The call to arms

In 1865 an American firm called Thos Hunt & Co. sold a lossmaking iron factory in Shanghai to the Qing government. Then known as Jiangnan Arsenal, the foundry was tasked with producing imperial China’s first battleships and cannons. The translation bureau that the firm set up – under English missionary John Fryer – became a prolific publisher of scientific literature from the West, and the manufacturer also went on to foster a civilian shipbuilding hub in the coastal area of Jiangsu that bears its name.

Now called Jiangnan Shipyard, the state firm looks set to take on another important mission: building China’s first aircraft carrier. (The country’s only current carrier, the Liaoning, was acquired from Ukraine, retrofitted in China, and brought into service in 2012.) The Chinese authorities have stayed tight-lipped about the project but a set of commemorative coins celebrating the shipyard’s 150th anniversary seemed to confirm the plan last week, when they featured an image of a carrier.

“This is the first official confirmation that Jiangnan Shipyard is building a carrier,” the Global Times suggested, noting that the central bank issued special coins for the launch of the Liaoning too.

But Jiangnan Shipyard isn’t the only firm readying to manufacture weapons for the People’s Liberation Army (PLA). Several heavy machinery makers are gearing up for the militarisation drive as demand for their civilian products wanes. These include Sany Heavy Industry, a private firm which not so long ago was so desperate to quash allegations that it had PLA connections that it tried to take Barack Obama to court (see WiC170 for Sany’s audacious legal challenge).

So Sany is signing up for military duty?

Sany’s founder and chairman Liang Wengen started his career in 1983 as a technician at Hongyuan Machinery, a Hunan state firm which was then a unit of the Ministry of Ordnance. Liang founded Sany Heavy Industry three years later, growing it into China’s largest privately-owned maker of construction machinery like excavators, pile drivers and hoists.

According to China Economic Weekly (a financial magazine run by the People’s Daily), speculation about Sany’s military background has persisted from the start. But Sany is no longer bothering to shrug off the rumours. When the firm opened a new industrial park focusing on marine engineering in Zhuhai early last month, its chief executive Xiang Wenbo even seemed to celebrate the potential for closer contact with the military. “Sany finally has our own port,” Xiang wrote on his personal weibo. “I hope that one day the world’s most powerful aircraft carrier will set sail from here. Let’s gear up the Chinese army!”

The war cry hints at Sany’s increasing ties with China’s defence sector, China Economic Weekly noted.

Then, on May 21, an internet user who identified himself as “Sany Giant” posted ‘news’ on his weibo that Sany had obtained a “permit for armaments manufacturing”. The ‘source’ also published photos of documents that seemed to be signed by Sany’s board of directors,with “Sany Giant” suggesting that a new unit is being set up to specialise in weapons production.

Within hours the post was taken down but the original message soon had investors buzzing. Sany’s Shanghai-listed shares climbed by their 10% daily limit. Stock in the company’s smaller Hong Kong-listed unit Sany Heavy Equipment surged 19% on the same day.

Initially, commentators poured scorn on the speculation, pointing out that there is no such thing as a “permit for armament manufacturing” and that it would take far more complicated certifications for a commercial firm to become an accredited arms supplier to the state.

However, the rumours started to look more credible when Sany admitted in an exchange filing that it was looking into creating a “defence industry department” and that it has been carrying out feasibility studies on what it might make. “Currently our company has not obtained a licence to produce defence-related products… We will disclose if we make any breakthrough in our defence industry segment,” it said in the statement.

Why is Sany going into defence?

Sany’s share price has climbed 30% this year and the company has a market capitalisation of about Rmb100 billion ($16 billion). That may sound a decent size, but it’s less than half of its peak value in April 2011, when Liang was named by wealth ranking specialist Hurun as China’s richest man.

At the time, Liang’s ascent had been dizzying and he seemed set to be the first private sector entrepreneur elevated to the Party’s powerful Central Committee.

Things have turned out less rosy for Liang since. He didn’t make it into the Party’s decision-making elite at the 18th National Party Congress in 2012. And after a bruising battle with state-owned rival Zoomlion at Sany’s home base in Changsha, he also chose to relocate the company’s headquarters to Beijing (see WiC174).

A further listing of the parent company’s shares in Hong Kong was also dropped.

Worse, as growth in the Chinese economy has slowed, demand for Sany’s heavy machinery has stuttered too. Operating performance has worsened for three years in a row, with net profit dwindling by three quarters to Rmb709 million in 2014, or less than one tenth of earnings in 2011.

Hence the change in strategy, perhaps. “The freezing winter for Sany is not over yet. The name of its game is diversification,” Time Weekly magazine agrees.

