Think Chanel, not Carrefour; the Waldorf, not WalMart. Chinese investors are increasingly fussy, plucking only the juiciest fruit in Western Europe, writes Paul Campbell
With China’s economy slowing and many assets in Europe remaining relatively cheap even as the region is starting to see the early glimmers of recovery, it’s an opportune time for Chinese buyers to be investing.
Especially since streamlined approval processes and liberal investment laws at the supranational level often combine with country-sized welcome mats laid out by national leaders such as UK Prime Minister David Cameron or Switzerland’s President Ueli Maurer.
The European Commission (EC) in December announced further streamlining of the merger approval process, raising the market concentration thresholds that initiate antitrust reviews, for example, and cutting out paperwork for takeovers and joint ventures that don’t affect European consumers. Since most Chinese buyers are relative newcomers to developed markets, their acquisitions are unlikely to lead to competition issues in the EU.
However, Chinese buyers need to be wary of assuming they don’t now need to get EC approval. The General Court on 12 December 2012 upheld a US$20 million commission fine against Electrabel, a GDF Suez unit, for failing to seek a review of its purchase of Compagnie Nationale de Rhône, even though the takeover was approved because no antitrust issues were raised, Herbert Smith Freehills lawyers Kyriakos Fountoukakos, Craig Pouncey and Julia Tew wrote in Global Competition Review 2014.
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Open door
On top of streamlined regulations, Chinese buyers are pushing against an open door in terms of sentiment. Cameron met Dalian Wanda chairman Wang Jianlin in Davos in January, where the two announced £2-3 billion (US$3.3-5 billion) of investments by the Chinese developer in UK regeneration projects. “We’re not the world’s teacher,” Swiss President Maurer said last year when commenting on why China’s first free-trade agreement with a continental European nation shouldn’t be tied to human rights issues.
“Chinese buyers will look for acquisitions that make sense, rather than make an acquisition only because it is a bargain,’’ says Vivian Tsoi, a Beijing-based partner with White & Case. “So long as good technology and world-known brands are available targets for Chinese outbound acquisition, geographic location or potential regulatory requirements are no longer the concern they once were.”
While natural resources are of continued interest to Chinese buyers, they’re increasingly looking to upgrade research and development too, says Tsoi. Furthermore, while an easing of China’s restrictions on outbound investments should lift the lid on buying, the buyers themselves are increasingly attuned to the need for more due diligence, she says.
“China needs fresh ideas and greater technological quality for the sake of its own growth,” says Lutz Zimmer, a Munich-based partner with Skadden Arps Slate Meagher & Flom.
Some European markets, however, were created more equal than others. “In our opinion, Germany definitely is one of the most favoured countries for investment in light of the solid state of its economy and its industry,” Zimmer says. “German companies are standing at the very top of their list of wishes.”
Seeking high quality
What’s changed over the past couple of years is that Chinese investors tend to be looking for high-quality companies, and are no longer fixated with “cheap” opportunities, Zimmer says. Many German companies, especially smaller and mid-sized privately held firms, collectively called the Mittelstand, are global leaders in their niche areas and represent an opportunity for Chinese buyers to acquire world-beating technology and know-how, he adds.
While there hasn’t been an explosion of acquisitions by Chinese buyers of German companies, Zimmer says he expects the pace to accelerate. About 20 German companies have been sold to Chinese investors in the past year, roughly the same pace as the year before. Still, only a few made headlines because they were mostly small and medium-sized industrial enterprises. It wasn’t that Chinese bidders weren’t competing for the few billion-dollar German deals, Zimmer says – just that they lost out. In fact, deal sizes have been sliding for two years.
Last year, the value of announced acquisitions by Chinese companies into Western Europe slumped 49% to US$5 billion, from US$9.9 billion in 2012 and US$11.4 billion in 2011, according to Dealogic. Deal numbers, however, were up: there were 69 transactions last year, from 62 in 2012 and 50 the year before that.
Flat or falling investment
Overall, investment into Europe has been flat or falling in recent years, but the flow of Chinese money has been steadily rising, says Thomas Gilles, partner and head of Baker & McKenzie Germany’s China desk. Similarly, EU-China investments have been diverging: Chinese investment into the EU rose 21% in 2012, while money flowing in the other direction fell 4%, he says. More investment has been flowing through minority stakes and portfolios.
Germany, especially, is becoming increasingly attractive for Chinese buyers. “This can be directly related to the primary reasons for Chinese companies to consider investing in Europe,” Gilles says. “These are mainly the acquisition of intellectual property and technological expertise, as well as the expansion into Europe through strategic partnerships.”
So far, Chinese investments in Germany have not been the subject of any major litigation before German courts, says Zimmer. However, there are concerns related to industrial espionage and the “loss of local technical and engineering expertise, thereby threatening the basis of the German economy”, he notes.
