Article – Australia: Northern pivot

28 December 2015
Steve Johnson and Jamie Smyth
Financial Times

Terry O’Connor beams with the air of a proud parent at the 17 hectares of freshly reclaimed land lying fallow. The chief executive of the port of Darwin in Australia’s Northern Territory has been handed the job of overseeing the ambitious expansion plans of China’s Landbridge Group, which in October paid A$506m (US$368m) for a 99-year lease to operate and develop the facility.

If all goes to schedule, the barren land will soon be a riot of construction activity as the port’s wharf space is doubled to accommodate larger vessels and more refrigerated capacity, bolstering trade links in a largely overlooked corner of Australia.

“We will have to triple, at least, our activity to justify the expansion,” Mr O’Connor says. “We are building in anticipation of demand, rather than as a response.” To supporters the deal offers an opportunity to open up the port to growing Asian markets.

Critics, however, see it as a step too far.

First came allegations from the Australian Strategic Policy Institute, a defence think-tank, that the Shandong-based company had links to China’s armed forces, the People’s Liberation Army — a particularly explosive claim given that the neighbouring naval base houses a contingent of US marines, a deployment that angered Beijing when announced in 2011. Landbridge has denied claims it has links to the PLA.

There was further criticism when it emerged that the deal had not received a full examination by the country’s Foreign Investment Review Board. The US, Australia’s strategic ally, was also unimpressed, prompting President Barack Obama to tell Prime Minister Malcolm Turnbull in November, to “let us know next time”.
The backlash not only threatens to sour relations with Beijing, but it could also undermine an ambitious push by the Turnbull government to kick-start development in the country’s sparsely populated north. The initiative is central to Canberra’s ambition to rebalance the economy, which is slowing in the face of the biggest fall in commodity prices in a generation.

The north of the country — which stretches across the states of Queensland, Northern Territory and Western Australia — boasts 40 per cent of its land mass but just 5 per cent of its population. Mr Turnbull, who faces an election next year, wants to increase services and agricultural exports to Asia. To do that he needs new roads, rail and port infrastructure in the north. If his plan is successful, it would expand economic activity from the mining hubs in Western Australia’s Pilbara to the rugged north.

A weakening Australian dollar is helping this transition but Chinese investment and access to its market — along with those of its east Asian neighbours Japan and South Korea — are critical to fulfilling his plans.

“The north is only becoming viable because for the first time in the 200 years since European settlement there is now a market opening up,” says Andrew Robb, Australia’s minister for trade and investment.

Commodity crunch Fuelled by China’s rapacious appetite for hard commodities such as iron ore and coal to build its cities, Australia enjoyed a decade-long boom. Today, however, the slowing Chinese economy has caused iron ore and coal prices to more than halve since their peak in 2011, cutting the value of Australia’s two biggest exports and denting corporate profits and the state budget.

“Don’t underestimate how tough this is as the budget boom of the past decade continues to become a budget bust,” says Chris Richardson, economist at Deloitte Access Economics. “The world is paying less for our exports and baby boomers are retiring. The resultant pressure on our living standards translates into matching pressure on the tax take.” Australia’s gross domestic product grew 2.5 per cent in the year to the end of September, well below the country’s trend growth rate of 3-3.5 per cent. The budget deficit is now forecast at A$37.4bn in 2015-16, swamping the A$2.3bn forecast by the treasury in April and underlining the pressing need to diversify the economy.

The government wants to more than triple the north’s population up to 5m by 2060 as part of its push to transform the region’s tourism, agriculture and energy sectors. It has committed A$5bn of concessional loans and A$1.2bn of federal infrastructure spending, with the hopes that this will trigger additional private investment from Asia.

Successive governments have pledged to boost ties with Asia but politicians are not blind to public concerns over Chinese investment.

In November, the federal government blocked several Chinese bids to buy S Kidman & Co, which controls government leased farmland across 101,000 sq km of the outback, in part because one of Kidman’s cattle stations lies partly within the Woomera Prohibited Area, the world’s largest missile testing range, in South Australia.

“There is a lack of trust in Chinese state companies, and the Chinese state in general [in Australia],” says Kerry Brown, professor of Chinese studies at Kings College London, who previously worked at Sydney University. “I suspect in the future that Chinese investment will not be able to stir without immediate public interest and scrutiny.” A shift in China’s investment focus from mining towards more sensitive sectors such as agricultural land, infrastructure and agribusiness has prompted authorities to toughen investment rules.

In July, the government, under pressure from the powerful farming lobby, cut the threshold at which private acquisitions of rural land by most foreign buyers would need FIRB approval from A$252m to A$15m. The threshold for agribusiness deals was cut to A$55m.

