DRIVING FORCES OF INTERNATIONAL PHARMACEUTICAL
FIRMS' FDI INTO CHINA

Fuming Jiang
The Australian National University

Canberra, Australia

Abstract
This paper presents the results ofan exploratory investigation into the factors

that drove the internationalpharmaceuticalfirms to makeforeign direct investment
(FDI) into the Chinese pharmaceutical manufacturing industry during the period
from 1980 to 1998. Research results show that international pharmaceuticalfirms'
FDI into China was predominantly motivated by China S specific location factors.
China smarket size, with its great potential, played the most important role. The
factors of rapid economic development and growth, China s open-door policy,
and relatively stable political conditions were also found to be importantfactors.
The incentive policies provided by China had limited impact on pharmaceutical
firms FD1 decisions. The results suggest that FDI decisions of early entrants
who started FD1 before 1992 were more likely to consider the open-door policy
as the second most important factor, whereas late entrants whose FDI started
since 1992 seemed more likely to consider the Chinese economic development
and growth as the second most important factor. The results also suggest that
relatively stable political conditions in China have had a stronger positive
influence on the FDI decisions ofthe late entrants. Low labor and establishment
costs in China as well as cultural relatedfactors were notfound to be significant
factors/or international pharmaceutical investors.

Introduction

China has attracted substantial foreign direct investment (FDI) since the
passage ofthe Chinese-Foreign equity joint venture law by the National People's
Congress of China in 1979. As shown in Figure 1, the growth trends ofFDI have
undergone two major phases. During the period of 1979-1991, the FDI flow into
China was slow and the actual investment showed no significant growth ti111991.
Beginning with a 25 percent growth in 1991, China has since attracted a greatly
increased amount of FDI. A sharp increase (approximately 152 percent over the
previous year) occurred in 1992 and an FDI inflow in 1992 (USD 11.007 billion)
was just slightly lower than the total FDI (USD 12.103 billion) in the entire first
decade (1979-1989). By 1998, this 1992 level was surpassed four times over
(SSBPRC, 1988-1999). The country had been second only to USA as the major
recipient of FDI from 1993 to 1997 and ranked in the third position in 1998 in
the world. During the period 1992 to 1998, China had hosted almost 10 percent



22 Journal ofBusiness Strategies Vol. 22, No. I

of the total world FDI inflow in the world and absorbed over 28 percent of the
total FOI inflow to developing countries and over 46 percent of total FDI inflow
to Asian countries or regions. South East Asian countries or regions attracted
about USO 480 billion FDI flows from 1992 to 1998. Approximately 50 percent
of this went to China (UN, 1996-1999).

Figure 1
FDI Inflow to China (1979-1998)

50

45

40

35
III

30I::
.2

iii 25
<It
lJ)

20:J

15

10

5

0

- - _.- ---------

1.802
3.487

C") '<t L() (0 ..... co 0) 0 ..-- N C") '<t
00 00 00 00 00 00 00 0) 0) 0) 0) 0)

en 0) 0) 0) 0) 0) 0) 0) 0) 0) 0) 0)..... ..--
0)

45.463

L() (0 ..... 00
0) 0) 0) 0)
0) 0) 0) 0)

US$ Billions

Source: Figures extracted from SSBPRC, 1988-1999

The popularity offoreign direct investment activities in China applies notably
to the pharmaceutical industry. The Chinese pharmaceutical industry has become
one of the first groups of industries that established enterprises using foreign
investment. By the end of 1998, China had established over 1,500 pharmaceutical
companies with foreign investment, including investment by the majority of
large multinational pharmaceutical groups from North America, Western Europe
and Asia. Foreign invested pharmaceutical companies were distributed across
almost every part of China. They produced a wide range of products, including,
for example, bulk pharmaceutical chemicals, preparations, diagnostic reagents,
medical dressings, pharmaceutical machinery and health care products (CCPIE,
1995; NTOB, 1996; MIMS, 1998; SPGC, 1999). With foreign cooperation and the
successful introduction of foreign investment, China's pharmaceutical industry
has expanded at a very fast rate, with annual market growth posting an average
double-digit growth for the past two decades. Analysts anticipate that China
will be the world's largest pharmaceutical market by year 2020 and the world's
leader of pharmaceutical manufacturing during the 2011 to 2050 period (Wang,



Spring 2005 Jiang: Driving Forces 23

1999). This study, by means of both qualitative and quantitative approaches,
investigated the determining factors that affected international pharmaceutical
firms' For into China and explored the relationships between the importance
of determinant variables and the timing of For decisions by taking the year of
1992 as a cutting point.

