Written evidence from Dr Jan Knoerich, Senior Lecturer in the Economy of China, Lau China Institute, School of Global Affairs, King’s College London (BFA0016)

Recent ambitions to strengthen government intervention in foreign takeovers and associated policy initiatives to tighten investment screening procedures have been driven primarily by the rapid growth of Chinese acquisitions over the past 10-15 years. Although China’s role in triggering this policy trend is not always explicitly and publicly acknowledged, this written evidence will therefore focus specifically on China, with some points having broader application. Most insights are drawn from academic research on Chinese outward foreign direct investment (FDI) and case study analyses of Chinese acquisitions, especially in Germany. 

The development and advancement of a framework for government interventions in Chinese and other takeovers should take account of the following considerations:

1. There are four common objectives of FDI: market-seeking, resources-seeking, efficiency-seeking and strategic asset-seeking (Dunning, 2000). The latter, strategic asset-seeking FDI, includes the acquisition of technologies and know-how, as well as other assets such as brands. Strategic asset-seeking FDI has been a regular activity in international business long before the emergence of Chinese investors. For example, UK companies seek strategic assets in the United States, and US companies invest in the UK for the same purpose. It is thus a common international business activity and an accepted part of the international rules-based system. Acquisitions and takeovers (used interchangeably here) are probably the most effective way to seek strategic assets quickly, but greenfield FDI can also enable companies to obtain (technological) know-how by linking with foreign businesses and universities or hiring skilled personnel in the country where the investment is made. Many Chinese acquisitions in Europe are strategic asset-seeking investments (Knoerich & Miedtank, 2018; Knoerich, 2012), and most of them could be considered to be in line with these existing international practices. With any acquisition, there is the possibility of illegal know-how acquisition and technology theft, which should be an issue of concern that could be dealt with through investment screening or other regulatory instruments. Ordinary and legitimate strategic asset-seeking FDI in line with international practices may also sometimes raise concerns, especially if undertaken by companies from specific non-allied countries, such as when a Chinese acquirer in the UK aims to acquire technologies through such FDI. Addressing these concerns through government intervention would, however, necessitate regulatory discrimination of investments by country of origin.

2. Chinese strategic asset-seeking acquisitions in advanced economies have often been driven by the ambition to catch up, and the Chinese government has supported through various measures those overseas investments that promised to advance this ambition and contribute to the development of the Chinese economy. The measures introduced range from providing investment-related information to companies, to offering financial support for specific projects (Sauvant and Chen, 2014; Knoerich, 2016a, 2017, 2018). Home-country measures such as these are common international practice, as many other countries and advanced economies have adopted similar measures to support their companies’ outward FDI (Sauvant, Economou, Gal, Lim, & Wilinski, 2014; UNESCAP, 2020). China appears to have adopted quite an elaborate set of home-country measures, though these could still be considered to be broadly in conformity with common international practice. However, a considerable proportion of Chinese multinationals are state-owned, a characteristic that could at times have an impact on their foreign investment decisions and strategies. State-ownership might imply above average degrees of government backing and intervention.

3. An acquisition by a Chinese company can be beneficial to target companies in advanced economies in ways that considerably improves their business. Collaborating with a Chinese acquirer can be a strategic decision, because specific opportunities for target companies may only be realised if the acquiring company is from China (Knoerich, 2016b). These specific opportunities might include, inter alia (see Knoerich, 2010, 2016b): 

• An acquisition by a Chinese company can facilitate the target company’s access to the Chinese market. Due to its large size and lucrative opportunities, operating in the Chinese market has become indispensable for the success of many international businesses. However, many Western companies struggle to manage this difficult and complex market without local support, and this is where a Chinese acquirer could help.
• As China is a low-cost production location, an acquisition by a Chinese company might open up channels that help reduce the target firm’s costs in production, procurement and other areas. This cost reduction could generate new business opportunities for the target firm in sectors and market segments where cost efficiency in advanced economies is insufficient.
• The capital injection by a Chinese acquirer can help the target firm expand its business and associated activities, especially at its original advanced economy location. It could fund additional investments in research and development (R&D) that generate new knowledge and technologies on the site of the target firm in the advanced economy. Such R&D might be conducted either by the target firm alone or in collaboration with its Chinese acquirer. Some Chinese takeovers have saved target companies from bankruptcy, rescuing a business that might otherwise have ceded to exist.
   

While the precise opportunities may vary from case to case, it would be important for any regulatory or screening regime to take them into consideration, as not realising them can have negative economic implications. It should be added that these opportunities might not always be fully realised, nor are all Chinese acquisitions successful. Yet, instances of post-acquisition failure are not unique to Chinese investments, as mergers and acquisitions regularly fail to succeed in other circumstances (Calipha, Tarba, & Brock, 2010; Craninckx & Huyghebaert, 2011).

4. Target companies often introduce safeguards to protect themselves against potential malicious activities by their Chinese acquirers, such as illicit transfer of technologies and know-how. These safeguards might include, inter alia (see Knoerich, 2010, 2016b; Miedtank, 2019):

• Chinese acquirers agree to grant their target companies high degrees of autonomy and independence. This is done through contractual guarantees that the Chinese company will not integrate the target company into its operations and will continue employment contracts and local production for at least a certain period of time. The target company keeps its identity, organisational structure and management, continues to control its technologies, and hosts only limited staff from its Chinese parent. Acquirers from Western countries would normally find such degrees of subsidiary independence unacceptable, making this arrangement with a Chinese partner interesting from the perspective of target firms.
• The Chinese acquirer offers location guarantees.
• Provisions are included in the acquisition contract that leave decisions on the outward transfer of technologies, know-how and brands in the hands of local subsidiary management. It should be noted that, in order to accommodate the strategic asset-seeking ambitions of the Chinese firm, the management of the target company may be willing to transfer some of its more dated technologies for which it has limited use, in exchange for the aforementioned support from its Chinese acquirer.
• Opportunistic or malign behaviour by the Chinese acquirer could be considered as mutually destructive, forfeiting much more promising synergies for the achievement of some immediate (technological) gain, and is thus not expected. Yet, such opportunistic intentions cannot be ruled out.

