Brexit has dominated headlines in recent weeks, and sitting in my office in Frankfurt, I am watching it with fascination. Ever since the June 2016 referendum vote, many European financial centers have tried their best to attract Chinese investment, with the hope that Brexit uncertainties may produce more opportunity to engage with new business in China.
Yes, it is true that we’ve seen client firms moving their headquarters to European Union countries, or appointing intermediaries to work for them in the EU, but from our experiences, it seems clients are not (yet) necessarily downsizing in the United Kingdom.
In our experience, Chinese investors – like some others in the United Kingdom – seem to be less worried about Brexit than they are about the political situation. The political uncertainty is tied with Brexit (without discussing chicken and egg theories) to a degree that for many people, Brexit has apparently become a synonym of uncertainty. On the other hand, there's still so much activity in the financial industry happening in London, and so much money is flowing through London. And everybody in London speaks English, (still) the language of the financial world! In our view, London is thus going to retain its leading position for several years. It will take time – and the support of market participants – to build an infrastructure comparable within the EU to the one we find in London today; e.g., it will take time to facilitate the clearing that is currently taking place in London anywhere else in Europe, and there simply is no reassuring business such as Lloyds.
Take Germany, for example. After the exceptional high volumes of Chinese investments peaked in 2016 and 2017, in 2018, the volume of Chinese investments in Germany has returned to the level it had in 2014 and 2015. It is difficult to predict the future – and also to predict the the future volume of Chinese investments into Europe. To have an educated opinion, however, it is useful to understand what the major risks and challenges for Chinese investors are to explore opportunities in Europe amid Brexit – and, if any, what kind of countermeasures the Chinese businesses should prepare when they invest in Europe.
One question I am often asked is whether Chinese firms are more attracted to opportunities in Europe because of Brexit uncertainties. The truth is, because the opportunities are so different, it is often very difficult to compare.
One recent example that comes to mind: London is trying to attract Chinese firms looking to raise funds internationally through the London Shanghai Stock Connect, but on the other hand, here in Frankfurt, Deutsche Borse has launched its own project, the China Europe International Exchange, or CEINEX. That exchange has recently launched the D-share market, allowing Chinese firms to raise funds from Frankfurt-based and many other international investors, with the view of using the newly raised funds for M&A or organic expansion. Although those two propositions look similar, their suitability for Chinese firms are very different.
While Chinese firms are just to be traded as stocks on the London Shanghai Stock Connect, in CEINEX, by issuing D-Shares, Chinese companies have strategic advantages, e.g., to develop into truly global enterprises by accessing European capital -- and bolstering their equity base for long-term development in a somewhat different and sustainable manner, issuing real shares rather than listing ADRs / CDRs. Beyond items such as promoting internationalization and market integration of Chinese companies, CEINEX provides alternative financing channels and reduces cross-border capital transfer risk. CEINEX thus, from a Chinese perspective, promotes cross-border M&A transaction and direct investment in China and Europe. CEINEX will thereby over time allow for new types of investments. For regulatory and other reasons, for example, there have been very few share-for-share deals globally; going forward, issuing CEINEX listed D-Shares will allow such paper deals, where the Chinese-listed company issues shares as consideration in the context of M&A transactions, both in a simpler way and in a more attractive way, as sellers will receive Chinese shares listed in Frankfurt.
Brexit or no Brexit, Europe offers myriad opportunities for Chinese investors. Beyond money, Chinese investors can often offer access to the Chinese market, cooperation with respect to production etc., joint venture opportunities and many other strategic changes. Particularly in the mid-market segment, where there are many niche-players, there is still appetite with many European companies to going east in a sustainable manner that may be implemented together with an investor. We see many attempts and still a large number of successful transactions.
Yet, in lieu of the global trade uncertainties, some risks have materialized that we did not have a few years ago: One risk is the tightening in the European foreign investment control regimes. In this context, it is remarkable that so far, the European Union has not harmonized material foreign investment regime, and due to diverging political needs in the EU member states, the EU will most likely not have a fully harmonized material foreign investment regime for years. The EU member states have different interests and correspondingly differing material foreign investment regimes. Only about half the EU member states have such regimes by now, but there will be an information exchange regime across the future EU member states and the EU to increase transparency, allowing preparation for future regulation.
