Five Reasons China Outbound M&A Is a Long-Term Trend

FIGURE1During the first half of 2016, China’s outbound merger and acquisition volume of $135.3 billion surpassed the full year total for any year previously. Through June, Chinese companies accounted for 23 percent of all cross-border deals globally. It’s been a few years in the making, but 2016 is shaping up as the year in which China takes its place as one of the world’s largest mergers and acquisitions (M&A) markets.

Not only is the total deal volume increasing, but the number and size of deals out of China are also on the rise. Chinese companies are targeting at least 1,000 foreign firms for acquisition in 2016, up from 598 last year, and in terms of size, four out of the top 15 largest acquisitions ever done by Chinese companies were announced in the first half of this year alone. The largest deals announced included ChemChina’s $48 billion bid for Swiss seed maker Syngenta; Haier’s $5.4 billion offer for GE Appliances; and Midea’s $5.0 billion bid for German robotics maker Kuka. Also of note is the fact that 2016’s largest deals include industrial acquisitions made by privately owned, as well as state-owned-enterprises (“SOEs”).

The dramatic spike in M&A from China begs the question as to whether a higher level of M&A activity on the part of Chinese companies is a temporary phenomenon, or the beginning of a long term trend. There are five good reasons why I believe the latter is the case.

Reason #1 Market Diversification: It is no secret that China’s economy is slowing. Gone forever are the heady days of double-digit growth that were seen earlier in this century. For the foreseeable future, annual GDP growth will be lower, but still respectable, at a rate of between 6.0 and 6.5 percent. While China’s growth rate remains well above total global growth of 3.0 percent, the gap is closing. As a result many Chinese companies are concluding that now may be the right time to diversify their markets through overseas acquisitions.

Reason #2 Favorable Government Policies: The Chinese government wants its companies to “go out” and is actively encouraging them to become global champions through acquisition. In addition to jawboning, the China has taken specific steps to make it easier for its companies to acquire overseas. For example, regulatory revisions enacted in the beginning of 2015 eased restrictions on SOEs, which in the past have been required to obtain approvals from a variety of regulators to invest overseas. The new regulations provide that, if the purchase price is below $1 billion, and the target company’s business falls within the SOE’s primary business, regulatory approvals are no longer required. Instead, the SOE is merely required to register its transaction with the relevant officials, streamlining and removing uncertainty in the process.

Reason #3 Technology: As a country, China is moving up the value-added scale and is focused on producing higher-value added products. China no longer wants to sell tennis shoes to the world, but wants to sell sophisticated products like commercial aircraft, aircraft engines, new energy vehicles and other products made with advanced manufacturing techniques. In order to support the country’s shift toward high-end economic activities, Chinese companies are looking to overseas acquisitions as one way to acquire needed technology and know-how.

Reason#4 Currency Arbitrage: Going forward, the pressure on the renminbi will be mostly on the downside. With the yuan’s inclusion in the IMF’s basket of currencies, the renminbi is on a path to becoming fully convertible by 2020, and currency restrictions will be loosened in the process. China’s export growth is slowing, so less hard currency is coming into the country. Since 2009, China has signed bilateral currency deals with over 20 countries, resulting in a greater supply of renminbi in circulation outside China; and companies are exchanging renminbi for foreign currency in increasing amounts to fund overseas acquisition activity. With prospects for a further weakening of China’s currency, companies are seeking to acquire revenue and profit streams that are denominated in hard currencies like the US dollar through overseas acquisitions.

Reason #5: Favorable Impact On Stock Price: The market capitalizations of the Shanghai and Shenzhen stock exchanges now total almost $8.0 trillion and China’s stock markets are playing an increasingly important role in funding companies of all sizes. Chinese companies that have made overseas acquisitions have seen their stock prices rise, and in many cases, the increases in market value have been out of proportion to the relative value of the target companies. The favorable reaction by Chinese investors is a powerful incentive to managements to implement aggressive acquisition programs.

Chinese companies are entering the next phase of their development. Overseas acquisitions provide a new way for them to expand into international markets and to acquire the technology required for them to become true global leaders.

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