16 September 2017 Paths diverge for Chinese firms chasing overseas assets

While those fond of buying sports clubs and cinemas face huge hurdles, it is a different story when it comes to assets that serve the national interest


Overseas acquisitions in line with national core interests or those that support infrastructure projects like Belt and Road are being given preference for government approval, according to industry insiders. Photo: AP

Xie Yu Alun John Jane Li

Mergers & Acquisitions

China’s outbound acquisitions in sectors deemed sensitive by Beijing, including sports, entertainment and property, have been put on hold as deal makers await clearer guidance from the country’s top leaders who will meet at the 19th Party Congress next month.

However, deals serving the “national interest” – whether led by private or state companies – are still moving ahead quickly, highlighted by the US$9 billion deal completed by private oil company CEFC China Energy Co to take a 14 per cent stake in Russia’s biggest crude producer, announced in mid August.

The firm is considering its second foray into Russia’s energy sector with a planned investment in En+ as part of the aluminium-to-power conglomerate’s planned public float, Reuters reported on Wednesday.

Meanwhile, corporate buyers targeting soccer clubs and film studios in the US and Europe have pulled back, intimidated by Beijing’s moves since early this year to curb excessive overseas acquisitions.

“We paid the deposit but decided to drop [the deal] for now as we don’t want to be made an example of during the height of the crack down,” said a senior executive with a private Chinese company, which aborted a plan to take over a US based film studio in late August.

Bankers and lawyers are also putting on hold any ongoing deals for clients engaged in industries deemed sensitive, including those in the financial service sector.

“Outbound M&A of financial institutions is less sensitive than taking over sports club or cinemas, but still, it is safer to wait for signals from the Party Congress,” said Cheng Jiamao, a partner at law firm Dentons Shanghai, adding that the wait and see approach was also recommended by regulators.

Chinese authorities have never officially banned investment in the overseas entertainment industry. However, a joint statement published last December on the website of the State Administration of Foreign Exchange (SAFE) – China’s foreign exchange watchdog – highlighted risks stemming from “irrational investment” in the sectors of property, hotels, cinemas, entertainment and sports clubs. The statement, issued by SAFE, the National Development and Reform Commission, the Ministry of Commerce, and the People’s Bank of China, said this conveyed a “discouraging” attitude from Beijing.

Moreover, following loan checks in June on China’s most active asset acquirers and the top-down order to suspend funding to China’s top property developer Dalian Wanda Group’s overseas projects, deal makers are getting nervous.

In early August, the State Council issued guidelinesintended to “further guide and regulate” outbound investment, in which the five sectors highlighted by SAFE were classified as “restricted”.

Following the curbs, China’s outbound merger and acquisition (M&A) deal value significantly declined from a record high in 2016, and was down 43 per cent year on year by the end of August, to US$80.7 billion.

Despite the plunge, 2017 numbers are still significantly higher than the comparable period in 2015 (US$48.9 billion), according to data from Mergermarket, indicating that Beijing has not managed to put an end to Chinese companies’ desire to seek acquisition targets abroad.

In contrast to former top buyers such as Wanda and Anbang, which have been walking away from deals following the crack down, cross-border deals in strategic sectors, which include infrastructure projects on the Belt and Road route, and anything involving cutting edge technology, are getting the green light to continue.

In the guidelines issued mid August, authorities encouraged outbound investment in six sectors including infrastructure, industrial and equipment, high tech and advanced manufacturing, energy, agriculture and service sector.

“The new rules from the State Council codified what we’ve been seeing already in our experience this year,” said Lian Lian, head of China M&A at JP Morgan.

“China is open for business, but it will take time for overseas sellers to realise that this is the case. What would help would be a few larger successful deals to help demonstrate this.”

China’s overseas buying spree will gather pace, despite weaker yuan

Beijing has also been encouraging large infrastructure projects like those linked to the Belt and Road, even though these are complicated by their long investment cycle. As such the approval process for Belt and Road infrastructure projects is a lot smoother, according to Cheng of Dentons.

Chinese-led outbound deal volume in Asia sharply increased to 133 for the first half year from 95 in the same period last year, “partly influenced by Belt and Road related investment”, according to an August report issued by PwC.

However, some observers caution that it will take time to see whether the new direction works from an economic perspective.

“Beijing belatedly discovered firms had undertaken real risk, with excessive leverage and overly complex structures when shopping overseas ... but regulators may solve today’s problem by sowing the seeds of tomorrow’s problem,” said Brock Silvers, managing director at Kaiyuan Capital, a Shanghai based financial advisory firm.

“Focused investments in infrastructure or assets that can be even tangentially linked to the Belt and Road Initiative will be shown more favour, especially if they generate Chinese employment or require less leverage than prior deals. But it is more politics than business, and politically-driven investment often yields substandard long-term returns,” he said.

While most investment in infrastructure have been in Belt and Road countries, “we’ve also seen acquisitions outside these areas, such as in ports in West Africa and ports and airports in Latin America,” said Henry Tillman, chief executive of Grissons Peak, a London based investment bank.

In early September, China Merchants Port announced it would buy a 90 per cent stake in TCP Participações, the operator of Brazil’s second largest container terminal.


