M&A China

China Probe of Big Companies Could Redefine Their Role Overseas — VOA News

Leave a Comment / June 26, 2017

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China is probing the loan practices of a group of big private sector conglomerates who have been on a high-profile global spending spree over the past few years.And although the review targets only a few of the country’s most politically-connected companies, some analysts see an attempt to increase government control over the role played by the private sector in foreign markets.

“I think this is an attempt to change the direction (of) the role these Chinese companies play in the Chinese economy,” says Paul Gillis, a professor at Peking University’s Guanghua School of Management. “To align them more closely with the policies of the government and to reduce the risks that actions of these private companies could end up having a shock effect on the economy as a whole.”

Chinese authorities say they launched the probe because of worries that highly leveraged overseas deals pose risks to China’s financial system. Officials have already expressed worries over mounting debt among Chinese lenders, some of which may remain hidden by China’s opaque lending networks.

Notable companies targeted

According to media reports, the list of companies under review is a relative who’s who of Chinese enterprises.

Among those reportedly targeted are Dalian Wanda, which owns the AMC Theaters chain in the United States and has been actively courting deals in Hollywood. High-flying insurance company Anbang, which owns New York’s Waldorf Astoria and Essex House hotels. Also on the list is Hainan Airlines, which bought a 25 percent stake in Hilton Hotels last year and another insurance company Fosun, which owns Cirque de Soleil and Club Med.

Over the past few years, China has seen massive amounts of capital moving overseas with companies and wealthy individuals buying assets abroad. Authorities began taking steps late last year to tighten controls. But many big conglomerates view foreign investment as a golden opportunity – given the low global interest rate environment – and worth the risk of highly-leveraged investments.

Peking University’s Gillis says it appears the Chinese government is coming to terms with how to effectively regulate private enterprises, companies that behave more aggressively than their state-owned counterparts. But he also sees the move as a further consolidation of power by President Xi Jinping, bringing companies more under the control of the central government.

“I think many of the companies had a pretty favorable treatment from prior administrations, and I think Xi Jinping is less enamored of these large private companies than some of his predecessors were.”

Expensive acquisitions by companies like Wanda and Anbang have thrust China into the global spotlight. But the news and commentary that followed the companies’ mega-deals has not always been positive.

FILE - People walk past an entrance to the Anbang Insurance Group's offices in Beijing, June 14, 2017.

People walk past an entrance to the Anbang Insurance Group’s offices in Beijing, June 14, 2017.

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In some cases, the deals have given China a black eye, says Fraser Howie, author of the Red Capitalism: The Fragile Financial Foundation of China’s Extraordinary Rise. Anbang’s attempt last year to purchase Starwood Hotels is one example, he says.

“This is high profile, global Bloomberg headline, Chinese company buys Starwood Group, next week it’s all off because the funding was never there, the due diligence could never be completed there, it made all Chinese bidders look horrible,” said Howie. “It looks dreadful for the party and for the leadership that these private entrepreneurs are running out there and yet China as a country is being impacted by it.”

Earlier this month, the head of Anbang was the latest to be swept up in the ongoing financial crackdown.

Regulating private spending?

Authorities so far have not said specifically what the targeted companies may have done wrong, if anything. Some analysts argue that the probe is just a part of a process that began six month ago to curtail the flight of capital from China.

“If cross-border M&A deals make sense, if they deliver strong returns, then there should be no problem either for bankers or those doing the buying. But, if Chinese groups overpay and get the money to do so from Chinese banks providing risky or underpriced loans, then Chinese regulators have an obligation to step in,” Peter Fuhrman, Chairman and Chief Executive Officer of China First Capital tells VOA in an emailed response.

Others see a deeper message about Xi Jinping’s view on the role that private companies should serve broader national goals.

Howie says the probe challenges assumptions about the role of private enterprises in China.

“If anyone ever thought these companies were truly private in the sense of being independent or beyond government reach. Clearly that was never true,” he says. “Everyone operates at the discretion of the Communist Party, even if you’ve done nothing wrong and clearly even if you are wealthy.”

