China First Capital, an international investment bank and advisory firm focused on China capital markets and M&A transactions, has released its latest Chinese-language research report. The topic: M&A Strategy for Chinese Private Companies. China First Capital's 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 visiting the China First Capital website, Reports and Research section.
The new 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," explains China First Capital chairman and founder, Peter Fuhrman. "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 China First Capital (chinafirstcapital.com) worked 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 the 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," Fuhrman points out.
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.