Monday, October 18, 2004
China M&A
MIHALCA ON CHINA
Matei Mihalca / New Delhi October 18, 2004
In the last year, mergers and acquisitions activity has picked up in China. Foreign companies have become more and more interested in snapping up Chinese assets.
The first hostile bid ever took place when Anheuser-Busch fought with SABMiller over Harbin Brewery, the country's fourth largest. Global banks have also bought shares in Chinese banks, many of which plan to list and desire world-class strategic partners for that reason and also for general upgrading purposes.
Private equity activity has picked up, too, following some high-profile successful exits, marking a break with the past. In the Internet space, eBay, Yahoo!, Google, Amazon, and Japan's Rakuten have all bought stakes in, and in some cases complete control of, Chinese companies. Many people have become very wealthy as a result.
But M&A in China remains difficult. It's hard to say whether this difficulty arises from the Chinese side or from the foreign buyers. To start with, Chinese sellers are few and far between.
If an asset is sold, and sold quickly at a reasonable valuation, it's safe to assume something may well be wrong with it. Stratospheric multiples are common when transactions do happen.
Anheuser-Busch bought Harbin Brewery for almost 50 times earnings, equivalent to over 5 times the book value. The best Chinese businesses don't need foreign investors, while those that do probably don't deserve them.
The Wild West nature of China's corporate landscape scares multinationals. This fright is not always warranted. A company may reveal the fact that it keeps several books, for tax "minimisation" purposes, in front of local officials tasked with attracting foreign investment.
If managements casually do so, then surely the aforementioned hanky panky is not a mortal crime. Fundamentally, the relationship between a corporate entity and China's authorities is not set in stone. The letter of the law is strict, but implementation is flexible.
One may call this approach haphazard but there are certain rules at work: egregious offenders are tackled first. These are companies that completely ignore common sense and their responsibilities.
Those who ignore building a relationship with the authorities are also more likely to be targeted than those who are more proactive and communicative.
But almost any local company deviates in one respect or another from the law, whose requirements are often at odds with one another. This is an important point to remember.
The key for a company is what to comply with and how (i.e. to what extent), and obtaining a tacit approval for the choices made.
One question arising from this state of affairs is this: Does being acquired by a multinational lower the competitiveness of a Chinese enterprise because of new regulatory compliance (domestic but also foreign-think of Sarbannes-Oxley), especially since local competitors are less likely to be burdened with such requirements?
In other words, is being acquired by a foreign company a good thing? The answer may not be straightforward.
Chinese entrepreneurs recognise this ambivalence and they are generally unwilling to give up control anyway. Neither are they used to the intrusive due diligence and adversarial negotiating style of an acquisitive multinational.
Almost always, the scale and scope of due diligence comes as a surprise. The practices, processes, and procedures of multinationals rightly inspire shock and awe.
The playing field is seldom level in such situations: on one side of the table, large corporate teams and multitudes of advisors; on the other, often a single person, the founder and operator of a business. In many transactions in China, certainly in those below $100 million in value, the Chinese party seldom employs legal or financial advisors.
While this can be described as a self-imposed inequity (it's always a good idea to employ professional advisors), there are also built-in imbalances in such a situation.
The Chinese party can generally make decisions on the spot, while the representatives of a multinational typically need to refer back to headquarters for input on major matters.
These "major matters" are seldom the same as those perceived as such by a local Chinese company. Add cultural dimensions to this mix and the result can be combustible. But mergers and acquisitions do happen, just as there are happy marriages, though men may be from Mars and women from Venus.
Cross-border M&A, therefore, is a window to human nature: Can very different people get along? I am a pessimist about human nature in general, believing it to be imperfect at least, but I also believe in the capacity of rational, well-intentioned people to get along, despite obvious challenges.
Put some people in a room, even people from radically different backgrounds, and they will end up understanding each other and coming up with a mutually agreeable solution. One cannot believe otherwise and continue to work in any cross-border business.
Emotionally, a Chinese company approaches the M&A process with demands, whether explicit or implicit, for equality and respect. A company isn't "selling" itself, or its shares; managements are not "selling out". The correct nomenclature is "cooperation", and the buyer and the seller are supposed to be on an equal footing.
This vision is not outrageous since the sellers often do retain a stake in the business, and continue to operate it, even after an acquisition. It is a naïve multinational indeed that believes it can buy a business in China and replace its management with its own people. Whatever the contracts say, the success of an acquisition in China depends on the goodwill of the Chinese party.
Yet, despite the importance of this goodwill, multinationals find it difficult to afford due respect and equal status to a Chinese company which is selling its equity. The notion of "the customer is always right" seems too ingrained in the Western psyche. I buy, therefore I am right.
I buy, therefore you do as I say. I am making you rich; what else do you want? The fact, however, is that between wealth and respect, a Chinese entrepreneur (who is already wealthy to a certain degree if the business has been successful) will choose respect over further wealth. Most of the demands for respect and equality can be addressed through cosmetic measures but multinationals also need to be aware of the fundamental psychology behind these demands.
But, again, it is intrinsically difficult for a white MBA multinational executive to put himself in the shoes of a Chinese entrepreneur or cadre, even if the effort is there. Empathy is a rare quality among all of us.
It is useful to compare what is happening in China with the example of Central and Eastern Europe, where foreigners own most strategic assets like banks, telecoms, power, oil, and gas. Because the region wasn't in a good economic shape after 1989, these outside players-better managers with more cash-moved in.
(Ironically, these buyers are well-protected "national champions" in their home countries.) China, in contrast, has only allowed foreigners to buy less strategic assets. In the case of strategic assets, privatisation has been mostly to the public, not to industry players; when industry players have been allowed to acquire stakes, these have been small.
China has not relinquished control. In almost every respect, China is a seller's market, and to assume any difference is to make a mistake.
(The writer's column on Greater China appears on alternate Mondays) matei_mihalca at hotmail.com