·     Restructuring of State Owned Enterprises (SOEs);

·     Emergence of well managed private companies;

·     Improved regulatory environment and transparency;

·     Newly opened industrial sectors (wholesale, retail, banking, logistics, etc.);

·     Highly fragment industry sectors.

Acquisitions can of course also allow for companies to quickly enter the Chinese market, to purchase their suppliers and to take advantage of existing knowledge pools.  That is not so say however, that deals in China are easy to perform or that they are successful.  During due diligence, potential deal breakers can include:

·     Two or three sets of books and difficulty obtaining supportive documents ;

·     Lack of full management/investor support for deals which can hinder the flow of data and post deal integration;

·     Divergent valuation bases, as Chinese organizations tend to look at asset value and westerners look at EBITDA.

·     Inability to show clear title to assets and contingent/hidden liabilities;

However, the amount of deal activity clearly shows that potential deal breakers can be overcome.  Organizations that have performed successful deals generally credit their ability to initially focusing on key deal elements, how they intend to benefit from the acquisition and what they specifically want to purchase. 

Due diligence plans in China must therefore be tailored specifically to each target and the key deal elements must be critically analyzed.  If for example, a factory is to be acquired, the ability to determine the previous year’s production will be important, but may not be directly apparent from financials.  Creative analysis however, can be performed by reviewing areas such as raw material consumption, energy usage or distribution expenditures, which may shed the necessary light on the key deal elements.

Due diligence in China must not stop though, once comfort on the key deal elements is achieved.  Successful acquisitions also take into account the regulatory environment, with specific attention to recent pronouncements including Regulation on Foreign Investors Acquiring Domestic Enterprises, along with legal and tax due diligence.  A strong understanding of all of these can be achieved as the business environment in China becomes more transparent by the day.

The greater transparency has lead to more interest, as the number of deals in 2007 is expected to eclipse that of 2006.  Average deal size will likely decrease as activity shifts from mega-deals and multinationals, to private equity and venture capital transaction.  These factors, along with greater desire of Chinese organizations to seek foreign investment, will keep the current trends going indefinitely.

For more information on M&A activities in China or on locating acquisition targets, contact Lulu.Zhang@ChinaFIG.com