December 5, 2008 / 9:45 AM / 10 years ago

DEALTALK-Worries persist over China's treatment of M&A

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By Michael Flaherty

HONG KONG, Dec 5 (Reuters) - Shares of Chinese fire alarm system maker GST Holdings (0416.HK) are trading around 20 percent below a takeover offer made by a unit of U.S. conglomerate United Technologies (UTX.N) this week.

What gives?

The United Technologies subsidiary already owns 29 percent of the company; there appear to be few, if any anti-trust issues; and fire alarm making hardly seems a national brand or sector that the Chinese government wants to keep from foreign hands.

Merger arbitrage traders say that the roughly 20 percent spread is due, in part, to one key factor: persistent concerns about the way China’s government treats inbound acquisitions.

China has moved to update its merger and acquisition approval rules to more clearly define the country’s major industries and the restrictions the government can impose on foreign investors.

But fears of protectionism remain.

“Generally, the whole process is done in a black box. As an investor, you really don’t have clarity,” said a merger arbitrage trader in Hong Kong who did not want to be identified because he wasn’t authorised to speak on the record.

Merger arbitrage traders bet on whether an acquisition will go through or not. On a deal they’re confident about, they will buy up shares almost to the purchase price, leaving a little cushion in case of any changes.

The further the stock price is from the offer bid, the more doubts they have.

In September, Coca-Cola Co (KO.N), the world’s largest soft drinks maker, offered to buy juice maker China Huiyuan Juice Group Ltd (1886.HK) for $2.5 billion in cash. The offer valued the Chinese drinks maker at HK$12.20 per share, nearly triple its closing price the day before the deal was unveiled.

The feeling at the time was that China was unlikely to block the deal on grounds of protecting a national brand from foreign ownership. How nationally strategic is the drinks business?

And yet, Huiyuan shares are trading at 20 percent below Coca-Cola’s bid.

Late last month, under a new anti-monopoly law, China’s Ministry of Commerce (MOFCOM) gave approval to InBev NV’s purchase of Anheuser-Busch (BUD.N). Belgium’s InBev INTB.BR agreed to buy the U.S. beer giant for $52 billion.

The deal required Chinese approval because of the significant stakes the two beer companies own in Chinese breweries.

The good news for companies looking to make purchases involving Chinese firms was that the government not only signed off on the InBev acquisition but did so in a timely manner.

The bad news for outside buyers was that the ministry added a series of conditions, including forbidding InBev from increasing Anheuser-Busch’s existing 27 per cent shareholding in Tsingtao Brewery or its own 28.5 per cent stake in Zhujiang Brewery. Inbev was also InBev from buying into two other Chinese breweries.

Law firm Dechert, in a note from its M&A and anti-trust group, said that the speed in which MOFCOM moved was reassuring.

“However, one of the concerns about the new Antimonopoly Law has been the protectionist flavor of some of its requirements, in particular the provision permitting the consideration of national economic development as part of the review,” it said in the note.

Some of the restrictions applied in the InBev ruling “have increased concern that the Antimonopoly Law may be applied in a protectionist fashion,” Dechert said.

Announced inbound acquisitions in China are on pace to hit more than $29 billion this year. Without Bank of America’s deal boosting its existing stake in China Construction Bank, however, the inbound deal data would be roughly flat from a year ago.

In 2007, inbound totals rose only 4 percent to $22.4 billion from the previous year.

One of the highest-profile M&A collapses this year was U.S. investor Carlyle’s [CYL.UL] decision to scrap a $375 million deal to buy into top construction equipment maker Xugong. Carlyle agreed to buy the stake in 2005, but some Chinese officials said Beijing may be selling state assets to foreigners too cheaply.


Fire alarm company GST said early on Wednesday that a United Technologies’ unit offered HK$3.38 per share for the whole company. GST’s stock soared more than 50 percent when the market opened and bumped up to HK$2.76 by Friday, well below the bid.

Some bankers and traders attributed the discount to fears of Chinese government scrutiny. But one M&A lawyer said that it was hard to pin the discount on approval issues alone.

The offer for GST has conditions attached, and comes in an environment where few investors are willing to take heavy risks.

Scott Jalowayski, a Hong Kong-based partner of the U.S. law firm Ropes & Gray LLP, also pointed out the deal is technically an acquisition of shares of a Cayman Islands based entity.

“The acquisition itself...doesn’t appear to be subject to PRC government approval, unless it finds some anti-monoply law reasons to subject the deal to further review,” he said.

“Even if they did, that doesn’t necessarily mean the deal won’t be approved.”

Reporting by Michael Flaherty, Editing by Kim Coghill

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