While China formally permitted the participation offoreign investors in 1979,
there were relatively little activity until 1991. The year 1992 became a turning
point in China's political-legal and economic reforms. This followed the much-
publicised tour of the former leader, Deng Xiaoping, to the southern provinces
of China early that year and his call for the acceleration of economic reform and
the opening up of the economy to the outside world. The central government
adjusted its economic policy in order to speed up economic reform and to further
open the economy to foreign investment. The Chinese government announced the
adoption of the 'socialism market economy' strategy and began to build a legal
framework to standardize market operation. Regulations covering corporation
law, bankruptcy law, individual income law, stock trading law, and some other
commercial regulations have been passed since 1993. Other reform measures
included changes to the tax system and permitting the conversion of Chinese
currency. This created a favourable business environment and facilitated the
functioning of market mechanism. In addition, privatization of state-owned
enterprises (by selling the government share to the public) and lowering tariffs
for imports have been important measures further liberalizing the Chinese
economy. These measures promoted high economic growth and a favourable
business environment for foreign investment into the country (Sun, 1998). The
dramatic changes in Chinese politics and economic policies since 1992 appear
to have had significant impact on international pharmaceutical firms' For into
China. Therefore, firms whose For into China was prior to 1992 were classified
as early entrants and those that started their FDls since 1992 as late entrants. A
comparison ofFDI decision patterns between the Pre-1992 Period (early entrants)
and the Post-1992 Period (late entrants) should provide a better understanding
of FDI theories and practices in China.

Literature Review

The theories offoreign direct investment have traditionally emphasised market
imperfection (Hymer, 1960), location specific advantage (Franko, 1971; Vernon,
1977), internalization theory (Buckley & Casson, 1976) and transaction cost theory
(Williamson, 1975, 1985; Buckley & Casson, 1976; Caves, 1982; Anderson &
Gatignon, 1986). Dunning's (1988) "eclectic paradigm" denoted that a firm's FDI
decision is influenced by three types offactors: ownership-specific factors ofa firm,
location-specific factors ofa market and internalization advantages of integrating
transactions within the firm. Taggart (1993) suggested that the three main divisions
ofFDI theory (three-division theory), via approaches based on domestic market
imperfections, firm specific advantages and location specific advantages were



24 Journal ofBusiness Strategies Vol. 22, No. 1

generally more appropriate reasons for why multinational pharmaceutical firms
invest abroad rather than in their home countries or regions. Location-specific
advantages, including market size (Kueh, 1992; Tesai, 1994; Lardy, 1995; Wang
& Swain, 1995, 1997; Milner & Pentecost, 1996; Broadman & Sun, 1997; Park,
1997; Qu & Green, 1997; Fittock & Edwards, 1998; Sun, 1998; Wu, 1999;
Yan, 2000), stage of economic development (Tesai, 1994; Zhang & Yuk, 1998),
openness of the economy (Singh & Jun, 1995; Walder, 1996), political stability
(Walder, 1996), host country's incentive policies (Zhang & Yuk, 1998; Li & Li,
1999) and labor cost considerations (Tesai, 1994; Wei & Christodoulou, 1997; Li
& Li, 1999) have recently attracted considerable research attention in explaining
why FDI occurs in China. Li and Li (1999) clarified that foreign investors with
new technology and new management skills were primarily attracted by China's
huge potential domestic market and geared mainly towards long-term strategic
considerations, whereas the foreign investors who made investments in labor-
intensive production geared towards export were mainly aiming for China's cheap
labor costs. Zhang and Yuk (1998) asserted that FDI patterns in China are most
likely to be determined by the location specific advantages such as large market
size and low labor costs.