 

https://www.voanews.com/a/china-probes-big-comanys-overseas-loan-practices/3913190.html

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Alibaba grabs the IPO money but the future belongs to Jeff Bezos and Amazon China

4 Comments / October 3, 2014

Amazon China & Alibaba

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Alibaba Group should next week collect the big money from its NYSE IPO. But, Seattle’s Amazon owns the future of China’s $400 billion online shopping industry. Amazon’s China business is better in just about every crucial respect: customer service, delivery, product quality even price when compared to Alibaba’s towering Taobao business. Hand it to Jeff Bezos. While few have been watching, he is building in China what looks to me to be a better, more long-term sustainable business than Alibaba’s Jack Ma.

Amazon’s China business fits a familiar pattern. The company is often mocked for keeping too much secret, investing too much and earning too little. In China, far away from the Wall Street spotlight, Amazon has invested hugely, with a long-term aim perhaps to overtake Alibaba and become a dominant online retailer in the country. But, it has zero interest in letting its shareholders, competitors, or the world at large know what it’s doing in China. Open the company’s most recent SEC 10-K filing and there are three passing mentions of China, and nothing about the size of its business there, the strategy.

Amazon shareholders may well wake up one day and suddenly find Bezos has built for them one of the most valuable online businesses in the world’s largest e-commerce market, the only one not owned and managed by a Chinese corporation. No rickety and risky VIE structure, unlike Alibaba and virtually all the other Chinese online companies quoted in the US.  (Read damning report by US Congress investigators on these Chinese VIE companies here. )

Jeff Bezos has been in the online shopping business from its genesis, in 1994. He first got serious in China ten years later, by buying a small online shopping business called Joyo in 2004. Taobao was founded by Jack Ma a year earlier. Within three years Taobao had demolished eBay’s then-lucrative China online auction business, by making it free for sellers to list their products on Taobao. Buyers and sellers both pay Taobao zero commission. It earns most of its money from advertising. EBay China closed its doors in 2006. Since then, Alibaba has grown from about $170mn in revenues to over $6 billion in 2013. Approximately three out of every four dollars spent online shopping in China goes through Alibaba’s hands. Overall, online shopping transaction value is on track to exceed $1 trillion by the end of this decade.

online shopping China

The champagne and baijiu will flow at Alibaba next week. Meantime, Bezos will continue executing on his plan, begun in earnest around 2012, to first gain on Taobao, and one day outduel it in China. How? To buy from Amazon China is to see Bezos’s mind at work. He has clearly assessed Taobao’s pivotal weaknesses, and is targeting them with precision.

Taobao has done phenomenally well. But, it is much the same business today as a decade ago. It is mainly a raucous collection of individual sellers where counterfeit, used-sold-as-new or substandard goods are rife. Everything is ad hoc. Sellers can appear and disappear overnight. They charge whatever they like to ship you your merchandise. Try to return things and it can be anything from complicated to impossible. Most payments are processed by Alipay, a business with similar ownership to Alibaba, but not fully consolidated as part of the IPO. Alipay tries to act like an impartial escrow service between Chinese buyers and sellers who too often seem to be out to try to cheat one another.

Taobao is a product of its time, a China where getting stuff cheap, of whatever origin, authenticity and quality, was paramount. It’s also been a great way to create an army of small entrepreneurs in China, eight million in total, with their own shops selling merchandise to over 200 million different individual customers on Taobao. But, Chinese are much richer and more discriminating today than ten years ago. They are getting richer by the day. The larger trends all point in Amazon’s favor.

Here’s why. When you buy things on Amazon China, you mainly purchase direct from Amazon, not from individual sellers. As in the US, Amazon China sells a full range of merchandise not just books. While it has far fewer items for sale than Taobao, it does many things that Taobao cannot. First, it has its own nationwide delivery service. Where I am in Shenzhen, I get delivery the next morning from a guy in an Amazon shirt with his electric motorcycle parked on the sidewalk in front of my building. You can either pay online by credit card, or pay the delivery guy in cash, COD. Delivery is free and reliable. Parcels are professionally packaged in Amazon boxes and generally arrive in mint condition. It’s a limousine service compared to Taobao.

