China's stock exchange companies invest in Europe's family business
Shenzhen Deren Electronic Co Ltd (Deren) acquired 60% of the shares of Meta System S.p.A. (Meta), a leading Italian solution provider in the fields of electronics and telematics, in August this year. The majority stake is exemplary for M&A transactions between listed companies from China and European family businesses.
Deren is a leading manufacturer of stretch joints and cable harnesses for electronic products in the consumer products sector, in automotive electronics and in building technology. In 2014, the company's turnover from Shenzhen in southern China was EUR 400 million. Through an acquisition, the company hoped to gain access to the cutting-edge technology of a well-known European brand and a highly qualified research and development team. Prerequisites that Meta fulfilled all.
An attractive target company
Meta is a leading supplier in the automotive and telematics sector. The state-of-the-art product range includes on-board battery charging modules for electric vehicles, sensors and control units. With sales of over EUR 130 million in 2014, the company has long-standing business relationships with German OEMs and market leaders such as BMW, Mercedes and Volkswagen. A particular strength of Meta lies in its research and development work. With this acquisition, the Chinese company has acquired key technologies, mature products, system solutions and supplier qualification for the world's leading vehicle manufacturers. If he had tried to build up his own expertise and relationships in these areas in Europe, this would have posed various obstacles and would have been very time-consuming overall.
Advantages for Meta
Deren has a nationwide sales network in China with locations in Shenzhen, Suzhou, Hefei, Wuhan, Chongqing, Mianyang, Shenyang, Qingdao, Hong Kong and Taiwan. The company's customers include numerous well-known OEM manufacturers. It has entered into strategic partnerships with some of them. Meta can now rely on these networks both for further expansion of its business activities in China and the rest of Asia and for the expansion of local production, its own sales and technical customer service. In addition, there are synergy effects in research and development and Meta's advanced production lines require a minimum capacity utilization for cost-optimized production. This makes the development of China as the largest automobile market in the world an all the more important factor. Meta also benefits from access to cheaper material procurement costs and the possibility of presenting certain production processes internally in a cost-effective manner. Last but not least, the company has also received considerable liquid funds as part of this trotting campaign, which it can now use for additional investments in marketing, branding and research and development. Meta can continue to operate independently outside China. This ensures the continuation of customer service on the domestic market.
Valuation increase for Deren
From the outset, Deren intended to acquire only a majority stake in Meta in order to consolidate the positive financial figures in its annual report in accordance with Chinese accounting standards. Only the controlling majority enabled Meta to gain full access to technology and customers and allows the company to participate in the expected significant sales growth of the high-margin automotive electronics business in China and Europe. The share price climbed from a peak of 14 RMB in March to 73 RMB in June - an increase of 420%.
Challenge of the transaction
In addition to the great cultural differences, the time required and the efforts needed to build a relationship of mutual trust, the different treatment of financial and legal aspects in particular led to a number of evaluation problems and risks with regard to the envisaged transaction structure. Another important point was the different valuation multiples commonly used in China and Europe. In China, a valuation is mainly based on the price-earnings ratio because, on the one hand, Chinese accounting principles do not show an explicit EBITDA item and, on the other hand, there is a widespread view that any items before net income include accounting manipulations. In Europe, on the other hand, the use of EBITDA multiples is very common, as net income is often tax-optimized and the actual operating economic strength of other companies can only be compared with this indicator. Thus, European companies that generate a respectable EBITDA margin but report comparatively low net income are faced with the dilemma that they are overvalued from a Chinese perspective on the basis of the price-earnings ratio. This in turn could have a negative impact on the share price development of the Chinese acquisition. It is therefore crucial for determining the purchase price that the differences between these two valuation methods and the different accounting standards can be bridged.
Function of the consultant
It is usually very difficult for Chinese investors to identify and approach suitable target companies abroad. An experienced investment bank with local expertise and an extensive network of contacts can be very helpful here. For the majority stake in Meta, Deren commissioned IEG - Kratos, which specialises in cross-border corporate transactions. The employees of the investment bank succeeded in bridging the differences between Chinese and Italian entrepreneurs in business and socio-cultural issues. For example, it is common in Europe to rent parts of property, plant and equipment, such as land, buildings and production facilities. For the Chinese this is a very unpleasant situation, as they are used in China to own both the country and the building with all its assets in order to feel secure. In addition, Chinese investors are often not familiar with the closing process of a transaction and do not know which points need to be considered. These include above all the establishment of a special purpose vehicle or the selection of a notary. At this point, professional advice paid off for the Chinese buyer.
In acquiring a majority stake in the Italian automotive supplier Meta, the Chinese listed company had to overcome a number of challenges. However, theirs has benefited in many ways from the trot actions. On the one hand, the company was able to secure a foothold in the European market and access to complementary technology. On the other hand, investors in the acquisition benefited from the positive development of the share valuation.
Header Pic © Thorsten Schmitt via Fotolia