Mark Greenfield and Karen Corliss of Blank Rome LLP analyze the history and current trends of Chinese investment in U.S. companies, noting strong growth in the number, size and sectoral spread of Chinese activity. They detail substantial benefits that both economies derive, but also warn of particular challenges resulting from the rivalry of the two countries.
By Mark Greenfield and Karen Corliss
Mark S. Greenfield, Esq. (Greenfield@BlankRome.com), is a partner at Blank Rome LLP, Los Angeles, specializing in mergers and acquisition transactions, capital formation (public and private) and general corporate representation. Mr. Greenfield has represented numerous clients of Blank Rome in connection with investment from the U.S. into China and from China into the U.S..
Karen L. Corliss, Esq. (KCorliss@BlankRome.com), is an associate at Blank Rome LLP, Philadelphia, specializing in the areas of merger and acquisition transactions and general corporate representation.
The significant growth in Chinese outbound investments in U.S. companies results from a variety of factors, but has come as no surprise to the developing economic relationships of the two countries. It is no coincidence that such growth has occurred during the same time as the U.S. economy has experienced a significant downturn, but it also is no surprise that the growth has been fueled by the evolution of the Chinese economy. The U.S. needs capital, and China needs to invest abroad in, among other things, brands, technology and talent.
While relations between the U.S. and China remain a work in progress, the relationship has been both fostered and challenged by the increase in acquisitions of U.S. assets by Chinese investors. Nevertheless, it is anticipated that this will continue, both as to focus and size.
Prior to the mid-2000s, Chinese outbound investment was a sleeping giant. Arguably the transaction that kickstarted the trend in Chinese outbound investment occurred in June 2005 when Beijing based Lenovo Group Ltd. acquired International Business Machine Corp.'s personal computing business for a purchase price of about $1.75 billion. The transaction quadrupled Lenovo's annual revenue1 and elevated Lenovo to the third largest personal computer company in the world.2
Beginning in 2007, China's outbound investment appetite was both fueled and fostered by the impending retreat of the U.S. credit markets and the decline in the U.S. economy. In 2008, Chinese outbound mergers and acquisitions transactions into the U.S. had a total transaction value of about $10.3 billion.3 While the most of the rest of the M&A world remained static, China proliferated. Just four years later, in 2012, Chinese outbound M&A transactions into the U.S. had a total transaction value of about $65.2 billion.4
While year over year 2012 showed an increase in transaction value but not deal volume, as compared to 2011, there is no reason to believe that Chinese outbound M&A activity will not continue to increase in the coming years. In fact, it is anticipated that 2013 will be another record year for Chinese outbound investment in the U.S..
Several large transactions highlighted the growth of Chinese investments in the U.S. in 2012. In January 2012, Sinopec Group, China's second-largest oil company, announced that it had agreed to buy a one-third stake in five exploratory oil projects with Devon Energy Corp. in a transaction valued at $2.5 billion.5 Later in the year, Chinese company Dalian Wanda Group completed what was then the largest acquisition of a U.S. company with outbound China funds when it purchased the AMC Entertainment Inc. movie theatre business for $2.6 billion,6 elevating AMC to be the world's largest cinema owner. Lastly, China's Wanxiang invested $420 million and took a minority interest in GreatPoint Energy, a Massachusetts based alternative energy company.7 The transaction was expected to result in the construction of a facility in western China to convert coal into natural gas.
Most recently, the proposed takeover of Smithfield Foods Inc. by Shuanghui International Holdings Ltd. is attracting widespread interest. The acquisition, valued at approximately $4.72 billion, would eclipse the AMC Entertainment acquisition's valuation and become the largest acquisition of a U.S. company by a Chinese company. 8
Recent transactions reveal a number of trends in Chinese investments in the U.S., in both the types of industries involved as well as the size of transactions.
Energy industry acquisitions have been at the forefront of Chinese outbound M&A transactions in the U.S.. It makes sense, as the U.S. and China are the world's largest consumers of energy. While energy companies in the U.S. have been successful in developing new technologies to extract oil and gas, they also need subsatantial capital in order to fund such technologies. China has the capital to make that happen. China has been steadily increasing its foreign investment in energy, both in the U.S. as well as world-wide, in an effort to both meet demand in its own country as well as to develop industry knowledge to expand its own resources at home. Those resources include most notably shale oil and gas, exploitation of which has seen a significant increase in the U.S. in the recent years.
China also has made investments in solar and wind projects in the U.S.. While the U.S. and China are the two largest greenhouse gas emitters, they are also the two largest developers of clean technology. Both state and federal tax incentives and policies incentivize foreign investment into these types of clean technology.
Consumer products is another key industry that has seen notable interest by Chinese companies. With respect to consumer products, Chinese companies seek to enter developed markets and expose their products to American consumers. Additionally, they often seek acquisitions in the U.S. as a way of eliminating competitors.
Transactions in the financial services industry also have experienced and likely will continue to experience growth in the levels of Chinese investments going forward. Between the beginning of 2000 and the first quarter of 2013, there have been approximately 48 Chinese investments into the financial services sector in the U.S., having a total transaction value of about $763 million.9 Chinese investors have been able to infuse much needed capital into U.S. financial institutions at a time when these institutions needed it most.