Stuff ordered on Taobao can take days to arrive, and is sent using any of a group of different independently-owned parcel delivery companies. They don’t accept returns, or cash, and often in my experience as a Taobao customer for the last five years the parcels arrive pretty badly roughed up. The Taobao sellers do their own packaging, sometimes good and sometimes no, usually with boxes rescued from the trash, then call whichever parcel company offers them the cheapest rate. The seller usually takes a mark-up since delivery on Taobao is generally not included.

Amazon China is putting its brand and reputation behind everything it sells. This provides a quality guarantee that no individual seller on Taobao can match. I’ve also found over the course of the last year that prices for similar items are often now cheaper on Amazon than on Taobao. How so? For one thing, unlike the Taobao army, Amazon can use its buying power to extract lower prices and better payment terms from its suppliers. Taobao has a subsidiary business called TMall, where major brands directly sell their products. Here at least there should be no worries about the quality and authenticity of what’s being sold. But since each brand manages its own store on TMall, the prices are often higher than on Amazon China. Delivery is also less efficient, in my experience.

What does Taobao still do better than Amazon China? Its website seems a bit easier for Chinese to navigate than Amazon China’s, which looks and acts a lot like the main Amazon website designed and managed in Seattle.

As Bezos’s shareholders know well and occasionally grumble about, he loves spending money on warehouses, shipping technology and other expensive infrastructure. The China business is a marvel of its kind, a kind of “Bezosian” tour de force. The scale and complexity of what Amazon China are doing is formidable. Bezos started and prospered originally with a no inventory business model, letting outside wholesalers hold and so finance the inventory of books he was selling online.

In China, Amazon must stock huge inventories to get products delivered to customers overnight. Where these facilities are and how much Amazon has spent is beyond knowing. Anything I buy on Amazon China — most recently three books, an electronic garlic-mincer and some ceramic carving knives — is delivered to me next day, within about 15 hours of when I ordered it. In a country China’s size, where moving things around long-distance by truck as UPS and Fedex do in the US is difficult and expensive, Amazon has apparently invested in a large nationwide distributed network of warehouses to hold all this inventory. Whether these are owned by Amazon or third parties is also not disclosed. But, it all works smoothly. I get what I order quickly and efficiently, direct from Amazon’s own liveried delivery team, at prices Taobao can’t match.

Every delivered package drives home the message how much faster, cheaper and more reliable Amazon China is compared to Taobao. Try us once, Bezos seems to be saying here in China, and you’ll try us again.

Amazon China delivery guyCan Amazon China be making any money here? My guess is No, that the current operation in China is a big money sink. How big? China’s other big online shopping business, JD.com, which went public earlier this year and has a business model more like Amazon China than Alibaba’s, is losing money every quarter. (Nonetheless, it has a current market cap of $40bn.)

Alibaba, by contrast, is making money hand-over-fist, Rmb8 billion ($1.3bn) in net income the last quarter of 2013. To get noticed, those eight million individual Taobao sellers, as well as TMall brands, need to pay more and more to Taobao for ads and preferential placement.

Longer term, though, the Taobao ad-supported model looks ill-adapted to where China is headed. Traditional store retailers in China are getting slaughtered by online competitors. Among those online players, it seems likely business will shift to those that can guarantee quality, authenticity, easy product returns and efficient next-day-delivery. That describes Amazon.

One reason it’s crazy to bet against Bezos is he has shown no compunction about using shareholder money to build a business that can only start to make real money in ten maybe fifteen years. Jack Ma has no such luxury, especially now that Alibaba will be quoted on the NYSE. Alibaba is not likely to attract the kind of patient shareholders drawn to Amazon.

