China lays the groundwork for domestic merger boom

by DAVID MILLHOUSE

BEIJINGChina’s central planner, the National Development and Reform Commission (NDRC), has set the stage for what could become the biggest theme in China over the next six to 12 months: A surge in domestic mergers and acquisitions that benefits the economy and stock market.

That can be concluded from the NDRC’s confirmation last week that the government is curbing “irrational” outbound acquisitions in some sectors, likely due to growing concern of systemic risks related to overseas deals, as well as the pressure those investments have placed on the yuan.

In fact, the government’s scrutiny of overseas deals has been evident since late last year based on the 46% drop in non-financial outbound investment in the first-half of 2017 to US$48.2 billion (RM206.3 billion) from a year earlier.

The most likely next step is for consolidation led by China’s state-owned enterprises (SOEs) as part of President Xi Jinping’s reform agenda. That can benefit the Chinese government in several ways.

First, by using stronger SOEs to consolidate financially vulnerable ones, some credit risk will be diversified away from the banking system. Controlling corporate credit risk was a key policy priority highlighted at this month’s National Financial Work Conference. Second, consolidating capacity within the large SOEs could help the government’s supply-side reform agenda through state-enforced supply cuts. Finally, some mergers will strategically place large SOEs in position to benefit from projects related to Xi’s “Belt and Road” trade and infrastructure initiative, like the combination in late 2014 of the country’s two main train producers and last year’s merger between its two biggest shipping groups.

That’s not to say there won’t be offshore consolidation, but that is likely to involve combining SOEs’ offshore assets, as suggested by the state-owned Assets Supervision and Administration Commission (SASAC). Huang Danhua, vice-chairwoman of SASAC, said the commission “will also strengthen the supervision of state-owned capital this year by shifting the focus from previously governing SOEs themselves to better managing their assets, to cut resource waste and improve work efficiency.”

The local press has recently picked up on this theme. Caixin just reported that China may reduce the number of central SOEs to no more than 80 after planned restructurings or mergers, down from 101 at present. The article said SOEs will be divided into three groups of about 20 investment companies, about 50 industrial companies and two to three operations companies. The key sectors of focus will likely be coal, power, heavy equipment manufacturing and steel, as flagged by the SASAC briefing on reform on June 2.

On specific mergers, Reuters reported that China is considering a merger between China Minmetals Development Co Ltd and China National Gold Group Corp. Shenhua Group Corp Ltd is reportedly in merger talks with China Guodian Corp, part of a broader effort to consolidate the power sector. If approved, the combined group would have US$262 billion of assets. China National Chemical Corp and SinoChem Corp is another combination that local media outlets say may be in the works.

The latest speculation follows two recently announced deals. Earlier this month, China Cosco Shipping announced a US$6.3 billion offer to buy Orient Overseas International. In March, the listed arms of China National Nuclear and China Nuclear Engineering & Construction said their unlisted parent companies would merge, creating an US$80 billion group. — Bloomberg