Diligencing China Inc: Getting Behind the Curtain in China’s [Continuing] West-Bound Buying Spree
Tuesday, April 04, 2017
(Mintz Group by Jingyi Li Blank) – In mid-2016, a little-known consortium of Chinese investors, the Sino-Europe Sports Investment Management Changxing Co., made an $825 million bid for the storied Italian soccer club, AC Milan, then owned by former Italian Prime Minister Silvio Berlusconi. The group supported its bid with documentation of corporate accounts purportedly held with the Bank of Jiangsu, a regional Chinese bank.
However, this documentation was later found to be questionable, and the Bank of Jiangsu denied that it had ever issued the bank statements, according to news articles. In March 2017, the obscure Chinese consortium lost the backing of its state-owned partner, and Bloomberg reported questions about the deal’s viability.
Soaring M&A
As China’s economic power has grown, so has its appetite for acquisitions. In recent months, for the first time China overtook the United States as the world’s largest player in cross-border mergers and acquisitions, with over $200 billion of deals announced in 2016, according to financial data provider Dealogic. Europe and the United States have been, and likely will continue to be, the key focus of China’s investment.
But dealmakers in the United States and Europe face a dilemma on whether to forego ostensibly “safer” offers from Western buyers in favor of higher bids from Chinese buyers, which are perceived to be riskier in regulatory or reputational terms. The question arises – how can Western companies on the auction block guard against these risks?
The answer lies in conducting proper due diligence. In many cases, Chinese companies (especially those that make unsolicited offers) have no international deal experience. U.S.- and U.K.-based M&A advisors, bankers and lawyers have no idea who these Chinese players are. Using due diligence as a tool to understand Chinese buyers who have shown a willingness to offer big premiums will allow sellers to maximize value from their sale – and also to sleep at night.
It goes without saying that fraud and corruption are all too common in Chinese corporate life; China-based reverse merger frauds are but one example.
In January 2017, a federal courtroom in Manhattan witnessed the last act in one of the oddest due-diligence disasters in recent Chinese business history. A U.S. district judge ruled that a company named Puda Coal and its chairman should pay $228 million for misleading investors about its assets in U.S. securities filings. Puda went public in the United States through a reverse merger in 2005 and began trading in 2009. In 2010, prospective investors bought Puda’s share offering. The only problem was that the company was allegedly a shell with no assets, and shares collapsed within a year. The asset transfer out of Puda was documented in publicly available Chinese corporate records before the offering, according to news articles.
Just in recent weeks, the Chinese corporate bond world was shaken up by two cases of forged bank documents. In December 2016, China Guangfa Bank said documents and corporate seals in its name had been forged in a guarantee document for a bond offering, press accounts said. The bonds defaulted. Around the same time, the brokerage Sealand Securities said employees had allegedly conducted more than $2 billion of bond trading using a forged company seal, news reports said. Sometimes what is on paper in China cannot be taken at face value.
