Q&A: Interchina Consulting's Barry Chen

Q: What do foreign companies want in terms of acquisitions within China?

A: It can be quite specific. For example, we worked with one multinational in the healthcare sector that needed a distributor in Shanghai with a particular license. There were only 170 companies that held this license so we screened them and then it was a case of finding the one with the best fit. Multinational clients have hard criteria driven by their portfolio requirements. They might say, ‘We have A, B, C and D, but we lack E,' so they know exactly what they want. If it's a niche area, we find companies with the necessary competence. Beyond that, there are soft criteria in terms of whether management has the capacity to interface and compliance issues.

Q: What challenges do they typically face?

A: Just being a global leader does not necessarily translate so well. Some multinationals have struggled in China, there is baggage, and the targets will often ask, ‘If you acquire my company, can you do it better?' Other obstacles include speed of decision making, valuations and the willingness to pay a premium for an asset, and then compliance.

Q: To what extent do you see the PE investment thesis - back a Chinese company and improve the governance and operations so that it appeals to a multinational buyer - play out in M&A situations?

A: Theoretically it's correct but in practice it is difficult. My experience is that some private equity firms do bring about improvements in compliance and governance but for many others this doesn't happen, nothing changes - they take a 30-40% position and don't exert much influence management in terms of how a company does business. And then if a private equity firm takes a majority stake, the angle might be more about going for an IPO. We do see more and more PE portfolio companies coming up in trade sales, but valuations can be an issue. Some of these investors bought at the peak of the cycle and now the companies are struggling, so how can you get a reasonable return?

Q: What is the split between your inbound and outbound work?

A: We undertake roughly 40 outbound mandates per year, but in terms of deal volume it is 80% inbound and 20% outbound. In terms of value, it is difficult to judge - some of the outbound deals are very large. At the moment we have a couple of outbound deals in the pipeline that are above $1 billion in value, whereas for inbound transactions the median value is around $100 million.

Q: Why does this disparity exist?

A: It's mainly because the larger domestic targets are either too expensive or unavailable. If you look at the public equity markets, Chinese companies are still seen as overpriced and this can skew valuation expectations. As for availability, in overseas markets there are more companies up for sale - because there is a larger number of PE firms willing to trade assets or there is less sentiment on the part of the sellers. With Chinese companies, you have to get over that hurdle. Some really are not looking for a solution, they're not trying to sell.

Q: There has been a huge spike in outbound deal flow, but how much of this is opportunistic rather than strategic?

A: A big portion of that activity is probably opportunistic. Companies are interested and they make announcements, but many are waiting for bankers to bring ideas to them. They might not have teams in place to manage assets. Others that are more serious are beefing up their internal teams and have professional people managing processes. These companies tend to be fairly clear about their strategy; they are not influenced by what their peers are doing or going overseas purely because they think the assets are cheaper and conditions are easier than in China. Buying revenue is big motivation, particularly for listed companies. It's the same game the multinationals play - looking for topline growth.

Q: In which sectors do you see most activity?

A: You hear a lot about healthcare, vitamins, food brands, and tourism. For some reason, sport has also become a hot area. One area you don't read much about is software technology; we see a lot of activity there.

Q: Regulation and integration have long been obstacles for Chinese companies going overseas. Is this still the case?

A: Most Chinese buyers, when they enter into these large deals, have good advisors. They are sensitive about the approvals but sometimes they have willing to take a bet. As for integration, many buyers don't want to change much in the near term. In one deal we were advising on, the Chinese company said there would be 2-3 years of zero integration, with the overseas business running as it is - there was no talk of closing down operations in North America or Europe, so it was very complementary. They planned to introduce overseas training gradually and integrate from there. In another deal we worked on in the printing space, which did not end up consummating, the Chinese party was considering not maintaining the target company's site in Europe. That would have presented a big integration task.

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