However, the existing literature does not address whether the timing of FOI
has any significant impact on firms' FDI decisions into China, although China's
economic system has been in a gradual transition process from the centrally-
planned economic system to what is termed socialism-market economic system
in a 'learning-by-doing' process since 1979 (DFIMFTECPRC, 1995). This
comprehensive (and complicated) experimental process has been accompanied by
essential political/legal and economic environmental changes in China that might
have influence on international investors' FDI decisions to enter China. In fact, FOI
inflow into China has experienced two main distinctive patterns during the period of
1979-1998; that is, following a slow growth period from 1979 to 1991, FOI inflow
has increased dramatically since China's former leader Oeng Xiaoping's south
China tour in 1992. In addition, the general strategic literature on the timing of
entry has focused on the early mover advantages and disadvantages (Conner, 1991;
Kalyanaram, Robinson, & Urban, 1995; Vanderwerf & Mahon, 1997; Makadok,
1998; Luo & Peng, 1998; Song, Oi Benedetto, & Zhao, 1999) and the impact of
timing of entry on firms' performance (Kerin, Varadarajan, & Peterson, 1992;
Shaver, Myles, Mitchell, & Yeung, 1997; Lieberman & Montgomery, 1998; Luo,
1998; Peng , Li & Tse, 1999; Isobe, Makino, & Montgomery, 2000). Therefore, a
comparison between the impacts ofthe driving forces on the FOI decision making
processes of early and late entrants should contribute to the understanding of the
temporal fashion of FDI into China during the different periods.

Furthermore, the existing literature also remains controversial in relation to the
variables of incentive policies, low labor cost and market size. A number of the
empirical studies (Hartman, 1984; Boskin & Gale, 1987; Slemrod, 1990) revealed
that specific incentives such as lower tax have no major impact on FOI decisions.
Wu (1999) also argued that large market size and low labor cost are not unique



Spring 2005 Jiang: Driving Forces 25

to China. India, for example, is also a large nation and cheap labor is accessible
there, as in developing countries. Thus, the international pharmaceutical firms'
FDI in the Chinese pharmaceutical manufacturing industry remains unexplained
in the existing literature, although the international pharmaceutical groups have
been actively pursuing and evaluating avenues of access to what could become
the world's largest drug market. This study, therefore, aimed at overcoming the
shortcomings of previous studies by taking an exploratory approach to investigate
the determining factors that drove international pharmaceutical firms' foreign
direct investment into China during the period of 1980-1998 and the impact of
timing of FDI on firms' FDI decisions.

Research Method

Population and Sample
A total of 117 international-pharmaceutical-firm-invested pharmaceutical

companies (lPFIPCs) in Mainland China were defined as the population
for the research, based on four major sources: 1) the Catalogue of Chinese
Pharmaceutical Enterprises with Foreign Investment (published by the China
Centre for Pharmaceutical International Exchange (CCPIE, 1995), an agency
of State Pharmaceutical Administration of China); 2) the Market Reports of
National Trade Data Bank of the United States of America (NTDB, 1996);
3) MIMS Asia (MIMS, 1998); and 4) the report of Shanghai Pharmaceutical
(Group) Corporation (SPGC, 1999). Pharmaceutical companies that had capital
investment by non-pharmaceutical firms (for example, business trading companies
and investment development firms) were not included in the research population.
The key difference between the pharmaceutical and non-pharmaceutical firms
is that the non-pharmaceutical firms do not have the technology advances in
pharmaceutical research and product development as do the pharmaceutical
firms, and these technology advances may have significant influences on foreign
investors' FDI decisions. Within the population, ninety-nine firms (84.6%) chose
a joint venture entry operation with a local Chinese partner as their entry mode
for the Chinese market and the remaining firms (15.4%) established 100 percent
foreign-owned sole venture operations in China. The local Chinese partners were
mainly state-owned Chinese pharmaceutical firms or government agencies.

Over 84 percent of IPFIPCs were located in east China's thirteen provinces
and municipalities including Hainan, Guangdong, Fujian, Zhejiang, Shanghai,
Jiangsu, Anhui, Shangdong, Hebei, Tianjin, Beijing, Liaoning and Hellongjiang.
The east China region was the priority area for the Chinese government to initially
practice the policy of opening to the outside world for foreign investment. China's
five special economic zones (SEZs), fourteen coastal open cities and the Shanghai
Pudong New Development Area are all located in this region, whose investment
environment is relatively advantageous over China's middle and west areas. In
August 1980, China created the four SEZs of Shenzhen, Zhuhai, Shantou and
Xiamen in south east China's coastal area. In 1988, Hainan Province, the China's



