The road to hell is paved with good intentions – as demonstrated by revisions made to China's “Measures on the Administration of Overseas Investments” by the Ministry of Commerce (MOFCOM). China is keen for its companies to expand overseas, especially in industries key to future national security, such as natural resources. On top of which, it wants to boast dominant global brands – as befits the country's growing stature on the wor ld s tage. So why then has MOFCOM effectively hamstrung Chinese companies' dreams of international expansion?
Tinkering with rules first laid down in 2004, MOFCOM has in some respects achieved its aim of making them more flexible. For example, Chinese companies making overseas investments worth less than $10 million are now the beneficiaries of a fast-track procedure which does not require either provincial or central government approval of the investment. While deals worth $10 million to $100 million require only provincial approval, those worth $100 million or more need a green light from central government. But while those contemplating larger deals therefore have less to celebrate, even they will concede that the new rules provide greater clarity than the old version.
The real problem lies in barriers to investment that may prove insurmountable. Local legal experts say one particularly contentious ruling is that any deal struck overseas only becomes effective once the relevant approval has been obtained in China – and not upon execution of the deal. This, say the same legal experts, creates a real headache in trying to ensure that key contractual provisions retain their enforceability pending receipt of approval. So, when selling to a Chinese buyer, can a vendor know that the buyer is good for the money? At the very least there is room for doubt – and this uncertainty could be potentially crippling.
There appear to be at least three ways in which private equity firms might be affected by this.
One: any China-based private equity-backed portfolio company will find it as hard as any other Chinese company to expand internationally. If cross-border acquisitions are not off the agenda, they are at the least made considerably more difficult.
Two: any private equity firm wanting to do a deal alongside a Chinese partner – think of last year's attempt by Bain Capital to buy US software firm 3Com in partnership with Huawei Technologies, for example – will have to think seriously about that partner's ability to enter a meaningful contract. The ultimate nightmare in this scenario would involve the joint venture jumping through hoops to get the deal signed in the first place, only to find that it subsequently unravels when approval from China is withheld.
Three: a private equity firm thinking of selling a portfolio company to a Chinese buyer will have to tread carefully. Jeanette Chan, head of the China practice group at law firm Paul Weiss Rifkind Wharton & Garrison, says these potential sellers will be asking themselves: “Do I want a Chinese company to be the buyer – even if it has made the highest bid?”
One upshot of the economic downturn has been the diversion of much of China's excess capital away from overseas markets and back into its domestic market. This has prompted criticism of those commentators in the West who originally hyped the prospect of China riding to the rescue of the world economy with some kind of huge altruistic pump-prime. It's easy to paint that as naïve with the benefit of hindsight.
And yet: the redirection of capital has been prompted by expediency, not a fundamental strategic re-think. With the Chinese economy now widely considered to be showing green shoots of recovery, it would be no surprise to learn that overseas markets are once again being eyed hungrily. A shame then that MOFCOM seemingly can't bring itself to relinquish control of the country's assets. If these assets are ever to be a force on the global stage, the Chinese authorities need to learn to let go.