Chinese companies are investing in value-added industries including agri-business
Chinese companies have been stepping up their global investment spree in the past 12 months. Mergers and acquisitions by private companies are becoming the key drivers of China’s outbound direct investment.
In what has been called the “Third Wave” of China’s outbound direct investment (ODI), the focus of investment has been on high-tech and services companies in developed economies. Previous “waves” have focused on supporting developing economies and investing in commodities and extraction industries.
Chinese investment is moving away from Africa, Latin America and Asia to developed markets, in particular the European Union and North America
The increase in China’s ODI is driven by the central government’s strong encouragement for domestic companies to invest overseas in a bid to boost their international competitiveness. The added benefit to Beijing of ODI is it utilises surplus domestic capacity and helps to slow the rapid build-up of the country’s foreign exchange reserves, which reached a record USD3.8 trillion by the end of 2014.
Slow global economic recovery and depreciating foreign currencies have provided a decent tailwind to this endeavour.
China’s ODI grew 19 per cent year-on-year on average between 2009 and 2014. This compared with foreign direct investment (FDI) into China that grew an average of 5 per cent year-on-year during the same period. Last year, China’s ODI reached USD116 billion, almost matching the FDI total of USD120 billion.
So what is the outlook for China’s ODI and are there any new trends to watch out for?
Firstly, in our view China’s ODI will continue to grow by around 20 per cent a year, with China overtaking the US as the world’s largest outbound direct investor in the next few years. This year, the pace of investment is set to accelerate, pushed by massive infrastructure investments in Asia and Europe envisioned in the “One Belt, One Road” initiative.
Secondly, Chinese companies will continue to shift their geographic and sector focus. Investment is moving away from Africa, Latin America and Asia to developed markets, in particular the European Union and North America. Europe has recorded 14 per cent of China's ODI in goods and services in the last five years.
In addition, China’s “Third Wave” ODI is shifting focus from acquiring natural resources in coal, oil and metals to infrastructure including rail, shipping and ports. Companies are turning to agriculture, technologies, high-end manufacturing, consumer goods, real estate, services and brands. This is at an early stage but growth rates are rapidly accelerating.
Finally, another important trend is that private investors are becoming the main driving force of ODI. State owned enterprises (SOEs) continue to do deals in the industrial, resources and energy sectors. Privately owned enterprises (POEs) are investing in more value-added industry sectors such as agri-business, technology, high-end manufacturing and real estate in more countries and regions. They are looking for intellectual property and brands to bring back to the Chinese market.
Mergers and acquisitions (M&A) have become the fastest way for Chinese companies to tap foreign markets. In the first quarter, the transaction value of China’s outbound M&A deals surged 36 per cent to a historical high of USD20.2 billion, according to PwC. The number of deals jumped by 33 per cent year-on-year to a record high of 77, with privately owned enterprises accounting for 68 per cent of M&A transactions.
The opportunities, however, come with challenges. Acquiring value-added assets is likely to remain extremely difficult. Chinese companies are still not well understood overseas. Cultural integration can be a challenge. To adapt to these challenges, we have seen private enterprises hiring local management and applying local operating models in a bid to retain talent and cut acquisition risk.
China’s new wave of ODI is underpinned by the Chinese government actively reforming and deregulating its regulation of overseas investment. We can expect more developments in the near and mid-term. For instance, with Chinese companies speeding up their pace of overseas expansion, renminbi-denominated deals could be promoted in overseas mergers and expansions. This new era of global cooperation could have benefits for all.
A version of this article was published in FT Beyondbrics on 30 June 2015.