Recently
Caterpillar announced having to write off $580 million investment in ERA
Mining, a Chinese mining equipment company Caterpillar acquired less than a
year ago. Reason given for the charge to earnings was the discovery of
"deliberate, multi year co-ordinated misconduct" at the Chinese
entity--in other words, somebody cooked the books.
This
would not be the first time the Peoria multinational has stumbled in China.
Around 17
years ago, Caterpillar proclaimed amidst great fanfare that they have a formed
a JV with Shanghai Diesel to make Diesel engines for the China market and for
export.
At the
time, the Chinese regulations did not allow for foreign entities to own majority controlling interests in ventures in a pillar industry. But Caterpillar insisted and persisted in their
negotiations until they came away with controlling interest in a 55/45 JV.
Then
Caterpillar informed their US based suppliers that to continue their business
relationships with CAT, they would need to supply from China as well.
One of
CAT's major supplier, a Wisconsin company, proceeded to retain me to help them
find a manufacturing base and a Chinese partner that would become a qualified
supplier to the Shanghai JV.
The
entire process from identifying potential partners to signing MOU to drafting
the letter of intent to completion of the feasibility study and sitting down to
serious negotiations took a little over one year.
For a
variety of reasons my client found China's way of doing business, especially
getting around the then notorious triangular debt dilemma* daunting and was wavering
about making the final commitment.
By then
the CAT/Shanghai JV was coming apart which in effect took my client off the hook. The
need to supply CAT from China became moot and they decided to backed away from
investing in China.
While we
were visiting China conducting various due diligence work, we invariably
stopped in Shanghai to pay our respects to CAT and thus I had an up-close view
of how the CAT JV was failing.
As the
majority owner, CAT provided most the senior management team. At the time, CAT
in the U.S. was on strike and thus CAT had plenty of idle executives to send to
Shanghai.
As we
toured the new JV plant under construction, we noted the presence of many American executives, each one with a young bi-lingual Chinese assistant in tow. The senior Chinese
official accompanying us on the plant tour, confided to me that it was going to be
very difficult for the JV to break even with such a costly top heavy structure.
Our host
also told me privately that the CAT management insisted on hiring only
bi-lingual graduates and engineers, which meant many skilled and competent
professionals could not be employed because of their lack of English fluency.
Conversely, he said that English proficiency did not equate to proficiency in
their technical discipline.
Within a
year of our last visit of the JV, CAT renegotiated and reversed the equity
split giving the majority control back to their Chinese partner. That reversion
was too late to save the venture and CAT eventually shuttered the JV and wrote
off the entire investment.
The Shanghai JV failed because CAT insisted on the American way and made no attempt to localize their practice. The latest failure was apparently due to careless or insufficient due diligence before making the acquisition. One of the principals of ERA Mining was an American living in China and one time president of the American Chamber of Commerce.
Did the patina of American ownership cause CAT to take too much for granted?
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* In the mid 1990's China underwent a severe credit crunch and cash flow was reduced to a trickle. Companies delayed paying their bills, sometimes with IOUs and other times with all sorts of in-kind payments. The sales force frequently were charged with collection as well as getting sale orders. It was not an environment for the queasy.
* In the mid 1990's China underwent a severe credit crunch and cash flow was reduced to a trickle. Companies delayed paying their bills, sometimes with IOUs and other times with all sorts of in-kind payments. The sales force frequently were charged with collection as well as getting sale orders. It was not an environment for the queasy.