Japan dominates Asia-Pacific outbound M&A for Q1
Japan’s continued hunt for growth pushed it to the top of the Asia-Pacific region for outbound deal value during the first quarter of 2017, knocking China from its top spot as Chinese buyers face their own regulatory and political challenges, experts say.
The first quarter of the year saw Japanese buyers ink $14.72 billion in transaction value outside their borders, surpassing the $11.55 billion worth of deals inked by Chinese buyers, according to Baker McKenzie LLP’s recently released cross-border mergers and acquisitions index.
Although China still edged Japan out slightly in terms of the number of deals — Chinese buyers inked 74 deals to Japan’s 63 in the first quarter — the dominance in deal value from Japanese buyers comes amid the need for corporations in a country with a shrinking population and deflation to find growth outside its borders.
“We expect that strategic considerations around the use of large cash reserves and slow domestic growth driven by an aging population and deflation will continue to drive Japanese outbound acquisition activity in 2017,” said Nobuhisa Ishizuka, a Skadden Arps Slate Meagher & Flom LLP partner and head of the firm’s Tokyo office.
There are also favorable financing conditions in place for Japanese buyers, and companies are increasingly facing pressure to tap into the surplus of cash on their books, Ishizuka said.
“Several incentives exist to productively deploy cash. The continuing negative interest rate policy is providing an incentive for Japanese corporate borrowers, which tend to save cash rather than spend capital, to deploy excess savings," he said. "In addition, a continued focus on corporate governance reforms are imposing increased accountability on Japanese companies to productively use their surplus cash with a particular focus on shareholder returns."
That search for growth from Japanese companies is culminating at a time when Chinese buyers are facing new restrictions on outbound capital from China’s government and are facing a perception in the U.S. that heightened scrutiny will make Chinese-backed deals harder to close.
China’s State Administration of Foreign Exchange unveiled new regulations at the end of 2016 aimed at curbing the flow of capital outside the country amid concerns that certain transactions were merely a way to maneuver money into other areas. In effect, the regulations make it more difficult to get cash out of the company, especially in a short timeframe, making it difficult for Chinese buyers to alleviate concerns about deal certainty by putting up a portion of the purchase price before the deal even closes.
That challenge for Chinese buyers also comes at a time when foreign investments in the U.S. are expected to face even tougher scrutiny on a national security basis.
Last year, the Government Accountability Office initiated a review of whether the Committee on Foreign Investment in the United States, the interagency committee tasked with evaluating the national security risks of inbound deals, has the reach it needs to root out threats. The review came in response to a group of lawmakers asking the agency to investigate CFIUS’ current reach and the implications of expanding its mandate to include notions like reciprocity, a net economic benefit test and food security.
These headwinds for Chinese buyers are an opportunity for Japanese buyers, which regularly compete for the same assets.
"If suddenly, the Chinese buyers are not able to participate in these potential acquisitions either because the Chinese government’s new policies don’t allow them to proceed or because of concerns the U.S. government will block a purchase, that creates a significant opportunity for Japanese companies,” said Kenneth J. Lebrun, a Tokyo-based Shearman & Sterling LLP partner and head of the firm’s M&A group in Asia.
Japanese buyers are targeting North American assets the most, with 24 deals worth $7.3 billion inked during the first quarter of 2017, according to the Baker McKenzie report. North America is followed by the European Union, which saw 18 deals worth $4.8 billion, and other Asia-Pacific countries, which saw 17 deals worth $736 million.
The interest in North America and the EU highlights a focus on finding growth through making major acquisitions in stable markets, rather than trying to build out a business with small bolt-ons or take on the cost and risk associated with developing markets, explained Edward Cole, managing partner of Freshfields Bruckhaus Deringer LLP’s Tokyo office.
“Many Japanese businesses sense the need to do something material in terms of changing their business and growing internationally rather than incrementally adding a little bit here and a little bit there, and that’s why there’s a focus on large investments in developed countries,” he said.
“To buy large, relatively stable assets, you need to be looking at developed markets because that’s where they are. That leads to more focus on Europe, North America and Australia as potential destinations for investors,” Cole added.
There’s also familiarity between Japan and North America, allowing for transactions to come together easier.
“Even though challenges around culture and language still exist between Japanese bidders and North American targets, they still generally know each other quite well, resulting in a good combination in the end,” said Akifusa Takada, co-head of Baker McKenzie’s corporate practice in Tokyo.
By deal value, Japanese buyers poured the most capital into outbound deals in the pharmaceutical, medical and biotech spaces, according to the Baker McKenzie report. There were six transactions worth $5.07 billion in pharma, medical and biotech, followed by the seven deals worth $3.3 billion unveiled in the financial services industry.
The most active industries by the number of outbound deals from Japan were the business services and industrials industries as both saw nine transactions, according to the report. Japanese buyers spent $196 million on business services deals in the first quarter and $1.74 billion on industrials deals.
Japanese companies are expected to keep looking outside their borders but also to keep a close eye on the political climate around the globe, Takada noted.
“We believe that this trend should continue under the Japanese corporate’s midterm strategies, but they will remain sensitive to any development of geopolitical concerns and other rapid changes in the investment climate,” Takada said.
The U.S. in particular will be watched closely as potential corporate tax reform and other changes could make a fair value for an asset difficult to pin down.
“That might actually at the moment be encouraging a slight refocusing toward Europe and Australia," Cole said. "I’m not suggesting that Japanese businesses will stop investing in North America at all, but there is a slight sense at the moment that it’s a little harder for some Japanese businesses to invest in North America, given the feeling that there potentially could be some significant changes to the U.S. tax system and other aspects of the economy in the near future.”
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