26 Journal of Business Strategies Vol. 22, No.1

largest island province was defined as the fifth special economic zone. The SEZs
are comprehensive experimental sites for China's economic restructuring and
opening to the outside world. They also serve as a special channel for China to
use foreign investment, to import advanced technology and enter international
markets (DFIMFTECPRC, 1995). In April 1984, the Chinese Government defined
a total of fourteen cities as coastal open cities including Tianjin, Shanghai, Da-
lian, Qinhuangdao, Yantai, Qingdao, Lianyungang, Nantong, Ningbo, Wenzhou,
Fuzhou, Guangzhou, Zhanjiang and Beihai. In an effort to support these cities
in bringing their advantages into full play (for example, existing industrial and
technological bases, harbour transportation, scientific research and education,
increasing international economic links and accelerating economic development)
the Central Chinese Government has offered these cities policy preferences. These
include the power to make decisions independently on foreign economic and
trade activities, preferential treatment for foreign-funded enterprises and technical
transformation of old enterprises. In investing in these cities, foreign investors can
enjoy preferential treatment on taxation. For example, the income tax on productive
enterprises with foreign investment is levied at a reduced rate of 24 percent and
the income tax on foreign-funded enterprises undertaking projects encouraged by
the State is levied at a reduced rate of 15 percent (DFIMFTECPRC, 1995). In June
1990 the Chinese Government approved a plan to authorize the municipality of
Shanghai to develop and open the Pudong New Area and to exercise some poli-
cies in the area analogous to those applied in the SEZs. As the most economically
developed areas of China, the east China region proves to be a decisive force in
the national economy and social development of China (ECPRCY, 1999). As a
result, a majority offoreign-funded businesses in China have been established in
this region. Foreign-funded projects in mid-western China are relatively few. This
also applies to the locations of international pharmaceutical firms' FDI in China. A
total of 98 IPFIPCs that were distributed in the three major regions in east China
and accounted for 83.76 percent ofthe population were defined as the sample size
for this research. These IPFIPCs in the sample include twenty-nine in South East
Region (SER), thirty-eight in Middle East Region (MER) and thirty-one in North
East Region (NER). The SER comprise of Guangdong and Fujian provinces. The
MER covers Shanghai municipality, Jiangsu, Anhui and Zhejiang provinces. The
NER consists ofBeij ing and Tianjin municipalities, Liaoning, Shandong and Hebei
provinces (CCPIE, 1995; NTDB, 1996; MIMS, 1998; SPGC, 1999).

Data Collection
A questionnaire was designed in both English and Chinese and was reviewed by

two bilingual speakers. One reviewer was a graduate from a Chinese university in
China with a major in English studies and had received an MBA degree from an
Australian university. Another held an Australian master's degree in marketing.
The questionnaire was also pre-tested by six respondents using four personal
interviews, one mail questionnaire survey and one telephone survey. Ofthe six pre-
testing respondents, four had received MBA degrees from Australian universities



Spring 2005 Jiang: Driving Forces 27

and had worked for foreign invested companies in China for a number of years
in senior management positions. Two of them had worked for lPFIPCs in China.
The rest were senior managers of a large Chinese- US j oi nt venture pharmaceutical
company in China at the time the pre-testing took place.

The fieldwork began in early April 1999 and was conducted over a 3-month
period. The data were collected, in the main, from personal interviews and
complemented by mail questionnaire surveys. Personal interviews were conducted
with senior executives of foreign business partners in IPFIPCs in China and the
postal questionnaires were addressed to foreign senior executives in lPFIPCs in
China. In line with the logic ofJohn (1984), who argues for selecting knowledgeable
informants, the choice of this rather exclusive respondent group is based on the
belief that people in these sensitive positions are the most cognizant about global
investment projects and the dynamics ofthe overall foreign entry decision process
(Kim and Hwang, 1992; Chandprapalert, 2000). In total, 44 companies participated
in this research and 82 percent of completed questionnaires were obtained through
personal interviews. Of the 44 responding IPFIPCs, 43 firms provided useful data
for the research question. These firms include 16 firms that were established in
China before 1992, and 27 that have been set up since 1992. Amongst 16 early
entrants, 10 IPFIPCs had investment by Asian firms mainly from Hong Kong,
Taiwan and Japan. The remainder of the early entrants were mostly from USA and
Western European countries. The western firms also comprised about 60 percent
ofthe late entrants. About 62 percent of the firms in the sample invested less than
USD20 million in China1. Over 81 percent of early-entrants committed to this
smaller scale of investment and the same percentage applies to the proportion of
late entrants who invested more than USD20 million in China. In the sample, three
companies, including two in Guangdong and one in Jiangsu, were found to have
ceased operations during the fieldwork. In addition, one company in Guangdong
had the foreign partner's share sold to its Chinese partner before this survey was
conducted. Therefore, the real sample size was reduced from an estimated 98 to
94 lPFIPCs, resulting in a 45.74 percent response rate.

