 million next year. Return on Equity was a remarkable 80% last year.

Tan also says the company hasn't been affected by government efforts to slow down the economy.

"We are not a part of the economy that the government wants to dampen down, such as cement, steel and real estate, "he points out.

Although it's unlikely the company was completely unaffected, luck has been on their side, with recent regulations against over-loading forcing most kinds of companies to increase the number of trucks they are using.

The again, they say the best companies, like the best Chinese sportsmen currently hogging all the medals at the Athens Olympics, tend to make their own luck.

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