In Germany, until a recent change in the German regime, Chinese investments could only be reviewed if the Chinese investor acquired a stake of at least 25 percent in a German company. A few weeks ago, targeting in particular Chinese investments, the German government decided to change the regime in order to be able to block transactions in critical sectors whenever a foreign investor acquires 10 percent in a German company. Outside of critical industries, however, there are still few risks. In particular, mid-market transactions in the range up to EUR 500 million will still be possible without significant risks.
In the eyes of many people and experts I have talked to, in particular a hard Brexit will most certainly make the United Kingdom less attractive to China as an investment destination. The United Kingdom for years had sought a role as gateway to Europe. Against this backdrop, common sense indicates that China will be far more interested in dealing with a post- “soft Brexit” United Kingdom rather than dealing with a United Kingdom that has left the EU with no deal whatsoever. Post Brexit, the United Kingdom will not be the same gateway into the EU. And thus, also in relation to Chinese investors: in 2019 and the next few years, a lot will depend on the kind of Brexit. But, while Chinese investors thus hope for an orderly Brexit, Chinese investors are also calling for a more open EU economy. The degree of openness and the economy will -- in my view -- be decisive for the volume of investments by Chinese investors and thus over time the degree of cooperation between the relevant EU state and China. And, while we have seen a drastic reduction of global free trade and openness over the last year, as we all know, a reputation of being an open economy that investors trust enough to invest in needs to be built over many years.
Many Chinese companies continue to look for opportunities to expand overseas, by acquiring targets, investing in companies or acquiring technology. While there is some uncertainty at the moment, also beyond Brexit, as Chinese investors have been confronted with a somewhat hostile United States and a slightly skeptical and cautious EU and some of the leading EU member states, there is still a significant interest. And my view is that investments, like water, will flow where there is a path.
In our experience, Chinese investors will also in the future take into consideration a large number of factors. Yet, most Chinese investors make their investment decisions and implement their investments somewhat different from most Western investors. With proper preparation and awareness of the local market standards, Chinese investors can handle the existing risks. Alternatively, to use the feedback we received from a Chinese client: Brexit is one consideration, but it is not the end.
Christian Cornett is a Frankfurt-based partner at the law firm King & Wood Mallesons. The author contributed this article to China Watch exclusively. The views expressed do not necessarily reflect those of China Watch.
All rights reserved. Copying or sharing of any content for other than personal use is prohibited without prior written permission.
Christian Cornett
Brexit has dominated headlines in recent weeks, and sitting in my office in Frankfurt, I am watching it with fascination. Ever since the June 2016 referendum vote, many European financial centers have tried their best to attract Chinese investment, with the hope that Brexit uncertainties may produce more opportunity to engage with new business in China.
Yes, it is true that we’ve seen client firms moving their headquarters to European Union countries, or appointing intermediaries to work for them in the EU, but from our experiences, it seems clients are not (yet) necessarily downsizing in the United Kingdom.
In our experience, Chinese investors – like some others in the United Kingdom – seem to be less worried about Brexit than they are about the political situation. The political uncertainty is tied with Brexit (without discussing chicken and egg theories) to a degree that for many people, Brexit has apparently become a synonym of uncertainty. On the other hand, there's still so much activity in the financial industry happening in London, and so much money is flowing through London. And everybody in London speaks English, (still) the language of the financial world! In our view, London is thus going to retain its leading position for several years. It will take time – and the support of market participants – to build an infrastructure comparable within the EU to the one we find in London today; e.g., it will take time to facilitate the clearing that is currently taking place in London anywhere else in Europe, and there simply is no reassuring business such as Lloyds.
Take Germany, for example. After the exceptional high volumes of Chinese investments peaked in 2016 and 2017, in 2018, the volume of Chinese investments in Germany has returned to the level it had in 2014 and 2015. It is difficult to predict the future – and also to predict the the future volume of Chinese investments into Europe. To have an educated opinion, however, it is useful to understand what the major risks and challenges for Chinese investors are to explore opportunities in Europe amid Brexit – and, if any, what kind of countermeasures the Chinese businesses should prepare when they invest in Europe.
One question I am often asked is whether Chinese firms are more attracted to opportunities in Europe because of Brexit uncertainties. The truth is, because the opportunities are so different, it is often very difficult to compare.
One recent example that comes to mind: London is trying to attract Chinese firms looking to raise funds internationally through the London Shanghai Stock Connect, but on the other hand, here in Frankfurt, Deutsche Borse has launched its own project, the China Europe International Exchange, or CEINEX. That exchange has recently launched the D-share market, allowing Chinese firms to raise funds from Frankfurt-based and many other international investors, with the view of using the newly raised funds for M&A or organic expansion. Although those two propositions look similar, their suitability for Chinese firms are very different.
