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Dealmaking in China & Protectionism

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Storm clouds have gradually moved over the economic landscape, in the form of tariffs. The U.S. has targeted the European Union, Canada and China with policies aimed at counteracting what the president sees as unfair trade practices. The targeted countries have responded with tariffs of their own on U.S. goods— and more import duties are being planned. Ripple effects are being felt throughout the world economy.

To find out how deal practitioners are responding to the changes in global trade, Mergermarket on behalf of Toppan Vintage spoke with six experts for their insights.

Toppan Vintage question: What are the best avenues of cooperation or transactional activity with China at the moment, given the protectionist measures being put in place? Leading industry experts weigh in...

Euan Rellie, Senior Managing Director, BDA Partners says: Firms remain generally undeterred, though any tit-for- tat or reciprocal actions by the U.S. and Chinese governments make it potentially more difficult for U.S. companies and PE firms to operate in China. At the same time, we’ve actually seen U.S. sponsors very aggressively raising multi billion dollar funds with a particular interest in China. Also, we recently advised Carlyle and other investors on the sale of a baby-products retailer in China, Leyou, to Warburg Pincus. So there is a lot of smart money trying to find avenues of investment that make sense.

Over the last few years, Shanghai has developed a free-trade zone, which allows manufacturers based out of there to manufacture more or less tariff-free— at least free in terms of Chinese tariffs. Importers are also allowed to import into the free-trade zone without paying duties. In addition, we're seeing increased interest in Hong Kong as a kind of staging post, and people are trying to see whether they can trade through there or Singapore as an alternative to China.

At BDA, we're also benefiting from a very successful practice in Vietnam, which is somewhat under-banked at the moment. Most of our competitors haven't figured out the opportunity in that country, which is a pretty interesting foil to China, as is Taiwan. We are also seeing Japanese corporates, trading companies, and very select PE firms trying to do deals in the U.S., to fill the gap left by reduced Chinese activity.

Ironically, I think Canada and Mexico may selectively benefit from the trade war, because Chinese investors feel more welcome in Mexico, Canada, and the EU, frankly, than the U.S. today. China has a big domestic market and is starting to look inwards. The Chinese government is having some success stimulating consumer activity within itself, even though the mood there is still a bit subdued.

Daniel Wang, Managing Director, Harris Williams adds: Our advice pertaining to best avenues for deal activity depends on the sector. If a client is selling a business in traditional consumer products, food and beverage, sporting equipment, etc., CFIUS should have no issue. The buyer universe would still consist of European companies, Asian companies including Chinese ones, and U.S. companies.

But now let’s say they’re selling a business that’s in industrial automation, and either has customers in the military or manufactures aerospace and defense equipment. They may not even sell directly to the military, but to a supplier or sector that touches defense or aerospace. Then our pitch would be focus on European and U.S. buyers as well as Korean and Japanese ones, but not Chinese.

Now, we’ve been discussing issues from the U.S. side, but it’s worth remembering that Chinese firms trying to buy companies outside of China must go through layers upon layers of approval on their end as well. In China, the government can block a deal for whatever reason they come up with.

Jack Bell, Managing Director, Pantek Partners weighs in: Overall, there is still a lot of deal activity happening between China and the United States, and it will continue. Dealmakers are still interested in China, but they want to proceed cautiously. Firms will need to pick their industries, deal types and structures carefully, and be ready to roll with the punches.

CFIUS is very opaque. It basically says that any deal being done between a U.S. company and a Chinese one is subject to review. Similar to what Daniel said, our advice to clients is to avoid any landmines, such as deals involving American technology companies that sell into defense applications. That's a no-brainer. Trying to sell such a company to a Chinese buyer, which has been done before over the past few years, would definitely be a no-go under CFIUS. It’s just asking for a headache, so we advise our clients to avoid those types of situations.

The flip side of that coin is when an American company has technology used in social media applications or by software companies. In those cases, we would recommend being very aggressive, trying to do as many deals as possible and to access every market that the law allows, in order to grow the business and become a global company. That includes the market in China, which has a highly restrictive regulatory environment. A host of companies such as Facebook, Twitter, YouTube, etc., are all blocked in China. However, there are exceptions—for example, LinkedIn is an American media company that operates in China, and is very successful there.

John E. Lash, Director, BDO Advisory says: A few points on this: First, embracing free and open trade has proven historically to yield positive economic impact, and the U.S. vis-à-vis CFIUS has a responsibility to balance national security implications of cross-border transactions with an open investment policy. With technology acquisitions as a key driver in M&A deal activity, the innovative capabilities and uses of that technology also create inherent risk to a country’s national security, public health and safety, and economic interests.

Secondly, transactional activity can be conducted with China if appropriate measures are taken to address the national security risks that arise from trade and investment. With data considered the most valuable resource in the global economy, and the technological advances in sunrise industries, a key execution risk to foreign direct investment is whether that transaction would expose personally identifiable information of a U.S. person, including genetic information, protected health information, geographic movements, or other sensitive data. Addressing the national security risk of a proposed transaction with significant U.S. data should be a critical consideration for dealmakers. We must be able to recognize the threat, vulnerability, and consequence of potential data exploitation.

Thirdly, organizations must recognize the potential national security implications of a proposed transaction at the onset of a deal—performing a risk-based assessment and evaluating the consequence of any exploitation of a national security vulnerability. As the threat landscape has evolved through technological innovation, the advent of the data economy, and the weaponization of information, companies should make national security compliance an essential component of cross-border investment strategy.

With regards to best avenues forward, there is essentially one of collaboration and the other of conflict. Collaboration would provide an avenue to seek common ground on national security, economic policy, and foreign policy considerations.


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The New Wave of Protectionism    

 
 

What effect is protectionism having on sentiment among dealmakers? Are the measures actually bolstering domestic M&A? And how is private equity responding to the new conditions? We explore how deal practitioners are responding to the changes in global trade in our full report

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