Data Analysis and Results
Respondents were asked to describe why their parent firms made FDI decisions

to invest in China. The responses were categorized in a similar way prescribed by
Walsh, Wang, and Xin (1999), and Coffey and Atkinson (1996). That is, following
the scanning of data a number of times, bulk groups of data sets were created,
based on those with most appropriate meaning. Each bulk group of data set then
was condensed into analyzable units by creating categories and each category
was treated as an independent variable (factor) for statistical analysis. In total, ten
categories were identified, including China s market size with great potential (for
pharmaceutical products); rapid economic development andgrowth, China 50 open-
door policy, relatively stable political conditions, low cost olestablishment o.fplant
andfacility, incentive policies, low labor cost in China, traditional contacts and
linkages, similar culture and language, and continuation o.lprevious business.



28 Journal of Business Strategies Vol. 22, No. 1

The quantitative data analysis procedures were performed with SPSS (version
10) following data categorization. The descriptive analysis was carried out, first,
to summarize the frequency percentages for each factor considered by foreign
firms with respect to their FDI decision into China. Variables considered as
important factors by firms were coded as 'I '; those not considered were coded
as '2'. The Figure 2 presents the descriptive results of the number of firms that
considered each particular factor. It reveals the existence of four distinctive
patterns. The primary concerns of the ten factors were strongly associated with
China's political, economic, social and culture conditions. The first two most
important factors, China~' market size with great potential and rapid economic
development andgrowth are connected with China smarket and economic condi-
tions and the second two most important factors, China s open-door policy and
stable political conditions are related to the government's policy on business
and economic activities. Of these, China s open-door policy seems to be more
important than relatively stable political conditions to foreign investors' FDI
decisions. Incentive policies provided by China tended to have a minor impact
on the pharmaceutical firms' FDI decisions to invest in China. The remaining five
factors, including low cost ofestablishment ofplant andfacility, low labor cost,
traditional contacts and linkage, similar culture and language and continuation
ofprevious business turned out to be insignificant in the context of international
pharmaceutical firms' FDI into China. Each participating firm reported more than
one factor that influenced its FDI decisions to invest in China. On average, the
number of factors reported, per firm, was 2.88. The independent sample t-test
suggested that there was no significant difference between early and late entrants
vis-a-vis the average number of factors per firm reported (mean = 2.75 for early
entrants and mean = 2.96 for late entrants, p > .05, t = -0.5822). This may sug-
gest that the decisions of the international pharmaceutical firms' FDI into China
were determined by a combination of factors.

The second level of analysis took consideration of the relatively small sample
size used for this research. The Simple Logistic Regression (SLR) technique was
used to investigate whether any associations existed between the importance
of determinant factors and timing of FDI (Pre-1992 vs. Post-I 992). The SLR
is appropriate for a two-by-two table comparison, instead of using Pearson's
chi-square test 2• The Pre-1992 period (early entrants) was coded as 'I' and the
From-l 992 period (late entrants) was coded as '2'. The outcome of the SLR is
shown in Table I and indicates that there was a significant positive relationship
between the factor of China sopen-door policy and the timing ofFDI (~ = 1.376;
p < 0.05). A significant negative relationship was identified between the factor
of China s economic development & growth and the timing of FDI (~ = -2.260;
P < 0.01); and a significant negative relationship was shown between the factor
of relatively stable political conditions and timing ofFDI (~ = -1.722; p < 0.05).
A positive beta (~) indicates a positive relationship between the importance of
factors and the timing ofFDI and means the factor was important in Pre-I 992
(early entrants). Conversely, a negative beta (~) indicates a negative relationship



Spring 2005 Jiang: Driving Forces 29

between the importance of factors and the timing of FDI and means the factor
was important in From-1992 (late entrants). Thus, the results reveal that early
entrants viewed China sopen-door policy to be more important than did the late
entrants. On the other hand, the late entrants were more likely to consider China s
economic development and growth and relatively stable political conditions as
important positive factors to their FDI decisions.