In fact, Sany has been trying to reduce its reliance on the property and coal mining sectors for a while. The relaunch of the marine engineering division in Zhuhai is geared towards capitalising on spending from China’s ‘One Belt, One Road’ infrastructure campaign, for instance. But the company is also trying other initiatives, like launching the first private-sector bank in Hunan province. (It plans to take a 30% stake in Sanxiang Bank pending approval by banking regulators.)

The heavy machinery maker has even entered the crowded smartphone market this month, launching its V8 Pioneer model, a shock-proof handset said to be dust and water resistant. Sany officials say they are targeting people who work outdoors, as well as sports lovers and adventurers. But other analysts made the connection with military usage. “Industry observers see the V8 as Sany’s first shot in the defence industry,” Time Weekly has noted, adding the battery life is 288 hours. “Military personnel would need a smartphone model like this.”

The more formal launch of a military equipment division would join the expanding list of new business ideas. “The establishment of the defence industry unit is part of our group’s strategy to look for new growth spots,” one of Sany’s directors explained to China Economic Weekly. “What really matters is restructuring all of our business based on our country’s national strategies.”

Is it a Beijing-backed idea?

Sany isn’t the only heavy machinery maker hoping to swap cranes for carriers. A number of its state-controlled counterparts are already suppliers for the PLA. Zoomlion, Sany’s archrival from Changsha, is said to provide military equipment including global positioning systems, emergency vehicles and amphibious boats.

It wants to do more: “The integration with the defence sector is a natural choice for machinery manufacturers to upgrade themselves. This will open up a blue ocean for the industry,” an unnamed Zoomlion executive told the China Economic Weekly last week.

Xuzhou Construction Machinery Group (XCMG, or Xugong), a Rmb3 billion acquisition target of Carlyle Group in 2005, also has ties to the military.

Carlyle’s attempted takeover ground to a halt in 2007, in part because Beijing deemed the sale too sensitive, Sina Finance has reported. XCMG finally changed hands in 2010. The buyer was China North Industries Group Corp (Norinco), the country’s biggest manufacturer of tanks and artillery.

Importantly, the central government seems keen on a closer partnership between the PLA and commercial firms through the sharing of technologies and manufacturing resources. “Military-civilian integration” is an increasingly popular term at policymaking level, with Chinese President Xi Jinping, also the chairman of the Central Military Commission, making direct reference to it as part of his national strategy.

The defence sector has slowly opened up to greater private sector participation. Last November, the PLA’s general staff headquarters released a list of 108 items for public tender. “The military can have its cannons while private-sector contractors can have their bread,” the PLA Daily happily proclaimed, while the PLA’s General Armament Department has launched a new website (www.weain.mil.cn) in an attempt to improve transparency in weapons procurement and encourage more bidding from private sector firms.

Even Baidu, China’s dominant search engine, has got in on the act. Its chief executive Robin Li tabled a proposal at the annual gathering of China’s lawmakers in March that the PLA should support efforts to develop the “China Brain” project (an artificial intelligence system similar to Google Brain) that Baidu is working on.

Good news for some of the private firms, then?

Bigger picture, the prospects in the defence sector do look positive. According to the Stockholm International Peace Research Institute, Chinese military spending grew 9.7% to an estimated $216 billion last year. Global military spending actually dropped by 0.4% over the same period, down for the third consecutive year. The Institute also reports that China has been reducing its imports of weapons to support its domestic producers, with foreign purchases falling by 58% between 2007 and 2011.

Still, the mood among investors may already be more exuberant than the wider circumstances deserve.

So-called “military-concept stocks” have been one of the best performing sectors of the A-share market and 31 such firms have seen their market values double already this year. Some of the companies are already suppliers to the PLA, while others say they want to be. But simply announcing that a company is exploring the prospects for defence contracting can give its shares an immediate boost.

Of course, other companies have more obvious military backgrounds, such as as units of state-owned defence firms like China State Shipbuilding Corp, the parent company of Jiangnan Shipyard. The top 10 defence companies (all state-owned) have about a quarter of their assets controlled via their listed units and it is this group that looks set to be the biggest beneficiary of the civilian-military integration theme.

Indeed some of these once-secretive manufacturers are grasping the importance of raising their public profiles.

For example, Norinco, one of the biggest players in the sector, has been seeking to get its message out to the 500 million users of popular app WeChat.

Last week it sought to capitalise on Xi Jinping’s visit to Moscow in May (see WiC281) when its marketing team posted on WeChat the boast that its VT-4 tank is far superior to Russia’s T-14.

“The T-14’s transmission is not well-developed, as we saw through a malfunction taking place during a rehearsal before the May 9 parade… the VT-4 has never encountered such problems so far. Our tanks also have world-class fire-control systems, which the Russians are still trying to catch up with,” the message gloated.

Perhaps it’s fortunate that Vladimir Putin doesn’t read Chinese…

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