China's push to improve food security and safety has provided the impetus for a growing wave of overseas acquisitions, says Mac El-Omari, head of JP Morgan’s consumer investment banking unit in Asia-Pacific.
The need to ensure China's people have enough safe food to eat has surged up the policy agenda since China's government published a 1996 white paper entitled "The Grain Issue in China".
While many of China's farms and food processing plants are state-of-the-art – including Cargill’s chicken farms in Lai’an, Anhui province – the food chain does not always knit together well across the country, allowing contaminated food to slip in.
Government measures to tamp down food price inflation and keep consumers happy have put pressure on the value chain – right down to the farmer, who must cut costs to make ends meet.
Policy has also evolved to overcome China's physical limitations and check agriculture's impact on the environment. China is home to 19% of the world's population but just 8% of its arable land and 7% of fresh water – not enough to feed its 1.36 billion people.
As a result, China is embracing new tactics to diversify its food sources, from snapping up farmland in the Ukraine to importing raw materials – including dairy herds from around the word in some of the longest cattle drives in history.
Chinese buyers are also swallowing food-processing companies whole, to help limit the impact of trade wars.
Meanwhile China is buying foreign technology to upgrade its agriculture and food-processing logistics. Less fertile soil and mountainous countryside contribute to 40% lower yields in corn and soybean production than in the United States. Around 30% of food is wasted in China, through inadequate storage or transport and high livestock mortality rates.
State-controlled ChemChina agreed to buy Swiss pesticides and seeds group Syngenta for $43 billion in February 2016, in an effort to skip years of expensive research and development in the field of plant biotech research to boost crop yields.
Outbound food M&A from China is just getting going, says El-Omari.
Chinese companies’ acquisitions of agricultural companies around the world hit $9.6 billion last year, up slightly from $7.6 billion in 2015.
Last year, among other transactions in the region, JP Morgan advised Australian vitamin firm Vitaco on its takeover by Shanghai Pharma and private equity fund Primavera, as well as the purchase by CP Foods [which has significant operations in China] of Bellisio Foods.
“This is just the tip of the iceberg. I have not seen any slowdown,” El-Omari said.
El-Omari talks to FinanceAsia about the evolving trends in China's agricultural M&A moves.
The following transcript has been edited:
Q. What is driving M&A in China’s food sector?
A: Whatever you grow and breed in China costs two to three times more than it does in say Brazil, the US or Ukraine.
The Chinese government is focused on four goals to meet the needs of such a vast and growing population: food security, food safety, price stabilisation and environmental sustainability.
China is active in three complimentary areas to achieve these goals – soft commodity trading globally, making more investments in the industrialisation of agriculture domestically, and finally outbound M&A.
M&A is the one that has so much more to go and I think what we've seen is just the beginning of it.
Q: How has China's outbound M&A in the agricultural sector changed over time?
A: Initially Chinese companies acquired a large amount of land overseas. However, farming is a very local-local business, which is difficult to manage remotely. It has been challenging for Chinese companies to grow or manage farms elsewhere. It needs local support, the right ecosystem and logistics.
Chinese companies gradually realised it would make better sense for them to buy those companies which have the know-how to source locally and efficiently and process ‘value-add’ products ready to be shipped to China, rather than trying to produce and ship commodities on their own.
Agriculture is a very different proposition to metals and mining in this respect.
Naturally, this journey up the value-chain has expanded to encompass branded companies.
When you look at the big picture, you are going to start seeing a lot more cross border transactions, which will connect the dots.
Q. How has the structure of deals changed?
A. In the past, forging a joint venture with a foreign partner was a common format.
Today, some Chinese companies are questioning the logic of that approach.
For them, it makes better sense to acquire or invest directly in a parent company, which already has the infrastructure, the facilities, the land and the know-how to produce the products, or services that are needed in China.
Setting up a JV structure could be far more complex in comparison.
Q: How do the Chinese manage the companies they acquire?
A: It's common for a Western company to acquire a target company, change its management and business model, and then integrate it into its own system to capture efficiencies and synergies. Often it is associated with a business reshuffle and cultural overhaul.
The Chinese are taking the opposite approach. Today, many Chinese companies prefer not to take over a company or make an investment into a company unless they are assured that the management is strong and will stay.
They will empower the existing management to continue to run the company, keep doing what they are doing but to bring the products, the know-how or services to a vast new market – China. Shuanghui’s acquisition of Smithfield is a perfect example.
Q: Which companies in China are drivers of future M&A activity in the sector?
A: We’re seeing some state-owned enterprises (SOE) take a leading role in outbound initiatives. They sometimes use their own funds or work in tandem with local or international private equity firms.
At the next level, there are private enterprises, which are industry leaders with a desire and capacity to expand their business. They've been also very acquisitive. Many of them are overseas-listed companies, which have a competitive advantage and access to the capital markets for funding.
Onshore in China, there's also ample bank liquidity to support A-share listed companies execute their acquisition strategy.
Many of these companies partner with sponsors in their outbound moves, such as HOPU, Boyu, Hony and CDH.
Q: How can the Chinese outbid foreign rivals?
A: Apart from having access to cheaper funding, the main advantage of Chinese bidders over their foreign rivals is their ability to generate more value, which is to open the Chinese domestic market.
The consumer market in China remains the most promising place for future growth globally.
Q. What role will private equity play in food-related M&A?
A: We are starting to see lot of funds, working alongside the strategics and companies. They act as lubricants to make the deal happen.
It is a great strategy – one, you increase your probability of executing. Two, there’s a discipline. Sponsors often bring to the table deep sector knowledge and smart people who know how to transact. They understand the importance of retaining management and what it takes to empower.
You get the best of both worlds in those situations.