In late 2016, the Chinese State Council announced new capital controls were to be put in place as of January 1, 2017, with the aim of reducing the outflow of currency from China. These new measures are seen as likely to have significant impacts on industries around the globe, such as housing markets and insurance, as well as the broader market for international mergers and acquisitions (M&A) by initiated by Chinese companies around the world.
Crackdown on money laundering
One of the principal aims of the regulations appears to be a crackdown on money laundering through the purchase of overseas properties. According to Bloomberg, for individuals, the regulations introduced restrictions on international payments and reporting requirements for banks whose customers seek to complete any cash transaction in amounts greater than 50,000 yuan or any overseas transfer of amounts equal to USD$10,000 or more. When completing applicable foreign exchange transactions, individuals are required to pledge that such funds will not be used for the purchase of foreign property, securities or insurance. As well, individuals must provide a detailed breakdowns of their proposed use of funds.
Increased scrutiny on large transactions
In addition to these personal restrictions, according to CNBC, the new regulations also appear to be aimed at curbing outbound M&A activity through increased scrutiny by Chinese regulators of any transaction out of the country valued over USD$10 billion, with transactions under USD$1 billion likely to receive less thorough review. Though there has been typically little public comment from the Chinese government on the new capital controls, the the Financial Times reported the Chinese State Administration on Foreign Exchange as trying to counter the idea that the government wants to curb M&A activity, but rather that it wished to “crack down on ‘fake’ transactions while continuing to clear genuine ones.” The FT further reports that analysts and bankers see the Chinese government as being concerned about the quality of Chinese overseas investments” and fearing that “transactions are being rushed through without proper due diligence to cash in on the [US] dollar’s continuing appreciation against the renminbi.”
Despite the sense in the market that the Chinese government is seeking to curb outbound M&A activity, CNBC’s report suggests that high dollar value transactions out of China show no signs of stopping all together and that investments considered strategically significant to Chinese interests will receive approval. Media reports have also cited Chinese regulatory support for Dalian Wanda’s USD$1 billion buy-out of Dick Clark Productions as evidence that high profile and politically connected firms are considered exceptions to the new capital control measures, and that such firms will continue to be able to complete high dollar-value outbound transactions. (Despite previous statements of support for the Dalian Wanda-DCP transaction by Chinese authorities, media reports state that DCP’s owner, Eldridge Industries, subsequently filed suit in Delaware claiming termination fees after one of its affiliates terminated the transaction alleging that Dalian Wanda had “failed to honor its contractual obligations” when the transaction failed to close by the end of February.)
Consequences of new capital controls
A Reuters report notes that a result of greater scrutiny on outbound transactions has been a spike in inbound M&A activity and that he value of inbound M&A transactions has “already reached $7.1 billion so far in 2017, almost double the amount in the same period last year”. This increase in inbound M&A activity is intertwined with desire of the Chinese government “rebalance the economy away from infrastructure, heavy industry and export-led growth and towards domestic consumption”. Whereas the Chinese government had previously considered many sectors off limits to foreign direct investment, a desire to increase domestic consumption and growth means that “foreign investments no longer need to go through a cumbersome approval system, and there has even been some loosening” in certain sectors previously deemed too internally sensitive to be opened to foreign competition.
Though the effect of these changes in Chinese economic policy will continue to evolve over the coming months and years, this new emphasis on stability at home and stopping any slide in the value of the renminbi against the dollar is already showing signs of slowing outbound M&A activity while bringing new opportunities in China for buyers looking to expand into that market. Based on our recent experience, it pays to be patient and to remain optimistic – Chinese regulatory approvals are not altogether gone for good.
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