China’s M&A Market In Review

hand-shakeMany thanks to the team at PriceWaterhouseCoopers (PwC) for their report, M&A 2014 Review and 2015 Outlook, which provides a comprehensive summary of mergers and acquisition activity in the People’s Republic of China (PRC). The PwC review illustrates why Institutional Investor, the pre-eminent investor magazine, has called Chinese companies “The New Force In Global M&A.”

According to the report, M&A activity in China, both in value and number of transactions, surged by 55 percent last year, as 6,899 transactions totaling $407 billion were completed. By way of comparison, somewhere between 7,000 and 8,000 M&A transactions are completed every year in the United States, with deal values ranging from $700 billion in 2009 to almost $1.4 trillion in the peak year of 2007. While still not quite yet in the same league as the U.S., China is catching up fast. A few more years of 50 percent increases will quickly close the gap.

Before investment bankers leave their posts in London and New York and move lock, stock, and barrel to China, though, it is important to note that deals valued at $342.2 billion, or 84 percent of the total value of deals completed last year, were accounted for by acquisitions of Chinese mainland companies primarily by Chinese strategic buyers. Many of these deals represent industry consolidations resulting from state-owned enterprise (SOE) reform, and are completed without investment banking assistance. To the extent that investment banks are used, the local Chinese investment banking firms have a strong home court advantage. Conversely, foreign companies only accounted for about 10 percent, by value, of companies acquired here by strategic buyers.

Fortunately, overseas acquisitions by Chinese buyers are also growing, and it is in this arena where foreign investment banks have a clear advantage. In 2014, the number of cross border M&A transactions increased by 35 percent to 272, while the value of cross border M&A increased by 10 percent to $56.9 billion.

Overseas acquisitions by Chinese companies are bound to increase in the coming years as a strong China stock market is now rewarding Shanghai and Shenzhen-listed companies that implement aggressive overseas acquisition strategies. When Bohai Leasing, a PRC company listed on the Shenzhen Stock Exchange acquired Cronos Holding Company Ltd. from Kelso, a US private equity firm, in 2014, Bohai’s sales and earnings increased by 40 percent and 29 percent, respectively, but the company’s market capitalization nearly doubled, and its price earnings ratio increased by 51 percent. Bohai Leasing is not an isolated example.

Beyond the numbers, the nature of M&A activity in China is also changing. Transactions in the technology, consumer-related, and financial industry sectors are becoming more important, reflecting the development of a broader based Chinese economy. Privately-owned enterprises (POEs), as opposed to state-owned enterprises (SOEs), are playing a larger role in overseas investment by Chinese companies, with Chinese private equity funds beginning to be more active as well. While the SOEs continue to focus on overseas acquisitions in the energy and natural resource fields, the POEs are more interested in acquiring technologies and brands that they can bring back to China. For this reason, the POEs tend to favor acquisition opportunities in the developed markets like the United States and Europe.

What lies ahead in 2015? PwC expects continued strong M&A activity and a continuation of the themes established in 2014. Key drivers will be growth in domestic M&A with SOE reform a key source of larger transactions, and POE led outbound activity with increasing involvement from private equity and financial buyers. Companies in technology, financial services and consumer and retail related industries, including healthcare, education, restaurants, and consumer-related e-commerce, will be the most favored for acquisition.

One situation that has to be improved in order for a healthy M&A environment to develop in China is the current imbalance between the number of new investments made by Chinese private equity funds and the number of exits. In 2014, 1,927 new investments were made by private equity firms in China, with only 232 exits achieved — 118 by sale and 114 by initial public offering (“IPO”). Because this imbalance between new investment and exit has existed since well before 2008, there is a large overhang of private equity investments that needs to be cleared. After a 14-month moratorium on new IPOs, China re-opened the IPO market in 2014, and 58 companies were able to make their stock market debuts. With 637 IPO candidates still in the queue, however, a large increase in IPO’s is needed to provide liquidity to the marketplace.

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