[WSJ] China’s M&A Gate Still Isn’t Wide Open

By Alison Tudor

Acquisitions of Chinese companies are running at a record high as foreigners look to tap into the country’s growth. But bankers say doing deals in the world’s biggest emerging market isn’t getting any easier.

Despite some recent high-profile mergers and acquisitions, the chance to buy control of a Chinese company remains rare. Foreigners are paying a full price for a presence in an economy growing at more than 9% a year, and politics can often derail otherwise attractive deals.

At US$28.4 billion so far this year, the value of foreign companies’ purchases of Chinese firms has grown to an all-time high for the period, according to data provider Dealogic. But less than half of these 439 deals involve a transfer of control. In fact, many consist of foreigners acquiring just a sliver of the Chinese company as a financial investment with no say over operations.

In cases where control is at stake, foreign buyers are taking over Chinese assets from foreign sellers. The two largest takeovers—Joy Global Inc.’s US$1.4 billion bid for China’s International Mining Machinery Holdings Ltd. and Nestlé SA’s US$1.7 billion offer for 60% of Chinese candy maker Hsu Fu Chi International Ltd.—fall into that category. Hong Kong-listed International Mining is controlled by New York-headquartered private-equity firm Jordan Co., while Singapore-listed Hsu Fu Chi was founded by the Hsu family from Taiwan, which still owns a significant stake.

“Ownership is already in foreign hands, which makes it much more likely these deals will be approved,” said Colin Banfield, head of Asian-Pacific M&A for Citigroup Inc.

Winning regulatory approval is one of the biggest barriers to a takeover in China. The government blocked a bid by the U.S.’s Carlyle Group for state-controlled Chinese construction firm Xugong Group in 2008. It also scuttled Coca-Cola Co.’s planned purchase of Huiyuan Juice Group Ltd. in 2009.

Another big problem is finding willing sellers. “The retail, pharmaceutical and consumer goods sectors, which interest foreign companies most, are dominated by the domestic players,” said Zhang Liping, chief executive officer of Credit Suisse in China. “The few foreign owners are not willing to sell.”

The range of opportunities is further restricted by the size of most Chinese companies and their shareholder structures. Most of China’s privately owned companies are relatively small, at barely more than a decade old, and are still run by their founders.

“Chinese companies nearly always have a major shareholder, an entrepreneur usually in his forties, and the company is his baby,” said David Chin, head of investment banking in Asia for UBS AG. “The successful ones can get financing, via public markets or bank loans, rather than selling out.”

If there is a deal to be had, it is often pricey compared with transactions in developed countries, or the business in question is struggling.

“Emerging market deals come at a price,” said Citigroup analysts in a note about Nestlé’s bid. Nestlé is paying 20 times Hsu Fu’s 2010 earnings before interest and taxes, a price that fully reflects China’s growth-market status, they added.

Politics may end up forcing buyers out even after the deal is completed. U.S. investment firm Blackstone Group LP has sold its stake in Dili Group Holdings Co., an operator of wholesale markets for agricultural produce, because it became too politically sensitive for a foreign firm to own a food-related company at a time of high inflation, said a person familiar with the matter. The portfolio company would have found it difficult to raise prices if Blackstone was a shareholder. Blackstone paid about US$190 million for its minority stake in Dili last year, he added. It wasn’t immediately clear if Blackstone booked a profit from the sale.

There are reasons to expect M&A in China may get easier. China faces political pressure to open up to foreign investment and is keen to avoid a tit-for-tat scenario where Chinese companies’ deals overseas are blocked by foreign regulators, say bankers.

A few deals have already won approval, including Diageo PLC’s takeover of a Sichuan maker of white spirits, an alcoholic drink, announced last month while Chinese Premier Wen Jiabao was visiting London. The British liquor giant agreed to pay about 140 million yuan (US$21.7 million) to increase its stake in Sichuan Chendu Quanxing Group Company Ltd. to 53% from 49%.

But for now, bankers remain prudent about future business. “As China becomes more important in the global order, transactions will increase, but one should still be very, very cautious and not believe that the gate is wide open,” said UBS’s Mr. Chin.

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