Besides deals seen supporting the Belt and Road initiative, companies have found that outbound investments targeting critical technologies are also likely to win stronger support from Beijing.

Wu Yifang, CEO of Fosun Pharma, the medical arm of Chinese conglomerate Fosun International, said the company would only pursue overseas deals that were “in line with national policy”, adding that it had “no problem transferring money outside China”.

Wu’s comments came after the company joined state-owned Shanghai Pharmaceuticals to jointly bid for a stake in US speciality drug maker Arbor Pharmaceuticals in August.

Fosun Pharma bought Israeli cosmetic laser equipment manufacturer Alma Lasers in 2013 and two years later it acquired US biotech company Ambrx along with other Chinese investors. Then in April this year it acquired a major interest in Breas Medical Group, a Swedish manufacturer of home care ventilation and sleep apnoea devices.

But it hasn’t all been smooth sailing for Fosun Pharma. It is currently waiting on approval for its US$1.1 billion deal to buy India’s Gland Pharma, a deal announced last year before being put on hold by Indian authorities, which cited concerns over foreign ownership of one of the country’s export quality medicine producers.

The ‘Belt and Road’ projects China doesn’t want anyone talking about

The industrials and chemicals industry was the most active sector in China in the first eight months, with 57 outbound deals valued at US$5.7 billion, accounting for 25.4 per cent of the country’s total overseas transactions, according to Mergermarket.

The three sectors of industrials and chemicals, technology, and pharmaceuticals made up more than half of outbound deals in the period, which was “in line with the country’s push to upgrade its manufacturing and industrial technology through the State Council’s Made in China 2025 policy,” Mergermarket wrote in a report issued in early September.

As demonstrated by the Gland Pharma deal, what is deemed “strategic” by China could be considered “sensitive” by the target market countries, and mainland Chinese companies are seeing more hurdles when investing in both infrastructure and technology in Europe and North America.

“While rules from the Chinese side have become much clearer, we are now seeing greater uncertainty about the situation in the US and Europe,” said JP Morgan’s Lian.

Two events on Wednesday added weight to this view. First, European Commission president Jean-Claude Juncker delivered a speech in which he proposed a new EU framework for investment screening, which analysts said was particularly targeted at Chinese firms. Then US President Donald Trump blocked the acquisition of Lattice Semiconductor by a Chinese backed investment fund, Canyon Bridge Capital Partners, citing national security concerns.

According to a draft version of the proposed EU regulations leaked to website Politico, the sectors that were open to review would be infrastructure, including energy, transport, space and financial infrastructure, among others, and critical technology such as artificial intelligence, robotics and semiconductors.

“In Germany there has been increased worry about Chinese investment in areas that touch on national security and advanced technology since the acquisition of Kuka last year,” said Thomas Gilles, a Frankfurt based partner at law firm Baker McKenzie.

The decline in Chinese investment into Europe that we’ve seen this year has been more a result of tighter restrictions on the Chinese outbound side, than the European side

Thomas Gilles, Baker McKenzie

The concerns have led to tighter rules on inbound investment. In June, the German parliament adjusted the law to allow authorities to stop non EU companies acquiring more than 25 per cent of a German firm on national security grounds. In addition, authorities can now review the security implications of an acquisition for up to five years after the deal has been completed, compared to the previous three month period.

“The new rules mean that companies involved in a deal need to do greater checks before going ahead,” said Gilles, though he added that the tighter regulations do not seem to have affected results.

“While it’s hard to say categorically, in my opinion, the decline in Chinese investment into Europe that we’ve seen this year has been more a result of tighter restrictions on the Chinese outbound side, than the European side,” he said.

Similarly, it is deals in the technology and infrastructure sector that are raising alarm bells in the United States.

“The Canyon Bridge case is a continuation of an ongoing trend and shows that Chinese investment in high technology industries such as semiconductors is going to be difficult,” said Shawn Cooley, a Washington based counsel at law firm Freshfields Bruckhaus Deringer.

Nonetheless, market participants sought to draw a distinction between the heightened rhetoric in the US, particularly surrounding China, and the process for reviewing deals.


Dalian Wanda’s 2012 purchase of US cinema chain AMC Entertainment would have been far more difficult under the current regulatory environment in China. Photo: AFP

“While there have been calls, especially from the US Congress, to strengthen the CFIUS review process, it’s important to keep in mind that CFIUS has enormous discretion within its current mandate to assess national security threats posed by specific transactions,” said Sylwia Lis, a Washington based partner at Baker McKenzie, referring to the Committee on Foreign Investment in the United States, which scrutinises deals for potential national security threats.

“CFIUS is a poor tool to use for trade policy because it is both a voluntary and ad hoc process. Thus, it will never be able to implement a comprehensive trade policy,” added Cooley.

Nonetheless, even if the Lattice Semiconductor decision is not reflective of broader attempts to limit Chinese investment in the US, it still suggests that the core areas of technology and infrastructure targeted by Chinese authorities may prove difficult.

The last two overseas deals blocked by US presidents on security grounds were in the semiconductor industry, but Cooley said investments in critical US infrastructure were likely to have been among those which CFIUS had advised were unlikely to receive approval. In those cases, the buyers would have likely walked away.