Figure 2
Exploratory Variables by Frequency of Participating Firms (N = 43)

Variables (Factors)

China's market size with great potential

Rapid economic development & growth

China's open-door policy

Relatively stable political conditions

Incentive policies provided by China

Low labor cost in China

Low cost of establishment of plant & facility

Traditional contacts & linkages

Similar culture & language

Continuation of previous business

Frequency (%)

97.7
67.4

41.9

320

23.0

:::::::sa 7

:::::::sa 7

::::J 4.7

::::J 4.7

:::l2.3

o 20 40 60 80 100

Table 1
Simple Logistic Regression by Exploratory Variables

Dependent Variable: Timing of FDI (Early Entrants vs. Late Entrants)

Variables

China's market size with great potential
Rapid economic development and growth
China's open-door policy

Relatively stable political conditions
Low cost of establishment of plant & facility
Incentive policies provided by China
Low labot costs in China
Traditional contacts & linkage
Similar culture & language
Continuation of previous business

6.7162
-2.2600
1.3758

-1.7222
-7.7970
1.2384
1.3120
.5500
.5500

-6.7162

Sig.

.8546

.0025**

.0390*

.0426*

.8232

.0980

.3011

.7046

.7046

.8546

* p < .05; ** p < .01; *** p < .001
A positive beta 13 means important in Pre-1992 period for early entrants
A negative beta 13 means important in From-I 992 period for late entrants



30 Journal of Business Strategies

Conclusion and Discussion

Vol. 22, No. 1

The purpose of this research was to examine the determinants of international
pharmaceutical firms' FOI into China during the period from 1980 to 1998. It
differentiated itself from similar studies on FOI into China by investigating
the determinants of international pharmaceutical firms' FDI into the Chinese
pharmaceutical industry and the possible changes in importance of determining
factors through time. As such, the study advances the understanding ofthe industry
specific nature of FDI and the temporal fashion of FOI into China during the
different periods. The research results suggest that international pharmaceutical
firms' FDI into China was determined predominantly by China's location-specific
factors. This finding partially supports Dunning's (1988) eclectic paradigm and
Taggart's (1973) three-division theory on multinational pharmaceutical firms' FOI
activities. However, it was consistent with most recent studies on multinational
firms' decisions to invest in China. The research results reveal that four factors,
namely China smarket size with its great potential, rapid economic development
and growth, China sopen door policy and relatively stable political conditions
have been the major motivations in attracting international pharmaceutical firms'
direct investment into the Chinese pharmaceutical manufacturing industry during
the period from 1980 to 1998. Incentive policies provided by China had no major
impact on firms' FDI decisions. The low labor cost and social-cultural related
factors appeared to be insignificant to international pharmaceutical firms' FOI
decision into China. Steady GDP growth, increase ofincome per capita, consistent
increase of per capita annual expenditure on medicine and medical service,
together with over 1.2 billion people make the factor of China's market size with
its great potential the most important motivation among the four major factors.

The importance of the other three important factors depends on the timing of
FDI into China. China sopen-door policy played the second most important role
in encouraging international investment particularly during the early stage of
China's economic reform and socialism market development. The promulgation
ofthe Law ofthe People sRepublic ofChina on Joint Ventures Using Chinese and
Foreign Investment in July 1979 was a momentous event in China's opening up of
the economy. The gradual implementation of the open door policy represented a
breakthrough from the past in China's economic development strategy. The open
door policy was a strong signal to the outside world and indicated China's intention
to break out of its international isolation and become aggressively involved in the
world economic activities after three decades of isolation and central planning of
the economic system. The open door policy brought new opportunities for foreign
investors who intended to develop business in the Chinese market.

The rapid economic development and growth, combined with the relatively
stable political conditions in China, has had significant impact on international
investors' decisions to make direct investment in the country particularly since
1992. The speeches of China's former leader, Deng Xiaoping, published in 1992,
have accelerated the processes of the Chinese economic reform and opening up



Spring 2005 Jiang: Driving Forces 31

the economy for foreign investment, which have had positive impact on economic
development and political conditions in the country, in tum contributing to the
late entrants' FOI decision to invest in China.

