The World's Biggest Investment Opportunity?

Recently, I traveled to Shenzhen, China, for about a week. Given the important role that China has played--and will almost certainly continue to play--in the global economy, I thought I'd share some of my on-the-ground observations from the trip. Note that although I've supplemented these thoughts with the experiences of two colleagues who have each spent more than a month in Shenzhen, generalizing about China from a week in Shenzhen is like asking someone his impressions of the U.S. after a week in Las Vegas. Boomtowns are fascinating, but they need to be taken for what they are.

Even with that caveat in mind, Shenzhen is a fascinating place. It was one of China's first Special Economic Zones, and the economic growth unleashed by the implementation of "socialism with Chinese characteristics" has been phenomenal. Consider that Shenzhen had about 300,000 residents in 1980 and now has around 12 million, and the local economy has seen compound growth at something like 25% to 30% annually. (For comparison, the fastest-growing city in the U.S. over the same time period was Las Vegas, which merely tripled in size from about half a million to just more than 1.5 million.)

As you might expect, it's a very young city--I barely saw anyone over 40 during the week I was there. As you might not expect, it's got a skyline that looks more like midtown Manhattan than your likely mental image of a fast-growing city in a developing economy. It's a huge, reasonably modern, bustling place where everything is new and you can buy a good lunch for $1.50, but  Starbucks (SBUX) coffee costs more than it does in Chicago.

Yes, It's Really Different over There
Speaking of consumption, I pity the American (or European) consumer goods firm that thinks its next big growth leg is coming from hundreds of millions of Chinese consumers. I visited one reasonably upscale mall filled with name brands like  Columbia (COLM),  Nike (NKE), and Nautica, that was thronged with shoppers. Unfortunately, very few had bags--they all seemed to be there for the experience and the air conditioning rather than the products. By contrast, the commercial neighborhood I visited the next day--which had lots of small shops selling locally branded or knocked-off goods--was mobbed with people actually spending money (judging by how many had shopping bags). From fairly bad iPod nano knockoffs for $20 to pretty decent fake Patek Philippe watches for $40, it was all there.

Unlike the brand retailers, the foreign discounters seemed to be doing a land-office business. Carrefour and  Wal-Mart (WMT) were mobbed, with the French firm getting a slight edge in traffic and a big edge on selection. I don't know whether these companies are making any money yet in China, but at least they're attracting customers, and their livelihoods don't depend on defending intellectual property or maintaining brand loyalty. Needless to say, I think both those endeavors will be tough sledding.

And speaking of retailers, the cost advantage of labor in China really smacks you between the eyes when you walk into a store. Almost without exception, the stores I saw were overstaffed by a factor of two or three compared with what we're used to here in the States. Enter a store and you're swarmed with polite folks eager to help. Why have so many employees help customers to buy so little? Because they're so cheap it doesn't really matter. After buying some beer at Carrefour, I asked which aisle had the bottle openers, and one employee scrambled to dig a (free) promotional opener out of a box somewhere while four others supervised and offered helpful commentary.

A final note on the consumer environment: As the availability of $20 iPods and $40 Patek Philippe watches (both of which I was offered) might indicate, there's not much hesitation in leveraging Western brands. I saw a local restaurant chain with a logo that looked suspiciously like an Asian Colonel Sanders, and in the lobby of the state-owned hotel where I stayed, there was a store called "Gulao & Shark," which appeared to be a copy of an apparently popular sportswear manufacturer called "Paul & Shark." There was also a "Joop!" store which, according to the company's Web site, doesn't exist. And returning to the staffing observation--both stores were very well-staffed the entire week I was there, and I saw maybe one customer enter.

Today Shenzhen, Tomorrow China?
What's really fascinating is how Shenzhen seems to be a microcosm of China's development path as a whole. The city was one of the first parts of China to tap foreign capital eager for access to low-cost labor, so the first couple decades' worth of growth were fueled by labor-intensive industries with relatively low value-added content. But wages have surged in the past several years, pushing some labor-intensive businesses further into the Chinese interior where costs are much lower. So, the local authorities are doling out financial incentives to tech firms and financial-services operations that can push the local economy up the value chain.

At the end of the day, this is the same challenge facing all of China over the next few decades. While there's still plenty of infrastructure to be built, and large portions of the country that have barely industrialized at all, the country's long-term future lies in creating things, not just assembling them. How well Shenzhen manages this transition from a labor-based economy with cost advantages to a knowledge-based economy with skill advantages could be one interesting leading indicator for the country's development challenges as a whole.

The Grain of Salt
Please note that these observations are from one person, after one week living in one city, in the midst of a very, very large and diverse country. I don't think it's possible to generalize about China after a week in Shenzhen any more than it is to make assumptions about America after strolling Fifth or Michigan avenues.