It’s clear that the EC’s vice president in charge of competition policy, Joaquín Almunia, is keenly aware of the need to balance IP rights with market access and competition, especially in fast-changing, high-tech industries such as telecoms and pharmaceuticals, two areas where China is increasingly competitive and focused. In June 2013, the EC fined Lundbeck, a Danish pharmaceutical company, €93.8 million (US$128.7 million) and levied a €52.2 million fine against several producers of generic medicines for agreeing to delay the market entry of cheaper generic versions of citalopram, an antidepressant. Two other probes are ongoing.
For Europe as a whole, a more strategic approach to M&A means Chinese interest is unlikely to be negatively affected by short-term economic factors.
Top of the shopping list
Nowadays, top of the shopping list are companies that offer products that are scalable in China, or that provide distribution channels in China. A good example might be Shandong-based American Lorain’s purchase of a 51% stake in France’s Athena Group – a food-processing company and one of the main distributors of Asian foods to French supermarkets.
If Germany’s relative economic stability and quality targets are major lures for Chinese buyers, France hasn’t been far behind. “They’re looking for products to satisfy some needs they cannot meet inside China, like health and safety,” says Guillaume Rougier, an M&A lawyer at Gide Loyrette Nouel in Paris who spent four years with the firm in Beijing. French agricultural products, especially dairy and wine, are attractive to Chinese buyers, he says.
In the past, Chinese buyers have been involved in a number of acquisitions of failing companies, which for any inexperienced buyer is a very difficult proposition, Rougier says. “I don’t think they’re looking for that now. They’re willing to pay the fair price; maybe even a little bit of a Chinese premium to step into the market, as long as the target is a good one.”
Still, Chinese acquisitions and investments remain diversified and driven by factors ranging from the opportunistic – such as Dongfeng Motor’s proposed purchase of a big stake in its joint venture partner, Peugeot – to portfolio-type investments in commercial real estate.
There is also a growing gap between already established firms and the newcomers to Western Europe, says Hermes Pazzaglini, a Shanghai-based partner at Italian law firm NCTM Studio Legale Associato. While first-time buyers have a better understanding of the difficulties that lie ahead of them, they often don’t know how to go about tackling them, he adds.
“In order to have a company that works properly in Italy, in France or in Spain, you have to understand how Italy, France or Spain work, how people think, what the government is like,” Pazzaglini says. “You need to send people with the appropriate mind, who are capable of managing a company in a new environment, and at the same time learn the local laws, the customs and, why not, the language. This is a step that Chinese companies need to make if they want to have a stable and significant presence in Western Europe.’’
Still some way to go
While Chinese investors are moving up the learning curve, they still have some way to go to maximise the advantages offered by Europe’s liberal M&A laws, lawyers say.
Many Chinese investors still struggle to understand the concept of contract-based transactions, viewing them as agreements “adequate for the situation”, notes Felix Egli, a Zurich-based partner at Vischer. In European tradition, “you have to adapt yourself to the contract, not vice versa”.
Unwillingness to pay for – and accept – expert legal opinion, invest in adequate due diligence or other efforts to cut corners during negotiations can backfire, Egli says. Many buyers struggle to meet Switzerland’s tough disclosure requirements, such as historical, standardised accounts. Others can struggle to provide financing for deals because they assume they can carry over instruments – such as performance bonds – from the seller’s bank.
“This is a big mistake,” he says. “No Swiss or European bank will accept a Chinese parent as a guarantor.”
Financing China’s overseas M&A may prove a spur to big Chinese lenders making inroads into European markets. As Chinese banks and other financial companies expand into Europe, they face regulatory headwinds that were whipped up in the wake of the global financial crisis.
The UK has carried out a complete revamp of its financial regulation, warns Tony Woodcock, a partner at Stephenson Harwood in London. The old Financial Services Authority was broken into two last April, but the ramifications of the changes haven’t entirely become clear. “It’s still in its infancy,” he says. “There’s still a lot of working through with how these authorities will fit together.”
The Prudential Regulation Authority looks at banks and deposit takers, oversees their capital, security, management and their potential impact on the health of the financial system in the UK, while the Financial Conduct Authority looks, at a micro level, at the way particular businesses function.
The changes put more onus on individuals to bear responsibility for regulatory breaches at their companies. If something has gone wrong, a particular officer of a company can be asked to attest that everything is alright – and if it’s not, then the individual is on the hook.
“They have become a lot more aggressive over the last three years,” Woodcock says. “The thinking is that the only way you can change behaviour of organisations is to enforce against individuals.” The greater oversight is part of a wider trend that will cover all corporations, with more focus on cracking down on international corruption – with greater co-operation between authorities across jurisdictions a trend that will only continue. Still, “there is no sign that the increased regulatory activity is putting people off”, he says.
