With China’s economy transforming from a high-growth economy into a high-quality development-oriented economy, multinational corporations (MNCs) in the PRC are facing a unique challenge in terms of dynamic industrial structures and markedly shortened cycles for new business models and technological updates, coupled with the overall complexity of China’s evolving macro landscape. On the one hand, local Chinese companies – after years of development, substantial technological innovation and sharpened agility to respond to local emerging demands – now present a threat to the leading position of some MNCs. On the other, the gradual disappearance of a demographic dividend in China has led to rising labor costs, weighing in particular on foreign enterprise operations.
Consequently, MNCs have started to re-examine their Chinese businesses and investment portfolios. By restructuring or disposing of non-core businesses, they can focus resources on core business areas that carry higher entry barriers and sustainable growth potential. However, the actual execution of a contemplated sale entails a multi-step and challenging process that, if not managed properly, could prolong the transaction extensively or even present deal breakers. This article shares some recent cases from KPMG's financial advisory team to help provide insights and suggestions on key challenges that can arise in a divesture transaction.
KPMG assisted a European industrial group sell its commercial products-related business in China. The target was a part of the group’s China business and operated as an independent entity. Given a mismatch between the target’s market positioning and the client’s global strategy, a quick divesture decision was made to avoid the financial consolidation of the target business into the Group report before the new fiscal year.
The KPMG team and the client’s core management team (at both Europe and China headquarters) formed a working group. KPMG helped the client select a number of non-direct competitive buyers with potential business synergies, and directly approached the decision-makers of the potential buyers through our channels to gauge their respective interests and capabilities. All project-related materials were prepared uniformly by KPMG and sent to potential investors step-by-step after the client team’s approval. KPMG served as a single information transmission and Q&A channel. After the buyer and seller confirmed the main investment terms, the communication of highly sensitive information was completed face-to-face by the final decision-makers of both parties. The transaction documents were signed quickly afterwards.
A few years ago, we had a case where the client announced the divesture plan to mid and senior management of the target company before the financial advisor was involved. Owing to uncertainties as to the transaction prospects, employees stopped working and began persistent discussion regarding their compensation schemes. The client had to halt the transaction process and spend excessive time dealing with employee problems and adverse market rumors regarding its restructuring plan in the China market.
Last year, another multinational retail company approached us on its plan to sell all its businesses in China. Local employees already had a clear preference as to the type of new shareholders, meaning the cooperation of these employees could hinder on a successful deal closing.
To reduce interference with the transaction, the KPMG team only communicated with the client headquarters directly throughout the entire process. No transaction information was disclosed to any Chinese employees before the final buyer was selected. Concurrently, with the assistance of KPMG and legal counsel, the client formulated a detailed employee compensation and incentive plan, which was discussed with the buyer beforehand, and drafted a complete communication plan that covered multiple scenarios. As the transaction approached the later stages and deal certainty was near confirmation, the compensation plan and incentives were discussed with the employees as soon as possible to reach an agreement, resulting in a smooth closing.
The ability to discern the impact of the core requests of different stakeholders and employees on the transaction, control the pace and progress of communication, and leverage on platform resources (HR, operations and other professional teams etc.) to work closely with the client and develop a reasonable employee compensation scheme and practical communication strategy are crucial. This can help maximize the interests of shareholders, employees and the target business as a whole.
KPMG was engaged by a UK-listed entity to assist it in selling its car dealership business in China to a Chinese-listed company. As most of the potential buyers were Chinese enterprises, they generally did not involve external advisors and were unfamiliar with the use of a virtual data room to conduct due diligence, exerting pressure on the timetable to complete the transaction. Further, the Chinese enterprises were unfamiliar with the cross-border M&A valuation concept of "cash free and debt free” enterprise value. The target had a large amount of cash on the balance sheet. If the cash was not considered, the actual valuation would be greatly reduced.
To avoid disrupting the ongoing daily operation of the target, KPMG helped the client establish a complete virtual data room in advance in line with the general requirements of Chinese investors. As the due diligence process began, KPMG managed multiple investors to conduct due diligence simultaneously, guiding the investors to effectively use the virtual data room, and coordinated the communication between the buyers and the seller. Given time zone differences, KPMG communicated with buyers during day times, analyzing and classifying the due diligence issues essential to the buyers’ decision-making, and at night discussed and advised on issues identified with the client. Within 1.5 months, we assisted our client to successfully meet the rigorous local due diligence requirements from several investors in parallel and ultimately concluded a smooth transaction.
During the valuation negotiation, with the consent of the client, KPMG set the principle of additional compensation for cash. KPMG helped the buyer and seller analyze and discuss the value of the target based on each party’s own valuation method, ultimately reaching a final agreement.
Familiarity with the internal decision-making process, pricing model and investment logic of different types of investors (including but not limited to SOEs, POEs, foreign enterprises, listed/private companies, foreign/local private equity funds) was paramount. Flexibility to respond to the decision-making needs of all parties and accurately articulate to each party problems that could otherwise be easily misconstrued by a counterparty in a cultural context. Effective bridging of the gap between the two parties during the transaction process to maintain a high success rate of the transaction is key.
KPMG assisted a global food group looking to sell part of its production business in China but retain its sales business. The divesture of partial business necessitated consideration as to various carve-out topics (staff retention, use of brand/trademarks, transition arrangement of the group’s internal services post-transaction, etc.), that would affect the negotiations and timetable of the transaction.
We formulated a carve-out plan together with our client at the beginning of the transaction – factoring in all assets, personnel and operations involved in the carve-out – and prepared the pro forma financial statements on a post carve-out basis. Consequently, we quickly arrived at an agreed valuation and carve-out timetable with the investor. Given the sufficient amount of preparation in the early stages, both parties cooperated to carry out the relevant transition period arrangements after signing the transaction documents, and also periodically discussed the carve-out progress together to resolve any potential emerging problems in a timely manner, enabling the transaction to be concluded on time.
Coordinating between the client and other advisory teams was critical in formulating the carve-out plan in advance, preparing reasonable pro forma financial reports in alignment with the client’s interest, planning the carve-out timetable in an orderly manner, and providing solid oversight to ensure a smooth implementation.
Investment, expansion and exit are critical phases in the growth cycle of enterprises. Successful completion of a divesture transaction can be a key step to realizing the investment value. Leveraging on KPMG’s deep experience and understanding of the Chinese market can help MNCs achieve investment value optimization in China.