This is perhaps one reason why Ma has been out spending a huge pile of Alibaba money buying into all kinds of businesses to tack onto Alibaba. These include US car service Lyft, messaging business Tango, and all sorts of domestic Chinese businesses, including a big slice of China’s Twitter, Weibo, the digital mapping company AutoNavi,  16.5% of China’s YouTube knockoff, NYSE-quoted Youku and a Hong Kong-quoted film studio that seems to have been cooking its books. He also bought control of a professional soccer team in China, hoping to upgrade the much-maligned image of the domestic game. Add it up and it looks like even Ma isn’t fully convinced Taobao will be able to keep spinning money for years to come.

His most successful recent venture begun last year is an online money management business called Yuebao that pays Chinese savers about 4% on deposits, compared to the less than 0.5% offered by local Chinese banks. As of early September, it had Rmb574 billion, nearly $100 billion, under management. This business is not included in the Alibaba entity going public in New York. That points up another worrying aspect of Jack Ma’s business style. He has shown a proclivity to put some of the more valuable assets into vehicles that only he, rather than the shareholder-owned company, controls. Yahoo! and Japan’s SoftBank have some bitter direct experience with this.

How far can Bezos go in China? After all, he doesn’t speak Chinese and doesn’t seem to visit China all that often. Can a kid from a Miami high school really build a better China business than scrappy Hangzhou-native Jack Ma? One pointer is that the most successful traditional retailers are now mainly foreign-owned and managed. Domestic retailers couldn’t adapt to this new era of rampant low-price online competition. But, Zara, H&M and Sephora are all thriving here. They, too, focused on details often overlooked here, like good customer service, no-questions-asked return policy, competitive prices and great merchandising.

Alibaba’s market cap next week, after its biggest-of-all-time IPO, may temporarily overtake Amazon’s, at $160 billion. But, make no mistake, Amazon will likely prove the more valuable business over time, both in China and globally.

 

China M&A: Three Recent Deals

Leave a Comment / June 4, 2013

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In the last month, three large takeovers were announced involving Chinese companies. In two of these, PE buyout firms (CITIC Capital and Blackstone)  are offering to take private Chinese companies (AsiaInfo-Linkage and Pactera) quoted on the US stock exchange. In the third, a Chinese acquirer (Shuanghui International) has offered to purchase all shares of US pork producer Smithfield Foods.

I’ve done a quick comparison of these deals across a range of financial variables — premium offered to current shareholders, p/e ratio, profit growth, last two years’ share price performance. I’ve also offered my own judgment on the risks and the industrial logic of the deal, on a scale of 1-10.

The results: the troubled deals, the ones with the highest risks and deepest uncertainties about future performance, with the most anemic share prices up to the date of the offer, with claims or investigations of accounting fraud, with the least industrial logic, are commanding the higher price.

Ah, the Mysterious Orient.

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Correction: I wrote this article based on the first day’s English-language media coverage of the Smithfield-Shuanghui International takeover. Big mistake. I took at face value the media’s account that this was a merger between China’s largest pork producer and America’s. Turns out the coverage was wrong, and so my conclusion was also. In the software business, it’s called GIGO, “Garbage in, garbage out.” The Smithfield-Shuanghui deal is every bit as precarious an LBO as the other two. The only improvement is that the target company, Smithfield, is a better and more transparent business than AsianInfo-Linkage or Pactera. For the real situation on this Smithfield deal, see this blog post.

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China’s GPs search for exits — Private Equity International Magazine

Leave a Comment / May 24, 2013

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Chinese GPs are running low on exit options, but the barriers to unconventional routes – like secondary sales to other GPs – remain high.

By Michelle Phillips

China’s exit woes are no secret. With accounting scandals freezing the IPO route both abroad and domestically, the waiting list for IPO approval on China’s stock exchanges has come close to 900 companies.  Fund managers have at least 7,550 unexited investments worth a combined $100 billion, according to a recent study by China First Capital. However, including undisclosed deals, the number of companies could be as high as 10,000, says CFC’s founder and chairman Peter Fuhrman.
CITIC Capital chief executive Yichen Zhang told the Hong Kong Venture Capital Association Asia Private Equity Forum in January that because many GPs promised high returns in an unrealistic timeframe (usually three to five years), LPs were already starting to get impatient. He also predicted that around 80 percent of China’s smaller GPs would collapse in the coming years. “The worst is yet to come,” he said.
What ought to become an attractive option for these funds, according to the CFC study, are secondary buyouts. Even if it lowers the exit multiple, secondaries would provide liquidity for LPs, as well as potentially giving the companies an influx of cash, Fuhrman says.

