Cross-border mergers and acquisitions have reached unprecedented levels in the last decade. Especially, emerging-market firms use international acquisitions in developed markets as a springboard to access strategic assets and superior technology in order to reduce their competitive disadvantage.
China has been the most active emerging-market country in the last several years and especially European firms emerged as their preferred targets. Chinese firms have taken over technology, chemical, and machinery firms as well as retailers, energy providers, and insurance companies. Even European ports and airports are now controlled by investors from China. Despite the moderate slowdown of Chinese investment activities in Europe since 2018, many signs suggest that the Chinese acquisition spree will continue – it might even be fueled by the global health crisis due to COVID-19 and its aftereffects in the European economies.
Chinese investors especially attracted by German firms
Germany has become a favorite mergers and acquisitions (M&A) destination for Chinese investors. The acquisitions of the robotics firm Kuka and the electronics firm Medion show very prominently what German firms are hoping for when making deals with Chinese investors: direct and powerful access to the vast Chinese and Asian market as well as access to the seemingly endless resources of the investors. This hope also drives many small and medium-sized businesses to cooperate with Chinese firms. They all want to reach performance levels which they believe unachievable when staying independent. But does this dream really come true? Can Chinese investors indeed increase the profitability level of German firms?
Performance implications for German target firms
As more and more German companies have fallen into the hands of Chinese investors, public conversation about the merits of these acquisitions has become louder. The debate in the politics and the media, though, predominantly focuses on the loss of critical technological capabilities to Chinese investors. The far more fundamental question, namely how the acquired German firm´s overall performance develops under Chinese ownership, remains barely studied (even less empirically) and thus poorly understood.
We have sought to find a systematic answer to this question in an empirical study. Therefore, we observed 63 Chinese acquisitions in Germany, which occurred in the timespan between 2008 and 2016, and analyzed the performance development of the acquired firms until 2021. Sample characteristics show that Chinese investors favor to be the sole owners, thus the majority of M&A involved the takeover of all target shares. The industry sector distribution of the observed acquisitions corresponds very much to the Chinese political agenda to become a global leader in certain key technological areas, including robotics, information technology, as well as the medical sector. The majority of the German target firms are not publicly listed and operate under the legal form of the German limited liability company, called GmbH. In empirical studies, this can pose a difficulty because less financial information is publicly available or must be collected by hand. But, as most acquisitions involve this type of target firm, the results of a study including them are even more representative. Thus, we hand-collected all data from various data bases.
One key element in evaluating pre- and post-acquisition performance is to define an appropriate performance benchmark in the absence of acquisition. Therefore, each German firm acquired by a Chinese investor was matched with another non-acquired German company that showed similar initial traits (e.g. similar size, profitability, industry) from the population of all German companies. Both the acquired as well as the non-acquired firm were observed over time.
Chinese acquired firms´ profitability declines substantially
The results of our empirical study show that:
- the Chinese-acquired firms exhibit a significantly lower profitability than before the acquisition event, also in comparison with the non-acquired correlating firms. In real terms, Chinese ownership reduces annual profitability, measured as return on assets, by two percentage points.
- the decline is not an immediate post-acquisition outcome, nor is it something that can be attributed to a temporary disruption caused by the acquisition. It is persistent even four years after the acquisition event.
- the decline is even more pervasive for manufacturing and service businesses, where 82 percent of the acquisitions in our sample occurred.
Looking at these findings, some might argue that the decline in profitability is attributable to the acquisition event in general instead of to the origin of the investor. However, we ruled this out by conducting a replication study with German firms acquired by Austrian investors and matching non-acquired firms. In contrast to the Chinese-acquired firms, the Austrian-acquired German firms do not exhibit significantly lower profitability compared to before the acquisition as well as to the non-acquired firms.
The results show that the dream of increased profitability and success does not necessarily come true for German firms which are taken over by Chinese investors. More worrisome, even the opposite seems to be the case. Assuming that the Chinese buy well-performing German companies, the results suggest that the acquisition leads to a decline in profitability of the German target firms. And if Chinese investors are indeed buying poorly performing German companies, they are unable to turn them around and the profitability decline continues.
But what explains this outcome? In most cases, the Chinese acquirers are latecomers and don´t possess superior technology or know-how themselves. Rather, these are exactly the assets they want to obtain through the acquisitions. Therefore, the acquirers usually absorb strategic assets from their targets instead of transferring their own knowledge to the target firms. Acquirers will then use this knowledge themselves, which reduces performance and growth opportunities for the target firms. Production sites might even be shifted abroad. As exemplified by the case of Kuka and its acquirer Midea, the Chinese investors oftentimes come from a different industry and lack experience in the target firm´s specific area of business. When the Chinese acquirers then try to lead the newly acquired firm based on their own knowledge and experiences, they are not able to make the right decisions. For example, the Chinese investor Midea did not know from its experience in selling household appliances that permanent investments in Kuka´s robotics business are essential to stay at the forefront of development.
Chinese investors are also confronted by quite different business customs and practices as well as institutional conditions, which can lead to integration challenges and increased transaction costs. Management styles vary considerably between Chinese and German firms, possibly resulting in mutual misunderstanding and mistrust. Also, for German target firms, the Chinese company structure oftentimes is not fully clear, leading to a lack of clearly defined responsibilities, communication, and decision channels, prohibiting fast and clear decisions.
Tips for practitioners
- You should carefully investigate the potential Chinese acquirer. Ideally, the investor has extensive experience and in-depth knowledge of the target firm´s business.
- Do not neglect core markets besides the Chinese market after the acquisition – which could happen as a result of the Chinese investor´s unfamiliarity. You should clearly point out their importance.
- You should not appoint a Chinese CEO to run the German company after the acquisition. It is very disruptive and reduces performance significantly. A better solution is to leave the leadership in the hands of your company and instead add a management board member from China.
- You have to make sure that responsibilities are distributed clearly, and you need to establish communication channels between you and the Chinese acquirer. It needs to be clear who is making the decisions.
Literature reference and methodology
The results are drawn from an empirical study using unique, comprehensive, longitudinal panel data on acquisitions by Chinese acquirers in Germany. Financial information for 63 German target firms and corresponding acquirers have been thoroughly analyzed. In total, 1,216 observations are used to identify the performance implications of the acquisitions for the target firms.
- Brunner C. (2020): Overseas Acquisitions by Emerging-Market Firms in Developed Markets and Target Firm Performance – an Empirical Analysis of Chinese Acquisitions in Germany: WHU School of Management, Unpublished Working Paper.
Christina Brunner is a Senior Project Manager at AUDI AG where she is responsible for the successful industrialization of car projects with the Joint Venture FAW-VW in China. Christina is currently finishing her doctoral degree at the WHU – Otto Beisheim School of Management under the supervision of Professor Dr. Serden Ozcan. Her research focuses on M&A by Chinese investors in developed markets and the target firm implications.
Professor Dr. Serden Ozcan
Professor Ozcan holds the Otto Beisheim Endowed Chair of Innovation and Corporate Transformation at WHU – Otto Beisheim School of Management. As an expert on startups, entrepreneurial finance, private equity, activist shareholders, corporate entrepreneurship, and corporate transformation, Professor Dr. Ozcan is the recipient of multiple international research awards and his work has been published in top academic journals. He is also the founding director of the annual WHU Campus for Corporate Transformation event, where C-suite members from Europe’s largest companies share their personal and professional observations on corporate transformation.