How US China Trade war has affected the M&A activity?

The US China Trade war does not have any winners.It is a known fact that both US and China stands to lose out on this ego battle.The question is which country loses more in this conflict.

At the moment it seems that China due to it’s more exports to US is losing more.This is further substantiated by the respective countries equity market with S&P Global above 31% against the Chinese equity markets.

This trade war would affect the investments done by PE firms, VC and corporates in each other countries.

Impact of Trade war on Chinese M&A

• In recent years, Chinese companies have acquired companies globally more specifically in technology sector.In addition VC companies like Alibaba and Softbank are active investors in emerging technological companies.Most of the M&A by China recently were in domestic companies followed by investments in US technology companies.Infact Chinese investors have invested huge money in Silicon Valley companies after US.
• This situation would change with the trade war.First US has banned any Chinese investments in US companies focused on emerging technologies like Robotics and Artificial intelligence due to the report from US trade commission that China is accessing IP of US firms illegally which might even put its national security to risk.
• Due to the high import tariffs imposed by Trump administration the Chinese exports is going to reduce which would reduce its trade surplus and slow its economic growth that is already shrinking.This slowly demand will reduce the cash available with Chinese companies to make investments abroad.Chinese Government has also posed restriction on the investments that Chinese companies can do abroad as it fear there would be flight of Chinese yuan abroad which can further slow down the internal demand.

How Trade war would affect the US M&A

Let us now come to US where the M&A activity is very high due to low interest rates and reduction in Corporate tax rates.

• Due to the trade tariffs posed by US on Chinese goods, the steel prices would rise which would increase the input costs thereby affecting the business of auto suppliers, manufacturers and Automobile companies. Already the US auto industry is struggling due to high CAPEX costs and resorting to huge layoffs and job cuts to reduce costs and this increase in input tariffs will further exacerbate the situation.
• Due to this, any acquisitions in these sectors would slow down considerably.No acquirer would invest in these sectors where the EBITDA would reduce due to trade war.
• US manufacturing including semiconductor industry also face huge supply chain risk as most of their supply chain is linked with China where majority of production happens.Due to this trade war, US companies need to figure out to rebalance its supply chain by focusing on other countries where the production cost is cheaper.At this moment there aren’t many countries that have the quality of infrastructure and supply chain efficiencies as that of China.Hence the high tariffs imposed by US would certainly cripple all sectors whose supply chain are dependent on China.
• Most of US Private Equity and VC companies have created funds specifically focused on Asia.Firms like Blackstone, KKR and Sequoia have Asia focused funds that invest their dry powder on Asian companies.If one carefully assess the portfolio companies of these funds, then around 40% of these investments are in Chinese companies.
• Most of the US companies specifically in the manufacturing segment have huge exposure to Chinese market.Hence any acquisition or consolidation happening in this sector would regular approval from Chinese regulatory authorities to close the deal.If there is no approval then there is no point for the acquisition as the combined entity would not be able to do business in China.Chinese regulatory authorities can use this veto power to their advantage.Already it has thwarted the acquisition attempt of NXP semiconductors and Qualcomm and might continue to do so in future.

Conclusion

At the moment nationalism and protectionism are given more importance against globalization and open economy.This is surely going to shrink the global GDP growth rate.

The irony is that at one point we are encouraging Digital economy and usage of technologies that can increase transparency to improve customer experience. At the same time we are resorting to protectionism where the ultimate victim is going to be the end customer facing high price or poor quality.