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Private Equity Secondaries in China: Hold Periods, Exits and Profit Projections

Leave a Comment / April 11, 2013

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How much do you need to invest, how much profit will you make, and how long before you get your money back. These are the investment variables probed in China First Capital’s latest research note. An abridged version is available by clicking here. Titled, “Expected Returns: Hold Period, Exit and Return Projections for Direct Secondary Opportunities in China Private Equity” the report models both the length of time a private equity investor would need to hold a secondary investment before exiting, and then charts the amount of money an investor might prospectively earn, across a range of p/e valuation levels, depending on whether liquidity is achieved through IPO, M&A or sale after several years to another investor.

This new report is, like the two preceding ones (click here and click here) the result of China First Capital’s path-breaking research  to measure the scale of the problem of unexited PE investments in China,  and to illuminate strategic alternatives for GPs investing in China.  China First Capital will publish additional research reports on this topic in coming months.

As this latest report explains, “these [hold period and investment return] models tend to support the thesis that “Quality Direct Secondaries“  currently offer the best risk-adjusted opportunities in China’s PE asset class.”  Direct secondary deals involve one PE firm selling its more successful investments, individually and usually at significant profit, to another PE firm. This is the most certain way, in the current challenging environment in China, for PE firms to return capital plus a profit to the LPs whose money they invest.

“Until recently,” the China First Capital report points out, “private equity in China operated often with the mindset, strategy, portfolio allocation and investment horizon of a risk arbitrage hedge fund. Deals were conceived and executed to arbitrage consistently large valuation differentials between public and private markets, between private equity entry multiples and expected IPO exit valuations. The planned hold period rarely extended more than three years, and in many cases, no more than a year.  Those assumptions on valuation differentials as well as hold period are no longer valid.”

There are now at least 7,500 unexited PE deals in China. Many of these deals will likely fail to achieve exit before the PE fund reaches its expiry date, triggering what could become a period of losses and dislocation in China’s still-young PE industry. PE and VC firms, wherever in the world they put money to work, only ever have four routes to exit. All four are now either blocked or difficult to execute for China private equity deals. The four are:

  1. IPO
  2. Trade sale / M&A
  3. Secondary sale
  4. Buyback / recapitalization

Our conclusion is the current exit crisis is likely to persist. “Across the medium term, all exit channels for China private equity deals will remain limited, particularly when measured against the large overhang of unexited deals.”

Direct secondaries have not yet established themselves as a routine method of exit in China. But, in our view, they must become one. Secondaries are, in many cases, not only the best, but perhaps the only,  option available for a PE firm with diminishing fund life. “Buyers of these direct secondaries will not avoid or outrun exit risk,” the report advises. “It will remain a prominent factor in all China private equity investment. However, quality secondaries as a class offer significantly higher likelihood of exit within a PE fund’s hold period. ”

The probability and timing of exit are key risk factors in China private equity. However, for the many institutions wishing to invest in unquoted growth companies in China, a portfolio including a diversified group of China “Quality Secondaries” offers defensive qualities for both GPs and LPs, while maintaining the potential for outsized returns.

Returns from direct secondary investing are modeled in a series of charts across a hold period of up to eight years. In addition, the report also evaluates the returns from the other possible exit scenario for PE deals in China: a recap/buyback where the company buys its shares back from the PE fund. The recap/buyback is based on what we believe to be a more workable and enforceable mechanism than the typical buyback clauses used most often currently in China private equity.

Please note: the outputs from the investment return models, as well as specifics of the buyback formula and structure,  are not available in the abridged version.

