Enter the Dragon: China acquiring German SMEs
- September 22, 2019
- Posted by: admin
- Category: Economics, International
In August 2018, in a first of its kind of action, German Government moved to block Chinese takeover of German toolmaker Leifeld Metal Spinning AG through Yantai Taihai Group. It has been a watershed moment in recent German industrial history – in a country which believes in free economy with minimal government interference. Since introduction of investment auditing in Germany in 2004, no investment had been prohibited. But that was about to change.
China on a buying spree
One after the other German hidden champions started falling in Chinese hands –
Osram subsidiary Ledvance was acquired by Chinese MLS,Munich-based 180 years old manufacturer of injection-molding machines KraussMaffei was acquired by ChemChina, Lenovo’s invested in the computer maker Medion , Avic took over automotive supplier Hilite International, Weichai Power acquired engineering and logistics company Kion, Romaco – pharma packaging company – was sold to Chinese. And the list goes on.
Leifeld is a typical German medium-sized enterprise – popularly known as the Mittelstand. This 125 years old company has barely 200 employees, is situated in a small town in the state of North Rhine-Westphalia. However it is high-tech, extremely focused in the field of metal forming, and is global.
A few days before, KfW – Germany’s state-owned development bank was instructed to acquire 20% of the power grid company 50Hertz Transmission GmbH to fend off acquisition through a Chinese company.
The real wake-up call came following the 2016 takeover of KUKA AG – the world-famous, innovative robotics manufacturer – through Chinese Midea Group. Voices were raised about concerns over Chinese intentions, and Germany’s loss of technology in sensitive areas.
Germany – a free economy
Many business representatives in Germany, however, want their country to steer clear of protectionism. They don’t want their Government to decide if a family-owned company should be acquired by a Chinese investor or not. In fact, many Mittelstand companies have been saved from bankruptcy by Chinese investments. German economic policy has been very takeover-friendly.
China’s rapid rise to become a major trade partner
China is Germany’s largest trading partner, with a total trade reaching €187 billion last year (Germany with India – € 18 billion) – German exports to China were €86 billion and imports from China – €101 billion. Some 6,000 German companies are now active in China (in India – about 1800), which has received a total of €60 billion in direct investment from Germany.
Why acquire in Germany?
For decades Germany has been the locomotive of European economy. Chinese government institutions consider Germany to be politically and economically important player, and thedesirable target country for M&A investment. Germany represents stable economy, skilled and qualified employees, long-termism, moderate pricing of acquisition targets, the existence of key emerging technologies, and most of all, the country’s backbone – its Mittelstand (SMEs).
Chinese investments in the EU rose over 40-fold from €700 million in 2008 to €30 billion in 2017. China was especially focused on Germany in the year 2016 when Chinese companies invested a total of €11 billion in Germany- which was more than the previous 10 years combined. Between 2005 and 2010 only around 40 German Mittelstand companies were acquired by Chinese suitors. The number rose to 263 between 2011 and 2017.
Mittelstand at risk
The Chinese have acquired considerable stakes in German corporate icons such as Daimler and Deutsche Bank. However, it is Germany’s Mittelstand – which specializes in state-of-the-art technology– is most vulnerable to Chinese aggression. The Mittelstand is undergoing a transition. With ageing population, it is facing issues with succession and skills shortage. Chinese investments look a welcome move – initially, but the support often turns out to be more political than economic in nature.
Made in China 2025
The father of modern China – Deng Xiaoping’s famously said – “It doesn’t matter if the cat is black or white, so long as it catches mice”. His ground-breaking idea of a political reorientation and opening up of the Chinese economy in December 1978 unleashed the power of the dragon and led to the economic miracle that is today’s China. Within just four decades China’s share of global GDP jumped from 2% to 18%. Its share of global trade sky-rocketed from around 1% to 19%, and 600 million Chinese were lifted out of poverty. Indeed a great achievement!
In the beginning of this decade, China started developing its drive to transform the country into a leading industrial powerhouse by 2025. Electrical vehicles, robotics, medical, aerospace equipment and new materials are among the 10 target industries. The government’s declared goal is to achieve a dominant position in the world economy in important technological areas by 2049 to commemorate centenary of Mao’s red revolution.
A study by the Bertelsmann Foundation analysing 175 Chinese mergers and acquisitions between 2014 and 2017 found almost two-thirds of the investments took place in the 10 sectors outlined by Beijing’s “Made in China 2025” drive. As per the study, major investments were made in German companies offering fuel-saving technology, alternative transmission know-how for the auto industry, robotics, energy systems and biomedicine.
The Chinese threat
Red carpet is rolled out for foreign investors in most of the countries. GTAI (German Trade and Invest) – the State agency promoting investment in Germany – is not an exception. There should not be any objection to a country’s ambition to grow economically – even if they were your competitors. However, China is turning from competitor to adversary.
