Mergers and Acquisitions in China 2009

Deal Cultivation – Key to Success in MakingAcquisitions in China

Steven H. Ganster, Managing DirectorTechnomic Asia

A Subsidiary of Tompkins [email protected]

www.technomicasia.com www.tompkinsinc.com

Presented at the…2009 & 6th Annual Mergers & Acquisitions in China Summit

A DIVISION OF TOMPKINS ASSOCIATES 2

Topics

China’s M & A Landscape

Evolution of M & A as a growth strategy in China

Unique complexities in China’s M & A process

Strategy vs. Structure

Cultivating the deal

Key principles of success


China is in a “late adolescent” phase in terms of market maturity...

Infant

Toddler

Young Teen

Late Adolescent

The M&A Landscape


Opaque financial systems

Corruption

Rule of man versus rule of law

Unpredictable regulations

Huge cultural differences

Expensive and time consuming to get things done

Lacking enough local talent

Defining your addressable market

Dealing with high level of uncertainty

Access to local markets

Being cost competitive

Dealing with counterfeits and IP infringement

Understanding Chinese business culture

Successfully China-fying your business model

A number of planning and operating challenges color the backdrop of making acquisitions in China…

The M&A Landscape


The M&A Landscape

Business is getting tougher– No “low-hanging fruit”—obvious ones gone or unavailable– Margins being squeezed--Increased competition– Companies are suffering financially

Motivations for buyers to buy are solidifying– Control supply chain– Accelerate penetration of local market– Obtain cheaper assets

Motivations for sellers to sell are poorly defined but clarifying– SOEs privatizing– Cash out– Thirst for technology (hard and soft)– Lock in big ticket customer– Access to global distribution and customer list– Possible alternative to listing (though still a motivation for many)

Given this environment, several key issues are shaping M&A in China today…


The problems in the “early days” of the JV are leading to altered strategies today…

What went wrong…?

JV-structure before strategy

WOFE-reactionary response

Acquisition-using a hybrid approach via M&A

Evolution of M&A as a Strategy

80s – 90s 2000 2010

50/50 JV

WOFE

Acquisition


There are many complex issues surrounding acquisitions or joint ventures in Asia.

Opaque management structures

Complex state and township - owned conglomerates

Added political risks

Transaction sizes small

Regional fragmentation

Market environment more fluid

Government/regulatory impasses

Reliable information scarce

Legal system ambiguity

Lack of professional management

Thin historical data

Dynamic competitive landscape new entrants

Unique Complexities in China M&A

Unsophisticated sellers


Market/CompetitorAssessment

Develop StrategicIntent

PartnerQualification

DealCultivation

LOI

DueDiligence

DealClose

Integration / Start up

WOFE, Other

Alliance


Fluid market environment Reliable information scarce Dynamic competitive

environment with new entrants

Deal flow – identify appropriate targets Finding right deal size (often too small) Unsophisticated sellers Lack of professional management Understanding motivations of all players Satisfying multiple wants/needs Not enough focus

Less meaning in China – no “teeth”

30% close rate

Opaque management structures Multiple books Regulatory impasses Gov’t obstruction / intervention High cost/deal ratio

Keeping deal together until final agreement signed


Non linear

Time consuming

Expensive

Frustrating

A discovery process

…a lot like a ride on Disney’s Space Mountain!




China’s tough market environment necessitates doing “strategy before structure”

In the past…

Structure(JV)

China Strategy

Today…

ChinaStrategy

Force-fit the strategy to the structure Find the structure to fit the strategy

Structure(any)


Foreign Investor Chinese

Company LTD

FIE (JV, WFOE) Non-China offshore company (NCOC)

FIE (JV, WFOE)

China border

FIE (JV, WFOE)

Buy shares or the whole NCOC to own the FIE in China*

Convert the Chinese Company to an FIE in case of equity deals or concurrently set up an FIE to hold acquired assets

The Foreign Investor owns or intends to set up an FIE first

Direct acquisition

Buy and run acquired assets

The NCOC owns the FIE


*It is also popular when establishing a JV, to set up the partnership outside of China which entity then wholly own the China WFOE

FIE (JV, WFOE)

Convert JV to WFOE in case of buying equity form Chinese owner(s) or concurrently set up an FIE to hold acquired assets


China sellers often have a different deal paradigm that is critical to appreciate…

“The West”

1. Financial due diligence

2. Commercial (calculated)

3. Structure

…..

10.Relationship

China

1. Commercial (intuitive)

2. Relationship

……

9. Structure

10. Financial due diligence

Everything flows from financials…

Everything flows from relationships…

vs.

Cultivating the Deal – Buyer and Seller Motivations

Types of Sellers

Unsuspecting

Inexperienced

Resistant

Desperate


The Acquisition Process…

Transaction Transaction Structure &Structure &ExecutionExecution

Transaction Transaction Structure &Structure &ExecutionExecution

CandidateCandidateIdentificationIdentification

& Qualification& Qualification

CandidateCandidateIdentificationIdentification

& Qualification& Qualification

Acquisition Acquisition Strategy Strategy

Acquisition Acquisition Strategy Strategy

Legal, Financial Legal, Financial & Commercial& CommercialDue DiligenceDue Diligence

Legal, Financial Legal, Financial & Commercial& CommercialDue DiligenceDue Diligence

LOI LOI SignedSignedLOI LOI

SignedSigned

Deal Cultivation & Deal Cultivation & Pre Due DiligencePre Due Diligence

Deal Cultivation & Deal Cultivation & Pre Due DiligencePre Due Diligence

Market Assessment Market Assessment & Business case& Business case

Market Assessment Market Assessment & Business case& Business case

These areas often short changed

In China, acquisitions require more upfront target cultivation and pre-due diligence than is typically needed in the West.

