The attempted acquisition of General Motors’ (GM) Hummer brand by Sichuan Tengzhong, a manufacturer of heavy industrial machinery, was a bad idea. The Hummer, a colossal gas guzzler that terrorized urban streets, was only marketable in the US thanks to policy loopholes and tax subsidies; the case for resurrecting it in China was highly dubious, as was the capability of Sichuan Tengzhong’s managers to pull it off.
However, on paper the deal was not blocked at all. The Ministry of Commerce (MofCom) simply denied having received a complete application, which sources familiar with the deal say was simply untrue. In fact, MofCom favored the deal, the National Development and Reform Commission (NDRC) was against it – and neither wanted to make an official rejection, as it would contradict Beijing’s strong rhetorical support for Chinese outbound investment.
The tactic is not without precedent: In 2007, MofCom similarly failed to locate the application for LinkGlobal Logistics’ bid for Parchim Airport in Germany. That deal eventually went through, but today LinkGlobal is asking for a deferment on tax payments while it gets its finances back in order.
It may well be that the government should assess the credentials of outbound deals, but the treatment of the Tengzhong bid has unpleasant implications for more qualified Chinese firms.
Apparently the problems stem from a simmering turf war between the various regulatory agencies charged with managing aspects of outbound investment – the State Administration of Foreign Exchange (SAFE), MofCom, the NDRC and the State-owned Assets Supervision and Administration Commission (SASAC). The criteria they use to assess applications are highly flexible and highly unpredictable; in short, everyone has a veto and no one can override it.
This makes sellers approached by putative Chinese acquirers nervous, especially when they are trying to unload a distressed asset that is bleeding value by the day. In the case of Sichuan Tengzhong, the process was very far along: Tengzhong had already signed a wide range of final-stage acquisition and execution documents, including settling the disposition of trademarks and the like. And then the rug was yanked out from under it.
This opacity carries with it a high premium. Unless an acquisition is coming from a sector blessed by the state, such as natural resources, a seller can have no confidence that a Chinese bidder will be approved. Chinese bidders are therefore increasingly discriminated against in terms of pricing and break fees (the amount forfeited if a buyer abandons a bid after a certain stage). One lawyer who works in outbound acquisitions said that some sellers now ask Chinese bidders for a non-refundable break fee equal to two-thirds of the acquisition cost.
Chinese investors overseas face enough challenges endemic to overseas M&A without having to pay a premium for firms being sold at fire-sale auctions. Beijing should realize that its regulation is proving counterproductive: Chinese firms are increasingly going through loopholes in Hong Kong and elsewhere to invest abroad without seeking approval, or simply ignoring the process entirely, as Fosun International (0656.HK) did when it acquired the US shares of Focus Media (FMCN.NASDAQ).
If the central government wants to continue to manage the outbound investment process without crippling local firms before they are out of the gate, it will have to do better than this.