Economically, China has achieved an average of double-digit growth in GOP
during the period 1979-1998 and the growth rate was higher during the From-
1992 period (10.7%) than that in the Pre-1992 period (9.1 %). More importantly,
since 1992 the country has achieved economic stability and sustained growth with
controlled inflation, this having followed a number of dramatic fluctuations in
GOP rates during the Pre-1992 period of its economic reform and development
(SSBPRC, 1999). The strong, balanced, economic growth and control of inflation,
rather than the attainment of rapid growth at all costs, remain the government's
prime objectives (Hatheway, 1998). The country claimed significant success in
macroeconomic management with controlled consumer and retail price inflations
at 2.8% and 0.8% respectively, in 1997. The central Chinese Government has
also successively established and opened a series of 'coastal open areas' and
has introduced the policy of 'opening cities on rivers and borders' for foreign
investments since 1992. Consequently, 6 port cities on the Yangtze River, as well
as 13 inland border cities and capitals of provinces and autonomous regions have
been opened and offered preferential policies. These include tax reduction similar
to those for coastal open cities and/or special economic zones defined and created
by the Chinese Central Government before 1992 to serve as a special channel
for China to use foreign investment and to import advanced technology and
enter international markets (OFIMFTECPRC, 1995; Li & Li, 1999). Therefore,
the rapid economic development and growth, together with the central Chinese
government's stronger commitment to the economic reform, have created a
more promising market with greater potential and a more favourable investment
environment to better facilitate FOI into the country since 1992.

A number of recent studies on timing of market entry revealed that the early
entrants may have the advantages in market growth (Kalyanaram, et aI., 1995;
Vanderwerf& Mahon, 1997; Makadok, 1998; Song, et aI., 1999), pricing strategies
(Makadok, 1998), technological leadership, creation ofbuyer switching costs and
positive economic benefits (Lieberman & Montgomery, 1998) and development
of valuable and non-substitutable resources (Conner, 1991; Makadok, 1998). In
the context ofFOI in China, the early movers may outperform the late entrants in
market growth and asset efficiency and enjoy the benefit from more pre-emptive
market opportunities and business potentials than they would in the home market.
In contrast, the early entrants encountered greater risks than the late entrants
did in the start-up phase of international expansion. China is an economy in
the process of transformation, which could present daunting challenges to the
unwary investors (Luo, 1998). Foreign investors, in general, were concerned
about China's political instability, especially during the Pre-l 992 period when
the 1989 Tiananmen Square incident occurred after a number of failures in the
transformation of Chinese leadership. Many foreign investors were unsure of
the direction the country was taking. Most complaints from foreign investors



32 Journal ofBusiness Strategies Vol. 22, No. 1

in China in the early stage of economic reform and development related to the
uncertainty and opacity of local laws, rules and government policies on FOI
(National Council, 1991). The political and social uncertainties arising in the
transitional stage often reinforce variations in contextual conditions (Peng &
Heath, 1996). In addition, far-reaching changes in industry and market structures
in the early stage of structural transformation caused substantial variance in the
investment environment that could lead to the instability of foreign invested
firms in China (Luo, 1995). The superiority of the advantages to early investor's
accrued at the expense of high operational risk in the local environment (Luo,
1998). Therefore, in addition to the possible advantages the early investors might
be able to take (as revealed in previous studies), there are a number of possible
factors that contributed to the early entrants' decisions on the timing of entry into
the Chinese market by the international pharmaceutical firms. First, approximately
two-thirds ofthe early investors were from Hong Kong, Taiwan and Japan, who
might have a better understanding of the China's overall investment environment
and the skills to cope with the uncertainty in the environment. Second, over four-
fifths of the early entrants committed a smaller scale of capital investment in the
China ventures. Furthermore, the international pharmaceutical firms introduced
conventional drug technology, rather than the latest innovative technology, to the
Chinese market. This was achieved by transferring the manufactured conventional
drugs from the operations in their home countries to the China ventures, then
marketing the drugs into the Chinese market. These factors could be viewed as
a first step to test the market in the early stage ofFDI activities in China, which
brings into line with Williamson's (1985) transaction cost theory suggesting
that when uncertainty is high, the firm should minimise its commitment to the
environment. Third, the large majority of international pharmaceutical firms
formed joint ventures with local Chinese partners. A competent local Chinese
partner can assist the ventures in reducing the risks associated with the uncertainty
by using their country-specific knowledge. This applies even more so for early
entrants since they had a better chance to choose a more competent partner while
more alternative partners were still available to them in the early stage of FOI
activities. Finally, the early investors concentrated their investments in SEZs or
open cities. As Luo (1998) pointed out, ventures located in those open areas are
able to foster risk reduction in China. The four attributes deal with investors'
capability (local environment know-how) and investment strategies (partner
selection, venture location selection within China and scale of investment). This
may suggest that, other things being equal, a firm's early entry decision into a
politically uncertain international market like China also depends on what the
firm can do (capability) and how to do it (investment strategies).