Dalian Wanda followed its US$451 million purchase of Sunseeker International, the UK maker of luxury yachts featured in James Bond movies, with the projects announced by Cameron in Davos at the World Economic Forum. Dalian Wanda’s Wang in 2012 committed to building Europe’s biggest residential tower, on the banks of the Thames and overshadowing the new US Embassy.
Ample opportunities
With London property prices soaring, there are ample opportunities to expand into the UK’s other cities, according to DLA Piper. The firm valued the UK’s commercial real estate market at more than £560 billion last year. The improving economy has seen an uptick in transactions: 8.5% higher in October than a year earlier, DLA said in a January report. While Europe continues to be a mixed bag, ranging from Mittelstand gems and boutique Swiss hotel chains to down-at-heel distressed sellers – the biggest deal so far this year has been Fosun International’s €1.2 billion purchase of the Portuguese insurance assets of Caixa Geral de Depositos – one area that Chinese investors would be advised to keep an eye on is in the realm of European trade law, say Paulette Vander Schueren and Madelein Perrick, partner and counsel, respectively, and both customs and trade experts at Mayer Brown JSM in Brussels.
Under the EU’s anti-dumping regime, some imports may attract what is known as a lesser duty – one that is deemed sufficient to compensate for the damage caused by the subsidisation and dumping, but that is not equal to it. The EU provision is in line with the rules introduced under the World Trade Organisation, which recommend that anti-dumping duties or anti-subsidy (countervailing) duties be imposed below the full margin of dumping or subsidisation if such lesser duty is sufficient to remove injury.
EC proposal
The EC has tabled a proposal that this lesser duty would be withdrawn when the exporting country has implemented measures that structurally distort the supply of raw materials. While the commission didn’t specifically target China, it’s clear that China – think rare earths – would be one of the countries most affected. Having made the suggestion, the commission was quickly on the defensive against European parliamentarians with protection on their minds: they sent the commission back to ponder demands that the cut-outs should also include labour, environmental and other social issues.
“I don’t think you should use a commercial policy instrument as a whip, as a penalisation for other things,” Vander Schueren says. “Either there is dumping or there is not, or there is subsidy or there is not, and if there is, you have to impose the measures that are proportionate to the dumping or the subsidies, but you should not bring in the issue of penalisation of other matters that have nothing to do with dumping or subsidisation.”
Upcoming elections
It’s not clear how the debate will end, especially as upcoming elections for parliament may change the protectionist dynamics, but there are bound to be months of horse-trading ahead. The protectionist clamour in the EU adds to high-profile disputes over solar panels, wine and telecoms equipment, and continues a tradition where China might easily agree with the old US gripe – “The trouble with Europe is you don’t know who to call!”
On the trading bloc’s outskirts, things seem much clearer. Switzerland sealed a free-trade agreement with Beijing in July last year that removed tariffs on 99.7% of Chinese goods and 84.2% of Swiss exports. The pact is the first between China and a continental European nation that is one of the world’s top 20 economies.
The likelihood of a broader agreement covering the European Free Trade Area was complicated when China scrapped talks with Norway. Likewise, political logjams stand in the way of an EU-Sino agreement, according to a paper last month by the Zurich-based Centre for Security Studies. Swiss firms gained “an advantage over their European competitors thanks to a head start”, it said.
The global financial crisis has also created room for Chinese players in the world of marine financing, say Geir Sviggum, managing partner, international, at Wikborg Rein, and Kevin Borque, counsel and expert in shipping finance for the firm in Shanghai.
In the past decade, international ship and rig financing had been dominated by Scandinavian banks DNB, based in Oslo, and Stockholm’s Nordea, as well as other European banks such as Germany’s HSH Nordbank and Commerzbank. Last year, the international shipping industry was short of an estimated US$100 billion in external financing, mostly due to continental banks reducing their shipping portfolios.
“We see a trend that shows the gap increasingly being filled by major Chinese banks that are now aggressively entering the world of international ship and rig financing,” Sviggum and Borque say. And with the Chinese banks, “bigger is better”.
Financially significant
The Chinese players are normally rather uninterested unless the value of the deal is financially significant, they say. While Western banks have profit targets, the Chinese banks focus on volume, with annual targets concerning total value of deals. Chinese banks typically work with finance brokers to identify leading international targets that can help them reach their goals. Further, the Chinese players have over the past years placed a strong focus on offshore assets as part of the internationalisation of the country’s finance sector. The Chinese banks did their first international deals in syndicates with experienced Western banks.
More recently, they have completed traditional financing deals directly with international owners. ICBC Leasing, a unit of China’s biggest bank, last year financed the largest shipping deal to date. While the rapid development of Chinese players is narrowing differences with Western banks, gaps remain.
Chinese banks can take twice as long to complete deals. Communication is also a challenge, and Sviggum and Borque both recommend engaging a finance broker with combined Chinese and Western capabilities. “It is strongly advisable to engage with such middlemen when dealing with Chinese financial institutions, or – as many still do – include a role for your bankers from back home also in China.”
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