 

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A Practical Guide for M&A deals for Chinese Bosses

Leave a Comment / April 7, 2013

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Illustration from 中国企业跨境并购交易要点和流程浅析  or

 “What you need to know and do to complete an M&A deal”

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Like the smart tv or a cheap fuel-efficient automobile, China M&A is the good business idea whose time never seems to arrive. There’s basically no one in the Chinese business community, or inside Wall Street investment banks, who doesn’t agree that China’s future must include a lot more M&A deals, both cross-border and domestic. Domestic industries are highly fragmented and in need of consolidation. Chinese manufacturers need to acquire brands and technology from abroad to keep growing at home and offshore.

Think of the China M&A market as a huge pile of dry sticks soaked in gasoline. You throw a lighted match on it, expecting it to explode into a spectacular bonfire. And then… nothing. M&A activity in China remains so subdued, particularly for an economy China’s size, it is almost an irrelevancy. Can this, will this, change? I’m certainly among those who think it must, and not because it promises to someday bring in fat fees for investment bankers. M&A needs to develop as a routine means to let some entrepreneurs (and the PE investors who backed them) exit, and allow others to accelerate growth and grab market share. Both should end up benefiting China’s economy.

So, where exactly are the stumbling blocks on the path to an efficient and dynamic market for corporate control in China? There are more than just a handful, and include psychological and national factors, as well as more typical business reasons. But, one of the key problems is actually a very practical, and very solvable, one — the fact most Chinese companies don’t often have a clear understanding of how to select and assess an acquisition target, and then how, if the will is there to do something,  to actually take control of another company.

Our most recent Chinese-language research paper offers some guidance here. For those with the requisite Chinese skills, you can download a copy by clicking here or visiting the Research Reports section of the China First Capital website. The research paper is titled ” 中国企业跨境并购交易要点和流程浅析“, which I’d loosely translate as  “What you need to know and do to complete an Offshore M&A deal” .

The main readership is the +4,000 Chinese company bosses and senior management of both private sector and SOE companies we have in our database. We’re also sharing it with those whose work sometimes involves facilitating or regulating M&A deals — partners at law firms, accounting companies, PE firms, brokerage houses and government officials. This adds about another 2,000 to the list of people we sent it to.

We have a reasonable amount of experience in  — and we hope knowledge of  — M&A involving Chinese companies, representing both sellers and buyers, cross-border and pure-play Chinese domestic transactions. In other words, all four quadrants on the M&A map in China.

The contents grew directly out of our client work. It’s light on theory. We’re not trying to compete with McKinsey or business school professors. Instead, we emphasize practical steps and offer a rather stripped-down timetable of how an M&A deal might go from concept to close. Investment banks, for reasons of self-interest as well as business efficiency,  are always telling companies why and how they should do M&A. You’ll need to believe me that this wasn’t our motive. I’ve been on both sides of M&A deals as a CEO and board member in the US, both as seller and buyer of companies. Now, I sit in the middle, as a banker in China. I wanted to provide a short operational guide to Chinese CEOs on when and why M&A might make sense.

A common thread among Chinese companies looking to buy is to use M&A as a way to beef up their company’s in-house technology. One example: a client of ours  is already China’s leader in the auto electronics industry but is well behind European, American, Japanese and Korean companies in developing systems to make using a mobile phone in your car both safe and efficient. That’s a very big market opportunity in China, which is now the world’s largest auto and mobile phone market by rather large margins. This client wants to buy, rather than build, to save time, and also make sure any product they eventually try to sell to their Chinese customers works smoothly, from the beginning.

This client found a good target in Europe but then got bogged down in technology DD — how to evaluate not just the obvious stuff like patents, but the trickier domain of “company know how”.  What can be learned, what can be transferred, what can walk out the door and into the arms of a competitor? So, another area our research paper tries to both explain and systematize is the process of technology due diligence. I doubt our simplification would satisfy the partners at McKinsey or the Big Four accounting firms who often get called into do this work, and make huge sums along the way. Our operative principle here is “better to light a candle than curse the darkness”. Again, we wanted to keep it practical, for busy folks mainly engaged in running companies. With few exceptions, I’ve yet to meet a Chinese company with a specialist in-house team to do M&A.