For years – especially during Chancellor Gerhard Schröder’s times – Germany’s China policy was guided by the principle “Wandel durch Handel” (“Political change through trade”). The policy worked with former East Germany, Russia, and Germany’s east European neighbours. Not with China!
To start with, China’s dictatorial one-party rule, its aggressive and ambitious geopolitical policy – going on the verge of economic colonization, disregard of human rights, and opaque transactions are at complete odds with the contemporary liberal European values and her social market economy principles.
Lack of openness and the mystery surrounding the management of Chinese companies has damaged its public perception in Europe. For example, normally investors must inform German authorities if their share of voting rights exceeds 3%. Geely – one of the largest automakers in China – acquired 10% of Daimler by investing US$ 9 billion using financial engineering and a clever combination of derivatives, bank financing and share options. That allowed it to benefit from legal loopholes and circumvent the strict German disclosure rules. Though the transaction was legal, it did not help improve image of Chinese business practices.
According to the Pew Research Centre, 53% of Germans hold the most unfavourable view of China, only next to 59% Italians who have a negative view.
Based on a study by VDMA (German Mechanical Engineering Industry Association), a whopping 82% of the manufacturers surveyed said that their machines, components, spares, catalogues, designs etc. got copied in China. That means eight out of 10 German companies affected have pirated products/material in China. (Only 11% German companies held similar view about India). Perceptions do matter! The mood in German public, its business and political elite, trade unions is changing fast to reconsider its Laissez-Faire policy on foreign investments.
Who is the real investor? “With Chinese investment, it’s difficult to determine if it is purely a business decision, or if there’s a political motivation too.” says Dr. Cora Jungbluth, of Bertelsmann Foundation.
Loss of technical know-how, leading eventually to loss of jobs is the next fear. German angst is reflected when some say that China is on a mission to suck the country dry of technological know-how and engineering expertise.
Like India, Germany too is highly suspicious of China’s Belt and Road Initiative.
China has taken lead in formation of “16+1” Group which includes 16 central and eastern European countries. 11 of these countries being EU members, Germany views this as Chinese attempt to split Europe.
Another big worry is China’s cyber security law, which gives the government legal controls over the encryption and flow of data. The law “poses the risk ofinvoluntary technology transfers and the loss of intellectual property rights”, says Hanna Müller, the BDI’s (Federation of German Industries) top representative in Beijing. “You have to disclose a lot of data, and there is the risk that commercial secrets are just no longer protected.”
Operating in China is another challenge. Unequal access to licenses, financing, subsidies and legal remedies deny the Mittelstand companies the level playing field. Local companies are unfairly favoured over international competitors in public contracts. Legislation and administration is often ambiguous and inconsistent. Day to day operational challenges like forced technology transfer through mandatory JV partners, lack of enforcement of intellectual property rights, delays in customs clearance and forex payments, and frequent and non-transparent regulatory changes make life difficult – especially for the Mittelstand companies.
Foreign companies present in China are observing the growing influence of Chinese Communist Party on individual companies.
European Union has called China a “distorted State-run economy”. State influence on factor prices (land, energy, capital, labour), and indirect or direct subsidies for entire industries lead to over-capacities and market distortions in China. This often spills over the Chinese borders leading to dumping practices all over the world.
The Mittelstand companies are experiencing challenges of unfair competition even in third country markets. Subsidies and price distortion is observed in foreign activities of Chinese companies.
Chinese competition cannot be attributed only to unfair competition and questionable investment practices. China has grown due to its sheer size, hard work, openness to new technologies, investments and entrepreneurial spirit. Today China dominates internet economy. It has already surpassed Europe in Artificial Intelligence, E-Mobility, Big Data Analytics, mobile payments, e-retail etc.
Europe has woken up to the Chinese challenge. Germany is leading the efforts to find EU-wide solution.
Germany has reduced the threshold for foreign investment in sensitive technologies from 25% to 10% for the automatic route. Germany teamed up with France and Italy to introduce more rigorous screening of foreign takeovers of EU companies, especially those with suspected state backing.
Nevertheless, German industry generally believes that it makes sense to maintain diversified trade relations and investment decisions. Germany has realized that excessive dependence on a single market is always associated with political and economic risks.
Germany is looking for keeping the technological edge by further investing in innovation and R&D – especially in the fields of Industry 4.0 and other new technologies. It is trying to fill the skills gap – even by getting experts from abroad.
Germany and EU are seeking coordination with like-minded partners – in particular with open and market economies. And there – it is becoming interesting for countries like India.
(Thanks to Deutsche Welle, BBC, BDI, Bertelsmann Stiftung, FT, npr.org, Economist, KfW)