While Chinese firms are just to be traded as stocks on the London Shanghai Stock Connect, in CEINEX, by issuing D-Shares, Chinese companies have strategic advantages, e.g., to develop into truly global enterprises by accessing European capital -- and bolstering their equity base for long-term development in a somewhat different and sustainable manner, issuing real shares rather than listing ADRs / CDRs. Beyond items such as promoting internationalization and market integration of Chinese companies, CEINEX provides alternative financing channels and reduces cross-border capital transfer risk. CEINEX thus, from a Chinese perspective, promotes cross-border M&A transaction and direct investment in China and Europe. CEINEX will thereby over time allow for new types of investments. For regulatory and other reasons, for example, there have been very few share-for-share deals globally; going forward, issuing CEINEX listed D-Shares will allow such paper deals, where the Chinese-listed company issues shares as consideration in the context of M&A transactions, both in a simpler way and in a more attractive way, as sellers will receive Chinese shares listed in Frankfurt.
Brexit or no Brexit, Europe offers myriad opportunities for Chinese investors. Beyond money, Chinese investors can often offer access to the Chinese market, cooperation with respect to production etc., joint venture opportunities and many other strategic changes. Particularly in the mid-market segment, where there are many niche-players, there is still appetite with many European companies to going east in a sustainable manner that may be implemented together with an investor. We see many attempts and still a large number of successful transactions.
Yet, in lieu of the global trade uncertainties, some risks have materialized that we did not have a few years ago: One risk is the tightening in the European foreign investment control regimes. In this context, it is remarkable that so far, the European Union has not harmonized material foreign investment regime, and due to diverging political needs in the EU member states, the EU will most likely not have a fully harmonized material foreign investment regime for years. The EU member states have different interests and correspondingly differing material foreign investment regimes. Only about half the EU member states have such regimes by now, but there will be an information exchange regime across the future EU member states and the EU to increase transparency, allowing preparation for future regulation.
In Germany, until a recent change in the German regime, Chinese investments could only be reviewed if the Chinese investor acquired a stake of at least 25 percent in a German company. A few weeks ago, targeting in particular Chinese investments, the German government decided to change the regime in order to be able to block transactions in critical sectors whenever a foreign investor acquires 10 percent in a German company. Outside of critical industries, however, there are still few risks. In particular, mid-market transactions in the range up to EUR 500 million will still be possible without significant risks.
In the eyes of many people and experts I have talked to, in particular a hard Brexit will most certainly make the United Kingdom less attractive to China as an investment destination. The United Kingdom for years had sought a role as gateway to Europe. Against this backdrop, common sense indicates that China will be far more interested in dealing with a post- “soft Brexit” United Kingdom rather than dealing with a United Kingdom that has left the EU with no deal whatsoever. Post Brexit, the United Kingdom will not be the same gateway into the EU. And thus, also in relation to Chinese investors: in 2019 and the next few years, a lot will depend on the kind of Brexit. But, while Chinese investors thus hope for an orderly Brexit, Chinese investors are also calling for a more open EU economy. The degree of openness and the economy will -- in my view -- be decisive for the volume of investments by Chinese investors and thus over time the degree of cooperation between the relevant EU state and China. And, while we have seen a drastic reduction of global free trade and openness over the last year, as we all know, a reputation of being an open economy that investors trust enough to invest in needs to be built over many years.
Many Chinese companies continue to look for opportunities to expand overseas, by acquiring targets, investing in companies or acquiring technology. While there is some uncertainty at the moment, also beyond Brexit, as Chinese investors have been confronted with a somewhat hostile United States and a slightly skeptical and cautious EU and some of the leading EU member states, there is still a significant interest. And my view is that investments, like water, will flow where there is a path.
In our experience, Chinese investors will also in the future take into consideration a large number of factors. Yet, most Chinese investors make their investment decisions and implement their investments somewhat different from most Western investors. With proper preparation and awareness of the local market standards, Chinese investors can handle the existing risks. Alternatively, to use the feedback we received from a Chinese client: Brexit is one consideration, but it is not the end.
Christian Cornett is a Frankfurt-based partner at the law firm King & Wood Mallesons. The author contributed this article to China Watch exclusively. The views expressed do not necessarily reflect those of China Watch.
All rights reserved. Copying or sharing of any content for other than personal use is prohibited without prior written permission.