Trends also can be seen with respect to the size of the transactions involved, with the size of Chinese foreign direct investment in the U.S. having grown considerably over the past few years. Since the beginning of 2012, three of the four largest Chinese transactions in the U.S. have been announced, including the proposed Smithfield acquisition noted above, having a deal value of $4.72 billion, and the Dalian Wanda Group acquisition of AMC Entertainment Holdings Inc., also noted above, having a deal value of $2.6 billion. Additionally, a group of Chinese investors intend to purchase from American International Group Inc. an 80 percent interest of AIG's aircraft-lease company International Lease Finance Corp. for $4.23 billion.10
Notwithstanding the mega transactions that tend to make headlines, China also has steadily invested in middle market transactions, with the trend suggesting a continuing increase in the number of transactions. A significant number of Chinese investments in the U.S. since 2005 have been below $500 million in transaction value, and many of the target companies involved currently have an enterprise value of less than $200 million.11 Middle market companies in the U.S. that have struggled since the financial crisis are often viewed as bargain purchases by Chinese investors. These same companies are looking to stimulate their economic prospects and improve their employment numbers. Additionally, many middle market companies operate in industries that do not implicate national security issues, which helps to avoid regulatory challenges to consummating the transaction.
Both the U.S. and China enjoy tremendous benefits as a result of Chinese investments into the U.S..
Chinese companies view opportunities to invest in the U.S. as a way to address their need to expand abroad. In addition, for Chinese consumer products companies, establishing operations in the U.S. is a way to expose their products to Americans, one of the largest markets for consumer goods. According to Lenovo, prior to its transaction with IBM few of its personal computers were sold outside of China. Today, its ThinkPad brand of personal computers has captured about 40% of the U.S. market of personal computers.12 Additionally, investing in U.S. companies provides Chinese investors access to advanced technology, as the U.S. is often at the forefront of innovations in information and technology infrastructure. Moreover, Chinese investors view U.S. government policies and regulations favorably, and many states and cities provide tax benefits and other investment incentives in order to attract foreign investments.
For the U.S., Chinese investment results in job creation and an increase in tax revenue. Notwithstanding the notable outsourcing of jobs to China during the past decade and more, Chinese companies have been willing to establish manufacturing operations in the U.S., in spite of higher U.S. labor costs, in order to bring their products to American consumers. When Lenovo completed its transaction with IBM, it established a headquarters in North Carolina and opened a manufacturing plant there. It currently employs more than 2,000 individuals in the U.S.. 13
Lastly, Chinese direct investment in the U.S. serves to strengthen commercial ties between the U.S. and China. Recently, the U.S. and China have agreed to restart stalled negotiations on an investment treaty that would govern bilateral investment between the two nations. The achievement of such a treaty would further bolster Chinese direct investment into the U.S..
Notwithstanding the number and size of Chinese investments into the U.S., there are certain challenges that Chinese companies continue to face.
The first challenge arises from cultural and regulatory differences. As an example, the proposed Smithfield acquisition highlights several American concerns, such as the dilution of American brands and the health and safety concerns presented by the differences between Chinese and American health standards. Chinesecompanies often lack experience dealing with U.S. laws and regulations and are unfamiliar with doing business here.
National security concerns create skepticism and vigilance among many Americans with respect to Chinese investment in the U.S.. Many members of the U.S. intelligence community are suspicious of Chinesecompanies' motives, particularly because many of the companies are indirectly controlled by the Chinesegovernment. Balancing the need to preserve national security with the obvious benefits of China's capital resources will likely remain an ongoing challenge for the U.S..
In the coming years, the U.S., while remaining vigilant, undoubtedly will work to improve its public relations efforts with respect to foreign investments and strengthen its image as a welcoming place for foreign entities to do business. Chinese companies often perceive a level of U.S. opposition to Chinese investment and may proceed with such investments with caution and skepticism. Both Chinese investors and U.S. targets would be well-advised to retain financial and legal advisers who are skilled in multi-national transactions, so that this cultural gap can be bridged.
There are certain regulatory challenges that can impose hurdles to Chinese companies, as well as other foreign investors, seeking to invest in the U.S.. Approval of the Committee on Foreign Investment in the U.S. (CFIUS) is required for certain transactions, particularly with respect to transactions where there are national security concerns. CFIUS is an inter-agency committee tasked with reviewing transactions that could result in control of a U.S. business by a foreign person or entity, to determine the effect of such transactions on the national security of the U.S.
While CFIUS approval was granted in the Wanxiang and Dalian Wanda transactions described above, CFIUS will block a transaction where it perceives a risk to U.S. security. For example, during the past four years, CFIUS has denied approval with respect to at least three transactions that would have resulted in Chinesecompanies owning assets near military facilities.14 CFIUS is currently reviewing the proposed Smithfield acquisition, as voluntarily requested by the acquirer and the target, and about which no inference should be made other than caution. This review has sparked interest, as CFIUS generally focuses on transactions involving national security concerns, rather than on food and agriculture.
It is anticipated that Chinese outbound investment in the U.S. not only will remain robust but will increase, primarily in number of deals but also in the size of some deals. The trend matrices clearly support this forecast. Many transactions will remain extremely large in size, while there most certainly will be increasing activity in key middle market sectors.
The positive outlook is not without its hitches. For one thing, a recent rating downgrade of China's local currency from AA- to A+ casts a pall on sellers' acceptance. Confidence in a seller that a deal will close is critical, and a disruption in Chinese borrowing capabilities may create concern among some target companies.
The U.S. will remain vigilant in its review of foreign money investing at home, but at the same time investments that bolster the U.S. economy will be encouraged. And, while the industries that have attracted capital will continue to do so, new industries will attract Chinese attention as the appetite for outbound investmentgrows.
2 “Lenovo's Acquisition of IBM's PC Division: A Short-cut to be a World Player or a Lemon that Leads Nowhere?,” by Dr. Terence Tse and Jerome Couturier, ESCP Europe Business School.
3 “PwC M&A 2012 Review and 2013 Outlook”
4 “PwC M&A 2012 Review and 2013 Outlook”
7 “GreatPoint Energy Case Study,” www.greentechcapital.com.
8 See note 1 above.
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