China Outbound Guidance to Boost M&A Funds

This article was originally published on Private Equity International on September 11, 2017, written by Carmela Mendoza.

New regulations expected to have a slowing effect on China outbound deals are in fact paving the way for more cross-border buyout funds targeting government-favoured industries such as manufacturing.

The new guidance from China’s State Council which classifies outbound transactions into encouraged, restricted and prohibited categories, is expected to increase the number of China M&A funds targeting specific industries such as manufacturing.

According to the latest guidelines from Beijing published on 18 August ‘encouraged transactions’, which include infrastructure projects in the Belt and Road Initiative, high-tech businesses as well as energy resource – stand to benefit from preferential taxation, foreign exchange, insurance, customs, and information sharing.

As a consequence of these recent capital control changes, Chris Lerner, head of Asia for Eaton Partners, told Private Equity International that the industry is seeing the “development of more and M&A funds – which are essentially offshore acquisition funds – focused on directed industries that relate to manufacturing and industry upgrading”.

“The proliferation of these vehicles has no doubt slowed but they still exist, often in size and with government support, where the mandate includes direct investments in sectors or areas that are deemed important to the development of the overall economy and various well publicised initiatives such as Made in China 2025 or One Belt One Road,” he explained. 

This growth of M&A funds is reflected in China outbound deal flow. While the number of newly announced outbound M&A transactions by Chinese companies fell by 20 percent in the first six months of 2017 compared to the same period in 2016, basic materials, energy, & utilities has been one of the most resilient sectors. Five out of the top 12 deals announced since January have state-owned acquirers of overseas basic materials, energy, & utilities assets (State Grid, Sinopec, Three Gorges, Shandong Gold and Yancoal), according to research firm Rhodium Group. Deal flow in high technology and modern service sectors (telecom, media & computing) has also been more resilient through the first half of the year. 

Chinese government-backed funds were an emerging restructuring method for oversupplied state-owned enterprises, but have been developing rapidly since mid-2000s. Recently, the Chinese government has adopted several policies to stimulate M&A funds in inducing private capital and expediting the restructuring of SOEs, particularly the listed ones, in investing in cross-border transactions. 

XIO Group, a London-headquartered private equity firm backed by funds in mainland China, is one example. 

The firm, which has $5 billion under management and also has offices in Shanghai and Hong Kong according to its website, is known for the $1.1 billion purchase of data company J.D. Power & Associates from McGraw Hill Financial as well as the $150 million deal for Israeli medical laser company Lumenis.

Beijing-headquartered CITIC also has its own M&A fund which backs infrastructure developments that advance the Belt and Road system. Meanwhile Hong Kong-based private equity firm China Everbright has its Global Investment Fund, which has so far raised more than half of its $500 million target, as well as its $3 billion M&A fund with IDG Capital Partners which will support growth companies in China and overseas. 

AGIC Capital, an Asia-Europe cross-border buyout fund, which in February collected $1 billion for its debut vehicle, is another example. 

China’s healthcare and technology sectors have also increasingly relied on M&A funds to consolidate key growth industries such as healthcare, technology and manufacturing. In January this year CITIC Bank and Sanpower Group said they would raise at least $2.9 billion to launch a healthcare industry M&A fund targeting both Chinese and overseas biotech companies. In the same month the Chinese government also launched a $1.4 billion Asia FinTech M&A Fund of Funds to focus on investment opportunities in the region.