Cultivating the Deal – Doing the Work!


At the Discovery Stage, “Level of insight per dollar” is very high!

Approach to target companies

Negotiation of Framework Agreement

Discovery StageFormal DD Stage and

ValuationDefinitive Agreement

Signing of LOI

Transaction costs can be quite high in China, compared to the deal sizes available, so effective “discovery” is important before spending substantive dollars in due diligence.

Tra

nsac

tion

co

sts

The Acquisition Process…Cultivating the Deal –Discovery Stage


• Strategy before structure!!

• Start with a clean company whenever possible—asset purchase

• Know what assets you really need to own

• Be creative—don’t just transplant your western business model

• Controlling the operation is paramount (key management functions)

– …but you don’t have to own everything to control it

• Consider “strange bedfellows” as targets/alliances

• Work closely with local government from the beginning

• Invest in RELATIONSHIP building

• Observe the 6 Ds

Some Key Principles for Deal Success


Thank You!

Introduction to Technomic AsiaIntroduction to Technomic AsiaA Division of Tompkins Associates

Summer 2009

For more information, contact:

Steve GansterManaging [email protected]

Technomic AsiaChina Office

Room 502, Jin Tai Building58 Mao Ming Road (South),

Shanghai 200020, ChinaTel: +86-21-6473-2588Fax: +86-21-6390-6659

www.technomicasia.com www.tompkinsinc.com


Background

Technomic Asia recently became the Asian arm of Tompkins Associates, a renowned global business and supply chain consultancy.

As of January 2008, Technomic merged into Tompkins Associates.

Technomic Asia has over 25 years of consulting experience in Asia having assisted over 200 multinational clients with their Asia business strategy, sourcing and supply chain strategies.

Technomic Asia and Tompkins have deep experience in the acquisition process from candidate identification/qualification through due diligence.


Technomic Asia provides the following solutions for multinational firms to support their Asian strategy needs for both new investments and existing operations:

Asian entry and growth planning and support including market assessment, business case development and entry strategy.

Acquisition support from candidate identification, qualification, deal structure and negotiation and commercial due diligence.

Asian sourcing and supply chain assessments including supplier relationship and improvement programs.

Assessment of Asia “readiness” for portfolio companies based on our proprietary methodologies.

Technomic Asia Core Services


We have been on-the-ground in China since 1985 (JV) and have assisted over 200 MNCs in their China strategy and operational initiatives.

Legal status comprises WOFE and Representative offices

We have broad experience in multiple industrial areas, including commercial, residential, industrial and infrastructure segments.

China Capabilities

Through its subsidiary in Shanghai, Technomic has extensive operational experience in China (as well as the Asian region in total).

Our China consulting services are supported by a set of effective tools at the corporate level to assist companies in the benchmarking process.

Our China operation is well integrated with Tompkins worldwide to enable the seamless implementation and rollout of global programs.


China Capabilities (cont’d)

~20 professional staff with varied backgrounds All but one are mainland Chinese citizens

Most have masters degrees both from China and overseas business schools

Multilingual Chinese, English and other

All with industry experience

Priority characteristics of our China operation include… Longer Time Based Experience in China, Ahead of Any Other Major Firms

Innovative, Pragmatic, “Street Smart” Approach

Client Centered Solution

Possessing In-depth China know-how and Cultural Sensitivities

Deep experience working with MNC management on their China initiatives

Direct involvement of senior management in program engagement

Broad industry experience, including capital equipment

Trust and Integrity


• Basic data • Limited

analysis • Minimal

strategic direction

• Low cost

• On-the-ground, “street-smart” approach.

• Deeper, more mature market understanding

• Ability to filter, sort and process insight to determine implications

• Extensive experience to recommend how client can respond to “win”

• Can take client all the way to an actionable business plan

• Moderate cost

• High level market view “35,000 feet”

• Often “valuation” focused

• Limited tactics • High cost

• Technomic Asia was one of the first foreign consulting firms licensed to practice in China

• We have completed over 650 programs in China alone across a wide range of industries

Technomic Asia provides a unique value proposition which differs from other consulting and firms in Asia.

Our Value Proposition


We provide capabilities in candidate identification, qualification and due diligence, as well as underlying alliance/acquisition strategy and deal support.

CandidateQualificationand Screening

MarketBased

Due Diligence

Negotiation and Close

Core Services Include...

Acquisition Strategy

Development

• Core Objectives of Deal• Target Products & Technologies• Geographic Focus• Critical success factors• Candidate Criteria• Develop long-list of candidates

• Screen on first level criteria• Qualify and focus on primary

candidates• Profiling of short-listed candidates

and attractiveness level• Determine candidate interest

• Develop & Sign LOI• Deeper assessment of target candidates from

perspective of customers, suppliers and the supply chain

• Validate viability of business case.

• Deal Structure• Negotiation Support• Optimize Government subsidies• Legal & Financial due diligence• Integration Planning• Closure

Acquisition Services

Economy & Finance

Mergers and Acquisitions in China 2009