China’s presence as one of the main players in the global investment landscape is clearly verifiable. Articles about billions of investments in European companies are read in newspapers again and again. The largest transactions in the past years included the acquisition of Logicor by the China Investment Corporation to the value of EUR 11.7 billion, the acquisition of the German energy service provider Ista by Cheung Kong Property Holding for approximately EUR 5.7 billion or the USD 43 billion record acquisition of Swiss Syngenta AG by China National Chemical Corporation in 2016.
This trend of Chinese foreign investment was triggered years ago by Chinese state-owned enterprises. Today, private companies have stepped up this trend and acquired, amongst others, hotels, fashion companies and even football teams. But just as China’s foreign investments are growing, so are the doubts in the West as to why these ambitious acquisitions are taking place on such a scale. Why are the Chinese really focusing their attention mainly on foreign countries, especially on the acquisition of European companies?
Change of perspective
I have followed the Chinese acquisition trend closely and can understand the doubts among European companies going along with these takeovers. Worries range from job losses to uncertain aspects of control following the acquisition. The mistake, however, is that European companies rarely try to look at the situation from the perspective of the Chinese. A few years ago, I heard the phrase “China has a lot of money, but we do not have time” from an influential Chinese entrepreneur. I was surprised, after all China has an enormous amount of funds that can be invested in national companies or used to finance new ventures in their own country. He was not only honest and direct, but also showed me to see the acquisition from his perspective, explaining his interests and backgrounds:
- Western know-how & technology – Chinese companies are not able to catch up with Western know-how in all industries by their own efforts, since they have high demands to build a high-tech industry
- Time factor – China does not want to waste time developing specific technologies
- Brands – In addition, building own successful brand names can be difficult and tedious – furthermore these local brands will lack the special appeal that coveted foreign brands have in China
Thus, what should the Chinese do with the funds they have available? Right answer: investments in existing and promising brands abroad.
Today, the promotion of rapid growth through strategic acquisitions abroad is one of China’s key drivers. Chinese government institutions are continuing this trend by the means of government subsidies as part of their go-out policy of diversifying the economy. The result is a strong boost for their positioning in the home market. The dominating motive for the acquisition of well-known foreign brand names and technological know-how is, above all, the expected synergy effect for the Chinese companies in China. So far, only a small percentage sees market access abroad as a dominant driver, although I expect that its importance will increase within the next five years.
Concerns on both sides
While European business leaders and politicians often express their fears about potential job losses and a shift in know-how and local R&D activities, Chinese investors do indeed have very similar concerns. Chinese investors are often concerned that the personnel of the target company could leave after the take-over due to a lack of confidence or due to fears of potential changes by the new Chinese owners. Chinese companies are aware that the loss of local management and highly skilled employees is actually a big risk.
Another problem is cultural misunderstandings, which are still an obstacle. The lack of established networks for Chinese companies in the target countries is another crucial barrier for Chinese investors looking for sustainable acquisitions.
Perhaps one of the main issues where Chinese and Europeans ultimately differ is in the company valuation approach. In general, Chinese buyers use similar methods to their Western counterparts. The key indicators for evaluating a company are discounted cash flow, market benchmarks (EV / EBITDA, P/E multiples, etc.) and empirical values from past transactions. However, some particularities should be considered. For example, Chinese decision-makers are often less familiar with valuation theories and focus more on net income than on cash flow, which increases the impact of P/E multiples.
This sometimes leads to higher valuations for companies with a good net income but an unfavourable operating cash flow. A key factor is also that the attractiveness, and thus the valuation of companies through the expected synergy effects and sales growth in the Chinese market, increases. Chinese enterprises are not investing to eliminate jobs, but to create efficient global synergies.
The difference in company valuation is certainly a positive aspect for Europe but it should not be the deciding factor. The key is to eliminate the lack of understanding on both sides and to realize that most concerns are indeed very similar on the European as well as on the Chinese entrepreneur’s side – this perspective contributes enormously to a successful M&A process.