Trends in China Outbound M&A

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The early indications are that outbound M&A involving Chinese groups in 2014 is likely to surpass previous levels. The first quarter of 2014 has already seen a 21% increase in deal volume and a 10% increase in deal value, compared to the same period last year. This is set against an overall increase in deal volume of 18% in 2013, although overall deal value remained steady at about $67bn.

Whilst growth in the Chinese economy has slowed, it remains on target to surpass that of the US. As the effects of the Third Plenum in 2013 are slowly put into action, it is clear that outbound M&A remains a key theme for Chinese industrial groups. Whilst the on-rush of outbound M&A deals has not materialised at the levels some expected, many Chinese groups retain extremely strong balance sheets with the expectation that they will utilise their spare cash for acquisitions involving strategic assets in Europe and North America. Even with domestic demand slowing, M&A remains a key way for these groups to accelerate their expansion plans and harness much-needed expertise.

The rationale for increased outbound Chinese M&A activity covers a number of factors including the ongoing demand for natural resources, as well as the growing need for skills, intellectual property and technology in China. These factors are critical as the economy rebalances itself into a more consumer-focused, service-driven model. With this in mind, Chinese corporates are also adopting a brand-led acquisitions strategy.

Last year, the industrials sector remained the area of greatest interest for outbound Chinese M&A with the chemicals and materials sector following closely behind. The energy sector remains in pole position in terms of the largest deals completed, as demonstrated by China National Offshore Oil Corp’s (CNOOC) $17.7bn acquisition of Canadian oil and gas group Nexen. China National Petroleum Corp’s (CNPC) acquisition of an 8.3% stake in Kashagan Oil Project for $5.4bn shows the on-going appetite for large-ticket deals.

The consumer sector also remains a strong area of interest for Chinese groups, as the growing Chinese middle-class shows an increasing interest in consumer brands thanks to their increased spending power. This means that Chinese consumer players are now looking for global brands with Chinese potential, as well as Western businesses with the ability to supply into the Chinese mass market. Last year’s largest outbound M&A deal exemplified this, with Shuanghui International completing the $6.9bn acquisition of Smithfield Foods, the world’s largest pork producer. The increasing consumer demand for pork products, as well as a number of recent domestic food scandals, means that Shuanghui is now well placed to capitalise on the demand for Western food products.

Meanwhile, 2014 has also demonstrated that technology remains an important sector for outbound M&A with Chinese technology group Lenovo already having acquired Motorola Mobility from Google for $2.9bn and IBM’s Server Unit for $2.3bn.

Other sectors likely to see an up-turn in Chinese M&A are entertainment, financial services and healthcare.

As part of this likely rise in outbound M&A, the whole process for the approval of overseas acquisitions has recently been reformed and streamlined by the National Development and Reform Commission (NDRC), the agency responsible for China’s overall economic planning. In essence, any transaction valued at less than $1bn will only need to be sanctioned by the relevant local authority rather than being vetted centrally by the NDRC.

A further key issue for Chinese global acquirers is their acceptance, or not, as owners of prized assets in the West. For many, this means modifying their approach to the acquisition process. Chinese groups will need a much deeper understanding of what drives the intentions of potential vendors in the West. They also need to unpick the regulatory hurdles which exist in many industries including sensitive sectors such as aerospace, energy and natural resources. They must additionally adopt a much more sophisticated approach to the negotiations around a deal, as well as the softer issues surrounding M&A transactions.

With this simplification of the regulatory approvals and a more educated approach to acquisitions in mind, many State-Owned Enterprises (SOEs) are turning to investment funds as their vehicle for overseas acquisitions. These funds represent a more efficient way of completing acquisitions in the West as the buyer often appears to be operating as an investor rather than as a Chinese aggressor. This factor has been deemed to have added a premium to the prices paid by Chinese groups for previous high-profile overseas acquisitions.

These changes are also likely to be a driver for an increase in outbound M&A involving privately-owned Chinese companies. This is in turn expected to drive more deal activity in the mid-market, with these players less focused on billion-dollar trophy assets. The latest reforms will play into the hands of private Chinese companies as they tend to be more direct and flexible when contemplating overseas M&A. They also usually have more efficient decision-making processes which fit more comfortably with transactions in the $50m to $500m bracket.

At the same time, Chinese private equity firms are increasingly looking at investment opportunities in overseas markets.