STATE enterprise reform is the key nut China needs to crack in its bid to reform and re-structure its economy. Although state enterprise reform figures largely in the Ninth Five-Year Plan, issued earlier in the year, exact details of what is intended have yet to emerge. The pace of reform in other areas in China has been stepped up in the past 18 months with institutional and structural changes taking place at a pace very few China experts would have considered imaginable two years ago. Changes to the state apparatus to enable the better management of the economy are occurring with the reform of the banking system, the taxation system and the rolling forward of plans to achieve convertibility of the yuan on the trade account. Without reform of state enterprises, to reduce their burden on the state, achievements elsewhere in the economy will remain sideshows. In October, China's 100,000 state enterprises still consumed 80 per cent of bank funds and employed 75 per cent of labour. China state enterprises lost 41.7 billion yuan in the first nine months of the year, almost 20 per cent up on the same period in 1994. But they generated only 38 per cent of industrial output and contributed only a meagre 20 per cent to the annual increase in gross domestic product (GDP) growth in the past two years. For enterprise reform to be successful it is argued there is a need for China to espouse a national policy of state enterprise reform which goes further than the objectives and ethos of change outlined under the Ninth Five-Year Plan. What is needed now are practical guidelines for the implementation of change. It is said a number of the larger conglomerate and property groups in Hong Kong would be prepared to lead or join in consortiums for the targeted reconstruction of a number of state enterprises. They just want to know what the rules of engagement are. Where there are no rules, they want a forum in which they can propose rules with submissions on the way forward from professionals and specialists, not forgetting, of course, some interested overseas investors. Reform plans and discussions need to be handled centrally in a bid to break away from the potential for unsatisfactory piecemeal change at the provincial level. Under the Ninth Five-Year Plan China has outlined characteristics a modern enterprise system would clearly define. These include property rights, the rights and responsibilities of enterprises, the separation of government administration from enterprise management and establishment of scientific management. The object should be to turn them into legal entities capable of coping with market competition under independent management, who would take responsibility for their own profits and losses. In the short term, it is planned pilot enterprises will establish a vanguard for others to follow chosen from a pool of between 500 to 1,000 enterprises. Management consultant Allan Carroll recently told an audience in Hong Kong in a speech on enterprise in Asia that it was not nations that create wealth, it was companies. To take this a step further, it is not companies that create wealth it is their management, either as owners or professional executives. For the basic principles for considering change at state enterprises we can take a leaf out of the McKinsey and Co book. The management consultancy likes to consider carefully the three Cs. This starts with making organisations more business oriented through commercialisation. Enterprises need to be corporatised to ensure these objectives set out under the Ninth Five-year Plan are formally enshrined. Lastly there is the need to capitalise. If the three Cs concept is accepted as a start other components for change need to be put in place. There is a model being considered by a number of influential Hong Kong investors that creates a mutually beneficial series of relations between the parties involved. It could form one of a number of variations to be tried out under the stated pilot schemes. A portfolio of companies needs to be chosen in which there is overseas investor interest potential. The type of sectors from which pilot firms might come from might include consumer product manufacturing businesses, where foreign participation already exists. In addition, light assembly enterprises covering component manufacture for vehicles and aviation products also could be considered. Given this, the seed money to attract in overseas money would be that of the influential Hong Kong investor with a track record and expertise in dealing with the Chinese business environment. The foundation needed in place at these companies is a management at the enterprise or enterprises that is willing to change. Under the Hong Kong model outside management would be added to the teams running each of the companies in the established portfolios. They would add expertise and promote the formal integration of management functions to allow, for instance, highly qualified mainland engineers to meet the needs of customers and a changing market. Pay incentives linked to performance with stock options, where a listing is planned, should form part of the overall remuneration package covering all company employees, directors and managers. For the plan to work, the mainland and Western managers need to be able to work together to determine the destiny of the companies under the portfolio which, at some point in the future, might be listed either individually or en-bloc as a diversified business group.