There has also been a crackdown on property ownership rules, which prevent most non-residents buying established properties. The Australian Taxation Office is investigating 500 potential breaches of foreign investment laws involving more than A$1bn in property investment. The first high-profile casualty was a property company belonging to Chinese billionaire Hui Ka Yan, which was ordered to sell a A$39m waterfront mansion in Point Piper, Sydney, for breaching local rules.

“The [forced] Point Piper sale scared investors,” says Michael Zhu, a real estate agent with House 18, which sells high-end property to Chinese buyers. “Together with a slowdown in China’s economy and tighter foreign investment rules, Chinese demand has fallen.” The government denies it is singling out Chinese investment for special scrutiny. It can point to a string of recent deals including China Communications Construction Company’s A$1.15bn takeover of builder John Holland and a A$900m purchase of Hoyts, Australia’s secondlargest cinema chain, by property tycoon Sun Xishuang.

“Australia’s history since settlement has been one where we have relied on foreign capital because we have thin capital markets compared to other developed countries,” says Mr Robb. “First it was the UK, then the US, then Japan, but in all my lifetime I have never seen a farm leave Australia.”

Trading ties with China have not always been smooth. In 2012 Beijing protested when the government, under US pressure, excluded Huawei from bidding to build Australia’s national broadband network on national security grounds. And even though Australia’s growth has been built on Chinese commodity demand, some mining investments have proved controversial. In 2009 official concerns eventually led to the unravelling of Chinalco’s proposed A$21bn tie-up with Rio Tinto and China’s Minmetals’ proposed A$2.6bn acquisition of Oz Minerals.

“The Chinese are experienced investors and won’t be put off by a knock back and tighter scrutiny,” says Doug Ferguson, of KPMG Australia. “They know foreign investment reviews are just part of the process.” This sentiment will be tested in the months ahead as critical public infrastructure assets ranging from the Port of Melbourne, Australia’s biggest, to controlling stakes in two New South Wales power companies are put up for sale.

Adam Giles, chief minister of the Northern Territory, the regional government which negotiated the Darwin port deal with Landbridge, is adamant that it was the right thing to do for an area crying out for investment.

“All of our polling told us that we shouldn’t sell the port to the Chinese,” he says. “We went ahead and it was the best decision we have ever made.” Mr Giles’s office says Landbridge has committed to A$35m of investment over the first five years and a projected investment of more than A$200m over the next 25 years.

The federal government also aspires to northern Australia becoming the “food bowl” of Asia, selling “clean, green” produce to a rapidly growing Asian middle-class alarmed by food scares, especially in China.

Previous attempts to develop the north of the country have, however, ended in failure, and Mr Robb is alert to the history lesson. “People from other parts of the world have come and thought it was the last frontier, but spent a lot of money and gone broke.” The trade minister argues that the emergence of what he calls “the premium markets on our doorstep” — an allusion to an Asian middle-class that is forecast by the Brookings Institution to grow from 600m to 3bn by 2030 — gives this initiative a greater chance of success.

“This is the biggest area in the developed world that is undeveloped,” he says. “If you come back [to Darwin] in 10 years’ time you won’t recognise it.”

Jeffrey Zhou, general manager of Yichang Tianyu Commercial & Trade Company, a Hubei-based wine importer and resort operator, has a simple answer for why relatively few Chinese investors are doing business in northern Australia.

“It’s how they market themselves,” says Mr Zhou. “They call it Outback Australia, it should be Front Door Australia. Mainland Chinese [companies] don’t realise that Darwin is so close.” It may take more than location to secure investment into the region.

Asian heavyweights such as China Merchants Group, Korea Development Bank, Japan’s Sumitomo Mitsui and Khazanah Nasional Berhad, the Malaysian sovereign wealth fund, were among 250 foreign investors from 20 countries at a recent investment conference in Darwin organised by the federal and local governments. There was little sign, however, that interest was translating into deals. Peter Styles, the Northern Territory’s minister for Asian engagement and trade, remains optimistic, arguing that in Asia “people only do business after three cups of tea . . . There’s a lot of people in town now for their second cup.”

An equally relaxed Josh Frydenberg, appointed in September as the first-ever federal minister for northern Australia, says “this is a long-term project. We are not thinking of the next five years, we are thinking of the next 15-20 years.” Some activity is evident. Mr Zhou is a minority investor in a proposed A$110m scheme to build a 300-bed Shangri-La hotel in Darwin, even if he complains of high costs in Australia.
He is not alone according to Mr Frydenberg, who says a number of consortiums are touring potential hotel sites. “Darwin wants to build a 6-star hotel. In 10 years’ time there will be three,” he says.

Courtesy of the Financial Times

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