Chinese Update – Cross Border Transactions – How Many Hardships does China Need to Overcome?
Executive Summary: This article discusses some of the disadvantages unique to Chinese companies and how such constraints have impeded the momentum of China’s quest for a deserving piece of the international M&A market.
People frequently observe the cultural barriers which the Chinese companies find difficult to overcome in relation to China’s nascent outbound investment program. Since China is culturally and politically different from the mainstream trading countries, an attribution of the anguish on both sides of the negotiation table to cultural barriers is indeed tempting but often misplaced. Any professionals operating in places other than in the rule setting non Anglo-American jurisdictions always have war stories to share with their colleagues. The Mexican tycoons prefer to negotiate their deals in the smoking rooms of their vast hacienda guarded by private soldiers. The Indians nod to signify their disapproval and shake their heads for approval, or sometimes vice versa. The Japanese entertain their foreign guests with stylized geisha dance and ocean dainties of whale meat and blow fish. These cultural idiosyncrasies would make our deal process more memorable, but they seldom torpedo deals as our professionals and their principals have rarely retreated from a deal purely on the ground of local habits which repel their sensibilities. Many have spent their formative years in august institutions learning foreign languages or foreign business practices ranging from Sharia law of the Middle East to China’s Labyrinth of approval procedures. Companies have become nimble and adaptive while operating in foreign countries and they have soldiered on to make big profits in spite of occasional cultural clashes with their local partners, local staff and local regulators.
Japan made its massive investment in the US and around the world in the 80’s and 90’s in the last century. US and Europe deployed huge capital across into China in the last two decades. Neither had an easier time to transcend cultural barriers. While no one has come out perfect, few regrets have been heard from either business community. It is safe to infer that cultural barries are problems universal to all investors in foreign countries, but they are surmountable hurdles. If we are trying to debunk the myth of what is frustrating the Chinese companies’ objectives in their pursuit of global reaches, we may have to look beyond the commonality of cultural barriers and ascertain those constraints relevant only to the Chinese companies and how they have impeded the momentum of China’s quest for a deserving piece of the international M&A market.
- Unlike India and Japan whose mercantile class survived the vicissitudes of the last century, China abolished its market and implemented a pure planned economy for 30 years prior to its opening in 1979. The cessation of market activities gave rise to the disappearance of a few generations of business elites. Even though the Chinese have caught up faster than many had predicted, it may take another one or two decades to generate the sophisticated corporate governance and the veteran professionals to match the institutional prowess of the Japanese and the individual ingenuity of the Indians. At present, few of the institutions and their executives have the requisite experience to execute cross border deals with ease and confidence.
- The US has begun to smart over its two decades’ support of China’s economic growth. An economically prosperous China has not embraced the universal values as predicted and the country seems determined to remain a political outlier. While the US and its allies cannot disentangle themselves economically from China, they are instinctively inclined to create subtle and blatant roadblocks restricting the Chinese from buying strategic assets. The fact that Chinese companies are opaque in their investment motives and decision making process and that they receive unbridled credit support from China’s state banks exacerbates the skepticism of both their Western competitors and the host countries. Nationalist politicians, journalists and competing corporates all find it extremely easy to denigrate, lampoon and second guess the Chinese. Other than local politicians, Wall Street bankers and other service providers, Chinese companies have few cheerleaders on their side.
- Most Chinese companies are run vertically with the CEO being the final arbiter for investment decisions. Most of these CEOs however do not have a mature understanding of what is expected of them in an M&A transaction. They habitually abstain from active participation in the process which will lead to an investment decision. Neither do they wish to delegate and devolve their authority to negotiating teams whose lack of authority is often maddeningly frustrating to everybody else involved. In the fast moving deal market, you will see many hapless Chinese executives with little or no authority to improvise any ideas or to make any decisions without headquarter approval.
- Many consider the Chinese SOEs as extensions of the Chinese government and sometimes rightfully so. As proxies of the state, the SOEs are seen less a profit seeking enterprises than entities mandated the task to buy resources around the world for the benefit of the country. After having been denied to buy equity of the name brand Western companies (e.g., Unical and Rio Tinto), Chinese companies have developed a jaundiced view about the fairness of the market as manipulated by the Anglo American business community and sometimes equally rightfully so. Their alternative is to invest directly at the assets level which in turn arouses suspicion that China fundamentally distrusts the market and wishes to create alternative supply channels of energy and metal ores which may challenge the existing dynamics. The strategy will not play out well for China. China has no colonial experience and its diplomatic playbook is still stuck in its non alignment past. The odds are poor that they will beat the Shells and Anglo Americans of the world in reaping decent returns in third world countries. In addition, China cannot change the geography and they will have to ship the iron ores or crude oil to China via sea lanes currently patrolled exclusively by the US navy and its allies. China should revisit the feasibility of joining force with the leading Western companies for mining and energy transactions and the West should also refrain from encouraging China to pursue wildcat tactics by denying them again and again the access to equity interests in their leading resources companies.
- Chinese companies drew the preponderance of their international experience from the days in the 80’s throughout the 1990’s and earlier 2000’s when many of them negotiated with numerous MNCs for setting up joint ventures and other foreign investment enterprises in China. The Joint Venture Law of China created a modus vivendi whereby Chinese and foreign parties are forced to adopt a quasi-partnership template for their joint operation. In spite of its many ills, this legal regime has done a decent job in protecting or even favouring foreign investment projects. The governments at local level have become particularly beholden to those employment creating and tax paying MNC mega plants. This comfortable matrix sadly never exists elsewhere and the Chinese businessmen are often befuddled by the absence of any substantive protection of their investment in mature jurisdictions where the governments are powerless in interfering in the legal or other administrative process. The Chinese accustomed to the concept of paternalists protection will find rude awakening in both negotiation and operation stages of their overseas projects.
- The private companies seem to have a much better understanding of the synergy which their overseas acquisitions are likely to engender in their home market. But they are woefully outcompeted by both SOEs and MNCs in recruiting the top talent to execute their overseas deals. In addition, many founders of the business are still in their most robust deal making years and it is difficult for them to institutionalize and decentralize their empire to fit with the international business ethos. While the Chinese government in fact has given them more support to the private companies operating overseas than it is given credit for, it is still infeasible for the Chinese government, given its remnant ideological misgivings about China’s home grown private sector, to support the replication of a Samsung or a LG under the Korean model.
These six constraints are by no means exhaustive. But each informs a unique disadvantage only applicable to the Chinese companies.
China’s arrival in the landscape of international cross border transactions has been much sooner than anticipated and China once again has reinvented itself and defied the prediction of the pundits that its meaningful participation of global M&A could not have preceded the removal of the duel hurdle of the non-convertibility of RMB and of its closed capital account. While the Chinese companies are on track to become a dominant global M&A players, they still have much distance to cover and many obstacles are beyond their own endeavour to overcome. Only efforts by the Chinese Government to further liberalize its economic governance can facilitate greater progress. The Chinese are however resilient businessmen and the conditions of an extremely populous but resource deprived country dictate that their companies succeed in the realm of global cross border transactions. Hence, they have no choice but to overcome all hardships in this process.