While the precise safeguards may vary from case to case, it would be useful for any government intervention or screening regime to take them into consideration. It might be possible to intervene in the specification of safeguards as part of the regulatory or screening process, by engaging with both the acquiring and target firms.

5. The UK’s investment screening regime should aim to prevent acquisitions that could result in technology theft, the out-transfer of core assets, espionage and other malicious activities. But investment screening tends to block only few acquisitions, those where a threat to national security is strongest. Other takeovers, for example those where undesired technology transfer may still occur, could still pass such screening. The development of an appropriate framework for government interventions in acquisitions is thus a complex challenge, requiring a nuanced approach that weights opportunities against threats, differentiates by aspects such as size of investment, sector, nature of relevant technologies, privacy concerns, ownership of investing firm (private or state-owned), extent of the potential threat etc., and involves multiple stakeholders, including acquirer and target firms.

6. A non-discriminatory approach to investment screening with regards to the country of origin, as has been the common procedure, implies that the treatment of an acquirer from a strategic competitor or hostile state is equal to that of an acquirer from an allied country. A shift to an investment screening regime that is discriminatory against specific countries, such as by mandating tighter screening specifically of Chinese takeovers, will have geopolitical and potentially legal implications that need to be anticipated. A different approach might be to discriminate against state-owned firms, regardless of their country of origin – this would disproportionately affect Chinese companies. It could be added that the quantity of Chinese FDI in the UK and other European economies is still comparatively modest, with more FDI originating from other advanced economies, though Chinese firms invest large sums to conduct acquisitions.

7. There should be greater insistence that China commits to full reciprocity with the West in terms of mutual access to markets and technologies. China still has a lot more restrictions compared to the UK and other Western advanced economies. There are sectors open to Chinese takeovers in the UK that are closed to UK companies in China. With regards to considerations of reciprocity, it could be added that China has for four decades offered Western companies an important location for market- and efficiency-seeking FDI, but not strategic asset-seeking FDI. With its recent emergence as a significant technological power, China too is slowly becoming an interesting location for strategic asset-seeking FDI.

The current trend towards a deterioration of political relations between China and the West may diminish the aforementioned opportunities from collaborating with Chinese firms and increase the challenges, though economic collaboration will continue. Measures of risk mitigation through government intervention should be appropriate and proportionate, so that they address the challenges without forfeiting all the opportunities.

References

Calipha, R., Tarba, S., & Brock, D. (2010). Mergers and acquisitions: A review of phases, motives, and success factors. In C. Cooper & S. Finkelstein (Eds.), Advances in Mergers and Acquisitions (pp. 1-24). Bingley: Emerald Group Publishing Limited.

Craninckx, K., & Huyghebaert, N. (2011). Can stock markets predict M&A failure? A study of European transactions in the fifth takeover wave. European Financial Management, 17(1), 9-45.

Dunning, J. H. (2000). The eclectic paradigm as an envelope for economic and business theories of MNE activity. International Business Review, 9(2), 163-190.

Knoerich, J. (2010). Gaining from the global ambitions of emerging economy enterprises: An analysis of the decision to sell a German firm to a Chinese acquirer. Journal of International Management, 16(2), 177-191.

Knoerich, J. (2012). The rise of Chinese OFDI in Europe. In I. Alon, M. Fetscherin, & P. Gugler (Eds.), Chinese international investments (pp. 175-211). Houndmills, Basingstoke: Palgrave MacMillan.

Knoerich, J. (2016a). Has outward foreign direct investment contributed to the development of the Chinese economy? Transnational Corporations, 23(2), 1-48.

Knoerich, J. (2016b). Why some advanced economy firms prefer to be taken over by Chinese acquirers. Columbia FDI Perspectives, No. 187, 21 November 2016.

Knoerich, J. (2017). How does outward foreign direct investment contribute to economic development in less advanced home countries? Oxford Development Studies, 45(4), 443-459.

Knoerich, J. (2018). Do developing countries benefit from outward FDI? Columbia FDI Perspectives, No. 234, 10 September 2018.

Knoerich, J., & Miedtank, T. (2018). The idiosyncratic nature of Chinese foreign direct investment in Europe. CESifo Forum, 19(4), 3-8.

Miedtank, T. (2019). The dragon comes to Europe – An analysis of the workplace management in Chinese subsidiaries operating in Germany. Unpublished PhD dissertation, King’s College London.

Sauvant, K. P. & Chen, V. Z. (2014). China’s regulatory framework for outward foreign direct investment, China Economic Journal, 7(1), 141-163.

Sauvant, K. P., Economou, P., Gal, K., Lim, S. W., & Wilinski, W. (2014). Trends in FDI, home country measures and competitive neutrality. In A. K. Bjorklund (Ed.), Yearbook on International Investment Law & Policy 2012-2013 (pp. 3-107). New York: Oxford University Press.

UNESCAP (2020). Outward Foreign Direct Investment and Home Country Sustainable Development, Studies in Trade, Investment and Innovation No. 93. Bangkok: United Nations.

September 2020