August 2016 – FDI Intelligence Unit of the Financial Times

Chinese outbound investment is set to hit new heights in 2016 as both M&A and greenfield investment increase at record pace. But if the room for Beijing to increase its footprint in the global market remains big, watchdogs in Western economies are intensifying their scrutiny with regard to transparency issues. Jacopo Dettoni reports. 

China's growing influence as an outbound investment powerhouse is set to touch new heights in 2016 as Chinese investors shore up what are otherwise weak crossborder investment flows worldwide. The country’s new economic phase, which has seen Beijing shift the focus from inward investment to internal demand in order to drive future growth, has set loose investors looking for opportunities abroad.

A blueprint devised of outbound investment liberalisation, a push for more internationalisation, and foreign policies such as the Belt and Road initiative, lifted many of the boundaries that had previously limited the global presence of Chinese capital, paving the way for state-owned enterprises (SOEs) as well as private players to increase their international presence through a mounting wave of M&A and greenfield investments.

If the early years of China’s 'Go Out' policy mostly concerned the control of strategic assets abroad by SOEs, its nature is much more varied today. State companies remain active in chasing the control of assets functional to Beijing’s agenda, but smaller, more independent players are also emerging as a major force as they scramble to access markets, technologies, brands and management know-how in developed economies such as western Europe. These investors bring new opportunities for local, often cash-strapped companies, but also regulatory concerns, given the low levels of transparency involved in their corporate governance. 

Chinese ODI boom

The ongoing paradigm shift of the Chinese economy, combined with a set of favourable circumstances in the global markets – particularly in the currency market, where expectations of further devaluations of the yuan are pushing local investors to hurry through investment decisions – propelled Chinese outward direct investment (ODI) figures to unprecedented heights over the past 18 months. China’s total ODI grew by annual 3.5% to a record $127.5bn in 2015, according to Unctad figures, and this total will be surpassed in 2016. Chinese announced crossborder M&A alone reached $135.3bn in the first half of 2016, already surpassing any previous full-year record, according to figures from financial markets platform firm Dealogic. 

SOEs have remained a major driver of Chinese M&A activity in 2016, with the $46.7bn takeover of Swiss agribusiness powerhouse Syngenta by state-owned ChemChina clearly the flagship deal of the current Chinese M&A season.

“The overall challenge in the country is to make SOEs more competitive,” says Henry Tillman, CEO of London-based merchant banking firm Grisons Peak. “It’s very hard to make such companies more innovative. It’s easier to purchase the technology and the know-how elsewhere and bring it back. Besides, SOEs have little international experience in corporate governance, they are desperate for international management experience, and they buy also to keep the management in place.”

Private drivers

However, taking the Syngenta deal out of the picture (regulatory clearance in main markets such as the US is still pending), M&A deals involving Chinese SOEs amounted to only 11% in the first half of 2016, according to Grisons Peak estimates. Private companies stood out as the main driver of the market.

“Given the domestic situation, they want to diversify away from low-margin investment in the domestic market to fetch higher yields, which is the reason why we will see more investment into Europe and the US,” says Carlos Casanova, a Hong Kong-based economist with banking group BBVA.

Europe and the US accounted for more than three-quarters of total Chinese crossborder M&A deals in the first half of 2016, Grisons Peak’s figures show. Besides, Western markets give Chinese companies a chance to further deepen their quickly evolving hi-tech know-how. Little wonder, then, that Chinese acquirers spent a record $97.9bn on global technology deals in the first half of 2016, according to Dealogic.

Chinese investors are also using global shopping to decouple their brands from the 'Made in China' image. “In China there are so many domestic brands competing with each other that companies have to acquire a foreign brand to differentiate their offer,” says Jinny Yan, chief China economist at ICBC Standard Bank.

“The appetite of the middle class is still pretty much for foreign brands. Without the additional selling point of having one of these brands in a portfolio, Chinese consumers might perceive a company as just another domestic player." ChemChina’s 2015 acquisition of Italian prestigious multinational company Pirelli is an example of this strategy in action.

Greenfield rise

Beyond M&A, greenfield investment is quickly soaring on the back of foreign policies such as the Belt and Road initiative, which gives Chinese energy, infrastructure and construction companies a privileged channel to digest abroad some of the massive overcapacity built at home in the past couple of decades.

“In sectors where they have more competency and bargaining power, such as construction, infrastructure or high-speed rail, there is space for greenfield investment,” says Mr Casanova.

Total Chinese ODI into greenfield project grew to $46.5bn in the first five months of 2016, dwarfing the previous $30.3bn record for the period set in 2015, according to figures from greenfield investment monitor fDi Markets. Belt and Road countries attracted more than half of that investment, with Chinese companies announcing massive projects such as a $14bn industrial zone in West Java, Indonesia, by Shenzhen Yantian Port Group.

Beyond such large-scale developments that piggyback the growing reach of Beijing’s foreign policy, China's most disruptive private groups in sectors such as communications or electronic components are rapidly deepening their international presence, with companies such as Huawei, the country’s largest telecommunications group, e-commerce giant Alibaba or electronic manufacturer Hisense setting up new R&D and data centres, as well as production facilities, around the globe. 

Regulatory headache

Chinese investment can be seen as a silver bullet to restart the investment cycle in mature Western economies, but it also raises many regulatory challenges, primarily regarding its ultimate degree of connection with the political establishment and thus the real agenda behind these international investments.

“We have to step back and ask what level of influence Beijing is going to have over those private companies,” says Anne MacGregor, a Brussels-based merger expert at law firm Cadwalader.

The likes of Huawei and competitor ZTE, which are among China’s most active foreign investors, “cannot be trusted to be free of foreign state influence”, a report by a US House of Representatives' Intelligence Committee stated in 2012.

“Ultimately, any company that is doing the acquiring has probably got a lot of access to cheap finance and state-owned banks. The fact that those state-owned banks have to lend to these companies is generally directed and OKed from the top of the party in Beijing,” says Ms MacGregor.

Such concerns are materialising in a growing number of Chinese crossborder deals that have eventually fallen through because they failed to secure clearance from watchdogs such as the Committee on Foreign Investment in the US. As many as nine transactions involving Chinese acquirers and representing about $30bn have been terminated, withdrawn or rejected in the past 12 months, according to analysis by Grisons Peak.

Beyond these regulatory headaches, China still has a long way to go to fulfil its ODI potential. China's total ODI stocks stood at $1000bn at the end of 2015, a record level for China, but representing only 9% of its GDP, much lower than in mature economies such as Japan (30%), the US (33%) or Germany (54%). BBVA estimates that China’s current stock of ODI may even be 25% lower because official figures are inflated by round-tripping and offshoring operations. As the Chinese economy evolves, the gap between China and more mature economies will quickly close, creating opportunities, as well as challenges, for markets and regulators all over the globe.