The Chinese word for M&A is 并购 , which joins together the characters for “to combine” and “to purchase”. Theoretically, it’s an appropriate choice of words. At this point, however, with M&A still very much in its infancy in China, the main requirements are “to understand” and “to execute confidently”.  I hope this research paper goes some way towards making both more common, more certain.

 

 

M&A in China – China First Capital’s New Research Report

Leave a Comment / April 7, 2013


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CFC’s latest Chinese-language research report has just been published. The topic: M&A Strategy for Chinese Private Companies. Our conclusion: propelled by rapidly-growing domestic market and the continuing evolution of China’s capital markets, China will overtake the USA within the next decade as the world’s largest and most active market for mergers and acquisitions.

The report, titled “ 并购- 中国企业的成功助力”，can be downloaded by clicking here.

The report identifies five key drivers that fueling M&A activity among private sector companies in China.  They are: (1) a once-in-a-business-lifetime opportunity to seize meaningful market share in the domestic market; (2) the coming generational shift as China’s first generation of entrepreneurs moves toward retirement age; (3) a widening valuation gap between private and publicly-traded companies; (4) regulatory changes that will make it easier to pay for acquisitions using shares as well as cash; (5) increased access to IPO market in China for companies that have augmented organic growth through strategic M&A.

Several case studies from our work feature in the report, including a cross-border M&A deal we are doing, and one purely domestic trade sale. We take on a select number of M&A clients, and work as a sell-side advisor.

M&A in China has myriad challenges that do not often arise in other parts of the world. One we see repeatedly is that few Chinese acquirers have in-house M&A teams or investment banks on call to provide help with structure and valuation. Talking with anyone less than the company chairman is often a waste of time.

Another unique hurdle: “GIGO DD” or, more prosaically, “garbage in, garbage out due diligence.” Potential acquirers unfortunately will often start their industry research by doing a Chinese language web search using Baidu. There is a lot of dubious stuff out there that is given some credence, including phony websites and bizarre claims posted to people’s personal blogs or chatrooms.

In the cross-border deal we’re working on, several companies backed out of the process after finding Chinese companies claiming on their corporate website to make equipment identical to our client’s. This convinced these potential bidders that our client had technology and assets of little value. We actually took the time, unlike the potential acquirers, to call the phone numbers on these websites, posing as potential customers. None of the companies had any similar equipment for sale or in development. The material on their websites was bogus.

Market data from online sources is also usually specious. Few people, including lawyers, have working knowledge of how an M&A deal might impact a company’s plans for domestic IPO in China.

I’ve been inside some M&A deals in the US,  with their online data rooms, cloak-and-dagger codenames, and a precisely orchestrated bidding process. In China, the process is more unscripted.

Until recently, the only Chinese companies able and willing to do M&A were larger State-Owned Enterprises (SOE). The deals were done to buy oil and other natural resources on the stock market, or to acquire European brand names to put on Chinese-made products. Those deals include Sinopec’s purchase of shares in Canadian company Addax， CNOOC’s failed acquisition of UnoCal, TCL’s purchase of Thomson TVs and Alcatel phones, and Nanjing Automotive’s buying the MG brand.

These kind of deals will likely continue. But, in the future, M&A deals will become more numerous, more necessary for private entrepreneur-founded companies and have more complex strategic goals.

M&A is one of only two ways for founders and shareholders to achieve exit. The other is IPO. But, the number of private companies who can IPO in China will always be limited. At the moment, the number is about 250 per year. Compare that to the 70 million or so private companies in China.

The IPO process creates a special competitive dynamic in China. The first company in an industry to become publicly-traded usually has a huge advantage over competitors. They disrupt the previous equilibrium in an industry.

This means there are only two choices for many entrepreneurs. Both choices involve M&A. If you aren’t going to become a public company or a competitor has already gone public, you need to consider selling your company. If you want to become a public company,  you will need to become an expert at buying other companies.

The economic destiny of China, and many of its better private companies, is M&A.

 

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