Food safety sharpens China’s appetite for M&A

China’s drive to improve food safety via foreign acquisitions faces growing anti-trust barriers and management failures. FinanceAsia talks to deal-makers about how to make the recipe just right.
Pigs float down Shanghai river in 2013
Pigs float down Shanghai river in 2013

China’s top policy planner told local food companies on January 11 they should fan out and acquire foreign food processing technology and penetrate the global food supply chain – they are rushing to comply.

“There are not many local name brands that consumers trust,” the National Development and Reform Commission (NDRC) damningly said in an online statement released on January 11. 

This latest fillip by regulators is part of China’s long-running campaign to overhaul the country’s dire food safety record after local firms were caught selling infant milk formula adulterated with melamine that sickened around 300,000 children in 2008 and regularly distributing "gutter oil" – made from waste products – as cooking oil.

China implemented a food safety law in 2015 and continues to tighten regulations on food producers and retailers; still the country’s Food and Drug Administration said it had uncovered about half a million food safety violations in the first nine months of 2016.

Last year, a record number of Chinese companies rang up an all-time high bill of $57.97 billion for acquiring food companies around the world. They swallowed everything from baby milk formula makers to seed merchants, according to data from Dealogic.

“The trustworthiness of an overseas brand is very attractive,” said Kenneth Wong of private equity firm Primavera Capital at the HKVCA Asia Private Equity Forum 2017. His company recently teamed up with Shanghai Pharmaceuticals to buy Australian vitamins maker Vitaco for A$313.7 million ($239 million).

Deal-making will continue its frenetic pace in 2017, judging by the appetite of potential buyers in China and the number of ongoing negotiations say M&A bankers and private equity investors. State-controlled conglomerates, such as Cofco and China Resources, who have been in the vanguard of the food M&A wave, are setting up funds to be even more nimble in M&A auctions around the world.

“We will continue to see Chinese companies integrating and cementing the value chain to secure the source supply,” said Mac El-Omari, head of JP Morgan’s consumer investment banking in Asia-Pacific.

Institutional investors say they are looking to profit from the surge in FDI and are screening for agricultural suppliers that could offer China innovations in food traceability as well as e-commerce platforms that cut the number of intermediaries between the farm and consumer.

Chinese firms are particularly hungry for health food firms, with some ambitious firms courting the world’s largest dietary supplement retailer, GNC Holdings, and Carlyle-backed Nature’s Bounty; although their eyes may be bigger than their stomachs in those particular cases.

In a sign of the sheer number of Chinese suitors for overseas companies, Australian health food chain Nature’s Care attracted around 100 bidders last year mostly Chinese, said one person familiar with the transaction.

Consultants at PwC estimate China's health food market will grow by RMB100 billion ($14.6 billion) in the next five years. The concept of taking preventative medicine chimes well with Chinese culture going back millennia of keeping a natural balance.

There is also appetite for acquiring food-processing companies to extract their know-how and adapt it to cater for a younger generation of Chinese who are buying more ready-to-eat meals. CP Foods, which has significant operations in China, completed the purchase of US frozen and packaged food group, Bellisio Foods, on December 22 for $1.08 billion. 

Chinese companies are raising capital to comply with more onerous food regulations, fund acquisitions and keep up with intense competition from peers.

“You’ll see some primary equity raising this year from local restaurant chains to better compete and position themselves,” said El-Omari.

Chinese milk formula maker Biostime International offered investors a tap bond in January on its existing $400 million senior notes due 21 June 2021 to help fund its acquisition of the Swisse Wellness, another vitamin and supplements distributor in Australia.

However, China’s push overseas will not be untrammeled. Politicians, worried about a popular backlash against the surge in Chinese acquisitions, are raising antitrust barriers.

Countries from Australia to the US are increasingly using foreign investment controls to block Chinese takeovers on the grounds of national security and competition concerns.

In the US, the Department of Homeland Security has designated food and agriculture one of the 16 areas is considers critical infrastructure. Lawyers flagged that The Committee on Foreign Investment in the United States (CFIUS) may interpret its role of protecting national security resulting in more blocked deals under the administration of President Donald Trump.

“Clearly there have been political changes and shifting economic dynamics, which is going to have an impact on competition policy and how it is enforced,” Alastair Mordaunt, who advises Chinese companies on overseas acquisitions at law firm Freshfields.

Mordaunt advises that buyers should prepare for a drawn out approval process during which regulators could ask for mitigatory measures such as disposals. 

“In the big cross border acquisitions that we do, it is not uncommon to have dozens of merger filings – that can be quite a coordination effort,” said Mordaunt in an interview with FinanceAsia.

China’s largest outbound deal ever has certainly become bogged down in antitrust discussions. 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.

The European Commission has extended its competition review until April 12. Syngenta has had to submit remedies, which can mean disposals to address competition concerns. It is also still waiting for anti-trust approval in the US.

Syngenta was trading 7.6% below ChemChina’s offer price of about $470 a share on February 13.

There are also signs some Chinese companies are struggling to digest overseas acquisitions of big consumer brands.

China’s Bright Food, owned by the Shanghai municipal government, and Baring Private Equity Asia misjudged their ability to wean Chinese consumers away from their traditional morning bowl of congee to British breakfast cereals after they bought Weetabix in 2012.

The new owners did try to market some of its products as healthy and adapt them to suit Chinese tastes - for example green tea Alpen bars are now on the shelves in China. However they did not catch on as quickly as hoped. The business is up for sale again.

Add into the mix the fast-paced changes in Chinese peoples’ tastes, any executive and dealmaker has to get the receipe just right.

A few multinationals, including McDonald’s and Yum!, have sold equity in their Chinese units to local buyers, often state-controlled, to help them cater to the Chinese consumer and find new locations for restaurants.

“It is obvious that multinationals are not well equipped to provide the products or services that Chinese people want,” said Derek Sulger managing partner of private equity firm Lunar Capital who also serves as chairman of Sichuan Zhiqiang, a Chinese beverage business.

Coca-Cola sold its bottling operations in China for Rmb2.1 billion (USXb) on November 17 to COFCO, China's largest food processing, manufacturer and trade which is directly administrated by China's State Council.

“There is a big shift going on to healthy, organic foods that are better for you. So the multinational companies I used to be with are struggling to keep market share because their systems were developed around moving large volumes of goods,” said Harry Hui at private equity firm ClearVue. Hui used to be the chief marketing officer of Pepsico Greater China.

McDonald’s sold a controlling stake in its mainland China and Hong Kong business for $2.08 billion to state-controlled Chinese conglomerate CITIC as well as private equity firms CITIC Capital and Carlyle. The new owners intend to add more than 1,500 restaurants across China and Hong Kong over the next five years.

The US firm will reap 6% of sales, which is double the 3% franchise fee that Yum! has agreed with its new China franchise holders, according to two people familiar with the deal terms.

Meanwhile Yum China! plans to grow to at least 20,000 restaurants, from 6,900 restaurants in October.

“It’s important to have a strong strategic partner to help with distribution, marketing, branding and access,” said Primavera Capital’s Wong, who teamed up with Alibaba’s affiliate Ant Financial to manage Yum China! “We are only 40 to 50 people as a firm and can’t possibly have the same access as a strategic to tackle this ginormous market,” said Wong. 

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