Building demand

Plagued by scandal at home, Royal Group's China operation is pushing quality products in a land of bargain hunters.

At 5:15 p.m. in the Songjiang Export Processing Zone on the outskirts of Shanghai, hundreds of workers pour out of the factories that line the duty-free area's streets. Most workers are wrapped in brightly coloured jackets that identify the company they work for — Korean-owned Samsung, Danish-owned Carlsberg, or Pan Fish of Norway, for example. Some walk in groups toward the nearby dormitories, while others pedal bicycles or speed off on mopeds to faraway homes. There is one thing most of the workers have in common, however: they have just emerged from buildings erected by Royal Building Systems (Shanghai) Ltd., the China-based subsidiary of Royal Group Technologies Ltd.

While Royal Group (TSX: RYG.SV) is awash in scandal here at home, with allegations swirling that its senior executives may have deceived or defrauded shareholders, the company's operations in China give Royal-watchers something to smile about. The subsidiary — which opened in 1998 and has been managed since then by CEO Wang Wei and vice-president David Yu, who earned an MBA at York University in Toronto — is putting up buildings across the country. In the extremely competitive Chinese construction industry, the Royal brand is gaining blue-chip credibility.

Royal Shanghai's production facility is a bumpy five-minute drive from the gates of the Songjiang Export Processing Zone. Here, on the dimly lit factory floor, 300 employees work round-the-clock shifts churning out window frames, fences and gutters. The building materials — made from a mixture of polyvinyl chloride, or PVC, and other chemicals — are produced using a complex computer-controlled extrusion process. While Royal Shanghai's neighbours regularly grapple with blackouts, Yu negotiated with local officials to ensure his factory's electricity is never cut off. That's a big advantage: If the power does go out mid-production, Royal stands to lose between US$5,000 and US$10,000 worth of material. Plus, it takes an entire day to get the extrusion machines ready to operate again.

Most of the technology employed in the Royal Shanghai factory was originally developed in Canada, although Chinese engineers made plenty of modifications to the design so the company's products would better suit the local market. For example, window frames intended only for houses in Canada are often installed in highrises in China; that means the frames must be able to withstand a much higher wind load. Unlike manufacturers who fear producing in China because of lax intellectual property laws, Yu isn't overly concerned about the company's techniques being on display. “It's an issue,” he says, “but not like in the telecom or high-tech industries. We're not that fast.”

Royal Shanghai's point of pride is quality. Yu boasts that his company uses the PVC-plus-additive formulation recommended by supplier DuPont, giving his products a significant edge over similar items manufactured by Chinese firms that scrimp on expensive additives. Royal Shanghai also offers a minimum 20-year warranty on all of its products, and makes available training and support to developers using its building materials.

Quality is a tough thing to sell in China, though. The construction market is booming — 1.1 billion square meters of commercial and residential space was built in 2003, up 23% from the year before — and many developers sell buildings so quickly that they don't care about quality. “In Canada,” says Yu, “the customer is more educated. Here, they don't care to know the detail.” In other words Chinese buyers just want the lowest price.

To convince clients that it is worthwhile to buy quality, Royal Shanghai hosts numerous educational seminars. And some developers are changing their tune. Take the Hangzhou Kaiyuan Real Estate Group, a large residential developer based in Hangzhou, southwest of Shanghai. While Kaiyuan was skeptical about Royal's products at first, three years ago it took a chance and purchased 18,000 square meters of Royal windows. After receiving excellent feedback from its customers, Kaiyuan now uses Royal products in the majority of its projects.

Rapidly changing construction-industry regulations that increasingly put the emphasis on quality are also helping Royal. What's more, China's Special Committee of PVC Extrusion Profile and Windows (there seems to be a committee for just about everything on the mainland) vowed last March to “pool efforts to crack down on any conduct to produce or sell fakes and inferior products.”

Competition is a big challenge for Royal. For one thing, there are too many building-material suppliers in China. It's estimated that about five million tonnes of PVC product will be manufactured for the Chinese market in 2005, far outstripping demand, predicted at 1.5 million to 1.8 million tonnes. Furthermore, the price of PVC resin is soaring, bumping up costs for manufacturers.

Perhaps the toughest barrier for Royal Shanghai to overcome, however, is introducing the Chinese to Royal Building Systems, the plastic wall panels the company produces. Although the panels have been used in developments in such far-flung cities as Chengdu, Xi'an, Suzhou and Nanjiang, “We find it hard to supply plastic panels to customers, because they don't know what to do with them,” Yu admits.

In response to all the challenges, three years ago Royal Shanghai started its own property development company, Shanghai Royal Real Estate Ltd. The new division has put up more than 400,000 square meters of commercial property across China, quickly selling or leasing the completed structures. “We discovered that our knowledge in building plants is really good,” says Yu. “Foreign investors just come in and buy the buildings right away.” By adopting a new business model — where Royal is the property developer as well as the building materials manufacturer — the company has seen sales surge. Yu's key suggestion for other Canadians hoping to sell high-quality products or services in China? “Change the way you think. People here don't have the time and energy to learn the value of quality. So go one step further, and make it easy for them.”

Royal Shanghai accounts for only a small percentage of parent Royal Group Technologies' revenue, which hit $1.9 billion in the fiscal year ended Sept. 30. And while Yu says he is “confident we will grow faster than headquarters expects,” nobody will reveal exactly how profitable the China operation is. What's more, Royal does face competition from other international players, such as U.S.-based Owens Corning and YKK Corp. in Japan. Still, Royal's Shanghai plant hums with activity, and pictures hanging in the showroom, such as the one of a home built for high-profile customer Liu Xiaoqing, a film megastar in China, attest to Royal's accomplishments. John Zimmerman, trade commissioner with the consul general of Canada in Shanghai, says Royal Shanghai is one of Canada's success stories in China.

Royal Group Technologies is an international player, with manufacturing divisions in Argentina, Brazil, Colombia, Mexico and Poland, and products used in most of the world's countries. It clearly knows how to do business overseas. The new challenge is to build consumer demand for quality in China.