Since 1992, a collective leadership rather than a single, predominant leader has
governed China. Political stability and economic development and reform have
been priority objectives of the central Chinese government. Also since 1992, an
upsurge of foreign investment swept across the country and the introduction of
foreign investment underwent a new, substantial development, both in breadth



Spring 2005 Jiang: Driving Forces 33

and depth. Since then, a legal framework governing foreign investment activities
and a market-oriented system has been established. Most notably, China has made
significant progress in implementing intellectual property rights regulations,
education and enforcement, as international pharmaceutical firms were sensitive
to, and concerned about the weak intellectual property rights protection. After a
few years ofnegotiation between China and the United States ofAmerica, the two
countries signed a bilateral agreement on the protection of intellectual property
rights in February 1995 and the agreement inJune 1996 on procedures for ensuring
its effective implementation. The economic transition proceeds and the Chinese
markets are becoming more and more integrated with the global economy; and
the contextual risks and uncertainties have been therefore gradually diminishing
over time. Overall, the political environment for international investors has been
improved significantly. Outstanding economic performance has provided the
late entrants with a relatively stable investment environment for their long-term
business development in China. These improvements may also explain in large
part why China was more attractive than other nations that also have low labor
costs and potential large market size advantages.

This study also demonstrated that the incentives provided by the Chinese
government would most likely be treated as an additional benefit by most
international pharmaceutical firms, rather than a decisive factor on their FDf
decisions to China. This finding supports previous studies primarily based on
FDI in the USA (Hartman, 1984; Baskin & Gale, 1987; Slemrod, 1990), although
contrasts findings ofrecent studies based on FOI in China (Zhang & Yuk, 1998; Li
& Li, 1999). This may be because the pharmaceutical industry is more technology-
based, rather than a labor-intensive industry. International pharmaceutical firms
who invested their capital and technology into China were primarily aiming to
access China's potential huge market for their products. Usually, export-oriented
FDf have invested mainly in labor-intensive industries. Therefore, the incentives
may be significant for export oriented investments in labor-intensive industries in
China. For similar reasons, cheap labor, low establishment costs and social cultural
related factors would not have significant effects on international pharmaceutical
firms' FDI decision into the Chinese pharmaceutical manufacturing industry. This
finding supports Li and Li's (1999) clarification about the impact of China's low
cost oflabor on foreign firms' decision to invest in the country.

Limitations and Future Research Directions

There are three main limitations in this research. This research suggests that
the timing of FDI had significant impacts on FDI determinants. The changes in
investment environments and other conditions in China are continuing, as the
political/legal and economic reforms in China are still on unfolding. This study
was conducted in a particular time period and only gives insights into the situation
at that moment in time (1980 to 1998). Second, most of the pharmaceutical
companies with foreign investment in China are firms that have investment by



34 Journal of Business Strategies Vol. 22, No. I

international non-pharmaceutical firms (CCPIE, 1995; MIMS, 1998). Therefore,
further research into FDI of international non-pharmaceutical firms would be
expedient and meaningful. In addition, a comparison of determinants between
pharmaceutical and non-pharmaceutical firms FDI in the pharmaceutical
industry would further add to the understanding of how FDIs operate. Finally,
future research studies may also extend to other industries rather than just the
pharmaceutical industry, as international investors have also been actively
engaging in other industries in China.

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Footnote

I. A USD20 million investment is usually regarded as a rather small scale of in-
vestment for international pharmaceutical firms.

2. Pearson's chi-square test is only appropriate ifthere is sufficient data (Francis,
1999). Pearson's chi-square is equivalent to the simple logistic regression which
uses the pooled estimate of the standard error (Christensen, 1997: 27). Logistic
regression is relatively free of restrictions, with the capacity to analyse a mix of
all types of predictors (continuous, discrete and dichotomous) the variety and
complexity of data sets that can be analysed is almost unlimited (Tabachnick &
Fidell, 1996: 578).



Spring 2005 Jiang: Driving Forces 39

Jiang Fuming is a researcher and lecturer in International Business in the School
of Business & Information Management at The Australian National University.
He received his Ph.D. in International Business/Strategic Management from
The Australian Graduate School of Entrepreneurship at Swinburne University,
Australia. His research interests include internationalization strategies ofChinese
firms and foreign direct investment strategies of multinational corporations in
China and Australia.



40 Journal ofBusiness Strategies Vol. 22, No. 1


	Driving Forces of International Pharmaceutical Firms' FDI into China